What a Week: Bulls Shrug Off Bad News, Embrace Al's Testimony and Advance the Market

SAN FRANCISCO -- Was this week about the continued vulnerability of individual stocks to disappointment, as demonstrated by PMC-Sierra PMCS on Friday? Or the ability of others, such as Dell DELL and Compaq CPQ, to fare well despite disappointing results or warnings? Or, was it about the layoff announcements from a host of companies, including AOL-Time Warner AOL and Lucent LU, amid further concerns of economic weakness?

The answer, of course, is all of the above. But what the past week was really about was the overall market's continued resilience in the face of negative news on corporate earnings and continued signs of economic weakness. For the week, the Dow Jones Industrial Average rose 0.7%, the S&P 500 gained 0.9% and the Nasdaq Composite Index climbed 0.4%. Modest gains, but gains nonetheless, and the third consecutive weekly advance for the S&P and Comp, and second straight for the Dow.

The resiliency was on notable display Friday, when major averages all closed well above session lows and the Nasdaq climbed nearly 1%, overcoming early weakness following PMC-Sierra's blowup.

The key to Friday's move, and for the entire week, was investors' continued faith in the Federal Reserve amid rising expectations it will lower interest rates by another 50 basis points next week -- expectations reinforced by Alan Greenspan's testimony before the Senate Budget Committee on Thursday.

"The earnings reports are old news," said Tony Cecin, manager of Nasdaq trading at U.S. Bancorp Piper Jaffray. "The market is trading on new news, which is a high level of expectation for a 50 basis-point cut at the end of the month. Clearly, the activity is telling you that's the way the money is flowing. It's not staying on the sidelines."

Indeed, at week's end the Fed funds futures contract was pricing in a 96% possibility of a 50-basis-point ease at the FOMC's Jan. 30-31 gathering, despite a stronger-than-expected durable goods report on Friday. Economists at all 25 primary bond dealers are now expecting the same. (The previous dissenter, Anthony Karydakis of Banc One Capital Markets in Chicago changed his call for 25 basis points that he'd expressed here Thursday.)

The Bull Keeps Flowing

The week began with the market again displaying its ability to shake off bad news from tech bellwethers; major averages ended mixed, but with the Comp off a modest 0.5% despite the warning from Dell. Monday's session was relatively quiet, as traders awaited Greenspan's testimony later in the week. However, biotech stocks made a lot of noise on the upside, led by Amgen AMGN, which leapt 12.7% after receiving a favorable court ruling in a patent infringement suit.

The good tidings generated by Monday's action carried over into Tuesday's, when the Dow rose 0.7%, the S&P 500 gained 1.3% and the Nasdaq added 3%. Overlooking disappointing earnings, this time from Texas Instruments TXN, investors plowed into other tech names that produced better-than-expected results, including Openwave Systems OPWV, Tellabs TLAB and Vitesse Semiconductor VTSS.

Strong earnings from Merrill Lynch MER gave financials a boost, while defensive groups such as pharmaceuticals slumped.

The momentum stalled Wednesday as traders braced for Greenspan's appearance on Capitol Hill. Still, the Comp managed to rise 0.7% and the S&P gained 0.3%, while the Dow fell almost imperceptibly. Lucent and Compaq each rose smartly despite reporting lackluster results for the December quarter and acknowledging steep challenges going forward. However, highflier Broadcom BRCM tumbled after its results didn't sufficiently impress Wall Street.

Outside of tech, energy giants, such as ExxonMobil XOM, posted stellar results Wednesday, but their stocks moved fractionally. Similarly, shares of drug makers such as Bristol-Myers Squibb BMY suffered despite results that bested estimates.

Greenspan Cometh, Greenspan Giveth

Thursday was all about Greenspan, whose prepared testimony contained his most vocal support for tax cuts to date. During the Q&A session, the chairman focused on the weakness in the economy, declaring "we are probably very close to zero" in terms of current economic growth.

"Greenspan was positive" for investors, said Jeff Van Harte, who manages about $4 billion in mutual funds at TransAmerica Funds in San Francisco. "But just because we're cutting taxes and decreasing interest rates, it's not going to prevent overvalued stocks from going down."

Exhibit A in that category being PMC-Sierra, which plummeted 22.8% Friday

But the action actually encouraged Van Harte (maybe because his funds have no position in PMC-Sierra): "This whole experience is going to force everybody to be more sensitive to valuation and fundamentals [rather] than just price momentum," he declared.

Anticipating a continued migration to that "more temperate" environment, and the aforementioned rate and tax cuts, the fund manager is generally optimistic about the long-term outlook for stocks.

Van Harte's current favorites (and long positions) in tech, which make up about 35% of his portfolios, include EMC EMC, Qualcomm QCOM, Palm PALM and Applied Materials AMAT. Financials are another group he likes, featuring top-holding Charles Schwab SCH and current recommendations MBNA KRB, State Street STT and Northern Trust NTRS.

What's Next?

While there remains some debate about the size of the Fed's expected rate cut next week, the bigger question is whether a 50 basis-point ease is already incorporated into stock prices.

Both Van Harte and U.S. Bancorp's Cecin agreed the market might pause or even selloff should the Fed confirm the consensus for a 50 basis-point cut. But they also agreed investors would generally be anxious to buy any dip that results.

"The momentum is clearly building on the upside," Cecin said. "You might continue to see companies with specific fundamental problems, and I don't think those companies will be treated well. But do you buy the Microsofts MSFT and others that will lead the recovery. The vote is yes."

With Microsoft up nearly 50% since Dec. 31 after gaining almost 5% this week, investors are clearly placing their votes (and money) with the optimists.