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The Rally Ends Here

(May 17, 2001) - Two Trading Days Prior to the Top of the Six-Week Bear Market Rally

The rally ends here.

All around me, bullish psychology reigns supreme.  All the shorts and bears have been killed.  I have not seen this much bullishness since March nor September of last year.  It is now time for a trend change.

Dell reported earnings tonight and they warned again.  Its outlook for the current quarter is for sales to be down 3 to 5% from the first quarter, with earnings between 15 and 17 cents a share.  The consensus was 18 cents.  Meanwhile, the price war that this company started continues to rage on.

In addition, from www.comstockfunds.com:

"The CEO of Applied Materials stated that, believe we are now in the bottom of this cycle, and awaiting the tipping point to recover? However, the company missed its quarterly estimate by a penny, and even this estimate had been reduced by about 33% over the prior 90 days. Management also said that they expected the company to break even or come in slightly better in the next quarter. The previous estimate had been 23 cents, and this was down from an estimate of 43 cents 90 days earlier. New orders fell by 46%, after declining by 32% in the prior quarter."

"Hewlett-Packard beat Street estimates of 16 cents a share by 2 cents for the second fiscal quarter and said that they could be through the worst of the tech downturn. However, the estimate has just been reduced from 35 cents only a month ago. CEO Carly Fiorina lowered revenue forecasts for the next quarter from flat to somewhere between flat and down 5%, and added that they did not see business getting substantially better in the near term. Keep in mind, too, that rival Dell Computer promised an all-out price war in PC, and that Dell has a lower cost structure than Hewlett. Stay tuned."

"Ciena reported a huge fiscal second quarter loss of over $50 million, but operating earnings beat forecasts by 4 cents a share. CEO Gary smith noted, however, that several customers cut their capital spending since the last quarter and that some orders have been delayed. Ciena management told analysts on their conference call that they had seen desperate pricing tactics from competitors, and that as a result, gross profit margins could be squeezed. We note that Ciena is a supplier to the optical networking industry, which is suffering from overcapacity."

So business continues to get worse but every CEO and everyone believes that we have "bottomed."  Guess what?  Not only will it get worse, it will get MUCH WORSE.

It is just ludicrous to see what is going on in the market today.  Hewlett’s earnings and outlook was dismal and it actually rallied over 15% today. Same with Applied Materials and they managed to eke out a gain yesterday. The Dow blasted through 11,000 yesterday on nothing but wishful thinking and the Fed's immense injection of liquidity (crack) into the markets. Just like crack, the hangover will be much worse if the inevitable is delayed by more crack injection.

The long bond is selling off.  Inflationary forces building?  Even with the 250 basis-point rate cuts since January, mortgage rates have failed to come down.  The housing and commercial real estate is the last bubble and support of this economy... I wonder what will happen if rates fail to come down?  Moreover, new building permits were conveniently ignored by the mainstream media.  If anyone is interested, there is actually a significant downtick in that statistic last month.

The CPI is a manipulated index.  Unless you ride a bicycle to work and don't use air-conditioning and grow your own food, then THERE IS inflation.  M2 and M3 have been growing at an annualized 15% rate.  MZM nearly 25%. This is historically unprecedented in U.S. financial history.  This kind of growth cannot even compare with the 1920s nor from 1995 to end of 1999. Not even when LTCM collapsed and not even prior to Y2K when Greenspan panicked and worked the printing presses full-time.  Inflation is all around you.  Look at gas prices.  Electricity, food, etc.  How about gold and silver?  Precious metals have been the best performers YTD.  I doubt the economy has fundamentally improved based on all these factors.

Tomorrow we have options expiration and the rally of the last few days have mostly been about shorts getting squeezed and trading desks trying to obtain as much profit as possible on their options.  Earnings warning session start again next week and it is not likely to be pretty.  In fact, if I am long right now on any domestic equities (besides defensive sectors, precious metals, and energy), I would SELL EVERYTHING tomorrow.  I just purchased the RYDEX Tempest 500 fund for my mother's Roth IRA account.  It basically tracks 200% of the inverse of the S&P 500.  Along with this, she also has some BEARX and some silver mining stocks in her portfolio.  I expect those mining stocks to rise at least 10-fold during the next few years.

I believe we now have a significant trend change.  The time has come for the great reckoning.  Time to punish the bulls for being blind, drunk, and totally ignorant of the facts.  There is a price to be paid for such foolishness.  I still stand by my targets of Dow 8,000 and Nasdaq 1,300 by early July.

It is also interesting to note that the CBOE, CME, and the CBOT announced a couple of days ago that soon there will be trading of futures on individual stocks.  They are the ultimate vehicle for stock market speculation.  And here we thought buying stocks on 10% margin in 1929 was bad (which is a myth--in actuality, most brokerages had much higher margin maintenance requirements going into the year 1929).

On another note, lock limits on the various stock index futures were revised Sunday evening.  No more 2.5% lock limit up or down.  Not even the Globex (after-hours) session.  Just in time for the Crash of the Millennium.

Henry To

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