The Closing Bell
2/20/16
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 16748-17499
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 1888-1975
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 again tilted to the negative side: above estimates: weekly
mortgage applications, weekly jobless claims, month to date retail chain store
sales and January industrial production; below estimates: January housing starts,
purchase applications, February homebuilder confidence, the New York and
Philadelphia Fed February manufacturing indices and January PPI and CPI; in
line with estimates: the January leading economic indicators.
The primary
indicators were evenly matched: January housing starts (-), January industrial
production (+) and January leading economic indicators (0). With the quantity factor negative and the
quality factor neutral, I score this another negative week though only mildly
so.
The January FOMC
minutes released this week (aided by comments from St. Louis Fed chief Bullard)
revealed a Fed that seems confused over whether or not to hike interest rates further
but in all likelihood reflects its realization that it has been wrong on its economic
projections, late to the table in starting a move to monetary normalization and
scared s**tless that it will have to reverse itself in short order.
In sum, the US stats
this week was discouraging again, keeping an overwhelmingly disappointing
series of data intact (four mixed to upbeat weeks and twenty negative weeks in
the last twenty-four). As I noted last
week, I have again lower our 2016 economic forecast to reflect a recession/zero
growth.
The international
economic numbers were again overwhelmingly negative. Plus, worries continued to mount regarding
the strength of European bank balance sheets.
So no help for the US from this source.
In addition,
Draghi gave another of his ‘whatever is necessary’ speeches; and, following
some pretty awful economic data, the Bank of Japan seemed to be considering
another drop in its already negative interest rate policy. In my opinion, any further monetary easing
will simply exacerbate the current unhealthy trend in competitive devaluations.
In summary, the US
economic stats this week were not good, the international data were awful and
the central banks’ renewed love affair with QE will only make matters worse.
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.
Sam
Zell: we are already in a recession (3 minute video):
The
negatives:
(1)
a vulnerable global banking system. My focus over the last month has shifted away
from the US banking system toward the rising risks overseas. Recent warnings from multiple countries, in
particular Germany, Italy and Portugal, about troubles with their banks keeps
the risks of potential bank defaults/insolvencies and unstable currencies on
the table. What is worrisome is the extent of the
leverage on these foreign bank balance sheets as well as their common ownership
of so much sovereign as well as corporate debt [in other words, if one thing
goes wrong, they all own it].
As a reminder, I am not saying that all is well at
home. But I stand by my recent comments
that our financial system is much less at risk than it was seven years, five
years or even two years ago.
Mohammed El Erian on
this problem (medium):
This great article is a bit long but is illustrative of why
the TBTF banks still don’t have their respective houses in order.
(2) fiscal/regulatory
policy. Not much news this week.
(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 central
banksters continued their nefarious policies this week. Draghi gave another of his ‘whatever it takes’
speeches, the Bank of Japan hinted at even deeper negative rates and our own
Fed produced a set of dialectic FOMC minutes whose bottom line was ‘we’re
confused’.
In short,
global central bankers are pushing further into their experimental QE, negative
interest rate Never Neverland. To be
sure, it is impossible to say with certainty that this will all end badly
because the world has never been in these circumstances before. However, we do know what has occurred since
these policies’ inception---sluggish economic performance and gross asset
mispricing and misallocation. So it is
not unreasonable to assume that these after-effects would be reversed---and as
you know, that is my forecast. Our
economy is not going to improve until the Fed stops believing itself all
powerful and all-knowing and goes back to doing what it was originally designed
to do---maintain the value of the dollar and be the lender of last resort in
case of financial crisis.
The failure of
central bank policy (medium):
Monetary
repression cannot create a recovery (medium and a must read):
As I have said repeatedly,
the above doesn’t mean that the central bankers’ anxiety over recession is unfounded. I just changed our forecast to reflect it. My point has been and remains, a recession will
be largely a function of results of an experimental, ill thought out, overly
aggressive QE policy.
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: the Mideast is heating up as Saudi Arabia and Turkey are starting to
take a more active role in the Syrian fight.
I will repeat my position: the US should leave and let them get busy killing
each other. The Saudi’s aren’t our
friends, the Iranians aren’t our friends, the Russians aren’t our friends and
the Turks are more focused on killing the Kurds [who are one of our few friends
in the area] than deposing Assad or defeating ISIS. What worries me is that the Saudi’s/Turks get
involved, get their collective asses kicked by the Russians and then come whining
to us to do something. The more parties
involved in this conflict the greater the chance of something unexpected
occurring.
(5)
economic difficulties in Europe and around the globe. There were few international economic stats
released this week: fourth quarter
Japanese GDP was down versus estimates and January exports fell for the fourth
month in a row; January Chinese exports and imports declined more than
projected, January PPI declined and CPI
was up less than expected. On a brighter
note, January UK retail sales were ahead of forecast. In short, another week of solid under
performance.
In other
economic news:
[a] the
Organization for Economic Cooperation and Development lowered its 2016 global
GDP outlook, mentioning Brazil, Germany and the US as slowing,
[b] oil
prices rebounded on news that Russia and Saudi Arabia had agreed to a freeze in
oil production at current levels IF other OPEC members also complied. Iran, a most important vote, said it would
agree to a production ‘ceiling’. Even if
this all comes about {i} if history is any guide, OPEC members are notorious
for cheating on production quotes and {ii} freezing production at current high
levels is virtually meaningless at the present with demand declining as a
result of slowing economic activity. The
cure to this difficulty is production cuts; so I doubt the current efforts will
have much more than a temporary psychological impact.
Counterpoint (short):
In
sum, the global economic outlook has not improved.
Bottom line: the US data continues to point to a recession. My hope that the rate of slowing may have
stabilized has, alas, been squashed. Of
course, the global economy is certainly not doing anything to brighten the
outlook. Meanwhile, several of the major global
central banks have not backed off the QE policies even though to date those
policies have only made matters worse.
Unfortunately, that may not stop the Fed from reversing its policies if
the Markets continue to get pummeled.
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: January housing starts were awful while
building permits were less than anticipated; weekly mortgage applications were up,
but the more important purchase applications were down; February home builder
confidence was below estimates,
(2)
consumer: month to date retail chain store sales growth
rose slightly versus the prior week; weekly jobless claims declined,
(3)
industry: both the February New York and Philadelphia Fed
manufacturing indices were below expectations; January industrial production
was surprisingly strong,
(4)
macroeconomic: both the January PPI and CPI headline
and ex food and energy readings were hotter than projected; January leading
economic indicators were off, but in line; however, December’s reading was
revised lower.
The
Market-Disciplined Investing
Technical
The indices
(DJIA 16391, S&P 1917) had a great up week, but they ended quietly as
volatility declined, volume rose 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 {16748-17499}, [c] in an intermediate term trading range
{15842-18295}, [d] in a long term uptrend {5471-19343}, [e] and still within a
series of lower highs.
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 {1888-1975},
[d] in an intermediate term trading range {1867-2134}, [e] in a long term
uptrend {800-2161} and [f] still within
a series of lower highs.
The long
Treasury had another good week, having challenged and then failed to break a
very short term uptrend. It finished
above its 100 day moving average, now support and within short term and
intermediate term trading ranges.
GLD ended in very
short term and short term uptrends, as well as substantially above its 100
moving average. There is every sign that
it has at last bottomed.
Bottom line: the
Averages rebounded strongly this week, with the S&P negating the recent
reset of its intermediate term downtrend. The rally did fizzle on Thursday and
Friday though not materially so---which suggests there is more to come on the
upside. That said, the trend since May
2015 of lower highs could not be broken and that hints at limited upside. At this point, we wait for follow through.
Both risk off
trades---GLD and the long Treasury---performed reasonably well in the
rebound. Indeed, GLD was a champ. TLT tried to break a very short term uptrend
but couldn’t. This pin action supports
the case for limited upside.
The correlation between
stock and oil prices (short):
Garbage stock
rally? (medium)
Fundamental-A
Dividend Growth Investment Strategy
The DJIA (16391)
finished this week about 32.5% above Fair Value (12366) while the S&P (1917)
closed 25.1% 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
economic data was again disappointing, reflecting 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 the
Fed encouraged the Markets when the minutes from the January FOMC meeting read
more dovish than the statement following the meeting. St. Louis Fed chief Bullard piled on, saying
that another rate hike would be ‘unwise’.
They were joined in this easy money theme by Draghi and the
Japanese. I don’t need to piss and moan
over this silliness any more than I already have. Short term, the Markets clearly continue to
love QE despite its abysmal record in generating economic growth---but it does
keep mispriced assets 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.
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 16391
1917
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.
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