The Closing Bell
Statistical Summary
Current Economic Forecast
2013
Real
Growth in Gross Domestic Product:
+1.0-+2.0
Inflation
(revised): 1.5-2.5
Growth
in Corporate Profits: 0-7%
2014
estimates
Real
Growth in Gross Domestic Product +1.5-+2.5
Inflation
(revised) 1.5-2.5
Corporate
Profits 5-10%
Current Market Forecast
Dow
Jones Industrial Average
Current Trend (revised):
Short
Term Uptrend 15198-20198
Intermediate Uptrend 15198-20198
Long Term Trading Range 5015-17000
2013 Year End Fair Value
11590-11610
2014 Year End Fair Value
11800-12000
Standard
& Poor’s 500
Current
Trend (revised):
Short
Term Uptrend 1701-1855
Intermediate
Term Uptrend 1617-2199
Long
Term Trading Range 728-1850
2013 Year End Fair Value 1430-1450
2014 Year End Fair Value
1470-1490
Percentage Cash in Our Portfolios
Dividend Growth
Portfolio 43%
High
Yield Portfolio 46%
Aggressive
Growth Portfolio 43%
Economics/Politics
The
economy is a modest positive for Your Money. The
data this week came in mixed to positive: positives---weekly mortgage and purchase
applications, the Case Shiller home price index, September industrial
production and capacity utilization, Chicago PMI ,
October ISM manufacturing index, August business inventories and sales and
September PPI and CPI ; negatives---September
pending home sales, consumer confidence, the October Markit PMI ,
the October ADP private payroll report and
the October Dallas Fed business activity index; neutral---weekly retail sales, weekly
jobless claims, October light vehicle sales and the FOMC policy statement.
I was
particularly encouraged by the industrial production and ISM manufacturing
stats though, unfortunately, they were off by the consumer confidence
number---that because I am concerned that it will manifest itself in lower
consumer spending. Still as a whole, the
data 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 historic inability of
the Fed to properly time the reversal of a vastly over expansive monetary policy.
Update
on big four economic indicators (short):
And:
The pluses:
(1)
our improving energy picture. The US
(2) the sequester. while something of a meat axe approach to
spending reductions, the sequester is the only thing standing in the way of
more government spending---and for that I am grateful. It is also the one piece of leverage that the
conservatives have to maintain at least some semblance of fiscal responsibility
in the upcoming budget debate. Let’s
hope they use it wisely.
That said I
remind you that the CBO estimates that the budget deficit starts expanding
again in the 2015 fiscal year; much of it a result of Obamacare. So the sequester is not a long term solution
to profligate spending.
The
negatives:
(1) a
vulnerable global banking system. Another
week of multiple suits/ investigations for multiple offenses against multiple
banks:
[a] emails from
the Rabobank libor rate manipulation case:
[b] UBS
being investigated for currency rigging:
[c] Bank of America for mortgage fraud:
[d] Barclay’s
for currency manipulation:
[e] Japanese banks for lending to the mob:
[f] RBS to
create ‘bad bank’ to deal with toxic asset problem:
‘My concern here.....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.’
And this:
(2) fiscal policy. the budget
debate will begin again shortly. As I
noted above, my focus will be on how the GOP handles the negotiations
surrounding the sequester. I believe
that it is critical that they hang on to this bit of leverage for dear
life. I have no problem with swapping
increased spending in some areas for comparable reductions in others; but I
will be apoplectic if the GOP allows the dems to hornswaggle them into a net
increase in spending---as has happened far too often in the past.
Another issue
around fiscal policy that needs watching is whether or not the recent
budget/debt ceiling circus and the prospect for another in early 2014 have done
enough damage to business and consumer confidence to have a material impact on
the economy. As noted above, consumer
confidence took a beating this month.
The question now is, does that result in lower consumer spending [i.e.
slow overall economic activity]?
Finally, I have
said nothing about the fiscal consequences of the implementation of Obamacare,
though we are starting to get the picture that it will cost far more than has
been estimated. So far, this thing has
been a nightmare. I am not saying that
the administration won’t get the problems fixed and that we all live happily
ever after. Right now that doesn’t seem
the likely scenario; so we have to start accounting for the potential of an
additional drag on economic activity---or maybe a revolution.
(3)
the potential negative impact of central bank money
printing: The key point here is that [a] the Fed has inflated bank reserves
far beyond any comparable level in history and [b] while this hasn’t been an
economic problem to date, {i} it still has to withdraw all those reserves from
the system without creating any disruptions---a task that I regularly point out
it has proven inept at in the past and {ii} it has created or is creating asset
bubbles in the stock market as well as in the auto, student and mortgage loan
markets.
Several things
bear watching with respect to monetary policy:
[a] the
statement released from the FOMC meeting this week was slightly more upbeat on
the economy than its predecessors and therefore suggested a quicker ending of
QE than investors previously thought. Market’s
weren’t particularly happy; though they recovered quickly.
Nevertheless,
it is clear that investors are worried about when tapering is going to happen
and that they are very sensitive to any comment or lack thereof from the Fed on
the subject. The question in my mind, is
how long they will stand by patiently while the Fed pumps up its balance sheet
and vacillates publicly about how and when to transition from easy to tight
money?
Clearly, I
can’t answer that. But I know that if
the Markets decide that they are sick and tired of watching the Fed bungle
monetary policy and/or decide the risk of owning long duration assets is
greater than owning cash, they have to power to take matters into their own
hands, i.e. start demanding higher interest rates for the risk that they are
assuming. If that happens and the Fed
loses control of the interest rate curve, there are consequences for both
economic activity and all asset class prices.
[b] as I noted
last week, there are other central banks out there that have also had their
money spigots open---the two obvious being China and Japan. If one or both of these countries decide to
tighten their monetary policies, then the spill over effect into US
securities markets is apt to be very quick.
And as with [a], the Fed’s policy control mechanism could be rendered
useless.
The point here
is that [a] it doesn’t matter which {major} central bank begins the process,
once interest rates start jumping in one sector of the global economy, it will
likely spread very rapidly and [b] it doesn’t change the risks of a botched transition from easy to tight money. Indeed, they are likely increased since
whatever the Fed’s exit strategy is, they will lose control of its execution.
(4)
a blow up in the Middle East . Up until Thursday night, all had been quiet
on the Middle East front save for the revelations on 60 Minutes and other media
outlets that the Benghazi affair was a colossal State Department f**kup. But that is more likely to have domestic
rather than international political repercussions.
Thursday
evening, Israeli air strikes destroyed Russian missiles intended for Hezbollah
near a Russian naval base. We await a
Russian response. As you know I have
been concerned about two potential problems, one of them being that the US ,
having abandoned and betrayed the Israeli’s and Saudi’s, one or both of them
could take matters into their own hands.
To be sure the
Israeli’s have never let US objections stand in the way of what they perceive
to be an existential threat; although it seems reasonable to me that the US
could influence exactly where that existential threat boundary was drawn. Having lost that leverage, it seems to me
the odds of events getting out of control have risen.
(5)
finally, the sovereign and bank debt crisis in Europe . The economic news out of Europe
remained mixed this week. I don’t count
that as a negative. After all, there are
periods when our own data have been mixed and yet the economy continues to
struggle upward. So at the moment, it is
too soon to be concerned. But it is
reason to be alert.
And:
Bottom line: the US
economy continues to improve albeit sluggishly.
I am worried about the potential impact on business and consumer
confidence of the last as well as the upcoming budget battle. The lousy consumer confidence number this
week doesn’t help relieve that concern.
That said, lower sentiment numbers mean nothing unless they get
translated into lower spending---and that hasn’t happened, at least not yet.
The numbers out
of Europe were mixed this week but not negative enough
to warrant altering our forecast.
Monetary policy,
more specifically QEInfinity, remains the major risk to our forecast for
several reasons: (1) it fosters lousy fiscal policy, (2) the longer it goes on,
the greater the risk that the transition from easy to tight money will cause
severe dislocations and (3) the Fed may be in a position where it could lose
control of the transition process [assuming it even has a plan and that the
plan could actually work] to multiple sources---China, Japan, the Markets
themselves to name a few.
This week’s
data:
(1)
housing: weekly mortgage and purchase applications rose;
September pending home sales declined but the Case Shiller home price index
rose,
(2)
consumer: weekly retail sales were mixed as were
September retail sales; consumer confidence dropped markedly; weekly jobless
claims fell less than anticipated; the October ADP
private payroll report showed jobs rising less than estimates,
(3)
industry: September industrial production and capacity
utilization were better than expected; Chicago PMI
was a blow out number; the October Institute for Supply Management’s
manufacturing index was above consensus while the October Market PMI
fell versus the September report; October light vehicle sales were flat with
September; August business inventories and sales rose; the October Dallas Fed
business activity index was disappointing,
(4)
macroeconomic: both the September PPI and CPI
were tame; the FOMC left interest rates and QE unchanged though comments in the
following press release were a bit more hawkish than expected.
The Market-Disciplined Investing
Technical
The Averages (DJIA
15615, S&P 1761) continue to trend higher.
The Dow’s Thursday close below 15550 raised questions about whether last
Friday’s break above the upper boundary of its short term trading range was a
head fake. Yesterday’s finish at 15615
appears to confirm the short term trend (15198-20198) as up. Meanwhile, the S&P remains within its
short term uptrend (1701-1855)
Both of the
Averages are well within their intermediate term (15198-20198, 1617-2199) and
long term uptrends (5015-17000, 728-1850).
Volume on Friday
was down; breadth improved but the flow of funds indicator continues to behave
terribly. The VIX fell, closing within
its short term trading range and intermediate term downtrend.
The long Treasury
was off 1%. While it finished in a short
term trading range and an intermediate term downtrend, it is close to
invalidating the reverse head and shoulders pattern that I have been watching. Such an occurrence would be a negative for
bonds. Finally, the whole fixed income
complex took a shellacking of Friday. I
am not sure why; but I feel reasonably sure that if it continues, it would
spill over into the equity market.
GLD traded down,
ending within a very short term uptrend but a short term and intermediate term
downtrend. It also dropped below its 50
day moving average and appears to be developing a head and shoulders
formation---which if completed would be a negative for GLD.
Bottom line: all trends of both indices are up, though the
strength of the Dow is open to question.
In my opinion, that sets up the upper boundaries of both of the Averages
(17000/1850) long term uptrends as the likely price objectives. If the downside is simply Fair Value
(11575/1436), the risk reward from current levels is not all the attractive.
A trader still
might want to play for another leg up but I would do so only if tight stops are
used. As a longer term investor, I think
that the aforementioned risk/reward ratio is an invitation to lose money. I would, however, take advantage of the
current high prices to sell any stock that has been a disappointment and to
trim the holding of any stock that has doubled or more in price.
In the meantime,
if one of our stocks trades into its Sell
Half Range
Money flow into stocks on
the cusp of a sell signal (short):
Another divergence
(short):
Fundamental-A Dividend Growth Investment Strategy
The DJIA (15615)
finished this week about 34.9% above Fair Value (11575) while the S&P (1761)
closed 22.6% overvalued (1436). Incorporated
in that ‘Fair Value’ judgment is some sort of half assed attempt at getting fiscal
policy under control, a botched Fed transition from easy to tight money, a
historically low long term secular growth rate of the economy and a ‘muddle
through’ scenario in Europe.
The economy
continues to track our forecast. We did
get a negative consumer confidence number this week---this on top of the poor
consumer sentiment number last week.
These stats speak to my concern that the fiscal mess in DC will impact
business and consumer sentiment which will in turn lead to slower economic
growth. That hasn’t shown up in the data
yet and may not ever. But until we know,
it is on my list of worries.
The general
euphoria prevailing among investors regarding the likely continuation of
QEInfinity took a mild hit this week. The
statement from the latest FOMC meeting was more hawkish (tapering starts
sooner) than expected. In addition, the
Chinese central bank continues its tightening moves. My point here is and has been that QE has to
end, what prompts the end is not necessarily in the hands of the Fed, but when it does, the Market impact is likely
to be ugly and the longer it goes on, the uglier the impact.
Bottom line: the
assumptions in our Economic and Valuation Models haven’t changed; but some of
the risks have heightened: two poor consumer confidence numbers could impact
spending, troubling revelations of fraud and solvency problems in the EU banks
could lead to bankruptcies, the Chinese central bank continues its tightening
moves and violence has again flared up in Syria. If any of these prove to be
anything other than noise, they could have an impact on our forecast.
In the meantime,
I remain confident in the Fair Values generated by our Valuation
Model---meaning that stocks are overvalued.
So our Portfolios maintain their above average cash position. Any move to higher levels would encourage
more trimming of their equity positions.
This week, our Portfolios did nothing.
DJIA S&P
Current 2013 Year End Fair Value*
11600 1440
Fair Value as of 11/30/13 11575 1436
Close this
week 15570 1759
Over Valuation vs. 10/31 Close
5% overvalued 12153 1507
10%
overvalued 12732 1579
15%
overvalued 13311
1651
20%
overvalued 13890 1723
25%
overvalued 14468 1795
30%
overvalued 15047 1866
35%
overvalued 15626 1938
Under Valuation vs.10/31 Close
5%
undervalued 10996 1364
10%undervalued 10417 1292
15%undervalued 9838 1220
* 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
economy not the near term cyclical
influences. The model is now accounting
for somewhat below average secular growth for the next 3 to 5 years with
somewhat higher inflation.
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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