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Unfortunately that pesky geo-political environment continues to trump any effort at positive action. As we walk into this mornings opening, we have the Nikkei down 2.4% overnight on a test launch of a North Korean missile and the European markets down more that 2% on a combination of weak Asian markets and reaction to Iraq's reluctance to destroy banned missiles. In an interview with Dan Rather, Saddam challenged President Bush to a debate and said he wasn't going to destroy the missiles. Now I ask you...if it were I that was in an interview with Saddam, could you keep your cool? Damn good thing I am not a diplomat or journalist!

The letter from Dr. Blix to Iraq demanding the destruction of the al-Samoud 2 missiles provided both an opportunity to further the perceived isolation of the US or to unite the world in our cause to disarm Saddam. As I was on the treadmill Sunday morning at the Gym, politician after politician (US and Int'l) said how they would think differently of military action if Iraq refused to destroy the missiles. Frankly, it surprises me that Saddam didn't at least lie and say he was going to destroy them, which would again throw the situation into greater confusion. Now the world has a greater opportunity to say; "See, we can oppose the mighty US, but Iraq gave us no choice."

No matter how you look at it, the way the events are unfolding, buyers are unlikely to step up in a big way quite yet:

  • The fundamental backdrop remains unchanged. Valuations are at the high end of neutral and unless there is a sharp price decline or huge gain in earnings out of nowhere, it is very difficult to make the case that stocks are cheap. The main argument to buy stocks now is that given the bond yields, valuations should be above average. While this has been the case, with two years of declining rates how can one make the case that valuations are going to expand from current levels? They haven't so far.
  • The intermediate-term indicators have not yet reached levels that were indicative of an important low strong enough to generate a countertrend rally that would go further and last longer than most expected. The indicators basically are where they were last week. In addition, the S&P 500 is no longer oversold, is running into near-term resistance and may be "hooking" negatively (Exhibit 1).
  • The Dow Jones Transportation and PHLX KBW Bank Stock Indices both act poorly and indicate further risk to the overall market. Both indices are running into resistance areas and appear to be hooking negatively on the daily stochastic (Exhibits 2&3).
  • The PHLX Semiconductor Index, which is a widely followed gauge of vitality in the technology sector is right on its downtrend line and has reached into extreme overbought territory as Toddo alluded to (Exhibit 4). In a market where the primary trend is down, this isn't the setup for a rally.

Exhibit 1 - The SPX is no longer oversold, and may suggest further near-term risk

Exhibit 2 - If happened to the Trannies...

Exhibit 3 - ...could it happen to the Banks?

Exhibit 4 - The closely watched semis are in downtrend and overbought .

The good news in this environment is the market is at a critical point where no matter what happens, the setup for a more significant and sustainable countertrend rally takes placed. That could come from rapid price deterioration that brings the intermediate-term indicators to levels that generated powerful rallies over the past three years. Or it could come from stocks surprising just about everybody on the planet and holding here despite the fundamental, technical and geo-political backdrop. As I indicated, one way or another we are going to know which it is very soon. As a result, I continue to patiently look for the main entry point for another intermediate-term countertrend rally with patience.

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