2/27/16
Statistical
Summary
Current Economic Forecast
2015
estimates
Real
Growth in Gross Domestic Product (revised)
-1.0-+2.0%
Inflation
(revised) 1.0-2.0%
Corporate
Profits (revised) -7-+5%
2016 estimates
Real
Growth in Gross Domestic Product -1.25-+0.5%
Inflation
(revised) 0.5-1.5%
Corporate
Profits (revised) -15-0%
Current Market Forecast
Dow
Jones Industrial Average
Current Trend (revised):
Short
Term Downtrend 16725-17471
Intermediate Term Trading Range 15842-18295
Long Term Uptrend 5471-19343
2015 Year End Fair Value
12200-12400
2016 Year End Fair Value
12600-12800
Standard
& Poor’s 500
Current
Trend (revised):
Short
Term Downtrend 1874-1960
Intermediate
Trading Range 1867-2134
Long Term Uptrend 800-2161
2015 Year End Fair Value
1515-1535
2016
Year End Fair Value 1560-1580
Percentage
Cash in Our Portfolios
Dividend Growth
Portfolio 53%
High
Yield Portfolio 54%
Aggressive
Growth Portfolio 53%
Economics/Politics
The
economy provides no upward bias to equity valuations. This
week’s dataflow was mixed by volume: above estimates: weekly purchase applications,
January existing home sales, month to date retail chain store sales, January
personal income and spending, February consumer sentiment, January durable
goods orders, the January Chicago Fed national activity index and fourth
quarter GDP; below estimates: weekly mortgage applications, January new home
sales, February consumer confidence, weekly jobless claims, both the February
flash manufacturing and services PMI’s, the February Richmond and Kansas City
Fed manufacturing indices; in line with estimates: the December Case Shiller
home price index and the December trade balance.
However, the
primary indicators were strongly upbeat: January existing homes sales (+), January
durable goods orders (+), fourth quarter GPD (+), January personal income and
spending (+) and January new home sales (-).
This overall
showing was the best in six months and the strength in the primary indicators perforce
makes me question my newly revised forecast.
Of course, one week does not a trend make; and clearly it is an outlier
in the last twenty five weeks (five mixed to upbeat weeks and twenty negative
weeks in the last twenty-five). Nonetheless,
I am on alert.
St. Louis Fed
chief Bullard made an appearance on CNBC in which he proclaimed that the
economy was just fine but that another interest hike could be harmful. My take is that it revealed a Fed that realizes
that it has been wrong on its economic projections, late to the table in
starting a move to monetary normalization, scared s**tless that it will have to
reverse itself in short order and still clueless as to why nothing that they
have done has worked.
In sum, the US stats
this week were mixed but the primary indicators were quite positive---enough so
that I wonder if I didn’t jump the gun on my recession call. Certainly, more data is needed before I get
too serious about it.
What few international
economic numbers we got were negative.
Plus, worries continued to mount regarding the strength of European bank
balance sheets. So no help for the US
from this source.
Importantly, the
G20, the ECB and the Fed all meet in the next two weeks. I am sure that there will be some investment
fireworks whether or not anything substantial comes from any of these
gatherings. In advance of the G20
meeting, the Chinese did promise to keep the yuan stable and institute fiscal
stimulus. Given their record on honesty,
this has to be viewed with some skepticism.
Nonetheless, were it to occur, it would be a big plus.
In summary, the US
economic stats this week were better than what has been the norm of late and the
international data were poor but sparse.
Meanwhile, the central bankers have numerous opportunities in the next two
weeks to delight and thrill investors.
Our forecast:
a recession or a zero economic growth rate, caused
by too much government spending, too much government debt to service, too much
government regulation, a financial system with conflicting profit incentives
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.
The
negatives:
(1)
a vulnerable global banking system. This week we received several bits of data:
[a] Standard Chartered, a large UK bank focused on emerging market lending,
reported losses significantly higher than anticipated, [b] the largest fracker
in North Dakota is suspending its fracking operation, suggesting that all is
not well, financially speaking, and hence neither are its banks and [b] JP
Morgan added $500 million to its loan loss reserves.
Along the lines of the latter, the FDIC warned of growing
credit risks in US banks.
None of these necessarily means that global banks are
tanking, but clearly they are not positive signs---which keeps us from concluding
that they are not tanking.
This is an expansion on the Cleveland Fed financial stress
index that was released this week (medium):
The impact of oil on financial institutions (medium:
Private equity firms are now
private debt firms (medium):
(2) fiscal/regulatory
policy. Not much news this week. But this is a great article on how our
mismanaged fiscal policy has contributed to the current economic malaise
(medium and a must read):
(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.
The news this
week included [a] the Bank of China continued to pump liquidity into it
financial system, [b] hawkish St. Louis Fed chief Bullard reiterated on CNBC
his thinking that further rate hikes would be ‘unwise’ and [c] the IMF calling
for ‘bold’ action from the G20 {which meets this weekend} to prop up demand. Unfortunately, the IMF plea was for fiscal
action, something that will not likely happen here until at least early 2017,
may never occur in the EU as long as the Germans have their way and has already
taken place in Japan and China---not that they couldn’t do more.
And speaking of
China. Ahead of this weekend’s meeting
in Singapore, the government announced several measures to deal with its
current economic problems including promises to keep the yuan stable and [echoing
the IMF plea] to increase fiscal stimulus.
Whether or not the Chinese really mean it is another question---remember
they lie a lot about their economy and policies. Nonetheless, if they truly adopt these
measures, it would be a plus. Time will
tell.
David Stockman
on Chinese policy alternatives (medium):
Of course, the
G20 could always agree to pursue more of the same useless QE or negative
interest rate policies as some sort of substitute for fiscal action. And barring a dramatic turnaround among the
policy makers that would likely be exactly what they do. Which is to say more Keynesian monetary
stimulus in the hopes of generating consumer spending. ‘Hopes’ being the operative word. Because nothing that they have done thus far
has worked and any add on QE or negative interest rate policies will likely only
make matters worse. (must read):
As usual, those
policies continue to inject euphoria among the stock guys because the central bankers’
only true accomplishment has been to drive asset prices ever higher as earnings
decline ever further. Sooner or later something
has to give because the logical conclusion of this trend is to pay infinity for
no earnings/no earnings growth. I think
it likely to be ugly when that happens.
You know my
bottom line: sooner or later, the price will be paid for asset mispricing and
misallocation. The longer it takes and
the greater the magnitude of QE, the more the pain.
(4) geopolitical
risks: it appears there has been an agreement on a ceasefire in Syria, whatever
that means---which if we use Ukraine as the latest example of a ceasefire where
Russia was involved, means nothing
My chief
concern is that if the Saudi’s/Turks keep getting more involved, there is the
potential that get their collective asses kicked by the Russians and then come whining
to us to do something.
(5)
economic difficulties in Europe and around the
globe. There were few international
economic stats released this week: the February EU composite PMI hit a fourteen month low,
with French and German readings in negative territory; January EU inflation was
below consensus; German business sentiment declined and the February Japanese
flash PMI came in below expectations.
A bull on Japan (medium):
In other
economic news:
[a] all
three ratings agencies lowered the credit rating of Brazil to junk,
[b] the
Saudi Oil minister ruled out any oil production cuts in the near future and
Iran characterized a freeze of oil production as a ‘joke’. But then the Nigerian oil minister said OPEC
would meet to consider production cuts. Yeah, right. Talk about talking your book.
Of
course, as long as demand is declining as a result of slowing global economic
activity, only an agreed upon meaningful reduction in supply will have any long term positive effects on oil
prices. And even then, it may mean
nothing given historical inclination of OPEC members to cheat on production
quotes.
That said, on
Thursday, Whiting Petroleum, the largest fracker in North Dakoda, suspended its
fracking operations. While it is tough
to know whether or not this is the start of reduction in global oil supplies,
if it is, it could also be the end of declining oil prices. Of course, there are a lot of other factors
that play into that outcome: how much the Iranians and Iraqis intend to ramp up
production and how much demand is being removed from the market by the slowing
global economy. Unfortunately, what it
most likely means short term is that the frackers are having problems and hence
so are the banks.
In
sum, the global economic outlook has not improved.
Bottom line: the aggregate US dataflow continues to point
to a recession though this week’s primary indicators give me pause. On the other hand, the global economy did
nothing to brighten the outlook. Meanwhile, the upcoming meetings of the G20,
the ECB and the Fed provide the major global central banks with ample chances
to enhance and prolong QE policies even though to date those policies have only
made matters worse.
A deteriorating
global economy and a counterproductive central bank monetary policy are the biggest
economic risks to our forecast.
This week’s
data:
(1)
housing: weekly mortgage applications dropped but
purchase applications were up; the December Case Shiller home price index was
up, in line; January existing home sales were better than expected but new home
sales were worse,
(2)
consumer: month to date retail chain store sales growth
rose versus the prior week; February consumer confidence was disappointing
while consumer sentiment was better than forecast; weekly jobless claims
increased more than projected; January personal income and spending were ahead
of consensus,
(3)
industry: the January Chicago Fed national activity
index was strong; the February flash manufacturing index was below estimates
while the services PMI was terrible; January durable goods order were much better
than anticipated; the February Richmond and Kansas City Fed manufacturing indices
were lower than projected,
(4)
macroeconomic: fourth quarter GDP was much stronger
than consensus; the December trade deficit was slightly below expectations.
The
Market-Disciplined Investing
Technical
The indices
(DJIA 16639, S&P 1948) had another great up week, but they ended quietly as
volatility declined, volume rose a tad and breadth remained mixed.
The Dow closed
[a] below its 100 day moving average, now resistance, [b] below its 200 day
moving average, now resistance, [c] below the lower boundary of a short term
downtrend {16725-17471}, [c] in an intermediate term trading range
{15842-18295}, [d] in a long term uptrend {5471-19343}, [e] and made a second higher
high last week.
The S&P
finished [a] below its 100 day moving average, now resistance, [b] below its
200 day moving average, now resistance [c] within a short term downtrend {1874-1960},
[d] in an intermediate term trading range {1867-2134}, [e] in a long term
uptrend {800-2161} and [f] made a one day higher high on Thursday, leaving open
the question that it might have been a head fake.
The long
Treasury took a break last week. On
Friday, it finished below the lower boundary of its very short term uptrend; if
it closes there on Monday, the trend will be voided. On the other hand, it remained within a short
term uptrend and above its 100 day moving average. So bond prices may be consolidating after a
big run up; but it will take more than a break of a very short term uptrend to
make me think that we have seen the highs.
GLD ended in very
short term and short term uptrends, as well as substantially above its 100
moving average. The rally continues.
Bottom line: this
week’s pin action was confusing as hell.
I can name just as many technical factors that point to higher stocks as
I can that point to lower stock prices.
So short term, I don’t have a clue on Market direction. That said, if stocks do go higher, I remain
firmly convinced that [a] we will not see a new all-time high and [b] we haven’t
seen the lows of this cycle yet.
Update on best
stock market indicator ever (medium):
Fundamental-A
Dividend Growth Investment Strategy
The DJIA (16639)
finished this week about 34.5% above Fair Value (12366) while the S&P (1948)
closed 27.1% overvalued (1532). 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 primary
indicators were very strong. Whether or
not this was merely an outlier or a sign of things to come will be my focus in
coming weeks. For the moment, I am
sticking with our newly revised forecast for recession or zero growth. The global economy remains a mess, its banking
system increasingly infirm and the tensions in the Middle East raise the risk
of some untoward event igniting all-out war. The risk here is that many Street economic forecasts
are too optimistic (and they assume none of the above occurs); and if they are revised
down, it will likely be accompanied by lower Valuation estimates.
This week, St.
Louis Fed chief Bullard, a major hawk on the Fed, repeated his ‘another rate
hike would be unwise’ statement on CNBC, providing added emphasis to the point that
the Fed has blown the transition to normalized monetary policy, that the risk
of a recession has risen (his comments to the contrary notwithstanding) and,
therefore, the clincher, the Fed has almost no bullets with which to combat
it---save negative interest rates.
I have discussed
and linked to enough articles on that subject to not have to repeat the
negative impact and consequences of such an ill begotten policy---the bottom
line of which is that it will only exacerbate the impending recession and make
a return to normalized monetary policy all the more difficult and painful.
That said, short
term, the Markets clearly continue to love QE despite its abysmal record in
generating economic growth. And there
will be plenty of openings for even more QE coming out of those big three
meetings discussed above. Regrettably, as
long as that lasts, mispriced assets will remain in nosebleed territory. Long term. I believe that the longer easy
money policies of the central banks last and the larger the magnitude of QE,
the greater the Market pain when it is finally over or when the Markets finally
figure out the shell game.
Whenever that happens, I believe that the cash
generated by following our Price Discipline will be welcome when investors wake
up to the Fed’s (and other central bank) malfeasance because I suspect the
results will not be pretty.
Net, net, my two
biggest concerns for the Markets are (1) declining profit and valuation
estimates resulting from the economic effects of a slowing global economy and
(2) the unwinding of the gross mispricing and misallocation of assets following
the Fed’s wildly unsuccessful, experimental QE policy.
More on earnings
(medium):
Bottom line: the
assumptions in our Economic Model are unchanged. If they are anywhere near correct, they will
almost assuredly result in changes in Street models that will have to take their
consensus Fair Value down for equities. Unfortunately,
our own assumptions may be too optimistic, making matters worse.
The assumptions
in our Valuation Model have not changed either; though at this moment, there
appears to be more events (greater than expected decline in Chinese economic
activity; turmoil in the emerging markets and commodities; miscalculations by
one or more central banks that would upset markets; a potential escalation of
violence in the Middle East and around the world) that could lower those
assumptions than raise them. That said, our
Model’s current calculated Fair Values under the best assumptions are so far
below current valuations that a simple process of mean reversion is all that is
necessary to bring Market prices down significantly.
I
can’t emphasize strongly enough that I believe that the key investment strategy
today is to take advantage of any further bounce in stock 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. As a secondary objective, I would reconsider
any thoughts of ‘buying the dip’.
Bear
in mind, this is not a recommendation to run for the hills. Our Portfolios are still 55-60% invested; but
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.
More
investment thoughts from Lance Roberts (medium):
DJIA S&P
Current 2016 Year End Fair Value*
12700 1570
Fair Value as of 2/29/16 12366
1532
Close this week 16639
1948
Over Valuation vs. 2/29 Close
5% overvalued 12984 1608
10%
overvalued 13602 1685
15%
overvalued 14220 1761
20%
overvalued 14839 1838
25%
overvalued 15457 1915
30%
overvalued 16075 1991
35%
overvalued 16694 2068
Under Valuation vs. 2/29 Close
5%
undervalued 11747
1455
10%undervalued 11129 1378
15%undervalued 10511 1302
* 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 47 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.
