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Abridged Free Issue

AUGUST 20, 2006

Preservation of Capital Is Our Highest Priority
Eighteen Years in Publication

Last Issue: Aug 6

Next Issue: Sep 3


A Contrarian View Of The U.S. Stock Market:
18th year in publication and 8th year on the internet

by Dr. Z. Williston

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Disclaimer: You may view and utilize this FREE weekly newsletter so long as you agree to the following terms and conditions: Contrarian Outlook is meant to be educational and informative, but we cannot guarantee accuracy or profits using the proprietary system used in the various grids and indicators. All information is provided on an "as is" and "as available" basis without any warrantee or guaranty of any kind. Under no circumstances will you hold Contrarian Outlook liable for any direct, indirect, incidental, punitive, or consequential damages of any kind whatsoever. You understand that you are responsible for your own investment research and investment decisions. Furthermore, nothing in Contrarian Outlook should be understood as a directive to buy or sell anything or to take any specific action.You determine how Contrarian Outlook best meets your needs and how you will use it, if at all, in your investment decisions. In accordance with Title 17 U.S.C. Section 107, this material is distributed without profit to those who have expressed a prior interest in receiving the included information for research and educational purposes.

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Contrarian Outlook is published every other Sunday by 3 PM Pacific Time with Bulletins as needed for email subscribers.
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PUBLISHED EVERY OTHER WEEK with bulletins to email subscribers as needed.

A different view of the Stock Market: 16th year in publication and 8th year on the internet.

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Market Chart Since Last Issue

Momentum Indicators
(graphics for Momentum Indicators in subscription version)

The Stock Momentum Indicators this week continue the dramatic change we saw last time with all time periods in the green as the rally continues. Market internals continue to improve because Big Money is relieved that the Fed’s cycle of increasing interest rates is over. Since Big Money cares little about history, stock buying is the order of the day. If they cared about history, they would know that the odds are much greater for a lower Market 3-months and/or 6 months from now. But Big Money is enthusiastic about the Market for this year and next. For the year to date, the broad Market is higher by 4%. The media talking heads describe the Market as though it were up 50% at least. The Market continues to follow my prediction for the year exactly.

Momentum: Precious Metals continued to weaken so the short-term indicator is now red. Other time periods have weakened as well, but are still holding green at this time.

Momentum: Oil indicators have changed dramatically with the decline in oil this past week. The price has been close to all moving indicators for several weeks, so it is not surprising that oil closed Friday below the short-term and intermediate-term. The long-term remains green, but just barely. I do not expect the lower prices to last much longer, even though I do expect a record warm winter across most of the U.S.

Market Internals Strengthen

Recent Market Action And Commentary

The broad Market extended its winning streak Friday to five consecutive days. Trading during the first half of the day was marked by weakness as traders locked in profits from recent Market gains. Buying took over by the afternoon session and the selling of the morning faded. Some leadership in tech, tobacco, and energy helped the afternoon rally.

During the trading day Thursday and in the morning session Friday, the Market was "acting tired," and looked like it wanted to retrace the recent rally to the downside. The disappointing news from Dell (DELL) (my rating in the subscription version), a rate hike in China, and a slight rebound in oil exacerbated the decline.

However, by Friday afternoon, it was clear that the bulls continued to call the shots, helped by an announced share buyback plan from Microsoft (MSFT) (my rating in the subscription version)and a historic high on shares of Altria Group (MO) (my rating in the subscription version) following a favorable court ruling. Buying in Microsoft and Altria (both Dow components as well as two of the most influential S&P 500 constituents) eventually helped investors look past an SEC probe into Dell's accounting practices and continue the rally.

Of the eight sectors posting gains, Energy led the way higher, as companies like Dow component Exxon Mobil (XOM) (my rating in the subscription version) benefited from oil prices closing higher for the first time in five days. Crude oil futures rose 1.5% to $72.10 per barrel on fears of sanctions from Iran and the fact that the commodity was oversold, having slipped more than 4% during the week.

On Wednesday came word that Consumer inflation accelerated in July. (Wow! What a surprise!) In evidence that the economy is slowing, industrial output in July slipped to just half the June pace. (Wow! What a surprise!) The government propagandists are working harder than usual these days to put on a happy face and make everything seem just fine, but the simple truth is that inflation is accelerating and the economy is imploding from the weight of crushing personal, corporate, and government debt.

The week before last saw a different story as the long-sought Fed pause finally arrived. In a sigh of relief that the Fed was done tightening, the Market dropped 1% for the week. Instead of breaking out the champagne, traders began worrying that getting their wish of no more interest rate hikes meant that economic expansion was slowing. They also got indigestion over the Fed’s policy statement that noted continued inflation risks and clearly left the door open for future rate hikes. The statement did note that "inflation pressures seem likely to moderate over time," but if inflation stays at current levels or increases, the likelihood is that the Fed will have to raise rates further. Inflation pressures likely to moderate! I don’t think so. They are accelerating every month! Stagflation has officially arrived… and there is nothing that the Fed can do about it.

Just three weeks ago, soft economic data was considered bullish and Big Money celebrated with heavy buying. Two weeks ago Big Money was depressed over economic weakness and sold the Market down 1%. This past week, Big Money was not the slightest bit concerned about a weakening economy and traders bought heavily. Such is the lunacy and nonsense of Big Money traders and their advisors!

The inflation rate today, thanks to the Fed flooding the world with nearly worthless U.S. dollars, has not been this high since the 1970s, when we had an acknowledged inflation problem. We all know that real inflation is running at well over 10% per year even with stable prices in a couple of areas like electronics. The government wants us to focus on what they call the "core" rate of inflation, an invention of the ‘70’s, to distract us from the real rate that does include food and energy. Even credible experts have real concerns about the way the inflation number is calculated each month. And inflation is going to get a lot worse before it gets any better.

We must remember, however, that although inflation is a real drag on the economy and on all of us individually, inflation is not necessarily negative for stocks, since inflation, historically, inflates stock prices as well as everything else. It is about the only "positive" factor that the Market has going for it these days.

But certainly the combination of inflation, a declining economy, record consumer debt, record low savings rates, record high government debt, softness in housing, and continuing revelations about corporate fraud is bad for stocks.

Now that the string of interest rate increases has come to an end, Big Money turns its attention to other issues… like those I mention above. Some weeks, those negative factors for stocks loom large, and other weeks they vanish from the radar and everything is coming up roses once again. Being invested in high-dividend-paying stocks helps us avoid most of the manic price gyrations of all the heavily hyped big name stocks.

The fact remains that real interest rates are not high enough to exert a significant negative influence on inflation. Central banks around the world have followed the lead of the Federal Reserve and have pumped enormous liquidity into the global economy over the past decade. This flood of cash has produced global inflation that is an unstoppable runaway train that can only lead to a wreck at the end of the line.

The Fed is unconcerned, as usual, after creating the problem, they are promoting the idea that the weakening housing market will slow the US economy, which will bring down inflation. And everyone lives happily ever after. The Fed chooses to focus on the inflation from a technical perspective rather than from a fundamental perspective which includes factors such as real interest rates and the money supply.

While insanity reigns supreme at all levels of government, contrarians must ignore the media, hyped stocks, daily and weekly market swings, and risky investments that fail to reward shareholders. We must protect ourselves as much as possible from the foolish daily and weekly swings in the Market. Closed end funds and stocks with a history of paying high dividends represent a strategy that works most of the time. I have suggested many of these investments over the past few years. This week I offer another favorite investment possibility for you to research and consider.

Now that interest rates have stabilized, (in the subscription version) looks like a good deal. This closed end fund pays close to a 7% dividend. It closed Friday at $10 per share. It has been as low as $9.56 over the past twelve months and as high as $11.59. You may remember that I first recommended this dividend play at $9.60. (details in the subscription version)

5 Best Performing Industries For The Week

  • (DJ is an abbreviation for Dow Jones)
  • DJ US Consumer Electronics Index +8.10%
  • DJ US Telecommunications Equipment Index +7.08%
  • DJ US Specialized Consumer Services Index +6.93%
  • DJ US Computer Hardware Index +6.82%
  • DJ US Electronic Equipment Index +6.77%

5 Worst Performing Industries For The Week

  • DJ US Exploration & Production Index -4.51%
  • DJ US Gold Mining Index -3.83%
  • DJ US Oil & Gas Producers Index -2.87%
  • DJ US Oil & Gas Index -2.67%
  • DJ US Oil Equipment & Services Index -2.38%

5 Best Performing Industries For One Month

  • DJ US Automobiles Index +15.30%
  • DJ US Asset Managers Index +13.92%
  • DJ US Toys Index +12.71%
  • DJ US Computer Hardware Index +12.06%
  • DJ US Home Construction Index +11.80%

5 Worst Performing Industries For One Month

  • DJ US Platinum & Precious Metals Index -9.00%
  • DJ US Mobile Telecommunications Index -8.91%
  • DJ US Delivery Services Index -8.68%
  • DJ US Coal Index -6.49%
  • DJ US Industrial Transportation Index -6.30%

View of the Grids Above
(subscription version)

The VI Index (Vulnerability Index) has fallen to a –13 this week due to better technical factors underpinning the broad Market. The end to a string of interest rate hikes often turns technical and sentiment factors more favorable, but the end to Fed tightening does little for fundamental or monetary factors. The reading this week is the first low vulnerability reading we have seen in some time, suggesting that the current rally will continue a bit longer. However, expect wild swings to continue intraday and intraweek for some time. These swings will reflect the insanity that we see regularly in the market: good news is bad news one day and good news the next.

The Investor’s Intelligence Indicator, a contrary index, gave a sell signal on December 30th. Now the latest Investor’s Intelligence reading of newsletter writers shows a bullish stance of just 40.9%. This is in the neutral range and is still not low enough to erase the sell signal of December. (Each week the service Investors Intelligence surveys some 140 financial newsletter writers to determine whether they are leaning bullish or bearish in their opinions to subscribers. The resulting Investors Intelligence Survey compiles the data to arrive at a weekly percentage of bulls vs. bears. The Survey is considered a contrary indicator, since extremes in either direction are signals of reversal of the market’s current trend. Generally when less than 35% of these newsletter writers are bullish, a buy signal is given. And when at least 60% of them are bullish, a sell signal is given.)

The Expected Range for the market over the next six months, using a Dow scale, is 10,050 to 11,500. Of course, the Market does not have to stay within that range; that is simply the expected range based on technical analysis of the highest probabilities. I do expect the Market to test or break the lower reading before the end of next year.

The MSI Index shows a continuation of the horrible trend (for those who are long the market… hoping it will go up) that began several months ago. However, this week we do see an improvement supporting the more positive trend in Market technicals. In the last issue, I pointed out that rallies often occur when this number gets down close to reading of –90, and that the Market was not far from that reading on July 21st. (This index considers many key technical indicators and wraps them into one number. I developed this formula about seven years ago.)

The Friday Market Momentum Index has improved considerably from the week before. Big Money this Friday was much more sanguine about holding stocks over the weekend than these traders have been some Fridays. Although they were not outright bullish, as they were four weeks ago, they at least did not end the week in a state of panic. (Remember: this grid is not predictive as some of the other grids are. It is merely a snapshot of how strong or week the Market really is on the final trading day of the week when Big Money is indicating confidence or fear about holding securities over the weekend.)

The broadest measure of the Market, for the two weeks since the last issue, shows a gain of 2%. For the past 52-weeks, the Market is up 8%, and this year, the Market shows only a 4% gain.

The Bull/Bear Index remains at a –1 reading after dipping briefly five weeks ago to a –2 reading. The new Cyclical Bear Market is now nearly three months old. (Cyclical Bear Markets normally run from two months to a year or so. The duration of each of the last four cyclical bear markets was short. A cyclical bear lasted three months in 1987, four months in 1990, ten months in 1994, and two months in 1998. By contrast, secular bull and bear markets last for a long time, typically five to twenty years. We are still in the secular bear market that began in 2000, so it is now seven years old.)

Recent PiVot Dates show the following results: On August 7th, the Market began a three-day slide that erased 1% from the Market. On August 8th , a rally effort early in the day failed and the slide continued. On the 10th , the Market reversed to the upside for a strong rally. And on the 16th the Market simply extended and intensified the rally begun on the 10th. The 16th was the important PiVot Date for the SOX index (semiconductors) since it marked the beginning of a powerful 2% three-day rally.

View of Charts I Monitor

Below you will find a brief summary of some of the charts I monitor with bullish and bearish implications noted after each. (subscription version)

Summary Comment

I expect that Market volatility and vulnerability will remain high for the rest of this year. The Bulls have the edge again this week, but I do not think any rally in this time frame will last very long. Sentiment and Technical factors are now bullish. Monetary and Fundamental factors are still bearish.

Longer term, I do not see how record consumer debt, the explosion in housing prices with increasing inventories, record low savings, declining wages, and increasing inflation can possibly support a higher Market… hence the importance of interest-paying stocks and funds with stops in place on everything else that is not part of a core long-term portfolio.

1 What do you mean when you say, "using a Dow scale?" Since the Dow Jones Industrial Average (DJIA) is the index with the longest history (back to May, 1896) and is the most widely followed U.S. index in the world, I use it as a reference point or proxy for the whole U.S. Market. The Dow has moved between 10,000 and 11,300 over the past twelve months, so when I write that I expect the Market to gain 100 points, using a Dow scale, over the next two weeks, everyone is on the same page. Such a scale is much easier for most investors to understand than if I were to write that I expect the S&P 500 to move 10 points higher or that I expect the Russell 3000 to move 15 points higher, which would be equivalent. Although I use a Dow scale for discussion purposes, the Dow Industrial Average is not representative of the whole U.S. Market since it is comprised of just 30 of the largest and most widely held public companies in the United States. By the way, the Dow Jones Industrial Average is one of several stock market indices created by "Wall Street Journal" editor and Dow Jones & Company founder Charles Dow. Dow compiled the index before the turn of the last century as a way to gauge the performance of the industrial component of America's stock markets. The "industrial" portion of the name is largely historical; in fact, many of the 30 modern components have little to do with heavy industry. To compensate for the effects of stock splits and other adjustments, it is currently a weighted average, not the actual average of the prices of its component stocks.

2 Moving Average Convergence/Divergence (MACD) is one of the simplest and most reliable indicators available. MACD uses moving averages, which are lagging indicators, to include some trend-following characteristics. These lagging indicators are turned into a momentum oscillator by subtracting the longer moving average from the shorter moving average. The resulting plot forms a line that oscillates above and below zero, without any upper or lower limits. The most popular formula for the "standard" MACD is the difference between a security's 26-day and 12-day exponential moving averages. This is the formula that is used in many popular technical analysis programs. It was developed and popularized by Gerald Appel, and provides a uniquely sensitive measurement of the intensity of the trading public's sentiment and provides early clues to trend continuation or reversal. According to Appel, this indicator is particularly dependable in signaling entry points after a sharp decline. The MACD indicator may be applied to the stock market as a whole or to individual stocks or mutual funds.)

3 AROON: Developed by Tushar Chande in 1995, Aroon is an indicator system that can be used to determine whether a stock is trending or not and how strong the trend is. "Aroon" means "Dawn's Early Light" in Sanskrit and Chande choose that name for this indicator since it is designed to reveal the beginning of a new trend. The Aroon indicator system consists of two lines, 'Aroon(up)' and 'Aroon(down)'. It takes a single parameter which is the number of time periods to use in the calculation. Aroon(up) is the amount of time (on a percentage basis) that has elapsed between the start of the time period and the point at which the highest price during that time period occurred. If the stock closes at a new high for the given period, Aroon(up) will be +100. For each subsequent period that passes without another new high, Aroon(up) moves down by an amount equal to (1 / # of periods) x 100.

Star Ratings
(subscription version only)

For each stock I mention in each issue of Contrarian Outlook, I assign an outlook rating for the next twelve months which is based on numerous technical and fundamental issues. My star rating system scale (one to five stars) compares the stock to the broad market.

: stock should perform much worse than the overall market; sell, place a stop order, or purchase a put option.

: stock should perform worse than the overall market; place a stop order, or purchase a put option.

: stock should perform about in line with the broad Market. If you expect the Market to decline significantly, and you do not want to hold the stock for the long-term, a stop market order should be placed, or options should be purchased. In other words, if you expect the Market to decline by 10%, this stock should be in line with that decline. If you expect the Market to rise by 20%, this stock should be in line with that increase.

: stock should perform somewhat better than the broad Market. Hold this stock and/or add small amounts gradually to current position or add new position.

: stock should do much better than the overall market. This stock can be purchased at current levels and/or during any pullbacks. But remember, during large Market declines, this stock could decline as well, but not as much as the broad Market..

Of course, my star ratings should only be used as a starting point for further research. No decisions about buying or selling stocks or any other investment vehicles should ever be based solely on ratings or recommendations in Contrarian Outlook or from any other source. Thorough research should always be the highest priority.

Next Issue: Sep 3

Each issue of the email subscription version contains my predicted Pivot Dates for the weeks ahead, charts, graphs, grids, and my recommended stock buys and sells. For a yearly fee of only $100 (minimum), subscribers receive the full, unabridged version of Contrarian Outlook by email. The free, internet version contains only some of the commentary.

If you are considering a subscription and wish to view a subscription version issue of Contrarian Outlook before you decide, please send an email to co at wholarts dot com and we would be happy to send you a prior issue.