The Closing Bell
Statistical Summary
Current Economic Forecast
2012
Real
Growth in Gross Domestic Product:
+1.0-
+2.0%
Inflation
(revised): 2.5-3.5 %
Growth
in Corporate Profits: 5-10%
2013
Real
Growth in Gross Domestic Product +1.0-+2.0
Inflation
(revised) 2.5-3.5
Corporate
Profits 0-7%
Current Market Forecast
Dow
Jones Industrial Average
Current Trend (revised):
Short
Term Uptrend 13400-14048
Intermediate Uptrend 13357-18357
Long Term Trading Range 7148-14180
Very LT Up Trend 4546-15148
2012 Year End Fair Value
11290-11310
2013 Year End Fair Value
11590-11610
Standard
& Poor’s 500
Current
Trend (revised):
Short
Term Uptrend 1458-1527
Intermediate
Term Uptrend 1413-2008
Long
Term Trading Range
766-1575
Very
LT Up Trend 651-2007
2012 Year End Fair Value 1390-1410
2013 Year End Fair Value
1430-1450
Percentage Cash in Our Portfolios
Dividend Growth
Portfolio 38%
High
Yield Portfolio 38%
Aggressive
Growth Portfolio 41%
Economics/Politics
The
economy is a modest positive for Your Money. Another
slow week for data; though the good news is that it was weighted toward the
plus side: positives---January retail sales, weekly jobless claims, the NY Fed
manufacturing index, consumer sentiment and the January government budget
surplus; negatives---January industrial production and weekly mortgage and
purchase applications; neutral---weekly retail sales and December business
sales and inventories.
Though meager,
these stats nonetheless continue to support our forecast:
‘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 likelihood a rising and potentially corrosive rate of inflation due to
excessive money creation and the historic inability of the Fed to properly time
the reversal of that monetary policy.’
The pluses:
(1) our improving energy picture.
The US
(2) an improving Chinese economy.
The
negatives:
(1) a
vulnerable global banking system. JP
Morgan just can’t stay out of the news.
This week witnessed another report on their trading operations in which
the measure that traders used to control risk in their portfolios substantially
understated that risk due to a programming error; in other words, JPM
has been carrying more risk in its trading operations than it thought. This simply illustrates [one more time] [a] the
potential risk that exists on any one bank’s balance sheet and [b] because of the
counterparty risk via derivatives becomes a potential risk on all banks’
balance sheets.
‘My concern here is 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) the ‘debt ceiling/sequestration/continuing resolution cliff’. In the ongoing sequestration debate, this week
Obama, in His SOTU, again refused to take tax increases off the table and
doubled down by offering a full menu of new programs that He wants to initiate. He claimed that they won’t cost a dime,
though the universe knows that is simply more of His bulls**t.
On the other
hand, the GOP is hanging tough on allowing the sequester to go through. As you know, I am all for that occurring,
absent a compromise that would include an equal but more targeted spending
reduction.
However as I
have pointed out, it would not immediately solve our debt and deficit problems---although
it would be the first sign in over a decade that someone in Washington is
actually prepared to take a fiscally responsible action.
Nor would it,
in the near term, improve the economic outlook:
“according to the Rogoff and Reinhart
study, countries whose national debt is more than 90% of GDP grow at below average rates as a result
of being encumbered by policies that are required in order to service that
debt. Today that debt to GDP ratio in the US GDP ratio back to the point where the
economy is free to grow at its historic secular rate. Hence, in the short term, the sequester and
any other subsequent spending cuts will not have an immediate impact of
economic/profit growth’
Of course, the
sequester hasn’t occurred yet; and Obama is not going to let this happen
unchallenged. With only two weeks to go,
He will undoubtedly turn up the heat; and given His acumen as a politician,
gosh only knows what He will pull out of His bag of tricks.
So while I am root, root,
rooting for the home team [sequester advocates], until I see it happen, I will
remain a nonbeliever. In addition, ‘I maintain
my thesis that this is ‘a line in the sand’ moment---the ruling class either
puts government finances on a fiscally responsible course or we will be firmly
on a course to a European nanny state [many of whom are rapidly approaching
bankruptcy].’
A problem related to the ‘fiscal cliff’ is the
potential rise in interest rates and its impact on the fiscal budget. 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 and/or
manage the fiscal cliff.
(3)
rising inflation:
[a] the potential negative impact of central bank money printing. My initial concern with rampant money
printing [aside from deforestation] was either recession or price
inflation. To date neither has
happened. But the longer the expansion
of bank reserves goes on and the larger they become, the more difficult it will
be to return to normal without either pushing the economy into recession [if
the tightening is too big too fast] or creating inflation [if too slow].
Since the Fed
has never gotten this exit correct, more often erring on the side of too little
too late, my primary worry is inflation.
Here are the problems:
First--
[a] Bernanke has already said {too many times to count} that when it comes to balancing the twin
mandates of inflation versus employment, he would err on the side of
unemployment {that is, he won’t stop pumping until he is sure unemployment is
headed down}. That can only mean that
the fires of inflation will already be well stoked before the Fed starts tightening
and [b] history clearly shows that the Fed has proven inept at slowing money
growth to dampen inflationary impulses---on every occasion that it tried.
‘Second, the bond market may not even give the Fed the luxury of
deciding when it wants to start tightening.
If bond investors get spooked enough and start imposing some serious
whackage on bond prices, the Fed will be faced with a Hobson’s choice---hold on
to the bonds, suffer the accompanying price depreciation and print more money
to counter the loss on its balance sheet or sell the bonds faster than it planned,
in effect tightening money policy faster than it would like and raising the
risk of creating a recession.
‘Third, an overly easy monetary policy
generally results in the depreciation of the currency of that bank’s country which
in turn improves that country’s trade balance and strengthens its economy. That is great unless its trading partners get
pissed and commence their own ‘easy money/currency depreciation’ effort. At that point, you got yourself a currency
war; and that seems to be the direction that the major economic powers are
headed in.’
This week, the
G20 chose to completely ignore the recent moves by the Japanese to depreciate
the yen just like they have largely closed their eyes to US
[b] a blow up in the Middle East . It was mostly quiet on this front this
week. However, it would likely be a
mistake to assume that all is well. My
concern is that one or more of the current hot spots [Syria Egypt Algeria Mali Iran Israel Middle East oil, pushing energy prices
higher.
(4)
finally, the sovereign and bank debt crisis in Europe
remains a major risk to our forecast. This week, the EU economic stats showed the
continent in recession [which won’t help sovereign and bank balance sheets],
the elections in Italy
Nevertheless,
investors are back doing what they do best which is giving the eurocrats a free
pass on any hair brained, destructive scheme they come up with---despite the
fact that they have done nothing to either correct their countries’
sovereign/bank debt problems or to lessen the banking community’s exposure to
the derivative markets.
Bottom line: amazingly enough, the US
On fiscal
policy, I have said repeatedly that I considered the sequestration debate a
line in the sand. If it happens, then the economy has a chance of righting
itself---assuming the fiscally responsible crowd can continue to hold the line
until the debt to GDP and government
spending to GDP return to historically
normal levels. However, even if they
succeed, growth won’t return to its higher secular rate over night and hence
will have no immediate impact on our Economic Model.
If it doesn’t
happen, then I believe that the US
On monetary
policy, I can’t see how the US
The biggest risk
to our Models is multiple European sovereign/bank insolvencies. The likelihood of those happening has
probably increased as the EU economy slips further into recession, political
stability is again being challenged [Italy, Spain, Greece] and the eurocrats
adopt the ostrich strategy in dealing with the ‘all in’ currency deprecation
policy of the Japanese. That said, nothing
will happen as long as investors maintain their current optimism. Regrettably, this calm could have been used
by the political class to actually do something constructive to solve the
sovereign/bank balance sheet problems; but thus far, they have done
nothing. Which begs the question of whence
judgment day?
This week’s
data:
(1)
housing: weekly mortgage and purchase applications were
down big,
(2)
consumer: weekly retail sales were mixed while January
retail sales rose in line with forecasts; weekly jobless claims fell much more than
expected; the University of Michigan
(3)
industry: December
business inventories and sales were up less than anticipated; January
industrial product was down versus forecasts of an increase; the New York Fed
February manufacturing index was a blow out,
(4)
macroeconomic: the budget was in surplus in January.
The Market-Disciplined Investing
Technical
The indices
(DJIA 13981, S&P 1519) finished within both their short term uptrends
(13400-14048, 1458-1527) and intermediate term uptrends (13357-18357, 1413-2008).
They
both continue to hug the upper boundary of their short term uptrends and certainly
act like getting to 14140/1576 will not be a problem.
Volume on Friday
was up while breadth was mixed---though the on balance volume indicator
continues to not confirm the recent move up.
The VIX was off but still closed within its intermediate term
downtrend---a positive for stocks.
GLD was off,
remaining in its short term downtrend.
As you know, this week it broke
to the downside out of the developing pennant formation and then fell below a
secondary support level. Technically,
this is not a plus for GLD.
Bottom
line:
(1)
the Averages are trading within their short term
uptrends [13400-14048, 1458-1527] as well as their intermediate term uptrends
[13357-18357, 1413-2008].
(2) long term, the Averages are in a very long term [78 years] up trend
defined by the 4546-15148, 651-2007 and a shorter but still long term [13
years] trading range defined by 7148-14198, 766-1575.
Is
the best behind us (short):
Margin
debt near all time highs (short):
Never
sell a dull Market short?? (short):
Fundamental-A Dividend Growth Investment Strategy
The DJIA (13981)
finished this week about 23.2% above Fair Value (11350) while the S&P (1519)
closed 8.0% overvalued (1406). Incorporated
in that ‘Fair Value’ judgment is some sort of half assed compromise on the
fiscal (debt ceiling/sequestration/continuing resolution) cliff, continued
money printing, a historically low long term secular growth rate of the economy
and a ‘muddle through’ scenario in Europe .
The economy is
tracking with our forecast; so as I noted above, no alterations are needed to
our Economic Model. Neither is it
necessary to change the assumptions in our Valuation Model. However, the outcome of the sequestration
battle could impact both, but on a very long time horizon, i.e. if the spending
cuts envision in the legislation are implemented, that could mark a turn toward
fiscal responsibility. But before
getting too jiggy about the whole thing, there are a number of big ‘ifs’ that
must be dealt with.
First and
foremost is whether or not we even get the sequester. Sure the GOP is hanging tough for now. But Obama has yet to put on the inevitable
full court press. If republicans fold,
nothing changes now or in the future.
Second, if
sequestration takes place, it should not be looked as anything more than a
symbolic first step. As Rick Santelli
noted, the total sequestration amount is 1/3 of 1% of the budget---hardly a
reason to start popping champagne corks over some new found austerity. Further, it is not even a cut in spending, it
is a cut in the rate of growth of spending.
The point being that (1) unless this action is followed by more such
actions, sequestration will mean nothing and (2) it takes time before any
cumulative reductions in spending impacts our Economic Model.
On the other
hand, if progress is made, then valuations will likely begin rising before any
noticeable impacts on economic growth are visible. So there is the possibility under the best
case scenario of more optimistic assumptions in our Valuation Model even before
those in our Economic Model.
As far as
monetary policy goes, our Models assume a rising inflation rate resulting from
the Fed’s current aggressive money printing.
I see almost no way of improving those assumptions. Sooner or later, we will be faced with either
a recession (if the Fed gets too tight too fast) or inflation (if the Fed does
its usual slow on the draw shtick)---which as you know is my scenario of choice. In the former case, our Models would probably
change; in the later, not so much.
Meanwhile,
Euroland continues to slide toward recession and instability. If there were ever a perfect example of the
old saw of Nero fiddling while Rome
My investment conclusion: nothing has happened that would warrant a
change in the assumptions in our Valuation Model. Hence, stocks remain overvalued. There is the chance that somewhere out there
in the future if sequestration occurs and if it is a precursor to further moves
to fiscal responsibility that our growth rate assumptions in the Economic Model
and our discount assumptions in the Valuation Model could improve. But it is far, far too soon to make that bet.
The thing that could impact our Models
near term is a crisis in Europe . Economic and social conditions are
deteriorating, raising the odds that our ‘muddle through’ scenario will prove
inaccurate. My problem, as I have
frequently noted, is quantifying the downside of not ‘muddling through’.
The ‘tail risks’ of spiking
interest rates and inflation in the US and a financial crisis in Europe keep
our Portfolios over weighted in cash
Finally, GLD has me completely baffled. It has broken down technically in a big
way. While I believe our Portfolios will
need the inflation protection offered by gold at some time in the future,
clearly the Market doesn’t think that time is now. As you know, I am not inclined to risk
principle to prove a point, so our Portfolios have Sold out of their GLD, at
least temporarily.
This week, our Portfolios also
continued to lighten up on either fundamentally or technically overextended
stocks.
The latest from Charles Biderman (4 minute video):
And Mohamed El Erian (short):
Bottom line:
(1)
our Portfolios
will carry a high cash balance,
(2)
we continue to include gold and foreign ETF’s in our
asset mix because we continue to believe that inflation is a major long term
risk [which is now under review]. An
investment in gold is an inflation hedge and holdings in other countries
provide exposure to better growth opportunities.
(3)
defense is still important.
DJIA S&P
Current 2013 Year End Fair Value*
11600 1440
Fair Value as of 2/28/13 11350 1406
Close this week 13981 1519
Over Valuation vs. 2/28 Close
5% overvalued 11917 1476
10%
overvalued 12485 1546
15%
overvalued 13052 1616
20%
overvalued 13620 1687
25%
overvalued 14187 1757
Under Valuation vs.2/28 Close
5%
undervalued 10782 1335
10%undervalued 10215 1265 15%undervalued 9647 1195
* 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
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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