Wednesday, August 28, 2013

Investing for Survival--More on Tax Havens

      Investing for Survival

More Tax Havens Fall
In April Europe became the latest privacy battleground when five EU countries jointly announced an agreement on tax-information exchange.
Similar to the 2010 U.S. Foreign Account Tax Compliance Act (FATCA), the agreement between France, Germany, Italy, the UK and Spain is being viewed as the basis for a bigger, EU-wide agreement.
Under FATCA, the U.S. Treasury Department is signing intergovernmental agreements with countries worldwide and claims to be negotiating with 75 at time of writing. Since its introduction FATCA has been viewed as a model for other nations eager to track down the foreign accounts of their citizens.
Austria, and the world’s only remaining Grand Duchy, Luxembourg, have also succumbed to the tax transparency moves of the EU.
Until recently, Austria and Luxembourg were the only two countries in the Union that refused to disclose the identity of bank account holders to fellow member states. Both have now agreed that beginning in 2015 they will comply with an EU directive on the automatic exchange of bank depositor information.

Luxembourg’s finance minister, Luc Frieden, said that he wanted to “strengthen cooperation with foreign tax authorities.” Banking secrecy will still apply to Austrian citizens however, which the Austrian government has called a “fundamental right.”

The American Enterprise Institute on Syria and the Fed

Morning Journal---We are still hostages of the banks

News on Stocks in Our Portfolios
Scotiabank beats forecasts, hikes dividend
·                                 BNS adjusted EPS of $1.39 is up 12% Y/Y with ROE of 17%. The quarterly dividend is hiked $0.02 to $0.62 per share for an annualized yield of 4.2%.
·                                 Provision for credit losses of $314M is off $88M from last year.
·                                 Canadian retail banking profit of $590M vs. $540M a year ago; 11% revenue growth was boosted by ING Direct Canada acquisition. Existing operations saw revenue growth of 6%. Mortgage lending growth of 6%, personal loans and credit cards grew 9%.
·                                 Adjusted international banking income of $494M vs. $471M a year ago, with revenue up 7%.


   This Week’s Data

            The International Council of shopping Centers reported weekly sales of major retailers up 0.2% versus the prior week and up 1.9% versus the comparable period a year ago; Redbook Research reported month to date retail chain store sales up 0.3% versus the similar timeframe last month and up 3.8% on a year over year basis.

            The June Case Shiller home price index rose 0.9% month over month versus expectations of +1.0%.

            The August Conference Board’s index of consumer confidence came in at 81.5 versus estimates of 78.0.

            The August Richmond Fed manufacturing index was reported at 14.0 versus forecasts of 0.0.

                Weekly mortgage applications were down 2.5% while the more important purchase applications rose 2.0%


            We are still hostages of the big banks (medium and today’s must read):



Uncle Sam wants another $6 billion from JP Morgan (medium):

Final Obamacare ‘individual mandate’ rules released---read’m and weep:

The Morning Call--The Market weighs its worries

The Morning Call


A reminder that I am taking off today for the Labor Day Holiday and will be back Tuesday  9/3.  If action is needed, I will send a Subscriber Alert.

The Market

            The indices (DJIA 14776, S&P 1630) had a rough day.  The most important technical item was the S&P breaking below the lower boundary of its short term uptrend (1635-1790).  Under our time and distance discipline, it must stay below its lower boundary through the close Thursday to confirm the break.  If that occurs then it will re-set to its former short term trading range (1576-1687)---but that is getting a bit ahead of ourselves.  The Dow remained within its short term trading range (14190-15550).

            Both of the Averages finished within their intermediate term (14657-19657, 1562-2148) and long term uptrends (4918-17000, 715-1800); and both closed not only below their 50 day moving averages but also below their 100 day moving averages---though the S&P did just so.  Not a good sign.

            Volume rose; breadth was terrible.  The VIX rose 12% but remains well within its short term trading range and its intermediate term downtrend.

            The long Treasury bond broke above the upper boundary of its short term downtrend.  If it remains above that boundary through the close Thursday, then it will re-set to a short term trading range.  In addition, it closed just slightly below its 50 day moving average which should act as resistance.  This move is likely a flight to safety in front of a potential war in the Middle East and is trumping any moves related to ‘tapering’.

            GLD rose, continuing to build that very short term uptrend.  Despite the fact that it remains within its short and intermediate term downtrend, this advance has progressed sufficiently that if GLD challenges the lower boundary of the very short term uptrend and fails, our Portfolios will likely begin re-establishing their positions.

            Bottom line: the S&P could potentially be moving back in to unison with the DJIA, which is not a positive.  We have to wait till the close Thursday to get confirmation, but clearly a follow through to yesterday’s pin action would be negative for stocks.  In addition, the indices taking out their 50 and 100 moving averages only points to more weakness.  That said, the situation in Syria has raised the emotion quotient in pricing considerably.  So if the US lobs a couple of cruise missiles into Syria so Obama can save face and the Russians and Iranians don’t retaliate, then this crisis could be over quickly---which would likely be accompanied by a rebound in stocks.  How much is the big question.  In any case, this is a Market to be avoided unless you are a trader.


            Yesterday’s US economic news was uplifting: weekly retail sales were positive for the first time in a couple of weeks, the June Case Shiller home price index was up again, August consumer confidence was much better than anticipated as was the August Richmond Fed manufacturing index.  Overseas, the data was just as good: German business confidence was up and so was Chinese industrial profits.  All the makings of a positive day in the Market, right?

No, the global markets were concerned about war in Syria and what that might do to oil prices/availability.  In addition, investors may still be in a ‘good (economic) news is bad (‘tapering’) news’ frame of mind.  Whackage ensued.

Three comments:

(1)                             while the whole ‘tapering’ issue has been shoved off center stage, at least temporarily, it is not going away as a Market moving factor,  particularly among equity investors---meaning they are still conflicted about whether or not we get ‘tapering’, whether it is sooner or later and, hence they are still uncertain about what to do about stocks.  Complicating the issue are rumors that Larry Summers is in the lead as heir apparent to Bernanke; and he has two things going against him [in many investors’ minds]: [a] he is more hawkish than Bernanke and [b] he is more of a divider than a uniter--- not a great character trait going into what will likely be a difficult {failed} transition process.  In other words, expect this to re-emerge as a key determinant of Market direction.

The Fed’s final game (medium and a must read):

And this from Stephan Roach on the global QE exit (medium and another must read):

(2)                             September is but days away and with it comes [a] the need for a continuing {budget} resolution by 9/30.  With Obama wanting more spending {and the GOP not} and the FY2014 sequestration kicking in, the negotiations prior to the end of the fiscal year are apt to get a bit testy, [b] especially when the debt ceiling is projected to be hit in mid October and Jack Lew stating on TV yesterday that the administration didn’t intend to negotiate on this issue.  Well good luck with that, Jack.  The point here is that the fiscal news is likely to be a negative for stocks.

(3)                             Chuck Hagel made it clear that any US bombing of Syrian assets was not intended to promote ‘regime change’. Well, we are all relieved by that one.  So does that mean that we are just going to bomb some Syrian missile delivery sites and then we will call it even and Obama gets to pretend that He is a hard ass?  [I score that scenario Assad 1, Obama 0, with the additional negative that He once again proves to Iran, North Korea and all those who would do us harm that He is a pussy.]  I hope that the Russians and Iranians will decide to go along with this charade; because if they don’t [and Iran said yesterday that it would bomb Israel if the US bombs Syria], things could get a lot messier.

                              Questions for Obama (short):

Foreign Policy magazine just released an article that stated that the US  knew of and did nothing to stop the Iraqi’s use of nerve gas against Iran.  (must read):
                            More behind the scenes intrigue in Syria (medium):

And the big Kahuna---what this all means for the price of oil      (medium):

Bottom line: I think my conclusion yesterday remains spot on:  ‘stocks are overvalued at least as calculated by our Valuation Model.  Often, such periods of high prices can go on for an extended period of time until some exogenous event occurs that slaps some sense into overly optimistic investors.  The recent realization that the transition from easy to tight money was upon us has the Markets on edge.  All that it would take is for some hedge fund with a big exposure to the ‘carry trade’ to blow up to create that exogenous event (and with the emerging markets cratering, the odds of this occurring have to be going up).  And now we have another potential flash point---the US stepping on its own d**k in Syria.’

I would add that an extended period of political acrimony over spending and taxes could also serve as the trigger/exogenous event.

To further repeat myself, I am not suggesting that any of these will occur.   I am suggesting that risk of any or all of them happening has risen.  Caution.

            One of the best articles penned by Mohamed El Erian in a long time (today’s must read):

Steve Cook received his education in investments from Harvard, where he earned an MBA, New York University, where he did post graduate work in economics and financial analysis and the CFA Institute, where he earned the Chartered Financial Analysts designation in 1973. His 40 years of investment experience includes institutional portfolio management at Scudder, Stevens and Clark and Bear Stearns. Steve's goal at Investing For Survival is to help other investors build wealth and benefit from the investing lessons he learned the hard way.

Tuesday, August 27, 2013

Nike (NKE) 2013 Review

Nike designs, develops and markets an extensive line of footwear, apparel, equipment and accessory products for athletic and leisure activities in over 190 countries.  Over the past ten years the company has generated an 18-20% return on equity, growing earnings and dividends 15-19% annually.  While the 2008/2009 economic downturn was not particularly positive for consumer spending, NKE performed well through the entire recession.  Longer term this premier company should continue to generate above average profit growth as a result of:

(1) its strong portfolio of globally recognized brands provides a competitive advantage,

(2) increased market share as a result of continued product line expansion in emerging markets and non Nike brands [Cole Haan, Converse, Chuck Taylor, Hurley and Umbro],

(3) expanding into emerging markets,

(4) stock buy back program.


(1) its customers are sensitive to economic conditions,

(2) intense competition,

(3) most of its manufacturing is overseas, thereby exposing it to local political/ economic/social as well as currency risks.

NKE is rated A++ by Value Line, has a 10% debt to equity ratio and its stock yields 1.3%.

Statistical Summary

                 Stock      Dividend         Payout      # Increases 
                Yield      Growth Rate     Ratio       Since 2003

NKE           1.3%           14%            30%             10
Ind Ave       1.0              14*             16                NA

              Debt/                       EPS Down        Net        Value Line
              Equity         ROE      Since 2003      Margin       Rating

NKE        10%          24%            0                 10%           A++
Ind Ave    16             16              NA                7              NA

*over one half of the companies in NKE’s industry don’t pay a dividend


            Note: NKE made great progress off its March 2009 low, quickly surpassing the downtrend off its June 2008 (straight red line) and the November 2008 trading high (green line).  Long term, the stock is in an uptrend (blue lines).  Intermediate term, it is in an uptrend (purple lines).  Short term it is in an uptrend (brown line).  The wiggly red line is the 50 day moving average.  The Dividend Growth Portfolio owns a 75% position.  The upper boundary of its Buy Value Range is $36; the lower boundary of its Sell Half Range is $66.



Robert Shiller on his latest home price index reading

Morning Journal--Thoughts from Jackson Hole

News on Stocks in Our Portfolios

Donaldson beats by $0.04, beats on revenues
·                                 Donaldson (DCI): FQ4 EPS of $0.49 beats by $0.04.
·                                 Revenue of $633M (-4% Y/Y) beats by $12.46M. (PR)

Tiffany & Co beats by $0.09, misses on revenues
·                                 Tiffany & Co (TIF): Q2 EPS of $0.83 beats by $0.09.
·                                 Revenue of $926M misses by $15.37M. (PR)

   This Week’s Data

            The August Dallas Fed manufacturing index was reported at 5.0 versus estimates of 4.5.


            Thoughts out of Jackson Hole (a bit long and ‘in the weeds’ but a necessary read):

            The era of easy money is over (medium):

            The recession never ended (medium):

            CO2 emissions per capita at 50 year  low (medium):

The Morning Call--A whole lot of huffing and puffing going on

The Morning Call


The Market

            Yesterday, the indices (DJIA 14946, S&P 1656) sold off in late trading.  The Dow closed in a short term trading range (14190-15550) and below its 50 day moving average; while the S&P finished within its short term uptrend (1632-1757) but once again below its own 50 day moving average.  Both finished within their intermediate term (14657-19657, 1556-2144) and long term uptrends (4918-17000, 715-1800).

            Volume was anemic; breadth was poor.  The VIX rose, remaining with its short term trading range and its intermediate term downtrend.  Somewhat surprisingly, bonds ended up on the day, but closed within its short and intermediate term downtrends.

            GLD rose again.  It finished above its very short term uptrend but remains well within its short and intermediate term downtrends.

            Bottom line: the Averages remain out of sync but both closed below their 50 day moving averages---leaving the technical yellow light flashing.  On the other hand, the S&P has been gyrating above and below its moving average; so I am not getting too beared up.  Indeed, I believe that how the S&P handles its 50 day moving average should give us a hint as to near term Market direction.


            Yesterday’s economic data was nothing to shout about: July durable goods were very disappointing; and while the Dallas Fed’s August manufacturing index headline number was okay, there was some worrisome weakness below the surface.  Overseas Greece reportedly needs another bailout and Italy is in political turmoil.  However, investors appeared to be in the ‘bad (economic) news is good news (re: no ‘tapering’)’ mindset and stocks traded were up for the better part of the day.

Investors aren’t worried about what the Fed is going to do, but what it has already done (medium):
            Is the Treasury sell off overdone (medium):

            Then late in the afternoon, secretary of state Kerry held a new conference pointing the finger of blame at Syria’s Assad regime as the culprit in the gassing of Syrian civilians.  While he sort of whimped around about the consequences, saying the US would ‘confer with allies’ (no mention of congress, which, you know, has the war declaring responsibility) versus ‘Obama said there was a red line, the Assad regime crossed it, get ready to rumble’, it nonetheless created enough anxiety about mounting instability in the Middle East to force a late in the day sell off.

            While our political class is getting all righteously indignant over the gassing incident, I frankly don’t really care.  As I said in last week’s Closing Bell, I think it a shame both sides can’t lose.  Further, while I think it terrible that a couple of hundred civilians were gassed, no one in our government got their panties in wad over the genocide of tens of thousands of civilians in Rwanda, Chad or Somalia

Not only that but the Russians have a small fleet off the coast of Syria and the Iranians have boots on the ground---meaning this dog fight may not be just the US versus Syria.        Not that I have a problem with going toe to toe with the Russians or the Iranians, if (1) there is something in it for the US.  In this case, assuming we destroy the Assad regime and the Russians/Iranians don’t escalate the conflict, what will happen?   According to military sources, there will probably be a civil war among multiple parties none of whom are any better than Assad and indeed, could be worse and (2) I had an ounce of confidence that our leadership had a set of balls and a modicum of experience in foreign affairs---think Egypt, Benghazi, etc.

  As a result, I can’t see a win in any of the alternatives.  If the US does nothing, then all of Kerry’s puffery will simply add to our image of impotency.  On the other hand, if we eliminate Assad, he will likely be replaced by something worse and in the meantime the risk of a confrontation with more powerful foes escalates.  The point here is that none of this will likely be a positive for the Market. 
Bottom line: stocks are overvalued at least as calculated by our Valuation Model.  Often, such periods of high prices can go on for an extended period of time until some exogenous event occurs that slaps some sense into overly optimistic investors.  The recent realization that the transition from easy to tight money was upon us has the Markets on edge.  All that it would take is for some hedge fund with a big exposure to the ‘carry trade’ to blow up to create that exogenous event.  And now we have another potential flash point---the US stepping on its own d**k in Syria.

To be clear, I am not suggesting that either will happen.  I am suggesting that risk of either happening has risen.  Caution.

            The latest from John Hussman (medium):

Steve Cook received his education in investments from Harvard, where he earned an MBA, New York University, where he did post graduate work in economics and financial analysis and the CFA Institute, where he earned the Chartered Financial Analysts designation in 1973. His 40 years of investment experience includes institutional portfolio management at Scudder, Stevens and Clark and Bear Stearns. Steve's goal at Investing For Survival is to help other investors build wealth and benefit from the investing lessons he learned the hard way.

Monday, August 26, 2013

Monday Morning Chartology--8/26/13

The Morning Call


The Market

      Monday Morning Chartology

The S&P remains within all major uptrends.  It fell below its 50 day moving average last Wednesday but recovered on Friday---a positive for stocks.  Unfortunately, the DJIA has not done quite so well---it has fallen into a trading range and remains below its 50 day moving average.

            The GLD chart is improving as a very short term uptrend extends itself.  If it retreats to that uptrend line and holds, the temptation will be to Buy.

            While the long bond rallied on Friday, it is still within both a short and intermediate term downtrend.

            The VIX has been directionless since early 2013.  It remains well within its short term trading range and it intermediate term downtrend.

            Update on ‘the best stock market indicator ever’:

       News on Stocks in Our Portfolios

   This Week’s Data

            July durable goods orders fell 7.3% versus expectations of a decline of 4.0%.




Another jim dandy appointment by Obama (medium):


            China demographic problem (medium and very interesting):

            Greece needs another E10 billion (medium):

                Italy’s problems not over (medium):

Steve Cook received his education in investments from Harvard, where he earned an MBA, New York University, where he did post graduate work in economics and financial analysis and the CFA Institute, where he earned the Chartered Financial Analysts designation in 1973. His 40 years of investment experience includes institutional portfolio management at Scudder, Stevens and Clark and Bear Stearns. Steve's goal at Investing For Survival is to help other investors build wealth and benefit from the investing lessons he learned the hard way.

Saturday, August 24, 2013

The Closing Bell--8/24/13

The Closing Bell


Statistical Summary

   Current Economic Forecast


Real Growth in Gross Domestic Product:                           2.2%
                        Inflation (revised):                                                              1.8 %
Growth in Corporate Profits:                                           16.1%


                        Real Growth in Gross Domestic Product                       +1.0-+2.0
                        Inflation (revised)                                                             1.5-2.5
                        Corporate Profits                                                              0-7%

   Current Market Forecast
            Dow Jones Industrial Average

                                    Current Trend (revised):  
                                    Short Term Trading Range                      14190-15550
Intermediate Uptrend                              14643-19643
Long Term Trading Range                       4918-17000
                        2012    Year End Fair Value                                     11290-11310

                  2013    Year End Fair Value                                     11590-11610                                          

            Standard & Poor’s 500

                                    Current Trend (revised):
                                    Short Term Uptrend                                      1628-1783
                                    Intermediate Term Uptrend                       1554-2142 
                                    Long Term Trading Range                         715-1800
                        2012    Year End Fair Value                                      1390-1410

                        2013   Year End Fair Value                                       1430-1450         

Percentage Cash in Our Portfolios

Dividend Growth Portfolio                              43%
            High Yield Portfolio                                        46%
            Aggressive Growth Portfolio                           43%

The economy is a modest positive for Your Money.   It was a very slow week for economic data; and what we got was modestly upbeat: positives---weekly purchase applications, July existing home sales, the Markit flash PMI, July leading economic indicators and the Kansas City Fed’s August manufacturing index; negatives---weekly mortgage applications, July new home sales, weekly jobless claims; neutral---weekly retail sales, the Chicago Fed’s July national activity index.

The big news, of course, was the release of the minutes from the latest FOMC meeting.  They showed a Fed that was slightly more pessimistic on the economy and a bit more ambivalent on ‘tapering’. 

I am not particularly concerned about this less optimistic view of the economy.  The fact is that the general flow stats from the US economy continues to track our forecast.  Plus there has been a steady stream of upbeat numbers out of Europe---which one would think would be helpful to the US economy’s advance.

The issue of ‘tapering’ remains fraught with confusion; probably because the Fed seems just as confused as everyone else about what to do, when to do it and what the impact of ‘tapering’ will be.  As I noted in Thursday ‘s Morning Call, because QEInfinity has had so little positive influence on the economy, I am not at all convinced that ending it will have any negative effect. (more on that later).  However, given the probable proximity of the transition from easy to tight money, until we know for sure the impact ‘tapering’ will have on the economy, I am leaving the yellow light flashing.  Our forecast remains:

a below average secular rate of recovery resulting from too much government spending, too much government debt to service, too much government regulation, a financial system with an impaired balance sheet. and a business community unwilling to hire and invest because the aforementioned along with...... the historic inability of the Fed to properly time the reversal of a vastly over expansive  monetary policy.
            The pluses:

(1)   our improving energy picture.  The US is awash in cheap, clean burning natural gas.... In addition to making home heating more affordable, low cost, abundant energy serves to draw those manufacturers back to the US who are facing rising foreign labor costs and relying on energy resources that carry negative political risks. 
       The negatives:

(1) a vulnerable global banking system.  This week the news included the relentless pursuit of JP Morgan’s misdeeds by multiple Federal regulatory agencies, Moody’s putting Goldman, JPM, Morgan Stanley and Wells Fargo on review for downgrade and the increase in bad loans in Spanish banks.

‘My concern here.....that: [a] investors ultimately lose confidence in our financial institutions and refuse to invest in America and [b] the recent scandals are simply signs that our banks are not as sound and well managed as we have been led to believe and, hence, are highly vulnerable to future shocks, particularly a collapse of the EU financial system.’

(2)   fiscal policy.  Obamacare held much of the spotlight this week as company after company along with nonprofit and even governmental agencies alter [read ‘lower’] their healthcare benefits because of the negative [read ‘costly] impact of this misbegotten piece of social engineering.  We knew early on that no one had a clue about what this piece of crap was going to cost Americans.  Now that employers are pushing the numbers, we know that it is expensive and unworkable.  But we don’t know how much of an additional burden it will ultimately prove to be on overall economic activity.

Meanwhile, the debates over the budget [the fiscal year ends 9/30] and the debt ceiling loom in September.  I have no clue how those issues will be resolved; although on Friday Boehner assured the electorate that there would be no government shutdown.  Which begs the question; does that also mean that he assured the electorate that there would be higher spending?  Whatever happens, September will likely be a fun filled month of political acrimony.

        I include in each Closing Bell a lament regarding the potential impact that higher interest rates will have on have on the budget deficit.  Now those risks are upon us:  As I have noted previously, the US government’s debt has grown to such a size that its interest cost is now a major budget line item---and that is with rates at/near historic lows.  Moreover, government debt continues to increase and the lion’s share of this new debt is being bought by the Fed. 

So the risk here is two fold: [a] to the Fed---its balance sheet is levered to the point that Lehman Bros. looks like it was an AAA credit.  So if interest rates go up {and prices go down}, the very thin equity piece of the balance sheet would disappear.  The Fed would then be technically bankrupt. and [b] to the Treasury---it must pay the interest charges.  Hence, if rates go up, the interest costs to the government go up; and if they go up a lot, then this budget line item will explode and make all the more difficult any vow to reduce government spending as a percent of GDP.....
(3)   the potential negative impact of central bank money printing:  The key point here is that [a] the Fed has inflated bank reserves far beyond any comparable level in history and [b] while this hasn’t been an economic problem to date, {i} it still has to withdraw all those reserves from the system without creating any disruptions---a task that I regularly point out it has proven inept at in the past and {ii} it has created or is creating asset bubbles in the stock market as well as in the auto, student and mortgage loan markets. 

The debates continued this week about whether or not the Fed really intends to ‘taper’ and if so when; though I think that consensus is moving in the direction ‘yes’ and sooner rather than later---helped along, as it often is, by the price action in the fixed income market.  I have pursued this subject ad nauseum this week so I don’t want to be repetitious; but let me summarize:

[a] the transition from easy to tight money has to start some time and it appears to be drawing nigh,

[b] the Fed has a dismal record of success in prior transitions,

[c] unfortunately, this time around the Fed must start the transition from and unprecedented absurd level of monetary ease,

[d] the good news is that QEInfinity did little to improve the economy, so it is reasonable to assume that it will do little to hurt when the economy as it comes to an end.  The problem with ‘tapering’ is not if, when and by how much it will occur.  The problem is the uncertainty created by the Fed’s seeming confusion about it makes businesses and consumers less inclined to invest and spend.  If the Fed will just tell us already what it intends to do, we all can make our plans accordingly.

[e] the bad news is that QEInfinity has created bubbles in multiple asset classes largely through the so called ‘carry trade’ in which the trading desks of banks and hedge funds borrow cheap money provided by the Fed and speculate in other potentially higher return securities,

[f] bond investors appear to have had enough and are starting to drive rates up all along the yield curve, save for the very short term rates which the Fed controls,

[g] this has tightened sphincter muscles of all investors.  Whether this is the start of a great ‘unwind’ in all those asset bubble trades remains to be seen; but the risk certainly seems to be growing.

[h] the Fed can always come out tomorrow and promise QE to Infinity.  But until is does and investors believe it, this situation remains dicey at best and could really get ugly at worse.  

      QE is betrayal (medium):

Here is an interesting take: bonds rates are up because the bond guys believe that the Fed won’t ‘taper’; of course in the end, it doesn’t matter, higher rates are still crushing the ‘carry trade’:

(4)   a blow up in the Middle East.  The turmoil heightened this week in [a] Egypt where both the new military government and supporters of the Muslim Brotherhood escalated the killing and [b] Syria where supporters of the opposition were gassed---by whom is uncertain.

     How about that Arab Spring, sports fans? 

As usual, the US is on the wrong side of these conflicts to the extent that we are even involved---which in no way means that the rest of world, especially the major oil suppliers in that region, aren’t choosing up sides and placing their bets.

My sympathies here are with Henry Kissinger: it is a shame that they both can’t lose.  That said, there is a lot at stake in both countries in terms of oil transportation [Egypt---the Suez Canal; Syria---a natural gas pipeline supplying Europe].  Leaving aside our inept foreign policy, the world is still dependent on Middle East oil and an increasing number of players are becoming more deeply involved every day---which means probability of a misstep by any one party grows and with it the potential for disruptions in the supply or transportation of oil.

(5)   finally, the sovereign and bank debt crisis in Europe.  We have seen enough upbeat economic news out of the EU over the past month to assume that the odds have increased that Europe is finally lifting out of recession.  That is clearly good news for the US economy in the sense that a rise in EU demand  should help overall US economic growth as well as the earnings from companies with a large European exposure. 

In addition on the margin, this improvement will undoubtedly lessen the risk of a sovereign or bank default.  Rising economic activity should produce higher tax revenues for the governments and profits for the banks, thereby lowering the chances of a default.  However, offsetting that is the increase in interest rates which will require more funds to service the sovereign debt.  Furthermore, remember that the European banks are massively overleveraged---a condition that won’t be remedied easily.

In short, the EU’s economic improvement is a positive and lessens the probability of a sovereign or bank debt crisis.  So,  It would [a] increase the probability that our ‘muddle through’ scenario will work out and [b] it would lessen my concerns about a sovereign/bank default.  In other words, it would do nothing to alter our forecast; although it would temper the tail risk of this factor.’

Bottom line:  the US economic data remains encouraging.  Fiscal policy which has been mildly positive of late (sequestration and the tax hike) is about to move into the limelight as negotiations on the budget and the debt ceiling commence in September, a second round of sequestration kicks in with all the likely attendant doomsday forecasts and the wrangling over Obamacare exposes more costly flaws.  In short, the economy will likely get no help from fiscal policy.

Monetary policy is everyone’s focus at the moment primarily due to concerns about the potential impact of rising interests rates on economic activity.  While I have some sympathy with that notion, as I have said previously, easy money did very little for the economy even the interest sensitive sectors (housing); so I am more inclined to think that its absence will likely do little harm.  The more important aspect for the economy is the uncertainty about if, when and how much ‘tapering’ will occur.  It is that uncertainty that tends to keep businesses and consumers from investing and spending.

Europe seems to be coming out of its recession.  That is a positive in the sense that it increases the probability of our ‘muddling through’ scenario.  However, it remains a long road to unwind the enormous leverage of both sovereigns and banks.

This week’s data:

(1)                                  housing: weekly mortgage applications fell [again], though purchase applications were slightly up; July existing home sales were much better than anticipated while new home sales were very disappointing,

(2)                                  consumer: weekly retail sales were mixed; weekly jobless claims rose more than forecast,

(3)                                  industry: the Chicago Fed’s July national activity index  was weak but not as much as expected; the August Kansas City Fed’s manufacturing index was ahead of forecasts; the August Markit flash PMI was slightly better than estimates,

(4)                                  macroeconomic: July leading economic indicators were up, in line; the minutes from the latest FOMC meeting revealed a Fed that [a] was a bit more pessimistic about the economy and inflation, [b] split over ‘tapering’, [c] but comfortable with the ‘data dependent’ conditionality of ‘tapering’.

The Market-Disciplined Investing

The Averages (DJIA 15010, S&P 1663) experienced some sharp moves in both directions this week but ended on a positive note---helped enormously by spike up in Microsoft after Ballmer announced his retirement and the bad news is good news take on plunging new home sales.  The Dow ended in a short term trading range (14190-15550), while the S&P remained within its short term uptrend (1628-1783).

Both of the Averages are well within their intermediate term (14643-19643, 1554-2142) and long term uptrends (4918-17000, 715-1800).

This leaves the indices out of sync (S&P up, Dow flat); plus the DJIA is below its 50 day moving average while the S&P managed to close above its 50 day moving average on Friday.  In sum, this means that the Market direction is indecisive.

Volume on Friday declined; breadth was mixed.  The VIX closed down 5%.  But for all intents and purposes, this indicator has been flat since the first of the year (short term trading range).  Nevertheless, it is also firmly within its intermediate term downtrend.

GLD was strong this week and continues to build on a very short term uptrend.  However, it is still within its short term and intermediate term downtrend.
Bottom line: with the Averages out of sync and divergences occurring in several other technical indicators, this is the time to do nothing unless you are a very good trader.

            Margin debt at risky levels:

   Fundamental-A Dividend Growth Investment Strategy

The DJIA (15010) finished this week about 30.5% above Fair Value (11500) while the S&P (1663) closed 16.6% overvalued (1426).  Incorporated in that ‘Fair Value’ judgment is some sort of half assed attempt at getting fiscal policy under control, a botched Fed transition from easy to tight money, a historically low long term secular growth rate of the economy and a ‘muddle through’ scenario in Europe.

The economy continues to grow sluggishly, in line with our forecast.  It is amazing how well it has hung in there considering the entire global political class seems intent on doing everything in its power to screw things up.  It speaks well of our business class and the tenacity of most Americans.

Speaking of political classes, ours is apparently having way too much fun engaging in ideological warfare to bother with such mundane, plebian matters as managing the ship of state.  The good news is that their forces are so evenly matched that the danger of them imposing even more burdens on the electorate than they already have is close to nil.  The bad news is that they have already done enough damage to keep the rest of us busy for a long time to come just trying to cope with it. 

So while fiscal policy may be improving by default (sequestration and the tax hike), the upcoming negotiations on the budget and debt ceiling will likely not make for upbeat headlines.  With the entire Washington community now looking to 2016 and with little indication that they will do anything for the greater good, I am not convinced that much will get done other than keeping the fiscal affairs on life support long enough to get to the 2016 elections.  That is not a necessarily bad thing for the economy if spending can be held in check; but it could cause heartburn for the Market.  Meanwhile, the costs of Obamacare keep rising and that is not good for anyone.

Monetary policy has reached the status of an Abbott and Costello routine.  No seems to know if ‘tapering’ is going to occur, when it is going to occur and how large it will be---including apparently most members of the FOMC.  Small wonder that many investors are confused. 

As I have made clear, in this transition, I think that the risks for the Markets are greater than those for the economy.  They are the only entities that have truly benefited from QEInfinity; hence, it would seem that they are ones apt to take it in the snoot when this extraordinary policy is unwound.  I end this part of the discussion as I always do: I cannot tell you how this story is going to end; but I don’t believe that it will end well. 

Finally, the economic news out of Europe has improved consistently enough over the last month that our ‘muddle through’ scenario may actually have a chance of being correct.  To be sure, major risks still exist in the form of overly indebted sovereigns and over leveraged banks; but economic growth can cure a lot of ills.  In the end, this still represents a significant risk, just not as significant as it was several months ago.

          Bottom line: our Valuation Model hasn’t changed sufficiently to alter the Fair Values of the stocks in our Portfolios---which as you know are considerably below current price levels.  Hence, there are very few bargains and a goodly number of stocks that are overvalued. 

          That suggests a continuation of our strategy of lightening up on any of our stocks that trade into their Sell Half Ranges and deferring purchases of even those stocks on our Buy Lists until the current excesses in the Markets are being wrung out.
        This week, our Portfolios did nothing.

DJIA                                                    S&P

Current 2013 Year End Fair Value*                11600                                                 1440
Fair Value as of 8/31/13                                   11500                                                  1426
Close this week                                                15010                                                  1663

Over Valuation vs. 8/31 Close
              5% overvalued                                 12075                                                    1497
            10% overvalued                                 12650                                                   1568 
            15% overvalued                             13225                                                      1639
            20% overvalued                                 13800                                                    1711   
            25% overvalued                                   14375                                                  1782   
            30% overvalued                                   14950                                                  1853
            35% overvalued                                   15525                                                  1925
            40% overvalued                                   16100                                                  1996
Under Valuation vs.8/31 Close
            5% undervalued                             10925                                                      1354
10%undervalued                               10350                                                  1283   
15% undervalued                             9775                                                    1212

* Just a reminder that the Year End Fair Value number is based on the long term secular growth of the earning power of productive capacity of the US economy not the near term   cyclical influences.  The model is now accounting for somewhat below average secular growth for the next 3 to 5 years with somewhat higher inflation. 

The Portfolios and Buy Lists are up to date.

Steve Cook received his education in investments from Harvard, where he earned an MBA, New York University, where he did post graduate work in economics and financial analysis and the CFA Institute, where he earned the Chartered Financial Analysts designation in 1973.  His 40 years of investment experience includes institutional portfolio management at Scudder. Stevens and Clark and Bear Stearns,  managing a risk arbitrage hedge fund and an investment banking boutique specializing in funding second stage private companies.  Through his involvement with Strategic Stock Investments, Steve hopes that his experience can help other investors build their wealth while avoiding tough lessons that he learned the hard way.