From Merrill with a new employee and different perspective:
Recent data indicate that the economy has been accelerating during the current quarter after sputtering late last year. A number of factors - the cooler housing market, the drag from high energy prices - suggest that the consumers are likely to trim their spending in the coming months and that the economy won't gallop ahead indefinitely. None the less, GDP growth isn't about to stop on a dime. One bright spot is the capital spending side of the economy, which accounts for about 11% of total GDP. It could provide a stronger-than-expected growth push in the quarters ahead. Signs pointing in that direction include an upturn in unfilled orders for capital goods, an increase in commercial and industrial loans, higher than average levels of cash on corporate balance sheets, and rising capacity utilization rates in many industries.
Another point to consider is that pricing has been improving in a number of sectors. Even though broad measures of inflation have been well-behaved, corporate sales have been growing at double-digit rates for nine consecutive quarters. That is a plus on several scores: it demonstrates that underlying demand trends have been on the strong side, which ought to encourage companies to increase their capital spending; and it provides a strong hint that the outlook for corporate profits is good. The current consensus is that S&P operating earnings will increase by about 11% this year, down from 13% last year but well-above the long-term average of roughly 7%. If corporate sales continue to rise at double-digit rates, the consensus earnings forecast could prove to be low.
Contrary to the consensus, we think that the Federal Reserve will end its tightening campaign soon. We expect the FOMC to push the funds rate to 4.75% at the March 27-28 meeting. That's likely to be the peak. Policymakers will begin to ease during the second half of 2006, in our opinion, and the funds rate will be down to 4.25% by the end of the year. The easing is likely to continue into the first quarter of 2007, with the funds rate reaching 3.75% and stayinf there throughout the year.
The inflation numbers were the brightest note in the recent economic data. Core PCE prices increased by only 0.16% pushing the yearly rate down to 1.8% from 1.9%. Fed Chairman Bernanke said recently that his greatest concerns for the economy are higher inflation (which would mean higher interest rates) and a downturn in the housing market (which would mean lower rates). He seems to be getting considerably more of the latter than the former. In spite of the Fed's worry that the low unemployment rate will fuel higher inflation, just the opposite continues to unfold. We expect a re-play, more or less, of the soft landing of 1995-96.
A final point: an inverted yield curve tells little, if anything, about the direction of the stock market. The correlation between the yield curve and the direction of the stock market is basically zero.
The oceanic account went back above the $1M this week - hope I can hold the positions and add some gains this week - I'm frankly starting to get excited with all the bear paws around. The old story is that bull markets do not like company, the market will do everything it can to make the majority gun shy and keep the bears from recognizing the prevailing trend. Just look at the head fake we had before the close on Friday - frustrating but some times necessary.
Dennis - the bullmeister.
