Some play the rally hoping for declines

Chairman of the New York Stock Exchange Richard Grasso, third from left, and President William Johnston, third from right, welcome Chairman, President & CEO of Toys ``R'' Us John Eyler, fourth from left, to ring the opening bell in celebration of the opening of the toy retail chain's flagship store in Times Square on Friday. PHOTO: REUTERS

The 18 percent gain in the Standard & Poor's 500 Index the past eight weeks is likely to unravel, according to David Webb of Shaker Investments Inc. That suits him fine.

Webb, who oversees a US$1 billion portfolio in Cleveland, has a mix of "long" and "short" positions: He owns some stocks outright, and has borrowed others and sold them in a bet they will fall. The balance has shifted to short from long as the rally has made stocks such as chipmaker Xilinx Inc, network equipment company Juniper Networks Inc and retailer Bed, Bath & Beyond Inc expensive enough that they seem poised for declines.

"You have to buy into the declines and sell into the rises," said Webb, though this is the opposite of what most investors do. "In this kind of market, this is the only way to make money." The rise of stocks from their three-year lows reached after the Sept. 11 terrorist attacks marks the third rally this year.

Each has been sparked by optimism Federal Reserve interest-rate cuts will help the economy, and corporate profits, rebound.

Market volatility

Investors extended the current advance this week, boosting the S&P 500 1.6 percent. The index has climbed in six of the past eight weeks and is now 4.2 percent higher than prior to the attacks.

The NASDAQ Composite Index rose 3.8 percent this week and has rallied 33 percent from its Sept. 21 lows. The Dow Jones Industrial Average jumped 2.7 percent on the week and has gained 20 percent since Sept. 21.

The biggest gains came Tuesday, as Afghanistan's Northern Alliance took control of the capital, Kabul. Last Monday, shares initially declined after an American Airlines jet crashed in New York, killing the 260 people on board and five more on the ground.

Stocks as investors became convinced the crash wasn't caused by terrorists.

Investors the Taliban's retreat in Afghanistan eased concern that the US response to the attacks on the World Trade Center and Pentagon might disrupt the economy.

"We're taking worst-case scen-arios off the table," said Richard Cripps, chief market strategist at Legg Mason Wood Walker in Baltimore.

Concern the economy might not respond to the Fed's rate cuts has also receded, said Cripps, who expects the S&P 500 will reach 1,300 by the end of the first quarter of next year, a 14 percent gain from its current level.

"There's been a fairly euphoric sense that it's all going to come out with a strong economic recovery in the new year," said Timothy Leach, chief investment officer of Wells Fargo Private Asset Management, which oversees US$76 billion in San Francisco.

While Leach says the stock market has "come too far too soon," he isn't as pessimistic as Webb about the coming months.

Stocks won't return to their late-September lows, Leach said.

"Historically speaking, three months before the end of a recession, the stock market tends to have a surge, a pretty good one," Leach said. This may be such as rally, he said.

Webb's is that "what we've had is a mini-bubble courtesy of the Fed." The central bank has cut its benchmark overnight lending rate three times since Sept. 11 and has also injected money into the banking system.

Chips lead gains

Webb said his fund, which has gained 34 percent after fees in the first three quarters this year, has swung to short from long several times this year. It is now weighted as far toward short selling as it ever gets. The value of his short positions currently exceeds the value of owned stocks by about 20 percent, Webb said.

Makers semiconductors and other components for communications networks had some of the week's biggest gains.

Applied Micro Circuits Corp rose 25 percent, PMC Sierra Inc climbed 19 percent and Vitesse Semiconductor Corp jumped 16 percent. All three make chips used in communications equipment, and they helped the Philadelphia Semiconductor Index to a 4.6 percent advance this week. The index has gained 49 percent from its post-attack low.

Corning Inc, the biggest maker of fiber-optic cable, jumped 33 percent this week, while JDS Uniphase Corp, which makes components for fiber-optic networks, rose 27 percent.

Some managers have outperformed the market this year by betting on drug and consumer-products makers or other stocks considered "defensive" because their profits hold up better in a slowdown, said Cripps. Managers are now trying to get back into technology stocks to keep their lead over the S&P 500.

"The people who are most uncomfortable with this rally are the people who realize that they are more defensive than the market," Cripps said. "They want to make their portfolios look more like the S&P 500," which is more than 24 percent technology and telecommunications companies.

Oil producers plummet

Oil producers and drillers fell as the price of crude oil plummeted to a two-year low mid-week. OPEC declined to cut its output quotas without help from non-member countries such as Russia and Norway.

Exxon Mobil Corp, the largest oil company, fell 6.7 percent and was the biggest drag on the S&P 500. Anadarko Petroleum Corp, an independent oil producer, declined 13 percent.

Among drillers, Nabors Industries Inc fell 19 percent, Noble Drilling Corp lost 14 percent, Baker Hughes Inc declined 16 percent, and Rowan Cos slipped 15 percent. Seven of the 10 biggest percentage declines in the S&P 500 were energy companies.

The collapse of crude-oil prices helped some companies, such as airlines, which will benefit from lower fuel costs. US Airways Group Inc rose 51 percent for the biggest gain in the S&P 500, though it is still down 40 percent since the terrorist attacks.

The Amex Airline Index climbed 17 percent, led by UAL Corp, which rose 30 percent, and Northwest Airlines Corp, up 16 percent, in addition to US Airways. AMR Corp, parent of American Airlines, gained 11 percent on the week, after falling as much as 17 percent early last Monday on news of the plane crash.

The University of Michigan will release its latest poll of consumer sentiment about the economy on Wednesday, and the government will report data on new home construction today. Home sales and consumer spending have been among the strongest areas in the economy, even as businesses investment has slowed, so investors will be watching these reports to see whether the trend persists.

The US stock market will be closed on Thursday for the Thanks-giving holiday and will close at 1pm New York time on Friday.