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 13332-13987
Intermediate Uptrend 13313-18313
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 1449-1519
Intermediate
Term Uptrend 1407-2002
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 36%
High
Yield Portfolio 36%
Aggressive
Growth Portfolio 39%
Economics/Politics
The
economy is a modest positive for Your Money. Not much data this week and what we got was
mixed to positive: positives---weekly mortgage and purchase applications,
weekly retail sales, the December trade balance and the January ISM
nonmanufacturing index; negatives---fourth quarter nonfarm productivity and
unit labor costs; neutral---weekly jobless claims and December wholesale
inventories and sales.
It is always
nice to have the weight of the weekly stats to the plus side; that said most of
the numbers reported were secondary indicators.
So this latest data really amounts to very little. Hence, our forecast
remains:
‘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.’
Here
is an update on the ECRI weekly leading index which is still heading higher
(medium):
The pluses:
(1) our improving energy picture.
The US
(2) an improving Chinese economy.
The
negatives:
(1) a
vulnerable global banking system. The
only news this week on this issue was the additional details on the Italian
bank scandal that revealed losses much larger than originally estimated. Granted this is not a US
‘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.’
This is a great article on the alchemy of the derivatives market and
why we
have no idea how large the risks are (medium and today’s must read):
(2) the ‘debt ceiling/sequestration/continuing resolution cliff’. This
week Obama [a] missed a deadline for submitting His 2013 budget, but [b] still
found the time {and balls} to suggest that the republicans ought to compromise
on the sequester by allowing smaller cuts AND
higher taxes.
To date, the
GOP is hanging tough on allowing the sequester going through, absent a
compromise that would include an equal but more targeted spending reduction [as
an aside, I think in important to keep in mind that these are not spending
cuts; they are a reduction in the rate of spending growth]. I believe this to be the best strategy for
the sake of the long term health of our economy. Plus, I was encouraged by last week’s GDP
report that demonstrated that less government spending need not lead to less
growth in the other sectors of the economy.
That said,
Obama is going to turn up the heat as the March 1 effective date for the
sequester approaches and I have no confidence that a majority of republicans
have the inclination or will to hold fast.
In short, until I see proof that
the spending reductions in the sequester are going to happen immediately and
not sometime in the future, I will remain a nonbeliever. Further, 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].
Charles Krauthammer on sequestration (medium):
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 a global orgy of
monetary easing was simply price inflation.
To be sure, it has been slow in coming because the banks [where all the
excess reserves reside] would rather their trading desks gamble with those
funds than actually do want banks are supposed to do, i.e. lend money.
That, of course, creates its
own set of problems---but that falls under the category of ‘a vulnerable global
banking system’ which is covered above.
Nonetheless, with all that
money sitting on bank balance sheets, sooner or later, the Fed has to begin
removing that lending power from the economy or else inflation will spike
dramatically---which is much easier said than done. Two problems:
First-- the whole point of the Fed’s exercise, i.e.
QEIII {QEIV}, is to encourage banks
to lend and businesses to invest. So on
the off chance that the plan works, inflationary pressures will grow unless the
Fed withdraws the aforementioned reserves before inflation kicks in.
And therein lies the rub. [a] Bernanke has already said {four
times} 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.
The
message from TIPS (medium):
And productivity (short):
And finally this which puts
an exclamation point on a dysfunctional Fed policy (short/medium):
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.
If all that
isn’t bad enough, there is a secondary problem---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, in a ECB press conference, Draghi reiterated the bank’s
accommodative stance. On the other side
of the world, the Japanese are leaving no doubt that a primary objective of
their ‘all in’ monetary policy is currency depreciation.
While hostilities
haven’t broken out, the situation is deteriorating; and if the central bankers
aren’t careful, this could grow into a very serious problem.
Morgan Stanley
on the currency wars of the 1930’s (medium):
What about the UK
Finally, Venezuela
[b] a blow up in the Middle East . This week witnessed major clashes in Syria Egypt Iran 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 scandals in Italy Spain Italy
To top it off,
investors seem to be questioning their prior conviction that Europe
was out of the woods---though not yet sufficiently to threaten the ‘muddle
through’ scenario. However, because the
eurocrats inexplicably elected to do nothing to correct the original sovereign
and bank debt problems when tensions eased, the risk of something going wrong
is as high as it ever was. Regrettably,
the collective EU economy is still a mess, the financial system is
overleveraged and nothing has been done to lessen the banking community’s
exposure to the derivative markets.
Bottom line: the US
Longer term, the
bad news is that a key assumption in our Models is that our political class will
not take the necessary steps to return the government to a path of fiscal
responsibility. The good news is that we
are rapidly approaching ‘a line in the sand’ in spending which will either
affirm or disprove this assumption. That
line is March 1, the effective date of sequestration. If the GOP folds and/or agrees to some half
assed compromise, then it is highly likely that nothing will change for at
least two years and perhaps never. If
not, there is at least hope.
The biggest risk
to our Models is multiple European sovereign/bank insolvencies. Unfortunately, between worsening economic
stats and political turmoil, the recent complacency may be dissipating. If this goes on much longer, the EU will
again be front page news; and given that the eurocrats have done nothing to
correct the underlying problems, any new crisis may be worse than the last.
This week’s
data:
(1)
housing: weekly mortgage and purchase applications were
up,
(2)
consumer: weekly retail sales were up; weekly jobless
claims fell less than expected,
(3)
industry: the
January ISM nonmanufacturing index came in slightly ahead of forecast; December
wholesale inventories fell, while sales were unchanged,
(4)
macroeconomic: the December trade balance improved
markedly; fourth quarter nonfarm productivity declined more than estimates
while unit labor costs were above anticipated results.
The Market-Disciplined Investing
Technical
The indices
(DJIA 13992, S&P 1517) finished within their intermediate term uptrends (13313-18313,
1407-2002). The Dow once again closed above the upper
boundary of its short term uptrend (13332-13987) while the S&P failed to do
so (1449-1519).
Nevertheless,
they both continue to hug the upper boundary of their short term uptrend and
they finished Friday above the upper boundary of the very short term trading
range of the last two weeks. That
suggests to me that they are still headed for 14140/1576.
Volume on Friday
was down though not surprising given the storm in the northeast. Breadth improved. The VIX was off but still closed within its
intermediate term downtrend---a positive for stocks.
GLD was off
fractionally but remains within a pennant pattern formed by the lower boundary
of a very short term uptrend and the upper boundary of a short term downtrend. A break of either boundary should point to
near term Market direction.
Bottom
line:
(1)
the DJIA is above the upper boundary of its short term uptrend
[13332-13987]; the S&P is not 1449-1519].
Both are within their intermediate term uptrends [13313-18313, 1407-2002].
(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.
The
latest from Fusion Analytics (medium):
Fundamental-A Dividend Growth Investment Strategy
The DJIA (13992)
finished this week about 23.2% above Fair Value (11350) while the S&P (1517)
closed 7.9% 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 .
‘Nothing in the economic data suggests a
change is required in the assumptions in our Valuation Model. However, if the sequestration/continuing
resolution negotiations lead to a real plan to reduce the government spending
and total debt as a percent of GDP ,
then I will revise our long term economic growth rate assumption. Not only will that improve corporate profit
growth but would likely expand valuations (P/E).
That said, I have little faith in that
outcome and, hence, have no intent in making any changes in our Models until
proof that they are serious.
I know all to well that our economic/valuation
assumptions are in direct conflict with the Market consensus. But based on the data available, I can’t get
valuations to current levels. I am not
saying that the economy is a negative or that corporate profits won’t continue
to grow. I am saying that based on the
fact pattern before us, the economy will not return to its historical growth
rate and that there are risks associated with the current irresponsible management
of fiscal and monetary policies that have to be accounted for in making
valuation judgments. Given that, I can’t
get stock valuations higher.’
Meanwhile across
the pond, Europe ’s investor friendly ‘muddling through’
scenario has hit something of a snag.
Political turmoil in Spain Italy France
My investment conclusion: the US
On the fiscal front, I believe that the
March 1 effective date for sequestration is a line in the sand---either these
morons in Washington cease their profligate spending and recognize that they
are not omniscient regarding how citizens regulate their own lives or the wise
course is for the electorate to begin a serious effort to protect itself from
further mischief. I await the outcome
with bated breathe.
It now appears that Europe
is back in the mode of ‘just making things worse’. The EU economy is not improving but new
political/economic/financial turmoil have raised the odds of at best a negative
spillover into our economy and at worse the risk of a global financial crisis.
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
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 13992 1517
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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