A Rebound.

Stocks for the most part erased much of last week's losses. I think this is largely because investors are increasingly coming around to the view that the Federal Reserve is almost done raising interest rates & one or two more increases may finish the job. Friday's weaker than expected GDP strengthened this idea.

The stock market rally the last couple of days brings us back near highs the markets made earlier this month. We should now carefully watch to see how equities react next week. The FOMC's interest rate decision due on Tuesday afternoon could clue us in on the markets next direction. A sudden price surge on heavy volume that breaks out to new highs would be longer term positive and could set the stage for much higher prices in the next several months. Likewise, A market that fails at these levels could be in danger of revisiting last week's lows or worse. However, it is more likely that stock prices will need to rest and consolidate this current range. It would not surprise me to see stocks tread water for most of next week. This backing and filling would be healthy and could leave the market poised to then move higher.

One area that could prove to be an attractive area of investment if we are close to the end of this interest rate cycle are the shares of financial institutions*. Many of these companies are well known names & have not really advanced much in the last two years. In addition many of them pay very attractive dividends. Indications that interest rates are done going up could be very beneficial to this group. There are also several ETFs devoted to financial companies that investors can purchase as well.

*Accounts of Lumen Capital Management may own individual securities or ETFs in the above mentioned sector at this time. Please not that positions can & do change from time to time. Purchases and Sales of securities and portfolio holdings varies among Clients of Lumen Capital Management due to their individual portfolio goals and risk parameters. Nothing in this post, past or subsequent postings should be construed as advice to buy or sell any particular security.

Coming Election Troubles for the GOP?

This article appeared in today's Chicago Sun-Times under the headline "Thousands Apply For Jobs At New Walmart". http://www.suntimes.com/output/news/cst-nws-walmart26.html.
According to the paper 25,000 applied for 325 jobs. Possible political problems for the GOP down the road? See my surprise #9 for this year.

Also per surprise #9 see http://www.simonsays.com/content/book.cfm?sid=33&pid=511346. Paul Begala and James Carville (the folks who brought you Bill Clinton) have published a new book entitled "Take It Back, Our Party, Our Country, Our Future". Nature abhors a vacuum & if the Democratic Party can't come up with a political blueprint then these two Democratic operatives seem ready to fill in the blank empty spaces.

Could be a real eye opener come November

Regarding the Middle-East

Here's something to chew on. This fellow at the Asia Times sees the war clouds gathering. I found out early on in the investment business that you can learn a lot by:
1) Looking at Maps
2) Following the Money
http://atimes.com/atimes/Middle_East/HA24Ak01.html

In the end it mostly comes down to oil.

Event Risk Defined.

I was asked in an e-mail today what I meant by "Event Risk" Here in a general sense is a reasonable definition.

1. The risk due to unforeseen events partaken by or associated with a company or within a market or its individual sectors. 2. The risk associated with a changing portfolio value due to large swings in market prices. Also referred to as "jump risk" or "fat-tails".

Source: http://www.investopedia.com/

Now That Was Ugly.

The market was beaten with the ugly stick this week. There is no way to sugar coat that fact. The world conspired to serve up a wicked stew of nasty events. This is the week that fraud at a Japanese internet firm knocked shares on the Tokyo Stock Exchange down over 6% on Wednesday and forced it to close 20 minutes early. http://news.yahoo.com/s/ap/20060118/ap_on_bi_ge/Japan_markets. The Iranians seem to be intent on forcing a major confrontation with the West and Europe is suffering through one of its coldest winters on record which is forcing up the price of natural gas. The saber rattling from Osama bin Laden also didn't help.

Earnings also were punky. High profile companies disappointed or reported earnings that were not better than Wall Street was looking for. It was a week in which "Event Risk"-a subject for a future post- reemerged as a problem for individual securities. Throw in a really ugly options expiration on Friday and you have the makings of a rout. On the day the S&P 500 lost close to 2% while the NASDAQ Composite was down over 1.5%. America's love affair with all things Google was repaid with a 37 point loss. That's real pain for the buyers of that stock on Wednesday or 70 points ago.

Now at the moment most of the major averages have given back the majority of their gains for 2006. The good news is that the overbought state we talked about last week is being pretty quickly worked off. See this link to an SPY chart to illustrate this point. http://stockcharts.com/def/servlet/SC.web?c=SPY,uu[m,a]daclyyay[pb50!b200][vc60][iUb5!Li12,12,6]&pref=G. The collapse of RSI and the stochastics readings (basically price measures which assist in measuring the mood of buyers and sellers of stock) place them both back into areas from which price often shows a probability of a rally. I will cover how I use these in a future post so don't worry if these terms mean nothing to you. For now just take my word on it.

The markets have fallen back into the consolidation ranges where they last traveled for most of December. That should provide some near term support for prices. In fact a lot of indexes and individual names were savaged enough by Friday's decline that I am inclined to do some looking for buying opportunities* in these beaten up areas at some point next week. I would really step up this process if the market has a gap down open on Monday.

The other side of the coin is that we now have to consider the possibility that the market may be capped to its upside at the price levels from which it started to retreat early last week. A market that is unable to break to new highs on any subsequent rally from these or lower levels just raises further suspicion that the price movement we experienced from last fall is either over for now or in need of a rest. For example if the SPY is unable to move above that 128 level on any subsequent rally it is likely to retreat in price or remain range bound for the time being. That would again force me to be a net seller of stocks for clients* in the coming weeks and months.

*Purchases and Sales of securities and portfolio holdings varies among Clients of Lumen Capital Management due to their individual portfolio goals and risk parameters. Nothing in this post, past or subsequent postings should be construed as advice to buy or sell any particular security. Certain clients of Lumen Capital Management, LLC are long SPY although postions can and do change from time to time.

A Bit Too Frothy.

For the first time in a couple of months I must admit to being a little worried short term on where we are with the market. I was going to try and illustrate some of my concerns by posting a chart of the SPY (ETF on the S&P 500) to show you a part of what I use to measure over-bought & over-sold readings on the market. Unfortunately I can't get my editing system to download my charts right now. I'll work on it and try to come back with something later.

If I could show you the charts we would notice that the market is very over-bought and has traveled quite a distance in a very short time. The other thing I'd point out is that the major averages have all had pretty decent moves since hitting lows in the September-October period. For instance, the S&P has advanced about 10% since its October lows. That would annualize at something close to 40% if it were to continue. Moves like that just seem to bring more money into the markets. The data showing up from mutual funds on money flows is confirming this at least in early January. When that happens it is often put indiscriminately to work.

The price of oil seems to want to go up every day. If this continues it could at some point put a lid on the market's valuation. Iran's nuclear issue seems to want to play center stage earlier than I imagined {See my 10 predictions for 2006}. What may be worse for stocks though is that the beginning of the earnings reporting season is upon us. So far the few companies that have reported have not set the world on fire with results and forward guidance. The meat of these results begins next week and we should see if this trend continues then. Now I don't want to overthink this and be Chicken Little.. I don't think at this point that we are looking at the beginning of catastrophic price declines. But seeing how far we've come and trying to balance the risk reward equation for each of my clients, I do think that for the most part I will be somewhat of a net seller next week in accounts that I feel need a bit more cash. Cash is the best defense against a market decline. Again I'm not thinking that I'll be an aggressive seller but I do believe that the market is in need of a rest and plan to act accordingly.

Net Seller defined: The some total of all transactions taken by Mr. English for his clients at Lumen Capital Management, LLC. This can and often does vary among clients due to their individual portfolio goals and risk parameters. Certain clients of Lumen Capital Management, LLC are long SPY although positions can & do change over time.

10 Surprises Part II

The last five prognostications for 2006.

Please remember that these surprises are not intended to be predictions, but rather events that have a reasonable chance of occurring despite the general perception that the odds are very long. Again I prefer the term for these as “possible improbable” events.

6. Microsoft’s pending release of its Longhorn (recently renamed Vista) operating system sparks a major and unexpected rise in technology stocks. This is particularly seen in the 2nd half of the year. Technology begins to significantly outperform the market starting in early spring and this carries over through the end of the year.

7. There is no major real estate decline (with the exception of a few over built highly speculative areas). The American consumer continues to spend and muddle along. The Federal Government is finally forced to admit that its measurement of inflation is hopelessly out of date and inaccurate.

8. US economic growth continues at a 3-4% rate. The reconstruction of New Orleans is placed “off book” ala the Resolution Finance Corp in the early 90’s. Tax receipts come in higher than expected. The Federal budget deficit's growth slows. President Bush announces a new timetable for troop withdrawals from Iraq in his State of the Union address. He will significantly accelerate this in the fall {see #4}. This surprise move on troop withdrawals comes from significant progress in Iraq and to political necessity at home. {See #9}.

9. Taking a page out of the 1994 Republican playbook, the Democrats reinvent themselves with their own version of the “Contract with America”. In it they list specific proposals to deal with healthcare, Social Security, new programs for the middle class, energy and the environment. This plus increased dissatisfaction with the war in Iraq and President Bush’s policies lead to a Democratic takeover of the House of Representatives and narrows the Republican majority in the Senate. Illinois Representative Rahm Emanuel is elected Speaker of the House. Al Gore emerges as a major contender for the 2008 Democratic presidential nomination. Hillary Clinton is significantly weakened among her base for what is perceived to have been her hawkish stance on the war.

10. The stock market stages a explosive rally at the beginning of the year and posts its best showing in the 1st Quarter of 2006 since March-May of 2003. Many of the above stated events catch up with equities during the spring and the market has a flat showing in the 2nd Quarter. The market gives back much of its gains in the summer months and loses an additional 3-5% during the fall Iranian crisis. It then stages a massive rally and ends the year with its best returns since 2003.

Surprise Pick #11. Notre Dame Fighting Irish go 12-0 including a 31-3 dismantling of Penn State on September 9 in South Bend and a surprisingly easy win over USC at the end of the season. The Irish win the national football title by prevailing in a Fiesta Bowl rematch with Ohio State on a last minute touchdown pass from quarterback Brady Quinn to wide receiver Jeff Samardzija.

10 Surprises Part I

Following in the tradition of some very smart investors, namely former Morgan Stanley strategist Byron Wien and Street Insight commentator, Doug Kass, I have prepared a list of 10 possible surprises for 2006. To borrow the rationale for doing so from these gentlemen I will state in their words the reasons for going through such an analysis.

“These are not intended to be predictions, but rather events that have a reasonable chance of occurring despite the general perception that the odds are very long.” Kass calls such prognostications “possible improbable” events.

“The real purpose of this endeavor is to consider positioning a portion of a portfolio in accordance with outlier events. After all, Wall Street research is still very much convention and groupthink, despite the reforms over the past several years. Mainstream and consensus expectations are just that, and, in most cases, are deeply imbedded in today's stock prices.”

So with apologies to the above stated gentlemen here is my list. You can read Kass’s thoughts here. http://www.thestreet.com/comment/investing/10259674.html. In a couple of weeks, I’ll weigh in on what I think about predictions. I will publish the 1st of my 5 surprises this week and weigh in with the rest next weekend.


1. The size and scope of the destruction around New Orleans and the Gulf Coast makes the attempt at major reconstruction unfeasible. Federal focus shifts instead to property buyout programs for the residence all along the affected areas and towards long term infrastructure development particularly regarding the levee system in and around New Orleans. Long term redevelopment of the region shifts to plans for property purchased by the Federal government to be resold at some point to the private sector. The City of New Orleans remains a virtual ghost town. Many of its citizens accept the buyout offers and the city population one year later remains about 1/10th of its former size.

2. Unrest in Latin America ushers in many left of center newly elected governments. Many of the region's newly elected leaders style themselves as populists after Venezuela’s Hugo Chavez. Much is made in the American press of the “Bolivarian Revolution” sweeping through these countries. In Mexico the Mayor of Mexico City, Andres Manuel Lopez Obrador-a socialist-, is elected President. This comes about due to massive resentment over current President Vicente Fox’s accommodative polices with the United States. The fear of economic dislocation contributes to the rise of certain commodity prices during the 1st 8 months of the year. (Please note that I have borrowed from other writings to formulate this opinion which therefore is not entirely my own. These include the above mentioned Doug Kass & Jackson Diehl of the Washington Post. http://www.washingtonpost.com/wp-dyn/content/article/2006/01/01/AR2006010100387.html).

3. Owing to a colder than expected winter in the northern hemisphere, above stated renewed unrest in Latin America and worries about Russian energy stability, the price of both natural gas and oil continues to climb until the autumn. Gas reaches $3.50 a gallon in much of the US during the summer holiday and vacation season.

4. Concern over the development of nuclear weapons brings about a major crisis with the NATO nations (United States and Europe) finally bringing a case against Iran to the UN Security Council. Both the NATO nations & Israel leak plans of massive air assaults on Iranian reactors in the event that no settlement can be reached. Iranian President Mahmoud Ahmadinejad’s continuous verbal public assaults against Israel and hinted threats of nuclear retaliation do nothing to deter the crisis. Alarmed at this result Ahmadinejad is replaced in late September. A deal is brokered by the Russians enabling the Iranians to process plutonium in Russia thereby making it impossible for the material to be used for nuclear weapons. In exchange Iran is granted certain international research exemptions by the International Atomic Energy Agency {IAEA}and in a secret memorandum it is understood that the US will accelerate it’s timetable for troop pullouts from Iraq. This escalation leads to a sharp two week sell off world stock markets in mid September and a large rally in US treasuries and gold during that time.

5. There is a major political disturbance in China which forces its government to devote much more time to domestic issues. As a result there is little to no progress on western trade issues or currency revaluation. Chinese officials privately let it be known that much progress in these two areas is off the table until after the 2008 Olympics.

New Year. New Posts.

Happy New Year. I'm going to start 2006 with a renewed committment of putting something on this blog at least once a week. {I may post short notes or pehaps a chart with annotations at various times as well} I have a variety of general market and investment topics that I want to cover this year. In particular I plan to devote a fair amount of time to the investment discipline and what I think it takes to make money in the modern stock market. Please e-mail me with any other articles you'd like to see covered. Please see my April 26, 2005 post in order to get an idea of what I'm trying to do with this blog. Good luck and have a prosperous 2006! Email to Lumencapital@hotmail.com.