A Weekly Outlook and Analysis of the Global Investment Climate September 25, 2000

Not Priced for Disappointment
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Dow Jones Industrial Average

Nasdaq Composite

That is the thought, which no doubt dominated traders' minds last week as they watched the market punish their full faith in Intel. This week should be more fun as earnings season rapidly descends upon Wall Street like the sun that has already set and it is suddenly nightfall. As politicians woo different industries and jump on all sorts of diversions to distract you, keep an eye on how gold prices fare this week after a bullish close on Friday. Isn't this week the one-year anniversary for the Washington Agreement, by the way?

The problem is always too many dollars
A dangerously flawed and incredibly inflationary argument is that higher oil prices and a strong dollar will do the slowing for the Fed. Wrong, wrong, wrong. Notwithstanding that such a position also argues for easier money at precisely the wrong time, maybe we have already reached a crisis point for the strong dollar. Should it rise further, the almighty buck threatens to crack the Euro wide open, but should it fall precipitously, the excess dollar (or inflation) problem can reveal itself quite quickly. Keep this contention in mind while reading the next section.

It isn't manipulation
It might be called US investment policy, though. Last week ended on a quasi-bullish note for the stock market as the Administration and the Treasury took controversial steps to give Wall Street what it apparently wanted, the prospect for lower energy prices and a coordinated intervention to boost the Euro. And, both came ahead of the G7 meeting this weekend, possibly suggesting that the timing of the inevitable moves might have been prompted by Intel's surprise announcement and subsequently, its expected collapse on Friday. Actually, such politics may have undermined the bulls, which have literally been pleading their case for a selling climax (or shakeout) to attract fresh capital as their prognosis for the next market leg. They have so large a vested interest in this stock market that they are reluctant to throw any meaningful new capital at it themselves, I suspect, until at least a vicious bear assaults the Dow 10200 support and they are confident that the level will hold. Psychologically and technically, I sense further selling is therefore needed before any such new confidence can even be aspired to. So, unless oil prices actually collapse this week, and unless the Euro firms considerably, do not expect to see much enthusiasm from Wall Street on this political platform.

Still, many bulls (perhaps the young ones) have been systematically anticipating and buying every selling climax since last Tuesday, albeit at lower and lower levels. By Thursday, I understood why. Market psychology was getting set up for a bounce. A well-known NASDAQ anchorman (initials T.C.) last week declared, "It is not a strong dollar problem, but a weak Euro problem." Well it is now. Great spin though!

Bear with me (pun intended) and assume for the moment that there is a Master of the Universe Spin-Doctor, weaving all sorts of "interpretative" commentary through a media source that he owns and "everyone" watches. Hypothetically then, here is how that kind of spin might work. If you all perceive that it is a weak Euro problem rather than an inflationary Dollar policy, and then the Euro strengthens on (a well-planned in advance) G7 intervention, everything will all look Ok again, right? In other words, because the focus has shifted to the Euro, the US stock market decline which was already en route (don't let anyone tell you otherwise) can be blamed on the Euro collapse, and maybe, just maybe, the party can go on after a good old fashioned shake out in both the Euro and the stock markets.

Oh brother, maybe I am pushing the boundaries a little, but could such arrogance exist out there somewhere? Put it this way, surely Mr. Costello does not have express permission to just interrupt someone else's broadcast so as to convey "his personal" views on the air in the form of a news flash, does he? If this hypothetical media group were to notice a decline in their ratings at any time soon, perhaps they ought to consider not treating their viewers like sheep. It is ironic though, that it is the shepherds that increasingly look the same…your morning smile!

Global Equity Markets
A look at the main index charts will leave you with the uncomfortable feeling that there certainly has yet to be any kind of a selling climax in US stock markets, though the technical condition appears to be weakening and weakening further by the week. Note the increasing gravitational quality of the 200-day moving average in nearly all of the main index charts.

NYSE Composite Index

Dow Jones Industrial Average

Excluding Microsoft and Intel, the Dow Industrials were up almost across the board on Friday, as both presidential incumbents have succumbed to courting Wall Street bulls with calls, particularly for more R&D spending in the drug and biotech area. Ironically, who ever will win the election will wind up with one hell of a stock market problem on their hands. That is to say, if the developing technical picture proves to be wrong in the interim and the stock markets have yet to succumb to their own fate by then.

Aside from the rare exception (six at most), a close inspection of the 30 individual Dow charts will reveal that Friday's late session market bounce did not of course enhance any other component's technical condition. Promises for grander R&D budgets drove biotech issues higher on Friday and even promoted drug stocks like Merck (a Dow component) onto investors' radar screens. Other Dow components, such as Boeing who Mr. Bush has perhaps been courting with higher military spending promises, General Electric, and McDonalds (whose stock should benefit from a higher Euro and lower oil prices, courtesy of both Al's), also ended the week well. In my opinion, none of these components reveal any real new leadership potential resulting from Friday's activity however.

Boeing Co.	General Electric Co.
McDonalds Corp.	Merck

Conceptually, I have to concede that there is some room for growth in bullish psychological capacity within the biotech sector as new discoveries are made, but it would be isolated, unless we were to someway envision the United States becoming a kind of hospital for the world. Don't let Kudlowians get a hold of this one. Seriously though, if I were a bull, which I am not, not only would I be chasing nurses, but I would be looking for a bounce in McDonald's shares this week, particularly if the Euro holds its short term trajectory and oil prices actually do soften over the next few days.

Nasdaq A/D Line

CBOE Volatility Index

Alright, Back to Reality
Market breadth continues to materially deteriorate for the speculative technology issues. Note the new lows in the Nasdaq A/D line last week. The hope for a bottom in the NYSE advance/decline line, similarly, may before long turn into a pleading if the bulls don't make a stand soon. Perhaps most noteworthy of the generally disconcerting technical developments in US equity markets, is the action in the Volatility Index (VIX), which has spiked again to the upside in September. In other words, the volatility has come back on the down side (for stock prices); such as it did in early April 2000, mid October 1999, and in August 1998. I suppose that in the end, this kind of indicator may prove to reflect nothing but the suddenly permanent existence of a jumpy investor class. Perfect for a free market system that is trying to allocate its resources efficiently, wouldn't you agree? Perhaps when they become more confident in their abilities they won't be as jumpy, right?

French CAC Index

German DAX Composite

As if confirming this bearish tone, European stock markets sold off sharply and decisively, through not only their 200-day moving averages, but also through serious intermediate technical support. Asian markets, similarly, have taken a turn for the worse this week.

Hong Kong Hang Sang Index

Tokyo Nikkei Average

Even the mighty Canadian stock markets have busted through a nice upward trending price channel, in which they have been losing momentum anyway.

Naturally, if the world were to suddenly wake up to the fact that US stocks have really been in a bear market for the past year and a half or so, it might even solve the paradox: why many investors haven't been able to make money in stocks even though the statistical averages just keep going up?? Were such an epiphany to overcome Wall Street, the wild Canucks might have to take a few steps back in search of their own roots. Hopefully they will find them, because a fierce bull market lies that way for them someday, maybe soon.

TSE 300 Composite

Trivia: Did you know that during the late stages of the inflationary seventies, this index outperformed the Dow, hands down? I believe that was also the last time that the Canadian dollar reached parity with the US dollar.

Oil priced in Euros?
Frequently, with this administration, you can never tell whether they have made a real decision or not because they tend to like to throw ideas out into the marketplace first, and watch for a reaction. So, if oil prices react bearishly enough, they will probably really start selling. In my view, this is precisely the event that should suck them into actually doing so. You don't actually believe that they are vain enough to sell a portion of their SPR into a rising market do you? What would it say to speculators if the US government cannot actually make oil prices decline?

The Strategic Petroleum Reserve's current size is 570 million barrels of heavy (not light) crude. Daily global oil production is roughly at 80 million barrels per day, of which the US consumes about 15 million daily barrels (imports approach 10 million barrels per day, while domestic production approaches 6 million - International Energy Administration). The US shortfall then, is 9 million b/d, which is imported. Together with other domestic stocks of crude, should a real crisis develop, Americans can theoretically live well for about three months before they will be forced into siphoning energy secrets (read supplies) from each other in quiet suburbia.

That said; the "Gore" plan was originally to start releasing up to 5 million barrels, from the official stock of oil, directly into the market in tranches. After enough criticism, some more serious number crunching, and declining polls, the new idea is to release 1 million b/d from the SPR over the next 30 days. What this means is that, for all intents and purposes, the crisis may have already started, by virtue of this simple political deliberation. Clearly then, Al Gore is fixed on doing Europe a big favor. For who is going to be buying the oil? The American Petroleum Institute says that domestic refiners are up to their eyebrows in heavy crude, running at 95% of their capacity. The institute also heavily opposes selling the reserves directly into the market, though I have no idea what else can be done with them. My only question is to wonder if the Euros will give it back when the Dollar gets into trouble?

Ever asked yourself, why it is that the Europeans have to buy dollars in order to buy their oil? Ah yes, US investment (the strong dollar) policy. The English are said to have some good ideas on investment ideas themselves, only they won't quite tell us what they are. The BBC reports that "The IMF Hints at Oil Deal." According to the report, the IMF's main policy committee, chaired by the UK's Chancellor of the Exchequer, Gordon Brown hinted that the proposal would be for a way to bring consumers and producers closer together. Excuse me? Here, I've got an idea for them: why not set up an online oil inventory management system and tout the Internet as the world's savior, or simply price mid-east crude in Euros?

U.S. PPP - Purchasing Power Policy
Larry Summer's days are numbered through no fault of his own; the day is already approaching when America will need to weaken the dollar if it is to ever grow again. When that day arrives, Mr. Summers will either continue to publicly support the "strong" dollar while his superiors secretly undermine his policy, and thus, his credibility, or he will publicly announce the change in policy and get thrown out of office for causing a collapse in the USD. These forces are already in place, and Rubin knew it. What a trader!

Industrial Metal Prices - GSCI

Employment Cost Index - total compensation

Meanwhile, the US dollar (currently the global reserve currency) continues to lose its general purchasing power in terms of most everything but other fiat currencies and the wonderful array of cheap goods and services priced in Euros. You saw the commodity index last week.

This weekend in The Australian:

"European Central Bank president Wim Duisenberg said the currency intervention was designed to create an 'orderly reversal' of the recent exchange rate transactions. 'We came to the (shared) conclusion that the recent forex movements had gone far beyond what was justified by the fundamentals,' he said. 'The instrument of intervention remains in our arsenal.' The US decision to join the push also surprised market analysts, who thought the Clinton administration would not want to be seen writing down the greenback in the lead-up to the presidential election."

This is the Plaza Accord in action. In another G7 communiqué, perhaps intended to illustrate the potential for further intervention, Duisenberg said that,

"In light of recent developments we will continue to monitor developments closely and to cooperate in exchange markets as appropriate."

If all G7 members agree that the Euro is undervalued, we mustn't forget that they all obviously acknowledge the overvaluation in the dollar as a necessary consequence of that position.

A SafeHaven Run
To where? Long bond yields are going higher. Shouldn't a safehaven run push yields down? Yes, but not in the speculative 30 year if you are running from inflation.

30 year US Treasury yield

The yield curve is still inverted, but while the long end is beginning to normalize, the short end hasn't budged, maybe revealing some hedging activity likely related to upcoming corporate supply. But also, some anxiety is probably pushing money down the curve and into the five and ten year government paper. Presumably, this is going to be a tough week for economic readings, starting with home resale data this morning, consumer confidence tomorrow, and a whack of other output numbers ending on Friday with the Chicago Purchasing Manager' index. This explains the move into the middle of the curve, but again, the interests of the stock market and the bond markets collide. Should oil prices stay generally firm and should the equity bulls show up this morning, expect long yields to rise even higher.

Sincerely,

Edmond J. Bugos