Is the bulk of the selling behind us?

US Stocks

In what is now a nearly nine-month bear market, it is important to realize that we can have a bounce like last Tuesday's, but it does not mean an end to the downtrend in prices. The markets may continue to rally but it would still be vulnerable to bad earnings news, either in the form of December warnings or January disappointments. We are not out of the woods with this market until it is clear that the inventory corrections now going on in the semiconductor and the telecommunications-equipment sectors are being played out.

Whether the Fed will oblige by becoming more accommodative depends on the state of the economy, the oil price, and the presence of systematic risk. Given the latest batch of data, relief in the form of lower interest rates will not be forthcoming soon. Last week's performance of Intel and Motorola in the face of further earnings revisions gave the appearance as if the selling has stopped. Perhaps only for the two stocks, as both prices have corrected substantially from their year high. And the warnings were not just for the upcoming quarter but included the next fiscal year as well. There is no guarantee that investors will be as forgiving if they continue to be disappointed. From current levels, the upside would be limited to 11,000 for the DJIA, which is less than 3%, certainly not worth the risk. For aggressive clients, we would only recommend buying the spiders SPY for the S&P500, and DIA for the DJIA.

US Technology Stocks

Valued investors "bottom-picked" selected stocks last week and bought up the NASDAQ Composite Index (+10.3% week-on-week) to close the week higher at 2917. While the move last week was encouraging, we remain conservative for the week ahead and believe the market will continue to be volatile because of profit-taking. Sentiment, though improving, will continue to be hampered by macro-driven events like the uncertainty about economic growth conditions in the US for 2001, and the unprecedented delay in concluding the presidential election. For the week ahead, we believe NASDAQ will be trapped in a trading range between 2900 and 2600. Though we believe the risk is high for the index to retest 2600, the positive conclusions are (1) aggressive selling may be approaching exhaustion and (2) the potential for the index to bottom at 2600 improves with each failed test to take prices lower.

We continue to like the fiber-optic component segment of the technology space. Ciena Corp's (CIEN US, $114.00) strong 4Q figures and positive business outlook ahead should help alleviate negative sentiment that has been clouding the segment's stock price performance. CIEN reported 4Q00 EPS of $0.14, beating consensus estimates of $0.12 a share. 4Q00 revenue grew 23% sequentially and 103% year-on-year to $287.6 million. CIEN also raised revenue guidance for 2001 based on the company's excellent ability to execute and the continued focus into high growth product markets like (1) the long-distance optical transport market, (2) metropolitan optical transport segment and (3) intelligent optical switching arena. Furthermore, CIEN's new optical switch product (CoreDirector) continues to gain significant traction and has strong potential to support enhanced revenue growth ahead.

As highlighted over the last 2 weeks, we continue to dislike the PC segment and avoid all PC-related issues. Intel Corporation (INTC US, $34.00) warned last week that they would not meet 4Q00 sales targets and also reduced its forecast for "interest and other income" by 29%. INTC cited weak demand in almost all geographies and products (excluding Flash) and expects flat 4Q00 sequential revenue growth. As we believe PC sales growth will slow, INTC will continue to experience weak revenue growth from the sales of its Pentinum processors. Furthermore, CSFB believes INTC may be seeing a decline in overall pricing, and with the lack of new products or applications, INTC will have to reduce prices to clear inventory (and thus experience lower average selling prices). With the expected slowdown in global PC sales growth, and the potential reduction in demand for servers from the dot.com bubble-blowout, we suggest to avoid INTC until more visibility is obtained in 2Q01. For short-term (3-months) investors who own INTC, we recommend to reduce exposure to the stock on any price rallies ahead.

Europe

Once again it was Mr. Greenspan who directed markets. His surprisingly strong comments about the slowdown in the economy confirmed investors that the FED is prepared to avoid a hard landing of the economy. His statement in conjunction with the weakening economic figures let us assume that investors can now expect rate cuts some time in 1Q01. We clearly start seeing some light at the end of the tunnel but would warn to become too complacent over the next few weeks or even months. We believe that the market is making a bottom here but expect this process to be bumpy. The increasing number of profit warnings and companies lowering their earnings forecast for 2001 will keep stock markets volatile.

However, looking forward we believe investors need to prepare their strategy for rate cuts to come next year. The question is now, whether the strategy of being defensive remains the right strategy going into next year. We believe not and expect the period of defensive sectors outperforming the market to come to an end soon. Investors need to become a bit more aggressive in their sector preference now. We agree that the uncertainty about the economic slowdown continues to reflect defensives as a safe haven in the short-term. However, the record relative outperformance of the Pharmaceutical, Food & Beverage and Insurance sectors has resulted in high valuations of these stocks. We feel that these stocks have built in a scarcity premium over the last few months since growth sectors got completely out of favour.

We admit that the exact timing when the market starts changing its pessimistic sentiment cannot be foreseen. That is why our strategy remains to buy top quality stocks with high earnings visibility in weakness. However, we believe that the best long-term opportunities arise when the sentiment for a sector or stock is the most negative. We believe that the concerns about slowing economies and profit growth have taken TMT, banks and cyclicals to attractive valuation levels. While we remain cautious on cyclicals we feel that banks and technology stocks have reached levels that do already price in a great deal of a hard landing. We feel that the current situation has a September 98 feel to it. Technology and financial stocks were the first to react followed by cylicals.

We believe that Mr. Greenspan's comment has increased the likelihood of a successful soft-landing. Over the last few weeks investment banks have been beaten down on concerns about increasing credit risks. We believe that these concerns are overstated for most of the big European banks. At current levels we believe that UBS (UBSN SW; CHF 260.50) and ABN Amro (AA NA; EUR 25.62) offer good value. Among those the highest credit risk applies to ABN Amro since this bank has direct/local US exposure. We believe that the banking sector will be among the leading gainers once the FED starts its easing cycle. Hence we continue regarding financials as one of the most preferred sectors going into next year. The risk to our call on investment banks is that our assumption of a successful soft landing proves to be wrong.

Despite the fact that we recommend picking up TMT stocks we would advise to be highly selective. We would not chase individual stocks and consider our multiple entry strategy still the safest. Despite the herd instinct currently at work in rerating and derating TMT stocks pretty much across the board, we expect investors to start discriminating more actively between the potential winners and losers of the new economy. We would focus on those TMT names that are showing their quality by providing solid earnings upgrades.

TMT stocks that we believe will benefit most from a shift in sentiment include Nokia, Ericsson (clearly bottoming out), Alcatel, Vodafone, Philips and STM. Despite DRAM and PC concerns we would consider buying Infineon (cyclical play) at around EUR 45-47 since valuation takes a lot of bad news into account.