The Closing Bell
4/25/15
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%
2015
estimates
Real
Growth in Gross Domestic Product (revised)
0-+2%
Inflation
(revised) 1.0-2.0
Corporate
Profits (revised) -5-+5%
Current Market Forecast
Dow
Jones Industrial Average
Current Trend (revised):
Short
Term Uptrend 17047-19844
Intermediate Term Uptrend 17168-22294
Long Term Uptrend 5369-18973
2014 Year End Fair Value
11800-12000
2015 Year End Fair Value
12200-12400
Standard
& Poor’s 500
Current
Trend (revised):
Short
Term Uptrend 1993-2974
Intermediate
Term Uptrend 1802-2575
Long Term Uptrend 797-2129
2014 Year End Fair Value
1470-1490
2015 Year End Fair Value
1515-1535
Percentage Cash in Our Portfolios
Dividend Growth
Portfolio 49%
High
Yield Portfolio 54%
Aggressive
Growth Portfolio 53%
Economics/Politics
The
economy is a neutral for Your Money. This
week was another slow one for economic releases. Unfortunately, most of what we got was
downbeat: positives---March existing home sales, weekly mortgage and purchase
applications; negatives---March new home sales, month to date chain store
sales, weekly jobless claims, March durable goods orders, ex transportation; the
March Chicago Fed National Activity Index and the April Markit flash PMI;
neutral---none.
New and existing
home sales, ex transportation durable goods orders and the Chicago Fed NAI were
the big numbers this week. Meaning that
once again both on both a quantity and quality basis, the trend in economic
growth is solidly negative.
The
international economic data was more plentiful but regrettably just as bad if
not worse than our own. Worth singling
out is the EU composite PMI as well as its manufacturing and service components. This ends the three week trend of positive
data out of Europe. The question is,
which is the outlier: this week or the previous three?
Our forecast:
‘a much below average secular rate of recovery,
exacerbated by a declining cyclical pattern of growth, 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 hesitant
to hire and invest because the aforementioned, the weakening in the global
economic outlook, along with...... the historic inability of the Fed to
properly time the reversal of a vastly over expansive monetary policy.’
Economists
have discovered just how bad the economy is (medium):
The pluses:
(1)
our improving energy picture. ‘Oil
supplies remain abundant and that is a significant geopolitical plus. Furthermore, lower prices should be constructive
when viewed as either a cost of production or cost of living. However, none of pricing positives have yet shown
up in the macroeconomic stats. Indeed,
as I have been pointing out, that data only gets worse the further oil prices
fall.’
In the last
week, oil prices have been yo yoing above and below the upper boundary of their
recent trading range. It remains a work
in progress; so without some follow through we can’t make be sure of a
reversal. However, it does seem that prices
have found a level of support.
That doesn’t
mean that all is well. Unfortunately at
current price levels much of the fracking production is unprofitable; and it is
fracking that has accounted for the aforementioned abundance. Which brings me to a problem---which is the impact
lower oil prices [employment, rig count, cash flow] have had on the subprime
debt from the oil industry that is on bank balance sheets and the likelihood of
a default.
Defaults coming
in high yield energy bonds (medium):
Update on rig
count (short):
The
negatives:
(1)
a vulnerable global banking system. This week, the DOJ pushed JP Morgan and
Citicorp to agree to a joint settlement on foreign exchange trading fraud that
would cost each of them $1 billion. And Deutschebank
agreed to pay a $2.1 billion penalty for fraud in the Libor price fixing case.
That failed
Austrian bank claims another (bigger) victim (medium):
Another
potential problem is the consequences to the EU financial system of a Greek
exit---which keeps getting more likely.
Many still believe that it will not occur. I am not going to argue with that; but the
odds are going up.
‘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.’
(2) fiscal
policy. This week, congress is trying to get a free trade agreement passed. As you
know, I believe that free trade is an important component in increasing future
economic growth. So while opposition
exists, I am hopeful that it will be approved.
Here is a
counterpoint; but note that most of the author’s objections are not that there
are more losers than winners from the agreement, but how the US should be
dealing with the losers (medium):
(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.
This week,
[a] the Bank of Japan said that it may not reach its 2%
inflation goal until 2016. And, a former BOJ official said that it would
be impossible today for the central bank to exit QE because it would likely
lead to higher interest rates which would crush the bank’s balance sheet
[b] China lowered banking reserve requirements,
In other words,
global QE continues with abandon even as its chickens are coming home to roost
Norway’s
sovereign wealth fund slams central bank monetary policy (medium and a must
read):
(4) geopolitical
risks: tensions in the Middle East remain.
Yemen was back in the spotlight as
[a] the Saudis
continue to have a tough time battling the Houthis and
[b] Iran is
sending a naval convoy to Yemen supposedly bearing Iranian special troops as
well as supplies. In response, the US
sent another carrier group to the Red Sea {there are already two}. Does that mean that two US carrier groups
couldn’t handle eight Iranian ships? Even if it takes three carrier groups, is
there a snowball’s chance in hell that Obama has the balls to engage those
ships? This is just another red line
that will be crossed and another useless squandering of US prestige.
In addition, …I am…concerned about the lack of
appreciation by our leadership of radical Islam’s intent to bring the war to
our home. My fear is that it will take a
major catastrophe [like burning people alive and mass beheadings aren’t enough]
to make Our Glorious Leader realize how irresponsible, unsound, dangerous and
intellectually vacuous our current ‘local law enforcement’,’ jobs for
jihadists’ strategy [?] is.
Meanwhile, in response
to Russia selling an air defense missile system to Iran, the US agreed to sell
a missile defense system to Poland.
(5) economic
difficulties, overly indebted sovereigns and overleveraged banks in Europe and around
the globe. While we were light on US
economic news, the week was jam packed with overseas developments:
[a] China
allowed its first state owned business to default. It also reported its April Markit PMI which showed
contraction,
[b] Japan
recorded a positive trade balance due largely to declining imports which it
trumpeted as a sign of QE {currency devaluation} success. My guess is that the Japanese workingman was
not that enthralled since is meant higher prices on imported goods and no rise
in production {wages},
[c] Europe broke its string of improving economic data
reporting April composite PMI came in below expectations as did both the manufacturing
and service components,
[d] a wee bit closer to home, Puerto Rico appears on
the verge of insolvency,
[e] and
last but certainly not least, the Greek bailout talks have degenerated into a
grade school pissing contest. First, the Greek government confiscated municipality
cash reserves. Second in another attempt
to avoid complying with troika mandates, it began serious negotiations with
Russia on a pipeline deal; to which the EU responded by filing anti-trust
charges against Gazprom. Finally, the
Greek government stated that it would not present bail out fiscal reforms at
the ECB finance ministers’ meeting on Friday.
The ECB then lowered the collateral value of Greek bank assets posted to
secure loans; and judging by the headlines out of Europe on Friday, the Greeks
made good on their promise to present no reform measures and were roundly chastised
by all.
A great article
from a Grexit nonbeliever (medium):
But the Greeks
still face a formidable repayment schedule (medium):
In sum, ‘muddling
through’ remains the assumption in our Economic Model; although that scenario
took a blow this week as the EU economic stats turned poor again, the odds of a
Grexit appeared to rise and the Chinese and Japanese economies continue to
falter. This remains the biggest risk to forecast.
Bottom line: the US economic news maintained its downward
path.
Overseas, the economic
news was plentiful and all bad.
Meanwhile, QE
remains the principal theme among the central bankers with evidence that it is not
only not working but is a hindrance to economic progress.
My immediate concern is that these actions
add fuel to the currency devaluation race---the history of trade wars generally
suggest that they don’t end well. Further, I believe that the ultimate price
for the largest expansion in global monetary supply in history will be paid by
those assets whose prices have been grossly distorted, not the least of which
are US equity prices.
The geopolitical
hotspots remain unresolved (1) the Greeks and the Troika appeared to make no
progress this week, as the Greeks continued to look for ways to weasel out of
repaying their debts, (2) US/Russia standoff heated up and (3) the Middle East violence
continues and with it the odds of a Sunni/Shi’a civil war---which almost
certainly won’t leave oil supplies unscathed.
This week’s
data:
(1)
housing: March existing home sales were double
expectations, while new home sales dropped well below estimates; weekly
mortgage and purchase applications were up,
(2)
consumer: month to date retail chain store sales slowed
again; weekly jobless claims rose versus an anticipated decline,
(3)
industry: March durable goods orders soared but were significantly
impacted by transportation orders, ex transportation, the number was abysmal; the
March Chicago Fed National Activity index was negative; the April Markit flash
PMI was below consensus,
(4)
macroeconomic: none.
The Market-Disciplined Investing
Technical
The indices
(DJIA 18080, S&P 2117) finished the week on a high note. The S&P closed above its 100 day moving
average and its prior high---breaking the string of lower highs. If it ends there on Monday, that trend will
be negated. However, the Dow could not
get above its prior high though it too was above its 100 day moving average.
Longer term, the
indices remained well within their uptrends across all timeframes: short term
(17047-19844, 1993-2974), intermediate term (17168-22294, 1802-2575 and long
term (5369-18873, 797-2129).
Volume rose; breadth
was mixed---the second day in a row in which the Averages were up but breadth
was mixed---reflecting the fact that almost half of all S&P stocks are
trading below their 50 day moving averages.
The VIX has negated the lower boundary of that pennant formation,
suggesting more movement to the downside (up for stocks). However, it is not that far from the lower boundary
of its long term trading range---which should offer stiff if not impassable
resistance. I continue to think that the
VIX remains a reasonably priced hedge.
A Death Cross on
the VIX (short):
NYSE margin debt
hits all time high (medium):
The long
Treasury moved up again on Friday, bouncing back above its 100 day moving
average and the lower boundary of the very short term trading range that was
negated on Thursday. The issue now is,
will it continue higher, making the two day break an outlier or head lower
again and challenge the lower boundaries of its short term trading range and
its intermediate term uptrend? The latter
will create heartburn issues for the ETF Portfolio’s muni bond holdings.
GLD continues
its rotten performance. A head and
shoulders pattern is still developing, a break of which would set it up for a
challenge of its long term trading range.
Bottom line: the
bulls were in charge this week, accepting a snoot full of bad economic and geopolitical
news and trudging higher. Nevertheless,
the Averages are out of sync on their challenge of their very short term downtrends. If those challenges prove successful, then
they will likely make another run at the upper boundaries of their long term
uptrends. Although they must take out their
all-time highs before doing so. I continue
to believe that the upper boundaries of their long term uptrends will strangle
any meaningful attempt to move higher.
That said, longer
term, the trends are solidly up and will be so until the short term uptrends,
at the very least, are negated.
The
long Treasury chart still has some work to do to establish a stable low off the
recent uptrend; and the GLD is fighting to just stay on the chart.
Fundamental-A Dividend Growth
Investment Strategy
The DJIA (18080)
finished this week about 50.2% above Fair Value (12036) while the S&P (2117)
closed 41.6% overvalued (1495). 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, Japan and China.
This week’s poor
US and international economic stats confirm the economic assumptions in our
Valuation Model. In fact, the US numbers
are going from disappointing to worrisome; and the poor EU PMI data brings into
question whether the recent trend in more positive readings was an
outlier. I have not revised our forecast
but we need some good news just to hold the current flat to slightly up
outlook.
Central bank
easy money remains the policy du jour though there continues to be little
evidence that it is working; and what little evidence we got, is not what is
wanted:
(1)
the Bank of Japan said that it may not reach its 2%
inflation goal until 2016. And, a former BOJ official said that it would
be impossible today for the central bank to exit QE because it would likely
lead to higher interest rates which would crush the bank’s balance sheet,
(2) it
did, however, record a positive trade balance due largely to declining imports
which it trumpeted as a sign of QE [currency devaluation] success; although it also
means higher prices on imported goods and no rise in production [wages],
(3) China
lowered banking reserve requirements; but allowed its first state owned
business to default. It also reported its
April Markit PMI showed contraction,
Nevertheless, as
long as investors ignore the data and focus on QEInfinity, stocks are likely to
continue their winning ways---until they don’t.
I don’t see how stocks can make new valuation highs while the global
economy deteriorates. Sooner or later
reality impinges. Just ask Nero.
Geopolitical
risks have not declined. The only progress in the Greek bailout talks this week
was negative as the government pissed off the EU finance ministers by again
delaying the presentation of any reforms while at the same time enacting debt forgiveness
measures---the opposite of what the troika wants to hear.
The
NATO/US/Russia global standoff wasn’t helped by Russia discussing plans for a
gas pipeline through Greece and the US agreeing to sell a missile defense
system to Poland. While in the Middle
East, Iran is sending a naval resupply convoy to Yemen and the US moved another
carrier group into the Red Sea---yeah, that’s going to end well.
‘As I noted last week, I have no clue how to
quantify the aforementioned geopolitical risks’ impact on our Models even if I
could place decent odds of their outcome because: (1) the outcomes are mostly
binary, i.e. Greece either exists the EU or doesn’t and (2) they all most
likely incorporate potential unintended consequences, which by definition are
unknowable. Better to just say these are
potential risks with conceivably significant costs and then wait to see if we
‘muddle through’ or have to deal with those costs. The important investment takeaway, I believe,
is to be sure that your portfolio had at least some protection in the downside.’
Bottom line: the
assumptions in our Economic Model are unchanged but in danger of being revised
down again. If they are anywhere near correct,
they will almost assuredly result in changes in Street models that will their consensus
Fair Value down.
The assumptions
in our Valuation Model have not changed either; though there are scenarios
listed above that could lower Fair Value. That said, our Model’s current calculated Fair
Values are so far below current valuation that any downward revisions by the
Street will only bring their estimates more in line with our own.
Our Portfolios
maintain their above average cash position.
Any move to higher levels would encourage more trimming of their equity
positions.
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.
DJIA S&P
Current 2015 Year End Fair Value*
12300 1525
Fair Value as of 4/30/15 12036 1495
Close this week 18080
2117
Over Valuation vs. 4/30 Close
5% overvalued 12637 1569
10%
overvalued 13239 1644
15%
overvalued 13841 1719
20%
overvalued 14443 1794
25%
overvalued 15045 1868
30%
overvalued 15647 1943
35%
overvalued 16248 2018
40%
overvalued 16850 2093
45%overvalued 17452 2167
50%overvalued 18054 2242
55%
overvalued 18655 2317
Under Valuation vs. 4/30 Close
5%
undervalued 11434 1420
10%undervalued 10832 1345
15%undervalued 10230 1270
* 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.
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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