CLOSING COMMENTS 4-24-06

The Last Week in Review:

Currently there are a number of reasons to be nervous about the stock market outlook for the next six months. However, there are two key offsetting factors that keep many analysts at a neutral market view rather than a bearish position. The first is valuation. The second is Fed sensitivity to overshooting on the Fed's own policy. Other negative factors to be concerned about include higher oil prices, higher interest rates and decelerating earnings.

First, with oil rising to over $75 a barrel and the lack of any response to this is the most dramatic example of the market's preoccupation with the positives while ignoring the negatives. There have been plenty of times over the past year when the stock market reacted to every $0.50 twitch in the oil markets. Now, geopolitical concerns drive the price up 25% in four weeks, and the stock market simply ignores it. The S&P has risen the past three years while oil prices were also rising. A higher oil price does slow consumer spending power and, with the broad increases in commodity prices, does create inflationary pressures. Any uptick in the inflation data or slowing in consumer spending will shift the focus back to this bearish consideration.

Secondly, higher interest rates are very much a negative for the stock market. The reaction to the FOMC minutes last week suggests the stock market has priced in expectations of only one more rate hike. The next rate hike coming on May 10 seems assured. If economic growth remains strong and inflationary pressures increase even modestly, a second rate hike is a definite possibility. This is an obvious to this risk to the market.

Thirdly, decelerating earnings growth is also a risk the market seems to have ignored. It is pricing in the most optimistic of scenarios. First quarter earnings growth appears to be fine. Aggregate earnings for the S&P 500 are on track for 12% growth for the first quarter. Second quarter forecasts are for 7%, however, that would mark an end to eleven straight quarters of double-digit growth. Most analysts aren't worried and feel growth will pick up in the second half of the year to 12% to 14% again. However, with rising interest rates likely to lead to slower economic growth, and with energy sector profits unlikely to increase at the same pace as over the past year, we are extremely doubtful that will be the case this kind of growth.

Last week the stock market continued to climb and even made new 52 week highs. The Dow rose 209 points for the week and has now gained to 5.9% for the year. The S&P followed adding 22 points, bringing its yearly gain to 5%. The NASDAQ rose 16 points, increasing its year-to-date gain to 6.2%. The Russell continued to outpace other indices, adding 21 points for the week and now has a year-to-date gain of 14.7%.

The Week Ahead:

A busy earnings week is scheduled beginning Monday with Caterpillar (CAT), Novartis AG (NVS), and American Express (AXP) all releasing earnings. On Tuesday DuPont (DD) and U.S. Steel (X) report results along with Amazon.com (AMZN). Wednesday prior to the open, Boeing (BA) reports, along with PepsiCo (PEP). On Thursday oil giant Exxon Mobil (XOM) will report results along with tech companies KLA-Tencor (KLAC), Microsoft (MSFT) and MicroStrategy (MSTR). On Friday morning Chevron (CVX) announces results. Intel (INTC) will host an analyst meeting on Thursday. UBS is hosting a two-day Global Specialty Pharmaceutical Conference beginning Monday in New York City..

Economic releases this week that investors will be watching include Tuesday's report on April Consumer Confidence and March Existing Home Sales. Wednesday morning March Durable Orders will be released followed by March New Home Sales and Weekly Crude Inventories. The most significant event of the week will be Fed Chief Bernanke's testimony before a joint congressional panel on Thursday. On Friday the Q1 Employment Cost Index, GDP and Chain Deflator figures being announced prior to the open on Friday followed by the Revised April Michigan Sentiment Index being released shortly after, along with the April Chicago Purchasing Managers Index.

In summary: Investors need to focus on the continuing earnings reports this week and the price of oil as it breaches $75 per barrel.

Stay tuned!