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InvestmentHouse Weekend Update:

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

- Modest gains and low volume again mark the end of a shortened week.
- Import prices driven higher by oil, while treasuries experience subtle shifts.
- Indexes poised to continue summer rally as they recover from Wednesday higher volume selling.

Volatile open, close provide bookends to quiet session.

The market showed spunk, coming right back after some stronger volume selling Wednesday. Futures were higher, stocks opened higher, and they never really caved in. They also did not break out, but with the Friday closing in honor of President Reagan, the volume was light as many were reluctant to commit ahead of another 3 day break.

That light volume did not keep the action subdued. Stocks were quite volatile early as NASDAQ and SP500 jousted with near resistance at 2000 and 1135, respectively. They made two early tests of that level in the first hour, each time bouncing lower. The second failure sent NASDAQ plunging to session lows, peeling off 12 points from the early high. Stocks rebounded right back again, but then settled into a 4 hour lateral move right at the mid-levels of the session. So, would the market rally or sell, take the bullish or bearish route? It took the former, reverting to its recent bend toward bullish action with the exception of the Wednesday sell off.

The late move pushed NASDAQ back up to 2000 and SP500 back up to its down trendline. No volume to clear the levels, but after failing at them earlier in the session, the move made it look as if they had no problem with the level. We noted very wobbly action in leadership stocks. In the end many recovered decently, but many were all over the map and more than a few gave up near support. Overall the indexes held their ground and the Monday break higher, but there was some internal strife. Such is the way of summer, low volume rallies.

Semiconductor sales expected to surge.

The Semiconductor Industry Association raised its 2004 growth expectations to 28.6% from 19% originally forecast. That would put sales at $214B, a record that surpassed the $204B in 2000. Consumer electronics are the main driver of the gains as chips find their way into just about everything we use. I am not all too sure that some people I know don�t have microprocessors inside them. Cellular phones, digital cameras, digital video recorders, and WiFi are major growth areas driving demand.

So you would think that would have the chip makers and analysts excited. That would be wrong. We have seen more enthusiasm at dental exams. Some analysts said higher chip demand meant the need to build more capacity and that would ultimately lead to overcapacity, lower prices, and a return to gloom in the industry. Well, yes, that could happen. If you make more money you can move into a higher tax bracket as well. Problems of the rich, problems of the successful. Talk about searching hard for the tarnished lining in an otherwise good story. The news did not help chips even with NSM announcing a strong quarter. It squeaked out a 19 cent gain, having to fight back to avoid closing negative. It simply was not the day for any stellar moves.

THE ECONOMY

Import prices rise on the back of 10% gain on oil.

Import prices rose 1.6%, double the 0.8% expected. That marks the eighth straight gain and brought on more talk of inflation. With oil jumping 10.3% after declining 0.4% in April, it was not hard to see where the increase came from. Take out oil and you have a 0.4% import price gain after a 0.2% rise in April. Industrial supplies excluding oil were still strong, however, posting a 2.1% gain as lumber, iron and steel, and natural gas rose.

For the past 12 months petroleum imports grew 43.9%. Overall import prices rose 7%. The divergence is stark. This of course brings us back to the inflation issue. Rising oil prices are considered by the Fed and others to be inflationary. First, we suggest that rising prices have more impact dampening economic growth than they do spurring inflation. As we have noted on several occasions, even if they were inflationary, raising interest rates is just about the poorest method there is of combating rising oil prices. Better to have a growing economy that has to deal with higher energy prices than a stagnant economy slowed by rate hikes that still has to deal with higher oil prices (remember 1974?).

Second, the rate of gain of oil prices versus other commodities in high demand (cement, lumber) is out of proportion. Lest we forget, OPEC started this rise in prices when it started talking about curtailing production because its internal projections showed a falling price per barrel in the second half of 2004. That started prices jumping early in the year, and then other problems, those unexpected events that always pop up when you monkey with market forces, started popping up. Iraq unrest. Attacks on Saudi oil compounds. Nigerian strikes. Before this is was the Venezuelan strikes in 2003 that raised prices. That terror premium on top of the OPEC created initial price rises that started the spiral higher are what has oil prices so high, not the demand. Again, oil prices are out of proportion with other commodities in short supply. It is starting to back off but there is much to be unwound, and there is the terror premium with respect to potential attacks on the actual production facilities or on the transportation modes (pipelines, tankers). That will push prices higher in times of worry, diminish in times of relative calm.

Treasury spreads narrow some as yield curve begins to flatten.

The bond market is always worth watching because it is one of the best forecasters for the economy overall and thus the stock market. Over the past few weeks the yield curve has flattened between the short term and longer term treasuries. The spread between the 2 year and 5 year treasury is narrowing, another measure of the yield curve�s slope. In an economy that is expanding on into the future the yield curve is �normal�, i.e., the short term treasury yields are lower than the longer term yields. That is what the yield curve is now.

Compare that with the yield curve back in 2000 where the short term yields were higher than the longer term, i.e., an �inverted� yield curve. The stock market had cratered in March and April, and the bond curve inverted that summer. That signals bad times ahead: long term rates are lower because the future economic activity is considered weak. If it were positive as in a normal curve, longer term yields would be higher because money would be more in demand in the future and yields would have to factor that into the present value.

Recently the yield curve between the 2 and 5 year treasuries is flattening out a bit. The spread is narrowing. They are not at critical levels as the yield curve is still healthy. After a dramatic improvement in the yield curve as the economy recovered and expanded, this weakening in the curve and spreads is another element worth watching much as the ECRI weekly indicator we discussed last weekend.

Why is this important? It paid to watch the signs of economic slowing in late 1999 and early 2000 that was being overlooked by the mainstream. Up through the market crash it was believed the economy was heating still. Despite the market plunge and the inverted yield curve it took a long time to let go of the idea that the economy was not expanding. We saw the signs of the slowdown and predicted the market meltdown. Right now we are simply being observant as to the true leading indicators, not the jobs report that everyone continues to hang on. These indicators are suggesting economic slowing in the future. They are not pointing to another recession, but with the higher energy prices, they are weakening some. That is consistent. Nine of the ten last recessions have come on the heels of a sustained spike in oil prices. Prices are dropping right now. They need to get down close to $30 and rather quickly to avoid being a real problem for the economy. As you know, we are predicting oil to fall closer to that level over the next month. Whether increased terror events ahead of US political conventions, the Iraq handover, and the election itself actually materialize will have an impact on those prices and thus the expectation of economic softening.

THE MARKET

Maybe investors were rattled when the government announced the postponement of the PPI. The treasury traders were blindsided, and that very well could have had a spillover effect on stocks Wednesday as well as hedges were frantically adjusted. In any event, after the higher volume selling the market woke up in a better mood and held positive most of the session. Yes volume was light, some rocky times for leaders, and no major breakthroughs, but the return to the more bullish intraday action where it rallied to the close healed some of the Wednesday selling and suggested that action was related to the reshuffling of hedges on the PPI move.

The action left the indexes poised to try another move toward the April highs. DJ30 is sitting on top of its early 2004 down trendline as is QQQ, the default leader of NASDAQ. Throw the SP600 (small caps) and SP400 (mid-caps) into that group as well. That puts them in very good position to continue the assault on the April highs.

NASDAQ and SP500 are just below their down trendlines, having given them back on Wednesday after punching through them Monday and Tuesday. They were unable to hold these levels. Both important indexes for the overall market�s move and they will have to recover the trendlines this week. SP500 has been a relative leader and is still in good position. Moreover, while the market managed a bounce Thursday, a lot of leaders were struggling. They will have to come around this week to move the market along toward the April highs.

Overall the market is still in good position to try the April highs as it continues the summer rally that has a follow through under its belt on this last move off of the May low. Once at the April highs the move becomes problematical. It would be in position for a real breakout and subsequent rally. With some of the signs of slowing economic activity we continue to believe that a continued rally through the summer is unlikely. The indexes may very well make a move through the April highs but we don�t think that move would be substantially above them or hold long; more of a peak to the next level and then faltering at some point around the July earnings.

This is our read on a more normal cycle this year as opposed to the 2003 run through the summer after 3 down years. It gives us more upside on this move to make some gains, and if it continues, so be it. If it falters we are going to be tight with positions and not take chances. We will still have upside opportunities even if it does falter in addition to some downside as the market fades in later summer on into September to set up a fall rebound.

Market Sentiment

VIX: 15.04; -0.35
VXN: 21.23; -1.12
VXO: 13.83; -0.93

Put/Call Ratio (CBOE): 1.15; +0.23

Rose on an up session. This indicator typically tracks opposite the market action. Given the change in the PPI date Wednesday and the long weekend there was a lot of hedging taking place once again. This is something we have seen during the past two months as the market sits on edge during the correction and is doing so even now as it moves higher to try the April highs after posting a follow through session to this rally. Still a lot of concern about the downside

NASDAQ

Tapped the 10 day EMA on the low and rebounded to close right at the high but below 2000 and the down trendline.

Stats: +9.26 points (+0.47%) to close at 1999.87
Volume: 1.356B (-11.31%). Second lowest volume of the year, both coming in the last month. Lots of low volume on NASDAQ as investors, while buying into technology on the rebound, are not lining up to put money into these stocks. Growth stocks need solid economic growth to expand, and with some softening in the yield curve and ECRI, they are showing some softening as well, not expanding on the upside move with much vigor.

Up Volume: 746M (+472M)
Down Volume: 586M (-657M)

A/D and Hi/Lo: Advancers led 1.04 to 1. Just about as flat as you can get.
Previous Session: Decliners led 2.77 to 1

New Highs: 40 (-24)
New Lows: 40 (+10)

The Chart: (Click to view the chart)

NASDAQ had pretty much filled the Monday gap higher, not surprising given the rather lackluster break higher. It has not given back the breakout and still has the follow through on this rebound under its belt. That is positive for the upside. It is still below the January/April down trendline at 2010 and just missed recapturing some minor (more psychological resistance) resistance at 2000. It did what it needed to do in response to the Wednesday distribution, i.e., held the breakout. That keeps it in the hunt this week to try another break over the down trendline and continue the summer move toward the April highs at 2060 t0 2080.

QQQ continued to outperform the overall NASDAQ, holding the breakout and the move over the January to April down trendline (36.40). Very low volume but it too responded well to the Wednesday distribution. The pattern is still a double bottom with handle, but over the past 10 weeks there is also something of a reverse head and shoulders. It is in good position to try the April high (37.50) and even a breakthrough on up to 38.50.

S&P 500/NYSE

As with NASDAQ, SP500 managed a low volume rebound from the Wednesday selling but still closed below the 2003 down trendline.

Stats: +5.14 points (+0.45%) to close at 1136.47
NYSE Volume: 1.165B (-8.52%). Volume dried up before the 3 day break after the rising volume, though still well below average, selling on Wednesday. Volume is still well below average; even though SP500 has rallied and delivered a follow through on some rising trade, overall there is still a real lack of conviction this summer. Volume will have to rise to take out the April highs.

Up Volume: 681M (+407M)
Down Volume: 451M (-527M)

A/D and Hi/Lo: Advancers led 1.27 to 1
Previous Session: Decliners led 2.98 to 1

New Highs: 49 (-40)
New Lows: 27 (+9)

The Chart: (Click to view the chart)

The large caps put a check on the Wednesday selling, rebounding to recover half the losses in a nice end to the week. The index tapped at the February/April down trendline (1137) three times intraday but could not retake it. It is banging right at that point as it easily held over 1125 support without coming close to testing that key level. Still poised for a test of 1150 (April high). After that it has a lot of heavy resistance from there to 1160 (1163 is the intraday high). It will have to find some additional strength to take out that level.

DJ30

Trying to exert some relative strength after lagging in a more ragged pattern during the correction. DJ30 held over the February/April down trendline (10,350) on the Wednesday selling and managed a bounce Thursday. Volume was lower, so there was no major upside strength, but holding that trendline gives the blue chips a decent launch pad to try for the April high (10,570). As with the other indexes the volume is lackluster, thus when it gets to 10,570, it will have a struggle on its hands unless there is a lot more trade on the upside.

Stats: +41.66 points (+0.4%) to close at 10410.1
Volume: 154 million shares Thursday versus 175 million shares Wednesday.

The Chart: (Click to view the chart)

THIS WEEK

Very interesting week ahead both from the economics to be released as well as how the market responds to the Wednesday heavier volume selling and Thursday rebound. As noted they are still set up to continue the move toward the April highs, particularly QQQ, DJ30, and the smaller caps.

The primary focus will most likely center on the PPI (to be released no earlier than 6-15) and the CPI. PPI prices have been rising, but the key as we have discussed is whether those increases are passed onto the consumer. Over the last 20 years there have been rises in the PPI that have never made it to the CPI, including times when oil prices spiked higher. The market really seems transfixed by what the Fed will do. Greenspan upped the ante last week with his address to the other central bankers, putting on a tough face to show them he meant business. That was in part for show and in part the same old Greenspan we know. The impact on the market is, despite the Fed�s disclaimers, along the lines of 1994. If the Fed moves in baby steps (our apologies to �What About Bob?�) to get to parity or just below with nominal rates, it has 4 to 6 rate hikes to go and it has not even started. Add onto that what we call the threat to increase the size of the hike if the Fed deems necessary, and you have the market wondering, rightly so, just what the Fed is going to do. It basically has said it will do what it has to, when it has to, and make its own timetable for doing so.

To us that leaves the question about as open as it can get even with the assurances there will not be another 1994. Well, look at 1994. NASDAQ lost 12.5% in the first few months of that correction that lasted 10 months. The current correction has taken NASDAQ down 13.5% and has lasted 4.5 months already. As noted, the Fed has not even started raising interest rates. With meetings in June, August, September, November and December remaining this year, the Fed would be up just 100 basis points by November if it goes slow and steady. That most likely would not be an end to the hiking, but it would be another 5 months, making 10 months since the correction started. Assuming the market stays in limbo as it did in 1994 until the Fed said it was done, we don�t see any difference from 1994 regardless of Fed soothsaying.

As always, the market is the final arbiter of the economic data. There are some signs of potential slowing reflected in the bond market and some leading indicators, and NASDAQ with its growth stocks started to lag some last week. At the same time other areas started to improve as noted. The market still has its follow through and its break higher intact, and we look for it to continue the move to the April highs regardless of concern about the Fed and some signs of potential economic slowing. The 1994 move saw its ups and downs in a range before it made the break higher; a move up to the April highs and a bit beyond would be no different.

Support and Resistance

NASDAQ: Closed at 1999.87
- Resistance: 2000 is the top of the late 2003 base. 2012 the January/April down trendline. 2050 represents some prior price points and has stopped NASDAQ the last time it tried that level. Breakout from the pattern is 2080. 2089 is the February closing high. 2112 is the early January high.
- Support: 1990 is the lower end of the range of the tops of the late 2003 base. The 50 day SMA (1980) and the 50 day EMA (1974). The 200 day SMA (1966). 1900 to 1890. The April lows (1880, 1878).

S&P 500: Closed at 1136.47
- Resistance: The March/April down trendline at 1137. The April and January highs (1150 to 1155). Next is 1159 (February highs) and 1160 to 1175 the highs in that double top that spanned late 2001, early 2002.
- Support: 1125. The 50 day SMA (1120) and the 50 day EMA (1118). 1106 is a May 2002 top and represents some early 2001 lows. 1096 to 1100. The 200 day SMA (1090).

Dow: Closed at 10,410.10
- Resistance: 10,478 (late April highs). 10,512 (late April high); 10,570 is the April high. Price consolidation at 10,600 level. 10,747 is the February high.
- Support: The January/April down trendline (10,345). The 50 day SMA (10,266). Price support at 10,250. The 50 day EMA (10,243). The 200 day SMA (10,101). March low (10,007). 9900-9850.

Economic Calendar

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

June 14
- Trade Balance, Apr (08:30): -$45.0B expected and -$46.0B prior
- Retail Sales, May (08:30): 1.0% expected and -0.5% prior
- Retail Sales ex-auto, May (08:30): 0.4% expected and -0.1% prior

June 15
- PPI, May (8:30): DELAYED 0.6% expected and 0.7% prior
- Core PPI, May (8:30): DELAYED 0.2% expected and 0.2% prior
- Business Inventories, Apr (08:30): 0.5% expected and 0.7% prior
- CPI, May (08:30): 0.4% expected and 0.2% prior
- Core CPI, May (08:30): 0.2% expected and 0.3% prior
- New York Empire State Index, June (08:30): 28.5 expected and 30.2 prior
- Michigan Sentiment-Prel., June (09:45): 91.0 expected and 90.2 prior

June 16
- Housing Starts, May (08:30): 1950K expected and 1969K prior
- Building Permits, May (08:30): 1965K expected and 2006K prior
- Industrial Production, May (09:15): 0.6% expected and 0.8% prior
- Capacity Utilization, May (09:15): 77.3% expected and 76.9% prior
- Fed Beige Book (14:00)

June 17
- Initial Claims, 06/12 (08:30): 330K expected and 352K prior
- Leading Indicators, May (10:00): 0.4% expected and 0.1% prior
- Philadelphia Fed, June (12:00): 25.0 expected and 23.8 prior

June 18
- Current Account, Q1 (08:30): -$139.6B expected and -$127.5B prior