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Daily Commentary
Moment Of Truth
David Goldring
Wednesday, June 11, 2008

The majority of stocks continued to decline for the third straight session yesterday as investors worry about the prospects of increasing interest rates during a period of sluggish growth. We seriously doubt that the Fed will raise rates any time before September and given the rally in the Dollar and fall in commodity prices yesterday, perhaps some hawkish commentary from Uncle Ben is what is needed to reverse the recent parabolic climb in the price of oil. As we moved into May we said that we would most likely experience a sideways consolidation period that would break lower as we moved into June, but that the sell off would provide a great buying opportunity ahead of a strong 2H rally. We went on to say that the most likely reason for the sell off would be a climatic top in the price of oil, and that the catalyst for a 2H rally would be a sharp reversal lower in oil prices. We also said that the S&P 500 (1358.44) would most likely test the Up trend line off the March 31st and April 15th lows and that the Nasdaq (2448.94) would test its up sloping 50 day average. So here we are, at the moment of truth, as oil prices have indeed gone parabolic and our major indices have corrected to significant support. In our cycle work we have maintained that a low would be put in no later than June 16th and we have made the case for a similar 1990/1991 style outcome. In 1990 most of the economic data was worse than we are presently experiencing, the real cost of the savings and loan debacle was greater than the estimated cost for sub-prime, and although interest rates were much higher in 1991, p/e multiples were about the same as they are now. In 1991 we didn’t have the addition of 2 billion new consumers and a booming global economy to help comfort earnings during the domestic slowdown as we do now. In fact earnings, ex-financials, are presently growing at a 10% rate! In 1990 they were falling. So here we are, with earnings yields on stocks at their most undervalued level relative to the cost of risk free capital in more than thirty years, and with skepticism and pessimism rampant. This is how bull, not bear markets, are born. We had never before had four consecutive years of p/e multiple contraction, and yet even as interest rates have trended lower in recent years, we are now entering our fifth year of p/e multiple compression! Today we hear how handset sales maybe weakening and a downgrade on Nokia (NOK – 25.80) and yet even if we do see some earnings pressure, the stock trades at less than 10x earnings for crying out loud. So far this decade, NOK has grown sales and earnings almost five fold! In 1999 eps was 0.54 and is expected to grow to $2.55 this year. In 1999 sales per share were $4.29 and this year they are expected to be $23.50. And yet NOK started the decade at $48 and has fallen 46%. Yes the stock was absurdly expensive at the end of the last decade, but it is equally as inexpensive today. As Warren Buffett is famous for saying “in the short term stock prices act like voting machines, in the long term like weighing machines”, and the simple fact is earnings will and do drive stocks, period. We bring up individual issues in the traditional growth sector, as they highlight the same story; in March 2008, eight years after the market top, growth stocks reached an historic inverse to the irrational exuberance of March 2000. Instead, today we have irrational fear, and the headline noise is already deeply priced into the market. The expected ’08 earnings yield on the S&P 500 is 75% greater than that of the 10 Yr Treasury; this isn’t rocket science, you can go back over thirty years and never see such a discrepancy. With the recent 900 point fall in the Dow and 6% drop in the S&P 500, the rhyme with 1990/1991 is very much alive. From mid-January 1991 to April 1991 the S&P 500 soared 26% and the Nasdaq soared an astonishing 45%. The chart patterns over the past seven months have been unbelievably identical in terms of price and time. We are at or within just a few sessions of the inflection point that is analogous to the January 12th 1991 low. We want to buy weakness and are adding long side exposure with conviction.

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