July 4th, 2002

North American stock markets went through a significant correction over the last 5 weeks. The S&P/TSX composite index at 7030 is down 8.2% over the last 5 weeks from the 7656 level at May 31/02 and is now up only 5.4% from the 6669 level of Sept 28/01.  It is now down 38.4% from its high of 11,402 in early September of 2000.  At this current level, the implied cash dividend yield is 1.75%.  This compares with 22.8 times earnings and a yield of 1.28% at year-end 2000 when the index did display corporate earnings. The Dow Jones Industrial Index at 9055 is down 8.8% over the same 5-week time frame compared with the 9925 level of May 31/02.  At its current level, it has increased only 4.3% over the 8681 level of Sept 28/01 and is now down 22.9% from its all time high of 11,750 on January 14, 2000. At its current level it trades at 24.5 times trailing earnings of $369 to yield 2.04% on dividends of $185. This compares with 22 times and 2.07% on Sept 28/01 when trailing earnings and dividends were higher.   The S&P 500 index continues to lag the DJ since at 954 it is down 10.6% from the 1067 level of May 31/02 and is now lower by 6.4% from the then depressed value of 1019 on Sept 28/01.  It is now down 38.6 % from its high of 1553 on March 23, 2000.  At the current level, it trades at 39 times depressed earnings of $24.70 to yield 1.68% on cash dividends of $16.04. The NASDAQ at 1380 has fared worse over the last 5 weeks, down 14.6% from the level of 1616 on May 31/02.  It, also, is now lower than the depressed level of 1461 of Sept 28/01 by 5.6%.  It is now down 73.1% from its March 9, 2000 high of 5,132.  The deterioration was manifested within the telecommunication sector, compounded by some shoddy accounting practices, in some cases even fraudulent. In the latter part of the period covered, lack of confidence in the US dollar and a flight into bonds were additional contributing factors to the stock market slide. Going against the trend were precious metal stocks, the housing construction industry and well-managed retail merchandisers.

Bonds over the last 5 weeks trade in a very narrow range, having moved up in price as a result of a flight out of stocks into the fixed income area. 10-year Canadas are currently trading at a 5.35% yield compared with the 5.53% yield on May 31/02 and compared to the 4.87% high of Nov 10/01.  Over the last 5 weeks the rate varied between 5.53% and 5.33%.  2-year Canada bonds are trading at a 3.82% yield compared with 4.17% on May 31/02 and the high of 2.69% on Nov 10/01.  Over the last 5 weeks, they traded within a range of 3.82% and 4.17%.  Interestingly, when the Bank of Canada increased its overnight lending rate by a quarter of a point on June 4, its second similar increase this year, 2-year Canadas were trading at a 4.12% yield and are now trading at its best levels, 3.82%.  US 10-year bonds are currently trading at a yield of 4.76% compared with the 5.05% yield on May 31. This compares with the high of 4.31% on Nov 10/01. Over the 5-week period under review, the rates varied from the low of 5.06% to a high of 4.73%.  US 2-year treasury notes now trade at 2.77% yield compared with 3.21% on May 31/02 and with the high of 2.45% on Nov 10/01.  During the period under review, the notes traded at prices between a high of 2.74% yield to a low of 3.14% yield.  There is the likelihood that bond markets will continue to trade at these higher levels, certainly until loan demand improves significantly, signs of inflation appear and the economy takes off.

The US Federal Reserve Board held pat on the overnight bank lending rate for the fourth time this year when they met on June 26/02, thus keeping the rate at the 40-year low of 1.75% after 11 cuts in 2001, the last in December. There appears little likelihood that the Fed will increase the rate much before late this year, certainly not before there are signs that the economy is strengthening at a faster pace.

The University of Michigan’s Index of Consumer Sentiment for June at 92.4 was higher than expected but still down from May’s 96.9, compared with 93 in April and 95.7 in March.

The Conference Board’s Consumer Confidence Index dropped in June to 106.4 from the revised 110.3 in May, 108.5 in April and 110.7 in March.

The Conference Board’s U.S. index of leading indicators rose 0.4% in May following a 0.4% decline in April.  It had risen 0.1% in March, was flat in February and had risen 0.6% in January, 1.3% in December and 0.8% in November.  The indicator is the Conference Board’s measure of the economy over the next 3 to 6 months. These now appear to indicate a struggling economy with, nevertheless, a trend on the upside.

Institute for Supply Management Index ISM (purchasing) in June rose to 56.2.

The US Trade Deficit in April was $35.4 billion compared with $31.6 billion in March.  The wider deficit came as a shock since expectations were for a $32.1 billion deficit.

US 1Q 2002 GDP expanded at a revised 6.1% annual rate, compared with the 1.7% annual increase in 4Q 2001 and the 1.3% contraction in 3Q 2001.  For all of 2001, the US GDP increased 1.2%. 

US 1Q Productivity increased at a 8.4% rate as labour costs fell at a 5.2% rate.

US Nonfarm Payrolls in June grew by 36,000 compared with the revised increase of 24,000 in May.  April figures were revised downward to a drop of 21,000 from a gain of 6,000.  Total non-farm employment stands at 130.7 million, a drop of one million over a one year span. The number of unemployed in the US stands at 3.1 million, an increase of nearly 700,000 so far this year. The US unemployment rate rose to 5.9% in June from 5.8% in May.  Average weekly income rose 0.7% in June to $506.27 ($14.76/hr). Over the last year, average hourly earnings increased by 3.3%, weekly earnings by 3.6%.

The US Consumer Price Index in May was unchanged, contrasted with rises of 0.5% in April and 0.3% in March.  Year over year, this measure of price inflation was 1.2% higher.

The US Producer Price Index fell 0.4% in May compared with the 0.2% drop in April.

US Retail Sales fell 0.9% in May compared with the 1.2% rise in April.

Housing starts in May were at an annual average of 1.73 million, up 11.6% from April’s average of 1.55 million.

The CRB index continue to increase with the current 211 level contrasting with the lows of 190 3 months ago.  Yet, it is still below the 229 level at year-end 2000.  Over the last 5 weeks, light crude oil traded within a narrow range, between a low of US$24.12/bbl on June 11 and its close to current high of $26.77.  Natural gas prices during the same period also traded within a tight band, between a low of  $3.06/million BTU on June 12 to a high of $3.24 on June 21 to close at its current level of $3.14.  The recent high was $3.88/mmBTU on May 14.   True to form, gold retreated from its high of US$331 on June 4 to its current level of $311.  At this level, it still is up 16% over the year and up 23% over the $252 level of 2 years ago.  The rise was partly based on the fear that the US$ was tanking and partly because gold is a commodity that is easily manipulated by large banks along with the major gold producers. The US dollar has weakened from the trading level whereby the Euro was worth 87 cents in late January up to 14% when the Euro was at 99.42 cents on June 26.  The US $ has improved slightly since to 97.45.  The Canadian dollar has increased in trading value from its January 21/02 low of 61.79 cents worth against the US dollar to as high as 66.30 cents on June 26, a 7% increase.  It has since settled back slightly to a level of 65.62 cents.  As is the case with most commodities, swings in currencies always tend to be exaggerated.  In the case of the US dollar, the plight of the telecommunication industry coupled with individual corporate accounting shenanigans and fraud brought about lack of confidence in that currency on the part of some investors.  The fact of the matter is that Europe and Japan still have economic problems and that the US economy has not only coped with drastic circumstances but is improving in a gradual and non-iflationary setting.  The Federal Reserve is apt to keep the overnight lending rate at its current 40 year low (as is Britain) as long as the economy is not heating up, unemployment is at a 5.9% rate and inflation as measured by the CPI remains at the current 1.2% rate of increase.  The 6.1% growth in 1Q GDP will certainly not be repeated for quite some time.  Contrast this to the Bank of Canada’s two one-quarter point increases in the overnight lending rate and, most likely, another on July 16 at a time when Canada has a 7.7% unemployment rate, a significant portion being chronic unemployment.  The Bank points out strong 1Q growth in GDP, 6% vs 6.1% in US, strong trade balance with the US in March assisted by advanced shipments of lumber prior to a 27% duty imposed, a textbook version of core inflation at 2% vs. a 1% rate in real life and another theoretical economic exercise called “output gap” which no one understands.  Needless to say, Canada’s 6 chartered banks are delighted to see interest rates rise since this will help them out on margins following their latest fiasco lending to the WorldComs, Adelphias, Encor, etc.  They did not learn from past experiences in LDC loans, real-estate, oil&gas, you name it.

In summary, the economic recovery in the US is still somewhat fragile and tenuous but is aiming in the right direction.  Consumer spending and fairly robust housing starts assisted by low mortgage rates continue to be underpinnings of the economy.  In spite of the fact that there is very little inflation, interest rates are apt to go up as the year unfolds.  Statistically, North American equity markets are not cheap based on p/e ratios but earnings are bound to increase over the following year.  In general, this newsletter considers the recent stock market correction is providing the serious, long-term investor with an exceptional buying opportunity.  However, stock selections will be most important and should be based on established fundamentals and on the proven skills of management running the companies.  This newsletter attempts to bring some of these to the attention of the reader and, by creating links to company websites, encourages the reader to pursue further evaluation.

The following section, LATEST PICKS, will 16 companies, 8 for the first time.

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