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April 13, 2006

No Holiday Spirit

Given the short-term oversold state of equities and a history of strength in the days around Easter, I was curious to see if bulls could use the light-volume environment to mount a rally. They did not. Though the indices were ramped higher in the early-going, lead primarily by tech, the gains were not held, and stocks finished only slightly above where they started.

Too much should not be read into days thinned by a holiday atmosphere, but I nevertheless get the impression that bulls are playing with a weak hand. If so, any sort of disparaging news coming from earnings, interest rates, or geopolitical events, will spur stocks to sharply lower levels. Next week we receive a slew of high-profile earnings reports, including Intel, Texas Instruments, Yahoo, Apple Computer, Google, Newmont Mining, IBM, and Pfizer. The list goes on. The point is that the results of next week could define the intermediate direction of equities.

Lending no help to the bulls are bonds prices, which fell sharply again today. The 10-year Treasury now yields in excess of 5% for the first time in nearly four years. I have written of my belief that bonds entered a long-term directional shift last year. In fact, it could be argued that the bond bull died in 2003 and the subsequent rally into 2005 was simply a back test or double-top. Plunging Treasury prices also increase the pressure on the Federal Reserve to defend the dollar, meaning that barring crisis, rate hikes are likely to continue further than most people expect.

Such a realization would prove detrimental to all asset classes, including commodities. Any setback in commodity prices, though, would prove to temporary and an excellent buying opportunity. Despite rising short rates, the Fed has continued to pump money into the system. Once we are faced with a crisis, which is inevitable, Mr. Bernanke will pump dollars even faster.

The important question is on how to play such scenarios. For the time being, I am concentrating on getting short equities because they appear to lose either way. Rising rates will sink them and, should the Fed begin cutting rates, the damage done to the dollar will also sink stocks as traders seek non-dollar denominated assets.

Disclosure: Short INTC; Long INTC, YHOO, GOOG Puts; Long NEM Calls


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