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July 19, 2006

Upside Bias

The upside bias I mentioned in yesterday's post manifested itself in today's session in the form of a 2% rallies in the S&P 500 and Nasdaq Composite. The positive bias certainly did not help Yahoo shares, which were mutilated after reporting disappointing earnings and delaying the launch of some important software which they have touted will significantly improve ad revenue. I dumped all my Yahoo puts early in the session in order to lock in gains and increase my firing power for what may be the shorting opportunity of a lifetime at the end of this rally.

Yahoo aside, companies were hitting their numbers left and right. CDW Corp pleased traders with better-than-expected sales growth, and its shares popped 13% before settling for an 8% gain. IBM rose 3% after its results were posted, and in the banking arena, both JP Morgan and Bank of America posted sharp gains. The net result of all this euphoria has been to increase confidence as we head deeper into earnings season. Traders were not even shy about snapping up shares of the companies that report this afternoon as Lam Research was bid up 5% and Apple Computer, 3%. Intel even turned an early 1% sell-off into a 2% gain. I guess no one fears another Yahoo-like result.

A large part of today's fervor can be attributed to interpretation of Big Ben's testimony to the Senate Banking Committee. Two comments he made got everyone excited about a pause in the rate hike campaign. First, Bernanke mentioned that the Fed must be wary of the lagged effects of previous rate hikes. In other words, they have to be careful of going too far. His second statement is quoted: "The extent and timing of any additional firming that may be needed to address inflation risks will depend on the evolution of the outlook for both inflation and economic growth."

Traders took the "timing" part of this quote as another hint that a pause was imminent, but if you think about it, Bernanke didn't say anything other than that decisions will be data-dependent... same story we've been hearing all year! I do not think the Fed will pause in August. Bernanke simply needed to throw us a bone to try to win back some favor.

Equities certainly look poised to party on for a bit, but I have the impression that this is a last-gasp rally. Fears over the Fed's intentions will not peter out so quickly, and I don't believe earnings will continue to stimulate bidding. Despite the market's oversold condition, I have an itchy trigger finger to reload on shorts. I have closed well over half my positions, in dollar terms, since late last week and feel underexposed. Nevertheless, I am reticent to fight the tide of market psychology, so I expect to find myself mostly on the sidelines until I'm sure this bounce has played all its cards.

Disclosure: Short LRCX, INTC; Long INTC Puts


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