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Rich Bernstein is recommending clients increase the portion of their portfolios dedicated to stocks, but he doesn't seem all that happy about it.

In his first shift in nearly three years, the closely followed

Merrill Lynch

chief quantitative strategist upped his recommended equity allocation to 60% from 40%, while dropping both bonds and cash to 20% from 30%. He is doing this even though he thinks many stocks are dear and that investors remain overly optimistic.

"Valuation and sentiment remain quite troublesome and do not have the markings of a major new bull market," says the not-so-enthused Bernstein. "However, the


has made it blatantly obvious that they're opening the spigots and opening them as wide as they will go."

Fighting the Fed

When the

Federal Open Market Committee

cuts rates, as it

did by a half-point yesterday in a surprise intermeeting move, it is in essence pumping money into the economy. The aggressiveness with which the Fed is cutting the fed funds target rate -- so far this year it has dropped from 6.5% to 4.5% -- and its hints that there are more easings to come can act as a powerful stimulus for stocks. Indeed, many people attribute stocks' powerful rally through early 2000 to the liquidity the Fed added to the economy, first in response to the 1998 Russian debt crisis and then as insurance against anything untoward happening during the millennium date change.

As for which sectors investors should be putting money into, Bernstein has made no changes. Because he believes that profits will remain under pressure for some time, despite the Fed, he continues to recommend areas that tend to generate steady earnings growth regardless of the economic climate, like consumer staples and healthcare. An exception to this is energy and power, an area that, as many Californians have come to realize, did not see enough investment while tech was busy percolating. Bernstein is hoping that a good portion of the money the Fed is putting into the economy goes toward correcting this imbalance.

Spin Move

If it doesn't, he's going to start worrying.

"If the liquidity flows into the sectors that actually need capital, this could be quite healthy," he says. "If it does not, and it flows into the tech sector and starts reflating the bubble, we are going to change course so fast it will make your head spin. I am not going to tell people to invest in a bubble."

In the past, Bernstein's unwillingness to tell people to put money in a market he thought had become overtly speculative made him a lonely guy. Last year, his big underweight in stocks made it seem to some observers like he'd lost touch; not as many clients were listening in on his monthly calls as in the past. But in the wake of big selloff in stocks, things look a bit different. Since he got cautious on the market in July 1998, bonds have outperformed the

S&P 500

by over 10 percentage points, and cash has outperformed it by 6 points.