The Morning Call
2/25/14
The Market
Technical
The indices
(DJIA 18209, S&P 2115) resumed their upward march yesterday, ending within
uptrends across all timeframes: short term (16652-19424, 1939-2920),
intermediate term (16695-21846, 1759-2473) and long term (5369-18860, 797-???). They both closed above their 50 day moving
averages and their mid-December highs; and the S&P closed above the former upper
boundary of its long term uptrend while the Dow remains well below its
comparable boundary. Bottom line: (1) the Averages need to be in sync to
validate a change in trend and (2) we wait for the S&P to re-set the upper boundary
of its long term uptrend.
Volume
fell; breadth improved. The VIX declined
6%, closing within its short term trading range, its intermediate term
downtrend and below its 50 day moving average.
The
long Treasury was up again, finishing within its short, intermediate and long
term uptrends. Further, it ended above
the upper boundary of the newly formed very short term downtrend (for the
second day thereby negating that trend) and right on its 50 day moving average.
GLD
fell, returning to but not closing below the lower boundary of its short term
uptrend. It remained below its 50 day
moving average and within an intermediate term trading range and a developing a
very short term downtrend.
The
case against gold (medium):
Bottom
line: the indices resumed their advance
yesterday, though volume remains light.
Nonetheless, the S&P is starting to put some distance between itself
and the former upper boundary of its long trend. That suggests continuing
momentum to the upside.
TLT had another good
day, negating that very short term downtrend and finishing right on its 50 day
moving average---two more steps in putting a bottom behind it. On the other hand, GLD was back to the lower boundary
of its short term uptrend which is my line in the sand for retaining this
holding.
Fundamental
Headlines
Yesterday
witnessed more subpar economic stats: the rate of growth on month to date
retail chain store sales slowed, the December Case Shiller home price index
rose much more than estimated, February consumer confidence declined more than
forecast and the Richmond Fed manufacturing index was 0 versus an anticipated
reading of 6.0.
Center
stage was the first day of Yellen’s Humphrey Hawkins testimony. Consensus was that her comments were generally
dovish and suggested that any rate increase would come later rather than
sooner. That got investors in general
and the speculators, hedge funds and carry traders in particular all juiced up,
dreaming of easy money into infinity. Do
I have to repeat that easy money hasn’t done squat for this economy, as per the
preceding paragraph? But does keep
driving asset prices into ever higher overvalued territory.
Here
is the text of her opening statement (medium):
Also
helping to buoy investor sentiment was the acceptance by the EU/ECB/IMF of
Greek (austerity?) proposals that would than allow their approval for an
additional four months of bail out money.
While ‘muddle through’ remains
the assumption in our Models, I continue to believe that the risks that something
will go awry are higher than current consensus. (medium):
Germany’s
position (short):
Bottom line: the
US economic numbers continue to disappoint, though that hasn’t impacted Street
forecasts. Yellen continues to please
the Market but at the expense I fear of creating an ever large bubble of
mispriced assets. The euros continue to
do what they do best which is to turn a blind eye to the economic disorder that
they have created, kick the can down the road to an even greater state of
disorder and arrogantly assume that they can defy both logic and history.
Equity prices
seem destined to go higher; but then so did Icarus.
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.
Earnings
revisions versus real GDP (short):
There
is no differentiation between high quality and low quality companies anymore
(short):
***overnight,
China’s February flash PMI returned to positive territory but exports fell
markedly.
Investing for Survival from Simon Lack
Recently the Financial
Times (FT) noted that the number of U.S. companies raising their dividends
had hit the highest level since 1979. Much research has been done on the merits
of companies that pay out a large percentage of their profits in dividends
(high payout ratio) and those that retain most of their earnings so as to
reinvest in their business. Payout ratios have been falling steadily for
decades and currently the FT notes that S&P500 companies pay out only 36%
of their profits. However, share buybacks have increased over that period so
one can’t conclude that the total cash returned to shareholders as a percentage
of profits has fallen.
Buybacks are a more efficient way of returning cash
because they create a return (through a reduced share count and therefore a
higher stock price) without forcing each investor to pay tax on the cash
distributed (as is the case with a dividend). Theoretically, publicly listed
companies need never issue dividends since any shareholder desiring, say, a
2.5% dividend can always sell 2.5% of his holdings.
One might think that
companies with low payout ratios are retaining more of their earnings so as to
invest in the high return opportunities they see in their business. This ought
to lead to faster dividend growth in the future as the projects provide their
payoff. I’m currently reading Successful Investing is a Process by Jacques Lussier, PhD, CFA. The author kindly sent me a
copy as I’ll be speaking at a CFA event in Montreal he’s organizing later this
year. Mr. Lussier notes some interesting research by Arnott and Asness in 2003
that sought to compare low dividend payout ratios with faster subsequent
growth.
In fact, they found just the opposite, that low dividends
don’t lead to higher dividends later on. In too many cases it seems that
managements are overly optimistic about the opportunities to deploy capital
either internally or on acquisitions. And in fact this is the real power of
stable dividends with a high payout ratio. Rather than suggesting the company
has few interesting projects and therefore nothing better to do than return
capital to owners, it imposes a level of capital discipline on management that
ultimately leads to higher returns. Companies that return more cash to
shareholders have less to squander on ill-judged investments, and the
shareholders ultimately benefit.
Incidentally, Master Limited Partnerships (MLPs)
represent an extreme case of this. Since they routinely distribute around 90%
of eligible cash flows they have very little retained earnings and therefore
have to raise new debt and equity capital for any project. This imposes a
wonderful discipline on MLP managements in that they’re always having to
explain to underwriters and investors what exactly they’re planning to do with
the proceeds of a debt or equity offering. It’s one of the reasons MLPs have
had such consistently strong performance; so many of their management really
focus on return on capital.
It’s all part of the Low Beta Anomaly, the concept that
low volatility (or low Beta) stocks outperform on a risk-adjusted basis and
even on a nominal basis. So far this year the returns to low volatility
investing have been good (for example, the S&P500 Low Volatility ETF, SPLV,
is +8.6% through June) as many of the high-flying momentum names crashed
during the first quarter. Slow and steady dividends with growth may not
appear that exciting, but boring is often better where you’re money’s
concerned.
News on Stocks in Our Portfolios
Economics
This Week’s Data
Month
to date retail chain store sales growth slowed to 2.8% annualized versus the
prior week’s reading of 3.2%.
The
December Case Shiller home price index rose 0.9% versus expectations of +0.5%.
February
consumer confidence came in at 96.4 versus estimates of 99.1.
The
February Richmond Fed manufacturing index was reported at 0.0 versus forecasts
of 6.0.
Weekly
mortgage applications dropped 3.5% but purchase applications rose 5.0%.
Other
The
author is correct about the absurdity of Fed policy. The problem is that it may
be creating deflation instead of inflation (medium):
More
on student loans (short):
An
optimist’s take on the global economy---he hangs a lot on rising asset prices
with which I would disagree (medium):
Politics
Domestic
Salaries that
Hillary pays (short):
Obama vetoes
Keystone Pipeline bill (short):
International War Against Radical Islam
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