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What a Week: Fade to Green

Aaron Task

Financial markets ran the gamut of fear to greed this week, with greed winning out in the end.

For the week, the Dow Jones Industrial Average rose 1.6%, the S&P 500 gained 1.6% while the Nasdaq Composite climbed 2.1%.

At its onset, the week didn't seem to have the makings of the S&P's biggest weekly gain since April. It started with a continuation of last week's theme: fear of inflation and rising rates. These concerns were prominently displayed Tuesday, as the 10-year Treasury yield eclipsed 5.30% intraday and closed at its highest level since 2002. Stocks cascaded lower in response, but Tuesday's decline proved to be the end of the selling, at least for this week.

Thanks in part to benign comments about price pressures in the Federal Reserve's beige book, Treasury yields stabilized Wednesday, paving the way for the Dow's biggest point gain since July 19, 2006. Wednesday's advance led to more gains on Thursday and Friday, both aided by tame inflation data, falling yields and more merger activity.

As the 10-year's yield retreated to 5.17% Friday following tame core consumer price index data, the Dow rose 0.6% to 13,637, the S&P rose 0.7% to 1533, and the Nasdaq Composite rose 1.1% to 2627.

The combination of falling core CPI inflation plus signs of strength this week -- including Wednesday's stronger-than-expected retail sales report and Friday's Empire State Manufacturing Index -- revived talk of the so-called Goldilocks economy. At a minimum, the PPI and CPI, along with Friday's weak industrial production report, reduced concerns about the potential for a Fed rate hike.

"The tame core CPI data will temper but not erase the FOMC's 'predominant concern' about the risk of faster inflation at their meeting on June 27-28," writes Stuart Hoffman, chief economist at PNC. "I believe the next FOMC move will be to lower the funds rate but not until nine to 12 months from now when the ongoing stalemate between their 'predominate concern' about the risks of faster inflation vs. their lesser concern about subpar economic growth finally ends in 2008."

M&A Here to Stay

The Nasdaq's relative strength for the day -- and the week -- was spurred by chip stocks, which rallied despite disappointing guidance Tuesday from Texas Instruments (TXN Quote - Cramer on TXN - Stock Picks), followed by the Semiconductor Industry Association lowering its growth forecast midweek. Most notably, Intel (INTC Quote - Cramer on INTC - Stock Picks) rose 4.4% Friday after a Goldman Sachs upgrade, gaining 11% for the week.

Friday's gains were further fueled by merger activity involving Penn National Gaming (PENN Quote - Cramer on PENN - Stock Picks) and speculation of a possible bidding war for NYMEX (NMX Quote - Cramer on NMX - Stock Picks).

Germany's Deutsche Boerse, the NYSE Euronext(NYX Quote - Cramer on NYX - Stock Picks) and Chicago Mercantile Exchange (CME Quote - Cramer on CME - Stock Picks) have held talks with NYMEX, Bloomberg reported. Meanwhile, CME separately sweetened its bid for the Chicago Board of Trade (BOT Quote - Cramer on BOT - Stock Picks), which has a competing bid from the IntercontinentalExchange (ICE Quote - Cramer on ICE - Stock Picks).

These deals and speculation of more to come belie recent fears that higher interest rates would choke off private-equity buyouts and corporate M&A. As detailed here, such fears overlooked the ample liquidity still circulating to do deals and the continued tight spreads between corporate and Treasury yields, which keep leverage buyouts attractive.

For example, Home Depot's (HD Quote - Cramer on HD - Stock Picks) auction of its supply business is expected to get competing $10 billion private-equity bids, Bloomberg reports.

Nevertheless, some market players remain wary the three-day advance can continue.

"I can't fight the tape, but I'm not convinced at all," Peter Costa, senior floor trader at Lipari Partners said Friday in an interview on TheStreet.com TV. "You can't discount the fact that companies are going to spend more to borrow. It's going to hurt profits. Everything is great now, but when earnings come out and [disappoint] because the cost of money is that much higher, this might disappear."

Costa, who describes himself as an optimist by nature, nevertheless believes the better trade is to short the market here. "I hate to see exuberance when I don't see the fundamentals to cause it," he says. "Interest rates are up, oil is high and it's going to affect the economy at some point down the road."

Crude prices did rise this week, settling above $68 per barrel on Friday. But compared with the 1970s, energy is less a portion of consumers' income and far less of an important input cost for business. In addition, bulls say the current strength in oil prices is a reflection of a surging global economy, a.k.a. a "demand shock" vs. the "supply shock" of the 1970s. Finally, energy has become a bigger portion of the S&P 500, so crude's rise helps the stock market as it boosts shares of producers such as ExxonMobil (XOM Quote - Cramer on XOM - Stock Picks) and ConocoPhillips (COP Quote - Cramer on COP - Stock Picks), among this week's big gainers.

Freeport McMoRan (FCX Quote - Cramer on FCX - Stock Picks) was another standout this week, benefiting from strength in copper prices, as well as the robust M&A environment and trend of activist fund managers. On Monday, Atticus Capital revealed a 6.4% stake in the miner and advocated for actions to enhance shareholder value. On Wednesday, the company's CEO said it may sell some "non-core" assets to pay for the debt incurred in its $26 billion acquisition of Phelps Dodge.

In sum, liquidity remains robust, the global economy strong and stocks remain attractive, even as Treasury yields have risen. That's the message at the end of a wild week that again reminded investors there's no upside to negativity in this market.

1 What would best describe your stance heading into the coming week of trading? Bullish Bearish Neutral 2 Which of these sectors do you think is set to move up in the coming week? --Choose One--Aerospace and DefenseAirlinesAutomobilesBeverages and Food ProductsBiotechnologyCommercial BanksComputers and PeripheralsConsumer NondurablesEnergy Equipment & ServicesHMOs and HospitalsHomebuildingInsuranceIntegrated OilInternet, Software ServicesInvestment Bankers and BrokersMediaMultiline RetailPharmaceuticalsPrecious MetalsSemis, Semi EquipmentTelecom EquipmentTobacco and AlcoholWireless CommunicationsUtilities 3 Which of these sectors do you think is set to move down in the coming week? --Choose One--Aerospace and DefenseAirlinesAutomobilesBeverages and Food ProductsBiotechnologyCommercial BanksComputers and PeripheralsConsumer NondurablesEnergy Equipment & ServicesHMOs and HospitalsHomebuildingInsuranceIntegrated OilInternet, Software ServicesInvestment Bankers and BrokersMediaMultiline RetailPharmaceuticalsPrecious MetalsSemis, Semi EquipmentTelecom EquipmentTobacco and AlcoholWireless CommunicationsUtilities View the results without voting