The Closing Bell
4/6/19
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 14239-30430
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 upbeat: above estimates: weekly mortgage/purchase
applications, weekly jobless claims, March nonfarm payrolls, February consumer
credit, the March Markit services and composite PMI’s, the March ISM
manufacturing index, February construction spending, March light vehicle sales;
below estimates: month to date retail chain store sales, February retail sales,
the March ADP private payroll report, the March Markit manufacturing PMI, the March
ISM nonmanufacturing index, January business inventories/sales; in line with
estimates: February durable goods orders/ex transportation.
The primary indicators
were also positive: February construction
spending (+), March nonfarm payrolls (+), February durable goods orders/ex
transportation (0), February retail sales (-).
I rate the week a plus. Score: in
the last 182 weeks, fifty-nine positive, eighty-three negative and forty
neutral.
The data from
overseas this week was also upbeat largely on the back of a flood of positive
stats from China (absent those, the numbers would have been flat). Three points:
(1) my
skepticism regarding the veracity of Chinese sunny economic reports notwithstanding,
if China’s growth has reaccelerated then this will be a plus for global growth. However, one week does not a trend make; so, I
want to see more confirming data before I account for it in my forecast,
(2) even
if they are totally reliable, don’t forget that there was series of upbeat US
datapoints a month ago that led me to raise the question, ‘were these the first
signs of a turn for the better in the US economic growth rate?’ And it was not to be. Nonetheless, if these stats are real, then we
may be seeing the nadir in global economic growth,
(3) confirming
my doubts was the steady stream of economic growth downgrades this week from
Japan, Germany, Italy and the World Trade Organization. Japan, Germany and the US are among China’s
biggest trading partners; and if those economies are not seeing a pickup in
economic activity, I have to question the magnitude, if any, of Chinese
economic improvement.
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. However, there are some initial
signs that global economic growth could be bottoming. If they presage improvement, then clearly the
near term outlook for economic and corporate profit growth will be
enhanced. Nonetheless even if the
economy were to improve cyclically, it will still be unable to return to its
prior secular rate of growth as a result of too much debt to service.
The
negatives:
(1)
a vulnerable global banking [financial] system.
The liquidity risks in the global
banking system.
Deutschebank’s long history of
compliance failure.
This is great article on why many
bank balance sheets are weaker than they appear and what caused it.
(2) fiscal/regulatory
policy.
The happy talk
about a US/China trade deal just keeps on coming, though the lack of consistency
makes my hair hurt. This week, rumors abounded
that a Trump/Xi meeting was near at hand AND that the deal included a provision
that the Chinese don’t have to fully comply with the terms until 2025. In other words, after Trump leaves office,
even assuming that he is reelected in 2020.
But then those
stories were put to rest when Trump said a meeting could be months away; and
Lighthizer made even less optimistic noises.
Finally on Friday, Xi rekindled hopes saying that the talks were making
great progress. So clearly, we have no
clue on the true state of the talks---that is not a knock; just am observation.
Plus, we don’t
know if the 2025 deadline is one of the provisions. So before getting bent out of shape, we need
to see the final product. But Trump’s
move to offer a similar delay to the Mexican government in the implementation of
corrections to its handling of immigrants on our southern border suggests that
a delayed deadline is now a tactic in ‘the art of the deal’.
To be sure,
all is not bad even if the 2025 deadline is correct. Any increase in trade that results from an
agreement should be a plus for cyclical economic growth. The questions will be [a] the magnitude of
any improvement in trade and [b] whether or not is enough to turnaround the poor
numbers of Japan, Germany and the US.
Bottom line:
whatever the impact that might come from a US/China trade deal, irresponsible
deficit spending will restrain US secular economic growth.
And.
(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.
Little news
this week, although Trump’s comments on Friday about the need for QEIV
demonstrate just how economically challenged he is. He has already set fiscal policy on a reckless
course [running huge deficits at a time in which the country should be
shrinking, or least stop growing, its debt].
Now it seems that he wants a two-fer---easier monetary policy when
interest rates are near historic lows and the Fed still has a $4 trillion
balance sheet.
[Note: I recognize
that Trump and his advisors think that easier money will stimulate economic
growth at a time that is slowing---his contradictory comments about how great
the economy is notwithstanding. Unfortunately,
we already have ten straight years of subpar growth despite QEI, QEII, QEIII
and Operation Twist. What is that
definition of insanity?]
I repeat my
bottom line:
[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 about the strength of the economy 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,
[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.
The Fed can’t fight
a crisis, it can only cause it.
Ditto
the Bank of Japan.
(3)
geopolitical risks:
Europe is a mess
with Brexit [which may or may not have 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 situations in Venezuela, Israel and Kashmir will play out.
https://www.zerohedge.com/news/2019-04-04/brink-war-pakistan-high-alert-indian-military-ready-strike
(4)
economic difficulties around the globe. The stats this week were upbeat driven largely
by the dataflow out of China. As I noted
above, one week’s numbers are hardly a reason to consider altering a forecast,
though it certainly can’t be ignored.
Follow through.
[a] February EU
retail sales were above forecasts while PPI was in line; the March EU
manufacturing PMI was below estimates while the services and composite PMI’s
were above; February inflation was below projections, unemployment was in line;
February German factory orders were below consensus while industrial production
was above,
[b] the March
Chinese manufacturing PMI, the small business PMI, the nonmanufacturing PMI,
the small business services PMI and the composite PMI were better than
anticipated,
[c] Q1 Japanese
manufacturing, services and all industry indices were below estimates, the
nonmanufacturing index was in line; February household spending and cash
earnings were much less than projected; the February leading economic
indicators were slightly better than expected; the March manufacturing index
was better 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 totally irresponsible fiscal and
monetary policies.
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 or lowering the Fed Funds
rate will help support economic growth, in my opinion, it will be disappointed.
The Market-Disciplined
Investing
Technical
The Averages
(DJIA 26424, S&P 2892) continued their advance toward their all- time highs
(26951/2942) with no visible resistance in the way. There are still negatives that may inhibit
momentum---the pin action in the dollar and bonds as well as Monday’s gap up
open (that will likely be closed).
Volume was flat. Breadth improved, though the flow of funds indicators
continues to decline.
The VIX dropped
5 ½ %, ending back below its double bottom and, in the process, voiding the
developing inverse head and shoulders pattern (a plus for stock prices).
The long bond
rallied, its chart remaining strong---in a very short term uptrend and above
MA’s. However, it has yet to close that
gap open of three Friday’s ago. More downside would not be surprising.
And.
The dollar was
up again, this time closing above its prior high. If it remains there through close on Monday,
it will set a very short term uptrend. The
bad news is that it gapped up on last Wednesday’s open and that needs closing.
GLD was off
fractionally. It is still in a solid
uptrend. The other good news is that it
touched and then bounced off the 100 DMA and the double bottom; and last
Thursday’s gap down open needs to be closed.
The bad news is that it continues to develop a head and shoulders
pattern.
Bottom line:
while the Averages are moving into overbought territory, it is not
extreme. There is nothing standing
between them and their all-time highs.
However, there is enough negatives coming from other indicators (mixed signals
from the dollar, the long bond and gold plus Monday’s gap up open) to create
some doubt about the strength of any upward momentum.
Friday in the
charts.
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.
Plus the stampede by the central banks to ease along with the pin action
in the global bond markets, the dollar and gold are confirming further economic
weakness, perhaps, even recession. That
is not my call, at the moment. Certainly,
this week’s Chinese data could point to a potential turnaround in global growth,
but it is way too soon to be getting positive.
In
short, the economy is not a negative [yet] but it is not a plus 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 constructive for secular earnings growth. While there was more happy talk this week on
the US/China trade negotiations, unfortunately, the entire narrative on this
issue has been so muddied by the obvious political/Market oriented nature of
the administration’s comments that I, for one, have no idea about the true
state of the current trade talks with China.
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. This
week’s news flow only adds to my suspicions.
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.
(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’ has returned 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 4/30/19 14132
1738
Close this week 26424
2892
* 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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