A Pleasant Surprise for First-Quarter Profits

Here are the notes from Standard & Poor's Investment Policy Committee meeting, held on Wednesdays.

Fundamental Outlook

Although early in the reporting cycle, we believe that first-quarter 2006 results are coming in better than expected, particularly for companies in the financials, industrials, and materials sectors.

Annualized operating earnings for the S&P 500 are expected to have risen more than 100% from the first quarter of 2002 through the first quarter of 2006, while share prices (excluding dividends) have advanced only 14%.

The breadth of this market's advance is encouraging, in our view, as 91 of the 130 sub-industry indexes in the S&P Composite 1500 (70%) are trading above their 200-day moving averages.

Technical Outlook

The S&P 500 is very close to taking out its early April high of 1311.56 after holding support at the 1280 area. Once the index breaks through the old high, which we expect, trendline resistance comes in at 1316 and 1326. The S&P 500 has been in a bullish channel, in our view, since the initial surge off the bear market low retest in March 2003, tracing out a series of higher highs and higher lows. Until this uptrend is broken, we think additional gains will be seen.

Crude oil prices broke above key chart resistance between $69 and $70 on Monday, breaking the highs from last August, and moving to an all-time high. With the breakout, we are initiating our next target of $76 to $80. Crude is not yet overbought, in our view. But if we get to our next target, we would expect another fairly large pullback.

Longer-Term Outlook

The record oil price and the rise in bond yields could delay further rate hikes beyond May, in our view. Bond yields are finally rising, recently reaching a four-year high of 5.05%. We think worries about an inverted yield curve are waning, but fears for the housing market are increasing. We expect a sharp drop in housing starts this summer. Recent Fed statements suggested that the interest rate hikes are nearing an end. Our belief is that if the Fed does go up to 5.5%, they will have to cut rates early next year.

Before it's here, it's on the Bloomberg Terminal.