MARKET STATUS & COMMENT

October 26, 2003

As speculated in last week's commentary, market volatility increased and money raced back and forth between bonds, stocks, currencies, and gold.

US equity markets are demonstrating the same abysmal month-end performance for October as they did September. MSFT's disappointing revenue growth rate was the final blow to an already soured investment mood in US equity markets last week. This poorly perceived announcement dragged most tech shares lower, overshadowing good results elsewhere. As we indicated last week, if AMZN disappointed following EBAY's prior week sell-off, then the entire Internet sector (HHH, Internet Holder's "cash") would be dragged lower--such is what occurred.

Tech ULTRA programs remain in the same position as last week-"long" SMH, SWH, and IGN, and "cash" HHH, and BBH (Biotech Holders).

More troubling then profit-taking and a market correction, is the growing trading scandal within the mutual fund industry. Improperly termed "market timing", last week the SEC announced it had uncovered significant evidence of mutual fund portfolio managers improperly, and no doubt illegally, taking advantage of pricing differentials within their own funds to benefit their personal accounts. The SEC also inferred that this activity was potentially wide-spread. This could be a devastating blow that further undermines investor confidence that the game is not rigged. But then, it just makes ETF's a much more compelling alternative.

Bond markets (TLT, "short") have been as volatile and fickle as stocks. If the economy is expanding, commodity prices rising, and US dollar falling then bonds should fare poorly. However, as equity markets become more volatile, investors seek the safety of bonds. Notwithstanding the dividend benefit, Utilities (UTH, "long") also benefit in a volatile equity market.

Despite these negative issues, we have made no changes in our US equity and bond ETF positions for the coming week. Short-term (see "Market Status" page), most US equity market indicators are bearish. Giving back profits can be frustrating, but it's part of the investment process and requires acceptance.

Last week we wondered, "If the US stock markets retreat this week, can Asian markets separate and continue to outperform?" The answer is still unresolved. Clearly a major break occurred in the Nikkei, but Japanese markets have been in a world of their own since 1990. Other Asian markets, faired much better, with some even making new highs. (The "Market Status" page reflects best these differences from US to Asia-Pacific).

China related or based companies have been market leaders all year. Many demonstrated continued strength last week. CBA (China Brilliance); internet portals SOHU, SINA, and NTES (NetEase); PTR (Petro-China); CHL (China Mobile); and CHN (The China Fund) remain among the leaders. Incidentally, the latter listed closed-end fund has many investments in the region. I've been debating whether to offer this as an ETF China substitute, but have refrained. Other than a large holding in SOHU, over 70% of the funds assets are invested in Hong Kong and Taiwan, markets we already cover with ETF's.

World financial markets and economies are linked. The US economy is Asia's largest customer, and a slow growing US economy means less trade for Asian exporters. However, Asian economies, with the exception of Japan, can grow more quickly, even with an anemic US economy, due to rapidly expanding internal demand.

Stock market and investment leadership has belonged to the US for many decades, but many (including myself) believe this is slowly changing. A fast emerging China, with Shanghai poised to become the Wall Street of Asia, will demonstrate its financial development quicker than most expect.

The coming week should provide more answers as to whether these markets (ex-Japan) can continue to shrug-off poor US market performance.

There has been some confusion about signals we're providing for markets where there are no available ETF's, such as the CRB (Commodity Research Bureau Price Index) and DXY (Dollar Index). While there are available futures contracts that can be traded against our signals, we feature them for primarily two reasons:

1. In anticipation of there being a suitable ETF someday, especially for the DXY.
2. To inform and educate subscribers about prevailing trends in these markets and how they may affect traditional investments.

Gold markets continue to advance as the dollar declines. We are issuing fresh "buy" signals in both NEM and FCX with the caveat that both carry unusually high risk as gold markets are volatile and overbought. Subscribers are urged to use extreme caution.

As goes the US Dollar (DXY, "short"), so goes gold. Higher commodity prices (CRB, "long") follow both an expanding economy and a weaker currency.

MTMS (Moscow Times Index) is another index where no ETF is currently available, but where we anticipate one. We just issued a "sell to close long" position after a lengthy and profitable move higher.

Markets will test our staying power next week. We've been "long" many US equity markets for over six months which is about the normal duration of successful positions following our system.

MARKET STATUS & COMMENT

US MARKETS

Overly optimistic investor sentiment; disappointment over earnings results and guidance from IBM, EBAY, and SUNW; options expiration; and an airline scare combined to send investors to the exits Friday.

Clearly the markets want to see good earnings and guidance. INTC's second great earnings report in a row could not carry other tech stocks (or even other chip stocks) higher. EBAY surprised investors with a poorer than expected outlook while an analyst, citing complaints from car dealers that could negatively affect that important EBAY business component, issued a downgrade.

Next week 477 companies are due to report earnings. With markets somewhat rattled by Friday's sell-off, it wouldn't be surprising to see more volatility. This could result in money flowing back and forth between bonds, stocks, currencies, and gold. And, speaking of money flow, another $4B was added to stock funds by investors last week. That's a positive.

Investors are redeeming shares in those mutual funds under investigation for illegal trading activity. With each market scandal, the case for ETF's as the investment of choice becomes more obvious. Given trading abuses, individuals are taking more control over their investments, and ETF's currently are the right vehicle at the right time.

The low VIX (Volatility Indicator) readings I've been discussing lately needs more clarification about its use given all the media attention. We only use the VIX as a screen to that may prevent us from entering new "long" or "short" positions. When the level of the indicator is high (35-50) or low (10-20) historically has meant that new positions added at that time will likely suffer too much volatility and be stopped-out. For example, we recently had two "buy" signals on IWM (Russell 2000 ETF). On both occasions the VIX was below 20, and subsequent price action would have stopped us out of both with small losses.

Gradual rising or falling VIX levels are generally less important than sudden indicator spikes which suggest more dangerous or volatile market conditions ahead. However, other indicators we follow usually deal more effectively with hazardous markets than does the VIX. Enough said about this I hope.

QQQQ, SPY, and IWM continue to move higher although sharp sell-offs, particularly in the QQQQ's, beset the markets from time to time. Our ULTRA approach to all markets allows us to withstand most short-term setbacks. We remain "long" both QQQQ and SPY.

HHH (Internet Holders) have been overbought for some time and we remain on the sidelines. Curiously, the EBAY problems of last week may bring that overall index lower, especially if index heavyweight AMZN reports disappointment next week. BBH (Biotech Holders) had a tough week and look weak. We remain on the sidelines in BBH. IGN (Networking ETF), SWH (Software Holders), and SMH (Semiconductor Holders) all had an unremarkable week. We remain "long" all three with significant profits.

If the US stock markets retreat this week, can Asian markets separate and continue to outperform? With President Bush in Asia, news that can move markets can be expected. Currency issues are much in the forefront as Japan continues to fight a losing battle to keep the yen from rising. Also, pressure on China to allow the yuan to rise remains unresolved. Meanwhile Asian stock markets are, for the most part, overbought. Hong Kong, Singapore, Thailand, and Taiwan are leading the charge higher. We will be re-entering the Korean market "long" tomorrow utilizing EWY for the first time since our announcement of coverage last week. With the exception of Thailand, we are "long" all markets.

With the strong performance of the Indian stock markets an Indian Index linked ETF is sure to be offered soon. This would be a popular security for US investors.

The FTSE seems to be trending in the almost the same manner as the S&P 500-making slow and steady progress higher. The IBEX in Spain appears to be getting ready for another move higher, although we're still on the sidelines. The MTMS (Moscow Times Index) is still overbought, but we're still "long".

The CRB trade just implemented will be stopped-out at the opening Monday. After surging powerfully ahead, most commodity prices corrected significantly last week causing our exit.

Gold prices fell again last week, but the HUI (Gold Bugs Index) still shows progress higher aided by steady to strong performances by NEM and FCX. A weak US Dollar means higher gold prices generally. For now, we remain on the sidelines.

The Dollar Index (DXY) still seems very weak with US officials not offering much support to stem its decline. We remain "short".

With abundant earnings announcements, the President's meetings in Asia, overbought markets, and continued nervousness over terrorism, next week should be interesting. But then, every week seems to be.

MARKET STATUS & COMMENT

There is a major change taking place in ETF markets. US-based ETF's that track Asian equity indices, were for years doing a poor tracking job. We have discussed the reasons for this many times:

• Time zone differences between markets.
• Low ETF prices prior to decimalization led to wide bid and ask prices.
• During the 1990's, the US markets were "the place to be"—meaning a lack of investor interest.

Since global stock market rallies began this spring, Asian-linked ETF's are not only tracking their respective indices well, but in some instances, out-performing them.

The Nikkei is up roughly 12.30% from our last buy signal and the EWJ (Japan ETF) is up 17.4%. Even commissions would not account for such a significant disparity. The same is true with EWY (Korea), EWM (Malaysia), EWT (Taiwan), and EWS (Singapore). Even more impressive are expanding volume data so often missing from these ETF's in the past.

As subscribers know, our newsletter has been following and offering signals on various Asian equity markets. The results thus far have been excellent. Our policy has been that we won't recommend ETF's that have a poor tracking history to their respective index. Until such time as conditions changed, US subscribers could only observe our signals with curiosity. Now things have improved dramatically.

The evidence indicates that the major obstacle to success for these ETF's has been a lack of investor interest. Recent heavy volume and good tracking performance reflects wide investor demand and participation. The move toward decimalization has also been a positive factor that should mean more effective and equitable trade execution. The only thing that is impossible to cure is time zone differences. We can live with that when the other two factors have been overwhelming. Therefore, with the next new position signals, we will utilize the following Asian ETF's:

• EWJ (Japan)
• EWY (Korea)
• EWM (Malaysia)
• EWS (Singapore)
• EWT (Taiwan)
• EWH (Hong Kong).

You can expect new exchange ETF listings for both Thailand and India as investor interest there is strong. We would expect to be covering those as well. In the Asia-Pacific region, even long dormant markets such as Australia and New Zealand are showing renewed interest and strong trends.

As in all markets, there will continue to be nagging troubles with issues like currency valuations and regional instability. However, the world is going global, and Asia will set the pace.

Bonds have generated another "sell" signal and we will be "shorting" TLT (Lehman Bros 20-year Treasury Bond ETF) on Monday at the opening. Stronger than expected economic data has driven bond prices lower. This has overwhelmed previously strong Japanese government Treasury bond purchases resulting from yen currency supporting operations. A stronger economy means higher interest rates eventually.

The US stock markets continue their upward trend blind to bearish complacency numbers as reflected by the sub-20 VIX (Volatility Indicator). I've looked at the VIX now on both daily and weekly charts, and no matter which way I look at it, it still looks bearish. But, we're trend followers. The trend is up and we're with it. The only problem we have is that we can't add new positions, like the IWM when the VIX, or other similar indicators, are flashing caution.

It's becoming clear that both Wall Street analysts and corporate chieftains "low-balled" earnings estimates. Now everything is an upside surprise. Why anyone still listens to analysts is puzzling, given their poor track record in both performance and ethics. This another reason to trade and invest technically.

The QQQQ (NASDAQ 100), and SPY (S&P 500) are steadily moving higher and don't seem overbought yet. The IWM is overbought.

TECH ULTRA continues to rack-up good returns. HHH (Internet Holder's) is flashing a "buy" signal that I must ignore, as both the VIX and other momentum indicators, dictate prudence. SWH (Software Holder's) had sloppy week, but we remain "long". SMH (Semi-conductor Holder's) is still strong and displaying fairly consistent growth and we remain "long" there as well. BBH (Biotech Holder's) has been a mixed bag. On the one hand, the .BTK (Biotech Index) seems flat, while BBH appears stronger. They both must be in sync before we establish a position.

What a week! Malaysia, Singapore, and Hong Kong all put in extremely strong weeks with powerful upward price spikes. We were stopped-out of Thailand after a huge run-up, only to see it move higher again by the end of the week. However, due to its overbought status, we are restricted from re-entering. The Nikkei is at a critical point. Technically, it seems flat; but, fundamentally many are worried about the yen's appreciation vs. the dollar. Taiwan had an excellent week and is benefiting from its position in semi-conductors and investments in mainland China. Unfortunately, we were stopped-out of South Korea with a small profit, but if things continue higher in the region, we'll probably be back in soon.

Contributing greatly to Asia's move higher this week were comments made by Barton Biggs, formerly of Morgan Stanley, who like me, thinks the Asia-Pacific region will generate most future market leadership. Also, cbsmarketwatch.com did quite a good series last week on China and this only added to the pro-Asia investment sentiment.

We are selling "short" the DXY (Dollar Index) Monday as the currency seems ready to resume its downward path. Short of some dramatic action from the US Treasury, the dollar's trend seems lower despite improving economic conditions. Lowering the value of the dollar appears to be the only acceptable tool (protectionist tariffs are out) the current US administration will use to help US manufacturers. A lower dollar will negatively affect Japanese and European exports.

We are buying "long" the CRB (Commodity Research Bureau Price Index) as it has broken out to new highs abetted by rising metals, grains, energy, textiles, etc. This index (primarily used by commodity traders) is monitored by us in this manner to allow subscribers to gauge potential inflation pressure.

We are in "cash" in gold markets as we received a profit-taking signal last week. The metal dropped precipitously, only to stage a comeback late in the week. One would think we'd be "long", as we're "short" both the dollar and bonds; but, again we can't re-enter markets that are overbought.

There is a sense of both excitement and complacency among investors. Hanging over all the markets is another terrorist event or other negative surprise. Given how extended some markets are and how sanguine investors are, it wouldn't take much to undo everything.

Stay tuned.

MARKET STATUS & COMMENT

Markets can surprise and that's why I'm so glad we're disciplined and systematic. Just as the quarter ended, most bulls were feeling a little gloomy (myself included) as stocks appeared weak. Then BANG, the new quarter begins with a powerful stock rally. Bond and gold prices reverse course and collapse, while the dollar strengthens.

We can't feel too comfortable as things can obviously change abruptly. It's interesting how indices held at or near the 50% retracement levels we suggested needed to occur in our 9/28/03 commentary. We're a little frustrated to be "flat" (in "cash") IWM (Russell 2000) as every re-entry "buy" signal generated recently has coincided with sub-20 VIX (Volatility Indicator) readings. In the past, VIX readings this low have led to stops being hit when new "long" positions are attempted. So we sit on the sidelines for now as the VIX is again below 20.

TECH ULTRA is roaring ahead with well-established and profitable "long" positions (check the "Position Status" page) in SWH (Software), SMH (Semi-conductors), and IGN (Networking) Holder's and ETF's. We're still in "cash" in both remaining TECH ULTRA securities, BBH (Biotech) and HHH (Internet).

Both SPY (S&P 500 ETF) and QQQQ (NASDAQ 100 ETF) ULTRA programs have been profitably "long" now for over six months. Due to the long-term nature of all ULTRA programs, these positions (and those in TECH ULTRA) are able to weather bouts of short-term weakness and profit-taking such as we experienced at the end of the quarter.

Gold gave us "sell" signals (close "long" positions) last Monday and we were stopped-out of our "long" NEM (Newmont Mining) and FCX (Freeport McMoran) positions with hefty gains. Over the next few days, it appeared our exit was perhaps premature; but Friday, prices of both fell over 5% making our exit look, at least temporarily, astute.

The heavy buying of dollars to support the yen by the Japanese government ($40B over the past quarter) drove Treasury Bond prices higher as that's evidently where those dollars were parked. As a consequence we were stopped-out of our "short" TLT (Lehman Bros. 20-year Treasury Bond ETF) position. Friday's bond price drop left us ready to "short" TLT again, perhaps soon. The average investor should just avoid bonds as I've been saying for over six months now.

Meanwhile, in Asia strong market up-trends continue and those following our signals there have been well-rewarded. Thailand (SET) is finally indicating a profit-taking "sell" (close "long" position) signal, while the KOSPI 200 has also flashed a "sell" (close "long" position) signal.

We're still struggling to find the right vehicles for US subscribers to utilize when investing in Asia or Europe. Asian and European subscribers can more easily identify highly correlated stocks and ETF's within their own market. Unfortunately, US subscribers must find good tracking mutual funds as US trading ETF's are just not doing the job yet due primarily to time zone differences. This allows specialists the excuse they need to do a poor job. Hong Kong, for example is issuing a tracking stock for the Hang Seng Index. That exchange is also trading other "pilot projects" (Korea and Taiwan) that will be available soon to investors within that market. However, as long as the time difference remains, arbitrage possibilities exist where the average US investor gets disadvantaged (to put it tastefully).

Alerts for Asia are posted on the "Position Status" page and the "Market Status" page has been updated.

Stay tuned.

SEPTEMBER 2003 MONTHLY COMMENTARY