Week in Review 
For the week 1/1/2007 - 1/5/2007
Brian Trumbore
President/Editor, StocksandNews.com

Starting Over

President George W. Bush is shuffling the deck chairs on the Titanic, some would say, when it comes to Iraq. I prefer to give him one more chance as he prepares to present to the American people his plan, the "New Way Forward," that to me is more like "Starting Over."

Among the personnel moves is Navy Adm. William Fallon replacing Gen. John Abizaid as head of U.S. forces in both Iraq and Afghanistan, while Gen. George Casey, who oversaw Iraq specifically, is being replaced by Gen. David Petraeus, the latter having served twice before there with some success.

At the same time Bush is moving Director of National Intelligence John Negroponte back to Iraq to be Secretary of State Condoleezza Rice's chief deputy in theater (former NSA chief Mike McConnell replaces Negroponte), while Zalmay Khalilzad, currently U.S. ambassador to Iraq, is slated to be the next American ambassador to the United Nations.

But as for the president's plans to move ahead with a surge in troops for Baghdad and Anbar province, anywhere from 10,000 to 30,000, the White House will meet stiff resistance from not only Democrats but many Republicans as well.

You've known where I've stood for some time now, like 3 ? years, and that is for more boots on the ground. So I've long backed Sen. John McCain in this debate.

But if there is no real change in plans outside of just throwing some extra troops into the fray, then we should bring them all home. My point has been the past few months, in particular, if America can't look itself in the mirror and say it's tried its best, which we haven't done to date, then end this fiasco and repair to the defenses back home.

In the meantime, I do have to note that I wrote last week's piece just hours after Saddam Hussein's execution and I normally like to wait 24 hours before commenting, as most of you are aware by now. This would have been a big deal three years ago. Today, after the direction the war has taken, it's largely irrelevant.

That is it was irrelevant until we saw how the Iraqi government handled the whole event, disastrously, and suddenly Hussein is a martyr. [Which is why I prefer to wait 24 hours, after all.]

Charles Krauthammer / Washington Post

"Of the 6 billion people on this Earth, not one killed more people than Saddam Hussein. And not just killed but tortured and mutilated - doing so often with his own hands and for pleasure. It is quite a distinction to be the preeminent monster on the planet. If the death penalty was ever deserved, no one was more richly deserving than Saddam Hussein.

"For the Iraqi government to have botched both his trial and execution, therefore, and turned monster into victim, is not just a tragedy but a crime - against the new Iraq that Americans are dying for and against justice itself?.

"Consider the timing. It was carried out on a religious holiday. We would not ordinarily care about this, except for the fact that it was in contravention of Iraqi law. It was done on the first day of Eid al-Adha as celebrated by Sunnis. The Shiite Eid began the next day, which tells you in whose name the execution was performed.

"It was also carried out extra-constitutionally. The constitution requires a death sentence to have the signature of the president and two vice presidents, each representing one of the three major ethnic groups in the country?.That provision is meant to prevent sectarian killings. The president did not sign. Nouri al-Maliki contrived some work-around.

"True, Hussein's hanging was just and, in principle, nonsectarian. But the next hanging might not be. Breaking precedent completely undermines the death penalty provision, opening the way to future revenge and otherwise lawless hangings.

"Moreover, Maliki's rush to execute short-circuited the judicial process?.The trial for his genocidal campaign against the Kurds was just beginning.

"That larger canvas will never be painted. The starting point became the endpoint?.

"Worse was the content of the taunts: 'Moqtada, Moqtada,' the name of the radical and murderous Shiite extremist whose goons were obviously in the chamber. The world saw Hussein falling through the trapdoor, executed not in the name of a new and democratic Iraq but in the name of Moqtada al-Sadr, whose death squads have learned much from Hussein.

"The whole sorry affair illustrates not just incompetence but also the ingrained intolerance and sectarianism of the Maliki government. It stands for Shiite unity and Shiite dominance above all else.

"We should not be surging American troops in defense of such a government?.Maliki should be made to know that if he insists on having this sectarian war, he can well have it without us."

Personally, I would just replace him as the first step in "Starting Over."

Iran

The other day I received in the mail a newsletter from Friends of Gettysburg, another Civil War preservation group I have donated a little money to from time to time. I was struck by this quote within from Abraham Lincoln.

"I am rather inclined to silence, and whether that be wise or not, it is at least more unusual nowadays to find a man who can hold his tongue than to find one who cannot."

I read this after seeing yet another report on the latest statements from Iranian President Mahmoud Ahmadinejad and all I could think of was "can't you ever just shut up!"

The unfortunate part is that we can't ignore the wacko, and his thoughts are important to understand, especially today if you live in Israel or are an American or Brit serving the cause in Iraq.

Of course much of the rest of the world needs to be concerned, too, like in Western Europe, when you hear Ahmadinejad say "(Iran is determined to) achieve peaks of success and defend its interests powerfully" in reference to his country's nuclear program. "(The U.S. and Britain) should know that our nation is not afraid of them. They can neither make Iranians give up through threat, bullying, pressure and issuing of worthless resolutions, nor threatening them with sanctions."

Ahmadinejad's chief rival internally, cleric Hashemi Rafsanjani, added that the recent UN Security Council resolution is "dangerous?It will not bring about the desired outcome. No resolution can make us give up our atomic work." Rafsanjani also warned of consequences if Iran was treated unfairly. "They (Westerners) are creating problems for themselves and the region?the consequences of this fire will burn many others," he told worshippers who chanted "Death to America." [Sources: Reuters, Bloomberg News]

Rafsanjani's comments are important for the following reason. I've said all along he is one the United States can talk to, as opposed to Ahmadinejad, but I've also said no one should doubt that Rafsanjani is on the same page as the Iranian president when it comes to developing a nuke.

Separately, Anatole Kaletsky of the London Times had the following thoughts on confronting Iran and Shia Islam. I have not seen this version of potential events elsewhere.

"What now seems to be in preparation at the White House, with the usual unquestioning support from Downing Street, is a Middle Eastern equivalent of the Second World War. The trigger for this all-embracing war would be the formation of a previously unthinkable alliance between America, Israel, Saudi Arabia and Britain, to confront Iran and the rise of the power of Shia Islam.

"The logical outcome of this 'pinning back' process would be an air strike by Israel against Iran's nuclear facilities, combined with a renewed Israeli military campaign against Hizbullah in Lebanon, aggressive action by American and British soldiers to crush Iraq's Shia militias, while Saudi-backed Sunni terrorists undermined the increasingly precarious pro-Iranian Government in Baghdad."

Kaletsky then goes on to mention two events I passed along a few weeks back, the abrupt announcement by Tony Blair to absolve members of the Saudi Royal Family of complicity in a bribery investigation, and the other a speech in Dubai where Blair called for an "arc of moderation" to "pin back" Iran's advances in the Middle East. Kaletsky concludes:

"Thus, if there is one country in the world more worried than Israel about an Iranian A-bomb, it is Saudi Arabia. And if there are two countries in the world with real influence on the Bush White House, they are Saudi Arabia and Israel. Now both these countries are telling President Bush that he must pull the plug on Iraq's Shia Government, tear up the Baker report, whose most important advice was to open diplomatic channels to Tehran, and prepare to attack Iran, either directly or using the Israelis as a proxy. This is the basis of the unholy alliance between Israel, Saudi Arabia and America, with Mr. Blair contributing a few choice soundbites.

"The anti-Iranian 'arc of moderation' may seem like another meaningless Blairism, not nearly as threatening as Mr. Bush's 'axis of evil.' But this soundbite could unleash a disaster on the Middle East, beside which the war in Iraq would be a mere sideshow."

Again, I just pass the above on. I would suggest, however, that Israel is in no position to fight any kind of war right now, especially after the Israeli chief of staff, Lt. Gen. Dan Halutz, conceded this week that his military had made serious mistakes in its war with Hizbullah, though at the same time he refused to resign.

In breaking down the battle and admitting where errors were made, Halutz, as reported by The New York Times' Steven Erlanger, suggested that discipline had broken down.

" 'There were cases in which officers did not carry out their assignments, and cases in which officers objected on moral grounds to their orders,' Halutz said, an apparent reference to resistance against attacking southern Lebanese towns and villages." [Erlanger]

Also this week, Israeli Prime Minister Ehud Olmert met with Egyptian President Hosni Mubarak at the same time an Israeli military operation moved into the West Bank city of Ramallah, killing four Palestinians. Seeing as the Olmert-Mubarak summit was to promote the peace process, this was one of the stupider moves by Israel, the timing of it that is, and it begs the question, just who the heck is in control?

So it would appear to the cynical eye of your editor that the last thing Israel is in a position to do is attack Iran's nuclear facilities and expect to be able to absorb the blowback.

This week marked a year since former Prime Minister Ariel Sharon suffered his stroke. Never has he been missed more than today.

One last note. The Jerusalem Post reported Turkish Prime Minister Erdogan is willing to mediate the issue of Shebaa Farms on the disputed border between Israel and Lebanon, with Erdogan supporting the transfer of the territory to UN forces, but only if Israel concurs. This was the key all along, as I pointed out well before this past summer's war; not that the Bush administration ever realized it.

---

Wall Street?What's Goin' On?

An AP-AOL poll found that 58% of Americans described 2006 as a bad year for the country, but at the same time 76% said it was good for them and their families. As for 2007, 72% feel good about what the year will bring for the U.S. and 89% are optimistic about their own fortunes. I sure hope this majority is right.

Before I get to the main topic of discussion this week, I need to clean up some loose ends from my '07 forecast as issued last time. In calling for 1.5% growth for the year it will begin to feel like a recession even though government reports could show positive growth. A Wall Street Journal survey of 60 economists came out this week and their consensus was for 2.3% growth in the first half and 2.8% growth in the second, mirroring the previous review's BusinessWeek forecast. No way either is right.

But when it comes to stocks, as you've seen over the years the market often defies logic, both up and down. Earnings are expected to grow at high single digit rates in '07, the first time below double digits since 2002. If economic growth is slower than consensus, we will finally see earnings disappoint. That would normally be negative, and at times the market will treat it as such, but I just see the end result for stocks being pretty flat. For one thing, even bears have to concede valuations aren't outrageous; certainly nowhere near 1999/2000 levels that defied explanation.

What we will see, however, is rising default levels for individuals; a harbinger of things to come in 2008. A reason why I'm not calling for outright disaster just yet is because, yes, there is a tremendous amount of cash sloshing around, as we'll expound on further in a moment, and spending at the top levels of our society will more than make up for shortfalls at the middle- and lower-income levels. For a while longer, that is.

All of the above is contingent on zero large-scale terror attacks, no attack on Iran, Iran not testing an authentic nuclear weapon, and relatively stable oil prices outside of a hurricane induced spike.

In the here and now, the ISM index on the service sector for December showed some softening vs. November, while the ISM manufacturing barometer, echoing the previous week's Chicago Purchasing Managers index, came in better than expected.

Then the December employment figure was released on Friday and the economy created 167,000 jobs for the month, far greater than anticipated. Stocks sold off, though, because the solid performance indicates the Federal Reserve will not be lowering interest rates any time soon and much of the stock market rally in recent weeks has been based on the assumption it would begin doing just that early in 2007.

Couple the jobs data with the earlier release of the Fed's minutes from its December meeting, where the Fed reiterated its concerns on inflation, and one can only conclude the Fed isn't going to be cutting rates for at least the first two meetings of the year.

Which will be a mistake, because while I talk of basically muddling through, above, that's not a good environment for the majority of Americans; the non-Wall Street/Corporate CEO money machines, that is.

And if you thought I was too bearish last week in my housing comments for this coming year, I can thank home-builder Lennar for making me look good for one week at least.

The Miami developer announced it expects to report a fourth- quarter loss of around $500 million in the face of land-related write-downs. CEO Stuart Miller said "Market conditions continued to weaken throughout the fourth quarter, and we have not yet seen tangible evidence of a market recovery."

At the same time Lennar said it would sell a 62% stake it had in a 15,000 acre track in California, not exactly a ringing endorsement of prospects for a rebound anytime soon there. And Lennar admitted it is doing everything possible on the incentive side to move existing inventory, something to remember next time you see relatively sanguine new home sales data.

I was in Miami myself a few days this week for the Orange Bowl and not having been to the area in years I was floored by some of the high-rise condo developments. Now, granted, I was there over the holiday weekend but on Tuesday, when I expected to see workers back slaving away on the monstrosities lining the beaches and waterways, I saw virtually zero activity.

Coincidentally, I saw a Reuters piece by Jim Loney noting that developers are now pulling the plug on some of the biggest projects (a la Lennar's warning). In fact, Miami officials talk of 15 condo projects, representing 1,900 units, that have been officially pulled, but analysts agree the eventual number will be much higher, taking into consideration the rest of the overbuilt market over the entire state. In other words, there are going to be more than a few eyesores to stare at in the coming years, buildings half complete or giant pits, waiting to swallow up unsuspecting tourists.

There were also a number of tidbits this week regarding the New York City real estate market that foreshadow further softening rather than a bottom having been hit.

For example, construction permits declined for the first time since 1998, demand for office space appears to be hitting a wall (ignore some of the positive spin you may have seen), and the average sales price for a NYC apartment is now off 4% from a year ago; this last fact obviously doesn't represent a crash, but a pigeon in the mine nonetheless. [The Big Apple being an urban area and not exactly a haven for canaries?.then again it's been warm enough for the songbirds, but I digress.]

Of course New York's housing market will also be the recipient of much of Wall Street's largesse, so numbers over the coming months could be a bit out of whack, especially at the very high end, though the primary trend now appears to be in place.

But I want to spend some time musing about the Fall of the Roman Empire, 2007 style.

The Journal's Alan Murray summed it up terrifically the other day in talking about all the cash, or to paraphrase Scarface, what to make of it. [The preceding was heavily censored.]

"There is a steady stream of resources to the most perilous of emerging markets, the most hopeless of troubled companies and the most overextended of home buyers. That's great fun while it lasts. But does anyone seriously think it will last forever?

"Let's start with private equity. Private-equity fund raising set a record last year, as did private-equity deal making. This year will be even bigger. Look for a precedent-breaking $50 billion deal to be announced before the big ball falls in Times Square again.

"The private-equity geniuses would have you believe this is because they've discovered a superior form of running companies. Perhaps some of them have. But mostly, what they've discovered is an amazing gusher of money?.

"(In general), the swollen river of liquidity is also behind happy predictions that housing will recover later this year. Despite rising default rates, mortgages remain cheap and easy.

"Lenders are still willing to let borrowers bury themselves in debt to buy a new home. The money gusher also helps explain why the federal government in Washington can keep spending away, without regard for projections of an exploding federal deficit. And why the dollar remains relatively strong, despite swelling trade deficits. Or why the Dow Jones Industrial Average has managed to go for more than 912 trading days (now 913) without a 2% daily decline - the longest such stretch in its history.

"Perhaps this flood of money will continue through the new year. Fed Chairman Ben Bernanke has argued money flows are the result of a 'global savings glut.' Newly enriched investors in the developing world need to put their money somewhere, and apparently, even the most risky assets will do.

"But as long as the good times are rolling, don't expect Mr. Bernanke to cut interest rates. That's a tool he'll only use when the economy takes a serious turn for the worse. Those who predict otherwise haven't been listening to what he's been saying.

"And don't be fooled into thinking that more drinking will ease the inevitable hangover. At some point, something - a string of big defaults, a sharp decline in the dollar, or, God forbid, a major terror attack - will cause the intoxicating stuff to stop flowing.

"The world is still a risky place, and liquidity, at the end of the day, is just another name for confidence. Eventually, this confidence game will end."

But as Mr. Murray himself knows all too well, and as he's written previously, there is even more at work today.

Like Home Depot's Bob Nardelli being dismissed for lack of performance, but still walking away with $210 million in parting gifts as determined by his contract; this on top of at least $64 million he previously was paid during his six years at the top. So this vaults Nardelli into "the pantheon of pay-for-failure," as The New York Times' Eric Dash phrased it, joining Pfizer's Hank McKinnell and his own $200 million exit package.

But outside of the actual "severance" payment of $20 million, which Nardelli should return, the rest was previously negotiated, including $139 million in deferred stock and option grants that can now be cashed out early. It's the board's fault, just as it increasingly is in all manner of compensation outrages we've seen the past few years.

It's also just plain wrong. We all know that. But then I see in the Financial Times that private-equity groups paid at least $11 billion in fees to investment banks last year, with KKR leading the way in shelling out $838 million, followed by Blackstone, which paid $555 million, according to data compiled by Freeman & Co. and Thomson Financial.

For what, you may ask? Why it's for merger and acquisition advice, loan arrangements and stock and bond underwriting, that's what. JP Morgan received private equity fees of $1 billion last year, with half coming from arranging loans for buy-out groups. Goldman Sachs picked up $975 million, Morgan Stanley $745 million, Deutsche Bank $730 million, Lehman Brothers $655 million, Citigroup $651 million, Credit Suisse $591 million and Merrill Lynch $552 million.

But aside from all this money sloshing around from KKR to Goldman, back to KKR, over to Morgan Stanley, back to KKR, then to Merrill Lynch, is any real value being created?

I'm just thinking out loud, sports fans. Shareholders in the companies at play certainly don't see much of it, unless you're a shareholder in one of the investment banks or a participant in some of the private-equity pools themselves.

Of course you can say the same thing about the stock options game, as best played over the years by the likes of Sandy Weill, $979 million in realized and 'in-the-money options,' UnitedHealth Group's William McGuire, $2.1 billion (some of which is coming back), or Oracle's Larry Ellison and his $1.5 billion haul in both realized and current gains. While you can certainly argue in the case of these three that they did indeed create value at one point, Ellison's Oracle was dead in the water for years until just recently from a shareholder standpoint, as was Weill's Citigroup, both before and after his departure. So I guess the question is, 'How did we let all this get so out of control?'

I was reading a Journal story by Daniel Golden on those luxury skyboxes you see at college football stadiums and I never knew about all the tax incentives there are to build the things, a fact Congress is beginning to look into.

"Universities typically finance these renovations [like $175 million for 47 luxury suites at the Univ. of Texas] by issuing tax- exempt bonds. They then make payments on the debt by leasing the new luxury suites and other preferred seating to individuals or corporations?.

"A selling point to alumni and other supporters is that they can deduct most of the lease fee from their taxable income. Under a 1988 federal law, taxpayers may deduct 80% of payment for the right to purchase seating at a collegiate sports event - though not a professional one - as a charitable contribution. Direct payments for game tickets, food, parking and other goods aren't deductible as charitable contributions but may be written off as a business expense if used to entertain clients."

But now some schools are wondering if enough wealthy fans will be interested, even as construction continues?.but that's their problem.

To conclude, though, do you see what's happening? Outrageous CEO packages, approved by boards comprised of like-minded individuals who then expect similar treatment at their home company; gigantic options packages, 'just because'; major league tax incentives for the well-heeled to purchase sky boxes while the little guy/fan is increasingly priced out. And I'm not even mentioning the totally whacko salaries being paid some of the most mediocre of athletes, particularly baseball and basketball players, let alone their coaches; the latest example of this last category being dirtball Nick Saban and his abandonment of the Miami Dolphins after just two years to take a $32 million, 8-year deal to coach the Crimson Tide of Alabama. $4 million a year to coach college football! And when he goes 7-5 in the third year he'll be fired, yet still keep the rest of his package. What the heck is a university doing throwing around such money in the first place?

If this isn't looking like the Fall of Rome, I don't know what does. Back then it wasn't just the barbarians that began to pressure Rome's finest, there were economic difficulties that contributed to the breakdown of government. Then the Goths sacked it for good in 410.

But don't worry, friends. As I said last week, and up above, we'll make it through 2007. Enjoy.

Street Bytes

--Due to the New Year's holiday and the national day of mourning for President Ford, the markets were open only three days this week and little of consequence can be gleaned from the action as stocks got off to a mixed start this year; with the Dow Jones losing 65 points to 12398 and the S&P 500 falling about 9 to 1409, while Nasdaq tacked on 19 points to 2434.

The big story was energy, as in oil collapsed almost $5 due to the incredibly warm weather in the key heating regions, the Midwest and Northeast. But in glancing at the longer-range forecasts it appears colder weather will finally settle in next week for much of the nation so crude could rebound some.

Since I mentioned last time I was waiting for a pullback in oil shares before hopping back in, I do need to add that I did not make a move this week, despite some big moves to the downside. If I missed the bottom in this cycle, so be it. I'll get another opportunity later.

--U.S. Treasury Yields

6-mo. 5.08% 2-yr. 4.76% 10-yr. 4.65% 30-yr. 4.74%

Rates rallied strongly initially on the collapse in oil prices, signaling a diminishing inflation threat, and reinforcement from the Fed minutes that perhaps housing was taking a bigger bite out of the economy than it first thought; ergo, a cut in rates was indeed in the cards. But then the strong employment report hit, the rate theory was thrown out the window, and yields rose anew. Overall on the week, however, they were down from 12/31 levels.

PIMCO's Bill Gross issued his rate forecast on the 10-year, Thursday, and called for 4.50% by December. Why I wrote we would close the year at that level, too, but six days earlier. [Just tweaking my PIMCO friends, you understand.] Gross is calling for 2% growth, 2% inflation for much of the year; an environment conducive to the Fed lowering the funds rate four times, so he says.

But on a different bond-related issue, here are some facts concerning the junk market I picked up from the Journal's Serena Ng the other day. In the late 1980s, more than half of all U.S. industrial corporations tracked by Standard & Poor's were rated junk and now the percentage is 71% according to a new report of theirs.

It's about remembering the bad times, and even during better periods, for example. "Among a sample of around 120 single-B companies that tapped the debt markets for the first time in 1996, just 6% have paid off their debt, according to S&P. A third of the group defaulted or went into bankruptcy proceedings. Another third have been acquired."

As S&P's Nicholas Riccio noted, "Most people think they are smart enough to get out when they should. The question is who will be left holding the bag."

The above is also an excuse to remind those of you who feel like dabbling in this segment of the bond market yet don't have a lot of expertise, select a professional fund manager (like PIMCO).

--Both General Motors and Ford saw U.S. sales fall 13% in December, while Toyota's rose another 12%. Toyota's overall market share is up to 15.3%, thus surpassing DaimlerChrysler's 14.9% for third place behind GM and Ford. Toyota is not only slated to pass Ford in the U.S. sometime in '07, it has also set a global production target of 9.42 million vehicles for 2008, which means it could exceed GM at that point; the latter having produced 9.2 million globally in 2006. One key for all of the U.S. carmakers will be this coming fall's talks with the United Auto Workers; ergo, management at the Big Three will be seeking major concessions.

--Aside from the above noted fact that the Dow Jones has now had a string of 913 days without a one-day decline of 2% or more, the longest ever, related to this is another tidbit. The S&P 500 moved by more than 1% on average only twice a month in 2006, compared with an average of four times a month dating to 1950. It moved by more than 1% nearly 12 times a month in 2001. [Wall Street Journal]

--Boeing booked orders for a record 1,044 aircraft in 2006, which should be more than enough to surpass Airbus for the first time since 2000. Airbus had orders of 1,055 jetliners in '05 but due to various issues likely dropped to between 750 and 800, according to the Journal.

--Copper prices had their worst week in 10 years on fears of slower U.S. growth and growing supplies as a result of the slowdown in housing activity.

--The options scandal at Apple Computer is not going away. From Dawn C. Chmielewski / Los Angeles Times:

"In August 1997, Apple Computer Inc. handed four top executives options to buy a total of nearly 1 million shares. The next day, the value of those options jumped a staggering 48%, or $7.7 million.

"This was no coincidence, according to a shareholder lawsuit filed against executives and directors of the Cupertino, Calif.- based company in federal court in Northern California. Rather, the options were granted to coincide with good news that would give the four executives an overnight windfall.

"The stock soared when co-founder Steve Jobs announced that Apple's sworn enemy, Microsoft Corp., threw the struggling company a life raft in the form of a $150-million cash infusion. In exchange, Apple gave Microsoft a stake in the company and agreed to use the software giant's Web browser on its Mac personal computers."

While this would become a footnote in Apple's comeback, it's an example "of the fast-and-loose practices that went unchecked in a corporate culture fashioned by Jobs to revive Apple," according to the suit.

An internal investigation released on Dec. 29 absolved Jobs of any wrongdoing, but acknowledged 6,428 instances of improperly dating option grants over a six-year period, as noted in a filing with the SEC.

But when it comes to the backdating issue, overall, reader Scott P. observed that as offending companies have been restating earnings, the IRS should be stepping in with penalties and interest due on all of the past tax filings. It's amazing there isn't more of an uproar among investors, to some of us, but there won't be until the harshest of penalties are levied and there is some impact on the share price. So far there has been little if any for many of the companies involved.

--In Alan Abelson's column in the Jan. 1 edition of Barron's he mentions an analyst, Alan Newman, who has an interesting take on the ETF (exchange-traded fund) boom. As Abelson writes:

"By (Newman's) reckoning, through mid-December, last year's net issuance of ETF shares weighed in at a massive $54 billion, extending a smashing seven-year growth that has averaged an awesome 41% annually and has lifted the total value of such shares to close to $400 billion. It's critical to remember, (Newman) points out, that for an exchange-traded fund to issue shares it must first buy the underlying assets, primarily stocks. That demand all by itself, he reckons, was enough to keep the market rally of the past few months alive and well.

"Not the least interesting thing about ETFs and their powerful impact on market prices is that they don't trade on the basis of individual corporate prospects. Alan posits that more than half the price of many stocks is now dependent on 'index or sector sponsorship, the obvious result of a market that has been increasingly sectored to death and indexed beyond any efficiency' imagined by academics. For ETFs, in other words, valuations don't matter."

Sandy Habermann at Miller Tabak notes that there are plans for approximately 375 new ETFs in '07. In other words, you're staring at the next bubble.

--China's courts have been handing down rulings in favor of copyright and patent holders, according to the Wall Street Journal, including a judgment against Chinese Internet portal Sohu.com to pay $139,000 in damages as a result of Sohu's subscription service where you could download more than 100 American movies. But while this is a decent step on the part of the Chinese government, the fact is a tremendous amount of piracy continues to take place.

--The Financial Times had a story that "YouTube's failure to complete a key piece of anti-piracy software as promised could represent a serious obstacle to efforts by Google, its new owner, to forge closer relations with the media and entertainment industry."

YouTube had promised Google it would install a "content identification system" that tracks down copyrighted music or video on YouTube, "making it the first line of defense against piracy."

YouTube had promised to have it in place by year end and it's felt Google will have little patience if the delay is much longer than another week or two. The music industry is insisting on the technology before it solidifies any long-term relationships with the site, which of course then impacts Google and its own negotiations with big media.

--I didn't know about this until reading a story in the London Times, but California had a budget gap of about $250 million that is now largely closed because "Taxpayer X," who is yet to be identified, has come clean on unpaid taxes of some $200 million. So the guessing game is on as to who it could be, with the wealthy individual having earned $2 billion or thereabouts to justify the payment. But of the world's 746 billionaires in a recent Forbes ranking, 91 live in California. The Times assumes it's all related to a 2004 law signed by Gov. Schwarzenegger offering "taxpayer amnesty," so that the ultra-rich could clean up their act without risking fines or jail.

--Germany is experiencing a 'brain drain' with a record 144,800 German citizens leaving in 2005, 25% more than 2002. While the numbers may seem small when weighed against a population of 82 million, as DaimlerChrysler CEO Dieter Zetsche told the weekly Der Spiegel, "We cannot simply look on as precisely those people emigrate who are valuable, well-educated and motivated." But Germany has 10.2% unemployment, high taxes and inflexible working conditions. Meanwhile, increasingly unfriendly immigration laws are giving many a second thought about moving to Germany, resulting in a further shortage of highly skilled workers. And then you have a dearth of babies.

--French President Jacques Chirac, in his last few months in office, proposed a sharp cut in the corporate income tax from 33% to 20% within five years; a shot at Socialist Party candidate Segolene Royal who is focusing on improvements in housing and childcare and probable tax hikes to pay for her programs.

--In 2006, Macau casinos raked in an estimated $6.8 billion, overtaking the Vegas Strip which came in around $6.5 billion. 2.2 billion people live within five hours' flying time of Macau, vs. 410 million in the same radius of Las Vegas.

--I forgot to mention last time that in my attempt to beat the market in '07, from a "model portfolio" standpoint, I'll stick with my 80% cash, 20% equities as represented by the S&P 500.

Foreign Affairs

Somalia: There is no one who can predict what will happen next now that Ethiopia helped expel the Islamist forces in Somalia. As of this writing, there are signs of a militant backlash against the transitional government attempting to restore order after forcing the Islamists to flee towards the Kenyan border. The Islamists are also calling for a global jihad against Ethiopia, which has a long Christian history.

Meanwhile, Kenya is rightfully afraid it will get sucked in as it closed its northern border in what could be a futile attempt to prevent terrorists from seeking refuge there. But Kenya faces heat if it turns down legitimate refugees.

As for the United States, it has positioned naval forces off the Somali coast to prevent al-Qaeda suspects from fleeing to Yemen, among other possible destinations, while Washington is working with the UN on a potential African stabilization force, though currently only Uganda and Nigeria have expressed interest in participating.

Afghanistan: Out of nowhere, Taliban leader Mullah Omar granted an e-mail interview for the first time since going into hiding five years ago, though this was through a Taliban spokesman; if nothing else a reminder the U.S. hasn't caught either Omar or Osama bin Laden after all this time. Omar himself said he has not seen bin Laden since the U.S. moved into Afghanistan. He also denied the Taliban has been receiving assistance from Pakistan, while adding if foreign troops don't leave Afghanistan "the war will heat up further."

Lebanon: The political standoff continues, even though it's not as much in the news these days. Hizbullah's deputy leader, Sheikh Naim Qassem, held talks with Saudi King Abdullah in Abdullah's first such contact with Hizbullah; significant because the Saudi Royal Family is Sunni and Hizbullah is Shia. The Saudis, you'll recall, were former Lebanese Prime Minister Rafik Hariri's chief backers and currently support the government of Fouad Siniora. Abdullah invited Hizbullah leader Sheikh Nasrallah to visit the kingdom for the hajj to Mecca but he turned it down on security grounds. [Guess what? There weren't any stampedes at the hajj this year! Is that progress or what?!]

Russia / Belarus: A deal was cut between Belarus and Gazprom to avert a cutoff of supplies of natural gas with Belarus agreeing to a hike in the price it paid from $47 to $100 per 1,000 cubic meters, while Gazprom gets 50% of Belarus' pipeline, Beltransgaz. But then Belarus turned around and said it would charge Russia $45 per ton of oil pumped through its pipelines to Europe. Russia transports about 20% of its oil exports through Belarus, mainly to refiners in Poland and Germany. 20% is also the figure on natural gas shipments for Europe transiting through Belarus, with the other 80% going through Ukraine.

North Korea: Not that it matters, but Pyongyang's foreign minister died, the chap being the commies' key figure at the worthless six-party talks on Kim Jong-il's nuclear weapons program. Kim calls the shots, period. At week's end there were also rumors of another nuke test in the near future.

Earlier, South Korea's defense ministry issued a white paper describing North Korea as a "serious threat" in the wake of its earlier test; the South's harshest description since Seoul's policy of engagement started in 2000.

Japan / China: "Serious" was a key word in the region this week, China having expressed "serious concern" over reports the United States and Japan may be planning a coordinated response in the event China invades Taiwan (or North Korea attacks Japan).

Spain: For no apparent reason, ETA, the Basque separatist group, broke a truce and claimed responsibility for a bomb attack that killed two at Madrid's airport.

Thailand: A series of bombs in Bangkok on New Year's Eve killed at least three, with no one claiming responsibility here as yet.

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USA Today had a breakdown of the 3,000 U.S. deaths suffered in Iraq. Among the more depressing items is the toll at our military bases, the first three being?

Camp Pendleton, Calif. - 298 killed
Fort Hood, Texas - 292
Camp Lejeune, N.C. - 248

I can't begin to imagine how difficult it must be for the families here and at the other bases around our nation. You are always in our thoughts and prayers.

God bless America.

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Gold closed at $609
Oil, $56.31

Returns for the week 1/1-1/5?and year-to-date

Dow Jones -0.5%
S&P 500 -0.6%
S&P MidCap -0.5%
Russell 2000 -1.5%
Nasdaq +0.8%

Bulls 55.3
Bears 21.3 [Source: Chartcraft / Investors Intelligence]

Have a great week. I appreciate your support.

Brian Trumbore

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