BONDS ARE GETTING SQUEEZED!

Bill Gross has said long rates might hit 3%?

He might be right. The hedgers are still caught! The ratio of CRB futures to bond futures is extemely high!

What is going to happen to the stock market if the long bond falls to 3%?

What will happen to real estate?

Will there be panic and fear for deflation or will there be joy in Mudville?

THE BIG PICTURE IS A MASTERPIECE!

One of the many economic indicators I watch, growth in the Money Supply, has turned negative. In addition, short term sentiment indicators are pretty negative (taking the contrary view). Short term the market may pull back but I'm not worried because the business cycle is playing out just as one should expect. It is typical for the growth in money supply to weaken about half way though the cycle. Money dries up as the Fed switches from stimulating the economy to worrying about future inflation. This cycle is no different. Furthermore, one should expect emotional buying after such strong runs in various stock market sectors. Speculative buying in certain sectors does not imply that there are not good buys available in the market.

The good news is that other big picture indicators are in great shape including the important fact that inflation is not bad. Indeed, the most recent numbers were better than expected. The CPI has actually dropped about 1% in three months--down from roughly 3.5% to 2.5%. The seasonal adjustments skew the numbers a little and the annual number has a couple of hurdles ahead when some large past numbers drop out of the average, but the bottom line is low inflation. The other good news is that the Fed is determined to raise short rates ahead of the projected rise as the expansion phase of the economy heats up. While it is possible that the Fed will tighten a little too much, the concerns of the prognosticators are over-done. The Fed tightened a little too much in 1994 but the market did quite well the following five years.

Another reason for optimism is the deep psychological depression created by rising oil prices. In truth, the rising oil prices work to slow inflation in much the same way that the rise in short rates works to slow inflation. I have not seen the report but a friend tells me that Ed Hyman has posted an average of short interest rate change with oil price change as an indicator of future economic growth. The current combination is getting to the severe level which means there will be an economic recession if the combination continues to rise. Isn't it interesting that increases in short rates work to hold down increase in oil prices and increases in oil prices work to hold down increases in short interest rates and they both work to hold down inflation!

A big part of the confusion about inflation is that increases in short rates and in oil prices are inflationary in the sense of cost-push inflation but disinflationary in the sense of demand-pull inflation. For example, banks must increase their lending rates if short rates go up. Banks struggle to earn a spread because the spread between long rates and short rates goes away. Each investor, financial institution or individual, at some point says why buy a five year note if I can get the same yield on a 90 day bill.

Never-the-less, increases in short rates or in fuel costs as "in your face" increases are actually disinflationary. One may hardly notice an increase in restaurant prices because one may order different meals from different restaurants. Only the fellow who routinely buys a 14 ounce steak at the same place will immediately notice a steak price increase. However, one fills ones tank with the same grade of gasoline time after time week after week. If the price is up you notice and if it starts to pinch the family budget you alter your behavior. If you do not spend the money to fill the tank, you will not be spending big money after driving to your favorite vacation spot!

For the past few years, as houses went up in value, it was tempting to do "cash out" loans. Big money was spent as a result. With higher short rates, the banks are not eager to lend and consumers are not eager to borrow. The house may be worth more and more but the money is not spent.

A few days ago, Larry Kudlow pointed out that Disney has grown its earnings significantly more than has been reflected in the stock in the past few years. This comment caught me by surprise only because it is a true statement about most companies! Look at the earnings of MSFT 5 years ago and the earnings now--about double--but the stock is about the same price! Put another way, the P/E ratio of the S&P 500 has come down sharply from around 35 times to around 15 times. Thirty-five was too high and I for one almost totally avoided stocks but 15 is not bad and is great compared to the available alternative investments.

The bottom line for my optimism about the market is that stocks are under-valued. Indeed the P/E ratio has declined to the point that the 10 year forecast of the market by this one measure is almost 9%! Nine percent is not a huge number until compared to a 4.3% bond rate and a 3.5% t-bill rate. The fact that there are about 5 TRILLON DOLLARS still sitting around in money market instruments means that the FED can soak up dollars and not hurt the stock market.

Do you see the full circle here? Most economic indicators are as pretty as they can be. The one ugly is the slow down in Money Supply growth. However, there is plenty of money around looking for a home. Throw in the fact that real estate investors are at least pausing to think about what they are doing and you only have one place for the excess cash to go--the stock market! BUY THE BULL!

THE BEARS ARE DAZZED! THE OIL PRICE KEEPS RISING WHILE THE INFLATION RATE GOES DOWN AND WHILE STOCKS KEEP RISING. THE BEARS MUST RETHINK THEIR POSITIONS. THE SHORTS ARE GETTING SQUEEZED--IN THE BOND MARKET AND IN THE STOCK MARKET! WHEN THE SHORT CAPTIULATE, THE MARKET WILL SEE A BLOWOFF!

BUY THE BULL BEFORE THE SHORT SQUEEZE BLOWOFF!

EVEN THE TEA CUPS ARE FULL OF OIL!

THE TEA CUPS ARE FULL!

When I was still a pup, the price of sugar went on a multi-year run. I was hardly aware until I visited Papaw Miller who had a cabinet full of 5 and 10 pound bags of sugar. He had noted the price was rising sharply and bought a few extra bags on sale . When the price rose again he bought more and so on. He was pleased to show bags marked $.69, $.89, 1.29 and $1.69. He was using the oldest sugar first and was pleased to note that the sugar he was using in his coffee that morning was $.49 sugar.

All the folks who lived through the great depression can appreciate the actions of my grand-father. Even his tea cups were full of sugar.

Today we have a similar situation in regard to oil. My brother, an executive with CSX railroad, tells me that every spare tanker in the yard is full of oil. He says the Governor of the Florida has encouraged the railroad company to store all the oil they can. There is no storage capacity that is not full to the brim.

The reported oil market inventory numbers verify that it is not just the great state of Florida where oil is being stockpiled. In the past 5 months, the US has put 6 million barrels per month in the Strategic Petroleum Reserve. In addition, oil inventories in other storage has soared. There has been a disconnect between oil prices and inventories for about a year now. Normally, when oil stockpiles grow, the price of oil goes down. In the past year, US inventories have grown by more than 60 million barrels while the price has risen steadily. In the early 70's, many a consumer installed a second fuel tank, particularly on pick up trucks. Many a consumer became a "farmer" with an extra fuel storage tank out by the barn. The evidence suggest that the US is currently making a last minute push to get the SPR filled by August as Mr. Bush has promised. Our country is at the tea cup phase; we can only store more oil we build new storage facilities. Not counting SPR, our inventories are not dramatically higher than those reached in the past but the difference this time is that the price is going up at the same time inventories are growing!

The recent closing of the British and US Embassies in Saudi Arabia were made due to unspecified terrorist threats. It is no secret that the terrorist would love to sabotage the production or distribution of oil. By stockpiling supplies in railroad tank cars and every other available "tea cup", the US has in effect doubled up on the SPR. Hayes Advisory reports that many other oil consuming nations have stockpiled as much oil as they can.

The good news is that the price of any commodity can only move so far until supply and demand are altered. When the price of sugar finally broke down, my Grand-Father did not buy sugar for month after month. By the time he used the sugar purchased at $1.69 he could buy all he wanted at $.69.

The risk of an attack by terorist is real. However, if there is not a disruption in production or supply, the laws of supply and demand are about to force a price correction. No one is going to buy oil at $64 to store in a tank car if they can't find a tank car to rent. No doubt there has been tremendous growth in the consumption of oil in China, India and other developing nations. There has also been an increase in the supply.

The invisible hand of Adam Smith is clearly at work. Most of the changes taking place are minor but the sum of all the changes is major. For example, the change to daylight savings time is a very marginal savings. Indeed the start and end dates have been pushed so far that many folks will be using more electricity in the morning than they will save in the evening. Never-the-less, the change is important in that it reflects the focus on cutting the use of energy. The same attitude is showing up in the purchase of higher mileage vehicles, in the rapid development of coal fired electricical plants and in the development of tar sand fields in Canada. The total oil available in Canada is huge. At the current price, there are huge profits to be made extracting the oil. Producing companies are investing in producttion because even a decline back to $40 would leave these new projects a nice profit margin.

Liberals are disappointed that the recently passed energy bill did not mandate higher mileage vehicles--not necessary! This is one of those areas that would be a good study for the Freakonomics folks. When the government mandates savings, the savings are ultimately far less than when individuals know that they must be responsible citizens. Citizens who have a clear choice are more likely to learn the cost of making bad choices. One bad choice leads them to make many more good choices down the road. On the other hand if the government forces "savings" upon us, we learn that we don't have to worry about savings and indeed many look for ways around the "oppressive" government regulation. The mandates of years gone by lead to the production and purchase of millions of gas guzzling SUVs. Had the government not put mandatory standards on cars, many a truck would not have been purchased!

The fact of the matter is that markets work, 100% of the time. Are markets perfect? No! Are they better than government regulation? Yes! Are there times when governments need to reset the rules of the market? Yes! Should the government generally stay out of the energy business? Yes!

The recent bill highway bill and energy bills are filled with examples of pork spending. Congress has again passed laws that are self serving. The energy bill requires the use of ethanol even though it is an extremely costly and inefficient source of fuel. Again, the bill would not have been passed without a major shift in attitude about energy. The bill made a number of important changes. One very important change was that it got the government out of the way of electricity consolidation. The production and distribution of electricity will be much improved and the historical savings through the use of electricity has been huge. There is not a single day when millions of individual energy savings occur through the use of electricity versus the use of an internal combustion engine.

Even the internal combustion engine is about to be replaced with electric motors in cars! It will take years but the process has started. The process includes the invention and use of electronic devices that reduce the use of energy. High tech stocks are leading the market. Oil companies will make high profits off the high price but the risk to investors here is great that the price of oil will go down and future oil profits will be lowered.

Distribution of electricity is less expensive than the distribution of gasoline. In the future, electricity will be used "at the location" to charge fuel cells. The need for tank trucks will be deminished.

BUY THE BULL! LOOK AT THE PRICE ACTION IN EVERYTHING FROM MSFT TO LU--TXN TO INTC!

THE TEA CUPS ARE FULL! I PRAY THERE WILL NOT BE ANOTHER TERRORIST ATTACK BUT I AM A REALIST. THE TERRORIST ARE ATTACKING DAILY IN IRAQ. PRESSURE IS BEING APPLIED TO IRAN AND SYRIA TO HELP STOP THE CARNAGE. THE LOSS OF LIFE--ESPECIALLY THE LOSS OF INNOCENT CIVILIANS IS HORRIBLE. I CRY DAILY FOR THE FAMILIES OF AMERICAN SOLDIERS. TERRORISM IS NOT ABOUT OIL BUT OIL IS A BIG TARGET. THERE ARE NO GUARANTEES BUT MARKETS WORK! WE CURRENTLY HAVE EXCESS OIL IN SUPPLY; A DISRUPTION OF EVEN A MAJOR FACILITY WOULD NOT "KILL" OUR ECONOMY. REDUCE YOUR INVESTMENT EXPOSURE TO OIL STOCKS AND INCREASE YOUR EXPOSURE TO TECHNOLOGY. THE BULL IS ALIVE AND WELL!

OIL, OIL, OIL

The extreme disconnect between oil supplies and oil prices is potentially very good news and very bad news. The closing of the US embassy in Saudi Arabia today highlights that the disconnect may be based on heightened risk of oil supply disruptions due to terrorism.

Oil inventories bottomed January of 2004. Since then, US inventories have increased by close to 60,000,000 barrels not counting the millions that went into into the strategic reserve. The reserve will be topped off this month. Prices are set on the margin and it will soon be true that there is no place to hoard any more oil. Of course the growth in demand in India and China will not change because the US reserve is filled. India and China are using less and less oil per unit of manufactured goods but they are making a lot of goods.

The risk for investors is in getting caught in the earnings glory. Yes, earnings are going to be high, but how much of the earnings are already in the stocks? P/E ratios of the major integrated oils are quite low but for the good reason that earnings may be on an all time and temporary peak.

If Iraq passes a constitution this month and US troops begin to be drawn down by next year, will Iraqi production increase? Will coal continue to take market share in the production of electricity? Will Mexico invite international oil companies to reinvigorate their stagnant fields? Will Canadian tar sands become the new Saudi Arabia?

Folks always worry if one suggests that "this time is different". Of course each time is different. When the oil crisis hit in the 70's, the majority of cars were gas guzzlers. This time, a lot of SUV's are being parked because there are alternative vehicles available. I saw a couple of new models yesterday that were clearly designed with fuel savings in mind. As always, it takes awhile to adjust but one should remember that the market looks forward. If the energy bill and other changes are going to effect supply and demand three years down the road, stock market prices will gradually discount the changes.

Current psychology is such that the first dip in oil stocks will be bought heavily by many who already own large positions. The ouch on the way down could be a very loud ouch.

Clearly the oil market is afraid of supply disruption or it has been overcome by speculation. Investors should look for the next "bubble" as it is risky to invest in oil drillers based on today's prices. Should the price drop back to the 50's, the oil stocks would take a hit.

Speaking of hits, some of the housing stocks are taking a tumble. Is smart money starting to leave the housing stocks? The rotation seems to be out of housing and into high tech.

BUY THE BULL! MSFT IS EVEN MOVING UP! MSFT HAS DOUBLED ITS EARNINGS IN THE PAST 5 YEARS BUT THE STOCK HAS BEEN STUCK. THE SECOND LEG OF THE TECH BOOM SHOULD BE BIG!

GOOD NEWS AHEAD!

The potential for exciting good news is growing.

Iraqi Constitution:

We all know that Iraq is under pressure to complete its constitution. The Iraq situation is a very tough one. The Sunni Muslims account for about 90% of the Muslims world wide and the Shiite Muslims account for the other 10%. Iraq has been ruled my the minority for a long time. Writing a constitution is tough but it will happen.

Troops Coming Home:

A US troop reduction will occur in the not too distant future. The potential for this to happen is being down played to lower expectations. When the reduction is announced, the news will be a "surprise".

OIL, OIL, OIL:

The SPRO tank is almost full. President Bush has stuck by his guns and filled the reserve giving the US a cushion against the potential terrorist attack or other oil shock. Other nations have also filled up strategic reserves. In the past 5 months, the US has stockpiled 6 million barrels per month! Six million barrels may be only a drop in a big bucket but prices are set on the last barrel demanded not the first. Therefore, starting this month the US has just "discovered" a major oil field. Oil inventories are already at unusually high levels. There has been a disconnect between inventories and prices. That disconnect can only go so far. Barring a major attack or disruption, I project oil will hit $54 per barrel or less between now and year end.

NWAC and Union to make a deal:

The maintenance workers at NWAC are between a rock and a hard place. They can strike and be replaced, they can keep fighting a deal and push the company into reorganization under the bankruptcy law or they can make a deal that is competitive with wages at other major airlines. This is newsworthy because the time for union capitulation is here. GM has announced outsourcing of part manufacturing to India. India is a very large, English speaking democracy. We do ourselves a huge favor when we offer the willing workers in India jobs. We hold down our costs and increase our standard of living. During the time that international trade has flourished, American has produced 10s of millions of good jobs, while helping other countries produce 10s of millions of good jobs. The better paying jobs have stayed in America.

There are many more Good News probabilities ahead. Ironically the economic news has been very good for many years but it has been discounted by the consuming and investing public. Indeed, wages have risen faster than inflation in the good old US of A for 10 years! We are living in an era of unprecedented prosperity. The numbers are there for the eyes to see but they are blinded by the specter of terror.

One should remember that there are billions of "good" Muslims around the world. "Good" because they believe in most of the same moral ideals as Jews and Christians. The extremist are relatively few in number. Including the extremist Jews and Christians. The poor will always be with us as will extremist. With time the bomb throwing will be dramatically reduced. Bombs were thrown on Wall Street more than 100 years ago and they will be 100 years from now. World leaders are of like mind. Terrorist are being hunted down.

Good news is coming. The market is currently over-bought and may pause for awhile but the good news will not go away.

BUY THE BULL!

TWO LITTLE GIRLS ALL GROWN UP!

Last week I bragged on the account of my youngest daughter. She has made 100% on her invested capital in the stock market in less than two years. Her largest holding, GT, has done much better.

This week I must put in my two cents (26.4 cents according to JLP) in regard to my other daughter. She has practiced a disciplined approach, traded relatively infrequently and bought good values. In the month of July, her retirement account did very well. However, her individual stock account did better than one should ever expect to do. Her account was up 29% in one month!

Good job Courtney!

COURTNEY IS RIDDING THE BULL! IN MY NEXT ARTICLE I WILL WRITE ABOUT THE GOOD NEWS THAT IS AROUND THE CORNER. YOU MIGHT WANT TO BE ON BOARD BEFORE THE GOOD NEWS HITS!

E-Trade buying Harrisdirect for $700 mln - Banks - Financial - Financial Services - Earnings - M&A

E-Trade buying Harrisdirect for $700 mln - Banks - Financial - Financial Services - Earnings - M&A

E-Trade couldn't buy AMTD for $3 Billion but the consolidation continues. E-Trade will buy Harrisdirect for $700 million cash.

As the BULL MARKET heats up, trading at discount brokers will heat up even more. It is fun for discount brokerage owners to hear Crammer's callers popping into and out of stocks.

The business is cut-throat. BMO Financial Group will book only a modest gain on the sale of Harrisdirect. The economies of scale are such that the "big boys" can cut gross margins per trade to the bone. The three way price battle has been between AMTD, E-Trade and Schwab. Fidelity has built a huge business by selling companies 401-K plans and then when the individual accounts grow large they convert many of them to trading accounts. Fidelity has not needed to cut brokerage fees as much because many of their customers are "locked-in" to Fidelity.

E-Trade and AMTD are the growth engines in the business. E-Trade is well known for its full range of services. One can get everything from credit cards to home loans through E-Trade.

RIDE THE BULL! AMTD and E-Trade have been rocket ships this year and indeed for the past three years. The next BULL STAMPEDE will "take them up another notch".