The
Closing Bell
5/18/19
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 14389-30580
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 1365-3175 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 positive: above estimates: the May housing market
index, weekly jobless claims, May consumer sentiment, the April small business
optimism index, the May NY and Philly Fed’s manufacturing indices, April
import/export prices; below estimates: weekly mortgage/purchase applications,
April housing starts, April retail sales, April industrial production; in line
with estimates: month to date retail chain store sales, April leading economic
indicators.
However, the primary
indicators quite negative: April housing starts (-), April retail sales (-),
April industrial production (-) and April leading economic indicators (0). I rate the week a neutral. Score: in the last 188 weeks, sixty-two positive,
eighty-four negative and forty-two neutral.
One observation:
the two Fed manufacturing indices and
consumer sentiment are the first datapoints that we have from May and they were
positive. Its too early to know if they
represent May’s economic activity in general; but if they do, then they would
indicate a continuation of the better than expected results from the first
quarter.
The data from
overseas this week was a bit mixed, though Chinese stats were lousy (however, having
questioned the veracity of the recent spate of very upbeat Chinese economic indicators,
it would be unfair of me to but too much emphasis on these disappointing
results). So, no help there for our own
economy.
[a] March EU industrial
production fell but it was in line with forecasts, April CPI was also in line while
its March trade balance and construction output were better than anticipated;
Q1 German GDP advanced but was also in line; Q1 EU GDP and employment were like
wise in line,
[b] April Chinese
fixed investments, industrial production, retail sales and vehicle sales were
below expectations;,
[b] March Japanese
leading economic indicators and April machine tool orders were below estimates
while April PPI was above.
Developments
this week that impact the economy:
(1)
trade: this week was filled with more sound and fury which
to date has signified nothing. However,
there were two potentially important developments:
[a] Trump
suspended the imposition of auto tariffs on the EU, Japan and Canada for six
months which suggests that {i} he doesn’t want a two front trade war and {ii}
he believes that the China trade dispute could be a lengthy affair. Or was it just part of ‘the art of the
deal’?
[b]
Trump banned US companies from doing business with China’s biggest and most
important technology {5G} company. The
Chinese responded by saying that this is the ‘nuclear option’ which I assume
means that if he didn’t before, the Donald now has their attention. Its significance is that it goes to the heart
of why there is a trade war in the first place---Chinese industrial and IP
theft {mostly in the area of technology}policies.
It sure seems
like the Donald’s recent actions in the US/China trade negotiations point to a
dead seriousness to correct unfair Chinese trade practices versus trying to just
get a passable deal to be touted before the 2020 elections. If so, then I will be wrong in my original
assumptions about Trump’s objective and the likely results. I am not going to conclude that yet. But if it is so, this standoff is going to
last a lot longer than many believe---unless the Chinese fold, which I doubt
but also could be wrong about. (how is
that for multiple caveats?)
I will
repeat my bottom line: [a] we can’t believe a thing that gets said by either
party, [b] no deal is better for long term US secular economic growth than a
crumby deal, but [c] short term, a crumby deal will be better for the economy than no deal, [d] if
the new tariffs are going up, economic and corporate profit expectations will
likely start to be reduced with the concomitant impact on equity valuations and
[e] hoping for a deal, won’t make it so.
***late Friday,
US and Canada reach agreement for lifting tariff on steel and aluminum.
(2)
the increasing tensions with Iran. While I am not even going to speculate about
a shooting war, lots can happen short of that which could still drive oil
prices higher---which, in turn, would be yet another drag on economic growth. I have no idea what the odds are of any such
development, though the US pulling out employees out of its embassy in Iraq and
US allies removing troops from Iraq can’t be a good sign.
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 (running monstrous deficits at
full employment adding to too much debt) and monetary (pushing liquidity into
the financial system that has done little to help the economy but has led to
the gross mispricing and misallocation of assets) policies.
Cyclically,
given the better than expected Q1 GDP number and first quarter earnings along
with the shift in the dataflow from negative to neutral, the US economy may be
starting to re-accelerate which would clearly be good news and result in an
upward revision of my economic growth forecast.
However, I don’t see how that number could move markedly higher while
the rest of the world languishes, trade wars inhibit commerce and the US
continues to pursue an extremely irresponsible expansive fiscal policy.
The Market-Disciplined
Investing
Technical
The Averages (25764, 2859) took a breather on
Friday again on declining volume and weak
breadth. However, their charts are strong
as (1) both remain above their DMA’s, (2) both negated their very short term
downtrends and (3) the S&P finished above the April 1st gap up
open. The assumption has to be that they
will challenge their all-time highs. The
caveat is that a failure to do so would set that level up as a double top.
The VIX was up 4 ½ %, but remained below its 100 DMA for a third day
(reverting to resistance) and its 200 DMA for a third day (now support; if it
remains there through the close next Monday, it will revert to
resistance). While it is still in a
solid very short term uptrend, the MA’s pose stronger resistance than the very
short term uptrend does support.
The long bond rose ¼ %, finishing above both
MA’s, in a very short term uptrend but still slightly below its newly set two
year high.
The dollar was also up ¼ %, ending right on a
three year high and is now 15 cents from a ten year high. So, the chart remains quite positive though (1)
that ten year high should offer strong resistance and (2) UUP has two unfilled
gap up opens below current price levels.
GLD dropped an additional ¾
%, ending its attempt to reestablish some upside momentum. Its 100 DMA now represents resistance. Plus, it still hasn’t fulfilled the downside objective
set by that recent head and shoulders formation.
Bottom line: the indices’ lower close on
Friday shouldn’t alter the assumption that another challenge of their all-time
highs is coming soon. However,
failure to do so will create a double top.
The pin action in the dollar continues to
point at a stronger economy/higher rates; and GLD confirms that scenario. Both are supporting the positive equity pin
action. What bothers me is that TLT
making a new high indicates a weaker economy.
As you know, I believe that the bond market is much better in
anticipating economic developments than any others. So, color me confused.
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. The [a] surprisingly upbeat Q1 GDP report,
[b] dataflow of the last month, [c] the markedly better first quarter earnings
season and [d] the initial stats from May, all point to an improving economy. On the other hand, a prolonged and nasty
trade war with China could put a damper on both consumer sales and business
investments. So, I am hesitant to make
any upward revision in my economic growth outlook until there is clarity on trade.
It is
important to remember that my current outlook is for sluggish growth, not
recession. And that is predicated on the
restrictive impact of too large a deficit and national debt. That is only getting worse. So, any upgrade to my forecast will likely be
minor and short in duration.
In short, the economy is a mild plus but subject to change.
(2)
the success of current trade negotiations. If Trump can create a fairer political/trade
regime, it would almost surely be constructive for secular earnings growth. Unfortunately, the barely revised NAFTA
agreement suggests little improvement.
On the
other hand, the Donald’s recent actions on US/China trade relations suggest
that he is prepared to go to the mat in order to achieve a fairer trade regime
with China. In this case, going to the
mat could be a long, drawn out affair given the past intransigence of the
Chinese. While there is some debate
about the extent of economic damage done by the trade war to date, if this
dispute continues to escalate as currently seems likely, then clearly whatever
harm has been done is going to get worse.
That
would mean larger earnings revisions which analysts will have to make. They may not have changed them at this point
because the damage appears to be limited.
However, a protracted, nasty trade war will likely have a wider and
deeper impact on US corporate earnings---assuredly negative.
Unfortunately,
the entire narrative on this issue has been so muddied by the obvious
political/Market oriented nature of the administration’s comments that we can’t
really be sure of the true state of the current trade talks with China. In short, developments could turn on a dime.
(3)
the resumption of QE by the global central banks. Any potential
weakening in US economic growth resulting from a trade war will likely raise
the odds of Fed easing. If QEII, QEIII
and Operation Twist are any guide, this should be a plus for the Markets; and,
indeed, it has been as Markets rally in the face of lousy news.
(4)
current valuations. I believe that Averages are grossly
overvalued [as determined by my Valuation Model].
Remember that
the earnings assumption in the Model is a ten year time weighted moving
average. So even if the better than
anticipated Q1 data is real, it would have only a fractional effect on the
Model’s valuation equation.
On the other
hand, if it turns out to be the rule for the rest of the year, then Street 2019
earnings forecasts will likely rise and that should increase their valuations. Conversely, fallout from a trade war would,
at the very least, put a damper on any expectations for an acceleration in
economic/corporate profit growth.
All that
said, as long as the global central banks and our president continue to measure
their success by the performance of the stock Market and act accordingly,
valuations will likely remain irrelevant.
As
prices continue to rise, I will be primarily focused on those stocks that trade
into their Sell Half Range and act accordingly. However, there are certain
segments of the economy/Market that have been punished severely (e.g. health
care) with the stocks of the companies serving those industries down
30-70%. I am compiling a list of
potential Buy candidates that can be bought on any correction in the Market;
even a minor one.
Bottom line: fiscal
policy is negatively impacting the E in P/E, although the Q1 GDP number
suggests that it may not be as negative as I have been assuming. On the other hand, 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.
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