Buried in the bowels of VectorVest Views is an extremely important, but mostly ignored, section called "The Investment Climate." The purpose of this section is to ascertain whether key economic factors are favorable or unfavorable for stock prices.

Since it is my belief that stock prices go up when inflation and interest rates go down and corporate earnings go up, we track and report two measures of inflation, three measures of interest rates and one measure of earnings. In addition, we track two independent measures of market direction and one measure of investment advisors' sentiment. Each of these data items are analyzed in terms of level and trend. All of the trend indicators are shown on a scale of 0.00 to 2.00, with values above 1.00 being favorable.

The big news last week was that the trend indicator for S&P 500 earnings rose to 1.01, meaning that S&P 500 earnings are in an uptrend. This analysis was called into question this week by a number of subscribers who observed that forecasted earnings, EPS, of the S&P 500, as shown on a summary graph of the S&P 500 WatchList, have been going lower since January 5, 2010. While this observation is true, it does not amount to a trend analysis for several reasons. First of all, we use smoothed data as shown by a 50-day moving average of EPS. Secondly, we analyze the entire one year data set, not just the last few weeks. Thirdly, we base our conclusion of trend on what our trend indicator tells us.

This information is shown graphically on our Market Climate Graph. The upper portion of the graph shows the weekly EPS as reflected by the 50-day MA and the lower portion shows the value of the Trend Indicator for each corresponding week. Note that the Trend Indicator fell below 1.00 on February 15, 2008. You may say that was way too late, the Bear market was called in my essay of November 2, 2007. Maybe so, but the EPS Trend Indicator allowed us to see the Bear market coming well before it happened, and I wrote about it many times.

Now the EPS Trend Indicator is above 1.00 and it says that better days are ahead for stock prices. The question is, "Will it continue to rise and stay above 1.00?" The current drawdown of S&P 500 forecasted earnings is not a good sign, but I do see that the rate of decent is lessening. I'm hopeful, if not confident, that S&P 500 EPS will begin rising again soon. This is vitally important, because it will ultimately determine the direction of stock prices.

Attendees, here at the Orlando World MoneyShow, are very concerned about the economy and I have received many questions about inflation and interest rates. They are shocked when I tell them that the Inflation Genie is out of the bottle and interest rates are rising even though Fed Chairman, Ben Bernanke, has not yet raised interest rates. With earnings, inflation and interest rates rising, we are now in a Case 4, Bull Market Scenario, climbing the classic "Wall of Worry." While you won't see it on CNBC, you can read all about it in The Investment Climate Report.

P.S. For more information on Stock Market Scenarios, read my essay of March 28, 2003.

BUYING NON-LEVERAGED CONTRA ETFS.
After a big down day like yesterday, you may want to play the market to the downside, but you may not want to increase the volatility of your portfolio un-necessarily. See how you can have your cake and eat it too by joining Ms. Angel Clark, Research Strategist, at the VectorVest University to see this week's very timely presentation: "Buying Non-Leveraged Contra ETFs."

I received another email recently in which the writer is concerned about the future. Specifically, he is concerned about deficit spending, the money supply going through the roof with all of its unintended consequences, stagflation and inflation. He wants to know if there's a strategy one can use to help maintain a person's current buying power.

The issue of maintaining one's buying power is not a trivial matter and is more important now than ever before. Even with the rally from the March low, many investors are still recovering from sizeable investment losses suffered in 2008 and they cannot afford to see their buying power reduced further for any reason, be it retirement, a weaker dollar or inflation. So what to do?

As indicated in Chapter I of "Stocks, Strategies & Common Sense," the answer is to "invest in stocks which have earnings growth rates greater than the sum of inflation and long-term interest rates." True, but you can't buy just any old stock. You need to buy stocks of the most successful companies, companies that crank out higher and higher earnings year-in and year-out. These are large capitalization stocks that have visibility and are favored by Pros.

OK, so how does one find these stocks? Simple, I created a strategy called Premier Growth Stocks and put it into the Strategies - Retirement Group of the UniSearch Tool. I tested it over three time periods covering a total of 126 months: (1). January 5, 1996 to March 24, 2000; (2). March 21, 2003 to November 1, 2007; and (3). March 26, 2009 to December 2, 2009. I stayed "Long" 100 percent of the time during each test period and managed the 10 stock portfolios on a weekly basis. The Average Annualized Rate of Return for the three tests was 51.65% and the Average Maximum Drawdown was 14.15%. The Premier Growth Stocks Portfolio outperformed the VectorVest Composite in each test.

I tested the Premier Growth Strategy during the two Bear markets between the periods cited above and the results were not pretty. I have some ideas on how to cope with this problem for those who need or want to be long all the time, but for now my suggestion is to go into cash or buy some Contra ETFs when the next Bear market arrives. Yes, but how does one know when a Bear market has arrived? Simply read the Views. We called the one in March 2000. We called the one in November 2007, and we expect to be able to recognize the next one when it comes. Moreover, I plan to start a Premier Growth Stock portfolio next year so you can use that as a guide.

Right now I'm quite sure that you can maintain your purchasing power by investing in Premier Growth Stocks.

PREMIER GROWTH STOCKS.
This is a strategy that's easy to implement and produces good results. But you have to know the secret to making it work. Like anything else, it's so simple once you know how. So join Mr. Glenn Tompkins at the VectorVest University to see this week's wonderful "Strategy of the Week" presentation: "Premier Growth Stocks."

When I was a kid, I accepted things pretty much as they were. Sure, I would fantasize about being the next Otto Graham or Joe DiMaggio, but I never dreamt of distorting reality. For example, I caddied at a prestigious Country Club and would get to play there on Mondays. Like all golfers, I used to visualize my shots before I struck the ball. If I had done what I had visualized, I would have made Ben Hogan look like a duffer. But I hardly ever made shots as I had visualized and I had to accept the consequences of my failures. I never thought of changing fact to fantasy back then, but I learned how it's done later in life.

I learned this wonderful skill from a bunch of whiz kids from the best business schools in the country. If they didn't like a business or situation, they just sold the business or took an eraser and changed the numbers. Selling a business or changing numbers is easy. It takes no skill or expertise. But it's not dealing with reality. As a chemical engineer, I had to deal with physical reality. If a vessel were leaking a poisonous chemical, we had to physically fix the leak. We couldn't stop the leak by assuming it wasn't leaking. A lot of people in today's world don't understand that because they never dealt with physical reality. So they create a fantasy world of false assumptions and distorted numbers that doesn't exist. They are lying to us, and we believe them.

Today we got the CPI inflation report for May 2007. It showed that consumer prices rose at the fastest rate in 20 months, powered by surging food and energy prices. That's really bad news -- but not if you don't count food and energy prices. "They're too volatile." The core rate of inflation, i.e., without food and energy, rose only 0.1 percent in May, much less than 0.7% for all items. So today's inflation report was really good news. Really?

What we have here folks, is The Federal Reserve Board's version of "The Big Lie" as promulgated by Adolph Hitler and Joseph Goebbels. Make the lie preposterous enough, make it big enough and repeat it often enough and the "thick-headed numbskulls" will believe it. Indeed, stock traders swallowed the spin and stock prices took off. Even if you're offended by Wall Street's antics, forget about it. It's more profitable to fly on the wings of Inflation Fantasies.

It's been a long time since rising inflation and rising interest rates have been headline news. But they were this week, and that's not good for stock prices. Rising inflation destroys wealth and rising interest rates raises costs. Ironically rising inflation is seen as an enemy, which it is, and rising interest rates is seen as a weapon to fight inflation. Together they can devastate an economy, torpedo corporate profits and cause a bear market.

As Chairman of The Federal Reserve Board, Dr. Bernanke's job is to maintain monetary stability and to ensure full employment. (The latter task was added to the Fed Chairman's job a few years ago to make the politicians happy.) Nevertheless, his real job is to fight inflation. So he and his associates, known as Fed Governors, have been railing against inflation ever since he took office in February 2006. Moreover, Dr. Bernanke followed in the footsteps of his predecessor and raised interest rates several times after taking office. The last interest rate increase took place in June, a year ago. At that time he said the Fed would consider pausing in their rate hikes since a slower economy would moderate inflation.

First quarter, 2007 GDP growth recently was the lowest in four years, a tepid 0.6%. So investors thought Dr. Bernanke would finally lower interest rates. This move, they thought, would spur the economy, ensure solid corporate earnings and help stock prices go higher. But Dr. Bernanke fooled them. In a speech this week, he said he expects the economy to get stronger over the next few quarters, so he would remain vigilant in the battle against inflation. In just a few words, he crushed any thoughts of an interest rate reduction anytime soon. Stock prices fell sharply.

To be fair, Dr. Bernanke never indicated that he was more likely to lower interest rates than he was to increase them in his fifteen months in office. On several occasions his statements were misinterpreted, (see my essay of 05/05/06), and even I thought that he would lower interest rates. But I should have known better - The Fed Chairman lowers interest rates only after the economy has gotten into trouble, not while it's still showing signs of life, (see my essay of 07/14/06).

Our Market Climate Graphs show that interest yields on 90-Day T-Notes, 10-Year T-Notes and AAA Corporate Bonds bottomed in June 2003, but have not risen substantially since Dr. Bernanke took office. Inflation, as measured by the CPI, is about where it was in June 2003, but hit a high of 4.7 %/yr. in October 2005 and a low of 1.3 %/yr. in December 2006. At this point, it is much lower, 2.6 %/yr., than it was in February 2006, 3.4 %/yr., when Dr. Bernanke entered office. So it seems to me that neither inflation nor interest rates have moved much since Dr. Bernanke has been in office and that the media is overreacting to Dr. Bernanke's comments. So we should not worry at this time.

We should start worrying about high inflation and interest rates when they stifle the economy and cause earnings to go lower. VectorVest tracks these data in our Investment Climate report, shown below, and it interprets the data with the Truth Chart. (See my essay of 03/28/03.) Right now, the Truth Chart is saying we are in a Case 4, Bull Market Scenario in which earnings, inflation and interest rates are rising. This scenario has been going on for a long time and will continue to do so, provided that Dr. Bernanke is right about the economy. For now, we do not have to worry about high inflation and high interest rates, The Deadly Duo.