The Closing Bell
Statistical Summary
Current Economic Forecast
2012
Real
Growth in Gross Domestic Product:
2.2%
Inflation
(revised): 1.8 %
Growth
in Corporate Profits: 16.1%
2013
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 14741-19741
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 (?) 1646-1801
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%
Economics/Politics
The
economy is a modest positive for Your Money. It was
a pretty upbeat week for economic data: positives---weekly mortgage
applications, August light vehicle sales, weekly jobless claims, July
construction spending, the August ISM manufacturing and nonmanufacturing
indices, second quarter productivity and unit labor costs; negatives---weekly purchase
applications; August nonfarm payrolls and August Markit PMI ;
neutral---weekly retail sales, the August ADP
private payroll report, July factory orders, the July trade deficit and the
latest Fed Beige Book report.
Of course, these
stats were overwhelmed by political turmoil Obama unleashed first with His move
to bomb Syria then
quickly followed by much back pedaling.
In all, I see the prospect of involvement in the Syrian civil war of
little benefit to the strategic interests of the US
and Obama’s flip flopping as confusing. Regrettably,
we are stuck for a couple more weeks with the Market/emotional volatility
caused by concerns over the potential for war in the Middle East . But in the end, I believe that He has (1)
realized how far out on a limb His early blustering about the use of gas by the
Syrians has put Him and (2) created an out for Himself and congress with His
‘not my red line’ comments.
The bad news is
that the electorate and ruling class alike have at least temporarily forgotten
about the multitude of economic issues that must be faced short term: the
transition from easy to tight money, the budget resolution, the debt ceiling,
the kick in of 2014 sequestration and the mounting problems with implementing
Obamacare. The good news is that those
issues have largely been accounted for in our current forecast; so barring some really stupid move by our
elected officials with regard to Syria ,
our outlook remains the same:
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.
Update
on big four economic indicators (medium):
The
pluses:
(1)
our improving energy picture. The US
The
negatives:
(1) a
vulnerable global banking system. There
was actually some positive news this week and on JP Morgan of all banks. It has decided to exit one of the new growing
bubble sectors---student loans. That
said the following article does a great job expressing my concerns.
Too much leverage
in the banks (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. All
things non-Syria were out of the spotlight this week. However, none of the problematic economic
issues the US
faces have gone away. They include the
continuing budget resolution [9/30], the US
government hitting its debt ceiling [circa 10/15], the kick in of 2014
sequestration [9/30] and the implementation of a number of provisions of Obamacare
[1/1/14 ].
In the best of
times, these issues could lead to the threat of economic disruptions. But of late, the political rancor has entered
the red zone. Certainly, that doesn’t
mean that this time around, our political class won’t compromise and avoid
unnecessary pain. But recent history
says that we should leave open the possibility of economic trouble. Almost surely, Obamacare, which has already
led to multiple postponements, exemptions from coverage, etc, due to its
complexity, opacity and down right unworkability, will likely spawn its fair
share of partisan animosity as the deadline for implementation draws nigh.
In the end, I
see little hope for anything other than business as usual, meaning more
unnecessary spending, a burdensome and
ineffective tax code and too much government intrusion into our lives
and businesses.
I
include in each Closing Bell a lament regarding the potential impact that
higher interest rates [the ten year Treasury pushed through 3% Thursday
evening] will have on have on the budget deficit. Now those risks are upon us: As I
have noted previously, the US
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 absence of
the ‘tapering’ debate notwithstanding, the September Fed meeting approaches and
the question is, will the Fed start the process. In my opinion, the current weakness in the
bond market suggests that it will begin and that bond investors don’t like it. Admittedly many investors believe the recent
jump in rates is more likely due to a stronger economy---and they may be
right. I am not going to argue the issue
because it simply boils down to a matter of opinion; and mine is and always has
been that we are nearing the point of a monetary policy transition from easy to
tight money, the Fed has always botched these transitions, this time it will be
worse because of the absurd level from which it starts and the bond investors
know all of this, so they are selling.
And:
(4)
a blow up in the Middle East . This situation has devolved from a side show
to a clusterf**k. Obama put His d**k in
a wringer when He sternly drew His ‘red line’ on the use of gas by the Syrian
government. When gas was employed, His reputation was then on the line to put up
or shut up. That left Him with the
Hobson’s choice of [a] initiating military action in Syria {i} when the vast
majority of Americans oppose it, {ii} the US has no strategic interest in Syria
and {iii} unfortunately Russia and Iran do, dramatically increasing the odds of
a much larger military confrontation or [b] doing nothing, looking like a pussy
and having the rest of the world snicker.
Being the feckless
leader that He is, Obama conjured up an out for Himself [I didn’t say that He
wasn’t smart and a shrewd politician].
The ‘red line’ became not His but the international community’s, which
meant that [a] He made no threat that needed to be backed up and [b] allowed
congress to vote against military action, while not diminishing the authority
of the office of the President.
Regrettably,
that doesn’t mean that the group of clowns in congress will do the right thing;
but it is a way out. If congress does approve
action or if it doesn’t and Obama initiates military action anyway, I think
that the risk of a much larger and more brutal conflict rises
dramatically.
In any case,
war in Syria is
not in our forecast. It is a risk which
hopefully has passed its high point .
The latest from Putin on Syria
(medium):
The latest from Obama on Putin (short)
(5)
finally, the sovereign and bank debt crisis in Europe . The EU economies continue to improve albeit
sluggishly---mirroring our recovery, just two years later. Not only is this progress likely to have at
least some marginal positive impact on US trade growth, it should lead to [a]
better earnings prospects for US companies with a large EU exposure, [b] rising
tax revenues making the EU sovereign debt service problem a bit more manageable
which will in turn [c] would ease the banks’ balance sheet crisis {much of
their debt is in their own country’s sovereign debt}.
I am not tip
toeing through the tulips here. However,
I am acknowledging that Europe seems to be coming out of
its recession and that will somewhat mitigate the risks associated with a
sovereign or major EU bank default [the most important of which is a spill over
into our own banking system]. ‘Somewhat
mitigate’ being the operative words.
In short, the
odds of our ‘muddle through’ forecast appear to be rising; and given what we
went through earlier in the year, that is a plus. In addition, an improving EU economic
environment lowers the odds of the sovereign/bank default tail risk. But the problems have not gone away.
The triple
threat to Europe (medium and a must read):
Bottom line: the US
stance towards Syria
is front and center right now. My take
is that Obama has given Himself and congress a way out of the military option
and that they will take it. While the
world may lose even more respect for Him than it already has; that is not the
electorate’s problem. Obama created this
mess; let Him suffer the consequences.
On the other hand, I believe that any military move by the US
will only invite others, namely Russia
and Iran , into
the party---and that won’t be a good thing.
Meanwhile in the
world not inhabited by the ruling classes and the media, the US
economy continues to trudge along. It is
not a spectacular performance but it is progress. Importantly, that is our forecast.
Fiscal policy,
which has languished in the background for most of the year, is about to start
commanding some headlines. As I note
above, there are several crucial deadlines approaching. I have no great faith that that those
managing our fiscal affairs will be any more responsible in addressing the
budget (the senate hasn’t passed one in five years), the debt ceiling (these
guys voted to spend the money, why wouldn’t they vote to finance it?) or
Obamacare (no one has any clue as to how to address this problem, much less fix
it) than they have in the past. Hence,
our outlook is for the economy to have to continue to bear the additional load
of too much spending, an inefficient, cumbersome tax code and too much
regulation.
The outlook for
monetary policy is equally discouraging.
Bernanke et al have gotten themselves into a no win position where a
start of the transition from easy to tight money will induce heartburn at the
bank and hedge fund trading desks who have profited mightily from the ‘carry
trade’ and where if they don’t, they
will just make matters worse later. In
addition, the general uncertainty the Fed has caused among investors, consumers
and businesses by its own confusing discourse on ‘tapering’, I believe is
restraining consumption and investment.
This week’s
data:
(1)
housing: weekly mortgage applications rose, though
purchase applications were down slightly,
(2)
consumer: August light vehicle sales were well over expectations;
weekly retail sales were mixed; the August ADP
private payroll report was right on forecast; weekly jobless claims fell more
than estimated; August nonfarm payrolls increased less than anticipated,
(3)
industry: July construction spending was better than
expected; the August Markit PMI was below forecasts;
the August ISM manufacturing and non manufacturing indices were much stronger
than estimates; July factory orders fell less than anticipated,
(4)
macroeconomic: the July US trade deficit was a tad higher
than estimates; the latest Fed Beige Book was basically unchanged from its
predecessor; second quarter nonfarm productivity was higher than expected while
unit labor costs were lower.
The Market-Disciplined Investing
Technical
The Averages (DJIA
15922, S&P 1655) experienced another week of sharp moves in both directions---most
of the moves being a function of the latest headline on US military involvement
in Syria . The Dow ended in a short term trading range
(14190-15550). The S&P closed within
its short term uptrend (1646-1801)---though I think that it is an open question
as to the S&P’s short term trend.
Both of the
Averages are well within their intermediate term (14741-19741, 1569-2155) 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 and
100 day moving averages while the S&P is below its 50 day moving average
but above its 100 day moving average. In
sum, the Market direction is indecisive.
Volume on Friday
rose; breadth was mixed. The VIX was up
fractionally; 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.
The long bond
was up on Friday but closed within its short and intermediate term downtrends.
GLD bounced off
the lower boundary of its very short term uptrend. However, it is still within its short term
and intermediate term downtrend. Nevertheless, I think that it time to
consider re-establishing this position.
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 (14922)
finished this week about 29.4% above Fair Value (11525) while the S&P (1663)
closed 16.3% overvalued (1429). 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.
Most of the
assumptions in the above forecast are tracking our expectations. The economy
continues to grow sluggishly; but grow nonetheless. Our ruling class remains in a circular firing
squad. The only hope we have near term
is that they come up with another idea like sequestration in which they totally
underestimate their ability to f**k up but mandate a reasonable policy if they
do. Monetary policy is at or near its point
of no return. The Fed either starts the
transition to tighter money now or likely the Markets will force it to soon
enough. In either case, history says
that the transition will be botched and that you and I will suffer, likely in
the form of either a recession or a spike in inflation. Finally, Europe
continues to amaze by recording some upbeat growth numbers. In sum, the bright spots are the US
and EU economies; the clouds are the shenanigans of our leaders.
The wild card at
the moment is whether Obama and His band of merry men in DC will actually be
stupid enough to pull the trigger in Syria; and given their history I have no
way of handicapping the odds of that happening.
But I do believe that they are playing with fire in the form of Russian
and Iranian resistance. If the US
does go to war, then all bets are off.
Bottom line: the
assumptions in our Economic and Valuation Models haven’t changed. Indeed, events appear to be tracking much as
we expected. That means the Fair Values
mentioned above seem solid. So with
stocks overvalued, our Portfolios maintain their above average cash
position. Any move to higher levels
would encourage more trimming of their equity positions.
The
risk of overly optimistic earnings forecasts (medium):
This week, our Portfolios did nothing.
DJIA S&P
Current 2013 Year End Fair Value*
11600 1440
Fair Value as of 9/30/13 11525 1429
Close this week 14922 1655
Over Valuation vs. 9/30 Close
5% overvalued 12090 1500
10%
overvalued 12677 1571
15%
overvalued 13253 1643
20%
overvalued 13830 1714
25%
overvalued 14406 1786
30%
overvalued 14982 1857
35%
overvalued 15558 1929
Under Valuation vs.9/30 Close
5%
undervalued 10948 1357
10%undervalued 10372 1286
15%undervalued 9796 1214
* 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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