BUY BUY BUY

This morning, CNBC played the "news game" according to script. With the market in a rotational correction, CNBC invited on a guest who is as negative as they come. This is the stuff that induces irrational behavior. It is a play on fear. Only fear can make folks sell right after the market has dropped 10%. This particular chap discussed how bad inflation is. He mentioned housing and oil in particular.
A few moments later, in response to a bond market question, he said the "slow down in the economy" means that he is increasing bond market duration. What a joke? Does he believe there is inflation or not? If inflation is going to be very bad, the last thing one would want to do is to increase bond duration. The fellow is saying that interest rates are going up and that interest rates are going down and both are reasons to run for cover. Besides, he is keying off inflation which is a lagging indicator. Indeed, the two specific examples he used, housing and oil crested months ago. In fact, the price of oil is about the same as it was in August of 2005. Yes, oil price inflation is still seeping into the core rate but this is very old news. The more recent pertinent news is that the price of copper, gold and other metals, mining and energy stocks have all taken a tumble. The pressures on prices are dying. In the May 29 issue of Fortune magazine, there was a neat article about the huge savings being realized at truck stops. Truckers are required to stop for 10 hours in the middle of a long haul. Many still sit with their engines idling to run heat, air, etc. However, truck stops all over the country are installing a "pipeline" service that bring fresh conditioned air, touch screen on-line computer, unlimited VoIP telephone, and 120 volts AC current; all for the price of $1.85 per hour. I have forgotten the projected fuel savings number but it is a very large number! The touch screen computers even have required education certification software to confirm that the truckers have completed the required hours. I mention the law of substitution often because while it is one of the most powerful and important economic laws, it is the most under appreciated. The above trucking story is an example of the law of substitution. The price of fuel has gone up and millions of trucks will stop running their engines at truck stops. The coal being burned to provide the cool air and other services cost about 20% of the price of the oil being replaced. At the current price of oil, there are millions times millions of ways that the market will find substitutions. I must repeat one of my favorite examples about metal substitution, after the run up in copper prices in the late 70's and early 80's, the government got very busy. It moved faster than normal and by 1986 the US penny was changed from virtually 100% copper to 98% zinc and 2% copper. The government had seen the point almost reached where it would have paid consumers to take their pennies to a recycling center. Just a few weeks ago, the price of zinc almost reached the level at which it would have made since to take your pennies to a recycling center. I suspect that in another five years, after the speculative craze is long passed and when zinc prices are making a bottom, the government will change the composition of pennies again. The good news is that the market is many times faster than the government. Investors around the world have spent billions of dollars in the past 3 years to expand energy supplies. On the drawing board are plans to spend 100's of billions over the next 5 years. At the same time, the cars being sold like hot cakes are tiny little cars that get 30 to 50 miles per gallon. The list of other substitutions in progress is too long to recount but even government is prepared. President Bush started negotiations with Iran about 5 years ago. Understanding the concept of negotiating from strength, the president has pushed our strategic petroleum reserve to 700 million gallons. Iran can threaten to cut off oil supplies if they like because the US is in the position to survive long after Iran will go bankrupt. Iran is between Iraq and a hard place and needs to make a decision soon. In the mean time, a number of sentiment indications show how much fear there is in the market. The levels are consistent with the fear present at or near market bottoms. Now is the time to invest aggressively. Now is the time to add to your account. No one can tell you which way the markets will move in the short run but the odds are very high that big cap stocks will out-perform bonds, emerging markets, small caps and most real estate over the next several years. BUY BUY!

YES. GOOGLE AGAIN!

Google is expected to unveil its free online spread sheet today. Advertising is all about eyeballs. Let me ask you a simple question, what large company has profit margins of 23% and is growing revenues at the annual rate of 88%?
Enough said!

RED INK

Yesterday, red ink flowed throughout wall street. The stock market took a beating. However, if you look at the numbers closely, you will see that the rotation is progressing just as expected. Here is a list of the sectors that were down 3% or more:

Russel 2000
Materials
Energy
Biotech
Oil Services
South Korea
Mexico
Taiwan

Taiwan was off an incredible 5.19%; incredible to those who are not members of the Myrtle Beach Investor Group. As this Group knows, the rotation is out of developing nation and small cap and into developed nation and big cap. Right now, value stocks are generally out performing growth stocks but that too will change as soon as the break out hits.

All the money managers who are trying to get out the same doors at the same time will later be trying to get back in through the big cap growth door. They will be buying stocks such as GSK. GSK is throwing off an earnings yield of about 6% and the company is growing revenues at better than 11%. Without PE expansion, the company should give a total return of 17% this year. However, in this great BULL Market (it started October 10, 2002) PE's are going to finally expand. GSK could easily be up 25% or more in the next year. BUY THE BULL

SMART MONEY

One of the investment news letters to which I subscribe, The Sentiment Trader, keys off of SMART MONEY VERSUS DUMB MONEY. This ratio has just swung dramatically. Smart money has climbed to a 67% confidence rating while the Dumb money confidence has fallen to a 46% level. Today's market action was enough to scare the pants off the weak players. This means "very bad news" is likely to be revealed soon and the stock market will take off like a rocket on the way to the moon.

Yes, it sounds crazy but it is the way markets work. Within 4 years of the attack on Pearl Harbor, stocks were up 220%, the market climbed 45% in the six months after Roosevelt died, the market ran up for two years after Kennedy was shot, the Dow was at 800 when Three Mile Island leaked radiation, in the two and a half years after July 1950 when the Korean War started and when I was born the market returned 45%. The market anticipates major events by trading down. Then when the "bad news" is out, the market soars. You may say, how could the market have anticipated Kennedy's death. You would be missing the point. The fact is that Kennedy was shot and the market was closed the following Monday to prepare for the onslaught of selling. The market gaped to the upside and never looked back. This market it primed and ready to go. The catalyst could be good or bad news or none at all. Whenever the market moves, you will want to already own stocks!

FULL STEAM AHEAD

My good friends at Hays Advisory have gone all-in! Yes, for growth investors, Don Hays and company now recommends 100% stocks! The call is based on cheap relative valuation and on the negative psychology of the market place. In today's newsletter, Don Haysincluded a wonderful bond indicator that shows that bond yields are probably going to roll off this intermediate term peak. If he is right, then the current earnings of the S&P 500 must drop like a rock or stocks have to go up in price like a rocket! The current Thompson survey suggest that earnings are continuing to surprise to the upside. The S&P now trades at 14.3 times earnings, below the 20 year average PE at a time when bond yields are well below the 20 year average! Stocks are ready to blast off!

As you should already know, I do not believe in any one's ability to make short term market calls. Having said such, it is my opinion that Hayes is a little early. I believe we still have a few more weeks of market churn before the big lift off. SO WHAT? IF YOU ARE NOT "ON-BOARD", YOU MAY MISS THE EARLY STAGE OF THE BIG MOVE AND THEN BE HESITANT ABOUT CLIMBING ON BOARD A RISING ROCKET SHIP AT HIGHER AND HIGHER PRICES!

Besides, the current market crunch is a market rotation not a market crash. Emerging country stocks, small cap stocks, metals and basic materials have taken the bulk of the crunch. Of course, our airline positions have pulled back after an incredible run but this volatile group is prime for another big run when the disconnect in oil prices and oil inventories is corrected. When it becomes clear that the FOMC must stop raising rates, probably by the June 28 meeting, then hold onto your hat.

Signs of the end of rate increases are every where (as one pundit said, many of the signs are homes for sale). One available sign is the chart of ISM Manufacturing Growth. The growth rate dropped below 57 March 1979, June 1984, February of 1989, February 1995, April 1997 and February 2000. In each instance, bonds rallied. This indicator just dropped to 54. Feb 24, 1989 and Feb 1, 1995 were the "dates of last increase" in these two cycles. The dates also correspond with the beginnings of large positive moves in bond prices and stock prices.

Employment growth has slowed, home sales have fallen, auto sales and retail sales are hurting. All signs that the FOMC needs to stop raising rates. At the same time, a huge capital spending cycle is underway in energy and mining. Under normal circumstances, this huge demand for capital would be pushing long bond rates up much more, however, as Bernake points out, there are huge cash surpluses around the world. The "big spend" is going to bring on new supplies of energy and commodities at an increasing rate. Sooner or later, somewhere in the world, the extra energy supplied will be the cup that breaks the camels back.

The evidence is that while Saudi Arabia is participating in the "big spend", the country is already having to throttle back oil production because of the building global glut. Saudi is the one country that still has excess capacity (about 1.5 million more barrels per day could be pumped). When this excess reaches 2 to 2.5 million barrels per day, much of the $20 or so risk premium in the price of oil will disappear.

The public does not believe it but conditions are ripe for a deal with Iran. The Iranian economy, on the verge of collapse, is being held up by $70 oil. Even with $70 oil, the country is not able to attract capital to build out needed infrastructure. I believe Iran is the only oil producing country in the world that did not complete at least one new oil well in the past 12 months. The country re-imports a significant portion of its on oil after paying for the crude to be refined into usable products. With an influx of capital, the country could rapidly increase production by one or two million barrels per day. Seventy million dollars a day or 25 billion dollars per year is not chopped liver.

Back to stocks: those who "move all-in" will be pleased sometime in the near future. The down side risk is not as great as is the perceived down side risk. For example, should it become necessary to boycott oil from Iran, the US could re-institute 55 mile per hour speed limits and other conservation measures and save more oil that Iran produces. If the current leadership in Iran wants to stay in power, it needs to make a deal. Furthermore, corporate cash flows are going off the chart. Many a technology company has buckets of new cash pouring into full coffers. Company after company will soon decide to buy back shares, increase dividends or take over another cash rich company.

Many a company is in the position to issue bonds, use the cash to buy back shares and increase earnings over night! Last year, a new record was set for stock buy backs. This cash is being recycled time and again, keeping interest rates relatively low. As you might expect, the public view is just the opposite. It is nearly impossible for 80% of Americans to agree on anything, however, Gallup finds that 80% of Americans believe interest rates are headed higher. This is the best indication of all that rates are near a peak.

Conditions are never perfect and worry warts can always find a fly in the ointment. While portfolio theory suggest that investors always keep solid allocations to fixed income, "to be on the safe side", reality is that STOCKS OR BONDS? is the big question. The majority of the time, 19 out of the last 30 years, one should have been in stocks or bonds not both. The allocation one makes to stocks or bonds is the most important factor in portfolio performance.

The signs of economic slow down suggest that bonds will do well in the immediate future. In my largest accounts, I have purchased bonds on 10 to 1 leverage. On the other hand, valuation measures argue strongly that investors should jump all over big cap stocks now, before the pending lift off.

Please, please, please, do not let the current market rotation cause you to avoid action. Now is the time to open or increase your stock accounts. Those who want to make serious money should avoid the 401-K trap and invest aggressively in taxable accounts. Taxable accounts allow leverage and tax management and make funds available for "the big scores" that are present when recessions reduce prices.

I know I am beating a repetitive drum but Hays is absolutely right. Conditions are ripe for a major market move. No one can tell you the date of the lift off, but I believe it is soon, very soon!

SOMEBODY'S GOING TO FLY

Travel Daily News reports today that CAL flew 9.4 billion consolidated available seat miles (ASMs), resulting in a traffic increase of 14.6 percent and a capacity increase of 11.9 percent as compared to May 2005. April's reports were up 12% over April 2005. American Airlines parent company, AMR stock jumped to the top of the 10-component index closing up 5.2% as the top percentage gainer for the Memorial Day weekend. I've been preaching: "Somebody's going to fly!"

GREAT BAD NEWS!

Friday mornings government data was GREAT BAD NEWS! The stock market is now ripe for a major move! Neither I nor anyone else can consistently call the market in the short run, but conditions are becoming more and more favorable for equities. THE BIG BULL IS PAWING THE GROUND; HE IS PREPARING TO CHARGE AGAIN!

Friday's numbers showed the economy is not over heating. Employment growth has slowed. Inflation expectations have moderated. Thursday's productivity numbers were very strong and wage price pressures have moderated. Gold and other commodity prices have fallen. Bush is pressing hard for a deal with Iran, which would be an anti-terror coup. An Iran deal will be positive for lower oil prices, helpful toward peace in Iraq and great news for the airlines. The public is about as skeptical and frustrated as you are likely to find; a very positive environment for stock price appreciation. The infamous WALL OF WORRY is standing tall for the market to climb.

The big reaction today has been in the bond market. Long bonds have jumped 2% in value. This is a huge move! When ever an 11 trillion dollar asset increases by 2% in value, the net worth of a lot of folks (including their pension funds) goes up. one Because we have our bond accounts levered at 10 to 1, the move is one 20% one day gain in equity!

The FOMC has all but finished the difficult task of turning around a huge battleship. The world economy is indeed more cumbersome than the largest of aircraft carriers. The "Good News" is that the psychology of the market will now start to feed on itself. The decline in inflation expectations is an automatic increase in real interest rates which in turn makes hoarding commodities more expensive which in turn puts downward pressure on the price of commodities which further lowers inflation expectations. DON'T STAND IN THE PATH OF THE BULL STAMPEDE!

It is typical for the bond market to react more strongly to economic news than does the stock market. Because bonds can be levered 10 to 1, traders take advantage of BIG NEWS to jump on bonds hard. However, the stock market is mathematically joined at the hip with the bond market. Lower bond yields make stocks more attractive. The big move in bonds today will flow through to the stock market in the coming days and weeks.

The current economy is somewhat similar to the economies of the mid 1980's and mid 1990's, in those cases when employment growth slowed, bonds rallied and then stocks took off. Stocks have historically done very well during periods of moderate inflation. The recent numbers show the fear of inflation is over blown. Investors continue to read the headlines about the price of gas and gold and they forget that the internet has made price competition on fierce. Consumers complain about immigration and the outsourcing of jobs without appreciating that globalization has been a blessing to all who want to enjoy a higher standard of living. There are two ways to increase your standard of living, make more money or buy goods cheaper.

The slow down in employment favors bonds in the short run. Slow monetary growth, slowing home sales, slowing auto sales, dropping metals prices, high short term rates, the commitments of commercial traders and, yes, even high energy costs all favor bonds in the short run.

While the Fed Model shows that stocks are very cheap relative to bonds, the flat yield curve has caused a "traffic jam". Stocks need bonds to get out of the way. The move today is an indication that the road is about to clear. Psychology has been adding to the road block as the over-whelming majority of folks in America today are very pessimistic about interest rates. This excessive pessimism has gradually become the solution to the problem. Folks have been preparing for "seven lean years". Of course "seven lean years" never comes if you are fully prepared. By not borrowing to buy homes and cars, folks contribute to the process of keeping interest rates from going as high as they fear and even to causing rates to decline.

As always there are concerns that suggest cash will out-perform stocks or bonds in the near term. ISM production figures show that manufacturing is still strong and whole sale price pressures still exist. Wages year over year have grown at the highest pace in several years. Unemployment is very low as work force participation is low. Many folks are "working" full time on internet "hobbies" that don't show in the official employment statistics. Resources suppliers have been pushed hard by new demand in developing nations.

I discount these concerns because day by day suppliers and consumers are reacting to high prices. The list of reactions is endless. Last Thursday (6/1), a Canadian refiner finished a two year retrofit project. The Shell Mars Platform will be restarting production in the Gulf next month. More and more freight is moving by train versus fuel hungry trucks. Americans are flying more but driving less; jet fuel consumption is up but gasoline consumption is down. Construction of power plants and refineries is moving forward around the world. There is a migration of people back to the city. More and more Americans choose to not even own a car. Small non-hybrid fuel efficient cars are selling like hot cakes while expensive hybrid sales are slowing and SUVs and trucks are parked. Common sense is winning. It makes no sense to over-pay for a hybrid vehicle. Those who do it for the environment do not understand the laws of economics. The topping in the price of copper shows that the price of batteries is destroying hyper demand.

The bottom line is that Americans of all people should trust free markets and the laws of supply and demand. The law of substitution is huge. Right now, stocks are cheap relative to bonds and real estate. The law of substitution says consumers will sell bonds and real estates to buy stocks until equilibrium is reached. The neat thing for investors is that momentum will carry stocks to the other extreme. Buy now, ride the move to equilibrium and then you will have the tough task of deciding how long to let your profits run! RIDE THE BULL!