Wednesday, February 25, 2015

The Morning Call---Yellen mews, stocks up

The Morning Call


The Market

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.



            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

   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%.


            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):



Salaries that Hillary pays (short):

Obama vetoes Keystone Pipeline bill (short):

  International War Against Radical Islam

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