The Closing Bell
2/7/15
Statistical Summary
Current Economic Forecast
2013
Real
Growth in Gross Domestic Product:
+1.0-+2.0
Inflation
(revised): 1.5-2.5
Growth
in Corporate Profits: 0-7%
2014
estimates
Real
Growth in Gross Domestic Product +1.5-+2.5
Inflation
(revised) 1.5-2.5
Corporate
Profits 5-10%
2015
estimates
Real
Growth in Gross Domestic Product +2.0-+3.0
Inflation
(revised) 1.5-2.5
Corporate
Profits 5-10%
Current Market Forecast
Dow
Jones Industrial Average
Current Trend (revised):
Short
Term Uptrend 16548-19324
Intermediate Term Uptrend 16589-21744
Long Term Uptrend 5369-18960
2014 Year End Fair Value
11800-12000
2015 Year End Fair Value
12200-12400
Standard
& Poor’s 500
Current
Trend (revised):
Short Term Uptrend 1922-2903
Intermediate
Term Uptrend 1750-2464
Long Term Uptrend 783-2083
2014 Year End Fair Value
1470-1490
2015 Year End Fair Value
1515-1535
Percentage Cash in Our Portfolios
Dividend Growth
Portfolio 49%
High
Yield Portfolio 54%
Aggressive
Growth Portfolio 53%
Economics/Politics
The
economy is a modest positive for Your Money. The US
economic data this week was weighted to the negative: positives---weekly
mortgage applications, weekly jobless claims, January nonfarm payrolls, December
consumer credit, January retail chain store sales and weekly retail sales; negatives---weekly
purchase applications, December personal spending, the December PCE deflator,
January light vehicle sales, January ADP private payrolls report, December
construction spending and December factory orders, the December trade deficit
and fourth quarter productivity and unit labor costs; neutral---December
personal income, January Markit manufacturing index and the January ISM
manufacturing index.
The key numbers
were (1) personal income and spending, construction spending and factory orders
which were quite negative and (2) January nonfarm payrolls---a plus. This is the second week in a row for poor
showings among primary indicators. While
not yet a trend, it is enough to get my attention. On the other hand, the disappointing earnings/guidance
announcements continued to diminish.
Overall, I would much prefer to have lousy microeconomic indicators
(earnings reports) coupled with encouraging macroeconomic numbers than the
other way around. Unfortunately, we got
the latter this week. And this keeps
that yellow light flashing.
Goldman on the
jobs report (short):
Oil prices
joined stocks on the Texas Shock Wave.
Its ups and downs had investors bobbin’ and weavin’ all week. The clear question is, was the rally part of
the ups and downs a false flag or has oil made a bottom? I don’t know the answer to that; but if it
has made a bottom, then all those optimistic gurus declaring low prices an
‘unmitigated positive’ now have to figure out how to address higher oil
prices. That is in addition to
explaining why stocks nosedive when oil prices fall.
Greece remained
in the headlines, though by Friday the news flow was so confusing, no one has a
clue how this situation will get resolved including the Greeks and masters of
the universe in the ECB. Which leaves
the risk of a Greek default as a potential further depressant on EU economic
growth.
The question in
all of this is, is the current poor string of key US economic indicators an
initial signal that global woes are starting to have an impact? My answer is ‘not yet’ but I am at defcom 3. Hence for the moment, our outlook remains the
same but with a bit less conviction (flashing yellow light) and the primary
risk (the spillover of a global economic slowdown) remains just so.
Our forecast:
‘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, the weakening in the global economic outlook, 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. Oil rocketed higher this week. Still through
all its gyrations, we have little indication that it is impacting our economy
save specific problems one would expect to occur in the oil and oil service
industries. Confusing the issue is fact
that the gurus keep telling us lower oil prices are a plus for the economy, yet
there is also no sign of that. On the
contrary, the one signal we do have is the Market keeps goes down when oil
prices decline.
As you know, my
main concern is magnitude of the subprime debt from the oil industry on bank
balance sheets and the likelihood of a default.
Here too there is nothing substantial; just speculation about the
potential danger. That said until we can
definitely say that lower oil prices are bad for the economy overall, I am
leaving this factor as a positive.
The
negatives:
(1) a
vulnerable global banking system. This
week [a] S&P lowered the credit rating of a number of EU banks; no doubt
reflecting their overleveraged balance sheets, [b] oil prices rebounded which
should reduce at least some of debt service problems about which I have been
worried and [c] perhaps most important, the battle over Greek finances heated
up a bit this week, though I have no clue how this situation resolves
itself. While much of Greek debt is now
held by the central banks which clearly lessens the risk of contagion, we still
don’t know what the ultimate impact of a Greek default on banking system. I suspect that it is not zero.
Plus the latest
stats show total global indebtedness higher than 2007 (medium):
‘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. Obama killed a forest this week
when He produced His seven thousand page budget which has absolutely no chance
of being enacted. The pols are just
getting warmed for what will likely be a Mexican standoff in which the only
casualties will be the US economy/taxpayers.
According to
Keynes, the US should be running a budget surplus (short):
(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.
Australia and
China hopped on the easy money/beggar thy neighbor bandwagon this week; and
Denmark quadrupled down with its fourth interest rate cut in a month. This simply makes the outcome [potentially
disruptive competitive devaluations] of an untried but massively executed
monetary policy all the worse. Except
for QEI, this whole exercise has had zero effect. Indeed,
we are now getting another example of its ineffectiveness as interest rates in
Japan are rising despite its triple all-in, balls to the wall, give me liberty
or give me death approach to QEInfinity.
Given the magnitude of Japanese government debt, if this trend
continues, Abe, the government and the Japanese electorate are totally f**ked
because there is no way to service that debt except to print more money into
obscurity.
From Paul
Singer: the consequences of money manipulation are unknowable medium and a must
read): new
` China warns of QE crisis
(short):
NY Fed warns of negative
interest rates (medium):
(4) geopolitical
risks. The Ukrainian economy is holding
on by its fingernails---it now looks like it can’t service its debt; plus it
looks like the US now has boots on the ground there. And as reported yesterday, Russia put its
nuclear ICBM’s on combat patrol, coincidently on the same day of a Kerry visit
to Ukraine.
The political
situation in the Middle East is changing by the minute---Jordan is now being
pulled into the vortex and the UAE and Turkey are threatening to go to the
sidelines if the US doesn’t step up its actions against the Assad regime. Meanwhile, Obama continues His peace
initiative towards Iran---the policy rationale for which is totally lost on
me. I have no idea how these conflicts
resolve themselves; but I do know that they both contain potentially explosive
elements that could suddenly have negative global geopolitical implications.
(5) economic difficulties, overly indebted
sovereigns and overleveraged banks in Europe and around the globe. This week,
the trend is horrible economic news turned a bit positive: negatives: S&P and
Moody’s lowered Greece’s credit ratings; Chinese manufacturing and service
PMI’s, lower forecast growth and inflation in Australia; positives: the EU
manufacturing PMI and German: Italian and Spanish services PMI’s; German
industrial orders; and the EU raising its growth forecast for 2015---the latter
of which, in all fairness, is simply the latest example of their long term
propensity for wishful thinking. The
question clearly is, are the upbeat stats a sign of improvement or just a pause
in the storm. I await more data.
Moreover, the
economic difficulties of Greece appear no closer to being resolved. Indeed, the situation is a bit more confusing
after two days of happy talk between the new Greek PM and other EU officials
was followed by a ‘no can do’ statement from the Germans and an ECB
announcement hamstringing the Greek banks from getting additional funding [to
stay solvent]. Again, the possible end
game is this dilemma ranges from complete cooperation to a Greek exit from the
EU, meaning that ultimately the risk of some political/economic mishap only
adds to the risk that the global economy could slow further or slip into
recession---which I believe makes this factor the biggest threat to our own
economic health.
Yesterday’s
late in the day turd bomb from the ECB (short):
The global debt
bubble in three easy charts (short):
Bottom line: the US economic news this week was lousy and
follows a not so hot set of numbers last week.
Still it is far too early to be changing our forecast. On the plus side,
the trend in corporate earnings/guidance improved further this week. But is
this potentially negative microeconomic signpost being replaced by a more
significant deterioration in the macroeconomic numbers? I don’t know; but the yellow light is
flashing.
Easy money
received three more endorsements this week (Australia, Denmark and China). Unfortunately, its bright and shining promise
also got a dose of disappointment as the leading proponent (Japan) of QE began
getting smacked with higher interest rates.
That, of course, is not supposed to happen because aside from being
another stake in the heart of QE, it plays merry hell with the ability to
service all that QE debt. It may also be
an indication that the more QE quest goes on, the more likely it is for
disruptions in global trade and/or the financial system.
Devaluation is
the next great risk from China (medium and a must read):
Along with the
unwinding of the ‘carry trade’ (medium):
The negotiations
between the Greeks and the EU/ECB went round and round this week but no one has
a clue as to where they will go. I do
know that the outcome represents a potential threat to our ‘muddle through’
scenario. On the other hand, we received
some decent economic datapoints from Europe this week; although it is clearly
too soon to get jiggy with it. Hence,
the biggest risk to our economic forecast remains a slowing in the global
economy.
This week’s
data:
(1)
housing: weekly mortgage rose but the more important purchase
applications were down,
(2)
consumer: December
personal income rose, in line, personal spending fell more than expected and
the PCE deflator was slightly higher than estimates; weekly retail sales were
up, January retail chain store sales were up, January light vehicle sales were
below the December number; December consumer credit rose less than forecast; January
nonfarm payrolls were very good, though the unemployment rose [probably a
result of a rise in the labor participation rate---which is good], the January
ADP private payroll reported showed less job growth than anticipated; weekly
jobless claims rose less than consensus,
(3)
industry: December construction spending rose less than
expected; the January Markit PMI manufacturing index and the January ISM
manufacturing index came in a touch below forecast, December factory orders
were disappointing,
(4)
macroeconomic: fourth quarter productivity fell while
unit labor costs rose; the US December trade deficit was much larger than
anticipated.
The Market-Disciplined Investing
Technical
The
indices (DJIA 17824, S&P 2055) had another highly volatile week; this one
to the upside. Hence, they remained
well within their uptrends across all timeframes: short term (16548-19324, 1922-2902),
intermediate term (16571-21726, 1750-2464) and long term (5369-18860, 783-2083). Both traded back above their 50 day moving
averages and confirmed the negation of the downtrend off their mid-December
highs (although the NASDAQ failed to break that downtrend line). This latest pin action seems to have reflect
the re-establishment of a balance of strength between buyers and sellers,
making the trading ranges established in mid-December (17288-17998, 1970-2080)
the key battle ground.
Volume was up on
Friday---continuing the pattern of being up on down days and down on up days; breadth
deteriorated. The VIX was up slightly, closing right on its 50 day moving
average and within its short term trading range and intermediate term downtrend. Not a lot of Market direction information in
this chart.
The latest from
TraderFeed (short and a must read):
The long
Treasury got whacked this week. I noted
previously that the recent moonshot was likely to be reversed; and that now
appears to be occurring. While TLT
demolished the lower boundary of a very short term uptrend, [a] those
boundaries are invariably demolished and [b] it remains within uptrends across
all trading ranges and above its 50 day moving average. Nevertheless, we still need to see signs of
price stability as it approaches the lower boundary of its short term uptrend
and its 50 day moving average or I am going to begin to get nervous about our
ETF’s Portfolio bond position.
GLD was treated
even worse, blowing through our initial Stop Loss level like a hot knife
through butter. While it remains within
its short term uptrend and intermediate term trading range and above its 50 day
moving average, our Portfolio’s still Sold a portion of their holding when the
Stop Loss price was breached.
Bottom line: the
pin action this week removed the Market’s technical tilt from down to
neutral. Nevertheless, the volatility of
equites is nerve wracking. If that
wasn’t enough, the yo yoing in oil, bonds and gold prices add to the overall
technical complexity. So until there is
some directional clarity and fewer divergences, I think that the sidelines are
the safest bet. Meanwhile, I am watching
the boundaries of the trading ranges set in mid-December.
Fundamental-A Dividend Growth
Investment Strategy
The DJIA (17824)
finished this week about 48.9% above Fair Value (11966) while the S&P (2055)
closed 38.1% overvalued (1487). 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, Japan and China.
This week’s
data/events improved ever so slightly the overall investment picture. The reasons are:
(1) the
initial week and a half of lousy earnings/guidance reports among major
companies in key industries has lost all of its momentum. I am assuming that means that while the
season’s profits may fall short of expectations, they won’t be a disaster. Indeed with approximately 75% of the S&P
reporting, earnings are off about 5% versus fourth quarter 2013.
(2) a
modestly better flow of economic data from Europe. Granted [a] this is only one week’s worth of
stats, [b] on a worst case scenario, the current faceoff between the EU and Greece
could turn the entire EU economy on its head and [c] the numbers from the rest
of the world remain as miserable as ever. To be clear, I am not getting jiggy
with a couple of positive EU datapoints; but an upbeat report is an upbeat
report and shouldn’t be dismissed out of hand.
That said, there
was no shortage of disappointing news this week---hence, the ‘ever so slightly’
verbiage above. First, the overall US
economic dataflow was decidedly negative as were the primary indicators. And this follows a week in which the stats
were also negative---though not to the same degree. While two weeks in a row of poor data is not
encouraging, we have seen this play before: the economy appears to be weakening
only to subsequently snap back. Hence, I
think it too soon to tinker with the economic assumptions in our Models.
QE received yet another
boost this week. This time from Australia,
China and Denmark (for the fourth time in a month). The big player here is, of course, China and
as the above suggested, if these guys ever get rolling down the
devaluation/deflation highway that will be tough to stop.
Finally, the
Middle East and Ukrainian conflicts aren’t getting any better. Indeed, the Middle East is nothing more than
a giant clusterf**k and US policy is only making it worse. While a significant escalation in violence in
either sphere is likely a low probability, were it to happen, the impact on
global markets would probably be meaningful.
Bottom line: the
assumptions in our Economic Model haven’t changed though the yellow light is
flashing as a result of some disappointing stats and terrible earnings/guidance
reports. This week we received (1) more poor
economic data---but this is a pattern that has occurred and then righted itself;
so I am not overly worried at this time and (2) a trend in earnings/guidance
closer to what was originally expected.
Still this season will likely overall end as a modest disappointment. However, I am not changing our corporate
profit projections in our Valuation Model until first quarter 2015 earnings are
in.
Our global ‘muddle through’ scenario which
still represents the biggest risk to our outlook, also got a touch of good news
this week with better economic data out of EU.
Of course, it is too soon to know if this was just noise or represents an
upturn in the European slowdown. That
said, the rest of the world showed little improvement, we are still faced with
the potential of a highly negative outcome in the Greek debt dilemma and the
possibility of a hair raising event in Ukraine or the Middle East.
Finally, the global
central banks appear hell bent on pursuing a ‘beggar thy neighbor’ policy to
its logical conclusion which if history is any guide well be a disaster.
The assumptions
in our Valuation Model have not changed either. Remember, even if our corporate earnings
forecast is lowered, it won’t impact our Model which uses a figure tied to
productive capacity and normalized margins.
Indeed, the number currently plugged into the Model is higher than
represented in our outlook. The one
number that has the best chance of being altered is that of inflation/deflation
depending on how world trade is impacted by the hotly pursued ‘beggar thy
neighbor’ policies.
That said, I
remain confident that the Fair Values calculated are so far below current valuation
that it would take the second coming of Jesus for stocks to have even a remote
chance of not reverting to Fair Value. As
a result, our Portfolios maintain their above average cash position. Any move to higher levels would encourage
more trimming of their equity positions.
I
can’t emphasize strongly enough that I believe that the key investment strategy
today is to take advantage of the current high prices to sell any stock that
has been a disappointment or no longer fits your investment criteria and to
trim the holding of any stock that has doubled or more in price.
Bear
in mind, this is not a recommendation to run for the hills. Our Portfolios are still 55-60% invested and
their cash position is a function of individual stocks either hitting their
Sell Half Prices or their underlying company failing to meet the requisite
minimum financial criteria needed for inclusion in our Universe.
Why current
P/E’s are unsustainable (medium):
DJIA S&P
Current 2015 Year End Fair Value*
12300 1525
Fair Value as of 2/28/15 11966 1487
Close this week 17824
2053
Over Valuation vs. 2/28 Close
5% overvalued 12564 1561
10%
overvalued 13162 1635
15%
overvalued 13760 1710
20%
overvalued 14359 1784
25%
overvalued 14957 1858
30%
overvalued 15555 1933
35%
overvalued 16154 2007
40%
overvalued 16752 2081
45%overvalued 17350 2156
50%overvalued 17949 2230
Under Valuation vs. 2/28 Close
5%
undervalued 11367 1412
10%undervalued 10769
1338
15%undervalued 10171 1263
* 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.
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