Market Treads Lightly Amid the Heavy Talk - TheStreet

Unless "The Mary Tyler Moore Show'"s

Mary Richards shows up, it's hard to imagine what's going to take this nothing day and suddenly make it all seem worthwhile. Or at least it's hard to picture what's going to spur dramatic movements in either direction after a morning of some volatility within tight ranges.

As of 3:09 p.m. EST, the

Dow Jones Industrial Average

was up 0.2% to 7877.81 after trading as high as 7933.68 and as low as 7801.29. The

S&P 500

was up 0.1% to 830.54 vs. its intraday high of 837.16 and low of 823.53, while the

Nasdaq Composite

was up 0.3% to 1286.40 after trading between 1298.60 and 1275.20.

Aside from some deals (

Johnson & Johnson

(JNJ) - Get Report

buying

Scios

(SCOS)

) and rumored merger talks (

SBC Communications

(SBC)

and

Hughes Electronics

(GMH)

) plus Alan Greenspan's Congressional testimony Tuesday and Wednesday, Wall Street's focus remained on geopolitical issues early Monday.

Developments over the weekend augured poorly for stocks and the dollar as they pointed to either an extended period of inspections in Iraq or the U.S. going to war without United Nations backing. However, an announcement Monday morning that Iraq will allow U-2 surveillance flights helped stocks and the greenback rally from their morning lows. The U.S. Dollar Index was lately up 0.62 to 100.19, while gold was down $6.30 to $364.20.

Weekend events included:

President Bush saying, "It's a moment of truth for the U.N., which gets to decide shortly whether or not it is going to be relevant."

Russia expressing support for a Franco-German plan that reportedly calls for the tripling of U.N. weapons inspectors. Defense Secretary Rumsfeld blasted the proposals, which is expected to be presented at the U.N. on Friday, coinciding with chief weapons inspector Hans Blix's scheduled presentation.

France, Germany and Belgium blocking NATO plans to start preparations to defend Turkey against a possible Iraqi attack in the event of a war.

Meanwhile, Iran said it will start to develop uranium mines. The nation's leaders say its nuclear ambitions are for "civilian application and nothing else," but U.S. officials expressed concern Iran is embarking on a nuclear weapons program. Also, the U.S. Ambassador to Japan, Howard Baker, said Monday North Korea may engage in missile tests over Japan.

On Monday, Hans Blix and Mohamed ElBaradei discussed their talks with Iraqi officials, with Blix suggesting he'd seen a "change of heart" among the Iraqis, but expressing disappointment that U-2 reconnaissance planes were still not flying. Later, ElBaradei announced that Iraq has agreed to allow the U-2 flights.

Amid longer-term fundamental issues such as valuations and the economy's fate, the prospects for war with Iraq are dominating near-term sentiment on Wall Street. Almost everyone expects

something

dramatic will happen when military action ensues, but few are willing to make big bets in anticipation, keeping trading volume subdued.

Tom McManus, equity portfolio strategist at Banc of America Securities, admits to having "no particular keen insight" regarding Iraq. Nevertheless, McManus upped his recommended equity allocation to 75% from 70% on Monday, reducing bonds to 15% from 20% and leaving cash unchanged at 10%.

Getting Yet More Bullish

The strategist believes a military campaign is likely and worries that "a war will be expensive and disruptive to near-term economic growth prospects."

However, he believes more investors are worried that "too many

others are expecting the stock market to advance once the war begins -- or once the end is in clear sight" vs. being excited about such a possibility themselves.

In other words, McManus believes sentiment about the war is overly cautious/skeptical, as opposed to overly optimistic. Given sentiment is generally viewed as a contrarian indicator, this is a bullish development in his view.

"If sentiment were so overwhelmingly bullish, we think it would bemuch less expensive for bearish investors to purchase the put options theydesire," McManus wrote, referring to recent increases in the CBOE Market Volatility Index and put/call ratio.

The VIX was lately off 2% to 38.01, but still up over 40% in the past month. The equity put/call ratio was at 1.16 as of 3 p.m. EST, down from

last week's peak but higher than its 0.75 level on Jan. 10.

In addition to sentiment, McManus attributed his growing optimism to recent economic data being "not as bad as feared," and equity valuations being "attractive," especially relative to Treasuries. Many large-cap stocks trade with price-to-earnings ratios similar to those in 1996, he noted, recalling that Treasury yields were 100 to 200 basis points higher then, depending on the maturity.

Clearly, some individual stocks still sport gallingly high valuations. But McManus' work is based on valuations of the so-called average stock, be it via the S&P 1500 (S&P 500, MidCap 400 and SmallCap 600) or the Value Line Index.

"Admittedly, the curse of attractive valuations is that -- absent a catalyst -- they may keep getting more attractive," he wrote. "Eventually, though, good values will be recognized."

The question, of course, is whether investors who bet on stocks now will have anything left when that recognition occurs.

Like It at 9600, Love It at 7800

This is the fifth time McManus has upped his recommended equity allocation since

June 10; prior to that, McManus was at 50% stocks, among the lowest of the so-called major strategists.

He is now tied for second with several others as the most optimistic strategist, trailing only UBS Warburg's Edward Kerschner, who's at 89% as of Feb. 3.

Longtime readers of this column know I've long been a fan of McManus, mainly because he's been one of the more accurate Wall Street strategists in recent years. He was extremely bullish on stocks until early 2000 and then grew increasingly and steadily more bearish, save for a few well-timed buy calls in March 2001 and September 2001.

But investors have short memories these days, and the Dow closed at 9645 on June 10 while the S&P 500 finished at 1030. Since then, the Dow has closed as high as 9706 and as low as 7286 and the S&P closed as high as 1037 and as low as 777.

Via email, McManus recalled his note in June was titled "Still Bearish" and that he added another 5% on July 15 -- about a week before the summer lows -- on Sept. 23, and on Oct. 14 -- just a few days after those lows.

"The proof will be in the pudding in a year or two," he wrote, suggesting institutional clients prefer strategists be "a little early" because of the time it takes them to establish large-sized positions.

Fair enough, and clearly there's a lot more to being a strategist than setting equity allocations and picking targets. But the bottom line is there's been a lot more risk than reward for shareholders since McManus first started getting more optimistic.

Aaron L. Task writes daily for TheStreet.com. In keeping with TSC's editorial policy, he doesn't own or short individual stocks, although he owns stock in TheStreet.com. He also doesn't invest in hedge funds or other private investment partnerships. He invites you to send your feedback to

Aaron L. Task.