Thoughts

MSFT beat on all metrics -- sales, earnings, operating margins and deferred revenues.

All product segments -- Windows, Business, Server and Tools, Online, Entertainment and Devices -- exceeded consensus forecasts.

Costs well under control.

Booking growth strong.

Cash flow up by nearly 50% as the company bought back $3.8 billion of stock.

Don't listen to most of the talking heads in the media as they are mo-mo players, who change with the wind.

I always find it amazing how so many grow bullish after one good day in the markets (and, similarly, grow bearish after a tough spell).

I am seeing this phenomenon all day on CNBC today.

The lesson?

Don't even bother listening to most of the talking heads in the media as they are mo-mo players, with no conviction, who change with the wind; they are just like chameleons.

Did I mention the market has no memory from day to day?

Bernanke is typically among the last to recognize a problem (e.g., the subprime crisis).

By the time he has, the markets are already in the advanced stages of accepting it.
Rearview observations are often irrelevant in predicting future prices.

Yes, Chairman Bernanke might have been the fool on the hill in his hawkish and inconsistent testimony yesterday, as he pushed back the thought of stimulus while at the same time saying that economic uncertainty was growing. Equally surprising was that he said that the Fed had not completed a review of their alternative stimulus options.

In a perverse way, though, his economic warnings are bullish for the market, as he is typically among the last to recognize a problem (e.g., the subprime crisis). By the time he has, as he did with yesterday's recognition that "it is different this time," the markets are already in the advanced stages of accepting it.

Markets are a discounting mechanism. Rearview observations and, at times, observations regarding current circumstances/fundamentals (especially at important turning points such as the time of the stock market's generational bottom in March 2009) are often irrelevant in predicting future prices.

The forward P/E for the S&P 500 (on a realistic corporate profits estimate) is now under 12x vs. an average over the past three decades of 15.5x and about 17x when inflation and interest rates are quiescent (as they are now).

Is the upside to stocks capped? Maybe one should use only 13x to get to an 1,150-1,160 S&P target -- by the ambiguity of the current soft economic patch and by the emergence of several nontraditional headwinds (higher marginal tax rates, costly regulation, and federal, state and local imbalances)? But the wide gap between historic multiples and today's valuation seems to argue that the concerns are known and discounted.

The downside to stocks will be supported -- I am using 11x, which takes the S&P to the 1,025 level -- by the low probability of a double-dip and by growing evidence of a modest and shallow domestic economic expansion that is capable of sustaining itself.

Maybe we are in a growth slowdown, which is fairly typical when an inventory cycle matures. Meanwhile, financial conditions appear to be easing. Credit spreads have stopped widening, and liquidity spreads are also improving:

* Two-year swap spreads, which typically presage a lower VIX and better corporate spreads, have narrowed since May.

* The Bloomberg Financial Conditions Index, which leads GDP by a quarter or so, is improving and, according to the lynx-eyed Mike Darda, is consistent with 2.5% real GDP growth.

* The euro is ripping higher.

* Three-month Libor has been flat to slightly down since May.

* Europe's economic plight might be overstated. For example, Spanish bonds have risen while the S&P has swooned.

* Junk bond yields have dropped.

There is risk to the upside of stocks for several reasons:

* Neither Bernanke's nor investors' expectations are elevated (as they were six months ago).

* Retail investors are underinvested and have not committed to domestic equity funds. Hedge funds have de-risked and are generally inactive. Who is left to sell?

* Should bonds begin to drop in price (rise in yield), a massive reallocation out of fixed income into equities could be triggered.

Man up, investors! The economic news has now been discounted in the markets. Chairman Bernanke told us so yesterday.......