Wednesday, May 14, 2014

The Morning Call--Global monetary mismanagement

The Morning Call

5/14/14

Just a reminder that I will be out of the office until next Monday.

The Market
           
    Technical

            The indices (DJIA 16715, S&P 1897) continued their advance albeit at a more moderate pace.  The Dow closed above the upper boundary of its short and intermediate term trading ranges for the second day.  If it remains above 16601 through the close Friday, the DJIA will re-set to short and intermediate term uptrends.  It will also be back in sync with the S&P on those trends.  At the moment, it remains above its 50 day moving average and while testing its short (15330-16601) and intermediate (14696-16601) term trading ranges and within a long term uptrend (5055-17405).

            The S&P again finished very near its former all-time high (1899) though it tried to surmount it and couldn’t.   It continues to trade above its 50 day moving average and within uptrends across all timeframes: short (1832-1999), intermediate (1784-2584) and long (739-1910). 

            The small cap stocks took it on the chin, once again diverging from the major Averages.

            Volume was flat (and low); breadth was mixed with the flow of funds indicator continuing to do very well.  The VIX inched lower, ending near the lower boundary of its short term trading range, below its 50 day moving average and within an intermediate term downtrend.  

            The long Treasury rose, closing within a short term uptrend, above its 50 day moving average and within an intermediate term downtrend.  The entire yield curve responded positively (higher prices) to a poor April retail sales number---suggesting that bond investors believe that the economy is not as strong as consensus.

            Yet another theory on why bond prices are rising (short):

            GLD continued its losing ways, ending within short and intermediate term downtrends and below its 50 day moving average.

Bottom line: while the major indices continue to either surpass (DJIA) or toy with (S&P) their all-time highs, the small cap stocks resumed their move to the downside, bonds ticked higher, presumably on a poor economic number and volume remained pathetic.  In sum, a whole lot less decisive pin action than on Monday and quite similar to price pattern of the last couple of weeks.

This probably means that the Averages will struggle to but ultimately succeed in challenging the upper boundaries of their long term uptrends and then fail to break above them.  Hence our strategy remains to do nothing save taking advantage of the current momentum to lighten up on stocks whose prices are pushed into its Sell Half Range or whose underlying company’s fundamentals have deteriorated.

    Fundamental
    
     Headlines

            Several secondary US economic indicators were released yesterday and were basically neutral: the April small business optimism index rose slightly, weekly retail sales were mixed and March business inventories came in a bit less than expected but sales were up strong.  However, the big number was April retail sales and they were very disappointing.  This doesn’t disturb our forecast but it puts a fine point on the fact that the economic growth rate is sluggish and not improving.

            Posted with no comment (short):

            Overseas, China reported soft industrial output and retail sales.  In addition, their property market is not getting any better (medium):

            In an all too funny official statement, the Bank of Japan appears to be setting up the market for more disappointing economic data by blaming….drumroll, please…….the weather.  It couldn’t possibly be that tax increase.

            The ECB is already crawfishing on easier monetary policy.

            And this from the German finance minister (short):

            Ukraine continues to deteriorate.  Fighting has left several dead, there was an assassination attempt on an eastern pro-Russian politician and Putin has responded to sanctions---no rocket engines for you, no dollars for me!

Bottom line: the economy continues to plug along.  However, stocks are valuing the resulting corporate earnings stream near historic highs (at least as calculated by our Valuation Model).   If the economic/political environment were benign, I could see equities at least holding current price levels.  However, it is fraught with headwinds.  The GOP is not offering a free market alternative to the dems.  The Fed is trying to extricate itself from a horrendous monetary policy and will likely be no more successful in this effort than its predecessors. The Japanese, Chinese and EU central banks are all faced with a sundry of serious problems resulting from monetary mismanagement. And Putin continues to thumb his nose at the west as he moves to regain some of the former hegemony of the Soviet Union. Any one of these problems could cause heartburn were conditions get out of control.  God forbid that two or more degenerate.

My bottom line is that for current prices to hold, it requires a perfect outcome to the numerous problems facing the US and global economies AND investor willingness to accept the compression of future potential returns into current prices.

 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.
        
            It is a cautionary note not to chase this rally.
               

            The ‘don’t fight the Fed’ bull case (medium):

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