Wednesday, February 4, 2015

The Morning Call--If lower oil prices are positive, what are higher oil prices?

The Morning Call


The Market

The indices (DJIA 17666, S&P 2050) made a strong follow though from Monday’s sharp rally, leaving them within uptrends across all timeframes: short term (16514-19290, 1918-2899), intermediate term (16550-21705, 1748-2462) and long term (5369-18860, 783-2083).  The S&P also finished above its 50 day moving average, while the Dow closed right on its average.  Despite this upbeat pin action, neither Average has advanced above the downtrend line off their 12/19 highs.

            Volume was flat---a bit surprising given the Market strength; breadth improved---but only slightly.  The VIX dropped 11%, ending within a short term trading range, an intermediate term downtrend and above its 50 day moving average. 
The latest reading on the Dow Theory (short):

            More on Market divergences (short):

            The long Treasury declined again, this time breaking the lower boundary of its very short term uptrend; a close below that boundary today will negate that trend.  Nevertheless, it remained within short term, intermediate term and long term uptrends and above its 50 day moving average.
            GLD was down, ending within its short term uptrend, an intermediate term trading range and above its 50 day moving average.  As usual, the volatility in GLD’s chart makes it harder to read and trade than most.  Our Portfolios have a Stop Loss at 119, if things (again) get out of control on the downside.
Bottom line:   the volatility continues to make life exciting in stock land.  The technical evidence remains weighted to the positive.  However, the indices are nearing several resistance levels: (1) the downtrends off their December highs [17724/2052], (2) those same December highs [17986/2080] and (3) the upper boundaries of their long term uptrends [18860/2083].  Even if I wanted to Add to our positions (which I don’t at current prices), I wouldn’t do anything until I saw how the Averages handle those resistance levels.

GLD continues to be a Hold for those with a strong enough stomach to handle its roller coaster trading.  As I noted above, our Portfolios have a Stop Loss to prevent a smack in the chops.  However, a bounce would likely prompt another small addition to this holding.


            US economic news was weak again yesterday.  While weekly retail sales were good, December factory orders and January light vehicle sales were below expectations.  Still not enough negative data to get worried.

            Earnings reports were a bit more mixed.  Nothing from the big boys but there were negative readings/guidance from some visible names: Chipotle, Gilead Sciences and Wynn Resorts.

            Oil remained the big domestic story with another big up day.  As you probably know, much of the upward impetus for higher oil prices has come from a declining rig count.  Here is an in depth look at rig count (medium):

            Overseas, the Bank of Australia lowered its key interest rate, adding yet another player in the fruitless global game of QE roulette.  

The results of zero interest rates (medium and a must read):

            Why QE and negative interest rates will fail (medium):

            ***overnight, the Chinese services PMI was below forecasts and the central bank eased reserve requirements; Germany, Italy and Spain all reported better than consensus services PMI.

More important, the Greek PM retreated on the initial hardball stance on bond haircuts and austerity---and in less than two weeks after the election.   That got investors tip toeing through the tulips and,  it would seem, confirms that no matter how radical the rhetoric, no politician has the cojones to challenge Brussels (or more correctly, the Germans) (medium):

            S&P downgrades credit ratings of numerous EU banks (medium):

Bottom line:  clearly the prospects of the Greeks remaining debt serfs to the big EU banks was positively elating but the probability of our EU ‘muddle through’ scenario rose.  Good for everybody but the Greeks.  On the other hand, central banks continue to migrate to QE and that just ups the odds that it won’t work.  Indeed, it likely means that this policy sinks further and faster. Good for nobody.  Finally, a question:  if lower oil prices are an ‘unmitigated positive’, what are higher oil prices?  Watch the news.  My bet is that higher oil prices will be interpreted to mean economic strength; and that will be………drum roll……you guessed it---an ‘unmitigated’ positive.  

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.
            More on valuation (short):

      Investing for Survival from David Merkel

There are several reasons to avoid illiquidity in investing, and some reasons to embrace it.   Let me go through both:
Embrace Illiquidity
·         You are offered a lot of extra yield for taking on a bond that you can’t easily sell, and where you are convinced that the creditor is impeccable, and there are no sneaky options that you have implicitly sold embedded in the bond to take value away from you.
·         An unusual opportunity arises to invest in a private company that looks a lot better than equivalent public companies and is trading at a bargain valuation with a sound management team.
·         You want income that will last for your lifetime, and so you take some of the money you would otherwise allocate to bonds, and buy a life annuity, giving you some protection against longevity.  (Warning: inflation and credit risks.)
·         In the past, you bought a Variable Annuity with some good-looking guarantees.  The company approaches you to buy out your annuity at a 10-20% premium, or a 20-30% premium if you roll the money into a new variable annuity with guarantees that don’t seem to offer much.  Either way, turn the insurance company down, and hold onto the existing variable annuity.
·         In all of these situations, you have to treat the money as money lost to present uses.  If there is any significant probability that you might need the money over the term of the asset, don’t buy the illiquid asset.

Avoid Illiquidity
·         Often the premium yield on an illiquid bond is too low, or the provisions take value away with some level of probability that is easy to underestimate.  Wall Street does this with structured notes.
·         Why am I the lucky one?  If you are invited to invest in a private company, be skeptical.  Do extra due diligence, because unless you bring something more than money to the table (skills, contacts), the odds increase that they are after you for your money.
·         Often the illiquid asset is more risky than one would suppose.   I am reminded of the times I was approached to buy illiquid assets as the lead researcher for a broker-dealer that I served.
·         Then again, those that owned that broker-dealer put all their assets on the line, and ended up losing it all.  They weren’t young guys with a lot of time to bounce back from the loss.  They saw the opportunity of a lifetime, and rolled the bones.  They lost.
·         We tend to underestimate how much we might need liquidity in the future.  In the mid-2000s people encumbered their future liquidity by buying houses at inflated prices, and using a lot of debt.  When everything has to go right, the odds rise that everything will not go right.
·         And yet, there are two more reason to avoid illiquidity — commissions, and inability to know what is going on.

Illiquid assets offer the purveyor of the assets the ability to pay a significant commission to their salesmen in order to move the product.   And by “illiquid” here, I include all financial instruments that carry a surrender charge.  Do you want to know how much the agent made selling you an insurance product?  On single-premium products, it is usually very close to the difference between the premium you paid, and the cash surrender value the next day.
Financial companies build their margins into their products, and shave off a portion of them to pay salesmen.  This not only applies to insurance products, but also mutual funds with loads, private REITs, etc.  There are many brokers masquerading as financial advisers, who do not have to act strictly in the best interests of the client.  The ability to receive a commission makes them less than neutral in advising, because they can make a lot of money selling commissioned products.  In general, it is good to avoid buying from commissioned salesmen.  Rather, do the research, and if you need such a product, try to buy it directly.

Not Knowing What Is Going On
There are some that try to turn a bug into a feature — in this case, some argue that the illiquid asset has no volatility, while its liquid equivalents are more volatile.  Private REITs are an example here: the asset gets reported at the same price period after period, giving an illusion of stability.  Public REITs bounce around, but they can be tapped for liquidity easily… brokerage commissions are low.  Some private REITs take losses and they come as a negative surprise as you find large part of your capital missing, and your income reduced.
So, in closing, avoid illiquidity, unless you don’t need the money, and the reward is very, very high for making that fixed commitment.

      News on Stocks in Our Portfolios
·         Automatic Data Processing (NASDAQ:ADP): FQ2 EPS of $0.70 beats by $0.02.
·         Revenue of $2.67B (+6.7% Y/Y) misses by $10M.

·         C.H. Robinson Worldwide (NASDAQ:CHRW): Q4 EPS of $0.77 beats by $0.01.
·         Revenue of $3.36B (+6.7% Y/Y) beats by $20M.


   This Week’s Data

            Redbook Research reported month to day retail chain store sales up 3.8% on a year over year basis.

            December factory orders fell 3.4% versus expectations of -2.2%.

            January light vehicle sales were below December’s number.
            Weekly mortgage applications rose 1.3% but purchase applications fell 2.0%.

            The January ADP private payroll report showed job growth of 213,000 versus estimates of 220,000.


            Two decades of inflation and deflation (medium):




Here is your nominee for Attorney General (short):

  International War Against Radical Islam

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