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Jeff Saut Presents: Uncertainty

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Indeed, uncertainty presents opportunity, and the difference between perception and reality is where investors' opportunities lie!

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I heard it again yesterday, on numerous TV/radio stations, that the recent decline in the equity markets is because, "the markets hate uncertainty." While at the margin this comment might hold a modicum of truth, it is blatantly untrue at major inflection points in the markets. Consider this, at the Dow's absolute low of 41.22 recorded in 1932, the uncertainty was so thick you could cut it with a knife. Again, at the February 1933 low of 50.16, when President Roosevelt declared a national bank holiday, uncertainty reined, yet stocks rallied. Once again, when industrial production collapsed in February 1937, the Dow Jones Industrial Average stood at 113.64 and stocks dutifully bottomed and rallied. Clearly, in May of 1942, when it looked like the U.S. would lose World War II, the war uncertainty was ubiquitous, still the Dow bottomed at 92.92 and rallied. Following that, the Dow bottomed again amid uncertainty in June of 1949 at 161.60 and began an "uncertainty-based rally" that would carry the senior index into its bull market peak of roughly 1,000 in 1966.

From there, the Dow bobbed and weaved its way into the 1974 bottom at 577.60, where once more, the uncertainty was so thick you could cut it with a knife. Once again, however, stocks bottomed and rallied into what is likely to be the greatest bull market of my lifetime. During that 11,145-point rally into the DJIA's 2000 peak (11,722), uncertainty accompanied the 1982 bottom and the 1987 "crash lows," so telling me that the markets don't like "uncertainty" just does not foot with history. Indeed, uncertainty presents opportunity, and the difference between perception and reality is where investors' opportunities lie!

Another misnomer relates to the current question of, "when will the Fed be done raising interest rates, because that will lead to a stock market upside explosion?" Again, that just does not foot with historic precedence, since most secessions of Fed tightening have seen exactly the opposite stock market effect (read: lower stock prices).

Another "media mantra," replete on the airwaves yesterday was that the "late comers," who had bought in the stuff-stocks, commodities, and the emerging market complexes have been exiting those "wrong bets" over the past three sessions. Late comers? We think NOT since, in our opinion, these asset classes are in the early stages of a secular bull market. "Hot money" (read: hedge funds) exiting…well maybe, because the "carry trade" is likely being unwound.

Consider this, for the past few years "hot money" has been borrowing money in Japan at effectively zero percent interest rates. Then that hot money has leveraged that borrowed money and bought anything that has been rising in value, namely stuff stocks, commodities, and emerging markets. Given the Bank of Japan's recent statement that it is "moving quickly" to take away its zero interest rate policy, is it any wonder emerging markets, commodities, and, consequently, stuff stocks have taken a pounding recently as those hedge fund "carry trades" have been unwound.

Also worth consideration is the fact that most Asian Central Banks are now raising interest rates, an event almost totally unreported by this country's media. Ladies and gentlemen, the raising of interest rates by the Asian Central Banks is likely the observation/question du jour and not "when will the Federal Reserve quit raising rates?"! Indeed, as one savvy seer laments, "it's not the snake you see that bites you."

We think the recent downside "heart attack" in "stuff" represents a buying opportunity, although we are not sure if said opportunity is here or a few months from here. Yet we are convinced that over the long term, the worldwide demand for "stuff" should put the wind at the back of this asset class for years to come. The question now is how low the correction will carry before the "stuff-stock" rally resumes. And that is why we use a "scale-in" buying approach to these complexes. It is also why we have recommended re-balancing (read: selling partial positions) of our stuff stock's positions for the past few months. That technique re-balances such positions to keep their weighting more inline with the portfolio's objectives. It also gives us the "cushion" to withstand the inevitable downside price heart-attacks.

As for the equity markets, as previously stated, "declines like we have seen since last Thursday typically last 1.5-3 sessions before some sort of "throwback rally" attempt is generated. We think that "throwback rally" attempt began yesterday (May 15, 2006). Whether it is sustainable is unknowable, but we are cautious. Consequently, we remain predominantly defensive on the equity markets, as well as on stuff-stocks, thinking that just like a heart-attack patient doesn't get right out of bed and run the 100-yard dash, the equity markets should not do that either.

Consistent with that strategy, we continue to look at situations that have already experienced "hear attacks" like outperform-rated United Healthcare (UNH), which hopefully bottomed at $43.31/share on May 9th following its 33% heart-attack decline from its December 2005 high of $64.61. Accordingly, we have recommended a scale-in buying approach to this premier healthcare provider that should leave participants long a full investment position. We are using the reaction low of $43.31 as our stop-loss point. And, we continue to invest, and trade, accordingly.

The call for today: The media is replete with comments that the commodity "bubble" has been broken. When you quit hearing the media using the words "commodity bubble," then you should get worried, very worried, about your stuff stocks. In the interim, "the difference between perception and reality is where investors' opportunities lie!"


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