Werlinich Asset Management, LLC
400 Columbus Ave.
Valhalla, NY 10595

July  14, 2005 Comments   |   Refer A Friend   |   Sign Me Up   

As a reminder, the chapter entitled "Sector Rotation Investing" that I contributed to The Black Book on Personal Finance is available for sale. If you haven't already downloaded a copy, please take a moment and check it out. The suggested retail price for the e-book is $19.95. As a special accommodation to my readers, I have negotiated a 20% discount off the list price. To purchase the chapter, please click here to visit the publisher's website. When you are asked for a priority code, type in "WAM" (this must be in all caps). From there, just click the "buy now" button and follow the instructions. Thank you.

Market Analysis...More Mood Swings
Last Month's Results - Mediocre
What I'm Doing Now...Adding To Strength
Trends To Watch
Monthly Tip...Mid-Year Update
Personal News and Notes

After a tumultuous six months, most investors find themselves losing money, or at best, breaking even so far this year. (On the other hand, WAM's clients are all making money right now. If you'd like to find out why, give me a call). The Dow continues to trade broadly within the 10,000  -11,000 range that I've spoken so much about. It's anyone's guess as to what will happen over the next six months. I think in the short run (next few weeks), we're headed higher thanks to some bullish economic news. But by December, we'll be lower than we are today. 

Allow me to quote a passage from the Dow Theory Letters, written for decades by Richard Russell, who I've quoted on many occasions. In his June 22 comments he wrote the following: "As of the end of May the Dow was down 2.3%. Investech Research (406-862-7777) in their latest mailing notes that 'of the 105 years since 1900, the DJIA for the first five months of the year has carried a 74% accuracy in forecasting whether the year will end in positive or negative territory.' They write that of the 41 years that saw the Dow decline through May 31, 'only one instance since 1949 saw the DJIA reverse and end the years with over a 10% gain. That was in 1982, but it came after six discount rate cuts.'" This doesn't bode well for our chances of a positive return this year.

The Dow closed today at 10,629, up about 125 points from when I wrote to you last month. But as you can see by the chart below, there was quite a plunge, and equally dramatic recovery during the last month. It was by no means a smooth ride. The Dow is currently trading slightly higher than its 50- and 200-day moving averages, which is relatively bullish. So we'll see if that trend can continue. I am very interested to see the next move for the Dow.

Oil prices continue to be amazingly volatile, but in a steadily rising trend. After falling as low as about $47 per barrel in late April, the price has strengthened again. As I write this, oil is trading between $58 and $59 per barrel, down from a peak of $62,10, but still up from $54 last month. The chart below clearly shows the meteoric rise in the price of West Texas Crude since the beginning of 2004. While I wouldn't be surprised to see prices fall back close to $50 per barrel in the short-term, I think we could see $70 within the next 12 months. Sooner or later, this is going to have a negative impact on the economic growth in this country. It just hasn't happened yet.

And finally, we have the continuing saga of interest rates. As the chart below shows, after twice dipping below 4%, rates have risen slightly over the past few days. Today the yield on the 10-year Treasury is 4.17%. The spread between the 10-year Treasury and the TIPS has fallen to 2.34%, which suggests that inflation fears continue to subside. Two months ago I wrote that "we have one or two more rate hikes left before the Fed pauses to reassess things." One of those hikes has already happened. I think we'll have that last hike, then the Fed will stop for a while. I think the inflation risks are over, and that the Fed will once again have to consider the possibility that further rate hikes could drive the U.S. economy right into a recession.

Last Month's Results...Mediocre

As always, I provide the following chart to show the raw results for the month, the quarter-to-date and the year-to-date. June was a basically flat month, with value stocks, specifically small-cap value stocks, leading the way. For the year, value stocks remain the best performing group, as evidenced by the Russell 1000 and 2000 growth indices. The NASDAQ composite continues to take a beating, increasing the losses for technology investors.

To the surprise of most market professionals, the best performing index continues to be the Lehman Aggregate, which is up a modest 2.51% for the year.

Name of Index





S&P 500




Large-cap stocks

Dow Jones Industrial Average




Large-cap stocks

NASDAQ Composite




Large-cap tech stocks

Russell 1000 Growth




Large-cap growth stocks

Russell 1000 Value




Large-cap value stocks

Russell 2000 Growth




Small-cap growth stocks

Russell 2000 Value




Small-cap value stocks





Europe, Australia, Far East

Lehman Aggregate




US government bonds

Lehman High Yield




High-yield corporate bonds

What I'm Doing Now...Adding To Strength

I didn't take any new positions in June, preferring instead to add to some existing positions and shifting some of my smaller allocations into stronger sectors. As I have said before, I'm perfectly happy to do nothing, rather than chase stocks at high prices. After a modest drop last month, oil prices came roaring back this month, bringing dramatic gains to my energy sector holdings.

I continue to believe that one of the key traits of a good investor is to buy intelligently and be patient. Own good companies that pay dividends. Don't get scared out by short-term movements; let those winners run. And don't be afraid to hold some cash. There is nothing wrong with bargain hunting when an opportunity presents itself. 

  • The 146,000 new jobs that were created in June was better than a very weak May, but still a relatively poor showing.The six month average rose to 195,500 which is good, but was skewed by two above average months. Average hourly wages continued to rise slowly, hitting $16.06. The average workweek remained steady at 33.8 hours.
  • The number of unemployed workers fell to 7.5 million while the number of part-time workers rose to 4.5 million and the number of "marginally attached" workers grew to 1.6 million. This caused my "underemployment rate" to rise to 9.60%; the first increase in four months. On the other hand, the official unemployment rate reported by the government dropped again, falling to 5.0%. I think my number is a better indication of the true employment situation in this country.
  • There were 7.67 million people holding more than one job in June, a big jump from May.
  • The four-week average for initial jobless claims fell to 319,000, which breaks the rising trend line. We'll see if this lower figure holds.
  • The University of Michigan Consumer Confidence Index spiked up to 96.0, up about nine points since last month, placing it just below the 97.1 at which it started the year. The rise is probably attributable to the decline in oil prices during the month.
  • According to the CBO, the federal deficit for the first nine months of fiscal 2005 fell to $251 billion after posting a preliminary surplus of $21 billion in June. The White House claims that the full year budget deficit will come in below $350 billion, and maybe below $325 billion, rather than the earlier projection of $427 billion.
  • According to the Census Bureau, the U.S. trade deficit narrowed slightly to $55.35 billion in May, thanks in large part to falling oil prices. It's unlikely that the deficit will narrow further now that oil prices have risen again to record highs.
  • The Labor Department reported that the CPI, which measures changes in the prices paid by urban consumers for a representative basket of goods and services, was flat in June, while the "core" CPI, which excludes food and energy, rose a modest 0.1%. Memo to Alan Greenspan: Stop worrying about inflation; worry more about a looming deflationary recession.
  • The Federal Reserve reported that total outstanding consumer credit fell by 1.7% in May, the first decline this year. While one month certainly does not make a trend, it might portend concern for the retail sector. As it is, the auto industry has resorted to virtually giving their cars away in order to clear out inventory.
  • The American Association of Individual Investors' (AAII) bullish sentiment ebbs and flows with the fortunes of the market. It fell slightly since the last newsletter to 43.00%.
  • The Census Bureau reported that on a seasonally adjusted annualized basis, sales of new homes in May grew 2.1% (after the April numbers were revised sharply lower) to a projected 1.298 million units.
  • The National Association of Realtors reported that on a seasonally adjusted annualized basis, sales of existing homes fell a modest 0.7% in May to a projected 7.13 million units.
  • The Institute for Supply Management (ISM) index of manufacturing activity measured 53.8 in June, up from 51.4 in May. This ended the streak of six straight monthly declines, but marked the eleventh consecutive month that the index remained below 60.0. Let's see if this was just a brief interruption in the downward trend, or a reversal of fortune. 
  • The NYSE reported that seats on the Exchange continued to be sold for around $2.5 million.
  • The Census Bureau reported that factory inventories have increased in 17 of the last 18 months and are now $484.6 billion, the highest level since this reporting began in 1992.

So what does all this mean to you? It appears that the economy is doing remarkably well, amazingly well actually. Enough so that the market should remain fairly strong through the normal summer doldrums. I just have this gnawing fear that trouble looms in our not-too-distant future. My outlook for the year continues to be one of "cautious pessimism."

Trends To Watch

The trading range of 10,000 to 11,000 for the Dow continues to hold. As I write this, the Dow is up today, and is trading at 10,625.

Gold has fallen to the bottom of its trading range of about $420 - $440. If it falls below $420, we'll see if it re-tests $400. If so, that would be a great buying opportunity.

The dollar continues to strengthen versus the Euro, trading today at 1.2086, up from 1.2119 last month. As the dollar strengthens, temporarily, gold will likely suffer.

Oil prices continue their long-term growth, with the September contract selling for $58.80 per barrel. I think prices could temporarily fall back to around $50 before rising back above $60.

After hitting a dismal low of 10 new highs for the week ended April 25, the number of new highs made by stocks traded on the New York Stock Exchange for the week ended June 3 zoomed up to 135, then jumped further to 338 for the week ended July 11. Investors are more bullish with the Dow around 10,600 than at 10,000. Big surprise. 

The M&A theme continues. United Healthcare is buying Pacificare for $8.1 billion and Wyndham Hotels is being taken private for $1.44 billion.

The yield on the 10-year Treasury closed at 4.17%, after twice going as low as 3.8%.

After rising almost unabated this year (and last year), the M-3 money supply was down to $9.713 trillion this week after hitting a record level of $9.772 trillion the week of June 27. By way of reference, I first started tracking this number in October 2003, when the figure was $8.814 trillion. That is a big increase in less than two years. That enormous influx of money can only help propel the stock market even higher.

Monthly Tip - Mid-Year Update

Rather than a Tip this month, I'm going to review how my Forecasts for 2005 have panned out so far this year.

My first prediction was that Dow 11,000 would hold, and that 10,000 would be breached with 9,750 as an important support level. I further suggested that after a rally sometime during the first half, we'd be down 5-7% for the year. Well, the high for the year has been 10,984 and the low 10,000. We had a major rally in February. And full-year, the market is basically flat. So far then, these predictions appear pretty good.

My second prediction was that the Fed would raise rates to between 3% ad 3.5% by the end of the year. Well, we're at 3.25% and counting. I think 3.5% will be it.

Next, I said that the yield on the 10-year Treasury would stay between 4% and 5%, and end the year little changed from the beginning of the year. That prediction has been almost dead on, although I didn't foresee rates dropping below 4%.

Next, I suggested that after a brief rally, the dollar would continue its slide until it gets to 1.45 - 1.50 versus the Euro. The jury is still out on this one. We'll see how long this rally continues. 

Next, I said that oil would stay over $40 per barrel for the entire year and spend part of the year over $50. I also said that natural gas prices would extend to about $8 MCF. I feel pretty good about these predictions, especially oil. I'd say I'm in the money here.

Next, I said that gold prices would rise, and eventually break above $450 an ounce. Gold hit highs of $447 in March and $443 a few weeks ago. The low was $414 in early June. We're around $420 now. I still like my chances.

Finally, I expected GDP growth of about 3.5% for the first half of the year before slowing in the second half. And I thought job creation would also be stronger in the first half and that the trade and budget deficits would widen. 1st quarter GDP growth was just revised up to 3.8% from 3.5%. We're still awaiting the 2nd quarter numbers, but there's no reason to think they won't be in the same ballpark. Job creation is ok, but not great. And while the budget deficit is shrinking, the trade deficit is widening.

So, overall, I'd have to give myself an A- on my predictions so far this year, but a solid A+ on turning those predictions into money-making investments for my clients. While the S&P had lost 1.7% through June, my clients, on average, were quite profitable.

As always, I can be reached at 914-741-6839 or at

Personal News and Notes

My commercial is currently running every night on the Northern Westchester, Southern Westchester and Ossining systems of Cablevision in New York. If you haven't seen it yet, and would like to, please click here to go to my website where you can view the clip. I've gotten a lot of nice feedback on it.

I'll be in Washington, DC on Monday visiting one of my clients. I'll be in Columbus, OH the weekend of July 29 and I'll be in San Francisco for a few days around August 20. If you would like to visit with me during any of these trips, please let me know.

As always, I thank you for your interest and consideration, and invite you to contact me if you have any questions, any feedback on "Sector Rotation Investing" or if I can be of service to you in any way.

Best regards,

Greg Werlinich

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