The New Year is just a couple weeks away, and you know what that means: It’s end-of-the-year forecasting time again. So, this week I’m going to cover the macroeconomic and stock market outlook for 2008 and a bit beyond. And then next Thursday I’ll go through each MegaShift and provide you with the company-by-company outlook for the coming year. I hope that will be among your Top 10 interesting things for the week, even in competition with two major holidays.

Predicting what will happen to our economy in 2008 may seem roughly akin to guessing where the locomotive will wind up when you are in the middle of a train crash. And I must say that it is harder this year to nail the macroeconomic outlook than any of the past five years or so. That’s because the U.S. economy will be walking the knife edge of recession for the first two or three quarters of the year, as the “Bernanke Box” that I identified for you in early 2006 becomes very constricting.

There’s no doubt that without massive intervention by the monetary authorities, the U.S. would slide into a deep recession. This is because high energy prices and falling house prices would kill consumer spending, which in turn could cause businesses to pull back by cutting inventories and firing people, which could then cause the world economy to head south.

But there is massive intervention by the monetary authorities already underway, and note that I did not say “U.S. monetary authorities.” The problem in the world’s economy started in the U.S., for sure, and as we all know, there just wasn’t a darn thing that the Fed could have done to prevent it. We all know that because former Fed Chairman Alan Greenspan wrote a wonderfully comic op-ed piece in The Wall Street Journal on December 13 that said: “I have reluctantly concluded that bubbles cannot be safely defused by monetary policy or other policy initiatives before the speculative fever breaks on its own. There was clearly very little the world’s central banks could do to temper this most recent surge in human euphoria…”

I learned a long time ago that when someone says “clearly” they probably don’t have any evidence for a position that they desperately want you to agree with. Greenspan blamed the problems on “global capital flows,” as if the capital suddenly fell from the sky. The money came from his Fed dramatically accelerating the growth in the money supply! Does he think that we didn’t notice? Has he never heard the phrase “take away the punch bowl?” Or did he hear: “Just as the party gets rolling, the Fed’s job is to spike the punch bowl?”

While he was the Fed Chairman, Greenspan’s game was to focus the media on the level of interest rates — the price of money — while spending much of his time behind the scenes on growing the money supply — the quantity of money. Well, Bernanke ended the reporting of M3 to try to hide the growth in the money supply, and then he accelerated M3 growth. But the current credit crisis is a crisis of both leverage and confidence, and Bernanke needs to publicly show that he is making quantities of money available. Which he recently did: The Fed announced the bank credit auctions that I discussed last week, including $20 billion last Monday and $20 billion today. That increased the money supply by 3%.

That may seem like a decent chunk of cash but not compared with what occurred on the other side of the pond this week. The European Central Bank dropped $500 billion in new credit into their banking system on Tuesday. Wow! They don’t even have sub-prime mortgages, except the ones that they bought from us, although there is a housing price bust in Spain that probably will spread to the UK. The ECB made Bernanke look like a piker. A side effect from this influx of cash is that they will knock the euro down versus the dollar, because more paper money means less value for each piece of paper. Their manufacturers will also be a little better able to compete with the U.S. and China around the world, and their price of oil will go up a little bit. But the main impact will be that half a trillion dollars will unlock their credit markets. If they take it back out soon, it won’t have much negative impact. More likely, they will never really take it back, avoid a recession and just eat the inflation, which will happen over a few years.

One indicator to watch in this situation is the London Interbank lending rate, or LIBOR. That’s the rate that banks charge to lend to each other, and if it doesn’t come down even with coordinated actions by the major central banks, things could get much worse than I am now expecting — in the U.S, Europe and the UK.

I think the six biggest economic stories of 2008 will be how high inflation goes, how low U.S. GDP growth goes, how long it takes to unlock the credit markets, where oil prices go, who gets elected President, and the path the stock market takes for the year. So let’s take a look at each of these scenarios now.

How High Will Inflation Go?

Inflation is a consequence of how much money Bernanke and the Europeans print, but there is a self-limiting aspect to it. Last Friday’s top stories included these two headlines:

Gas Prices Spur Consumer Inflation- AP

Oil Prices Fall on Inflation Report- AP

With less than one month to go, inflation in 2007 is rising at an annual rate of 4.2%, far above the 2.5% that we saw in 2006. But a surge in inflation will cause consumers to cut back quickly on non-essential spending, and “core” inflation, leaving out food and energy, is not relevant to someone impacted by high gasoline, heating and food bills. The resultant slowdown in the economy will reduce inflationary pressures — sometimes by taking a big whack out of corporate profits. My forecast for inflation in 2008 is 5%, and it is that low only because I’m looking for slow GDP growth. I think we are on course for accelerating inflation every year for quite some time.

How Low Will GDP Growth Go?

GDP in the current December quarter is likely to be better than the 1% consensus forecast, clocking in somewhere in the 1% to 2% range. But both the first and second quarters of 2008 are going to be slow, because business capital spending is slowing, the credit markets are not going to unlock easily, and consumers are squeezed by high gasoline and heating oil prices. In a recent Roper poll, two out of three Americans said that they will cut back on spending for other things due to higher energy costs in 2008. Almost 25% said that they will be making significant cuts in other areas.

I’m expecting growth below 2% in the March and June quarters, and 3% in the September and December quarters. The year should skirt a recession and come in around 2.5%, which is a bit better than the consensus of 1.8%. For the world economy, I am looking for just over 4% growth, lower than the consensus for 4.8%. I still think a slowdown in the U.S. will have a meaningful impact on Asia, while others think China won’t slowdown much in 2008, if only because of the Beijing Summer Olympics.

One of the biggest reasons why a U.S. slowdown still has so much worldwide clout is that this is where the wealth is. Almost two-thirds of the household wealth in the whole world is in two countries, the U.S. (37%) and Japan (27%). China does not make the top 10. (If you are interested, the remaining wealth is in the UK (6%), France (5%), Italy (4%), Germany (4%), Canada (2%), Netherlands (2%), Spain (1%), Switzerland (1%), Taiwan (1%), and the other 183 countries in the world total less than 10% of global wealth. If you have a net worth over $500,000, you are in the top 1% of the world’s households.)

How Long Will It Take To Unlock the Credit Markets?

The sub-prime credit markets aren’t going to unlock. The Fed has proposed rules outlawing no doc and “stated income” or liar loans, and requiring lenders to be sure that borrowers can afford the payments after a loan resets. In other words, most sub-prime borrowers will not be able to buy a house in the future. That means there will be no more sub-prime mortgage pools, so Wall Street will have to overdo something else next time.

Vindu Goel, who blogs for the San Jose Mercury News, asked; “What’s the difference between the fire department and the Federal Reserve Board?” Answer: The fire department actually tries to save a house before it’s gone.

The existing pools of defaulting sub-prime mortgages will be passed around from the current holders to others (private equity, bank pools) at a big discount, damaging the lending ability of the original holders. But the Fed will provide enough liquidity to put the better banks back in the lending business right away, and the rest will be stabilized by mid-2008. At the same time, corporate demand for funds will fall as business slows. Homebuilders won’t be looking for money until after midyear. The net effect should be available credit in the March quarter, with lower demand making it seem like the markets have healed. The issue should be behind us by the end of the June quarter, due more to slow GDP growth than anything else.

Where Will the Price of Oil Go?

In a slower-growth world economy, inventory adjustments and speculation in the futures market can take oil prices lower than they would otherwise go. After all, slower growth is still growth, and even if China grows 7% to 8% instead of the 9.8% forecast by the Organization for Economic Development, their use of oil will increase in 2008. As will India’s use. That will easily offset any softening of demand in the Western world — which I expect to grow at a lower rate in 2008, but not decline. The net of all this should be an oil price range of $80 to $100 a barrel in 2008, centered on $90.

However, I could be low. The U.S. Energy Information Administration says that worldwide demand for oil will outstrip supply in 2008. They are forecasting gasoline to average well over $3 a gallon in 2008, with a spike to $3.40 in the spring, versus a nationwide average of $3 now. (We are far over $3 a gallon in California already due to state and regional taxes.) Whether the GDP softness impacts energy prices early in the year or not, towards the end of the year inflationary money supply growth could cause oil to break out over $100, and I certainly think that is in the cards for 2009.

Who Gets Elected President?

I think Hillary Clinton and Barack Obama will run together against Mike Huckabee and Rudy Giuliani, in either a Huckabee/Giuliani configuration or Giuliani/Huckabee, and Clinton/Obama will win a squeaker. I also think that it doesn’t matter who runs or wins — unless it is Ron Paul, who makes too much sense to even get nominated, much less attract the average American voter.

What Path Will the Stock Market Take for the Year?

The short answer is that most likely we are either going to see a sideways-to-up consolidation into late March, followed by a dramatic move up, or we are going to get the dramatic move shortly, lasting into late March, followed by high-level churning through the election. As always, we will let the market tell us what to do, but I think the odds still favor the latter scenario.

One of the reasons that I think we could see a big move over the next three months is the huge amount of money coming from the European Central Bank and the Fed into the world economy. Usually, that money sloshes into financial assets first, and then wends its way into real businesses. But if capital spending is slowing and companies are trying to reduce inventories, a lot of the new money will stay in financial assets longer than expected.

In theory, the Fed should be constrained by accelerating inflation and less able to deal with the still-spreading worldwide credit crunch. In fact, I think that the Fed will slash interest rates just as Alan Greenspan did after the Internet bubble burst and slowed the economy in 2000 to 2001, and inflation and the dollar be damned. That’s why I’ve been guiding you away from holding U.S. dollars or dollar-denominated, fixed-rate CDs, notes, bonds or mortgages.

It is obvious that 1440 on the S&P 500 is every bit as important as I’ve been saying, as both resistance on the way up and support on the way down. After watching the market internals over the past two weeks and today, I now think that we are on the verge of a strong move higher. We have tested 1440 as support over and over again, on both the weekly and daily charts (including yesterday) and the bears just can’t knock the market lower. Markets that refuse to go lower generally go up. And it looks to me like the market has just been recharging ahead of the next big move to the upside, so the next move up over 1490 should be a lulu, going to all-time highs.

It is always possible that there will first be yet another quick, scary decline to 1440 like yesterday’s midday swoon to clean out the last of the chicken bulls, but that would just increase the energy available for a slingshot move up. I expect a bit of consolidation at 1490 and again in the 1507 to 1510 range, with a little longer period of consolidation at 1530. And there should be a couple of weeks of consolidation just under the old high at 1555. Any of these consolidation periods could include a retest of the prior level, and I certainly expect the market to touch 1555 and then go back down to test 1530, maybe two or three times.

Looking at the longer-term weekly data, I conclude that decisively breaking the old high at 1555 is likely to start a very sharp move up to 1690. It is possible that move will overshoot to 1710 or, in a really extreme case, 1790. Wherever it ends, this is a move that you do not want to miss. The whole move should play out to an important top in the second half of March.

I doubt that will be the ultimate top for this bull market, but it is very typical in an election year for the market to stage an early rally and then churn at a high level from spring through the election, without drastically breaking out in either direction. In part, that’s because during the campaign the candidates slug each other and scare the voters, especially those on Wall Street. I doubt a Clinton/Obama ticket with good poll numbers would be very welcomed on the Street. In general, there’s just too much uncertainty, pandering, charges and counter-charges during the campaigns to keep investors comfortable, and that goes double for overseas investors who take Presidential elections in the United States seriously.

The Bottom Line

Be fully invested right now, whether that means your maximum is 50% equities, 100% equities or 150% equities on margin. If you normally hold bonds, you should shorten up maturities, because I expect long-term interest rates to rise even as short-term rates fall. It is normal for the yield curve to move to a positive slope if there isn’t going to be a recession, and the Fed will do everything it can to avoid a recession. Don’t fight the Fed.

If you hold cash, you can switch it to a Eurodollar or yen CD account at Everbank, or use the Philadelphia Exchange World Currency options to protect the value of your dollars. For the next few months, though, with the ECB and the Chinese central bank both creating money even faster than the Fed, the dollar should be OK against everything but the yen.

In our MegaShifts, these stocks that should move the most from now to March:

• Affymetrix (AFFX)
• Rochester Medical (ROCM)
• Akamai (AKAM) — where I am raising the buy limit to $36
• Harmonic (HLIT)
• QuickLogic (QUIK)
• Intel January 2009 $22.50 LEAP (VNLAX)
• Motorola January 2009 $17.50 LEAP (VMAAW)
• Gasco Energy (GSX)
• US Geothermal (UGTH)
• iRobot (IRBT)
• SiRF Technology (SIRF)
• CNET Networks (CNET)
• Airspan (AIRN)
• Alvarion (ALVR)
• TowerStream (TWER)

I expect Crucell (CRXL), eResearch (ERES), Millennium Pharmaceuticals (MLNM), SXC Health Solutions (SXCI), Silicon Image (SIMG), Telkonet (TKO), Connacher Oil & Gas (CLL.TO), Infinity Energy Resources (IFNY) and several others to have big moves based on specific company news, which may or may not come by March, so I left them off the above list, but still rate them as buys.

Biotech MegaShift

There’s an important shift going on at the FDA that is making me more cautious on biotech companies working on cancer drugs. On December 5, Genentech got a turndown from the FDA Oncologic Drugs Advisory Committee (ODAC) to expand the label for Avastin to cover breast cancer patients in conjunction with chemotherapy. Avastin is already FDA-approved for colorectal and lung cancer, and it is no small drug, doing $1.7 billion in sales for the first nine months of 2007. This got my attention, because Genentech normally is very good at getting drugs through the FDA. But the head of the Oncology Division of the FDA, Richard Pazdur, has become very strong politically, to the point that industry insiders now refer to some FDA decisions as “being Pazdurized.”

On Avastin, he simply constructed the ODAC panel meeting to get a “no” vote, using the always-reliable “let’s wait for more data” excuse. Some people think that the FDA will overrule the panel and approve Avastin on February 23 because the vote was only 5 to 4 against approval. But I think they are really wrong, for two reasons. First, as Pogo used to say, truth is a 5 to 4 vote by the Supreme Court. Second, Pazdur has an agenda. In the past, progression-free survival has been a surrogate endpoint for survival, and a drug that showed progression-free survival for a period of time could get approval. But Pazdur seems to want real survival data, which can take much longer to collect at a point that it will be statistically significant. Essentially, he has said: “I don’t care if the tumors stop growing if the drug doesn’t extend survival, so show me the survival data.”

I have mixed feeling about this. None less than the American Cancer Society has said that if you have a healthy immune system, you won’t get cancer. In that sense, cancer is a symptom of an unhealthy immune system, not a disease in itself. Treating the tumor without treating the underlying immune system problem is like bringing a fever down without addressing an underlying infection. It doesn’t do much good, and may actually do harm. In the case of the fever, your body is trying to burn out the source of the infection. In the case of cancer, chemotherapy and radiation both suppress the immune system, making it more likely that cancer will recur and be fatal.

On the other hand, this is bad news for cancer biotech companies and their stocks, and may reduce R&D in this area. It simply takes a lot more money and time to prove survival than to prove tumors are not progressing. So a new approach that works, which I think Dendreon (DNDN) has in Provenge, might not get pursued just because of the daunting financial requirements to get to approval.

Incidentally, if Provenge had gone before an Oncology Division advisory panel, I am sure that Pazdur would have arranged a complete turndown. FDA Commissioner Andrew von Eschenbach cleverly put the Provenge approval track in the Biologics Division. But after their advisory panel recommended approval, Pazdur waged a behind-the-scenes war to get the FDA to overrule the panel, and he won because he has more power than the Commissioner. It is that process that Congress is being asked to investigate. I still think the investigation will have no impact on Dendreon.

It may be possible to get a drug approved with statistically significant progression-free survival data plus good survival data that needs a couple of more years of follow-up to reach statistical significance. We just don’t know yet. What is clear is that if you have statistically significant progression-free survival data without good survival data, or with neutral or even negative survival data, Pazdur is going to be sure you are turned down. We have to factor that into our decisions to invest in biotech cancer companies going forward.

Amgen (AMGN) has become the whipping boy for biotech bloggers and shortsellers emboldened by the stock’s performance in 2007, but that is about to change. I have no doubt that the stock has been under pressure by yearend window-dressing sellers, mainly pension fund managers looking to get losers out of their portfolio before December 31 so that they don’t have to defend the position to their clients. AMGN stock was essentially flat from mid-September through December 6. The FDA panel turned down Genentech’s Avastin on December 5th, which sent shudders through all the major pharma and biotech stocks. And the stock took a big drop on Friday, December 7, ahead of the American Society of Hematology (ASH) meeting, when management said that they are in discussions with the FDA about label changes for Aranesp (no surprise) and that there would be another meeting of ODAC in the March quarter to review, yet again, Aranesp, Epogen and Johnson & Johnson’s Procrit. That was a surprise.

The label discussions are about using Aranesp off-label to drive hematocrit to high levels in patients undergoing chemotherapy. We already knew that’s too risky, and that this part of the market accounted for less than 10% of Amgen’s sales of these drugs. We also know that Medicare has slashed the hematocrit level below which they will reimburse the use of Aranesp or Epogen. At the time Medicare did that, investors hit Amgen’s stock because they expected private payers like Blue Cross to follow suit. That has not happened — just the opposite, really. Doctor groups are saying that the Medicare-approved levels are too low, dangerous for the patient, and likely to put an intolerable strain on the blood transfusion supply, which is the alternative to having the patient make their own red blood cells using Aranesp or Epogen.

So, Amgen is about to make label changes to Aranesp and Epogen that are already widely-known. The Medicare dosing changes are not having a wider impact and, in fact, are medically wrong (not that I think they will be overturned). Finally, through this whole controversy, Amgen’s original market for Epogen and Aranesp in kidney dialysis has been untouched. I believe that even though the ODAC meeting in the March quarter will be before the same folks that just turned Avastin’s label expansion down, doctors and Pazdur have exactly the opposite motivation from what Wall Street thinks. Just as Pazdur was furious when Dendreon end-ran the ODAC committee with a cancer drug, I suspect that he does not want Medicare setting drug standards that are different from the ones he sets at the FDA. It makes him look bad. So I expect the ODAC meeting to re-recommend the current hematocrit standards, and give Medicare a slap on the wrist.

In addition to all the sturm und drang over Aranesp, at the 30th Annual San Antonio Breast Cancer Symposium meeting Amgen revealed some good data on denosumab, its osteoporosis drug that initially targets raising bone density in women undergoing breast cancer treatment. The data showed marked improvement in cortical bone density, compared with treatments currently on the market. (Cortical bone is the hard outer portion of a bone.)

Other studies are looking at the drug in post-menopausal women (who make up the majority of people with osteoporosis) and in men with prostate cancer, which like breast cancer is often treated with hormone-blocking drugs that can weaken bones. Amgen thinks that this can eventually be a $2-billion-a-year drug.

I still think AMGN will hit $95 on or before our January 2009 $70 LEAP calls (VAMAN) expire in about 13 months, so you can buy the calls all the way up to $12.50, for my $25 target price ($95 minus $70).

China MegaShift

China’s consumer price inflation hit an 11-year high in November at 6.9%. Deputy Central Bank Governor Wu Xiaoling told a financial forum that the rapid growth in the Chinese money supply “is also adding to the upward pressure on inflation.” That’s the first time I have seen a high-level admission that they are printing money like, well, paper. He said that the main factor stoking inflation was “rising prices in certain sectors of the Chinese economy.” Dude, that is inflation. Saying inflation is caused by rising prices is like saying fevers are caused by high thermometer readings. Let’s turn to the expert, Milton Friedman: “Inflation is always and everywhere a monetary phenomenon.”

Content on Demand MegaShift

Akamai Technologies (AKAM) was clipped after AT&T said that they will build up their Content Delivery Network business. Cowen & Co. downgraded AKAM as a result. Yawn.

Cowen noted that AT&T has such a big network that the average distance between a Content Delivery Network node and the customer could shrink to 100 miles by the end of 2008, compared with Akamai’s current 250 miles. Double yawn.

AT&T has been in the Content Delivery Network business for four years, and gone nowhere. They may have a customer for video somewhere, but I’ve never read about one, and there aren’t any customer case studies on their website. Meanwhile, Akamai sold nothing but dumb caching services four years ago, but they now offer a full suite of services around that, including support for streaming video (a la YouTube), fail-safe delivery, content management systems and software, load balancing, network monitoring, real-time reporting on delivery performance, redundancy, security and optimization.

After Akamai started, by 2000 they had lots of big name competitors who said that they were going into content delivery: Quest, MCI, Sprint and even the then-version of AT&T. After a year or so, they were all gone. Meanwhile, Akamai’s average revenue per user grows quarter after quarter. Sure, some customers still sign up for dumb content delivery, but they quickly realize that by using Akamai’s other services, they can greatly increase the economic value of what they are sending over the Internet. Quicker delivery of physical packets, which is what AT&T is talking about, is a small part of a total Internet distribution service. I watch Limelight Networks, Level3 and others as they try to compete with AKAM, and I know this market is so huge that there will be more than one winner, but right now the way to take advantage of the video explosion is to buy AKAM under my raised $36 buy limit for an unchanged $60 target.

Security MegaShift

SiRF Technology (SIRF) must have benefited from this: The #1 electronic item purchased on the Black Friday shopping day after Thanksgiving was a GPS monitor –they were up 500% over last year in unit sales. Two years ago, GPS devices cost $1,000. But the cheapest ones now have broken the $100 barrier and many are now competing on a variety of features.

SiRF also said that GPS will be a core technology in Google’s Android cell phone reference technology coming in 2008. That makes sense — Google wants to serve you ads like Starbuck’s coupons that match up to where you are. SIRF closed today under my $24 buy limit. Buy SIRF now for my $42 target.

Dollar Death Watch

With the European Central Bank out-printing Bernanke for the moment, the dollar should stabilize. A big shopping mall near the Orlando airport estimated 80% of its holiday customers are foreigners this year. They fly in from England and Europe on charters, packing 500 people on a plane, because prices in U.S. dollars are half the price of the same goods in pounds or euros at home. A condo in Florida is now cheaper than one on the coast of Spain. A ski cabin in Colorado is cheaper than one in the Alps. That’s the way it’s supposed to work!

The U.S. trade deficit declined during the September third quarter to the lowest level in two years. But before you get too excited, it fell by 5.5% to $178.5 billon. At that rate, it would take over four years to get us back to a trade surplus. Unfortunately, that would require a responsible Fed and a group of politicians willing to really balance the budget, starting with not counting the money that they borrow from the Social Security Trust Fund as income. That’s not the way to bet.

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