Friday, February 13, 2015

The Morning Call---US data gets worse, EU better

The Morning Call

2/13/15

I have a number of family obligations that I have to attend to this weekend; so no Closing Bell.  But I have made a brief summary of the points usually covered in that note.

The Market
           
    Technical

The indices (DJIA 17972, S&P 2088) lifted nicely yesterday, ending within uptrends across all timeframes: short term (16588-19364, 1929-2910), intermediate term (16629-21784, 1753-2467) and long term (5369-18860, 797-2093).  The S&P and NASDAQ closed at all-time highs while the Dow fell short of its mid-December peak (19989).  Momentum continues to shift to the upside.

            Volume rose; breadth improved.  The VIX declined 10%, finishing within its short term trading range, its intermediate term downtrend and below its 50 day moving average.  The drop broke the lower boundary of the developing pennant formation---which if confirmed (at the close today) would be a plus for stocks.

            The latest from Stock Traders’ Almanac:  the pin action around President’s Day (short):

            The long Treasury fell again, but not by much.  It remains within short term, intermediate term and long term uptrends and above its 50 day moving average.   I continue look for price stability; but it is not happening.
           
            GLD’s chart gets sicker by the day.  While it did finish within a short term uptrend and an intermediate term trading range, it is back below its 50 day moving average.  My finger is on the trigger.

Bottom line:  investors’ mood seemed to improve with better geopolitical events out of Ukraine and the EU/Greek discussions.  Momentum and breadth were better, though our internal indicator continues to suggest that all is not well.  The Averages are now out of sync with the S&P hitting at an all-time while the Dow trailed.  However, it is well within striking distance; so this discrepancy can be overcome very quickly.  If that occurs, then the upper boundaries of the indices long term uptrends (18860/2093) will again likely prove difficult resistance. 

The TLT fell once again, dispelling the notion that it had found some stability in yesterday’s pin action. My anxiety grows daily in its absence. GLD is a short hair away from history.
           
    Fundamental
   
       Headlines

            Wednesday’s news flow repeated itself yesterday---poor economic data but positive geopolitical events.   US economic data included higher than expected weekly jobless claims, really poor January retail sales and a stunning decline in December business sales.  Clearly more cognitive dissonance for our forecast.

            Just how bad is the current data flow (short):

            Overseas, Sweden lowered its central bank lending rate (more ‘beggar thy neighbor’) and the third largest Austrian bank announced balance sheet problems resulting from the revaluation of the Swiss franc---neither likely to be a plus for global economic growth.   On the other hand, December Japanese machinery orders were quite strong.  As always, I will take a positive anywhere I can get it.

            ***overnight, a pleasant surprise---in the fourth quarter, EU GDP grew 0.3%, Germany 0.7% and France 0.1%.  Australia spoiled the party by reporting the highest unemployment rate in 13 years.

            The good news was that:

(1)   Merkel seems to have defused the Ukrainian turmoil, [a] providing enhanced autonomy for eastern Ukraine {and Russia’s land bridge to Crimea}, [b] gaining IMF funding for Ukraine to help with its financial problems and [c] end running the US dangerous drive for more weapons for Ukraine and more Russian sanctions.   If this agreement materializes and holds, it would remove a big potential negative from the global economy as well as investor psychology.

The latest from Ukraine---it is not the terms (vague), it is the will to implement                                (medium):

And the US appears to be walking back on Russian sanctions.  We need Putin    as a special advisor for US foreign policy (medium):

(2)   contrary to the Wednesday night rumors of an ‘agreement in principle’ between the EU and Greece over the resolution of Greece’s financial problems, it was still clear by Thursday morning that there was none.  Though the parties were engaging in good faith negotiations.   To be sure, that doesn’t mean that all parties to the discussion are being polite or that a satisfactory solution can be achieved.   But hope springs eternal; and until the fat lady sings, investors seem intent on accepting the most upbeat interpretation of ongoing events. 

The next official meeting date is Monday 2/16 [our Presidents’ Day holiday] and that should provide some more detail on the substance and flexibility of the EU/Greek positions.  I caution again about getting too jiggy over a workable solution being achieved before it actually is.

                 A less optimistic view (medium):

                Germany’s tough choices (medium):

                But they are apparently getting closer (short):

               The latest statement from overnight (short):

Bottom line:  both the US and international economic data flow continue to point to some softening.  However, we can’t dismiss this morning’s upbeat EU GDP news.  This reinforces the recent change in direction of EU stats towards less bad news; and that is good news.  Like the increased sloppiness in US numbers, the question is, are the improving EU data noise or a sign of a shift in direction? Too soon to know; but clearly, this just adds more uncertainty to our outlook.  At the moment, I am making no revisions to our forecast.  I remain hopeful that the US is experiencing just another one of those periodic hiccups that it has in the past; but the added burden of a currency devaluation arms race and poor international stats are making (despite the ray of hope in Europe)  that position increasingly difficult to sustain. 

On the other hand, the two potential nuclear explosions that could derail the global (Ukraine and Greece) economy appear more likely to be resolved satisfactorily.  And that could remove major potential negatives. 

Still, a sluggish US economy that seems to be underachieving with increased vigor, hampered by misguided central bank monetary policies and a slowing global economy is not the best prescription for higher stock valuations when those valuations are already at or near historic highs.

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.
               

            Equity valuations not cheap (medium):

            Great 7 minute video starring Jim Bianco on stock valuations:

      Thoughts on Investing from Josh Brown

A lot of new investors assume that managing money is like golf – where Tiger Woods whips the amateur who steps out on the course with him 100 times out of 100.
But it’s not like that at all.
In investing, unlike golf, the amateur can crush the pro for an appreciable period of time. That’s one of the most wonderful things about the game and one of the most frustrating things about the game, all at once.
In addition, the professional golfer gets to keep his trophies and wins regardless of the subsequent decline in his skills. In contrast, the professional investor’s average or below-average years will dilute the benefit of his “winning” years as mean reversion knocks his lifetime track record back down to earth. Peter Lynch must have known this when he retired in 1990 at the top of his game – he left the magic intact before reality and probability could strip him of it.
Randomness and Time team up to take almost all of us down, one way or the other.
Here are three charts from a recent presentation from Towers Watson on equity investing that show this phenomenon graphically (emphasis mine):
Past performance in particular can sound a plausible basis upon which to form an opinion. This is because we are programmed to recognize patterns in nature and to extrapolate what we believe we have observed. However, studies have shown that there is a high degree of randomness in relative investment returns and that to be statistically significant, a performance record should be intact for nearly 15 years. Few investors meet this criterion. Fewer still meet this requirement and have not experienced other changes which have a direct impact on future performance, such as staff turnover or growth in assets under management which can affect portfolio construction. Consequently, we strongly believe that – considered in isolation – past performance is a poor basis for assessing investment skill.
Josh here – in other words…
Excess returns can show up anywhere, in any portfolio, and are randomly achieved in aggregate:
Screen Shot 2014-02-17 at 9.13.16 PM
Any schmuck can hang with the pros, for a long time, and beat a skilled investor for years before his information disadvantage becomes apparent. And the skilled managers are very capable of underperformance as well, Towers Watson notes that even Warren Buffett recorded two three-year rolling periods of negative relative-performance, despite his 45-year marathon track record of outperformance:
Screen Shot 2014-02-17 at 9.13.34 PM

And finally, we are all, in the end, victims of our own success. Identifying a manager with durable skill and a sustainable investing process only assures one thing – that others will discover that manager as well and pour their dollars in. And then, like hearing your favorite indie band on Top 40 Radio, you’re totally grossed out and uncomfortable. And with good reason – your alpha is now dust in the wind. Nothing ruins an outperforming investor or an indie rock band like mass appeal:
Screen Shot 2014-02-17 at 9.13.57 PM

After seeing these charts and this evidence of futility, you might be asking yourself the following: If anyone can win and anyone can lose at any time in the markets, why bother trying at all?
Fair question. But I submit to you that successful investing is a lifetime pursuit, and in the end, it’s the pursuit itself that offers the rewards along the way. The destination was never the thing – most of us aren’t meant to end up as Peter Lynch or Warren Buffett. No, it was what you learned on the way there that made all the difference. As the poet C.P. Cavafy reminds us:
Ithaka gave you the marvelous journey.
Without her you would not have set out.

A lifetime of outperforming the markets is unattainable for most. But a lifetime of self-improvement and the acquisition of skill and knowledge – that’s available for anyone who’s willing to go for it.

    News on Stocks in Our Portfolios
o    V.F. (NYSE:VFC): Q4 EPS of $0.98 in-line.
o    Revenue of $3.58B (+8.8% Y/Y) misses by $10M.


Economics

   This Week’s Data

            December business inventories rose 0.1% versus expectations of up 0.2%; business sales plunged 0.9%.

   Other

            The burden of US government finances (medium and a must read):

            Fed or fundamentals (short):

Politics

  Domestic

GOP backtracks on immigration (medium):

  International War Against Radical Islam

Closing Bell Notes

1.      The trend in US economic numbers continues to be disappointing.

2.      International economic numbers were mixed this week with some good numbers out of Europe.  The question is, is this noise or a change in trend?

3.      Earnings season:  what started off with potential negative implications fizzled somewhat in the end.  To be sure, fourth quarter final profits will be less than anticipated but they will be much better than I thought two weeks ago.  The question is still guidance and we won’t know that for another three months.  For the moment, this is a byline.

4.      Oil: it is still bouncing around in price and there is still no consensus on whether that is good or bad for the economy/stocks.

5.      Vulnerable banking system: the banksters are back in the headline with a spate of stories on investigations and subpoenas over misdeeds. In addition, Austria’s third largest bank is having balance sheet problems resulting from the Swiss franc revaluation. However, a resolution of the Greek dilemma will ease potential pressure on balance sheets.

6.      Central bank money printing: Sweden climbed on the money for nothing bandwagon this week; however, the main news flow focused on the extent of economic weakness in China and what that might mean for monetary/currency policies.  A weakening yuan will not be great for trade or deflation pressures.

International ramifications of EU QE (medium):

7.      Geopolitical risks: At the moment, the Ukrainian conflict seems to have been defused but at the cost of an implicit Russian success.  That is still a plus.  Greece is still talking.

Bottom line: the trend in the current data flow suggests the risk of slower than expected growth in the US is mounting, though I am not yet making changes in our forecast.  Better reported profits prevented this development from becoming worse; and the improved stats out of Europe raised hope that our ‘muddle through’ scenario is alive and well.  Nonetheless, problems exist outside of Europe leaving the global economy as the biggest negative to our outlook.  The impact of lower oil prices still aren’t apparent except in the oil patch.

            The banksters continue to do their part to weaken investors’ confidence in their financial viability as the central bankers step up their game of ‘beggar thy neighbor’.

            Resolution in Ukraine removes a geopolitical risk; we still know nothing on Greece except that both sides are still talking.  This is not over but the tone has improved.

            The Market technicals improved this week.  The Averages appear to be preparing for another assault on the upper boundaries of their long term uptrends.

            While the resolution of potentially traumatic geopolitical events reduces the risk of an air pocket in equity prices, stocks are still way overvalued by virtually every measure.  But history suggests that any correction will come as a result of some unforeseen event which by definition is unforeseen. 

            Take profits where appropriate, get rid of anything that resembles a loser and learn to love cash.

           




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