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InvestmentHouse Weekend Update:

http://www.investmenthouse.com/1weekendmarketsummary.htm

- Enough good news to keep stocks climbing right on through the Friday close.
- Mid-cycle slowdown getting some serious threats from inflation as Bush administration pursues its foolish weaker dollar policy.
- Core PPI shows some promise but the overall is suffering from high energy and high food. Getting hard to hide from inflation in this economy.
- Indices poised for a low volume rendezvous with February highs. We need to be ready when it gets there.

Basket of good news keeps stocks rising.

Thursday was a good answer to the Wednesday distribution, but it was not strong enough to completely quash the higher volume selling that rudely butted in following the low volume rally. Friday morning investors were again mulling whether they should bid stocks higher once more as futures were flat to modestly lower.

Then a stream of solid news began. First there were earnings. GE was good enough. MRK beat, raised guidance, and then got a bonus from a federal judge that ruled investor claims were time-barred. MCD fried up some more strong earnings and raised its guidance as well. It is hardly acting like the oldest fast food burger joint around. The Producers Price Index did not produce investor price angst as the core was flat, pulling the year/year into the Fed’s comfort zone. Energy and food? That was another story, but it was not one investors wanted to deal with early Friday.

Even with that, however, stocks started flat to lower. Then the Michigan preliminary sentiment index came in at 85.3 versus the 87.5 expected (and 88.4 prior), and with that 8 month low (the last at the last market correction) the market pitched lower. Not that much lower, however. The indices easily held above the 10 day EMA and then rebounded, once more showing a steady climb higher. It was not the same as Thursday, however, in that the climb was rather anemic. Positive yes, but unable to make nearly any headway in what was a very lackluster session.

It looked as if a Friday mid-afternoon stall was going to take place as the indices failed to make any real headway for 4 hours from late morning through lunch to mid-afternoon. Then the afternoon, and yeah verily the week’s savior, appeared. The wing nut from the Dallas Fed (Fisher) actually helped for a change, suggesting globalization increased productivity and that will help reducing pricing pressures. That encouraged investors, but the big goose came from CSCO when its COO said sales were running at the high end of estimates and customers were at the front end of an upgrade cycle. NASDAQ jumped 10 points in short order and held the gains to the close, posting a 0.47% gain. The other indices followed suit. Despite all of the talk about being up 8 out of 9 days, etc., that late session move made the week for stocks after that midweek distribution session rattled the rally. It brought the indices one week closer to the February highs and a showdown that will tell the story of this earnings season.

Technically there was more bullish-like action along with some more of the same mediocre indications. The session started weak but once more stocks turned weakness into overall gains. Leadership remained with some of the same groups pricing higher yet again, e.g. refiners, offshore drillers, energy service companies, steel, copper, fertilizer, and chemicals. Their success is dragging others along with them, though a lot of stocks are rising on relatively low volume.

That of course brings up the continuing discussion of volume on this move. Friday it was lower, significantly so on NYSE while still managing an average session on NASDAQ. Lower for the techs but still managing average trade. That average trade is not much lower than the Wednesday distribution trade and may be enough to hold off a selloff. Maybe.

The market is approaching the old highs and the upside moves were on predominantly lower trade all the way up, punctuated with a sharper downside session. The better NASDAQ trade on Thursday and Friday offers some hope that investors will step in at the old peak and drive the market higher, but overall the upside trade is rather low, and as the indices approach the February highs the lower volume cries out for caution. The market can always find a catalyst in earnings season to keep it moving higher, but many years in the market tells us to be very cautious in these situations. Indeed, as the market glides closer to the February highs to start next week we are going to take much of the gain off of the table, close marginal positions, and let the strongest leaders run a bit more if they will. We have a good run in place and we would rather book the gain and have to get back if things hold up than have the lower volume rise get chewed up in a wave of selling.

THE ECONOMY

Can the expansion survive outdated Bush policies?

For the most part the Bush administration has put together a decent economic policy package. Sure the first tax cut only worked to pump up already solid consumer demand and sew the seeds of inflation, but that was all that Congress would pass. It got back on track with the investment incentives, and that brought the business side back into the equation and sparked the 4 year expansion. It tried to derail things with a massive prescription drug plan that would never have passed the republican congress under President Clinton as it would have been properly labeled a tax and spend program. Congress let Bush down when the republicans turned back from their promises and sought re-election versus doing what they were elected to do. They were summarily ousted in the last elections. Bush is not helping rebuild his constituency with the latest attempt at trade barriers against China. One of the most dangerous gambits, however, is not reported on much: the unspoken weak dollar policy.

Sure former Treasury secretary John Snow spoke of a strong dollar as beneficial to the US, but each time he uttered the statement he undermined it by referring to market forces setting the dollar. How disingenuous. Everyone knows governments act to support or weaken currencies, and the US is no different. By saying that market forces had to control the value of the currency when so many non-market forces are acting upon it, Snow was tacitly admitting the US was not going to support a strong dollar policy. Of course now that the Bush administration passed a tariff on Chinese paper products it is becoming clearer; Snow owns a private paper company that produces the same kind of paper the tariffs affect. How convenient. How sadly old school, good ol’ boy politics the administration turns out to be.

As if that is not bad enough, Bush II is calling on Bush I’s cronies to help out in his second term. James Baker and company showed up in D.C. again, talking about how we should cut and run in Iraq. He was part of the cadre in the first Gulf War that convinced Bush I not to finish the job when we had the Iraqi army crushed. Now he is urging the same again; leave tasks undone only to get worse down the road.

Thus, why would you listen to this group who, during the prior Bush administration, practiced the same lower dollar policy that sent the US into the Bush senior recession and lost the re-election bid? These boys buy off on the phony idea that if you lower the dollar you create a stronger market for US exports and thus help out US businesses. No, what you do is worsen the appetite for investment in the US by in part importing inflation and only worsening the economic climate. In history, no country has ever devalued its currency into economic prosperity. The benefits of a few more exports never offsets the damage done. Let’s face it; a few more exports is not going to change our trade balance picture when we have tankers lined up across the Atlantic and Pacific bringing millions of barrels of oil per day to the US. That is a ‘fixed cost’ in terms of our trade imbalance, and it is absurd to think we will balance the trade gap with this big nut every month. We could do it, but we would have to choke off our imports of goods to recession levels. Of course, that is what we would likely have if we go this approach.

If we continue to let the dollar weaken as it is we are going to have inflation jump up to 4% or 5%. First your imports cost more. That oil will cost more money because of a weaker dollar. More countries will price in euros as well, and that will make it even more expensive as the dollar falls faster against that currency. Then some overseas investors will be less inclined to keep as many dollars versus other stronger currencies. They will sell those dollar assets and those funds will return to the US where they will add to the money supply. If the Fed does not sop it up with higher rates and draining money supply then inflation jumps. If the Fed is forced to raise rates and cut money supply, however, we risk recession because a mid-cycle slowdown then loses its momentum and grinds onto the rocks.

Now you understand why the Fed’s job is so hard. It has to try and tailor monetary policy to the acts of Congress and the executive branch. When they string together a series of bonehead actions the Fed loses flexibility as its hand is forced. That is how we get these pernicious recessions when we should just be surging along. In the name of protecting or helping a few businesses the government fails to protect and help the majority.

Unfortunately, with the dollar still diving, more economic nails are being driven into the expansion. Gold is back on the rise. Inflation protected treasury (TIPS) yield spreads are widening. There are storm clouds forming on the horizon because of these foolish policies, and before too long the Fed is going to be forced to do what it does not want to do, and that is raise rates to further fight inflation. The sad irony is, raising rates and slowing money supply growth will hit an already slowing economy and work to slow it further. Housing will take longer to recover. Small businesses won’t get the money they need. Is there any wonder businesses are investing less in capital equipment right now given this climate? Some are seeing the handwriting on the wall and are pulling back to see how things shake out. Unfortunately, that is part of the slowly building snowball affect; if enough pull back to get the lay of the land, then sure enough it turns to weakness.

As you can see, the mid-cycle slowdown is confronting policy missteps that, as we indicated earlier in the year, are its biggest threat. On the one side the democrats are surely going to try and raise taxes versus make any effort at cutting spending while the republicans are implementing what did not work for Bush I and threaten to stall the expansion that could have eliminated the budget deficit but for the profligate spending. It is unlikely Bush will see the light; he is in bunker mode as evidenced by calling upon Baker and company. That makes this last year and one-half a treacherous one and leaves us looking to the next administration and what it might do. We are wondering whether it will be a republican or democrat candidate that is first to propose a flat tax. That would at least spark some hope for the future. Right now the storm clouds are gathering where none were just a few months back. Nonetheless, the market keeps moving higher, and that is one of the indicators with respect to the economic future that you cannot ignore.

PPI core is a push, but food and energy continue higher.

The core price increase was flat versus the 0.2% expected and 0.4% in January. That pulled the year over year rate down to 1.7%, well within the Fed’s comfort level. Of course, this deals with producer prices and not consumers, and the latter is the Fed’s focus. Moreover, the overall number, though often discounted, held strong at 1% (0.8% expected) after a 1.3% showing in January.

The culprit? Food and energy, the two items you strip out to get the core. Food rose 1.4%. That makes four straight months where food prices increased by 1% or more. Gasoline jumped 8.7%. You have to eat, you have to drive to the store to get the food to eat, and you have to drive to work to get the money you need to buy the food. Yes, the ethanol push has really helped us in the short run. Food prices are jumping because of our reliance on corn in our food supply (what we eat and what the animals we eat feed upon) and the fact that there is not enough corn to meet our food and energy demands. Energy prices are jumping because we have no energy plan and have not had one for, well, ever.

It is sadly ironic that we have regulated refineries almost out of existence in a society where the vehicle fleet is integral to our daily lives. This has developed over decades and now we are going to pay for it with $3+/gallon gasoline this summer even without any storms. Of course the proposed remedy is a band aid that will not fix the problem. That is very Washington: don’t fix the root of the problem, just slap some bandages on it and pass it to the next administration.

Once more, however, it comes down to the CPI next week and whether the prices are passing through from producers. At this juncture, inflation pressures are picking up once more after steadily trending lower the past year. The Fed feels it is getting pushed back into a corner, but it also sees weakening economic data so it is at a confusing crossroads. It is likely to do nothing for quite some time; it made the first transition to a pause and with this conflicting data it won’t move until it sees the whites of the eyes of a big slowdown or surging inflation. Thus it is up to the legislative and executive branches to get their act together. The election is not until November 2008 and the campaign is already in full force. That is not a great combination for a republican administration and democratic congress to get together.

THE MARKET

MARKET SENTIMENT

VIX: 12.2; -0.51. Volatility fell through the 200 day SMA and the 90 day MA. The prior lows ahead of the February market selling and the corresponding VIX jump were at 10. That means volatility could fall further here, but with the indices approaching the February highs it is in the range where it could reverse. With the low volume move higher by stocks this is certainly something to keep an eye on.
VXN: 16.84; -0.58
VXO: 11.51; -0.46

Put/Call Ratio (CBOE): 0.96; -0.06

Bulls versus Bears:

Bulls slid and bears rose, a positive development after the converse last week threatened to derail the improvement. Is this enough to sustain a new move? If you were looking just at this indicator, no. Before the last significant market bottom back in August 2006, bulls fell to 36% in late June. Bears rose to 36% as the two kissed before going their separate ways once more as the market started to rally. They are still over 20 points apart, and that is not what new bottoms are made of.

Bulls: 49.5%, down from 50.6%. Fading back a bit though still above the 48.4% two weeks back, and that was up from 46.6% and 45.5% before that. Could be a double top building in as it hit 50.5% level a couple of months back though below 53.3% on the recent high. Bulls bottomed last summer near 36%. That is the lowest level since September 2006.

Bears: 27.5%. Solid jump in bears from 25.8%, putting it right back to the level hit two weeks back though down from 28.4% and 28.9% immediately before that. Well above the 20% where it held to start the year. It hit a post-2002 high in that late June 2006 move (hit near 36%), eclipsing the March 2006 high (33%) and well above the 2005 highs that spawned new rallies (30% in May 2005, 29.2% in October 2005).

NASDAQ

Stats: +11.62 points (+0.47%) to close at 2491.94
Volume: 1.997B (-0.59%). Volume was lower but managed to close average for the third session. Two upside days on average volume, one distribution session on the stronger volume. Thursday and Friday helped bind the wounds from Wednesday but overall the upside remains the weaker volume. Caution as NASDAQ approaches the former high unless volume can really pickup the pace.

Up Volume: 1.209B (-237M)
Down Volume: 606M (+114M)

A/D and Hi/Lo: Advancers led 1.7 to 1. Another day of pretty decent breadth, much better than the sessions preceding the Wednesday distribution session that saw flat to 1.2:1 breadth.
Previous Session: Advancers led 1.84 to 1

New Highs: 170 (+40)
New Lows: 40 (-26)

NASDAQ CHART: http://www.investmenthouse.com/ihmedia/NASDAQ.jpeg

NASDAQ sold off all morning but recovered to flat through mid-afternoon, edging modestly higher but not getting any strength behind it. When the CSCO news hit it jumped 10 points and held the move to the close. It managed to break just over the July/August up trendline for the session, but it will be fighting that level (2493) to start this week. Thus far, however, it has slid higher just below that level as it climbs toward the February high (2532). Good recovery from the midweek dip and looking to challenge the prior highs at 2509 (January high) this week. It is just 40 points from that level.

SOX (-0.72%) faded back to the 50 day EMA on the close, continuing its weeklong lateral move over that support level in the midrange of its 5 month range. Chips were the sector lower on the session, something rather rare for the day. They show promise from time to time but continue to limp along, unable to make headway.

SP500/NYSE

Stats: +5.05 points (+0.35%) to close at 1452.85
NYSE Volume: 1.412B (-5.3%). Volume faded once more, falling significantly below the Thursday level that was already lower than the Wednesday distribution session. Volume was never really that strong, even Wednesday, a characteristic of this move. Low volume at the prior high is typically a recipe for further selling so we will see how this pans out.

Up Volume: 914.354M (-169.094M)
Down Volume: 477.796M (+88.645M)

A/D and Hi/Lo: Advancers led 1.51 to 1. Mediocre breadth after a decent A/D showing on the Thursday gains. Low breadth plagued the pre-Wednesday moves. It improved on the rebound but was not blowout.
Previous Session: Advancers led 1.94 to 1

New Highs: 241 (+64)
New Lows: 16 (-15)

SP500 CHART: http://investmenthouse.com/ihmedia/SP500.jpeg

SP500 broke over the highs for the week and indeed over the early February peak (1450) on the Friday move. That leaves it less than 10 points off the February high (1462), an easy run higher this week. Low volume all the way up to that high, and as noted with NASDAQ, a second peak with low volume is not a good technical indication. Earnings of course can raise volume in a hurry so we will be watching trade closely as SP500 nears that high.

SP600 (+0.47%) stands just 2.40 off its February and all-time high after the Friday move. Best positioned of all the indices, aided by its smaller energy, mining, and metals stocks. It is the leader on this run and it along with SP500 will be hitting their February highs just about the same time. As with the large caps, volume will be important, but as noted, SP600 is home for many of the stocks in sector leaders such as energy, metals, and materials.

DJ30

The Dow cleared its February high on the move with some rising though below average volume. Trade improved with the MCD, GE, and MRK gains. It is lagging the other indices and still has the January high (12,623), early February high (12,700) and the February high (12,796) ahead of it. Steadily climbing, following the other indices higher.

Stats: +59.17 points (+0.47%) to close at 12612.13
Volume: 224M shares Friday versus 218M shares Thursday. Better trade as some Dow components announced solid earnings and enjoyed strong trade on the session.

DJ30 CHART: http://www.investmenthouse.com/ihmedia/DJ30.jpeg

MONDAY

A big week for a number reasons. Earnings really ramp up after the initial results raised some optimism even more. The next wave starts in earnest this week. In addition there are yards of economic data: retail sales, CPI, housing starts, production and capacity, regional manufacturing reports. On top of that it is expiration week. Plenty of potentially market moving events as the indices approach the February highs.

With the positive response to the initial earnings and the CSCO comments it looks as if there is some upside momentum heading into the week. With just a short hop to the February highs for SP500 and SP600, any further upside puts them at those highs.

As with any approach to a new high you have to be a bit cautious. When a stock approaches an old high, even if it is in a good pattern, you want to see some strong breakout volume to show the buyers are still there and willing to buy more. Up to the point it breaks out on volume it is just another pretty picture. This rally to this point has overcome every obstacle it has faced; when it looks as if it is gasping it finds the buyers to push it higher. The low volume, however, is something we don’t want to lose sight of. As we have often said on this run, lower volume rallies tend to fail. If there is no volume at a prior high that means the buyers are not coming in to drive things further. That risks a double top, a topping pattern that can set up more downside.

We have been content to ride this move higher. The indices still have the upward momentum and there are stocks moving higher on solid volume; thus you go with the trend. Even if the overall market struggles the continued strength in overseas economies will drive prices in commodities, gold, materials, and the like. We are content to ride the move higher, buying into good stocks in good sectors that are getting the money when they flash good buy signals.

As the indices approach the prior highs, however, we remain cautious unless earnings can generate more buying volume. NASDAQ trade toward the end of the week was encouraging. Thus we will watch the volume early next week on a move toward those highs. It is expiration week so there could be some higher volume from position squaring and rolling out. If trade continues tracking lower we will take a lot of the gain off the table, leaving some positions in the 'core' leadership in place, e.g. steel, energy, chemicals and then see how the test of the prior highs shakes out. As noted earlier last week, we would rather be in the position of looking for entry points once more (while we continue riding the strongest stocks) versus riding a sell off lower.

This is an important inflection point for the market as the indices show good upward momentum and leadership but don’t have a lot of volume pushing the move to the former highs. How the market handles the move obviously sets up the next month or so of action. Thus the importance of the move, and with the mixed signals all the more reason to treat it with respect. We have some great gains taken on this run already, and we have more that we can still take off the table that we don’t want to lose. Thus we protect what we have if necessary and look for the next opportunity to make money whether that is to the upside or the downside.

Support and Resistance

NASDAQ: Closed at 2491.94
Resistance:
The July/August trendline at 2492
2509 is the January 2007 high
2523 is price resistance November 2000
2528 is the December/January up trendline
2531 is the February high (post-2002 high)

Support:
2471 is the December 2006 high
2468.42 is the November 2006 high
The 10 day EMA at 2464
2460 is the March high
The 50 day EMA at 2439
2405 is the ‘hump’ high
2400ish from the late November and late December 2006 lows.
2379 is the October high.
2376 is the April high, the former post-2002 high.
2368 is the early October handle high.
2340 is the March low
2339 – 2334
2331 is the March intraday low

S&P 500: Closed at 1452.85
Resistance:
1461.57 is the February 2007 high.
1469 is the late November to February up trendline
1475 from peaks in December 1999 and January 2000

Support:
The 10 day EMA at 1441
1440 is the mid-January high
1439 is the March high
The 18 day EMA at 1434
1432 is the December 2006 high
The 50 day SMA at 1427
1425 is an interim high from November 1999
The 50 day EMA at 1425
1410 is the ‘hump’ high
1408 is the November high
1389 is the October peak.
1374 is the early March low
1371 to 1373 is the December 2000 peak and the January 2001 peak
1369 from early October 2006
1364 is the March intraday low

Dow: Closed at 12,612.13
Resistance:
12,623 is the mid-January high
12,700 is the early February peak intraday high
12,796 is the February 2007 and all-time high

Support:
12,511 is the March intraday high.
12,499 is the December intraday high.
The 50 day SMA at 12,453
The 90 day MA at 12,449
The 50 day EMA at 12,427
12,361 is the November 2006 high
12,350 is the March ‘hump’ high
12,039 is the early March low.
October high is 12,167
11,986 is price support from mid-October and the early November low.
11,940 is the March low

Economic Calendar

These are consensus expectations. Our expectations will vary and are discussed in the ‘Economy’ section.

April 16
- Retail sales, March (8:30): 0.4% expected, 0.1% prior
- Retail ex-auto (8:30): 0.7% expected, -0.1% prior
- NY Empire State PMI, April (8:30): 10.0 expected, 1.9 prior
- Net foreign purchases, February (9:00): $80B expected, $97.4B prior
- Business inventories, February (10:00): 0.2% expected, 0.2% prior

April 17
- CPI, March (8:30): 0.6% expected, 0.4% prior
- Core CPI (8:30): 0.2% expected, 0.2% prior
- Housing starts, March (8:30): 1.5M expected, 1.525M prior
- Building permits, March (8:30): 1.515M expected, 1.532M prior
- Industrial production, March (9:15): 0.1% expected, 1.0% prior
- Capacity utilization, March (9:15): 81.9% expected, 82.0% prior

April 18
- Crude oil inventories (10:30): 678K prior

April 19
- Initial jobless claims (8:30): 342K prior
- Leading economic indicators, March (10:00): 0.1% expected, -0.5% prior
- Philly Fed, April (12:00): 3.0 expected, 0.2 prior