The Closing Bell
3/23/19
Statistical Summary
Current Economic Forecast
2018 estimates
(revised)
Real
Growth in Gross Domestic Product 1.5-2.5%
Inflation +1.5-2%
Corporate
Profits 10-15%
2019
Real
Growth in Gross Domestic Product 1.5-2.5%
Inflation +1.5-2.5%
Corporate
Profits 5-6%
Current Market Forecast
Dow
Jones Industrial Average
Current Trend (revised):
Short
Term Trading Range 21691-26646
Intermediate Term Uptrend 14178-30379
Long Term Uptrend
6585-29947
2018 Year End Fair Value
13800-14000
2019 Year End Fair Value
14500-14700
Standard
& Poor’s 500
Current
Trend (revised):
Short
Term Trading Range 2349-2942
Intermediate
Term Uptrend 1353-3163 Long Term Uptrend 913-3191
2018
Year End Fair Value 1700-1720
2019
Year End Fair Value 1790-1810
Percentage Cash in Our
Portfolios
Dividend Growth
Portfolio 56%
High
Yield Portfolio 55%
Aggressive
Growth Portfolio 56%
Economics/Politics
The Trump
economy is a neutral for equity valuations. The
data flow this week was mixed: above estimates: weekly mortgage/purchase
applications, February existing home sales, weekly jobless claims, month to
date retail chain store sales, the March Philly Fed manufacturing index,
January leading economic indicators; below estimates: January factory orders,
the March flash composite, manufacturing and services PMI’s, January wholesale
inventories/sales, the February budget deficit; in line with estimates: the
March housing market index.
However, the primary
indicators were positive: January leading economic indicators (+), February existing
home sales (+) and January factory orders (-).
I rate the week positive. Score:
in the last 180 weeks, fifty-eight positive, eighty-two negative and forty
neutral.
While this week’s
data keeps alive the hope that the US economy could be stabilizing, I don’t
think that we can ignore other developments that seem to be pointing to a world
that is either in or on the cusp of a recession: (1) deteriorating global
stats, (2) falling bond yields and an ever flattening yield curve and (3) the
sudden about face of Fed policy.
On the latter, I
have contended all along that its ‘the economy is improving’ narrative flew in
the face of the facts on the ground. Its
recent policy reversal, in my opinion, confirms that thesis.
For the moment, I
am sticking with my assumption that the US can continue to grow albeit at a reduced
rate even if there is a global recession.
Clearly, this week’s stats support that notion. Nonetheless, it may about to be tested.
Finally, one
week does not a trend make. So, the aforementioned
negatives could prove to be a one off.
Still, another week like the one we just had and the warning light will
start flashing.
The data from
overseas this week was negative, especially the manufacturing stats. That could potentially change if there is a
decent US/China trade deal; though those prospects appear to be diminishing. Net,
net, the global economy remains an impediment to our own economy’s struggle to
sustain growth.
My forecast (for
the moment):
Less government regulation,
(hopefully) getting out of the Middle East quagmire and possible help from a
fairer trade regime are pluses for the long-term US secular economic growth
rate.
However, the
explosion in deficit spending, exemplified by Trump’s new budget proposal, at a
time when the government should be running a surplus, is a secular
negative. My thesis on this issue is that
at the current high level of national debt, the cost of servicing the debt more
than offsets (1) any stimulative benefit of tax cuts and (2) the secular
positives of less government regulation and fairer trade [at least on the
agreements that have been renegotiated].
On a cyclical
basis, the economic growth rate is slowing as the effects of the tax cut wear
off and the global economy decelerates. However,
even if the economy were to improve cyclically, it will still be unable to
overcome the secular negative of too much debt to service.
The
negatives:
(1)
a vulnerable global banking [financial] system.
(2) fiscal/regulatory
policy.
It was yet another
see saw week in the US/China trade talks.
First, Trump/Xi trade summit was apparently pushed out to June. It was then reported that the Chinese were
not happy with the progress of the negotiations. But once again Trump rescued the narrative by
announcing that he was sending Lighthizer to China because the talks were going
so well. Finally, he reversed himself
saying that the tariffs on Chinese goods could remain for a long time [meaning apparently
that the talks aren’t going so well].
I opined
earlier this week that I don’t think anyone knows the true state of the negotiations,
including perhaps [with all due respect] Lighthizer. The Chinese are just as tough as the Russians
and remember how long it took to reach some sort of reduction in tensions in
the Cold War. It was only after Reagan
hit them in the head with a 2x4, that they chose to back off. And then it was only because they had no
other choice. I see the US/China trade
standoff in the same light.
To repeat, I
think that Trump is doing the right thing; but I also think it will take a long
time before the Chinese play fair on industrial policy and IP theft---if they
ever do.
Bottom line:
whatever the impact that might come from a US/China trade deal, irresponsible
deficit spending will restrain US economic growth.
Budget deficit
hits record level.
(2)
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 asset bubbles in the stock market as well as
in the auto, student and mortgage loan markets.
This week’s
major headline was the FOMC meeting and the subsequent formal introduction into
a policy statement of the ‘patient’ narrative that has dominated Fed speeches
the last two months. Indeed, the Fed
statement was even more dovish than most had anticipated, nixing any rate hikes
in 2019, stopping QT earlier than expected and downgrading [just barely] its
economic forecast.
I am not going
to repeat my prior comments in Thursday and Friday’s Morning Calls, except to observe
again that [a] the 180 degree turn in policy in the last three months {i} demonstrates
the extent to which the Fed has been kidding itself/you/me and {ii} clearly
supports my long term thesis that the Fed has never in its history managed a
successful transition from easy to normal monetary policy and [b] easy money will
do little to improve economic growth but, if history is any guide, will keep
investors buying every asset in sight.
I believe that
the Fed has finally painted itself into a box from which there is no easy exit:
[a] if inflation accelerates, the Fed will ultimately be compelled to
tightening policy irrespective of Market reaction or [b] if economic growth
continues to decelerate, any additional QE will prove ineffective in halting
the slowdown; and Markets don’t like recessions. Must
read:
The Fed’s
historic mistake.
I said that I would
try to find an analyst with a positive take on the FOMC’s new policy. So far, these are as close as I can get.
And.
(3) geopolitical
risks:
Europe is a
mess with Brexit [which now has a very short shelf life], riots in France and
fiscal policy discord in Italy; and it continues to be reflected in a negative
way in the economic stats.
You never know
how the situation in Venezuela plays out.
And
now we must deal with Trump’s support of Israel’s annexation of the Golan Heights [I wonder if the same thesis
holds for Russia’s takeover of the Crimea].
[Note, this author has a history of being extremely pro-Russian]
(4)
economic difficulties around the globe. The stats this week were again negative,
continuing to point to a global economic slowdown or worse:
[a] January EU construction
output fell, its January trade balance improved, March economic sentiment and
consumer confidence dropped less than expected; the March EU flash composite and
manufacturing PMI’s were below estimates {as was the German flash manufacturing
PMI} while the flash services PMI was in line;
February UK retail sales were much better than forecast, February
inflation was in line, PPI was slightly below forecasts and the industrial
orders index declined,
[b] January Japanese industrial production declined
less than anticipated capacity utilization was terrible, the January
leading economic index was in line; the February flash manufacturing PMI was
below projections while February inflation ran hotter than consensus.
Bottom
line: on a secular basis, the US economy
is growing at an historically below average rate. Although some recent policy changes are a plus
for secular growth, they are being offset by a totally irresponsible fiscal
policy.
Cyclically, the
US economy is slowing as evidenced by the data from both here and abroad. Further, the reversal of Fed policy and
plunge in interest rates put an exclamation point of that notion.
Finally, any move to a more dovish
stance by the Fed is not likely to have an impact, cyclical or secular, on the
economy. QE II, III, and Operation Twist
didn’t, and QE IV probably won’t either.
Meaning that if the Fed thinks backing off QT will help support economic
growth, in my opinion, it will be disappointed.
The Market-Disciplined
Investing
Technical
The Averages
(DJIA 25502, S&P 2800) executed a waterfall formation on Friday, with the
S&P closing right on the lower boundary of its very short term uptrend and
the critical 2800 level (clearly below other technicians 2811/2815 resistance
quad top). So, as of the Friday close,
nothing is technically amiss---just a test of support levels. Of course, how
the S&P handles this level will likely have a major impact on directional
momentum. Nothing to do but wait for Monday.
Volume was up
and breadth negative.
The VIX soared
21%. Intraday, it challenged its 200 DMA
and fell back. It continues to mirror
the S&P closely (VIX 200 DMA = S&P 2800); so, I see nothing
informational in Friday’s pin action.
The long bond popped
1 ½% on big volume, suggesting more upside.
However, it gapped open on Friday and usually those gaps are
closed. But whenever that occurs, it will
have no negative impact on the chart. At
the risk of stating the obvious, bond investors are clearly expecting further rate
declines (a weaker economy).
The dollar was
up slightly, ending with a positive chart (above both MA’s, in a short term
uptrend and above a prior low). UUP
doesn’t always rise on lower interest rates.
In this case, I think that it means that investors are more concerned
about the rest of world’s economic growth than the US’s.
GLD continued its
advance off a minor double bottom and remains above both MA’s and in a short
term uptrend.
Bottom line: the
S&P closed at an important crossroads.
Monday’s pin action will be important.
It could also tell us whether or not equity investors have finally
concluded that the Fed’s QE policy is not as good as they have heretofore
believed.
TLT, GLD and UUP
are, at the moment, pointing to lower interest rates/a weaker economy.
Friday in the charts.
One last warning on oil.
Fundamental-A Dividend Growth
Investment Strategy
The DJIA and the
S&P are well above ‘Fair Value’ (as calculated by our Valuation Model), the
improved regulatory environment and the potential pluses from trade notwithstanding. At the moment, the important factors bearing
on Fair Value (corporate profitability and the rate at which it is discounted)
are:
(1)
the extent to which the economy is growing---which the
trend in the dataflow suggests is meager.
I have already noted that this week’s move by the Fed plus the fall in
interest rates raise questions as to whether the globe and, perhaps, even the
US is slipping into recession. That is
not my call, at the moment; but it is subject to change.
In
short, the economy is not a negative [yet] but it is not a positive at current
valuation levels.
(2)
the success of current trade negotiations. If Trump is able to create a fairer political/trade
regime, it would almost surely be a plus for secular earnings growth. Unfortunately, I can’t tell from the
inconsistent narrative the true state of the current trade talks with China. Although the one fact that we do know is that
the Trump/Xi trade summit has been postponed.
As you know, I have been somewhat skeptical that a comprehensive
agreement on Chinese industrial policy and IP theft could be reached in the
short term. So, this delay is not
surprising.
My
concern is not that we get no deal or a small deal but that the Chinese out maneuver
Trump and he gives away the need for progress on industrial policy and IP theft
just to get a deal.
(3) the
resumption of QE by the global central banks.
If QEII, QEIII and Operation Twist are any guide, the latest Fed move
should be a big plus for the Markets, at least in the short term (maybe).
(4)
current valuations. the Averages have recouped much of their
October to December loss and appear on their way to regaining even more. Since they were grossly overvalued [as
determined by my Valuation Model] in October, they are now just slightly less
grossly overvalued. That said, if the
latest central bank liquidity surge continues, valuations will remain
irrelevant.
As
prices continue to rise, I will again be focusing on those stocks that trade
into their Sell Half Range and act accordingly.
Bottom line: fiscal
policy is negatively impacting the E in P/E, although a new regulatory environment
is a plus. Any improvement in our trade regime
with China should have a positive impact on secular growth and, hence, equity
valuations---if it occurs. More
important, a global central bank ‘put’ appears to be returning and, if history
is any guide, will almost assuredly be a plus for stock prices.
As
a reminder, my Portfolio’s cash position didn’t reach its current level as a
result of the Valuation Models estimate of Fair Value for the Averages. Rather I apply it to each stock in my
Portfolio and when a stock reaches its Sell Half Range (overvalued), I reduce
the size of that holding. That forces me
to recognize a portion of the profit of a successful investment and, just as
important, build a reserve to buy stocks cheaply when the inevitable decline
occurs.
DJIA S&P
Current 2019 Year End Fair Value*
14600 1800
Fair Value as of 3/31/19 14074
1731
Close this week 25502
2800
* 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.
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