Today's comment is by Eric Roseman, our Investment Director and editor of Commodity Trend Alert and Global Mutual Fund Investor.

Dear A-Letter Reader,

The first six months of the year didn't look too bright for global investors.

Stocks were wavering on the heels of several central banks hiking interest rates, bonds yields were still rising, and the Federal Reserve was on course to raise its benchmark Federal Funds rate another notch.

And commodities, which embarked on a secular bull market in late 2001, stumbled badly starting in May as the precious metals, energy, and soft commodities all consolidated sharply.

But six months later, the big picture has turned markedly positive for investors.

Global investors grew increasingly bullish on stocks, bonds, and commodities as August approached. The catalysts for the new tidal wave of buying across world markets was a bullish combination of sharply lower crude oil prices, lower long-term interest rates, and massive mergers and acquisitions fueling cross-border deals.

Plus, the Federal Reserve left interest rates unchanged in July after raising the benchmark 17 times since June 2004. That's just been another positive variable supporting financial assets.

And since August, world markets have been on a tear...
   
The Dow Jones Industrials Average, a laggard versus most international bourses since 2003, has hit numerous record highs since last fall. And the Dow has risen every month since July, up 15.9% in 2006. Smaller stocks, utilities, and REITs have also hit records this year on several occasions.

The MSCI World Index, a global composite of industrialized markets based on stock-market capitalization, continues to hit fresh six-year highs. It's up 17.6% this year. And let's not forget those red-hot emerging markets, up another 26.4% in 2006 according to the MSCI Emerging Markets Index. Some constituents of this index have fared even better, including the MSCI BRICs, or Brazil, Russia, India and China Index, up a stunning 46.4% in 2006 followed by 41.3% for the MSCI Eastern Europe Index and 35.3% for the MSCI Latin American Index.

The only region posting a decline in 2006 was the Arab Gulf states. Following spectacular profits since 2000, markets in Dubai, Oman, Cairo, Jordan, and Riyadh all succumbed to a major crash last spring and will finish the year down 15% in U.S. dollars.

Global bond markets were quite the bore again in 2006. The JP Morgan Global Government Bond Index rose 7% in dollars and barely in positive territory at all in local currency. But, riskier bonds like high-yield debt and emerging market debt gained 12% and 11%, respectively, in 2006. Benchmark 10-year U.S. Treasury bonds, the most liquid debt instruments, gained 4.5% in 2006. Overall, after adjusting for inflation and taxes, most bonds did not produce high inflation-adjusted returns this year. 

Hard assets, or commodities, will likely suffer their first losing year since 2001. Driven lower by plunging energy prices -- the largest component of every commodity index, raw materials came under severe selling pressure starting in May as the U.S. dollar rallied and global central banks lifted interest rates. Commodities have been on a tear since 2002 and some parts of the complex look overheated, particularly the base metals. But as the Fed eventually cuts lending rates next year and the dollar softens further, I'm looking at additional profits for precious metals, the soft commodities, and a continuation of the bull market for oil and gas.

Some interesting observations worth mentioning as we shortly close the books on 2006.

International investors in U.S. dollars enjoyed a very strong year, in good measure a result of a weakening currency since April. The MSCI EAFE Index, which includes major-market stocks outside of the United States, soared 22.8% in 2006, but rose only 13% in local currency terms. What that means is that dollar-based investors generated 75% more performance attribution from stronger currencies overseas.

As the dollar declines, foreign stocks increase in value. And over the next few years, I expect the value of foreign securities to continue appreciating versus the U.S. dollar. However, I don't expect a dollar-crash, unless housing collapses or a trade-war breaks out with China.  

Stocks worldwide are in a pretty place right now. But I think we're going to suffer a major correction in early 2007, which shouldn't transform into a bear market.

Global rates are low, liquidity flows are buoyant, and a real estate hard-landing in the United States will compel the Fed to lower rates next year. But I'm seeing signs of investor complacency, namely the CBOE VIX Index, which measures options trading sentiment on the S&P 500 Index. This index continues to hit fresh 12 years lows this month. And in November, this index touched an all-time low.

Another warning signal is the Dow Jones Transportation Average, down 9% from its all-time high and consolidating since last fall as the Dow Industrials hit new highs. According to Dow Theory, both indexes should be hitting new highs, confirming the primary trend. Back in 1998, the Transports also started consolidating 18 months before the bull market died in 2000.

Finally, bond-yield inversion, or an anomaly whereby short-term rates yield more than long-term rates, continues to flash recession signals since last winter. I'd certainly feel more comfortable if long-term rates were higher, not lower, than short rates.

For 2007, I'm looking at a tough first six months followed by a strong recovery over the second half of the year, similar to this year's performance. Only in 2007, I think Treasury bonds will match or outpace global stocks, a forecast nobody is making right now. I also like precious metals, oil and gas and volatility, which will make a comeback. At just below 5%, Treasury bills also look pretty good with most asset classes very inflated and yielding less than T-bills.    
       
ERIC ROSEMAN, Investment Director