A Torn Federal Reserve

Incoming data suggest that the economy is slowing more suddenly, but also that inflation is heating up

From Standard & Poor's Equity Research

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

Fundamental Outlook

The Fed's attempt at issuing clear rhetoric has served only to cloud investors' visibility toward interest rates, corporate earnings, and economic growth -- and push prices down substantially. In the meantime, S&P analysts have increased their second-quarter 2006 year-over-year operating EPS estimate for the S&P 500 to 9% from 8%. We continue to forecast a 12% advance for all of 2006.

Historically, bear markets have developed over time, while corrections have been a quick slap in the face. Of the 13 bull-market corrections of 10% or more since 1970, nine played out in fewer than three months -- five of which took place over approximately one month.

Technical Outlook

The stock market's action remains bearish, in our view, and we have seen no sign that a bottom has even begun to form. Failed rallies, intraday reversals, heavy volume during down days are all signs of a weak market, in our opinion, and indicate that we may be in the midst of a major correction (10%-15%) or are heading toward a new bear market.

The S&P 500 is testing long-term moving average support at 1222, from the 20-month exponential moving average. A strong break below this key moving average, which last happened in late 2000, would be another sign that the market has transitioned from bull to bear, in our view.

We think crude oil remains in a corrective pattern, with key chart support at the $68 per barrel level.

  S&P's Asset Allocation
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