For investors who are used to living large, this has been the year from hell.

The markets are tanking. Food costs 25% more than it did a year ago. Inflation is on the march for the first time in decades. The sky’s the limit on gasoline after oil prices have doubled in the year.

No doubt about it: As far as financial downturns go, this mess is the real deal.

With that in mind, we’ve taken the time to provide you with candid answers to four questions we’ve been asked time and again. And that’s not all. We used those questions to craft a three-step strategy that will give you the returns you seek, without forcing you to "bet the ranch."

Q: How Bad Are Things Right Now?

A: Let’s not mince words, here – they’re bad. Our take is that this is the worst financial crisis since the Great Depression. Folks should not be the least bit surprised by last week’s horrendous drop-off, nor should they be surprised to learn that the Dow Jones Industrial Average has endured its worst June since 1930.

The sad thing is that it didn’t have to be this way.

For nearly 20 years, the U.S. Federal Reserve under former Chairman Alan Greenspan flooded the markets with cheap money and easy credit that encouraged individuals and institutions alike to take hugely imprudent risks with their money. The Fed should have opted to "stand pat" and allowed the greenback to strengthen; instead, it created all that cheap money and allowed the dollar to sink to Third World debtor status.

Unfortunately, it doesn’t look like current Fed Chairman Ben S. Bernanke is going to "get with the program" and see the light anytime soon.

Q: How Bad Could It Get?

A: Our proprietary technical analysis suggests that we could actually see the Standard & Poor’s 500 Index trading at half of its 2007 peak of 1,576.09, which would send the broad index all the way down to a sickening 788.04 before this is all done.

While this is possible, we’re not saying that it’s necessarily probable. That’s actually an entirely different question and could well be determined by one key issue: How quickly and how thoroughly the banks and financial institutions "de-leverage."

If banks "came clean" all at once, the markets would probably take a quick hit. As history shows us – quite clearly – the financial markets can digest bad news remarkably well, and tend to spring back very quickly.

Unfortunately, by intervening so aggressively and so frequently, the central bank has kept the markets from functioning effectively. Indeed, all the Bernanke-led Fed has done is to postpone the inevitable.

Team Bernanke also is sending the wrong message – telling financiers that it’s somehow OK to keep hiding as much bad debt as possible for as long as possible because Uncle Sam will come riding to the rescue.

This is a complete perversion of the Federal Reserve Act, which was created "to increase production, so as to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates."

And, as investment guru Jim Rogers pointed out when I interviewed him at his home in Singapore earlier this year: "Nowhere does [the Act] say that the Fed is supposed to bail out investment banks. It’s absurd."

Unfortunately, no matter how absurd this seems, the bottom line is that it’s really happening – and that means we must face the problem head on and deal with it. To deal with it effectively, however, you have to know precisely what you’re dealing with. So, let’s take a look at some key questions you should be asking.

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Q: How Will It Affect Me?

A: There’s obviously going to be a financial effect. Not only are the markets likely to remain unsettled until the de-leveraging is complete, but the Fed’s reckless liquidity-pumping scheme will result in serious inflationary pressure well beyond what we’re already feeling.

As disheartening as that is to accept, the real challenge we’ll face as investors will come from the person we gaze upon in the mirror each morning.

The reason is that we tend to default to our most basic and counter-productive instincts when the markets get rocky. We allow irrational fears to take hold. Then we let those fears take over. The result: We begin making bad decisions that all too often induce us to join the rest of the investment lemmings and run right off the cliff.

Next time you find yourself in such a predicament, take a moment to step aside, take a deep breath and really evaluate your situation. You have many more options than you might initially believe.

Q: Is There Any Good News?

A: Absolutely. As history teaches us, the lowest returns come to those who buy near, or at, market peaks – like those of 1928, 1969, 1999 and 2007.

Profits are usually a byproduct of courage – or, at the very least, a belief in proven strategies. That’s why the biggest investment returns come to those who invest when the days are darkest: Think 1932, 1942, 1982 and 2003 – when the world looks like it’s going to hell in a hand basket. (Even so, that doesn’t make the conversations we have with our spouses – such as this recent exchange with my wife – any easier: "Honey, you remember that stock we lost $20,000 in? Well, we just bought more …").

I may be the trader in the family, but she knows the statistics, too. Even so, understanding that it pays to "buy when there’s blood in the streets" doesn’t make the move any easier. I’m sure you can relate on this point.

Q: Are there any steps I can take right now to protect my assets, and even profit in today’s markets?

Again, the answer is: Absolutely. Using history as our guide, the real question is not will the markets recover, but what’s necessary for them to do so? And what can I do to protect my upside potential?

To make the process a bit simpler, I’ve detailed three rules to follow:

• "Sure things" beat "next-best things" – virtually every time: Having a properly balanced portfolio is the first, and most important, step to surviving and prospering in uncertain markets. Believe it or not, many investors are still "putting the pedal to the metal," even though this is hardly the time to do so.

We urge a proprietary 50-40-10 portfolio split (50% in "Safety & Balance," 40% in "Global Growth & Income," and 10% in speculative investments that we’ve playfully labeled as the "Rocket Riders" to underscore our point). Quantitatively, this risk-reduction mix helps us avoid the losses of the broad market during bearish periods, and achieve as much as 91% of the stock market’s total returns during rallies – while using less than half the market risk to accomplish all this.

• Profit from inflation: When the markets get tough, inflation can really eat into your returns. To counteract this, a good chunk of assets should be focused squarely on commodities, energy and other stocks that actually can dually benefit from inflation and raise prices for the goods and services they sell as a means of additional protection. For added security and upside, split ‘em using the 50-40-10 structure above.

• Go where the growth is: Within the next five to 10 years, global investments are projected to double to nearly $300 trillion, with 60% of that growth coming from established markets such as the United States and Japan. That means that tomorrow’s market leaders will probably be selling products we’ve not yet seen, featuring names that we can’t pronounce.

Right now the best values can be found in global blue chips, offering the unbeatable combination of high cash flows and strong pricing power. Not only have these shares been beaten down to the cheapest levels we’ve seen in years, but they have plenty of cash on hand.

[Editor's Note: Investment guru Jim Rogers predicted the global financial meltdown, as well as the twin escalations in oil and food prices worldwide. To obtain a free copy of his new best seller, "A Bull in China," in which he details ways for investors to profit from these trends, please click here.]

News and Related Story Notes:

• Money Morning Special Report:
  Jim Rogers: More Pain for the Greenback, and the Failure of the Federal Reserve.

• Money Morning Special Investment Report:
  Global Investing: Has Wall Street Rigged the Game?

You can bet there will be a lot of discussion about interest rates this week, thanks to the release of the producer price index (PPI) report tomorrow (Tuesday) and the U.S. Federal Reserve meeting minutes on Wednesday.

The PPI report will undoubtedly rekindle the inflation-versus-recession debate (with more than a few comments about stagflation thrown in for good measure).

While the wholesale inflation gauge (PPI) provides another look into how escalating food and energy prices are impacting the economy, the most recent moves in oil and gas may not be factored in for another month or two.

On an optimistic note, gasoline prices historically peak around Memorial Day and then fall throughout the remainder of the summer. As we’ve said here a number of times before, don’t expect that pattern to repeat itself this year [Indeed, please click here to check out a related story in this issue of Money Morning that details our expectation that oil-and-gasoline prices are headed even higher].

In this column four weeks ago, we told you to ignore a U.S. Energy Department forecast that gasoline prices at the pump would reach $3.73 a gallon before falling. In fact, I said flat out that the Energy Department was wrong. And Money Morning Investment Director Keith Fitz-Gerald shortly thereafter reiterated that belief that the Energy Department’s prediction was way off the beam. And how right we were – that price already has been surpassed and consumers in some parts of California and Hawaii are paying in excess of $4.00 a gallon.

Less than two weeks ago we actually boosted our target price for oil to $225 a barrel (remember that Keith Fitz-Gerald, now Money Morning’s investment director, was probably the first investment guru to predict triple-digit oil prices).

As noted, however, much of this won’t be reflected for a couple of weeks.

Wednesday’s release of the minutes from the last Fed meeting should provide investors with a bit more insight into the mindsets of central bank policymakers and just how likely they will be to stand pat on interest rates: In one of the most aggressive rate-cutting campaigns in the central bank’s history, policymakers have pared the benchmark Federal Funds rate seven times since mid-September. Investors expect the Fed to sit tight (and hold off on further rate activity) at least through the summer months.

More retailers will report this week [Target Corp. (TGT), The Home Depot Inc. (HD) but few surprise are expected at this point in an earnings cycle that – except for the discounters – has been full of disappointing retail-sales reports.

The Money Morning Story SNAFU

When they received their daily e-letter last Monday, sharp-eyed Money Morning readers noticed something peculiar about this column.

It seemed familiar.

There’s a very good reason they felt that way. They were right.

Due to a technical problem, and some human error, the column we’d put together for Monday’s newsletter was inadvertently replaced by the afore-mentioned April 14 story in which we’d told you that the Energy Department’s optimism about summer gasoline prices was wrong.

We replaced that story on the Web site with the correct piece – a warning about the week’s upcoming retail-sales reports, but we heard about the mistake. As we deserved to.

As bad as we felt about the mistake, we still found several positives. First and foremost, we were reminded yet again that we have a loyal following that reads our work closely and carefully – and for the most part enjoys and benefits from what we do.

And if you all had to read one of our "old" stories a second time, I’m happy to say that it was a strongly worded prediction piece that proved us correct.

Market Matters

Over that past year-plus, the subprime debacle and related credit crisis have prompted discussions about "disaster," "devastation," "tragedy," and "catastrophe."  Homeowners were unable to afford their houses, institutions faced significant asset write-downs, hard-working folks lost jobs, and investors watched portfolio values decline.  While these financial consequences undoubtedly have been traumatic for many, the events of the past two weeks can serve to lend some perspective.  The death toll in Myanmar has reached about 80,000 with another 50,000 people still missing.  Likewise, in China, where the earthquake eventually may take over 50,000 lives as well.  Somehow, missing quarterly earnings by a few cents simply does not seem quite as significant. 

Speaking of…earnings season plugged along and the results to date have given some analysts (the slightest) reason for optimism.  As the week began, about 90% of Standard & Poor’s 500 Index companies had reported and 62% actually beat expectations.  While average quarterly earnings have plummeted by over 17% on a consolidated basis, the results looked far stronger once the financial firms were removed from the equation.

Without that struggling sector, first-quarter profits actually increased by more than 7%.  Retailers took center stage this week as Wal-Mart Stores Inc. (WMT) proved again that discounters are benefiting from the current consumer nervousness.  However, while Macy’s Inc. (M) and JC Penney Co. Inc. (JCP) suffered from weak sales, their results (and guidance) bested Street projections.  Sony Corp. (ADR: SNE) rebounded as TVs and cameras moved back onto consumer shopping lists.  Bond insurers MBIA Inc. (MBI) and Freddie Mac (FRE) reported wider losses, while UK-based HBSC Holdings PLC (ADR: HBC) realized higher profits.   

Board directors and corporate execs again played "Let’s Make a Deal" as CBS Corp. (CBS) announced its intent to buy CNET Networks Inc. (CNET); Hewlett-Packard Co. (HPQ) made overtures toward Electronic Data Systems Corp. (EDS); General Electric Co. (GE) is reportedly putting its long-time appliance biz up for auction; and billionaire stakeholder Carl Icahn pushed for Yahoo! Inc. (YHOO) management to reopen talks with Microsoft Corp. (MSFT).  Analysts often welcome merger news and consider it a positive sign of a rebounding business climate.  Research in Motion Ltd. (RIMM) shares soared this week on news that its newest Blackberry creation will soon hit the market; and Merck & Co. Inc. (MRK) received a major victory when a Texas appeals court overturned a Vioxx verdict that, initially, awarded $32 million in damages. 

Goldman Sachs Group Inc. (GS) apparently enjoyed the limelight (and the stir its analysts caused) two weeks ago. Last week, the investment bank was at it again, forecasting that crude prices will rise to $141 a barrel during the second half of 2008.  Oil surged to about $128 a barrel late last week as gasoline prices soared to over $3.75 a gallon – just a week before the widely-traveled Memorial Day weekend.

The S&P 500 Index and the Nasdaq Composite Index each hit five-month highs, although some profit-taking set in as the week came to a close.  Hopefully, the weekend will bring some positive developments in Myanmar and China (or, at least, a beginning to the end of the devastation).           
                       

Economically Speaking

As regular Money Morning readers know all too well, we are big believers that Wall Street analysts are a fickle bunch.  Just a few weeks ago, virtually everyone and their mothers believed that a recession was fait accompli (my mother was a holdout).  In a recent Merrill Lynch & Co. Inc. (MER) survey, only 29% of global fund managers expect the whispered-about "R" word to become a reality and many now feel that inflation is a greater domestic concern.  Some economists are crediting the work of the Fed for improving the credit markets, though Federal Reserve Chairman Ben S. Bernanke himself claimed that the situation remained "far from normal."  Bernanke, however, did praise financial institutions by noting that he is "encouraged by the recent ability of banks to raise capital from diverse sources."  Meanwhile, the bankers themselves continued to offer less-than-favorable assessments.

JPMorgan Chase & Co. (JPM) Chief Executive Officer James "Jamie" Dimon believes that the credit crisis is nearing an end, but "the recession is just beginning."  Likewise, Bank of America Corp.’s (BAC) Global Consumer Banking president, Liam E. McGee, finds that consumers still feel "significant economic pressure." 

Turning to the numbers, retail sales dropped by 0.2% in April, as auto sales suffered its worst showing in 10 months.  Once autos were factored out of the data (some economists always look for that silver lining), retail sales actually surged by 0.5%, a much better result than many analysts had expected.

Likewise, the news from the inflation front was not half-bad either.  The consumer price index (CPI) climbed by only 0.2%, despite the significant rise in food costs.  Still, many economists point out that oil and gas prices are setting new records daily (thanks Goldman), and the overall inflation picture may get worse before it gets better.  Though housing starts skyrocketed in April – recording their largest gain in over two years – the naysayers remain pessimistic on the sector, contending that the increase was the result of apartment construction and noting that single-family home starts continue to struggle.  Despite some positive economic readings, a consumer confidence poll revealed that recent sentiment fell to its lowest level in 28 years. 

Weekly Economic Calendar

News and Related Story Links:

• Money Morning Economic Analysis:
  Better Than Expected Economic Reports Signal the Economy Could Be Ready for a Fed on Pause.

• Money Morning Economic Analysis:
  With Seven Rate Cuts Since Fall, Could the Fed Be Exporting Stagflation to Europe?

• Money Morning Special Investment  Research Report:
  Money Morning Boosts Oil Target Price to $225 a Barrel, Thanks to Continued Scarcity, Burgeoning Demand in China

• Money Morning Weekly Forecast Column:
  With the Energy Department’s Prediction for Gasoline Prices, the ‘Experts’ Get it Wrong Yet Again.

• Money Morning Financial Commentary:
  One Sure-Fire Sign That Gas Prices are Heading Higher.

• Money Morning Weekly Forecast Column:
  Will This Week’s Retail Reports Help Investors Decode the Mystery of the U.S. Economy?

• Money Morning News:
  With its Profits Lagging, GE May Have a Deal in the Oven, Analysts Say. 

By William Patalon III
Executive Editor
Money Morning/The Money Map Report

The U.S. retail sector will be in the spotlight this week, as investors continue their efforts to gauge the health of the U.S. economy.

Such key retailers as Wal-Mart Stores Inc. (WMT), Macy’s Inc. (M), J.C. Penney Co. Inc. (JCP), Abercrombie & Fitch Co. (ANF), and Nordstrom Inc. (JWN) all are scheduled to report quarterly earnings. Then there’s the April retail-sales data, which will give economists and investors alike a good look at the mindset of the U.S. consumer.

After all, consumer activity accounts for as much as 70% of the U.S. economy’s growth. With the retail-sales numbers, however, keep in mind that the steeply escalating price of gasoline is almost certain to skew the overall reading. 

With the U.S. Federal Reserve and the European Central Bank both expressing serious concerns about inflation, all eyes will be on this week’s release of the Consumer Price Index (CPI) report, which will help reveal just how quickly and significantly energy prices are working their way to other sectors of the economy.

Listen closely as certain economists claim that "core" inflation is more telling – and provides a more-accurate picture of the economy’s health – than the overall number because food and energy components are highly volatile. You see, "non-core" inflation actually includes food and energy prices. In more-normal periods, looking at "core" inflation might make more sense, since food and fuel can be prone to short-term swings that muddy the waters and make analysis tougher over shorter stretches.

But these days, no legitimate conversation about the economy or price pressures can take place without serious consideration of oil and gasoline. And what about food? With the way global commodity prices are shooting skyward, that part of the family budget can’t be ignored, either.

Memorial Day is just around the corner and summer vacations are being planned in earnest (or perhaps they aren’t). Can travelers afford those family driving excursions, given the high costs of food and fuel? [Check out a related Money Morning report that details the impact soaring oil and gas prices are having on U.S. consumers.]

And what about vacations abroad? Fuel is a major element for airlines, so we can probably expect airfares to climb as fast as the jets the carriers fly. And with the way the U.S. dollar has been hammered, U.S. consumers may not be able to afford overseas sojourns anyway. Only time will tell [For a related story on the woes the weak greenback is causing consumers, please click here].

Market Matters

What a difference a few days can make.  Two weeks ago, a rallying dollar appeared to put a cap on energy prices (and the price of other commodities), and "nervous" consumers breathed a (brief) sigh of relief as the summer travel months rapidly approached.  Suddenly, Goldman Sachs Group Inc. (GS) chose to make that bold prediction that oil could reach $150 to $200 a barrel over the next six to 24 months, helping oil prices skyrocket over five consecutive record-setting sessions.

Curiously, the Goldman Sachs prediction that ignited the firestorm in the oil-prices market was nothing more than a repeat of a prediction the investment bank had made in mid-March. Even more interesting: Money Morning Investment Director Keith Fitz-Gerald has been predicting higher prices for some time and actually beat Goldman to market with both of its predictions (which he wasn’t aware Goldman was assembling, of course): Fitz-Gerald first publicly predicted a target price of $187 a barrel in December, and reiterated that prediction in mid-March; more recently, Fitz-Gerald boosted his target price to $225 a barrel.

One final note that underscores the often-contrary nature of investors and the capital markets: Given the fuss made over Goldman’s "encore prediction" for oil prices of $175 to $200 a barrel, we’re stunned that there was almost no response at all to CIBC World Markets‘ prediction that gasoline could hit $7 a gallon in four years. But that prognostication failed to even cause a stir (although, in typical fashion, we made sure to tell you all about it as part of our own oil-price forecast last week). It’s worth noting what CIBC analyst Jeff Rubin had to say.

According to a statement by Rubin, crude-oil supplies are actually lower than some official estimates indicate, while demand is unlikely to fall anytime soon. Those tighter supplies and continued strong demand will drive oil and gasoline prices to roughly double their current levels by 2012.

"It is increasingly clear that the outlook for oil supply signals a period of unprecedented scarcity," Rubin said. "Despite the recent record jump in oil prices, oil prices will continue to rise steadily over the next five years."

That’s a decidedly sobering – if not a downright scary – prospect, to be sure. But there are steps investors can take, moves they can make to profit in order to offset some – if not all – of this pocketbook pain. [For just that reason, take the time to read Money Morning Investment Director Keith Fitz-Gerald's investment research report that provides three ways to profit from the run-up in oil prices. The report is free of charge].

In any case, despite a weekly inventory report that revealed greater than expected oil and gasoline supplies, crude prices pushed beyond the $126 a barrel level. Year-to-date, crude has surged about 30% and has virtually doubled from last year’s pace.  Energy analysts claimed that $150 crude would suggest gas prices of more than $4.50 a gallon, quite a run-up from the record of $3.67 the average consumer is now paying at the pumps. 

For now, the Organization of the Petroleum Exporting Countries (OPEC) seems content to maintain its current production output and blames failed U.S. economic policies for the dire domestic conditions. The cartel next meets in September and only recently gave slight overtures that an early consultation may be in the cards.  (Don’t hold your breath.)  Now comes news that Venezuelan President Hugo Chavez may be supporting rebel forces in Colombia, a move that could bring sanctions against his country (and prompt retaliation in the form of reduced oil sales). Meanwhile, two presidential hopefuls – Democratic Sen. Hillary R. Clinton and Republican John McCain continue to push for a "gas-tax holiday," despite consensus economic views that such policy would benefit oil companies far more than consumers.  Finally, a bit of good energy-related news.  In an attempt to boost sluggish sales, Chrysler Corp. introduced its "Let’s Refuel America" gimmick in which new car purchasers can lock in the price of gasoline at $2.99 per gallon for the next three years  (Of course, they have to buy a Chrysler, Jeep, or Dodge to participate).

Earnings season did little to reverse the negative mood set by the energy sector as a few big financials – Fannie Mae (FNM), UBS AG (UBS), Wachovia Corp. (WB), and American International Group Inc. (AIG) – reported poor quarters with few optimistic signs for the months ahead.  Even Berkshire Hathaway Inc. (BRK.A, BRK.B) took a significant hit on certain derivatives, though Warren Buffett claimed such contracts ultimately would prove profitable. (Interesting how Buffett criticized everyone from regulators to politicos to investors for the credit crisis and then revealed some "challenges" in his own house last quarter).  The Yahoo! Inc. (YHOO)/Microsoft Corp. (MSFT) deal appears to be dead in the water (for now), as Microsoft founder Bill Gates and Chief Executive Steven Ballmer head back to the "Corporate Strategy" drawing board in the ongoing competition with Google Inc. (GOOG), and Yahoo co-founder and CEO Jerry Yang tries to find another white knight while explaining to shareholders why he may have taken money out of their pockets.

Equity investors took a break (hopefully short-lived) from the recent optimism and focused on the negative energy and earnings news. In reality, last week brought little substantive corporate or economic developments; many took the opportunity to lock in profits from the recent bullish run. As those tax rebates hit their mailboxes (see below), consumers soon should have a few extra bucks to take to the malls, put a down-payment on a Chrysler, or pay for a few tanks of gas.

Economically Speaking

With little in the way of economic data released last week, the talking heads captured the limelight with some (contrasting) views on the state of the times.  European Central Bank President Jean-Claude Trichet revealed his "significant" concern about inflation and, subsequently, left the ECB’s primary interest rate unchanged at 4.0%.  Likewise, Kansas City Fed President Thomas M. Hoenig warned of "troublesome," "serious," and "unacceptably high levels" of price pressures (though, as a non-voting Fed member, no one seems to much cares what he has to say). Meanwhile, Treasury Secretary Henry "Hammerin’ Hank" Paulson indicated that the Administration believes the "worst is likely behind us," while his boss praised the economic stimulus package in which 130 million folks will soon be receiving tax rebates to help boost consumer spending.

The economy got a surprising shot-in-the-arm from the services sector as the non-manufacturing ISM index revealed expansion for the first time in four months. About 80% of economic activity is derived from the services sector, so the data may have offered further proof that Paulson and friends may be right. Consumers took advantage of the lower interest rates last month as April borrowing (particularly auto loans) climbed at its fastest pace in four months. Retailers experienced mixed results during April as shoppers continued to favor discounters and wholesale clubs like Wal-Mart and Costco Wholesale Corp. (COST) over apparel stores like Limited Brands Inc. (LTD), The Gap Inc. (GPS), and Nordstrom.  Meanwhile, the UBS-International Council of Shopping Centers retail sales survey showed that activity in April far exceeded expectations.          

Weekly Economic Calendar

News and Related Story Links:

• Seeking Alpha:
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• Money Morning News Analysis:
  Soaring Oil and Gasoline Prices Worry Cost-Conscious U.S. Consumers.

• Money Morning News Analysis:
  Weak Dollar Narrows

• Money Morning Financial Analysis:
  A Currency Conundrum: Beware of the U.S. Dollar’s "Head Fake" Rally.

• Money Morning Oil Price Analysis:
  Money Morning Boosts Oil Target Price to $225 a Barrel, Thanks to Continued Scarcity, Burgeoning Demand in China.

• Money Morning Special Investment Research Report:
  Three Ways to Play Money Morning’s Prediction That Oil Prices Will Reach $187 a Barrel.

• Money Morning Special Economic Forecasting Series Project:
  Outlook 2008: How to Profit When Oil Bubbles Up Above the $100 Level.

• ArabianBusiness.com:
  Crude to hit $175, Says Goldman Sachs.

• MarketWatch.com:
  Goldman Sachs and the oil bulls.

With earnings season starting to wind down, investors are not anticipating many new surprises.  Still, a few prominent players are set to report this week led by The Walt Disney Co. (DIS) (entertainment), Cisco Systems Inc. (CSCO) (tech), and American International Group Inc. (AIG) (financial services).

The Microsoft Corp. (MSFT)/Yahoo Inc. (YHOO) (and occasionally Google Inc. (GOOG)) soap opera will be worth watching – if only to make sure that Microsoft’s withdrawal isn’t a cover ploy for a hostile run at Yahoo [For a related news story in this issue of Money Morning that details Microsoft's decision drop its pursuit of Yahoo, please click here].

A slow schedule on this week’s economic calendar will prompt a much greater focus on the dollar as investors speculate on whether the price run-up in commodities – and oil – is at, or near its end. Gold prices will help make that determination [For a related news analysis of gold prices in this issue of Money Morning, please click here].

U.S. Federal Reserve Chairman Ben S. Bernanke is scheduled to address the Columbia Business School on mortgage issues, though he’ll surely also be asked about central bank policies by a rapt audience whose members will hang on his every word.  [Wasn't he supposed to be on vacation?]

Last week’s earnings saw some energy companies that were benefiting from the most recent surge in energy prices. Though Exxon Mobil Corp. (XOM) only claimed the second-highest profit ever (it also holds the title for the single best quarter ever), the results nevertheless disappointed Wall Street, which was obviously pulling for a new record.

Likewise, Chevron Corp. (CVX) and BP PLC (BP) reported favorable periods.  In the wake of the recent initial public offering (IPO) of credit-card processor Visa Inc. (V), rival MasterCard Inc. (MA) doubled its earnings last quarter as its international business helped overcome domestic weakness.  Consumer-products giant The Procter & Gamble Co. (PG) also received good news from overseas with higher sales of consumer goods like diapers (Pampers), razors (Gillette), and shampoo (Head & Shoulders) from certain emerging markets.

Not all was rosy, however, as Sun Microsystems Inc. (JAVA) and food giants Kellogg Co. (K) and new Warren Buffet favorite Kraft Foods Inc. (KFT) each fell prey to the continued economic "challenges" in the U.S. market.

On the transactional front, investor Kirk Kerkorian will boost his stake in Ford Motor Co. (F), in turn a nice boost for the domestic auto industry. Time Warner Inc. (TWX) will be spinning off its 84% stake in its cable operation, Time Warner Cable Inc. (TWC).

And privately held M&M’s-maker Mars Inc. will buy Wm. Wrigley Jr. Co. (WWY) for over $20 billion in cash with financing help from famed sweet-tooth junkie, Warren Buffett.

Market Matters

Recession?  What recession?  For days, weeks, even months now, naysayers had been predicting the emergence of that dreaded "R" word with the release of 1st quarter GDP.  Additionally, they claimed that the labor picture would continue to worsen, gas prices would hit $4 a gallon by summer, the dollar would be worth next to nothing, corporate earnings would signal more "gloom and doom," and high-net-worth investors would be making dramatic allocation shifts from the "risky" equity markets.

Not so fast … the data released last week appeared to portray an economy closer to a rebound – far from the dire business climate the gloom-and-doomers had been predicting. A stronger dollar that may have placed a ceiling on oil (and other commodities) prices, and rich folks seemed to be looking for bargains in stocks.

Do we here at Money Morning buy into that totally bullish scenario?

Not necessarily.

But we do agree that the next few days, weeks, and months are going to get more interesting.

The latest Fidelity Investment’s Millionaire Outlook reported (mildly) bullish findings among its surveyed investors who have average investable assets topping $4 million.  Instead of decreasing their equity allocations, 27% of these millionaires plan to add stock positions during the next 12 months. Only 7% expect to sell out of equities, which logically deduces 66% will be staying the course.  Real estate seems to be another "favored" asset class, as 14% of respondents say they will increase exposure to related investments.  That doesn’t quite sound like "gloom and doom" at once.

Oil flirted with the $120 a barrel level before sliding on a stronger dollar and news that the Fed may play the "wait and see" game (see below).  Equity investors again took a "things could have been worse" approach and sought out value in the aftermath of last week’s economic and earnings reports.  Some analysts believe that a stronger dollar will mean the end to the rally in commodities, and investors (hedge funds) will take some related profits and move back into stocks.

Despite all the recent negativity, the Dow Jones Industrial Average surged more than 500 points in April, and the Standard & Poor’s 500 Index and Nasdaq Composite Index both rose about 5% – hardly the recessionary results many had been anticipating.

Economically Speaking

Weekly Economic Calendar

After noting that the "substantial easing of monetary policy to date, combined with ongoing measures to foster market liquidity, should help to promote moderate growth over time and to mitigate risks to economic activity," the Fed may now be embarking upon a much-needed summer vacation given that last Wednesday’s quarter-point interest-rate cut appears to be its last move for awhile.

After all, Team Bernanke & Co. has lowered the benchmark Federal Funds rate seven times since mid-September; it now stands at 2.0%, the lowest level since late 2004.

Additionally, the Fed had recently engaged in a few other "creative" actions at a time investors were growing quite nervous about the ever-expanding credit crisis.  For now, the central bank seems content to sit back and watch, while the stimuli or "methods to its madness" begin to take effect. 

Though consumer confidence fell to a five-year low in April, analysts may want to revise their recessionary forecasts for another quarter.  With many anticipating negative economic growth in the 1st quarter, gross domestic product GDP rose by 0.6%.

Remember, by true definition, a recession is marked by two consecutive quarterly contractions, so barring a revision in the months ahead, the 2nd quarter now becomes key for the potential emergence of any real downturn.  Suddenly, some "experts" are questioning that likelihood.  While the Labor Department revealed a fourth straight month of job losses in April, the results were not nearly as bad as many had predicted (only 20,000 non-farm jobs were lost, vs. the 70,000 that had been expected). Likewise, the unemployment rate actually fell to 5.0% (from 5.1% in March), another promising sign for workers. 

On the manufacturing front, factory orders rebounded after consecutive monthly declines and climbed by 1.4% in March.  The ISM Index revealed slight sector contraction, though again many economists were expecting a far worse reading.  While a weaker than expected construction spending report depicted that housing is not showing any real signs of rebounding, some analysts believe the Fed has laid the groundwork for recovery. 

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U.S. Federal Reserve policymakers will likely cut its key interest rate to 2.0% from 2.25% this Wednesday, which would mark the seventh such move since the central bank launched its rate-reduction campaign in mid-September.

But if the central bank does pare short-term interest rates, it’s likely to be the last such move in awhile; the Fed will take a break and give its rate cuts a chance to work their way through the U.S. economic system.

Despite an active-economic-calendar schedule this week – which includes a report on first-quarter gross-domestic product, and several other statistics that could confirm that the U.S. economy is entrenched in a recession – the Fed’s machinations should dominate this week’s headlines, given that the central bank’s interest-rate-setting arm is set to meet Tuesday and Wednesday.

Any announcements about interest rates will be made at 2:15 p.m. Wednesday. Experts also say that whatever the Fed says about its expectations will be just as important as what it actually does to the benchmark Federal Funds rate.

"I don’t think there’s any question that they’ll cut [a quarter-percentage point] off the rate," David Rosenberg, chief economist for Merrill Lynch & Co. Inc. (MER), told The International Herald Tribune. "The real question is what they say about the future. It won’t be an ‘all clear’ signal. But they’ll find a way to tell the markets that they’ve done enough for now, simply put."
Not everyone agrees.

"There is no reason why the Fed should be cutting rates right now," Richard Yamarone, director of economic research at Argus Research Corp., told MarketWatch.com.

Yamarone may be thinking back to some of the public comments certain of the central bankers themselves have been making.

Back on April 18, Fed officials hinted that they would be reluctant to cut the benchmark Federal Funds rate yet again, given that the slumping U.S. economy also faced a major inflationary threat. Indeed, Philadelphia Fed President Charles Plosser warned against believing that interest-rate cuts were "the solution to most, if not all, economic ills."

Plosser is one of the Fed’s major anti-inflation hawks At the time, Plosser was merely the latest in a string of policy-makers to warn about the rising risks of inflation, essentially suggesting that another rate cut would probably be a very tough sell.

In a speech at Drexel University’s LeBow College of Business in Philadelphia, Plosser said real interest rates were now at "an accommodative level, meaning borrowing costs were low enough to start boosting the U.S. economy’s growth rate back toward its normal historical norm, Reuters reported.

The futures market is projecting a Fed Funds rate of 1.75% by the end of this year. Here’s a look at the futures market’s month-by-month expectations for short-term borrowing costs for the remainder of 2008:

• April: 2.17%.
• May: 1.89%.
• June: 1.85%
• July 1.79%.
• August 2008: 1.76%.
• September 2008: 1.76%.
• October 2008: 1.77%.
• December 2008: 1.73%.

The worries about inflation that Plosser and other inflation hawks have are very real. And those concerns don’t exist solely on our side of the Atlantic. The low U.S. rates are contributing to a weakness in the greenback that’s sent the American currency to record lows against most other key world currencies. That’s fueling a massive run-up in the cost of energy and food-related imports – and that’s inflationary for U.S. buyers.

But it’s made U.S. exports very competitive abroad, acting almost as a big discount for foreign buyers of such wares as Boeing Co. (BA) jetliners. In fact, just last week Boeing surprised Wall Street with record earnings and announced a record order backlog. And pan-European arch-rival Airbus SAS., was forced to announce a price increase on several  of its commercial airliners – because of rising steel prices and because of the falling dollar.

French Economy Minister Christine Lagarde yesterday (Sunday) that the gap between the U.S. and Eurozone interest rates was way too large, and called for a change in rate policies on one side of the Atlantic, or the other.

"We are in a delicate situation where we have, on the one hand, an American Federal (Reserve) which has a policy of very low rates and a European Central Bank which has maintained high interest rates," Lagarde told LCI Television and RTL Radio, the global wire service Reuters reported. "The differential in interest between the two, it seems to me, is a little too big at the moment."

Paris has long been a vocal critic of what French President Nicolas Sarkozy has termed the ECB’s overly narrow focus on fighting inflation – and has previously been criticized by Germany for meddling in the business of the "independent" central bank.

With Eurozone inflation running at about 3.6% – its highest rate since the measure for that portion of the European market began in 1997, the European Central Bank (ECB) has left its key refinancing interest rate unchanged at 4.0%, despite some very definite signs that Eurozone growth is slowing.

By comparison, the key U.S. interest rate is at 2.25%, though it may be heading lower this week, and inflation is "officially" said to be at right about 4% – though such experts as Money Morning Contributing Editor Martin Hutchinson believe the actual U.S. inflation rate is actually much higher.

Although the FOMC meeting is likely to top the economic the economic news of the week this week, the GDP report will come in a fairly close second and will be nearly as closely watched by some experts. The reason: Many eternal pessimists are expecting the report to show negative growth during that three-month period.

Why is that important? Simple: According to the National Bureau of Economic Research (NBER), two consecutive quarters of negative growth constitutes a recession.

Most folks "feel" like the U.S. economy is already in a recession. An official designation by the NBER – which usually comes well after the fact – would simply make it official.

In the meantime, some of these other reports this week could help serve as an interim and unofficial "confirmation" of that dour diagnosis of the U.S. economy:

• The health of the manufacturing sector will get a solid assessment via Thursday’s release of the much-watched ISM survey and Friday’s report on factory orders.
• The all-important U.S. labor markets will get significant scrutiny via Thursday’s report on initial jobless claims and Friday’s reports on the U.S. unemployment rate and on non-farm payroll data.
• We’ll get a bit more insight into the psyche of the American consumer with Tuesday’s report on consumer confidence for the month of April and Thursday’s report on personal income and spending for the month of March.
• And we’ll get an overview of Corporate America’s health, as U.S. energy giants Exxon Mobil Corp. (XOM) and Chevron Corp. (CVX) reveal how their profit reports have been boosted by record energy prices [likely also prompting new calls for Congressional investigations into allegations of price gouging].  Starbucks Corp. (SBUX) will follow up recent warning with an actual announcement, while Office Depot Inc. (ODP) and Radio Shack Corp. (RSH) will give investors a look inside the world of retail.

Market Matters

Two weeks ago, investors disregarded any semblance of bad news (and lately, there has been plenty) and instead took the stock indices to their highest levels in months. Last week, investors allowed the earnings releases to guide their trading activities while awaiting the Fed’s interest-rate decision and commentary.

So just what did the recent earnings reports say about the current state of Corporate America?

Financialscontinue to stoke the negativity (no surprise there) with Bank of America Corp. (BAC), investment banker Credit Suisse Group (CS), and bond insurer Ambac Financial Group Inc. (ABK) reporting more disappointing results.  Drugmakers, on the other hand, enjoyed a nice quarter with Merck & Co. Inc. (MRK) and Novartis AG (NVS) beating expectations.  While a sluggish economy can’t keep folks out of McDonald’s Corp. (MCD) (as least in its international markets), it does seem to be impacting coffee intake as Starbucks warned that this week’s results (and those for all of 2008) will miss earlier projections.  Of course, dire times lead to more nervous smoking (and higher cigarette sales) as happy Philip Morris International Inc. (PM) shareholders found out this quarter.  While cost-conscious folks stayed home and watched more DVDs, Netflix Inc. (NFLX) warned that future subscriber growth may be limited. 

Both Delta Air Lines Inc. (DAL) and Northwest Airlines Corp. (NWA) posted sizable losses on skyrocketing fuel costs, leading some analysts to question the wisdom behind the proposed merger. While the world’s largest shipper, United Parcel Service Inc. (UPS), experienced a jump in profits, management expressed concern about the quarters to follow, since consumers just don’t seem quite as interested in finding out "what Brown can do for you."  Even techs, which previously had been a savings grace for the market, turned pessimistic this week.  Apple Inc. (AAPL) and Texas Instruments Inc. (TXN) reported decent earnings, but warned about their respective outlooks.

Likewise, high-tech bellwether Microsoft Corp. (MSFT) disappointed with its profit numbers, while investors wait with trepidation to see what becomes of Microsoft’s bid for Yahoo! Inc., (YHOO). Meanwhile, Yahoo beat "The Street’s" expectations. However, the three-week deadline that Microsoft gave Yahoo to come to an agreement on its unsolicited bid passed Saturday without any announcement from either side, leading to the possibility that the battle for Yahoo is about to turn hostile, MarketWatch.com reported.

ConocoPhillips (COP) showed that record energy prices are not hurting everyone, as the No. 3 U.S. oil company reported a 17% increase in profits. 

Transactions typically imply growing confidence in corporate boardrooms as management finds the value in certain acquisition targets.  Last week, News Corp. (NWS.A) moved closer to buying Newsday and giving Rupert Murdock greater control over the New York press.

Insurance giant Liberty Mutual Holding Co. Inc. agreed to buy SAFECO Corp. (SAF) in a $6.2 billion deal that will create the 5th-largest property and casualty firm.  Triarc Cos. Inc. (TRY) soon may be adding those terrific "hot-and-juicy" square burgers and addictive Frosty drinks to its Arby’s roast-beef-sandwich menus as it looks to acquire Wendy’s International (WEN) in a deal valued at $2.34 billion. And, of course, there’s still the Microsoft-Yahoo proposal.

With a mixed week on the earnings front, stocks traded relatively flat as investors took some profits from last week’s newfound bullish sentiment, while still searching for a bargain or two. 

Economically Speaking

For many Fed-watchers, the prospect for another rate cut has been a foregone conclusion.  After all, central bank Chairman Ben S. Bernanke and clan have let their creative juices flow [not to be confused with the creative juices of those Wendy's hamburgers] over the past few months; the Fed has tried everything from the aggressive rate-cutting campaign to liquidity injections to arranging the buyout of The Bear Stearns Cos. Inc. (BSC) by JPMorgan Chase & Co. Inc. (JPM).

Suddenly, some great prognosticators believe the Fed may be "seven and done" as they drop the Federal Funds rate again (by a minimal quarter of a percentage point this time around) – before going on a "summer hiatus" to give their earlier work the time to take effect.

With oil prices hovering around the (once unheard of) $120/barrel level, some policymakers are sure to claim that inflation should be considered as critical a concern as the sluggish housing market to the U.S. economy’s health. Indeed, comments such as those of Philly Fed President Plosser make it clear that inflation is already becoming an increasingly important consideration.

Additionally, the European Central Bank seems content to keep its lending rate at 4%, so further Fed actions will continue to have devastating impact on the value of the dollar.

The economic calendar was relatively light last week as analysts rested up for this week’s vast array of important data. After a surprising climb (better known now as an aberration) in February, existing home sales plunged again in March, while new homes sales fell to their lowest level in more than 16 years.

Furthermore, the median price of a new home dropped by more than 13% last month, the largest such decline in almost four decades.

Durable goods orders fell in March, as well, although once the volatile transportation sector was removed from the equation, the results did not look half bad. 

We hope that investors and analysts got plenty of rest over the weekend to get ready for the bustle of economic reports due throughout this week. Talk of recession should resume with the release of the first-quarter GDP, which many eternal pessimists believe will show negative growth during that three-month stretch.

Weekly Economic Calendar

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Another batch of earnings announcements sent shares lower, as weak results from non-financial firms fueled investor concerns that economic weakness is spreading to other industries.

At midday in New York, the blue-chip Dow Jones Industrial Average Index was down 76.86 points (-0.60%), to trade at 12,748.16. The tech-laden Nasdaq Composite Index shed 17.41 points (-0.72%), to reach 2,390.63. And the broader Standard & Poor’s 500 Index decreased 8.41 points (-0.61%), to hit 1,379.76.

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Most sectors were down, with the energy sector (up 0.43%) and the basic materials sector (up 0.08%) posting the only gains. The consumer cyclical sector (down 1.75%) and the technology sector (down 1.12%) had the largest declines.

"Earnings and earnings estimates are coming down," Mike Ryan, the New York-based head of wealth management research for the Americas at UBS Financial Services Inc., which oversees about $734 billion, said in an interview on Bloomberg Television. "We’re likely to see stocks continuing to be under pressure" in the first half of 2008.

Despite a 24% increase in profit, McDonald’s Corp. (MCD) slumped after it announced a slight decrease in same-store sales for March.

Shares of UnitedHealth Group Inc. (UNH) and Texas Instruments Inc. (TXN) were also down sharply after announcing first quarter results.

In overseas markets earlier today, Japan’s Nikkei 225 Index lost 1.1% with a decrease of 148.73 points to close at 13,547.82. Hong Kong’s blue-chip Hang Seng Index gained almost 1% with a 217.48-point climb, to 24,939.15.

European bourses were down, with the Paris-based CAC40, London’s FTSE 100, Madrid’s IBEX 35 and the Frankfurt-based DAX all posting losses.

At midday, the dollar had lost ground against the euro (down 0.457%) and the pound sterling (down 0.812%), but gained ground against the yen (up 0.204%).

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U.S. shares declined as poor earnings from two banks led investors to believe financial firms have yet to recover from the subprime mortgage crisis.

At midday in New York, the blue-chip Dow Jones Industrial Average Index was down 77.02 points (-0.60%), to trade at 12,772.34. The tech-laden Nasdaq Composite Index shed 5.89 points (-0.25%), to reach 2,397.08. And the broader Standard & Poor’s 500 Index decreased 8.67 points (-0.62%), to hit 1,381.66.

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Most sectors were down, with the consumer cyclical sector (up 0.51%) and the energy sector (up 0.70%) posting the only gains. The transportation sector (down 1.01%) and the financial sector (down 0.97%) had the largest declines.

"Every quarter they predict the worst is behind us, we’ve taken the writeoffs, it’s all rosy from here," Whitney Tilson, founder of New York-based hedge fund manager T2 Partners LLC, which oversees about $100 million, said in a Bloomberg Television interview. "Every quarter they’ve been wrong. I think they are again here."

Bank of America Corp. (BAC) announced a 77% decline in first-quarter earnings to $1.21 billion or 23 cents per share. Shares were down over 2% at midday.

Ohio-based National City Corp. (NCC) stock plunged over 25% after a report appeared in The Wall Street Journal that the bank needs to raise $7 billion in capital to bolster liquidity reserves and reduce its dividend to just 1 cent per share.

In overseas markets earlier today, Japan’s Nikkei 225 Index gained 1.6% to hit its highest close in two months with an increase of 220.10 points to close at 13,696.55. Hong Kong’s blue-chip Hang Seng Index rose over 2% with a 523.89-point drop, to 24,721.67, an 11-week closing high.

European bourses were down, with the Paris-based CAC40, London’s FTSE 100, Madrid’s IBEX 35 and the Frankfurt-based DAX all posting losses.

At midday, the dollar had lost ground against the euro (down 0.792%) and the yen (down 0.569%), but gained ground against the pound sterling (up 0.570%).

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It’s earnings season again. But with an odd twist.

You see, most investors realized that earnings season would be dismal; so when the results came in (pretty much) as expected, many investors seemed to find that the news (especially among financials) was not worse and went on a buying spree.

By watching the trading "tape," you almost could "hear" what investors were thinking:

• JPMorgan Chase & Co. (JPM) announces a 50% decline in first-quarter profits, and says markets will remain weak through the rest of this year and perhaps into next: No problem. As bad as the results were, they were actually better than Wall Street expected.
• Citigroup Inc. (C) says it lost $5.1 billion on a 48% decline in revenue and will slash 9,000 jobs – that’s great!
• Merrill Lynch & Co. Inc. (MER) posts its third straight quarterly loss, and says it is going to have to slash 3,000 jobs. Again, the investors seemed to be saying: No sweat.

And those were just the financials. Intel Corp. (INTC) posted lower quarterly earnings, even after issuing a warning a few weeks earlier. Even so, the results were better than anticipated. The Coca Cola Co. (KO) experienced lackluster domestic results.

On their face, these earnings just didn’t look so hot overall.

So how did the U.S. stock markets respond: With great strength.

In fact, U.S. stocks reached their highest levels in nearly three months – and energy stocks in the Standard & Poor’s 500 Index had their biggest gains this decade – on a mix of better-than-expected earnings, soaring oil prices and new record highs in key commodities.

The Dow Jones Industrial Average soared 4.25% for the week. The Standard & Poor’s 500 Index jumped 4.31%. And the Nasdaq Composite Index rocketed a stunning 4.96% for the week.

The Russell 2000 Index of small-cap stocks increased 4.8%.

Energy stocks in the Standard & Poor’s 500 Index had the biggest gain this decade after crude oil surpassed $116 a barrel in New York. The profit report for Google Inc. (GOOG) sent shares of the Internet search-engine giant up 20% Friday, its biggest single-day climb since it went public in 2004. Intel’s report pushed tech stocks to their largest single-week gain since August 2006.

Profit exceeded analysts’ estimates at 58 of 101 companies in the S&P 500 that have released first-quarter results so far, even as earnings fell an average 37% from a year earlier, according to Bloomberg data. Overall, earnings are forecast to decline 13.7% in the first quarter, marking the third straight decrease.

JPMorgan Chief Executive Officer Jamie Dimon said the credit crisis is nearing an end.

"It’s been quite an exciting market," John Carey, who helps oversee $13 billion at Pioneer Investment Management USA Inc., in Boston, told Bloomberg News. "Earnings are the big story, and you have some companies surprising and being rewarded in the market."

Stocks tend to be a leading market indicator, in effect, anticipating future events.

As part of that, markets tend to rally during the depths of a recession, anticipating an economic recovery even at a time when the outlook still seems to be as dire as can be.

The question to ask right now is this: Is last week’s rally – coming amid a bevy of disappointing earnings or outright corporate losses – merely an aberration, as in a pent-up burst of buying that’s following after weeks of bearish selling?

Or was last week’s rally a signal – perhaps telling investors that the recession many experts believe the U.S. economy is already well into is on its way out?

Only time will tell.

Market Matters

It was another tough week for the airlines: Given that, it’s clear the $17 billion Delta Air Lines (DAL)/Northwest Airlines Corp. (NWA) merger deal may have been the first of many similar transactions that will change the landscape of an industry struggling through the twin challenges of mountainous fuel costs and a weak economy. With oil surging past the $116 a barrel level and gasoline moving ever closer to the $4 a gallon level on supply concerns, Republican presidential hopeful John McCain proposed a "gas-tax holiday" that would suspend the federal gas tax of 18-plus cents a gallon for the summer-driving months.

Did anyone even notice?

Meanwhile, Blockbuster Inc. (BBI) expressed confidence that consumers ultimately will move out of their doldrums and back to the malls as the company proceeded with its potential $1.35 billion bid for ailing consumer-electronics retailer Circuit City Stores Inc. (CC). 

Equity investors digested the earnings data, disregarded the surging energy prices, put away their tax records for another year, and went bargain hunting for undervalued stocks.  When the dust had settled, each of the major indices climbed more than 1.75% on Friday alone, rose over 4% for the week, and hit levels not seen in two months.

Even so, the Dow is down 3.13% year to date. The S&P has skidded 5.31%. And the Nasdaq is down 9.4%.

Of course, fixed income felt the brunt of the shift in asset allocation as the yield on the 10-year Treasury bond climbed to around 3.75%.

With positive stock-price momentum, the potential for a new round of corporate deal making that could further stoke bullish sentiment, tax refunds on the way for some, and gas-price relief in time for the all-important summer driving season, there seems to be a lot to be optimistic about as the arm weather months return to us here on the East Coast.

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Economically Speaking

While investors clearly had their hands as they read through, analyzed and prioritized the flood of earnings releases last week, at least the results seemed to be generally upbeat. Economists, however, had to deal with an array of "not-so-rosy" reports last week. While stock prices hint at a potential economic rebound, economic reports hint at an inflationary resurgence that could derail any rebound.

Retail sales rebounded from a decline in February and surged 0.2% in March. Then again, rising gas prices accounted for most of the gains, as sales at service stations climbed by 1.1%.  Core inflation – which excludes volatile food-and-energy prices – rose by 0.2% within both the wholesale (Producer Price Index, or PPI) and retail (Consumer Price Index, or CPI) readings. Then again, the volatile food-and-energy components (which now includes airline tickets) continue to skyrocket and cannot be overlooked. While most "experts" anticipated a decline, industrial production actually climbed by a whopping 0.3% in March on greater output from utilities.  But manufacturing production struggled on a weak auto sector. 

Housing moved a step closer to rebounding. Then again, home foreclosures have now increased by 57% from last year’s levels and housing starts reflected the lowest pace of construction in 17 years. The U.S. Federal Reserve’s Beige Book noted a "deteriorating" economy, as manufacturers and other businesses struggled with skyrocketing energy and materials costs, and as consumer continue to sit on their wallets, fearing they may become victim of the next round of layoffs.

We’re still waiting to see what kind of positive spin the central bank can put on that troubling Beige Book report.

Weekly Economic Calendar

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A fresh round of earnings reports dragged on U.S. stocks today (Thursday).

At midday in New York, the blue-chip Dow Jones Industrial Average Index was down 40.87 points (-0.32%), to trade at 12,578.40. The tech-laden Nasdaq Composite Index dropped 20.58 points (-0.88%), to reach 2,329.53. And the broader Standard & Poor’s 500 Index decreased 6.31 points (-0.46%), to hit 1,358.40.

Most sectors were down, with the transportation sector (down 1.31%) posting the largest decline.

"Analysts are expecting a pretty dour earnings season, and so are portfolio managers," Charles Reinhard, director of portfolio strategy at Neuberger Berman, a unit of Lehman Brothers Holdings Inc. (LEH) that manages $129 billion, said in a Bloomberg Television interview. "The market is discounting a lot."

Pharmaceutical firm Pfizer Inc. (PFE) dropped after announcing a 19% drop in first quarter profits as generic drugs continue to take a hit on the drug giant’s bottom line.

But blue-chip technology stock, International Business Machines Corp. (IBM), gained after the Dow component announced a 26% increase in first quarter profit, beating analyst estimates, and boosted its outlook for full-year 2008.

"IBM beat revenue and earnings expectations substantially with strength across the board," American Technology Research Analyst Shaw Wu told MarketWatch. "We find this quite impressive in light of the tough economic environment."

In overseas markets earlier today, Japan’s Nikkei 225 Index gained 1.9% with an increase of 252.17 points to close at 13,398.30. Hong Kong’s blue-chip Hang Seng Index rose 1.6% with a 380.61-point increase, to close at 24,258.96.

In Europe, most major bourses were down, with London’s FTSE 100, Madrid’s IBEX 35 and the Frankfurt-based DAX all posting losses. Only the Paris-based CAC40 managed to eke out a slight 7.04-point gain.

At midday, the dollar had gained ground against the euro (up 0.251%) and the yen (up 0.778%), but lost ground against the pound sterling (down 0.811%).

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Stocks surged today (Wednesday), on a round of earnings releases that met or exceeded Wall Street expectations.

"On Friday, we had the bad surprise from [General Electric Co. (GE)]," Ken Tower, chief market strategist at Covered Bridge Tactical, told MarketWatch. "But this week, we’re seeing investors pleasantly surprised that earnings overall are not as bad, supporting the view of a shallow economic decline instead of a more severe one."

At midday in New York, the blue-chip Dow Jones Industrial Average Index was up 179.37 points (1.45%), to trade at 12,541.84. The tech-laden Nasdaq Composite Index gained 48.43 points (2.12%), to reach 2,334.47. And the broader Standard & Poor’s 500 Index increased 18.68 points (1.40%), to hit 1,353.11.

All sectors were up, with the basic materials sector (up 3.02%) and the technology sector (up 2.55%) posting the largest gains.

Intel Corp. (INTC) shares got a boost from strong first quarter sales results in Asia and Europe. Sales increased 9.3% to $9.67 billion, beating analyst estimates.

"These big market-share multinationals are still benefiting from economic growth outside the U.S.," Keith Wirtz, Cincinnati-based chief investment officer at Fifth Third Asset Management, told Bloomberg News. "It tells me conditions are not all that bad on a global basis."

March industrial production also rose slightly for the month with a 0.3% increase.

"The manufacturing sector may not be expanding but it is not contracting either, which is good news," Joel Naroff, president and chief economist of Naroff Economic Advisors, said in a note to clients today.

In overseas markets, Japan’s Nikkei 225 Index gained 1.2% with an increase of 155.55 points to close at 13,146.13. Hong Kong’s blue-chip Hang Seng Index was relatively flat with a 22.98-point drop, to close at 23,878.35.

The FTSEurofirst 300 index of top European shares gained 1.6%. Other major European bourses were up, with the Paris-based CAC40, London’s FTSE 100, Madrid’s IBEX 35 and the Frankfurt-based DAX all posting gains.

At midday, the dollar had lost ground against the euro (down 1.072%), the yen (down 0.010%) and the pound sterling (down 0.785%).

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  U.S. stocks rally on upbeat Intel, J.P. Morgan results

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