By Robert W. Colby, Senior Analyst

The Fed to the Rescue

The Fed cut the Discount Rate and “is prepared to act as needed.”

Price momentum oscillators, oversold in late July, are now rising.

Sentiment is rising up from extremely oversold readings.

Major stock price indices soared on Friday’s open on news that the Fed cut the discount rate by 50 basis points, to 5.75% from 6.25%. The Federal Open Market Committee “is prepared to act as needed to mitigate the adverse effects on the economy arising from the disruptions in financial markets…The Board is also announcing a change to the Reserve Banks’ usual practices to allow the provision of term financing for as long as 30 days, renewable by the borrower. These changes will remain in place until the Federal Reserve determines that market liquidity has improved materially. These changes are designed to provide depositories with greater assurance about the cost and availability of funding. The Federal Reserve will continue to accept a broad range of collateral for discount window loans, including home mortgages and related assets. Existing collateral margins will be maintained.”

Reports of troubles in credit markets and hedge funds last week raised fear to Bear Market levels. The VIX fear index touched 37.5 during the session on 8/16/07, a level last seen on 10/10/02, which was the day the stock market made its Bear Market bottom.

The CBOE Equity Volume and Put/Call Ratio ( was 1.02 on 8/16/07, 1.05 on 8/15/07, and 1.08 on 8/14/07. This is the highest level of Puts relative to Calls in more than three years, since August 2004. Also, it is more than 4 standard deviations above the one-year mean of 0.64. This means that the Put/Call Ratio is at an extreme of Bearishness sentiment, which is Bullish according to the Art of Contrary Thinking. (See my book, page 167.)

Stocks became oversold during the recent 4-week downside shakeout. Price momentum oscillators (such as RSI 14, Stochastics 14, Plus DI Directional Movement 14, MACD Histogram, and CCI) hit their most Bearish extreme lows from 7/24/07 to 7/31/07 and demonstrated positive divergences since then by failing to confirm lower lows in price.

As of the week’s close, these momentum oscillators had held above July’s deeper oversold readings on all price drops. Therefore, they have been showing Bullish divergence as compared to major price indices, such as the DJIA and S&P, which fell to new 5-month lows this past week. Divergence at turning points is a typical technical phenomenon. But, of course, oversold readings and divergences come with no guarantees.

Spotlight on event stocks: Here is a stock screen I designed to pick out potential “event” stocks, both Bullish and Bearish. Sometimes, stocks with large changes in price and volume are revealed to be deal stocks, sooner or later, or are the subject of some other extraordinary events, positive or negative.

Bullish Stocks: Rising Price and Rising Volume
% Price Change, Symbol, Name

2.62% , PXQ , Networking, PXQ
7.95% , KSS , KOHLS
5.44% , SSCC , Smurfit-Stone Container Corporation
2.40% , ADRD , Developed 100 BLDRS, ADRD
4.50% , RFV , Value MidCap S&P 400, RFV
2.31% , ADRU , Europe 100 BLDRS, ADRU
7.60% , WFMI , Whole Foods Market Inc
4.15% , SANM , SANMINA
1.74% , IGW , Semiconductor iS GS, IGW
2.56% , ELV , Value Large Cap DJ, ELV
4.28% , RFG , Growth MidCap S&P 400, RFG
2.36% , NYC , LargeCap Blend NYSE Composite iS, NYC
6.31% , MYL , MYLAN LABS
1.83% , IGM , Technology GS, IGM
1.96% , PZI , Micro Cap Zachs, PZI
3.34% , IYF , Financial DJ US, IYF
5.48% , EWM , Malaysia Index, EWM
3.93% , AOC , AON
4.91% , ROH , ROHM & HAAS
1.61% , ELG , Growth Large Cap, ELG
5.60% , GTW , GATEWAY
2.51% , CHRW.O , CH Robinson Worldwide Inc, CHRWD
2.05% , RTN , RAYTHEON
1.66% , PSJ , Software, PSJ
1.68% , DGT , Global Titans, DGT
0.66% , PBE , Biotech & Genome, PBE
3.16% , DISCA , Discovery Holding Co.
1.99% , TMW , Wilshire 5000 ST TM, TMW
4.84% , DISH , EchoStar Communications Corporation
4.44% , BEAS , BEA Systems Inc
2.40% , EWU , United Kingdom Index, EWU
2.50% , NCR , NCR
2.03% , RYAAY , Ryanair Holdings plc
2.99% , MTB , M&T BANK
4.46% , MVV , Ultra MidCap400 Double, MVV
1.53% , FPX , IPOs, First Tr IPOX-100, FPX
2.43% , RSP , LargeCap Blend S&P=Weight R, RSP
5.93% , MET , METLIFE
2.08% , IWW , Value LargeCap Russell 3000, IWW

Bearish Stocks: Falling Price and Rising Volume
% Price Change, Symbol, Name

-2.58% , DRI , DARDEN REST
-1.97% , VIA.B , VIACOM STK B
-1.04% , MCD , MCDONALDS
-0.67% , CTAS , CINTAS
-0.79% , SLR , SOLECTRON
-1.64% , PSQ , Short 100% QQQ, PSQ
-0.10% , BAX , BAXTER INTL
-0.14% , UIS , UNISYS

Sectors: among the 9 major U.S. sectors, all 9 rose.
Major Sectors Ranked for the Day
% Price Change, Sector

4.07% Financial
3.69% Energy
2.32% Utilities
1.37% Materials
1.01% Industrial
0.98% Technology
0.71% Consumer Discretionary
0.49% Consumer Staples
0.24% Health Care

Looking beyond the daily fluctuation to the major trends (listed in order of relative strength):

Energy (XLE) Bullish. Relative strength turned upward again on 8/7/07. XLE has been strong compared to the S&P since 3/12/03. Overweight.

Industrial (XLI) Bullish. Relative strength has underperformed in the short-term since making a new high on 8/3/07. Longer term, XLI has been relatively strong compared to the S&P since 8/9/06. Overweight.

Technology (XLK) Bullish. XLK has been in a short-term correction since its price peak on 7/19/07. Longer term, XLK has been relatively strong compared to the S&P since its low on 7/24/06. Overweight.

Utilities (XLU) Uncertain. This defensive sector outperformed from 7/30/07 to 8/9/07 but has started to lag since. Market weight.

Consumer Staples (XLP) Uncertain. This defensive sector’s relative strength made a new 4-month high on 8/15/07 but has underperformed since. Market weight.

Health Care (XLV) Bearish. Short-term, this defensive sector’s relative strength made a new 7-week high on 8/15/07 but has fallen sharply since. Longer term, relative strength made a new 5-year low on 7/19/07, thereby confirming a major downtrend. Underweight.

Materials (XLB) Bearish. Price broke down to a new 5-month low on 8/16/07, while relative strength made a new 6-month low on 8/17/07. Underweight.

Consumer Discretionary (XLY) Bearish. Price hit a new 10-month low on 8/16/07. Relative strength made a new 11-month low on 8/17/07. Underweight.

Financial (XLF) Bearish. Relative strength made a new 6-year low on 8/3/07 but has outperformed since then. The sector may be acting sold out, for the moment at least. Still, major trends are down. Underweight.

Foreign stocks underperformed since 7/11/07. The short-term shakeout hit global markets harder than the U.S. market. Nevertheless, the EFA (the EAFE, international developed country stock markets, ex the U.S. and Canada) still has substantially outperformed long term, since the Bull market started in 2002.

NASDAQ relative strength underperformed since 8/9/07. Price fell to a 4-month low on 8/16/07.

Growth slightly outperformed Value for the day. Longer term, Growth outperformed Value since 5/16/07.

Small Caps outperformed Large Caps since 8/6/07. But the relative strength of Small Caps still has lagged Large Caps since 4/19/06.

Crude Oil prices appear to be consolidating since their high on 8/1/07. The longer-term trend still appears Bullish: the U.S. OIL FUND ETF (AMEX: USO) remains in its uptrend since its shakeout low at 42.56 on 1/18/07.

Energy stocks outperformed the USO for the day but underperformed since 5/30/07. Longer term, since 3/12/03, the stocks in the Energy Select Sector SPDR ETF (XLE) have significantly outperformed crude oil as a commodity, as well as the S&P 500. So, the Relative Strength major trend is Bullish for the energy stocks.

Gold rose slightly but underperformed the SPY for the past 2 days. Longer term, StreetTRACKS Gold Trust ETF (NYSE: GLD) has underperformed the S&P since the GLD top on 5/12/06.

Silver has substantially underperformed Gold since 6/5/07. Longer term, iShares Silver Trust (AMEX: SLV) broke down to a new 6-month low on 6/26/07 and underperformed GLD since 12/7/06. So, the main trend is relatively Bearish.

The Gold Miners Index (XAU) sharply underperformed Gold since 7/19/07. XAU also underperformed Gold since 1/31/06. In fact, Gold mining stocks have substantially underperformed both Gold and the S&P 500 for more than 20 years.

Inflation expectations are in a downtrend. The trend has been falling since 6/22/07. The ratio of the price of bond TIPS to 10-year U.S. Treasury Notes indicates declining inflation expectations.

U.S. Treasury Bond prices appear to be consolidating after their low on 6/12/07. But since the price peak at 97.66 on 6/16/03, the long-term trend appears Bearish for iShares Lehman 20+ Year U.S. Treasury Bond ETF (AMEX: TLT).

U.S. dollar fell again after making a new 5-week high on 8/15/07. Short-term, the dollar is still up from its low on 8/6/07. But longer term, the dollar fell to a new 15-year price low on 7/24/07, confirming the major trend as Bearish.

Daily Rankings of Major Global Markets, Ranked from Strongest to Weakest of the Day:

6.39% Singapore
5.48% Malaysia
4.07% Financial
4.05% Broker Dealers
3.97% Taiwan
3.94% South Korea
3.82% Oil Services
3.69% Energy
3.53% Banks
3.51% Brazil
3.37% Mexico
3.30% Paper
3.27% Australia
3.27% Canada
3.17% Oil
2.96% Gold Mining
2.89% Natural Gas
2.82% Hong Kong
2.75% Dow Utilities
2.57% Disk Drives
2.54% Network
2.51% NYSE Composite
2.51% Commodity Related
2.47% S&P 100
2.46% S&P 500
2.45% Internet
2.44% Russell 1000
2.42% Russell 3000
2.40% Wilshire 5000
2.40% United Kingdom
2.39% REITs
2.37% Retailers
2.32% Utilities
2.31% Nasdaq 100
2.30% S&P Small Caps
2.24% Russell 2000
2.20% Nasdaq Composite
2.18% Netherlands
2.15% Insurance
2.14% Value Line
2.13% S&P Mid Caps
2.11% Semiconductors
2.08% Dow Composite
2.05% Dow Transports
1.99% Italy
1.98% Hardware
1.96% Sweden
1.95% Computer Tech
1.93% DOT
1.82% Dow Industrial
1.76% Switzerland
1.66% Belgium
1.61% AMEX Composite
1.39% Health Care Products
1.37% Materials
1.37% Chemicals
1.30% Airlines
1.28% Drugs
1.27% Spain
1.23% Health Care
1.21% France
1.21% Germany
1.21% Canadian Dollar
1.21% Australian Dollar
1.01% Industrial
0.98% Technology
0.95% Biotechs
0.73% Swiss Franc
0.71% Consumer Discretionary
0.64% Euro Index
0.49% Consumer Staples
0.25% Hospitals
0.24% Health Care
0.12% Austria
0.12% British Pound
-0.42% US Dollar Index
-0.54% 30Y T-Bond
-0.73% Japan
-0.82% Japanese Yen

To sum up the current position of the U.S. stock market:

Looking beyond the recent short-term downside shakeout, longer term, the U.S. stock market has shown impressive Bullish resilience from the major low on 10/10/02 to the new all-time highs on 7/19/07. Stock prices have been buoyed by abundant global liquidly (following years of fiscal stimulation, rapid money supply growth, and rising corporate profits), M&A, and earnings comparisons above expectations.

Investors might perceive anything that threatens to end abundant global liquidly, M&A, leveraged buyouts, corporate stock buybacks, and the net balance of positive earnings surprises as threats to the popular Bullish scenario.

Stocks generally are fully valued to over priced by long-term historical standards. Although that alone does not mean that stocks cannot continue to trend higher (as they have the great majority of the time since 2003) nevertheless, it is good to remember that “no tree grows to the sky.” The cyclical nature of stock prices never really changes, although the turning points are not always easy to predict.