Saturday, February 8, 2020

The Closing Bell


Statistical Summary

   Current Economic Forecast
2019 estimates (revised)

Real Growth in Gross Domestic Product                          1.5-2.5%
                        Inflation                                                                          +1.5-2%
                        Corporate Profits                                                                6-9%


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                                 24818-37279
Intermediate Term Uptrend                     16100-32301
Long Term Uptrend                                  6849-38067

                        2019     Year End Fair Value                                   14500-14700

                        2020     Year End Fair Value                                   15100-15300

            Standard & Poor’s 500

                                    Current Trend (revised):
                                    Short Term Uptrend                                     3088-3583
                                    Intermediate Term Uptrend                         2732-4232                                                          Long Term Uptrend                                     1320-4955
2019 Year End Fair Value                                     1790-1810

2020 Year End Fair Value                                       1870-1890         

Percentage Cash in Our Portfolios

Dividend Growth Portfolio                           56%
            High Yield Portfolio                                     55%
            Aggressive Growth Portfolio                        56%

With the signing of the US/China and USMCA trade treaties, the Trump economy is a slight positive for equity valuations.   The total dataflow this week was  upbeat; however, the primary indicators were negative (one positive, two negative). Still I am calling it a positive.  Score: in the last 227 weeks, seventy-five were positive, one hundred and two negative and fifty neutral. 

This gets the dataflow back on a constructive trend which as I noted above is likely the result of increased optimism following the signing of the two trade treaties.  Still I am not revising my forecast because (1) on a short term basis, we don’t yet know the economic impact of the coronavirus and (2) on a long term basis, the economy must still overcome the burdens to growth stemming from egregiously irresponsible fiscal and monetary policies.  I am not convinced that the pluses derived from the trade treaties will have much effect beyond providing a source of additional underlying strength that will prevent the economy from slipping into recession.

Hence, the economy should keep growing in line with my forecast (sluggish but positive) with no immediate concern about recession.  Longer term, I still believe that the economy is facing fiscal and monetary policies that are impediments to higher growth.
Update on big four economic indicators.

Update on consumer credit.

Overseas data was a bit more balanced though still weighed to the positive side. I am not sure how long this upbeat numbers flow can last in the face of the coronavirus.   But as of the end of this week, the global economy is supportive of US economic growth.

Bottom line:  on a secular basis, the US economy is growing at an historically below average rate.  While the data has improved of late and the newly signed trade deals should, at the least, help the US avoid an economic downturn, more is needed before I will consider any upward revisions to my long term secular growth forecast.

The driving causes behind my below average growth outlook are 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 but may improve somewhat as a result of the trade treaties.  Offsetting the latter short term is the likely negative impact on the global economy of the coronavirus.  The questions are (1) are what are the stats going to look like when the impact of the coronavirus becomes manifest?  At the minimum, it would seem reasonable to assume that there will be a period of weak numbers, and (2) how long will that effect last?  My assumption is that any decline/slowdown in economic activity will be short lived.  In other words, it will almost surely influence 2020 growth estimates but the impact will dissipate through the year.

The Market-Disciplined Investing

The Averages (29123, 3327) backed off their all-time highs (29373/3337) yesterday.  I don’t view this as anything particularly ominous.  After all, prices were up in a virtual straight line for almost a week.  So, some consolidation makes sense.  At the moment, my assumption is that the indices are in a very short term trading range defined by their all-time highs on the upside and the mid-December gap up opens (28394/3215) on the downside.  

GLD and TLT charts continued to recover from the pasting that they took early in the week.  Importantly, they both made higher lows during their sell off---a sign of technical strength. It looks to me like the prices of GLD and TLT are headed higher.

UUP was the standout chart of the week.  It appears to be reversing what has been an ugly technical picture---on Friday, it closed above its 200 DMA for a  third day and above its 100 DMA for the first day.  If both these challenges are successful, UUP will be well on its way to re-establishing a price uptrend. That would put it in harmony with GLD and TLT.  When that happens, usually the theme is ‘safety trade’.
                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.  My forecast remains that the economy continues to struggle forward against multiple headwinds.  Though  the signing of the US/China and USMCA trade agreements reinforces my conviction that the economy will not fall into a recession.  That should keep corporate profits on a somewhat even keel which is a plus for stock prices.

On the other hand, the coronavirus epidemic will almost surely have a negative effect on short/intermediate term economic growth.  That said, exogenous events with a short shelf life rarely have an influence on long term equity valuations.  Furthermore, as long as the Fed and its fellow central banks continue to pump money into the financial system, the Market impact should be contained,

***overnight update on the coronavirus.

Sooner or later, this fake economic boom will end.

(2)   the  success of current trade negotiations.  See above.

My bottom line is that Trump’s attempt to reset the post WWII global trade paradigm is meeting success and that is a plus for US economic growth.  At the moment, I am not saying that it will provide the fuel for any ‘lift off’ in growth; but it should reduce the odds of a further stagnation in US economic growth or worse.

(3)   the resumption of QE by the global central banks.  In an attempt to offset the economic impact of the coronavirus, the Bank of China is shoveling liquidity into the Chinese financial system with both hands.  Meanwhile, the rest of the global central banks seem poised to do the same should economic conditions worsen in their jurisdiction.

Much of this week’s Market surge was likely due, at least partially, to the Chinese exuberant embrace of monetary stimulus. 

That said,  I believe that QEInfinity has, is and will continue to create distortions in pricing of risk which, in turn, leads to the mispricing and misallocation of assets.  As such, it is a negative for the efficient growth of the economy.
Nonetheless, on a short term basis, QE, QEInfinity and NotQE have been and remain Market friendly.  Meaning 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.

Fed released its latest Monetary Policy Report which, as you might expect, was dovish in tone.

(4)   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.

The Fed’s view of valuations may be misguided (must read).

As prices continue to rise, I will be primarily focused on those stocks that trade into their Sell Half Range or fail to meet the minimum financial quality criteria for inclusion in our Universes 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: a new regulatory environment and the improvement in our trade regime should have a positive impact on secular growth and, hence, equity valuations.  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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