Saturday, December 7, 2019

The Closing Bell


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%


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 Uptrend                                 24278-34578
Intermediate Term Uptrend                     14513-30732 (?)
Long Term Uptrend                                  6849-30311(?)
2018     Year End Fair Value                                   13800-14000

                        2019     Year End Fair Value                                   14500-14700

            Standard & Poor’s 500

                                    Current Trend (revised):
                                    Short Term Uptrend                                     2672-3572
                                    Intermediate Term Uptrend                         1383-3193 (?)                                                    Long Term Uptrend                                     937-3217 (?)
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%

The Trump economy is a neutral for equity valuations.   The dataflow this week was positive.            However, the primary indicators were mixed: November nonfarm payrolls (+), October construction spending (-) and October factory orders (0). The call is positive.  Score: in the last 217 weeks, seventy were positive, ninety-nine negative and forty-eight neutral. 

                Update on ECRI weekly leading index.

Except for Japan, the overseas data was quite positive---but we need a good deal more of this before I alter my opinion that the global economy is a drag on our own.

Developments this week that impact the economy:

(1)   trade:

[a] China: who knows.  The news flow this week remained a confusing montage of serial positive and negative US/Chinese trade stories.  Added to this mix was the US support for the citizens of Hong Kong and China’s muslim minorities---which clearly didn’t make the Chinese happy. 

My bottom line hasn’t changed.  I don’t believe that there will be a deal that incorporates the primary issues of Chinese industrial policy and IP theft before November 2020, if at all.  Any other deal will be not be a long term positive for the US.  That said, any agreement that removes tariffs and increases Chinese purchase of US ag products will be a minor short term economic plus.

[b]  In addition, Trump threatened steel and aluminum tariffs on Brazil and Argentina and counter tariffs on France in reaction to that country’s new tax on digital revenues.  While I am not sure conducting a multi front trade war is the best of ideas, if implemented, these tariffs would likely have minimal impact on our economy. 

(2)   fiscal policy: nothing this week.

(3)   monetary policy: nothing this week except, you know, NotQE to infinity.

(4)   global hotspots. The bills supporting the protestors in Hong Kong and condemning the Chinese treatment of muslim minorities clearly doesn’t increase the odds of trade deal.

(5)    impeachment:  I will continue to avoid political commentary.  Though I believe that the more intense the situation becomes, the more it will negatively affect businesses and consumers willingness to invest/spend.

Bottom line:  on a secular basis, the US economy is growing at an historically below average rate and I see little reason for any improvement.  The principal causes of the restraint being 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, the US economy continues to limp along.  Indeed, any progress is a miracle given all the fiscal and monetary headwinds.  My forecast remains that the US will avoid recession.
The Market-Disciplined Investing

The Averages (28015, 3145) had a gangbusters’ day on Friday, creating yet another gap up open to join with Wednesday’s and that of October 11th in addition to the gap down open on Tuesday.  I noted earlier in the week that all these conflicting gaps suggest a trading range near term.  But their increasing frequency also suggests a hyper speculative investor mindset which could be symptomatic of stocks either entering or having already entered a technical blow off.  In addition, it makes no sense to me (and makes me nervous) for the VIX to be at a level (it was down another 6 ¼% on Friday) indicative of complacency in the midst of all these volatile openings.

On the other hand, while the long bond gapped down on Monday and gapped up on Tuesday, it spent the rest of the week quietly filling both.  In the process, its positive long term momentum is starting to be challenged given that  (1) on Friday the 100 DMA reverted to resistance, (2) it continues trade in a trend of lower highs and (3) it is approaching the lower boundary of its very short term uptrend. 

Conversely, the dollar which had been exhibiting relatively stable pin action, gapped up on Friday’s open, negating Thursday’s challenge of its 100 DMA. 

GLD shared in last week’s volatility.  It had a gap up open on Tuesday which never got filled.  Then gapped down on Friday’s open, leaving two gap opens in the same week.  Both need to be closed. 

            The volatility in TLT, UUP and GLD reinforce the notion of a very speculative mindset among investors.

            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).  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 economy continues to struggle forward against multiple headwinds, though I still believe that it is not falling into a recession.  As long as this remains the case, US economy will be a neutral  for the Market.

(2)   the [lack of] success of current trade negotiations.  At this moment, who knows.  I do think the odds slightly favor the Phase One agreement if the assumptions are that [a] it only includes some kind of modestly beneficial economic trade off {ag purchases versus lower tariff} and [b] it will not occur until the outcome of the 2020 elections is clearer.  That said, any deal at any time will likely be a short term positive for the Market.

But as I have repeated ad nauseum, I don’t believe an agreement will be reached that adequately addresses the issues of Chinese industrial policy and IP theft---which are why there is trade war in the first place. And that will continue to overhang the Market.

(3)   the resumption of QE by the global central banks. 

My bottom line remains the same.  The Fed’s monetary policy has been a negative for the economy and will continue to be as long as it is focused on keeping the Markets happy versus following its dual mandates.  However, because it is Market friendly, stocks should continue to do well until the Fed either reverses its policy or investors figure out just how punitive that policy has been for the economy.

QE has wreaked havoc on quant funds.

(4)   impeachment. as I noted above, the more vicious this battle,  the more likely it is to have a negative effect on stock prices.

(5)   current valuations. I believe that Averages are grossly overvalued [as determined by my Valuation Model]---which will continue to count for little as long as the global central banks are pumping liquidity into the financial system.

As prices continue to rise, I will be primarily focused on those stocks that trade into their Sell Half Range and act accordingly. Despite the Averages being near all-time highs, 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.  As you know, I recently added AbbVie to the Dividend Growth and High Yield Buy Lists and Kroger to the Dividend Growth Buy List.

Bottom line: fiscal policy is negatively impacting the E in P/E.  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, it should 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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