Today's comment is by Eric Roseman, Investment Director for The Sovereign Society and Editor of Commodity Trend Alert.

Dear A-Letter Reader,

Global stocks will log their best gains since 2003 as we shortly conclude 2006.

The MSCI World Index, which continues to hit all-time highs since November, has gained 16% this year. Developing markets, as defined by the MSCI Emerging Markets Index, has surged another 28% in 2006. That's up more than threefold since the bear-market low in October 2002. And they're still hitting new highs almost weekly. U.S. stocks, which have lagged versus foreign markets since 2003, have recently gained momentum. These are also hitting new highs for most averages, except the S&P 500 Index and the NASDAQ. 

The good news for global stocks is that the Federal Reserve will probably remain on pause heading into 2007. They will likely even cut interest rates, especially if employment growth stalls and consumer spending deteriorates. Global liquidity remains buoyant and the boom in corporate mergers this year confirms that many companies are still finding good values in cross-border acquisitions. Another plus is the decline in global long-term interest rates since July and the correction in energy prices, providing a boost to consumers and companies alike.

But heading into 2007, a correction is highly likely.

Stocks in the United States and abroad have not suffered a decline of more than 7.5% off their post-2002 highs. Historically, a stock-market correction is defined as a 15% decline. And then anything beyond a 15% loss is subsequently coined a bear market. 

As stocks continue to advance, volatility levels have also plummeted. The VIX Index, or CBOE Volatility Index, which measures options-trading sentiment, continues to hit all-time lows. That suggests extreme investor complacency. In fact, as stocks have raced higher over the last four years, volatility levels have crashed. But at some point, stocks will correct, a normal phenomenon in an aging bull market.

In addition to investor complacency, that's now at an all-time high, asset class-inflation has reduced the scope for significant capital gains in 2007. Most financial assets, including equities and bonds, are expensive. Real estate, in a bear market in the United States, remains historically expensive. While in Europe, prices are extremely high and have barely suffered a correction, except in the United Kingdom. But commodities are truly the cheapest asset class, still trading about 80% below their inflation-adjusted highs in 1980.   

Investors seeking the best risk-adjusted investments in 2007 should focus on those markets that are distressed, including Japan, Taiwan, the Arab Gulf states and several sectors, including busted Canadian energy trusts, technology, and agricultural commodities.

Also, with the U.S. dollar now in a new downtrend following a cyclical rally since 2005, foreign currencies are a prime destination to hedge dollar-based portfolios. And gold and silver should also continue to hit new multi-decade highs in 2007 as U.S. interest rates decline and the dollar continues to break new lows. But don't forget about cash. With most markets at nosebleed levels, investors should be in a position to buy ahead of an inevitable correction, probably in 2007.

ERIC ROSEMAN, Investment Director
On behalf of The Sovereign Society

P.S. Check out my investment forecast for the rocky year ahead, in the January issue of The Sovereign Individual, The Sovereign Society's members-only newsletter. Not a member yet? Sign up for a risk-free trial.