This is quite stupid to write, since we all know how the current Administration feels about business and businesspeople, but.......Policymakers should be focused on how to accelerate new-business formation.
If we aren't nurturing startups, we are not creating jobs.
The debate rages on about how to jump start job creation. Will interest rates at zero spur lending? (No.) Will a more stable policy environment encourage expansion? (Perhaps.) To clarify your thinking, I highly recommend you read "The Importance of Startups in Job Creation and Job Destruction" from the Kauffman Foundation.
Their research demonstrates that new startups accounted for all net new job creation over the last 33 years. Encouraging and/or depending on large companies to expand employment will be a failing strategy. This makes imminent sense, since large companies are the primary beneficiaries of the productivity improvements that enable them to do more with less. We should expect large, slow-growth companies to be shedding employees. Meanwhile, these resources become the raw material for new businesses to be created and grow.
Policymakers should be focused on how to accelerate new-business formation. There are natural limits, of course, since the process of thinking up new products or services simply takes time. Furthermore, many prospective workers have skills that are mismatched with the needs of new industries. Nonetheless, if we aren't nurturing startups, we are not creating jobs.
Most policymakers will point to small-business loans as the source of capital for startups, but in a de-levering and risk-averse environment, this capital pool will be limited at best. Our best policy prescriptions will be tax law changes that encourage venture capital, merchant banking and angel equity investments.
For example, one effective change to unlock and accelerate venture investments would be a capital gains holiday on venture deals. For the next year, any purchase of equity in a business in which the cash went to buy new shares, not take out existing shareholders would not pay any capital gains on the eventual sale of the investment. A tax holiday like this could unlock a rush of capital into new businesses. (Note that this is much more targeted than a general capital gains tax cut.)
Sometimes, nothing is the best thing you can do.
The quickest way to double your money is to fold it over and put it back in your pocket.
This statement perfectly captures the investor mood in America, I think. No one has risk appetite anymore... and for good reason.
Analysts (and perhaps the Fed) are mystified that generationally low mortgage rates are not spurring a refi boom. True, many won't qualify due to negative equity, but there is another issue that seems to be ignored by the punditocracy: duration.
Rates are quoted for 30-year fixed loans and, yes, they are attractive. However, after years of refinancing to get lower rates, lower payments and, perhaps, cash out, homeowners are noticing that the mortgage-burning celebration keeps getting pushed out another 30 years. For homeowners in their 20s and 30s, this may not be a problem. For baby boomers in their 40s, 50s, or even 60s, the prospect of paying a mortgage well into your 70s or 80s holds little appeal.
Of course, the natural response is to check on a refi into a 20-year or 15-year loan. These often have even lower rates... but the rapid amortization can sometimes lead to a higher monthly payment. Few folks are seeking higher payments at the moment, even if they ultimately pay less over the life of the loan.
Cash is piling up on corporate balance sheets.
Expect a series of special dividend announcements within the next 12 months.
America may finally be shedding its get-rich-quick schemes. We under-saved for years, figuring we'd fund retirement with gains from Internet stocks, then real estate, then perhaps commodities like gold and oil. Now we are saving more and concentrating on keeping what we have.
One economic bright spot is the cash piling up on corporate balance sheets. Pundits may moan that the cash is not being recycled into expansion, but I think we should give the companies some time. They are all recovering from post-traumatic stress syndrome! We are finally starting to see some action, with stock buyback announcements from QLGC, HPQ, RMBS and FOSL.
Extending this theme, I expect to see a series of special dividend announcements. The current environment is feeling a lot like 2003-2004, when companies were similarly piling up cash after massive cost-cutting in the previous recession. There were dozens of special dividends paid in that period. Look for similar behavior in the next 12 months.
Tuesday, August 31, 2010
Market "Participants" Aren't Participating
A good word to sum up the action today is "tedious." The DJIA and S&P 500 were up a minor amount, and the Nasdaq was slightly in the red, but it was just slow and very random trading. There was no vigor in either direction, and even though volume improved quite a bit over yesterday, it felt like there was very little participation.
Breadth jumped around quite a bit and finished slightly on the positive side. Gold-mining led all day, but after an OK start, oil, chips and retail rolled over and finished down.
Technically the S&P 500 continued to hold above the 1040 level, which everyone seems to be watching. Quite a few sell stops are likely to trigger if we hit again.
We have quite a bit of economic data in the next few days, starting with the ADP employment report and ISM index tomorrow. We are dancing around to these reports because there just isn't much else going on. The technical picture remains negative, although some quick bounces are going to keep it tricky for the bears.
After the close, it is being reported that NFLX services will be available on the new AAPL TV Talk initiative that is to be announced soon. That seem to be helping the mood, and we are seeing some strong buying in late trading.
long AAPL
Breadth jumped around quite a bit and finished slightly on the positive side. Gold-mining led all day, but after an OK start, oil, chips and retail rolled over and finished down.
Technically the S&P 500 continued to hold above the 1040 level, which everyone seems to be watching. Quite a few sell stops are likely to trigger if we hit again.
We have quite a bit of economic data in the next few days, starting with the ADP employment report and ISM index tomorrow. We are dancing around to these reports because there just isn't much else going on. The technical picture remains negative, although some quick bounces are going to keep it tricky for the bears.
After the close, it is being reported that NFLX services will be available on the new AAPL TV Talk initiative that is to be announced soon. That seem to be helping the mood, and we are seeing some strong buying in late trading.
long AAPL
Monday, August 30, 2010
Thoughts
In my opinion, the risk/reward for fixed income vs. stocks is heavily weighted toward stocks.
So you want to invest in long-dated bonds? Here are a few things worth mulling over.
With a yield of about 3.60%, investors are talking on far more risk than they might imagine. Without going into the theoretical construct of duration and convexity, let's try to put this risk in simple terms.
If in one year, the 30-year yield declines another 50 basis points, then your bond would have appreciated 9.52% in price. Added to the 3.60% in coupon, you earned 13.12% in that year.
That is the reason why TBT has been getting massacred. Rate drops are magnified 2 for 1, and the inverse leveraged ETF continues to drop rapidly.
However, if the rate backs up (yield increases) 50 basis points, then your bond value will decline 8.44%. Offset that by the 3.6% dividend and your total loss is 4.84%.
Let's take it a step further and say that the 30-year backs up 1% in the next two years. Your bond value will decline 15.66% offset by the 7.2% of dividends that you earned. Of course, it does get worse the larger the rate increase in a shorter amount of time.
At best, if you hold that bond to maturity, you will earn 108%. That does not assume reinvesting of coupons and does assume that you hold it to maturity. Most bond holders won't be doing so. Most retirees will be dead by then.
Finally, there is good research from Brian Reynolds at WJB Capital, who is one of the finest fixed-income analysts with few peers. He is saying that the credit bull market is continuing and that equity investors do not believe it, and hence we are in a stock market correction within a bull market. Eventually, his research indicates that the credit market wins out and stocks will rise.
What most people don't quite understand is the risk that they are taking by buying long-dated debt at these record low yields.
I expect the M&A calendar to become more crowded as stock valuations remain cheap and cash plentiful at low rates.
So you want to invest in long-dated bonds? Here are a few things worth mulling over.
With a yield of about 3.60%, investors are talking on far more risk than they might imagine. Without going into the theoretical construct of duration and convexity, let's try to put this risk in simple terms.
If in one year, the 30-year yield declines another 50 basis points, then your bond would have appreciated 9.52% in price. Added to the 3.60% in coupon, you earned 13.12% in that year.
That is the reason why TBT has been getting massacred. Rate drops are magnified 2 for 1, and the inverse leveraged ETF continues to drop rapidly.
However, if the rate backs up (yield increases) 50 basis points, then your bond value will decline 8.44%. Offset that by the 3.6% dividend and your total loss is 4.84%.
Let's take it a step further and say that the 30-year backs up 1% in the next two years. Your bond value will decline 15.66% offset by the 7.2% of dividends that you earned. Of course, it does get worse the larger the rate increase in a shorter amount of time.
At best, if you hold that bond to maturity, you will earn 108%. That does not assume reinvesting of coupons and does assume that you hold it to maturity. Most bond holders won't be doing so. Most retirees will be dead by then.
Finally, there is good research from Brian Reynolds at WJB Capital, who is one of the finest fixed-income analysts with few peers. He is saying that the credit bull market is continuing and that equity investors do not believe it, and hence we are in a stock market correction within a bull market. Eventually, his research indicates that the credit market wins out and stocks will rise.
What most people don't quite understand is the risk that they are taking by buying long-dated debt at these record low yields.
I expect the M&A calendar to become more crowded as stock valuations remain cheap and cash plentiful at low rates.
Will We Test The Year's Lows? Or Will Kass Be Right?
The most positive thing you can say about the action today is that the volume was light. We started off flat, but the good mood from Friday completely evaporated, and we closed very poorly. In fact, we closed almost exactly where we were when the text of the Bernanke speech was released on Friday.
Breadth was particularly ugly, with about 1,250 gainers to 4,400 decliners. All major sectors ended up in negative territory, and bonds reversed up sharply following the Friday selloff.
The S&P 500 is still above the key 1040 level we bounced off of a couple times last week, but the action is anemic. It isn't too difficult to determine what is wrong with this market. There is very little participation, which means volume is at its lowest this year. The only news flow we have is about the economy, and the only people who see positives there are politicians running for reelection. There is no urgency to buy, and those who want to escape end up selling into a vacuum.
There isn't much we can do about it other than stay patient.
Breadth was particularly ugly, with about 1,250 gainers to 4,400 decliners. All major sectors ended up in negative territory, and bonds reversed up sharply following the Friday selloff.
The S&P 500 is still above the key 1040 level we bounced off of a couple times last week, but the action is anemic. It isn't too difficult to determine what is wrong with this market. There is very little participation, which means volume is at its lowest this year. The only news flow we have is about the economy, and the only people who see positives there are politicians running for reelection. There is no urgency to buy, and those who want to escape end up selling into a vacuum.
There isn't much we can do about it other than stay patient.
Friday, August 27, 2010
Thoughts
INTC is a huge and positive tell that it is trading higher on lower guidance.
Remember it's how stocks react to negative news that is more important than the news itself.
Many of the structural headwinds have already been discounted in share prices.
The current state of investor sentiment that Jim Cramer related in a piece today seems eerily reminiscent of 1979 when Business Week captured the zeitgeist of investors in the infamous Death of Equities cover. Of course, it was almost all uphill from there.
The "joke" of pessimism is that, in normal times, the sort of downbeat characterization that Cramer writes about is typically associated with market lows, not Hindenberg Omen and Black Cross breakdowns.
We have already seen a lost decade in equities.
From my perch, the next decade looks better than the last decade, as many of the structural headwinds have already been discounted in share prices.
Steve Liesman and Becky Quick on CNBC asked James Bullard the right questions and let him respond in an expansive manner.
The St. Louis Fed President's clear responses should dull some of the market's current concerns.
This was one of the best interviews I have seen for some time in the business media.
The Fed's Bullard spoke about the structural increase in unemployment, a thesis I posited several weeks ago.
Again, as I thought yesterday, the slightly better jobless claims report appears to take the doomsday/Hindenburg out of the picture.
I remain somewhat more constructive on the U.S. stock market than most.
As I have written, the U.S. stock market is statistically cheap relative to interest rates and corporate profits.
My greatest concern is not in the economic statistics but rather that we get into this vortex of further consumer/business confidence erosion, stemming from policy and soft home/equity prices.
Remember it's how stocks react to negative news that is more important than the news itself.
Many of the structural headwinds have already been discounted in share prices.
The current state of investor sentiment that Jim Cramer related in a piece today seems eerily reminiscent of 1979 when Business Week captured the zeitgeist of investors in the infamous Death of Equities cover. Of course, it was almost all uphill from there.
The "joke" of pessimism is that, in normal times, the sort of downbeat characterization that Cramer writes about is typically associated with market lows, not Hindenberg Omen and Black Cross breakdowns.
We have already seen a lost decade in equities.
From my perch, the next decade looks better than the last decade, as many of the structural headwinds have already been discounted in share prices.
Steve Liesman and Becky Quick on CNBC asked James Bullard the right questions and let him respond in an expansive manner.
The St. Louis Fed President's clear responses should dull some of the market's current concerns.
This was one of the best interviews I have seen for some time in the business media.
The Fed's Bullard spoke about the structural increase in unemployment, a thesis I posited several weeks ago.
Again, as I thought yesterday, the slightly better jobless claims report appears to take the doomsday/Hindenburg out of the picture.
I remain somewhat more constructive on the U.S. stock market than most.
As I have written, the U.S. stock market is statistically cheap relative to interest rates and corporate profits.
My greatest concern is not in the economic statistics but rather that we get into this vortex of further consumer/business confidence erosion, stemming from policy and soft home/equity prices.
Finally, Not A Shitty Day As Bulls Press Their Bets After Bernanke
I did a complete remake of my portfolio today; selling almost all of my vastly underperforming AAPL options in order to purchase a large chunk of LNC options. LNC is the subject of buyout rumors, which I think are credible, in spite of what one reads. I've had a placeholder position in LNC for some time; and following it quite closely for a long time. Even after today's 10% jump, it is still severely undervalued, as it trades at $24 with a book value of $40. The rumor is for a cash buyout of $32.50 a share. We'll see.
It turned out to be an interesting end to a rather dreary week. The better-than-expected GDP news was quickly sold, but then news of reduced guidance from INTC and the text of a speech by Ben Bernanke hit almost simultaneously. At first there was some panic selling, but we quickly found support and it was straight up into the close.
Volume increased nicely and breadth was excellent. All major sectors were in the green, with oil, small-caps and regional banks leading. Overall it was an excellent day for the bulls, but it doesn't do a whole lot to change the technical picture. We are still below where we closed Monday, and there is plenty of overhead to deal with -- particularly the 50-day simple moving average at 1084 of the S&P 500.
We had oversold conditions to begin with, and now with a little better mood in the air, the bulls have some momentum and are in good shape for more of a bounce.
long AAPL; LNC
It turned out to be an interesting end to a rather dreary week. The better-than-expected GDP news was quickly sold, but then news of reduced guidance from INTC and the text of a speech by Ben Bernanke hit almost simultaneously. At first there was some panic selling, but we quickly found support and it was straight up into the close.
Volume increased nicely and breadth was excellent. All major sectors were in the green, with oil, small-caps and regional banks leading. Overall it was an excellent day for the bulls, but it doesn't do a whole lot to change the technical picture. We are still below where we closed Monday, and there is plenty of overhead to deal with -- particularly the 50-day simple moving average at 1084 of the S&P 500.
We had oversold conditions to begin with, and now with a little better mood in the air, the bulls have some momentum and are in good shape for more of a bounce.
long AAPL; LNC
Thursday, August 26, 2010
Thoughts
The market remains in 'Brokedown Palace.'
It is impervious to any better data point or to my view that value/opportunity is being created.
One of my greatest concerns is not in the economic statistics but rather that we get into this vortex of further consumer/business confidence erosion, stemming from policy and soft home/equity prices.
That said, I am confident that the November midterm elections will be a game changer.
Kass is getting increasingly more aggressive on his bank long exposure.
He is of the view that housing will recover in 2011, that we will see better job growth in the last half of the year and that the credit quality turn will continue (resulting in huge loan-loss provision swings).
C, BAC and WFC are his longs.
Jobless claims have likely been influenced by unemployment extensions, former census worker claims and seasonal adjustments.
The upcoming elections look like a game changer for the jobs and capital markets.
This morning's jobless claims report of 473,000 (vs. 495,000 consensus) should eliminate the doomsday recession scenario that Nouriel Roubini, David Rosenberg et al. have embraced.
Since most indicators of jobs growth appear more positive than the last three months' jobless claims reports, it is reasonable to surmise that this indicator has been artificially influenced by unemployment extensions, claims filed by former census workers and, according to several strategists, seasonal-adjustment issues.
The still-high claims number appears to be consistent with roughly 50,000-a-month payroll growth. As we move closer to the elections, I expect that claims during the next few months will be around 425,000 to 450,000, which would translate to 75,000-a-month payroll growth.
More and more the election looks like a game changer for the jobs and capital markets. The midterm elections now look likely to record a red (i.e., Republican) result, providing a watershed effect on consumer and business confidence and a repudiation of the President's initiatives and agenda.
The market will likely react favorably to the potential for this political and confidence-changing development well in advance.
Over there (and overnight), consumer confidence in Germany rose more than expected.
TOL made these salient points on their call today:
1. The cancelation rate was down to 6.2%, which represents the fifth consecutive quarter of lower cancelation rates.
2. High rise metropolitan New York projects were the bright spot geographically.
3. Lots owned and optioned increased this quarter, which represented the second consecutive quarter of growth in land position.
4. Homebuyer confidence remains dampened but could result in pent-up demand when recovery takes hold.
I would conclude that the turn in housing is closer than many believe, as the ongoing drop in new construction over the past two years is now being felt in the stability of the residential marketplace's inventory of homes for sale.
The U.S. housing market now appears to be coming closer to a balance between supply/demand.
The underproduction in 2008-2010, coupled with the likely maintenance of low interest and mortgage rates plus continued growth in population and in household formations, suggest that a recovery in housing could occur sooner in 2011 than many expect (particularly if shadow inventory trickles in but does not flood the market).
It is impervious to any better data point or to my view that value/opportunity is being created.
One of my greatest concerns is not in the economic statistics but rather that we get into this vortex of further consumer/business confidence erosion, stemming from policy and soft home/equity prices.
That said, I am confident that the November midterm elections will be a game changer.
Kass is getting increasingly more aggressive on his bank long exposure.
He is of the view that housing will recover in 2011, that we will see better job growth in the last half of the year and that the credit quality turn will continue (resulting in huge loan-loss provision swings).
C, BAC and WFC are his longs.
Jobless claims have likely been influenced by unemployment extensions, former census worker claims and seasonal adjustments.
The upcoming elections look like a game changer for the jobs and capital markets.
This morning's jobless claims report of 473,000 (vs. 495,000 consensus) should eliminate the doomsday recession scenario that Nouriel Roubini, David Rosenberg et al. have embraced.
Since most indicators of jobs growth appear more positive than the last three months' jobless claims reports, it is reasonable to surmise that this indicator has been artificially influenced by unemployment extensions, claims filed by former census workers and, according to several strategists, seasonal-adjustment issues.
The still-high claims number appears to be consistent with roughly 50,000-a-month payroll growth. As we move closer to the elections, I expect that claims during the next few months will be around 425,000 to 450,000, which would translate to 75,000-a-month payroll growth.
More and more the election looks like a game changer for the jobs and capital markets. The midterm elections now look likely to record a red (i.e., Republican) result, providing a watershed effect on consumer and business confidence and a repudiation of the President's initiatives and agenda.
The market will likely react favorably to the potential for this political and confidence-changing development well in advance.
Over there (and overnight), consumer confidence in Germany rose more than expected.
TOL made these salient points on their call today:
1. The cancelation rate was down to 6.2%, which represents the fifth consecutive quarter of lower cancelation rates.
2. High rise metropolitan New York projects were the bright spot geographically.
3. Lots owned and optioned increased this quarter, which represented the second consecutive quarter of growth in land position.
4. Homebuyer confidence remains dampened but could result in pent-up demand when recovery takes hold.
I would conclude that the turn in housing is closer than many believe, as the ongoing drop in new construction over the past two years is now being felt in the stability of the residential marketplace's inventory of homes for sale.
The U.S. housing market now appears to be coming closer to a balance between supply/demand.
The underproduction in 2008-2010, coupled with the likely maintenance of low interest and mortgage rates plus continued growth in population and in household formations, suggest that a recovery in housing could occur sooner in 2011 than many expect (particularly if shadow inventory trickles in but does not flood the market).
The Shitty Days Resume
And tomorrow's probably more of the same.....Slightly better-than-expected weekly unemployment numbers this morning had the bulls feeling rather frisky, but they were unable to gain much traction, and the sellers took control. The problem for the bulls today was that there was a lot of nervousness over the GDP revision tomorrow, along with an important speech from Ben Bernanke.
I don't believe there is any big mystery about why the market is acting the way it is. Market players are struggling to figure out how much the economy is going to slow. Is it just going to be a brief soft patch, or will we have a full-blown double-dip recession? Some bulls are convinced things are fine, so they are puzzled by this market action. However, a lot of folks aren't so sure, and they are moving to the sidelines, just to be safe.
I don't believe there is any big mystery about why the market is acting the way it is. Market players are struggling to figure out how much the economy is going to slow. Is it just going to be a brief soft patch, or will we have a full-blown double-dip recession? Some bulls are convinced things are fine, so they are puzzled by this market action. However, a lot of folks aren't so sure, and they are moving to the sidelines, just to be safe.
Wednesday, August 25, 2010
The consumer and the retail stock sector could conceivably lead us out of this economic and stock market malaise.
After several years of believing that the U.S. consumer was possibly spent-up, not pent up, I am changing my tune.
In fact, the consumer and the retail stock sector could conceivably lead us out of this economic and stock market malaise.
This is a big change for me, but as Keynes asked, "If the facts change, do you, sir?"
As Morgan Stanley noted late last week:
American consumers are deleveraging their balance sheets and rebuilding savings faster than expected. While debt/income is elevated two key metrics indicate that the deleveraging timetable is nearly a year ahead of schedule. Looking forward, the plunge in mortgage rates will likely push debt service still lower. And the headwind to consumer spending from deleveraging will be a smaller risk to the outlook, as consumers now can spend more of their income.
We believe that 11-12% is a sustainable debt-service ratio, consistent with debt/income of 80-100%. The first of those goals likely is attainable by late this year, accompanied by real annualized spending growth of 2-2.5%, a personal saving rate remaining in a 5-6.5% range through 2011, and a 2009-11 contraction in consumer debt of about 8%. ... Lower debt service frees up discretionary spending power and makes consumers more creditworthy. Once achieved, a higher savings rate enables consumers to maintain spending, continue to pay down debt and accumulate wealth the old-fashioned way.
The absolute level of homes for sale was unchanged last month.
This morning's housing number was bullish for a residential real estate recovery in 2011.
Lost in the hyperbole surrounding the weak new-home sales data and the sizeable increase in the months of unsold inventory is the fact that the absolute level of homes for sale was unchanged (at 210,000 homes) last month.
Remember the months-of-supply metric is influenced by not only the absolute level of homes for sale but by monthly sales activity as well (which plummeted).
I would conclude that the turn in housing is closer than many believe, as the ongoing drop in new construction over the past two years is now being felt in the stability of the residential marketplace's inventory of homes for sale.
The U.S. housing market now appears to be coming closer to a balance between supply/demand.
The underproduction in 2008-2010, coupled with the likely maintenance of low interest and mortgage rates plus continued growth in population and in household formations, suggest that a recovery in housing could occur sooner in 2011 than many expect (particularly if shadow inventory trickles in but does not flood the market).
Let's take a look at the yield on the 10-year U.S. note over the last 220 years.
It is interesting to note that even during the Great Depression, when deflation ruled the day and GDP growth contracted, the yields trended between 2.5% and 4%.
It was only back in the 1940s, when the U.S. set a ceiling on interest rates, that the yield on the 10-year U.S. note trended below the current yield of 2.45%.
After the durable goods report, Goldman Sachs has lifted its expectation for a revised second-quarter 2010 GDP report.
After the durable goods report, Goldman Sachs has lifted its expectation for a revised second-quarter 2010 GDP report from +1.1% to +1.2%.
The surprisingly large drop in durable goods orders could bring a sense of urgency for policy relief.
Where is President Obama?
After several years of believing that the U.S. consumer was possibly spent-up, not pent up, I am changing my tune.
In fact, the consumer and the retail stock sector could conceivably lead us out of this economic and stock market malaise.
This is a big change for me, but as Keynes asked, "If the facts change, do you, sir?"
As Morgan Stanley noted late last week:
American consumers are deleveraging their balance sheets and rebuilding savings faster than expected. While debt/income is elevated two key metrics indicate that the deleveraging timetable is nearly a year ahead of schedule. Looking forward, the plunge in mortgage rates will likely push debt service still lower. And the headwind to consumer spending from deleveraging will be a smaller risk to the outlook, as consumers now can spend more of their income.
We believe that 11-12% is a sustainable debt-service ratio, consistent with debt/income of 80-100%. The first of those goals likely is attainable by late this year, accompanied by real annualized spending growth of 2-2.5%, a personal saving rate remaining in a 5-6.5% range through 2011, and a 2009-11 contraction in consumer debt of about 8%. ... Lower debt service frees up discretionary spending power and makes consumers more creditworthy. Once achieved, a higher savings rate enables consumers to maintain spending, continue to pay down debt and accumulate wealth the old-fashioned way.
The absolute level of homes for sale was unchanged last month.
This morning's housing number was bullish for a residential real estate recovery in 2011.
Lost in the hyperbole surrounding the weak new-home sales data and the sizeable increase in the months of unsold inventory is the fact that the absolute level of homes for sale was unchanged (at 210,000 homes) last month.
Remember the months-of-supply metric is influenced by not only the absolute level of homes for sale but by monthly sales activity as well (which plummeted).
I would conclude that the turn in housing is closer than many believe, as the ongoing drop in new construction over the past two years is now being felt in the stability of the residential marketplace's inventory of homes for sale.
The U.S. housing market now appears to be coming closer to a balance between supply/demand.
The underproduction in 2008-2010, coupled with the likely maintenance of low interest and mortgage rates plus continued growth in population and in household formations, suggest that a recovery in housing could occur sooner in 2011 than many expect (particularly if shadow inventory trickles in but does not flood the market).
Let's take a look at the yield on the 10-year U.S. note over the last 220 years.
It is interesting to note that even during the Great Depression, when deflation ruled the day and GDP growth contracted, the yields trended between 2.5% and 4%.
It was only back in the 1940s, when the U.S. set a ceiling on interest rates, that the yield on the 10-year U.S. note trended below the current yield of 2.45%.
After the durable goods report, Goldman Sachs has lifted its expectation for a revised second-quarter 2010 GDP report.
After the durable goods report, Goldman Sachs has lifted its expectation for a revised second-quarter 2010 GDP report from +1.1% to +1.2%.
The surprisingly large drop in durable goods orders could bring a sense of urgency for policy relief.
Where is President Obama?
Tech Stuff
Showing a mastery of the obvious, the Wall Street Journal is out today with a story of iPad dominance through 2012. That might be, but my crystal tech ball is seeing a two horse race here - and the other horse is GOOG's Android tablets - which could be surprisingly good and take similar share as the phone platform.
CIEN certainly is severely oversold - and is another primary benefactor of massive traffic growth.
GOOG should be looking in the direction of CIEN. GOOG has already acquired massive dark fiber assets at trough prices, and it is a bandwidth enabler and very intensive customer. A deal in this space would give it multiple-billion-dollar revenue streams to pursue. Names like OCLR, FNSR, TKLC and INAP all come to mind. And most of these names are so cash rich and loaded with NOL's that any deal would be greatly funded through net cash and ensuing free cash flow.....
CIEN certainly is severely oversold - and is another primary benefactor of massive traffic growth.
GOOG should be looking in the direction of CIEN. GOOG has already acquired massive dark fiber assets at trough prices, and it is a bandwidth enabler and very intensive customer. A deal in this space would give it multiple-billion-dollar revenue streams to pursue. Names like OCLR, FNSR, TKLC and INAP all come to mind. And most of these names are so cash rich and loaded with NOL's that any deal would be greatly funded through net cash and ensuing free cash flow.....
Gee, Actually NOT A Shitty Day Today
Buying the bad housing news worked well today, and we even managed to close near the highs for a change. It took a while for the buyers to gain confidence but, at mid-day, they finally found their footing and inched steadily higher all afternoon
Of course volume was lackluster once again, but breadth shifted to a healthy 3,400 gainers to 2,200 losers by the close, and we had leadership from retailers and homebuilders. Oil was the weak spot, but financials turned up nicely and that helped as well.
One of the main factors behind the bounce was a turn in bonds. They gapped up again to start the day as the rush to safety continued (especially after the poor housing news), but they weakened this afternoon, and that helped to take the edge off of what looked like panic buying. The market needs this flight to bonds to cool off and more money to flow into equities if we are going to see much upside in the near term.
Overall, it was a decent buy-the-bad-news bounce, but we were oversold so it isn't particularly surprising. Of course, the moment we have one slightly positive day within a downtrend, there will be the over-anxious bulls that will proclaim that it is clear sailing to the upside from here. While that may be possible, there was nothing exceptional about the action today and there is no reason to believe that the selling won't pick up again.
We have weekly unemployment claims tomorrow and the revised second-quarter GDP figure on Friday. The GDP numbers have been coming down sharply over the last few weeks but, given how poor these housing numbers have been, it may not be low enough yet. A GDP number near 1% isn't going to do much to attract new buyers.
I wouldn't be surprised to see a little more bounce after we digest the weekly claims tomorrow, but don't lose sight of the possible fact that we may be still solidly mired in a downtrend.
Of course volume was lackluster once again, but breadth shifted to a healthy 3,400 gainers to 2,200 losers by the close, and we had leadership from retailers and homebuilders. Oil was the weak spot, but financials turned up nicely and that helped as well.
One of the main factors behind the bounce was a turn in bonds. They gapped up again to start the day as the rush to safety continued (especially after the poor housing news), but they weakened this afternoon, and that helped to take the edge off of what looked like panic buying. The market needs this flight to bonds to cool off and more money to flow into equities if we are going to see much upside in the near term.
Overall, it was a decent buy-the-bad-news bounce, but we were oversold so it isn't particularly surprising. Of course, the moment we have one slightly positive day within a downtrend, there will be the over-anxious bulls that will proclaim that it is clear sailing to the upside from here. While that may be possible, there was nothing exceptional about the action today and there is no reason to believe that the selling won't pick up again.
We have weekly unemployment claims tomorrow and the revised second-quarter GDP figure on Friday. The GDP numbers have been coming down sharply over the last few weeks but, given how poor these housing numbers have been, it may not be low enough yet. A GDP number near 1% isn't going to do much to attract new buyers.
I wouldn't be surprised to see a little more bounce after we digest the weekly claims tomorrow, but don't lose sight of the possible fact that we may be still solidly mired in a downtrend.
Tuesday, August 24, 2010
Thoughts
We are not Japan.
Technical analyst Charles Nenner is on with Bob Pisani and Ron Insana on CNBC comparing the U.S. to Japan.
They're wrong.
There is a very high degree of stress being priced into the equity market despite the euphoria in the credit markets. In my view, if the economy was on the verge of a recession of any kind, we would expect the widely followed interbank lending rates to be showing increased stress, which they are not. In addition, the fear of falling back into recession has created demand for credit that has led to near historic lows for Conventional and Adjustable Rate Mortgages. While it is clear there isn't any equity to take out from a refinance boom as was the case earlier in the decade, lower interest expense has positive implications for both consumption and further debt reduction. In my view, to be bullish at this point of pessimism and valuation, all we need to do is not see a negative period of growth. The bottom line is that an economic boom is not likely on the horizon, but at this point, the typical signs (including this past May-June) are not there for a shut down in economic activity either.
Libor is back toward the historic low, two-year U.S. dollar swap spreads have trended toward the historic low and the TED spread is trending back toward its low.
Meanwhile "the drive into credit has caused a historic drop in the long end of the yield curve which has some very important implications" -- conventional and adjustable mortgage rates are seeing sharp DECLINES to near-historic lows, which has led to a refi boom at a time when commercial banks are easing up on their lending standards.
It is hard to see material economic weakness in the second half of 2010 and in 2011.
Many bears are expanding their long books into this morning's swoosh lower.
What is missed by the bearish double-dip camp is that cyclical areas of the economy -- such as residential investment and capex, inventories and autos -- are now so low relative to GDP and so low relative to their long-term relationship to GDP that it is hard to see material economic weakness in the second half of 2010 and in 2011.
The beat goes on in fixed income.
This particular market downturn runs deeper than all-too-familiar malaise that has accompanied the market during late August. This is precisely the sort of desultory setting in which a recovery in stock prices can emerge.
There is a big market chill that runs deeper than the normal and all-too-familiar malaise that typically has accompanied the market during late August.
The market's fan base has been depleted by 10 years of underperformance, both relative to bonds and in an absolute sense. The 2008 investment shock also turned off a generation of investors, and whatever stragglers remained have been paralyzed by the flash crash in the spring of this year.
It is almost as if the causal relationships (of interest rates, valuation, etc.) have lost their relevance in a market in which investors are so downtrodden.
But, to this contrarian, this is precisely the sort of desultory setting in which a recovery in stock prices can emerge......
Technical analyst Charles Nenner is on with Bob Pisani and Ron Insana on CNBC comparing the U.S. to Japan.
They're wrong.
There is a very high degree of stress being priced into the equity market despite the euphoria in the credit markets. In my view, if the economy was on the verge of a recession of any kind, we would expect the widely followed interbank lending rates to be showing increased stress, which they are not. In addition, the fear of falling back into recession has created demand for credit that has led to near historic lows for Conventional and Adjustable Rate Mortgages. While it is clear there isn't any equity to take out from a refinance boom as was the case earlier in the decade, lower interest expense has positive implications for both consumption and further debt reduction. In my view, to be bullish at this point of pessimism and valuation, all we need to do is not see a negative period of growth. The bottom line is that an economic boom is not likely on the horizon, but at this point, the typical signs (including this past May-June) are not there for a shut down in economic activity either.
Libor is back toward the historic low, two-year U.S. dollar swap spreads have trended toward the historic low and the TED spread is trending back toward its low.
Meanwhile "the drive into credit has caused a historic drop in the long end of the yield curve which has some very important implications" -- conventional and adjustable mortgage rates are seeing sharp DECLINES to near-historic lows, which has led to a refi boom at a time when commercial banks are easing up on their lending standards.
It is hard to see material economic weakness in the second half of 2010 and in 2011.
Many bears are expanding their long books into this morning's swoosh lower.
What is missed by the bearish double-dip camp is that cyclical areas of the economy -- such as residential investment and capex, inventories and autos -- are now so low relative to GDP and so low relative to their long-term relationship to GDP that it is hard to see material economic weakness in the second half of 2010 and in 2011.
The beat goes on in fixed income.
This particular market downturn runs deeper than all-too-familiar malaise that has accompanied the market during late August. This is precisely the sort of desultory setting in which a recovery in stock prices can emerge.
There is a big market chill that runs deeper than the normal and all-too-familiar malaise that typically has accompanied the market during late August.
The market's fan base has been depleted by 10 years of underperformance, both relative to bonds and in an absolute sense. The 2008 investment shock also turned off a generation of investors, and whatever stragglers remained have been paralyzed by the flash crash in the spring of this year.
It is almost as if the causal relationships (of interest rates, valuation, etc.) have lost their relevance in a market in which investors are so downtrodden.
But, to this contrarian, this is precisely the sort of desultory setting in which a recovery in stock prices can emerge......
Yet Another Shitty Day
The question today was whether or not we would be able to shrug off the very weak housing news. It didn't come as a complete surprise, so there was a chance the news had already been priced in to the market, but we just weren't able to lose the negativity. We bounced a little after the news and stumbled around, but we closed weak and the bulls showed little conviction.
While I think "the market" is acting stupid beyond belief, apparently it has not fully embraced and priced in the chances of a double dip, and that is why bad news is being treated as bad news. Once the market really accepts the idea that the economy MIGHT be in trouble and expectations are lower, then we'll have a better chance of rallying on bad news.
Volume picked up today, so we had a technical distribution day to help keep the downtrend under pressure. The bright spot was a bounce in oil, but otherwise all major sectors were in the red. Breadth ended the day about three-to-one negative, which was an improvement over the early levels, but still a cause for concern.
Bonds powered higher once again. TLT is hitting the levels it saw back in early 2009, when the financial crisis was turning into some panic. This will end badly for those long TLT; the one to buy right now is TBT. Obviously, market players are happy to take no yield at all to be in the safety of bonds, which is not a market positive.
While I think "the market" is acting stupid beyond belief, apparently it has not fully embraced and priced in the chances of a double dip, and that is why bad news is being treated as bad news. Once the market really accepts the idea that the economy MIGHT be in trouble and expectations are lower, then we'll have a better chance of rallying on bad news.
Volume picked up today, so we had a technical distribution day to help keep the downtrend under pressure. The bright spot was a bounce in oil, but otherwise all major sectors were in the red. Breadth ended the day about three-to-one negative, which was an improvement over the early levels, but still a cause for concern.
Bonds powered higher once again. TLT is hitting the levels it saw back in early 2009, when the financial crisis was turning into some panic. This will end badly for those long TLT; the one to buy right now is TBT. Obviously, market players are happy to take no yield at all to be in the safety of bonds, which is not a market positive.
Monday, August 23, 2010
Thoughts
Look for volume to slow to a crawl as the week evolves.
I am hearing that there is a large non-bank financial takeover in the works.
There is a great deal of discussion that HPQ/PAR would mean a big reduction of jobs. Calm down and do your homework, talking heads. 3Par has a total of 668 employees!
Chicago Fed National Activity Index
Could the soft patch be temporary?
"Led by improvements in production-related indicators, the Chicago Fed National Activity Index returned to its historical average of zero in July, up from -0.70 in June. Three of the four broad categories of indicators that make up the index improved from June, but only the production and income category made a positive contribution to the index in July."
-- Chicago Fed National Activity Index
There has been very little attention paid in the media to the Chicago Fed National Activity Index, which was released earlier in the morning.
Published monthly, this index is a deep, detailed index that has historically had some predictive value.
The Index improved in July from June and could indicate that the soft patch might be brief in duration.
I am hearing that there is a large non-bank financial takeover in the works.
There is a great deal of discussion that HPQ/PAR would mean a big reduction of jobs. Calm down and do your homework, talking heads. 3Par has a total of 668 employees!
Chicago Fed National Activity Index
Could the soft patch be temporary?
"Led by improvements in production-related indicators, the Chicago Fed National Activity Index returned to its historical average of zero in July, up from -0.70 in June. Three of the four broad categories of indicators that make up the index improved from June, but only the production and income category made a positive contribution to the index in July."
-- Chicago Fed National Activity Index
There has been very little attention paid in the media to the Chicago Fed National Activity Index, which was released earlier in the morning.
Published monthly, this index is a deep, detailed index that has historically had some predictive value.
The Index improved in July from June and could indicate that the soft patch might be brief in duration.
Even Given My Previous Headline, Is It Time To Be More Bullish?
It is always darkest before the dawn.
-- Proverb
The permabulls (who generally missed the 2008-09 Bear Market Great Decession), until recently have called for a "V"-shaped domestic economic recovery and have been targeting about 1300 on the S&P 500 index as their objective. Some strategists, like JPMorgan's well-regarded Tom Lee, remain steadfast in their views and are still holding on to this target despite the ambiguity of the current soft patch that has taken most permabulls by surprise.
By contrast, the permabears (who generally missed the near 60% upside move in stocks from the generational low and the sharp recovery in domestic GDP) have called for a double dip in the U.S. economy and have been targeting about 900 on the S&P. Their mantra consists of "Black Crosses," "Hindenburg Omens" and structural, fundamental and nontraditional headwinds ("It's different this time").
I think both camps are hyperbolic (the bears more than the bulls) and attention-seeking, but their respective views will likely not provide investors with viable or profitable strategies.
The investment and economic "truth" likely lies somewhere in between.
For some time I have suggested that the economic recovery would be uneven and inconsistent. At times it will appear that the economy is headed back into recession; at other times it will appear that the economy is reaccelerating its growth rate.
I see nothing to alter this view.
As I have previously written, we are in this vortex of tax and regulatory traps. The uncertainty of policy has resulted in what can be viewed as a fiscal tightening and a paralysis of corporate indecision. Arguably the continued weak series of economic releases over the past week increases the possibility that, by year-end, we will see a renewed sense of urgency from our politicians for policy relief from the tax and regulatory logjam.
A catalyst to a tipping point of changing fiscal policy could also occur as an outgrowth of a Republican win in November's elections, leading to a decision to continue the Bush tax cuts or even institute a payroll tax cut (or other "outside the box" initiative) in early 2011. (The market, as it usually does, will likely react positively in advance of these possibilities.)
In direct contrast to Wired magazine's Peter Schwartz and Peter Leydens's 1997 "The Long Boom: A History of the Future, 1980-2020" -- "We're facing 25 years of prosperity, freedom and a better environment for the whole world. You got a problem with that?" -- investors see us in a new paradigm of slow or no growth. But just like Schwartz and Leyden's bogus paradigm, which set the stage for the tech bubble and its collapse, the newest paradigm of Roubini-like gloom, "The Short Boom" -- like the "Long Boom" it follows -- seems likely to be also dead on arrival.
An easy Federal Reserve that is content to maintain a zero-interest-rate policy indefinitely, coupled with a cycle low in inventories, residential investment, automobile unit and capital spending sales relative to their long-term relationship to GDP and relative to their longer-term trends, argue strongly against a domestic double dip. Moreover, an expected mean regression of these four series could provide important support for a moderate expansion in GDP growth in the years ahead.
In other words, the current soft patch indicates a moderating expansion but not a double dip.
And history shows that that moderate economic growth typically produces positive investment returns. Since 1950, quarterly real GDP growth rates of 0% to 1% have produced a quarterly return in the S&P 500 of more than 2%. According to Miller Tabak's Dan Greenhaus,
Equity returns needn't be negative in a slow growth environment. ... There's about a coin flip's chance of the S&P 500 being down in any given quarter in which GDP contracts. Viewed another way, 50% of the time the economy contracts in a given quarter, the S&P 500 increases in value and does so by more than 9%.
Stocks Are Extraordinarily Cheap Against Interest Rates
The low level of interest rates remains the single most compelling bullish argument for stocks -- and there are many examples of a disconnect between stocks, interest rates and other metrics/markets of risk.
* For the first time since 1962, the yield on the Dow Jones Industrial Average exceeds that of bond yields.
* Risk premiums (the difference between the earnings yield of the S&P index and the 10-year U.S. note) is at the highest level since the beginning of the modern era's bull market that began in the early 1980s.
* Nearly four-fifths of the companies contained in the S&P 500 index possess earnings yields that are greater than bond yields. And many have (growing) dividend yields that are similar to their own bond yields.
* In a Friday conference call, JPMorgan's Tom Lee observed that the performance between bonds and stocks over the past 10 years has never been as wide in any decade in history. Whenever stocks have a negative 10-year gap in performance relative to fixed income, the average yearly return in the following decade is approximately 13%.
* Stocks are moving contra to the improving risk metrics and risk markets. For example, two-year bank swap spreads are back down to April levels -- when the S&P 500 traded at 1218.
* Stocks have also disconnected from the junk bond markets. The high-yield markets are economically sensitive and are not indicating a broad economic slide. Junk prices are only about 3% off their high and stand at nearly +9% year to date. By contrast, stocks are 14% off their highs and are down by 4% year to date.
Finally, Mike O'Rourke of BTIG had some further solid observations about how undervalued stocks are relative to interest rates last night:
The "BTIG Fed Model" attempts to place a more conservative and defensive twist on the traditional Fed Model. When the levels of risk and fear rise in the financial market, Treasury Bonds represent the safe haven for investors and Equities are a proxy for risk. Thus, Treasuries become expensive relative to Equities, but that heightened level of risk is the obvious reason for that shift.
In order to account for the fear risk, in the BTIG Fed Model, we use the Vix in conjunction with the 10 Year Treasury Yield to raise the threshold with which Equities must compete. During these episodes of heightened fear, the Vix traditionally moved inversely with the 10 year Treasury yield. The Vix rises with the volatility and Treasury yields contract due to a flight to quality. Thus by taking the Vix and dividing by 10 and adding it to the 10 Treasury yield, we derive a larger number representing bonds not only reflecting the expected cash flow, but also adjusting for the heighted level of risk investors perceive in equities. Then comparing this "higher bar" to the S&P 500 earnings yield, one is comparing this relationship on a more conservative basis for equity investors. Additionally, we are using trailing S&P 500 earnings yield, which is also more conservative than using forward estimates.
What is extremely noteworthy about this metric in the current environment is that the level of equity undervaluation relative to Treasuries today using this model is equivalent to the extreme levels registered in early March of last year.
The improvements for equities are on all fronts. As we noted last week, Treasury yields today are lower than they were at the equity market bottom. The Vix is at one half its level of March 2009 (simultaneously, it is not low either) and very importantly, corporate earnings have mustered an incredible rebound. We are asserting that on a risk adjusted basis, the environment for equities versus bonds today is the equivalent to that of early March 2009.
The improvement in the standing of equities in this relationship will likely come from reversions on both sides -- equities rallying and bonds selling off. While there are no guarantees that equities will not get cheaper, this certainly indicates the odds of success are much greater for investors who are on the bid side of the equity market.
Valuations Are Compelling
At under 12x 2010 estimates, equities seem inexpensive to a multi-decade average of over 15x and at 17x when inflation is contained and interest rates are low.
Since 1962 the yield on the 10-year U.S. note has averaged about 365 basis points above the quarterly pace of real GDP growth. With the current 10-year yield of 2.58%, the fixed income market is discounting negative real growth in the domestic economy.
As Omega Advisors' Lee Cooperman mentioned over the weekend, industrial companies are taking notice of the developing values -- it is unlikely that BHP and INTC would propose spending $30 billion and $9 billion, respectively, for the acquisition of POT and MFE if they felt an economic apocalypse was on the horizon.
Economic/Stock Market Expectations Are Low
There is not a market participant extant who doesn't recognize that the slope of the recovery in the domestic economy will be "different this time," and that the ramifications of the administration's populist policy, the growing perception of a structural rise in U.S. unemployment, consumer deleveraging, concerns of deflation, the emergence of nontraditional (and intermediate-term) headwinds (e.g., fiscal imbalances, higher marginal tax rates, costly regulation, etc.) all will serve as a brake to domestic growth.
And what about the common view that the consumer is spent-up, not pent-up? The bearish view that the consumer is the Achilles' heel to growth might be worthy of challenge.
As Morgan Stanley noted late last week:
American consumers are deleveraging their balance sheets and rebuilding savings faster than expected. While debt/income is elevated two key metrics indicate that the deleveraging timetable is nearly a year ahead of schedule. Looking forward, the plunge in mortgage rates will likely push debt service still lower. And the headwind to consumer spending from deleveraging will be a smaller risk to the outlook, as consumers now can spend more of their income.
We believe that 11-12% is a sustainable debt-service ratio, consistent with debt/income of 80-100%. The first of those goals likely is attainable by late this year, accompanied by real annualized spending growth of 2-2.5%, a personal saving rate remaining in a 5-6.5% range through 2011, and a 2009-11 contraction in consumer debt of about 8%. ... Lower debt service frees up discretionary spending power and makes consumers more creditworthy. Once achieved, a higher savings rate enables consumers to maintain spending, continue to pay down debt and accumulate wealth the old-fashioned way.
Sentiment Weak ... and Weakening
Much like 17 months ago, we appear to be rapidly approaching a negative extreme in market and economic sentiment.
The hedge fund industry has derisked. Net long equity positions remain low by historic standards and, increasingly, hedge hoggers (like Stan Druckenmiller) are leaving the business.
To some degree, Stan's decision reflects how difficult it is to deliver superior investment returns in a world driven by the uncertainty of policy and economic/investment outcomes superimposed by the destabilizing effect of an algorithm-based world of short-term momentum strategies and, perhaps even more importantly, short-term-oriented investors. His decision reflects an investment world that has grown increasingly less predictable, and the ability to deliver superior investment returns has been challenged, in part by some of the factors mentioned above. We're in an environment in which portfolio managers and investors are dually frustrated. To many, it is getting to the point where "it's no fun anymore."
Importantly, Stanley's exit is reminiscent of when value was out of favor and glittering hedge fund manager Julian Robertson quit in the early 2000s, so I suppose you can say that history rhymes! But remember, almost as soon as the ink dried and Julian closed shop, his beloved "value stocks" came back in vogue.
Such a shift could happen again as a dysfunctional market moves back into a biased-to-the-upside trend -- just at a time when some throw their hands up in the air in despair!
And, as vividly expressed in Sunday's New York Times Business section ("In Striking Shift, Small Investors Flee Stock Market") retail investors have fled domestic equity funds in favor of yields in the bond market. (Over the last year, there has been a record flow into bond funds compared to equity funds.)
With the two dominant investor groups -- hedge funds and retail investors -- derisking, who is left to sell?
Summary
The U.S. stock market has already discounted a recession/double dip. And the notion of secular headwinds has been recently adopted by the consensus and has contributed to a weak equity market.
Domestic economic and stock market expectations are low.
While a number of risk metrics and risk markets have improved, equities still lie near the bottom of a projected trading range.
Stocks are especially attractive relative to interest rates, and an extended period of underperformance against fixed income has soured both hedge funds and retail investors toward equities.
It is time to fade the growing negative consensus and adopt a variant view by becoming more constructive on stocks.
-- Proverb
The permabulls (who generally missed the 2008-09 Bear Market Great Decession), until recently have called for a "V"-shaped domestic economic recovery and have been targeting about 1300 on the S&P 500 index as their objective. Some strategists, like JPMorgan's well-regarded Tom Lee, remain steadfast in their views and are still holding on to this target despite the ambiguity of the current soft patch that has taken most permabulls by surprise.
By contrast, the permabears (who generally missed the near 60% upside move in stocks from the generational low and the sharp recovery in domestic GDP) have called for a double dip in the U.S. economy and have been targeting about 900 on the S&P. Their mantra consists of "Black Crosses," "Hindenburg Omens" and structural, fundamental and nontraditional headwinds ("It's different this time").
I think both camps are hyperbolic (the bears more than the bulls) and attention-seeking, but their respective views will likely not provide investors with viable or profitable strategies.
The investment and economic "truth" likely lies somewhere in between.
For some time I have suggested that the economic recovery would be uneven and inconsistent. At times it will appear that the economy is headed back into recession; at other times it will appear that the economy is reaccelerating its growth rate.
I see nothing to alter this view.
As I have previously written, we are in this vortex of tax and regulatory traps. The uncertainty of policy has resulted in what can be viewed as a fiscal tightening and a paralysis of corporate indecision. Arguably the continued weak series of economic releases over the past week increases the possibility that, by year-end, we will see a renewed sense of urgency from our politicians for policy relief from the tax and regulatory logjam.
A catalyst to a tipping point of changing fiscal policy could also occur as an outgrowth of a Republican win in November's elections, leading to a decision to continue the Bush tax cuts or even institute a payroll tax cut (or other "outside the box" initiative) in early 2011. (The market, as it usually does, will likely react positively in advance of these possibilities.)
In direct contrast to Wired magazine's Peter Schwartz and Peter Leydens's 1997 "The Long Boom: A History of the Future, 1980-2020" -- "We're facing 25 years of prosperity, freedom and a better environment for the whole world. You got a problem with that?" -- investors see us in a new paradigm of slow or no growth. But just like Schwartz and Leyden's bogus paradigm, which set the stage for the tech bubble and its collapse, the newest paradigm of Roubini-like gloom, "The Short Boom" -- like the "Long Boom" it follows -- seems likely to be also dead on arrival.
An easy Federal Reserve that is content to maintain a zero-interest-rate policy indefinitely, coupled with a cycle low in inventories, residential investment, automobile unit and capital spending sales relative to their long-term relationship to GDP and relative to their longer-term trends, argue strongly against a domestic double dip. Moreover, an expected mean regression of these four series could provide important support for a moderate expansion in GDP growth in the years ahead.
In other words, the current soft patch indicates a moderating expansion but not a double dip.
And history shows that that moderate economic growth typically produces positive investment returns. Since 1950, quarterly real GDP growth rates of 0% to 1% have produced a quarterly return in the S&P 500 of more than 2%. According to Miller Tabak's Dan Greenhaus,
Equity returns needn't be negative in a slow growth environment. ... There's about a coin flip's chance of the S&P 500 being down in any given quarter in which GDP contracts. Viewed another way, 50% of the time the economy contracts in a given quarter, the S&P 500 increases in value and does so by more than 9%.
Stocks Are Extraordinarily Cheap Against Interest Rates
The low level of interest rates remains the single most compelling bullish argument for stocks -- and there are many examples of a disconnect between stocks, interest rates and other metrics/markets of risk.
* For the first time since 1962, the yield on the Dow Jones Industrial Average exceeds that of bond yields.
* Risk premiums (the difference between the earnings yield of the S&P index and the 10-year U.S. note) is at the highest level since the beginning of the modern era's bull market that began in the early 1980s.
* Nearly four-fifths of the companies contained in the S&P 500 index possess earnings yields that are greater than bond yields. And many have (growing) dividend yields that are similar to their own bond yields.
* In a Friday conference call, JPMorgan's Tom Lee observed that the performance between bonds and stocks over the past 10 years has never been as wide in any decade in history. Whenever stocks have a negative 10-year gap in performance relative to fixed income, the average yearly return in the following decade is approximately 13%.
* Stocks are moving contra to the improving risk metrics and risk markets. For example, two-year bank swap spreads are back down to April levels -- when the S&P 500 traded at 1218.
* Stocks have also disconnected from the junk bond markets. The high-yield markets are economically sensitive and are not indicating a broad economic slide. Junk prices are only about 3% off their high and stand at nearly +9% year to date. By contrast, stocks are 14% off their highs and are down by 4% year to date.
Finally, Mike O'Rourke of BTIG had some further solid observations about how undervalued stocks are relative to interest rates last night:
The "BTIG Fed Model" attempts to place a more conservative and defensive twist on the traditional Fed Model. When the levels of risk and fear rise in the financial market, Treasury Bonds represent the safe haven for investors and Equities are a proxy for risk. Thus, Treasuries become expensive relative to Equities, but that heightened level of risk is the obvious reason for that shift.
In order to account for the fear risk, in the BTIG Fed Model, we use the Vix in conjunction with the 10 Year Treasury Yield to raise the threshold with which Equities must compete. During these episodes of heightened fear, the Vix traditionally moved inversely with the 10 year Treasury yield. The Vix rises with the volatility and Treasury yields contract due to a flight to quality. Thus by taking the Vix and dividing by 10 and adding it to the 10 Treasury yield, we derive a larger number representing bonds not only reflecting the expected cash flow, but also adjusting for the heighted level of risk investors perceive in equities. Then comparing this "higher bar" to the S&P 500 earnings yield, one is comparing this relationship on a more conservative basis for equity investors. Additionally, we are using trailing S&P 500 earnings yield, which is also more conservative than using forward estimates.
What is extremely noteworthy about this metric in the current environment is that the level of equity undervaluation relative to Treasuries today using this model is equivalent to the extreme levels registered in early March of last year.
The improvements for equities are on all fronts. As we noted last week, Treasury yields today are lower than they were at the equity market bottom. The Vix is at one half its level of March 2009 (simultaneously, it is not low either) and very importantly, corporate earnings have mustered an incredible rebound. We are asserting that on a risk adjusted basis, the environment for equities versus bonds today is the equivalent to that of early March 2009.
The improvement in the standing of equities in this relationship will likely come from reversions on both sides -- equities rallying and bonds selling off. While there are no guarantees that equities will not get cheaper, this certainly indicates the odds of success are much greater for investors who are on the bid side of the equity market.
Valuations Are Compelling
At under 12x 2010 estimates, equities seem inexpensive to a multi-decade average of over 15x and at 17x when inflation is contained and interest rates are low.
Since 1962 the yield on the 10-year U.S. note has averaged about 365 basis points above the quarterly pace of real GDP growth. With the current 10-year yield of 2.58%, the fixed income market is discounting negative real growth in the domestic economy.
As Omega Advisors' Lee Cooperman mentioned over the weekend, industrial companies are taking notice of the developing values -- it is unlikely that BHP and INTC would propose spending $30 billion and $9 billion, respectively, for the acquisition of POT and MFE if they felt an economic apocalypse was on the horizon.
Economic/Stock Market Expectations Are Low
There is not a market participant extant who doesn't recognize that the slope of the recovery in the domestic economy will be "different this time," and that the ramifications of the administration's populist policy, the growing perception of a structural rise in U.S. unemployment, consumer deleveraging, concerns of deflation, the emergence of nontraditional (and intermediate-term) headwinds (e.g., fiscal imbalances, higher marginal tax rates, costly regulation, etc.) all will serve as a brake to domestic growth.
And what about the common view that the consumer is spent-up, not pent-up? The bearish view that the consumer is the Achilles' heel to growth might be worthy of challenge.
As Morgan Stanley noted late last week:
American consumers are deleveraging their balance sheets and rebuilding savings faster than expected. While debt/income is elevated two key metrics indicate that the deleveraging timetable is nearly a year ahead of schedule. Looking forward, the plunge in mortgage rates will likely push debt service still lower. And the headwind to consumer spending from deleveraging will be a smaller risk to the outlook, as consumers now can spend more of their income.
We believe that 11-12% is a sustainable debt-service ratio, consistent with debt/income of 80-100%. The first of those goals likely is attainable by late this year, accompanied by real annualized spending growth of 2-2.5%, a personal saving rate remaining in a 5-6.5% range through 2011, and a 2009-11 contraction in consumer debt of about 8%. ... Lower debt service frees up discretionary spending power and makes consumers more creditworthy. Once achieved, a higher savings rate enables consumers to maintain spending, continue to pay down debt and accumulate wealth the old-fashioned way.
Sentiment Weak ... and Weakening
Much like 17 months ago, we appear to be rapidly approaching a negative extreme in market and economic sentiment.
The hedge fund industry has derisked. Net long equity positions remain low by historic standards and, increasingly, hedge hoggers (like Stan Druckenmiller) are leaving the business.
To some degree, Stan's decision reflects how difficult it is to deliver superior investment returns in a world driven by the uncertainty of policy and economic/investment outcomes superimposed by the destabilizing effect of an algorithm-based world of short-term momentum strategies and, perhaps even more importantly, short-term-oriented investors. His decision reflects an investment world that has grown increasingly less predictable, and the ability to deliver superior investment returns has been challenged, in part by some of the factors mentioned above. We're in an environment in which portfolio managers and investors are dually frustrated. To many, it is getting to the point where "it's no fun anymore."
Importantly, Stanley's exit is reminiscent of when value was out of favor and glittering hedge fund manager Julian Robertson quit in the early 2000s, so I suppose you can say that history rhymes! But remember, almost as soon as the ink dried and Julian closed shop, his beloved "value stocks" came back in vogue.
Such a shift could happen again as a dysfunctional market moves back into a biased-to-the-upside trend -- just at a time when some throw their hands up in the air in despair!
And, as vividly expressed in Sunday's New York Times Business section ("In Striking Shift, Small Investors Flee Stock Market") retail investors have fled domestic equity funds in favor of yields in the bond market. (Over the last year, there has been a record flow into bond funds compared to equity funds.)
With the two dominant investor groups -- hedge funds and retail investors -- derisking, who is left to sell?
Summary
The U.S. stock market has already discounted a recession/double dip. And the notion of secular headwinds has been recently adopted by the consensus and has contributed to a weak equity market.
Domestic economic and stock market expectations are low.
While a number of risk metrics and risk markets have improved, equities still lie near the bottom of a projected trading range.
Stocks are especially attractive relative to interest rates, and an extended period of underperformance against fixed income has soured both hedge funds and retail investors toward equities.
It is time to fade the growing negative consensus and adopt a variant view by becoming more constructive on stocks.
Another Shitty Day
We started with a typical Monday morning bang, but we finished with a whimper and at the lows of the day. Overall, it was a disappointing day. The bulls had the opportunity to gun us up and maybe even squeeze the bears, but we topped out after just 15 minutes of trading, and it wasn't long before we were in the red. The bulls tried to recover in the early afternoon, but that fizzled as the day wore down, and we finished with a straight-down move and at the lows.
Volume was very light again, but breadth made a major intraday reversal from about 5 to 1 positive to around 2 to 1 negative at the end of the day. Steel, coal, regional banks and chips lagged while pharmaceuticals attracted some interest among those looking for safety.
More damage was done today to key stocks such as AAPL and GOOG. Other key big-caps such as INTC and CSCO never were able to get much going after their earnings reports.
The biggest positive the bulls have had going for them has been the generally strong second-quarter earnings reports, but as we've seen in the semiconductor sector, many people are worried that the cycle may have peaked. Good earnings are keeping some bids under this market for now, but if we have to depend on value buyers to support us, we are going to struggle.
long AAPL; INTC
Volume was very light again, but breadth made a major intraday reversal from about 5 to 1 positive to around 2 to 1 negative at the end of the day. Steel, coal, regional banks and chips lagged while pharmaceuticals attracted some interest among those looking for safety.
More damage was done today to key stocks such as AAPL and GOOG. Other key big-caps such as INTC and CSCO never were able to get much going after their earnings reports.
The biggest positive the bulls have had going for them has been the generally strong second-quarter earnings reports, but as we've seen in the semiconductor sector, many people are worried that the cycle may have peaked. Good earnings are keeping some bids under this market for now, but if we have to depend on value buyers to support us, we are going to struggle.
long AAPL; INTC
Friday, August 20, 2010
Thoughts, From The Mind
Credit Suisse initiated the mortgage insurance sector this morning with buys on PMI and RDN. MTG was rated 'hold.'
Run, don't walk, to read 'Financial Reform: What Will the Dodd-Frank Act Accomplish?' from Knowledge@Wharton.
Run, don't walk, to read 'Financial Reform: What Will the Dodd-Frank Act Accomplish?' from Knowledge@Wharton.
Should've Owned CRM
It was another very slow day of action, but we did manage to bounce a little this afternoon, and that did ease the losses a bit. Technology stocks led, and that helped the Nasdaq to outperform, but oil and financials struggled, and that helped to hold things down. Volume did pick up, but that was mostly a function of option expiry.
Technically, we did manage to close above the August lows, but the major indices are not in a very good spot. There is plenty of overhead resistance to deal with, such as the 50-day simple moving average of the S&P 500 at 1089, and there isn't much underlying support.
The biggest problem we face is that the economic news just hasn't been very good lately, and we don't seem to have fully discounted that. Next week we have existing-home sales, durable goods and revised GDP. There is little optimism about those reports, but the market doesn't seem to fully reflect the growing concern over a double-dip recession.
We have some chasing of stocks that look fairly extended, such as CRM, INTU, FFIV, JKS, AKAM and VMW, but the majority of stocks are doing absolutely nothing.
Next week the action is likely to remain drifty and random, so you don't want to be too dogmatic in your market view. This has been a very tough market for stock-picking but that is what you have to do if you wish to stay active when we have such light volume. After Labor Day volume will pick up, but keep in mind that September is historically a very difficult month.
Technically, we did manage to close above the August lows, but the major indices are not in a very good spot. There is plenty of overhead resistance to deal with, such as the 50-day simple moving average of the S&P 500 at 1089, and there isn't much underlying support.
The biggest problem we face is that the economic news just hasn't been very good lately, and we don't seem to have fully discounted that. Next week we have existing-home sales, durable goods and revised GDP. There is little optimism about those reports, but the market doesn't seem to fully reflect the growing concern over a double-dip recession.
We have some chasing of stocks that look fairly extended, such as CRM, INTU, FFIV, JKS, AKAM and VMW, but the majority of stocks are doing absolutely nothing.
Next week the action is likely to remain drifty and random, so you don't want to be too dogmatic in your market view. This has been a very tough market for stock-picking but that is what you have to do if you wish to stay active when we have such light volume. After Labor Day volume will pick up, but keep in mind that September is historically a very difficult month.
Thursday, August 19, 2010
From JPMorgan:
In light of the recent string of weak economic data, including today's further rise in initial jobless claims, the forecast for U.S. real GDP growth is being revised down to 1.5% for third quarter 2010 (from 2.5%) and 2.0% for fourth quarter 2010 (from 3.0%). This is the second downward revision to growth in second half 2010 and the most important one. The new forecast looks for subpar growth through the second half of this year and for a rise in the unemployment rate toward 10%.
This morning Credit Suisse directly addresses the "U.S. is like Japan" debate:
The U.S. is not Japan 15 years ago. We find many more differences than similarities between the U.S. today and Japan 15 years ago:
1. The U.S. has had far more proactive fiscal/monetary policy. (Japanese monetary conditions were tight until 1995. Unlike the U.S. today, Japan fiscal easing was small.)
2. Japan had falling wages since 1997 and negative inflation expectations since 1993. (U.S. wage growth and inflation expectations are >2%.) Falling wages creates sustained deflation.
3. Asset deflation was more acute in Japan, with house prices declining by almost 80% in the big cities.
4. The U.S. moved to recapitalize banks quickly and has already written down 85% of their estimated losses (Japan needed 13 years.)
5. Japan was very slow to deregulate, and hence the price of labor fell as opposes to the quantity. With companies having little incentive to maximize return on equity, the return on capital is one-third that of the U.S.
6. Deflation became economically and politically acceptable because Japanese households have net financial assets of 41% of GDP, so they benefit from deflation.
Today's weak claims report should increase the possibility of a more focused policy response from the administration.
I have written about the 'decade of the temporary worker' - today's elevated jobless claims underscores my theme.
Yesterday marked the surprise announcement by Stanley Druckenmiller that he is shutting down his hedge fund. In a release, he cited how difficult it was to perform over the past three years.
I have admired him for his macro visions and his ability and his willingness to take outsized bets.
From my perch, the decision by Stanley Druckenmiller reflects, in part, how difficult it is to deliver superior investment returns in a world driven by the uncertainty of policy and economic/investment outcomes superimposed by the destabilizing effect of an algorithm-based world of short-term momentum strategies and, perhaps even more importantly, short-term-oriented investors. It is especially difficult when you reach $10 billion in capital, as Stanley had at Duquesne Capital.
The investment world has grown increasingly less predictable, and the ability to deliver superior investment returns has been challenged (in part by some of the factors mentioned above). It is an environment in which portfolio managers and investors are dually frustrated. To many, it is "getting to the point where it is no fun anymore."
Stanley's exit yesterday is reminiscent of when value was out of favor and the glittering hedge fund manager, Julian Robertson, quit in the early 2000s, so I suppose you can say that history rhymes!
In light of the recent string of weak economic data, including today's further rise in initial jobless claims, the forecast for U.S. real GDP growth is being revised down to 1.5% for third quarter 2010 (from 2.5%) and 2.0% for fourth quarter 2010 (from 3.0%). This is the second downward revision to growth in second half 2010 and the most important one. The new forecast looks for subpar growth through the second half of this year and for a rise in the unemployment rate toward 10%.
This morning Credit Suisse directly addresses the "U.S. is like Japan" debate:
The U.S. is not Japan 15 years ago. We find many more differences than similarities between the U.S. today and Japan 15 years ago:
1. The U.S. has had far more proactive fiscal/monetary policy. (Japanese monetary conditions were tight until 1995. Unlike the U.S. today, Japan fiscal easing was small.)
2. Japan had falling wages since 1997 and negative inflation expectations since 1993. (U.S. wage growth and inflation expectations are >2%.) Falling wages creates sustained deflation.
3. Asset deflation was more acute in Japan, with house prices declining by almost 80% in the big cities.
4. The U.S. moved to recapitalize banks quickly and has already written down 85% of their estimated losses (Japan needed 13 years.)
5. Japan was very slow to deregulate, and hence the price of labor fell as opposes to the quantity. With companies having little incentive to maximize return on equity, the return on capital is one-third that of the U.S.
6. Deflation became economically and politically acceptable because Japanese households have net financial assets of 41% of GDP, so they benefit from deflation.
Today's weak claims report should increase the possibility of a more focused policy response from the administration.
I have written about the 'decade of the temporary worker' - today's elevated jobless claims underscores my theme.
Yesterday marked the surprise announcement by Stanley Druckenmiller that he is shutting down his hedge fund. In a release, he cited how difficult it was to perform over the past three years.
I have admired him for his macro visions and his ability and his willingness to take outsized bets.
From my perch, the decision by Stanley Druckenmiller reflects, in part, how difficult it is to deliver superior investment returns in a world driven by the uncertainty of policy and economic/investment outcomes superimposed by the destabilizing effect of an algorithm-based world of short-term momentum strategies and, perhaps even more importantly, short-term-oriented investors. It is especially difficult when you reach $10 billion in capital, as Stanley had at Duquesne Capital.
The investment world has grown increasingly less predictable, and the ability to deliver superior investment returns has been challenged (in part by some of the factors mentioned above). It is an environment in which portfolio managers and investors are dually frustrated. To many, it is "getting to the point where it is no fun anymore."
Stanley's exit yesterday is reminiscent of when value was out of favor and the glittering hedge fund manager, Julian Robertson, quit in the early 2000s, so I suppose you can say that history rhymes!
And Now Back To The Selling.....
After a low-volume, oversold bounce that lasted two days, the bears are back. Not only did we have lousy breadth, volume increased to give us a clear day of distribution. Gold mining and agriculture managed some green, but all other major sectors were in the red.
There isn't any big mystery to what spooked the market. Weekly unemployment claims ticked up to the 500,000 level, and the Philly Fed had the worst reading in over a year. You can find various ways to explain that away, but you have to be fairly creative to spin that news positively.
The market has low volume and late-summer ennui working against in addition to the well-known inclination for seasonal weakness, especially in September. Good earnings are what held the market up in July and early August, but now the main news flow is economic numbers, and the best reaction we can hope for these days is "That number isn't so terrible."
The downtrend that started back in late April is still in place. We have had a series of failed bounces, and the one we had this week was particularly weak. We have some minor downside support coming into play, but there isn't much until we hit the lows of the year that we saw at the start of July.
We'll see if the bulls can pull something together here, but the technical conditions are working against them.
There isn't any big mystery to what spooked the market. Weekly unemployment claims ticked up to the 500,000 level, and the Philly Fed had the worst reading in over a year. You can find various ways to explain that away, but you have to be fairly creative to spin that news positively.
The market has low volume and late-summer ennui working against in addition to the well-known inclination for seasonal weakness, especially in September. Good earnings are what held the market up in July and early August, but now the main news flow is economic numbers, and the best reaction we can hope for these days is "That number isn't so terrible."
The downtrend that started back in late April is still in place. We have had a series of failed bounces, and the one we had this week was particularly weak. We have some minor downside support coming into play, but there isn't much until we hit the lows of the year that we saw at the start of July.
We'll see if the bulls can pull something together here, but the technical conditions are working against them.
Wednesday, August 18, 2010
Thoughts
The sort of flight to safety and risk-aversion and a willingness to accept near negative real rates of return on bonds is eerily reminiscent of the sort of attitude toward equities at the generational market bottom in March 2009.
Stanley Druckenmiller exit is reminiscent of when value was out of favor and Julian Robertson quit in the early 2000s.
From my perch, the decision by Stanley Druckenmiller (who is one of the smartest and most philanthropic hedge-hoggers extant) reflects how difficult it is to deliver superior investment returns in an algorithm-driven world of short-term momentum investors.
Stanley's exit is reminiscent of when value was out of favor and Julian Robertson quit in the early 2000s.
I suppose you can say history rhymes!
We had a big turnaround in the RTH after TGT's upbeat comments.
Stanley Druckenmiller is shutting down his hedge fund. This is a huge surprise to the investment community.
Dr. Jeremy Siegel compares the bubble in the bond market to the Internet and technology mania a decade ago. Unlike tech stocks, however, bonds eventually get paid off at par!
In the piece, he compares the bubble in the bond market to the Internet and technology mania a decade ago that "saw high-flying tech stocks selling at an excess of 100 times earnings. The aftermath was predictable: Most of these highfliers declined 80% or more, and the Nasdaq today sells at less than half the peak it reached a decade ago."
Dr. Siegel goes on to state, "A similar bubble is expanding today that may have far more serious consequences for investors. It is in bonds."
I have disagreed with Wharton's Dr Siegel on numerous occasions, and I will, once again.
I agree with the kind Professor's conclusion that bonds are in a speculative blow-off.
The difference I have with his parallel between tech stocks and bonds is that, unlike tech stocks, bonds eventually get paid off at par!
Shorting the U.S. bond market will be the trade of the decade.
For the first time since 1962, the dividend yield on the DJIA has eclipsed the yield on the U.S. 10-year note.
A flight to safety, the ramifications of the administration's stupid populist policy, the growing perception of a structural rise in U.S. unemployment, fears of a double-dip, concerns of deflation, the emergence of nontraditional (and intermediate-term) headwinds (e.g., fiscal imbalances, higher marginal tax rates, costly regulation, etc.) that will serve as a brake to domestic growth, an extension of zero-interest-rate monetary policy with more quantitative easing and the long tail of deleveraging (and reduced availability of credit) all help to explain the strength in the bond market and the precipitous drop in yields.
Nevertheless, I view the great bull market in bonds to be approaching a speculative blow-off, and I am increasingly of the view that shorting the U.S. bond market will be the trade of the decade.......
Stanley Druckenmiller exit is reminiscent of when value was out of favor and Julian Robertson quit in the early 2000s.
From my perch, the decision by Stanley Druckenmiller (who is one of the smartest and most philanthropic hedge-hoggers extant) reflects how difficult it is to deliver superior investment returns in an algorithm-driven world of short-term momentum investors.
Stanley's exit is reminiscent of when value was out of favor and Julian Robertson quit in the early 2000s.
I suppose you can say history rhymes!
We had a big turnaround in the RTH after TGT's upbeat comments.
Stanley Druckenmiller is shutting down his hedge fund. This is a huge surprise to the investment community.
Dr. Jeremy Siegel compares the bubble in the bond market to the Internet and technology mania a decade ago. Unlike tech stocks, however, bonds eventually get paid off at par!
In the piece, he compares the bubble in the bond market to the Internet and technology mania a decade ago that "saw high-flying tech stocks selling at an excess of 100 times earnings. The aftermath was predictable: Most of these highfliers declined 80% or more, and the Nasdaq today sells at less than half the peak it reached a decade ago."
Dr. Siegel goes on to state, "A similar bubble is expanding today that may have far more serious consequences for investors. It is in bonds."
I have disagreed with Wharton's Dr Siegel on numerous occasions, and I will, once again.
I agree with the kind Professor's conclusion that bonds are in a speculative blow-off.
The difference I have with his parallel between tech stocks and bonds is that, unlike tech stocks, bonds eventually get paid off at par!
Shorting the U.S. bond market will be the trade of the decade.
For the first time since 1962, the dividend yield on the DJIA has eclipsed the yield on the U.S. 10-year note.
A flight to safety, the ramifications of the administration's stupid populist policy, the growing perception of a structural rise in U.S. unemployment, fears of a double-dip, concerns of deflation, the emergence of nontraditional (and intermediate-term) headwinds (e.g., fiscal imbalances, higher marginal tax rates, costly regulation, etc.) that will serve as a brake to domestic growth, an extension of zero-interest-rate monetary policy with more quantitative easing and the long tail of deleveraging (and reduced availability of credit) all help to explain the strength in the bond market and the precipitous drop in yields.
Nevertheless, I view the great bull market in bonds to be approaching a speculative blow-off, and I am increasingly of the view that shorting the U.S. bond market will be the trade of the decade.......
Claims Tomorrow
The bulls did a nice job today of adding some small gains to yesterday's spike.
Once again, the volume was around the lightest of the year and we closed a bit weak but, after the poor start this morning, breadth turned positive and we had some leadership from retailers. It was the recovery in TGT, after a gap-down on its earnings report, that really helped out today.
Technically the Nasdaq still hasn't been able to make it through the 50-day simple moving average at 2,229 and the S&P500 sputtered out at 1,100 again. Although we do have positive action, it just isn't very vigorous, and market players seem to be happy keeping some of their powder dry.
It isn't bad action at all but, with volume so low and plenty of technical hurdles to the upside, it isn't an environment where the technical-trader yahoos can feel comfortable with aggressive buying. There is a very good chance we'll roll back over, especially if the indices don't cut through the technical overhead with some conviction in the next day or so.
Once again, the volume was around the lightest of the year and we closed a bit weak but, after the poor start this morning, breadth turned positive and we had some leadership from retailers. It was the recovery in TGT, after a gap-down on its earnings report, that really helped out today.
Technically the Nasdaq still hasn't been able to make it through the 50-day simple moving average at 2,229 and the S&P500 sputtered out at 1,100 again. Although we do have positive action, it just isn't very vigorous, and market players seem to be happy keeping some of their powder dry.
It isn't bad action at all but, with volume so low and plenty of technical hurdles to the upside, it isn't an environment where the technical-trader yahoos can feel comfortable with aggressive buying. There is a very good chance we'll roll back over, especially if the indices don't cut through the technical overhead with some conviction in the next day or so.
Tuesday, August 17, 2010
Thoughts
In the back of my mind there is an ever present exogenous factor -- namely, Middle East unrest -- that could upset the market's delicate balance.
And, we certainly have gotten terribly complacent about this unknown variable.
In these uncertain times, with such a wide range of economic/stock market outcomes (many of which are not benign), it is not a great strategy to chase strength.
U.S. Industrial Production rose by 1.0% in July, well above the consensus expectation.
The S&P 500 could move toward (and perhaps even past) 1,150 over the next few months.
With the stock market oversold and the bond market overbought, and with sentiment deteriorating further as hedge funds de-risk and retail investors remain inert, and with growing evidence of economic stabilization and the potential for better forward-looking metrics (including good Spain and Ireland government debt auctions last night), and with some early signs of increased M&A activity, the market outlook has improved.
Over the course of the next few months, I can now see the U.S. stock market moving toward the upper end of my expected range (1,020-1,150).
An overshoot could occur if economic statistics improve moderately and fixed income reverses its recent climb, creating the possibility of an important and market-moving reallocation trade.
One of the most important Fed surveys is the one that records senior loan officers' intentions to lend. The survey indicated that we experienced the largest easing of credit terms at the country's banks in over three years. In a more normal and active market, this survey would have been market-moving.
The results, buried in the minutia and noise of the trading day yesterday, were undeniably upbeat, as the survey indicated that we experienced the largest easing of credit terms at the country's banks in over three years (albeit from very low levels) during the second quarter. Importantly, demand appears to be stabilizing from previous weakness.
The results foreshadow better third-quarter 2010 economic growth than the Cassandras and double-dippers are suggesting:
* 3.5% of the banks tightened credit terms vs. 3.6% in first quarter 2010 and 35% in second quarter 2009;
* 84% of the banks indicated that credit terms were not changed vs. 86% in first quarter 2010 and 61% in second quarter 2009;
* 12.3% of the banks lowered credit terms vs. 10.7% in first quarter 2010 and 4% in second quarter 2009;
* while lending for lower credits did not ease, credit terms eased for standard mortgages, consumer and commercial loans; and
* loan demand has generally stabilized as contrasted with the prior weakness.
Last night, the BTIG strategist Mike O'Rourke captured the essence of why we have seen improvement in credit terms and why it should continue:
As this economy has undertaken the process of deleveraging, the overwhelming majority of the willingness to borrow has come from the U.S. government. Simultaneously, investors have been tripping over one another to lend to the U.S. government, even for meager returns. Large corporations are flush with cash, small businesses have not experienced a pick‐up in business that merits borrowing or expansion, and consumers are still in the mind-set of paying down obligations. The net result of these factors is that despite having $1 trillion in reserves, bank lending has been contracting. The banks have noted repeatedly they are willing to lend it, but they have been having trouble finding creditworthy borrowers. The fact is those who they would like to lend to the most (i.e., the large corporations) have record levels of cash, and they are uncertain how to deploy it in the current "unusually uncertain" world.
C&I loans outstanding are bumping along the bottom of nearly three-and-a-half-year lows and are down 25% from the peak levels registered in 2008. The Fed survey released today noted that banks are starting to ease lending standards on these loans. Even more important is the reason that banks began easing standards. According to the Fed, "Banks pointed to increased competition in the market for C&I loans as an important factor behind the recent easing of terms and standards." It is interesting that the banks are becoming motivated to lend. As it stands now, C&I loan demand by borrowers is finally just stabilizing after years of shrinking.
What we believe is happening here is that banks are begrudgingly being forced back into banking by the market and investors. Think about when second-quarter earnings season commenced last month, the banks set the tone with revenue misses on the top line as earnings beat on the bottom line. We would speculate that the banks will likely be punished again if they don't exhibit improvement in coming quarters. The key problem during the second quarter was the weakness of the capital markets business. It is safe to say that business has not picked up here in the third quarter. Investors don't want to see these institutions operate as if they are in runoff mode, not replenishing maturing loans with new ones, leading to that shrinking C&I.
Likewise the banks can only use conservatism and prudence as a mantra for so long while they are releasing credit reserves and keeping $1 trillion parked at the Fed for emergencies. In addition, it is highly likely credit written here in 2010 is likely to be among the best vintages in a very long time. Instead of writing new loans, the banks have been providing financing to the U.S. government and the GSEs by purchasing Treasuries and agency MBS. Hiding behind securities backed by the U.S. government, explicitly and implicitly, has been the "safe" way for banks to earn during the early stages of the recovery. As is clearly obvious, as these yields continue to compress, the risk/reward ratio will actually shift in favor of lending to a business for an actual spread rather than parking in two-year Treasuries for less than 50 basis points. Finally, one last data point from the Fed survey is that 22.6% of banks have increased their willingness to make consumer installment loans. Similar to the case for business lending, the demand is not there yet. It is lagging business demand, but it is moving in the direction where it can stabilize in the coming months.
And, we certainly have gotten terribly complacent about this unknown variable.
In these uncertain times, with such a wide range of economic/stock market outcomes (many of which are not benign), it is not a great strategy to chase strength.
U.S. Industrial Production rose by 1.0% in July, well above the consensus expectation.
The S&P 500 could move toward (and perhaps even past) 1,150 over the next few months.
With the stock market oversold and the bond market overbought, and with sentiment deteriorating further as hedge funds de-risk and retail investors remain inert, and with growing evidence of economic stabilization and the potential for better forward-looking metrics (including good Spain and Ireland government debt auctions last night), and with some early signs of increased M&A activity, the market outlook has improved.
Over the course of the next few months, I can now see the U.S. stock market moving toward the upper end of my expected range (1,020-1,150).
An overshoot could occur if economic statistics improve moderately and fixed income reverses its recent climb, creating the possibility of an important and market-moving reallocation trade.
One of the most important Fed surveys is the one that records senior loan officers' intentions to lend. The survey indicated that we experienced the largest easing of credit terms at the country's banks in over three years. In a more normal and active market, this survey would have been market-moving.
The results, buried in the minutia and noise of the trading day yesterday, were undeniably upbeat, as the survey indicated that we experienced the largest easing of credit terms at the country's banks in over three years (albeit from very low levels) during the second quarter. Importantly, demand appears to be stabilizing from previous weakness.
The results foreshadow better third-quarter 2010 economic growth than the Cassandras and double-dippers are suggesting:
* 3.5% of the banks tightened credit terms vs. 3.6% in first quarter 2010 and 35% in second quarter 2009;
* 84% of the banks indicated that credit terms were not changed vs. 86% in first quarter 2010 and 61% in second quarter 2009;
* 12.3% of the banks lowered credit terms vs. 10.7% in first quarter 2010 and 4% in second quarter 2009;
* while lending for lower credits did not ease, credit terms eased for standard mortgages, consumer and commercial loans; and
* loan demand has generally stabilized as contrasted with the prior weakness.
Last night, the BTIG strategist Mike O'Rourke captured the essence of why we have seen improvement in credit terms and why it should continue:
As this economy has undertaken the process of deleveraging, the overwhelming majority of the willingness to borrow has come from the U.S. government. Simultaneously, investors have been tripping over one another to lend to the U.S. government, even for meager returns. Large corporations are flush with cash, small businesses have not experienced a pick‐up in business that merits borrowing or expansion, and consumers are still in the mind-set of paying down obligations. The net result of these factors is that despite having $1 trillion in reserves, bank lending has been contracting. The banks have noted repeatedly they are willing to lend it, but they have been having trouble finding creditworthy borrowers. The fact is those who they would like to lend to the most (i.e., the large corporations) have record levels of cash, and they are uncertain how to deploy it in the current "unusually uncertain" world.
C&I loans outstanding are bumping along the bottom of nearly three-and-a-half-year lows and are down 25% from the peak levels registered in 2008. The Fed survey released today noted that banks are starting to ease lending standards on these loans. Even more important is the reason that banks began easing standards. According to the Fed, "Banks pointed to increased competition in the market for C&I loans as an important factor behind the recent easing of terms and standards." It is interesting that the banks are becoming motivated to lend. As it stands now, C&I loan demand by borrowers is finally just stabilizing after years of shrinking.
What we believe is happening here is that banks are begrudgingly being forced back into banking by the market and investors. Think about when second-quarter earnings season commenced last month, the banks set the tone with revenue misses on the top line as earnings beat on the bottom line. We would speculate that the banks will likely be punished again if they don't exhibit improvement in coming quarters. The key problem during the second quarter was the weakness of the capital markets business. It is safe to say that business has not picked up here in the third quarter. Investors don't want to see these institutions operate as if they are in runoff mode, not replenishing maturing loans with new ones, leading to that shrinking C&I.
Likewise the banks can only use conservatism and prudence as a mantra for so long while they are releasing credit reserves and keeping $1 trillion parked at the Fed for emergencies. In addition, it is highly likely credit written here in 2010 is likely to be among the best vintages in a very long time. Instead of writing new loans, the banks have been providing financing to the U.S. government and the GSEs by purchasing Treasuries and agency MBS. Hiding behind securities backed by the U.S. government, explicitly and implicitly, has been the "safe" way for banks to earn during the early stages of the recovery. As is clearly obvious, as these yields continue to compress, the risk/reward ratio will actually shift in favor of lending to a business for an actual spread rather than parking in two-year Treasuries for less than 50 basis points. Finally, one last data point from the Fed survey is that 22.6% of banks have increased their willingness to make consumer installment loans. Similar to the case for business lending, the demand is not there yet. It is lagging business demand, but it is moving in the direction where it can stabilize in the coming months.
Probably Not The Start Of An Uptrend, But Who Knows?
All this time I thought it was computers doing most of the buying and selling, but it turns out that animal spirits are the true origins of many of these moves.
I can see Mufasa's ghost (of The Lion King fame) talking to young Simba, the trader, "You have forgotten how to be bullish and so have forgotten me. Look inside yourself, Simba. You must buy. You must take your place in the Circle of Money Flow and Profits."
Unfortunately, Mufasa and all the other animal spirits called it a day with 30 minutes left until the close and headed back to that great game reserve in the sky. The consequence of their departure was a late-day sell-off that took some of the steam from this rally. And that late-day drop may have been just enough to give tomorrow's bulls a little hesitation.
After the bell, ADI came out with strong earnings and even stronger guidance. Reaction has been tepid, but at least it's a slight positive vs. other semiconductor companies. I still see this one challenging $30 this week, especially on the heels of today's strong earnings report.
There were certainly some outsized moves today and CSTR has clearly caught my attention. This one may be a sympathy play with NFLX. As the Netflix run ends, a new run in Coinstar may begin. I could envision a rotation from Netflix to Coinstar. Both were hammered after earnings and both bounced, but Netflix is well into its bounce (having cleared the pre-earnings price by over 10%) while Coinstar has just returned to the pre-earnings level.
Today was an overall a win for the bulls, but not as pretty as it could have been.
I can see Mufasa's ghost (of The Lion King fame) talking to young Simba, the trader, "You have forgotten how to be bullish and so have forgotten me. Look inside yourself, Simba. You must buy. You must take your place in the Circle of Money Flow and Profits."
Unfortunately, Mufasa and all the other animal spirits called it a day with 30 minutes left until the close and headed back to that great game reserve in the sky. The consequence of their departure was a late-day sell-off that took some of the steam from this rally. And that late-day drop may have been just enough to give tomorrow's bulls a little hesitation.
After the bell, ADI came out with strong earnings and even stronger guidance. Reaction has been tepid, but at least it's a slight positive vs. other semiconductor companies. I still see this one challenging $30 this week, especially on the heels of today's strong earnings report.
There were certainly some outsized moves today and CSTR has clearly caught my attention. This one may be a sympathy play with NFLX. As the Netflix run ends, a new run in Coinstar may begin. I could envision a rotation from Netflix to Coinstar. Both were hammered after earnings and both bounced, but Netflix is well into its bounce (having cleared the pre-earnings price by over 10%) while Coinstar has just returned to the pre-earnings level.
Today was an overall a win for the bulls, but not as pretty as it could have been.
Monday, August 16, 2010
Thoughts
Another low-volume day -- looks like maybe only 800 million shares of total volume by day's end!
American Express's Master Trust net write-offs dropped from 5.7% to 5.5% (month over month).
The trend for an improvement in credit quality appears intact for now.
Credit charge-off rates declined for BAC, COF and others (released today).
The principal case for the bank stocks remains an improvement in credit quality and that the shares are trading at a reasonable P/E multiple relative to earnings power.
And that trend in credit quality appears intact for now.
A GDP under +2% doesn't always mean a recession.
Before anyone panics regarding Ed Hyman's ISI comments that a GDP print of less than +2% typically presages a recession, it should be noted that GDP was below +2% in 1975, 1983 and 2001.
And none of those years had a recession.
I have observed that the banks are starting to show me something after several months of underperformance.
This could portend broader market strength over the short term.
Due to signs of broadening economic weakness, ISI has lowered its second-half GDP forecast from +2.5% to +2.0%. (Almost every time GDP has slowed to below 2%, "a recession has been signaled.")
Meanwhile, ISI's company surveys have improved in the past several weeks.
The market's upside and the economy's downside are currently mired in a vortex of liquidity, tax and regulatory traps.
Fed policy has likely done as much as it can and as much as it should:
* Zero-interest-rate policy stopped the Great Decession and the economic free-fall, but it has failed to create jobs.
* Quantitative easing has also helped to halt the financial crisis, but it did little to encourage small-business hiring and expansion.
* TARP stopped the carnage in the banking system, but it did little to encourage lending.
I add that there are unintended consequences of monetary policy. Low interest rates hurt the savers' class, especially the elderly. Meanwhile, well-positioned large corporations such as IBM, which borrowed short-term money at 1%, and MCD, which borrowed 10-year money at 3.5%, are aided by easy money.
The market's upside and the economy's downside are constrained and currently mired in a vortex of liquidity, tax and regulatory traps. These factors are undermining confidence and hurting valuations and probably won't change until the administration adopts a new playbook. The Fed can print money, but it can't print jobs. We need some combination of a transformative and focused jobs program, a cut in taxes and a simplification of the financial and health care regulatory initiatives. In essence, the current administration's policy has the effect of tightening economic and business conditions. In some ways policy is even more of a constraint to growth than a hike in interest rates would be.
By contrast, the downside is supported/protected by reasonable valuations and by the financial and operating strength of our largest corporations (especially of a S&P kind), which are generating record free cash flow, have cut costs to the bone and have taken advantage of a hospitable, friendly and cheap debt market. Hedge funds have de-risked, and retail investors have abandoned domestic equity funds, so who is left to sell? Meanwhile, inflation is quiescent, and short-term interest rates are very low and are likely to remain so for some time to come.
With corporations in such strong shape but with the consumer sector still deleveraging (and exposed to the continued risk of lower home and equity prices), a lumpy and inconsistent economic recovery that feels bad (because of structurally high unemployment) seems in order. At times, it will seem like we are reentering a recession; other times, it will seem as though economic growth is accelerating. These conditions will provide a setting that is hard for investors to navigate, particularly when algorithm-based high-frequency-trading strategies disrupt markets (at times), as their trading activity fills a light-volume void.
There are plenty of crosscurrents, but my baseline expectation remains for a range-bound market. Despite this tug of war, a reversal to better fiscal policy can resolve the range-bound market to the upside.
Even though I think we're range-bound, I like C, BAC, PRU and LNC in the financials; I especially like AAPL - it is very, very inexpensive below 250.....
long LNC; AAPL
American Express's Master Trust net write-offs dropped from 5.7% to 5.5% (month over month).
The trend for an improvement in credit quality appears intact for now.
Credit charge-off rates declined for BAC, COF and others (released today).
The principal case for the bank stocks remains an improvement in credit quality and that the shares are trading at a reasonable P/E multiple relative to earnings power.
And that trend in credit quality appears intact for now.
A GDP under +2% doesn't always mean a recession.
Before anyone panics regarding Ed Hyman's ISI comments that a GDP print of less than +2% typically presages a recession, it should be noted that GDP was below +2% in 1975, 1983 and 2001.
And none of those years had a recession.
I have observed that the banks are starting to show me something after several months of underperformance.
This could portend broader market strength over the short term.
Due to signs of broadening economic weakness, ISI has lowered its second-half GDP forecast from +2.5% to +2.0%. (Almost every time GDP has slowed to below 2%, "a recession has been signaled.")
Meanwhile, ISI's company surveys have improved in the past several weeks.
The market's upside and the economy's downside are currently mired in a vortex of liquidity, tax and regulatory traps.
Fed policy has likely done as much as it can and as much as it should:
* Zero-interest-rate policy stopped the Great Decession and the economic free-fall, but it has failed to create jobs.
* Quantitative easing has also helped to halt the financial crisis, but it did little to encourage small-business hiring and expansion.
* TARP stopped the carnage in the banking system, but it did little to encourage lending.
I add that there are unintended consequences of monetary policy. Low interest rates hurt the savers' class, especially the elderly. Meanwhile, well-positioned large corporations such as IBM, which borrowed short-term money at 1%, and MCD, which borrowed 10-year money at 3.5%, are aided by easy money.
The market's upside and the economy's downside are constrained and currently mired in a vortex of liquidity, tax and regulatory traps. These factors are undermining confidence and hurting valuations and probably won't change until the administration adopts a new playbook. The Fed can print money, but it can't print jobs. We need some combination of a transformative and focused jobs program, a cut in taxes and a simplification of the financial and health care regulatory initiatives. In essence, the current administration's policy has the effect of tightening economic and business conditions. In some ways policy is even more of a constraint to growth than a hike in interest rates would be.
By contrast, the downside is supported/protected by reasonable valuations and by the financial and operating strength of our largest corporations (especially of a S&P kind), which are generating record free cash flow, have cut costs to the bone and have taken advantage of a hospitable, friendly and cheap debt market. Hedge funds have de-risked, and retail investors have abandoned domestic equity funds, so who is left to sell? Meanwhile, inflation is quiescent, and short-term interest rates are very low and are likely to remain so for some time to come.
With corporations in such strong shape but with the consumer sector still deleveraging (and exposed to the continued risk of lower home and equity prices), a lumpy and inconsistent economic recovery that feels bad (because of structurally high unemployment) seems in order. At times, it will seem like we are reentering a recession; other times, it will seem as though economic growth is accelerating. These conditions will provide a setting that is hard for investors to navigate, particularly when algorithm-based high-frequency-trading strategies disrupt markets (at times), as their trading activity fills a light-volume void.
There are plenty of crosscurrents, but my baseline expectation remains for a range-bound market. Despite this tug of war, a reversal to better fiscal policy can resolve the range-bound market to the upside.
Even though I think we're range-bound, I like C, BAC, PRU and LNC in the financials; I especially like AAPL - it is very, very inexpensive below 250.....
long LNC; AAPL
No Energy AT ALL
We kicked off the week with an oversold market that was due for a little relief, but the action today barely qualified. We did close higher than the opening lows, and the Nasdaq in particular managed a little green, so you can call it an oversold bounce, but volume was extremely light once again, and we didn't exactly manage a great leap forward. Breadth was positive, and there was net buying, but it sure wasn't very lively.
What we are seeing is a very high level of disinterest. The market hasn't been too friendly lately, so it's a good time to enjoy the end of summer before school starts. Earnings season is over, and the only news flow is macroeconomics, which hasn't been very impressive lately. I'm already hearing negative comments about existing-home sales and revised second-quarter GDP, which are due out next week.
It has always been my contention that bad markets don't scare you out, they wear you out. If we don't have more lively action soon, market players will be inclined to move to the sidelines just because they have grown disgusted and weary. They aren't frightened or even that pessimistic, but when we have this light-volume drift lower, it takes a toll.
We had a mediocre bounce at best, and there were few signs of dip-buying or bottom-fishing. There were a few things in the green, but it is very tough to trust that we will have any sort of sustained upside follow-through. The trend needs to be respected, and it is still down.......
What we are seeing is a very high level of disinterest. The market hasn't been too friendly lately, so it's a good time to enjoy the end of summer before school starts. Earnings season is over, and the only news flow is macroeconomics, which hasn't been very impressive lately. I'm already hearing negative comments about existing-home sales and revised second-quarter GDP, which are due out next week.
It has always been my contention that bad markets don't scare you out, they wear you out. If we don't have more lively action soon, market players will be inclined to move to the sidelines just because they have grown disgusted and weary. They aren't frightened or even that pessimistic, but when we have this light-volume drift lower, it takes a toll.
We had a mediocre bounce at best, and there were few signs of dip-buying or bottom-fishing. There were a few things in the green, but it is very tough to trust that we will have any sort of sustained upside follow-through. The trend needs to be respected, and it is still down.......
Perception Is Much Stronger Than Reality; In Fact, Perception IS Reality
Another shit day, with AAPL down again. Where's the bad news? There is none. Their retail stores are packed full, they can't keep ANY inventory of iphones and ipads to speak of.
This company will probably earn $20 a share next year; with tremendous cash balances on the books - in fact, they have more CASH than all but about 50 of the S and P 500 have in MARKET VALUE. They have tremendous momentum in its business vs. its peers, yet the market won't pay more than about 12x next year's earnings, not accounting for cash.......
Fundamentals don't matter. Perception matters. Perception is stronger than reality. Perception is reality, and reality is just an illusion if you're buying anything on the basis of fundamentals. Companies with big earnings, strong balance sheets, low or no debt, and incredibly low P/E's are just becoming value traps. No one wants to own them because people seem afraid the story is going to end and the stock is going to tank. It actually seems as if bad news is what will turn some of these stocks higher eventually.
We are clearly still in a "shoot first" environment. On a technical basis, the stock is broken. I have to side with the notion that only computer programs could short companies such as these with impunity or continue to flip shares to the downside. Could I be wrong? Absolutely. However, I don't know many traders or even managers who chase shorts of companies with low debt, high cash, consistent growth and big earnings.......
long AAPL
This company will probably earn $20 a share next year; with tremendous cash balances on the books - in fact, they have more CASH than all but about 50 of the S and P 500 have in MARKET VALUE. They have tremendous momentum in its business vs. its peers, yet the market won't pay more than about 12x next year's earnings, not accounting for cash.......
Fundamentals don't matter. Perception matters. Perception is stronger than reality. Perception is reality, and reality is just an illusion if you're buying anything on the basis of fundamentals. Companies with big earnings, strong balance sheets, low or no debt, and incredibly low P/E's are just becoming value traps. No one wants to own them because people seem afraid the story is going to end and the stock is going to tank. It actually seems as if bad news is what will turn some of these stocks higher eventually.
We are clearly still in a "shoot first" environment. On a technical basis, the stock is broken. I have to side with the notion that only computer programs could short companies such as these with impunity or continue to flip shares to the downside. Could I be wrong? Absolutely. However, I don't know many traders or even managers who chase shorts of companies with low debt, high cash, consistent growth and big earnings.......
long AAPL
Friday, August 13, 2010
RGC is back down to levels that are compelling.
Its recent debt offering will likely be partially used for a stock buyback.
The shares are supported by a fat yield, and the dividend rate is likely going higher by year-end.
I was encouraged by the bank stocks this morning, which were finally are getting a bid.
I was pleasantly surprised by the consumer confidence figure.
The consumer price index was a bit hotter than expected, while retail sales, less autos, were slightly weaker. Neither, of course, moved the market.
This morning, disappointingly, the S&P futures failed to hold their gains in response to better-than-expected European GDP.
Its recent debt offering will likely be partially used for a stock buyback.
The shares are supported by a fat yield, and the dividend rate is likely going higher by year-end.
I was encouraged by the bank stocks this morning, which were finally are getting a bid.
I was pleasantly surprised by the consumer confidence figure.
The consumer price index was a bit hotter than expected, while retail sales, less autos, were slightly weaker. Neither, of course, moved the market.
This morning, disappointingly, the S&P futures failed to hold their gains in response to better-than-expected European GDP.
Another Shitty Day
The action today was pretty much what you'd expect on a slow, hot Friday in August. Volume was extremely light, and we just drifted around and ended up closing on a slightly negative note.
Breadth was negative at the close by a score of about 2200 to 3450, and most major sectors were in the red. The worst action was in retailers, due to JCP and JWN, but others such as KSS and DDS didn't help either. Semiconductors continued their extremely poor action, and you sure wouldn't know that technology stocks posted some very good earnings reports over the last month.
There was a lot of talk today about a rather esoteric indicator called the Hindenburg Omen, which is flashing negative signals, but if you need a reason to be cautious, all you have to do is glance at the charts of the major indices. The big selloff this past Wednesday took us through important support at the 50-day simple moving average, and we haven't done anything in the last two days to repair the damage.
The Russell 2000 looks particularly poor, and some think it has a date with the July lows in the next week or two. This very light volume, negative seasonality and negative economic headlines are not a good combination. If the November election were closer I'd be more optimistic, but we have two and a half months to go before we can see some gridlock in Washington, and positive catalysts are unlikely to appear in the meanwhile.
Breadth was negative at the close by a score of about 2200 to 3450, and most major sectors were in the red. The worst action was in retailers, due to JCP and JWN, but others such as KSS and DDS didn't help either. Semiconductors continued their extremely poor action, and you sure wouldn't know that technology stocks posted some very good earnings reports over the last month.
There was a lot of talk today about a rather esoteric indicator called the Hindenburg Omen, which is flashing negative signals, but if you need a reason to be cautious, all you have to do is glance at the charts of the major indices. The big selloff this past Wednesday took us through important support at the 50-day simple moving average, and we haven't done anything in the last two days to repair the damage.
The Russell 2000 looks particularly poor, and some think it has a date with the July lows in the next week or two. This very light volume, negative seasonality and negative economic headlines are not a good combination. If the November election were closer I'd be more optimistic, but we have two and a half months to go before we can see some gridlock in Washington, and positive catalysts are unlikely to appear in the meanwhile.
Thursday, August 12, 2010
Really, At What Price Should AAPL Stock Trade?
Just how much is Apple really worth? The very first thing investors learn about fundamental analysis is that stocks are generally valued on a price-to-earnings ratio, and that a stock's growth rate is what determines the multiple it receives in the analysis. For example, on a traditional trailing 12-month P/E valuation analysis -- where one multiplies Apple's $15 in earnings per share by its 70% growth rate -- Apple 'should be' worth about $1,050 a share on a trailing basis come this October.
Yeah, right.
Yet, as anyone who takes valuation seriously knows, stocks are seldom valued on their trailing P/E ratio. Instead, the market tends to value stocks based on their future expected earnings and long-term expected growth rate. Cash also plays a very important role in the analysis, but not in the way one would expect.
So setting aside the issue of Apple's enormous cash position, Wall Street analysts are generally modeling for Apple to earn $14.43 in EPS for fiscal 2010 and approximately $17.47 for fiscal 2011 – that's annual earnings growth of about 21%. As far as what is expected out of the company over the next five years, analysts are modeling for about 18% earnings growth. Thus, based on these conservative variables, Apple should be currently trading at about 18 times next year's earnings of $17.47 in EPS, or about $314.46 a share. That's far below the price of about $252 currently.
Yet, simply analyzing Apple's forward P/E ratio doesn't really tell anyone what the company ought to be worth in the future. It only tells us whether the stock is currently undervalued, and what it ought to be trading at today. To get an idea of what the company will be trading at in the future, it is vital to ascertain not only what type of trailing P/E the market is likely to give Apple in late 2011 or early 2012, but what the company will actually report in earnings.
It's probably stupid in the long run to fight Wall Street's valuation metrics. Being stupid, I do it anyway. Instead of relying on some alternative way to value the company to determine future price targets, embrace the market's valuation but beat it on the earnings front. While the market might continue to give Apple an 18 to 20 trailing P/E ratio well into the future despite Apple's enormous cash holdings and robust 50-70% growth rate, the one thing that is not determined by the market is the earnings variable of the P/E ratio.
For example, let's suppose that Apple continues to trade at a 19 to 20 trailing P/E come October 2011. Right now Wall Street analysts are modeling for Apple to earn roughly $17.50 in EPS. At that earnings level, Apple would be trading between $332 and $350, assuming a 19 or 20 multiple. Yet, nearly every independent analyst knows Apple will probably earn about $20 in EPS in 2011.
Based on $20 in EPS for fiscal 2011, Apple should be trading between $380 and $400 in late 2011 or early 2012 assuming a multiple of 20. This price target beats the Street by nearly $70 and presents a conservative, simple, and straightforward analysis of Apple's valuation.
But what about the cash? It needs to be backed out of the analysis. For example, my 2011 model calls for Apple to generate roughly $18 billion in cash in addition to the $45.8 billion already stockpiled in the company's coffers, for a total of $63.8 billion. If one were to back out this cash from Apple's expected (2011) market capitalization of $376.4 billion, Apple would be trading at a trailing P/E(x-cash) of only 16.6.
Some would even go so far as to argue that Apple should be assigned a 25 P/E(x-cash) in order to conform with a more realistic 5-year growth rate; and that based on an expected $20 in earnings, it should thus be trading at $600 a share on a 30 multiple.
Yet, it's very unrealistic to assume that the market will suddenly wise up to Apple's enormous cash position and higher growth rate, and give it a 30 trailing P/E when Wall Street expects Apple to report a mere 18% earnings growth over the next five years.
Theoretically, Apple should have traded at a 50 P/E over the past five years, but has only seen that valuation level for only a few moments.
The historical record indicates that Apple will likely see an 18 to 22 P/E well into the future. Horace Dediu, a rising star among the independent analyst community, recently published a chart comparing Apple's stock price, trailing P/E ratio and trailing P/E ratio (x-cash), which I find to be essential in determining the long-term direction and valuation of stock.
While recovering from the lows of the financial crisis, AAPL's P/E ratio has barely even moved. In fact, it has remained relatively flat over the past year and a half indicating apprehension on the part of Wall Street to give Apple a multiple significantly greater than that enjoyed by other similarly situated mega-cap stocks.
Instead of giving Apple the fairest possible valuation to determine the stock price, market participants are relying on Apple's earnings to drive the stock higher. It is clear that the earnings part of Apple's P/E ratio has been the determinative factor in the rise of Apple's stock price over the past 18 months and not a fair valuation. While Apple will probably continue to grow in the 25% to 30% range over the next 5 years, the market is unlikely to give it a P/E any higher than 23 at the high end or 15 at the low end for any extended period of time.
Eventually, all large-cap stocks undergo an age of P/E compression in anticipation of the law of large numbers and lower long-term anticipated growth rates.
I continually see the same repetitive concern about Apple's market capitalization: despite Apple's growth rate, business potential, and staggering piles of cash, the fact that its market capitalization is about to surpass XOM to make Apple the largest company in the United States raises questions about its expected return on equity (eROE). And this is precisely where the issue of cash, expected cash flow and trailing P/E(x-cash) becomes front and center in the equation.
Whenever one debates whether Apple should have a larger market capitalization than XOM, WMT, MSFT, or GOOG, the central issue in the discussion is which of these companies have the highest expected return on equity. That is, for every dollar spent to purchase one of these institutions, which of them would yield the highest return per dollar spent? If someone purchased Apple at $375 billion outright, would he or she get a bigger return on that $375 billion or would he or she get a greater return by spending $315 billion to acquire Exxon Mobil? If one produces a higher return with Apple, then Apple is relatively more undervalued than Exxon and vice-versa.
This is precisely why there's an artificial ceiling on market capitalization. If Apple were to reach levels clearly suggesting a higher return on equity for Exxon Mobil or any other similarly situated mega-cap name, it literally means that Apple is over-valued relative to that name. At $400 a share, Apple would have a market capitalization of $376.4 compared to Exxon Mobil's $315 billion cap, Wal-Mart's $192.1 billion or Microsoft's $221 billion market cap.
Yet, having a higher market cap in and of itself isn't a problem so long as the analysis demonstrates that Apple will likely post a higher return on equity on its market capitalization. Moreover, cash and cash flow must be subtracted from market cap because hypothetical purchasers of the company would get that cash in the acquisition. Thus, net market capitalization becomes the basis for comparison.
This is exactly what investors who think Apple should have a 30 P/E on an expected $20 in earnings fail to realize. At $600 a share, Apple would have a market capitalization of $565 billion -- more than Microsoft and Exxon Mobil put together. It is outrageously doubtful to suggest that Apple will somehow demonstrate a higher return on equity than Microsoft and Exxon Mobil put together.
This demonstrates why it's almost silly to believe that the market will give Apple a P/E ratio much higher than what it currently trades at in late 2011. Instead, Apple's future stock price will largely be determined by its growth in earnings as it continues to undergo further P/E compression well into the future.
long AAPL
Yeah, right.
Yet, as anyone who takes valuation seriously knows, stocks are seldom valued on their trailing P/E ratio. Instead, the market tends to value stocks based on their future expected earnings and long-term expected growth rate. Cash also plays a very important role in the analysis, but not in the way one would expect.
So setting aside the issue of Apple's enormous cash position, Wall Street analysts are generally modeling for Apple to earn $14.43 in EPS for fiscal 2010 and approximately $17.47 for fiscal 2011 – that's annual earnings growth of about 21%. As far as what is expected out of the company over the next five years, analysts are modeling for about 18% earnings growth. Thus, based on these conservative variables, Apple should be currently trading at about 18 times next year's earnings of $17.47 in EPS, or about $314.46 a share. That's far below the price of about $252 currently.
Yet, simply analyzing Apple's forward P/E ratio doesn't really tell anyone what the company ought to be worth in the future. It only tells us whether the stock is currently undervalued, and what it ought to be trading at today. To get an idea of what the company will be trading at in the future, it is vital to ascertain not only what type of trailing P/E the market is likely to give Apple in late 2011 or early 2012, but what the company will actually report in earnings.
It's probably stupid in the long run to fight Wall Street's valuation metrics. Being stupid, I do it anyway. Instead of relying on some alternative way to value the company to determine future price targets, embrace the market's valuation but beat it on the earnings front. While the market might continue to give Apple an 18 to 20 trailing P/E ratio well into the future despite Apple's enormous cash holdings and robust 50-70% growth rate, the one thing that is not determined by the market is the earnings variable of the P/E ratio.
For example, let's suppose that Apple continues to trade at a 19 to 20 trailing P/E come October 2011. Right now Wall Street analysts are modeling for Apple to earn roughly $17.50 in EPS. At that earnings level, Apple would be trading between $332 and $350, assuming a 19 or 20 multiple. Yet, nearly every independent analyst knows Apple will probably earn about $20 in EPS in 2011.
Based on $20 in EPS for fiscal 2011, Apple should be trading between $380 and $400 in late 2011 or early 2012 assuming a multiple of 20. This price target beats the Street by nearly $70 and presents a conservative, simple, and straightforward analysis of Apple's valuation.
But what about the cash? It needs to be backed out of the analysis. For example, my 2011 model calls for Apple to generate roughly $18 billion in cash in addition to the $45.8 billion already stockpiled in the company's coffers, for a total of $63.8 billion. If one were to back out this cash from Apple's expected (2011) market capitalization of $376.4 billion, Apple would be trading at a trailing P/E(x-cash) of only 16.6.
Some would even go so far as to argue that Apple should be assigned a 25 P/E(x-cash) in order to conform with a more realistic 5-year growth rate; and that based on an expected $20 in earnings, it should thus be trading at $600 a share on a 30 multiple.
Yet, it's very unrealistic to assume that the market will suddenly wise up to Apple's enormous cash position and higher growth rate, and give it a 30 trailing P/E when Wall Street expects Apple to report a mere 18% earnings growth over the next five years.
Theoretically, Apple should have traded at a 50 P/E over the past five years, but has only seen that valuation level for only a few moments.
The historical record indicates that Apple will likely see an 18 to 22 P/E well into the future. Horace Dediu, a rising star among the independent analyst community, recently published a chart comparing Apple's stock price, trailing P/E ratio and trailing P/E ratio (x-cash), which I find to be essential in determining the long-term direction and valuation of stock.
While recovering from the lows of the financial crisis, AAPL's P/E ratio has barely even moved. In fact, it has remained relatively flat over the past year and a half indicating apprehension on the part of Wall Street to give Apple a multiple significantly greater than that enjoyed by other similarly situated mega-cap stocks.
Instead of giving Apple the fairest possible valuation to determine the stock price, market participants are relying on Apple's earnings to drive the stock higher. It is clear that the earnings part of Apple's P/E ratio has been the determinative factor in the rise of Apple's stock price over the past 18 months and not a fair valuation. While Apple will probably continue to grow in the 25% to 30% range over the next 5 years, the market is unlikely to give it a P/E any higher than 23 at the high end or 15 at the low end for any extended period of time.
Eventually, all large-cap stocks undergo an age of P/E compression in anticipation of the law of large numbers and lower long-term anticipated growth rates.
I continually see the same repetitive concern about Apple's market capitalization: despite Apple's growth rate, business potential, and staggering piles of cash, the fact that its market capitalization is about to surpass XOM to make Apple the largest company in the United States raises questions about its expected return on equity (eROE). And this is precisely where the issue of cash, expected cash flow and trailing P/E(x-cash) becomes front and center in the equation.
Whenever one debates whether Apple should have a larger market capitalization than XOM, WMT, MSFT, or GOOG, the central issue in the discussion is which of these companies have the highest expected return on equity. That is, for every dollar spent to purchase one of these institutions, which of them would yield the highest return per dollar spent? If someone purchased Apple at $375 billion outright, would he or she get a bigger return on that $375 billion or would he or she get a greater return by spending $315 billion to acquire Exxon Mobil? If one produces a higher return with Apple, then Apple is relatively more undervalued than Exxon and vice-versa.
This is precisely why there's an artificial ceiling on market capitalization. If Apple were to reach levels clearly suggesting a higher return on equity for Exxon Mobil or any other similarly situated mega-cap name, it literally means that Apple is over-valued relative to that name. At $400 a share, Apple would have a market capitalization of $376.4 compared to Exxon Mobil's $315 billion cap, Wal-Mart's $192.1 billion or Microsoft's $221 billion market cap.
Yet, having a higher market cap in and of itself isn't a problem so long as the analysis demonstrates that Apple will likely post a higher return on equity on its market capitalization. Moreover, cash and cash flow must be subtracted from market cap because hypothetical purchasers of the company would get that cash in the acquisition. Thus, net market capitalization becomes the basis for comparison.
This is exactly what investors who think Apple should have a 30 P/E on an expected $20 in earnings fail to realize. At $600 a share, Apple would have a market capitalization of $565 billion -- more than Microsoft and Exxon Mobil put together. It is outrageously doubtful to suggest that Apple will somehow demonstrate a higher return on equity than Microsoft and Exxon Mobil put together.
This demonstrates why it's almost silly to believe that the market will give Apple a P/E ratio much higher than what it currently trades at in late 2011. Instead, Apple's future stock price will largely be determined by its growth in earnings as it continues to undergo further P/E compression well into the future.
long AAPL
Thoughts From The Mind
My contention is that the bond market has more than discounted the soft patch now.
Remember, it is how the market reacts to the news that is more important than the news itself!
A 2.72% yield on the 10-year note is priced at a P/E multiple of 36.5x vs. the S&P's P/E multiple of under 12x.
It remains my view that the flight-to-safety trade should subside in the months ahead, as it becomes clearer that the domestic (and world) economy is not going into a double-dip but rather into a moderating expansion.
I'm bullish on LNC and XL.
As always, the growing concern is that there is the potential for policy mistakes around the world. The risk-reward on the S&P 500 is now tipping back to a slightly more attractive ratio.
The proximate cause for yesterday's weakness was the broader recognition that we are trapped in a liquidity, tax and regulatory vortex, and the growing concern is that there is the potential for policy mistakes around the world:
* China slamming on the brakes has threatened a hard landing.
* Europe's austerity programs suggest decelerating economic growth.
* The regulatory and tax uncertainty in the U.S. has caused indecision and lost confidence at the corporate and consumer levels.
It's time for a new policy playbook. More decisive and responsible fiscal action could greatly improve the outlook for U.S. equities over the next 12 months. But, for now, relying on our politicians to embark upon logical and growth-enabling legislation remains something of a leap of faith.
That said, we rarely have full clarity in investing, and valuations and expectations remain depressed. The recent market drop appears to have begun to discount the aforementioned and well-known challenges. From my perch, the risk-reward on the S&P 500 is now tipping back to a slightly more attractive ratio. My target 1,150 for the S&P for the second half of 2010 still seems to be a reasonable one, which would still imply a P/E multiple of less than 13x.....
Remember, it is how the market reacts to the news that is more important than the news itself!
A 2.72% yield on the 10-year note is priced at a P/E multiple of 36.5x vs. the S&P's P/E multiple of under 12x.
It remains my view that the flight-to-safety trade should subside in the months ahead, as it becomes clearer that the domestic (and world) economy is not going into a double-dip but rather into a moderating expansion.
I'm bullish on LNC and XL.
As always, the growing concern is that there is the potential for policy mistakes around the world. The risk-reward on the S&P 500 is now tipping back to a slightly more attractive ratio.
The proximate cause for yesterday's weakness was the broader recognition that we are trapped in a liquidity, tax and regulatory vortex, and the growing concern is that there is the potential for policy mistakes around the world:
* China slamming on the brakes has threatened a hard landing.
* Europe's austerity programs suggest decelerating economic growth.
* The regulatory and tax uncertainty in the U.S. has caused indecision and lost confidence at the corporate and consumer levels.
It's time for a new policy playbook. More decisive and responsible fiscal action could greatly improve the outlook for U.S. equities over the next 12 months. But, for now, relying on our politicians to embark upon logical and growth-enabling legislation remains something of a leap of faith.
That said, we rarely have full clarity in investing, and valuations and expectations remain depressed. The recent market drop appears to have begun to discount the aforementioned and well-known challenges. From my perch, the risk-reward on the S&P 500 is now tipping back to a slightly more attractive ratio. My target 1,150 for the S&P for the second half of 2010 still seems to be a reasonable one, which would still imply a P/E multiple of less than 13x.....
A Tough Market
If you just look at today's close, with the S&P 500 down 5 points and the Nasdaq down 17, the lack of any recovery looks pretty poor after yesterday's carnage. However, if you consider how ugly it looked last night after the CSCO earnings, it ended up actually feeling like a little bit of a victory for the bulls. On one hand it was just a follow-through day to the downside, but on the other hand it was pretty good dead-cat bounce after an ugly open.
No matter how you view it, the big picture didn't improve much today. We closed under the key 1087 level of the S&P 500. Gold mining led, and technology, retail and oil were laggards, and that isn't the sort of leadership we want to see. It wasn't a bad day, since we did manage to recover from the open, but it wasn't good enough to give us much reason to think we are going to easily repair the damage done on Wednesday.
The main driving force for this market in the near term is going to be macroeconomic news, as there doesn't seem like there are going to be a lot of major positives forthcoming in that area.
We broke down on Wednesday, and the action today did nothing to change that fact. I suspect that volume is going to slow down substantially tomorrow and we'll have some choppy action.
No matter how you view it, the big picture didn't improve much today. We closed under the key 1087 level of the S&P 500. Gold mining led, and technology, retail and oil were laggards, and that isn't the sort of leadership we want to see. It wasn't a bad day, since we did manage to recover from the open, but it wasn't good enough to give us much reason to think we are going to easily repair the damage done on Wednesday.
The main driving force for this market in the near term is going to be macroeconomic news, as there doesn't seem like there are going to be a lot of major positives forthcoming in that area.
We broke down on Wednesday, and the action today did nothing to change that fact. I suspect that volume is going to slow down substantially tomorrow and we'll have some choppy action.
Wednesday, August 11, 2010
Thoughts
CSCO's Chambers is confirming (and specifically citing) the Fed's economic concerns (stated yesterday) -- as they are clearly being seen in the company's customers' ordering behavior.
Unfortunatley it is not an upbeat call, and he just guided down on sales in the next quarter.
Deutsche Bank has revised its second-quarter GDP growth projections to +1.1%.
Today's report that the June deficit expanded to almost $50 billion (the largest increase in nearly two years) means that the second-quarter 2010 GDP will now possibly be revised to under 1%, a good guess is +0.6%, a marked slowdown from first-quarter 2010 GDP that was revised upward to +3.7%.
We are in a liquidity, tax and regulatory trap.
Yesterday, market participants waited breathlessly for the Fed's decision. Tuesday's quantitative easing (QE) "lite" was initially considered a positive, but, not surprisingly and upon further reflection, the market got pounded today.
In reality, QE lite doesn't move the needle, and lower interest rates have failed to stimulate growth over the past several months. Indeed, the most interest-rate-sensitive sector, housing, is now turning lower.
Consider that we are now nearly a year into "recovery," yet all the discussion this week is about the need for more monetary easing and the need to lower interest rates further. Doesn't this point to the frail economic foundation and to weak fiscal policy? And doesn't the generational low in interest rates mask the fundamental differences in place in this cycle? Yet, the Fed is acting no different than the previous Greenspan regime.
Federal Reserve policy has likely done as much as it can and as much as it should:
* Zero-interest-rate policy stopped the Great Decession and the economic freefall, but it has failed to create jobs.
* Quantitative easing has also helped to halt the financial crisis, but it did little to encourage small-business hiring.
* TARP stopped the carnage in the banking system, but it did little to encourage lending.
Monetary (and quantitative) easing may no longer be the solution to the plight of the sluggish and shallow recovery in the domestic economy. A new playbook is needed to create jobs, and the uncertainty of tax policy and the costly burden of regulation must be addressed.
I'm from Missouri, so color me not optimistic that our politicians will reverse policy any time soon, but, in the interests of growth, they should consider it.
Investors, too, are now in a show-me mode, as they wait for more economic data points.
Unfortunatley it is not an upbeat call, and he just guided down on sales in the next quarter.
Deutsche Bank has revised its second-quarter GDP growth projections to +1.1%.
Today's report that the June deficit expanded to almost $50 billion (the largest increase in nearly two years) means that the second-quarter 2010 GDP will now possibly be revised to under 1%, a good guess is +0.6%, a marked slowdown from first-quarter 2010 GDP that was revised upward to +3.7%.
We are in a liquidity, tax and regulatory trap.
Yesterday, market participants waited breathlessly for the Fed's decision. Tuesday's quantitative easing (QE) "lite" was initially considered a positive, but, not surprisingly and upon further reflection, the market got pounded today.
In reality, QE lite doesn't move the needle, and lower interest rates have failed to stimulate growth over the past several months. Indeed, the most interest-rate-sensitive sector, housing, is now turning lower.
Consider that we are now nearly a year into "recovery," yet all the discussion this week is about the need for more monetary easing and the need to lower interest rates further. Doesn't this point to the frail economic foundation and to weak fiscal policy? And doesn't the generational low in interest rates mask the fundamental differences in place in this cycle? Yet, the Fed is acting no different than the previous Greenspan regime.
Federal Reserve policy has likely done as much as it can and as much as it should:
* Zero-interest-rate policy stopped the Great Decession and the economic freefall, but it has failed to create jobs.
* Quantitative easing has also helped to halt the financial crisis, but it did little to encourage small-business hiring.
* TARP stopped the carnage in the banking system, but it did little to encourage lending.
Monetary (and quantitative) easing may no longer be the solution to the plight of the sluggish and shallow recovery in the domestic economy. A new playbook is needed to create jobs, and the uncertainty of tax policy and the costly burden of regulation must be addressed.
I'm from Missouri, so color me not optimistic that our politicians will reverse policy any time soon, but, in the interests of growth, they should consider it.
Investors, too, are now in a show-me mode, as they wait for more economic data points.
The Market Panics Over "In-Line" Results; Was It Warranted? I Doubt It....
If one is looking for a silver lining in the action today, one will have to look very hard. We had a minor bounce attempt in the last hour, but the selling pressure was relentless, breadth was horrible at nearly 10-to-1 negative, and volume increased, giving us a technical distribution day. If you dig a little deeper, the action in financials was particularly poor, and leading small-caps were absolutely decimated. Good recent earnings reports made no difference today. The sellers hit them all.
The market has made a pretty good move off the lows we hit at the beginning of July, so a pullback and some profit-taking aren't a huge surprise. The more important question is whether this is the start of a failed bounce that takes us back toward the lows of the year.
Since the top in April, we have had five or six failed bounces, and in almost every case we were turned back right at an important technical level. This time, we are failing to make it through the June high of 1131. We were on the verge of attacking it for over a week but never managed to push through, and now we have this nasty rollover.
It has the feel of a change in character, which is reinforced by the fact that the primary cause of the selling is the Fed announcement yesterday. Market players are now worried that a bad economy really is a bad thing rather than a positive. The Fed isn't giving us more cheap money just to be nice.
We have seasonality and thin trading working against us. We will have to look to macroeconomic news for positive catalysts, and it sure doesn't look like much will be forthcoming in the near term.
The market has made a pretty good move off the lows we hit at the beginning of July, so a pullback and some profit-taking aren't a huge surprise. The more important question is whether this is the start of a failed bounce that takes us back toward the lows of the year.
Since the top in April, we have had five or six failed bounces, and in almost every case we were turned back right at an important technical level. This time, we are failing to make it through the June high of 1131. We were on the verge of attacking it for over a week but never managed to push through, and now we have this nasty rollover.
It has the feel of a change in character, which is reinforced by the fact that the primary cause of the selling is the Fed announcement yesterday. Market players are now worried that a bad economy really is a bad thing rather than a positive. The Fed isn't giving us more cheap money just to be nice.
We have seasonality and thin trading working against us. We will have to look to macroeconomic news for positive catalysts, and it sure doesn't look like much will be forthcoming in the near term.
Tuesday, August 10, 2010
Thoughts
Huge tell in bonds today!
My guess is that second-quarter 2010 GDP will be revised from +2.4% to 1.4% to 1.5%.
Today wholesale inventories in June rose by only 0.1% (expectation was +0.5%), which was also far less than assumed in the preliminary GDP report.
My guess is that second-quarter 2010 GDP will be revised from +2.4% to 1.4% to 1.5%.
Anything related to housing -- be it homebuilders, mortgage insurers, banks, remodeling companies -- remain under pressure.
It is reasonable to conclude that there is a large group who expects a double-dip in housing.
Don't count me in that group!
Bonds Not Rallying on Commodity Weakness
Despite a schmeissing in the commodity space, bonds are not rallying.
The market has no memory from day to day.
My guess is that second-quarter 2010 GDP will be revised from +2.4% to 1.4% to 1.5%.
Today wholesale inventories in June rose by only 0.1% (expectation was +0.5%), which was also far less than assumed in the preliminary GDP report.
My guess is that second-quarter 2010 GDP will be revised from +2.4% to 1.4% to 1.5%.
Anything related to housing -- be it homebuilders, mortgage insurers, banks, remodeling companies -- remain under pressure.
It is reasonable to conclude that there is a large group who expects a double-dip in housing.
Don't count me in that group!
Bonds Not Rallying on Commodity Weakness
Despite a schmeissing in the commodity space, bonds are not rallying.
The market has no memory from day to day.
Fed's Gonna Crank The Presses
There is no more powerful force in the stock market than a central banker with a printing press he is willing to use. The FOMC made it clear in its policy statement that is where we stand, and the bears didn't even try very hard to kill the ensuing buying spike.
For much of 2009, market players struggled to reconcile a surprisingly buoyant stock market with the gloomy economic situation on Main Street. What they were overlooking was the power of a huge wave of liquidity created by stimulus, bailouts and extremely cheap money. Much of that cash had no place to go, so it was parked in the stock market, and that is what keep us running up so steadily.
The FOMC policy statement today suggests that the Fed is concerned enough about the economy and unemployment that it will continue to supply cheap money. What it is doing now is nowhere as aggressive as what it did last year, but it is obviously willing to continue with further quantitative easing.
So does this mean we have clear sailing to the upside from here? Although we had a positive reaction to the FOMC news today, I don't think it was a huge surprise. The market has been anticipating some sort of accommodative action by the Fed for a while, especially after the weak employment data. That is why we have been holding up so well for the last six days or so.
The danger is that with the news now discounted as we enter the very slow trading for the remainder of August, we just won't have sufficient energy to make a further run. The technical condition of the major indices isn't bad at all. We are holding support and have consolidated nicely. The very light volume is a concern, but that hasn't mattered when the Fed is pumping liquidity.
We are at a tricky juncture, and we'll have a better test tomorrow of how positive this Fed action really is. I don't think it is as clear cut as the positive reaction this afternoon seemed to suggest.
For much of 2009, market players struggled to reconcile a surprisingly buoyant stock market with the gloomy economic situation on Main Street. What they were overlooking was the power of a huge wave of liquidity created by stimulus, bailouts and extremely cheap money. Much of that cash had no place to go, so it was parked in the stock market, and that is what keep us running up so steadily.
The FOMC policy statement today suggests that the Fed is concerned enough about the economy and unemployment that it will continue to supply cheap money. What it is doing now is nowhere as aggressive as what it did last year, but it is obviously willing to continue with further quantitative easing.
So does this mean we have clear sailing to the upside from here? Although we had a positive reaction to the FOMC news today, I don't think it was a huge surprise. The market has been anticipating some sort of accommodative action by the Fed for a while, especially after the weak employment data. That is why we have been holding up so well for the last six days or so.
The danger is that with the news now discounted as we enter the very slow trading for the remainder of August, we just won't have sufficient energy to make a further run. The technical condition of the major indices isn't bad at all. We are holding support and have consolidated nicely. The very light volume is a concern, but that hasn't mattered when the Fed is pumping liquidity.
We are at a tricky juncture, and we'll have a better test tomorrow of how positive this Fed action really is. I don't think it is as clear cut as the positive reaction this afternoon seemed to suggest.
Monday, August 9, 2010
This pithy analysis is in from Miller Tabak's Dan Greenhaus:
Just to follow up on our last few notes, now seems an opportune time to remind clients why we think monetary policy is no longer our preferred method for stimulating growth. Simply put, and as the chart below details, despite the explosion of excess reserves in the system, the result of the Fed's balance sheet expansion, the money supply has only marginally risen as total loans in the economy continue to trend lower. Effectively, the primary channel by which monetary policy boosts output, the banking system, remains impaired. As consumers and businesses continue to delever, demand for loans and money at any interest rate is suppressed. As such, lowering interest rates further, while stimulative in theory, will have smaller and smaller effects on aggregate demand as long as the delveraging process continues. As the saying goes, you can lead a horse to water but you can't make it drink.
Source: Federal Reserve, Miller Tabak + Co. estimates
Some may look at the data and see the huge spike in excess reserves and conclude that a burst in lending is sure to follow; banks simply cannot sit on so much money without lending it out to credit worthy borrowers. But as the BIS argued and as has highlighted in the past:
The underlying premise of the first proposition, which posits a close link between reserves expansion and credit creation, is that bank reserves are needed for banks to make loans. Either bank lending is constrained by insufficient access to reserves or more reserves can somehow boost banks' willingness to lend. An extreme version of this view is the text-book notion of a stable money multiplier: central banks are able, through exogenous variations in the supply of reserves, to exert a direct influence on the amount of loans and deposits in the banking system. In fact, the level of reserves hardly figures in banks' lending decisions. The amount of credit outstanding is determined by banks' willingness to supply loans, based on perceived risk-return trade-offs, and by the demand for those loans. The aggregate availability of bank reserves does not constrain the expansion directly. The reason is simple: as explained in Section I, under scheme 1 - by far the most common - in order to avoid extreme volatility in the interest rate, central banks supply reserves as demanded by the system. From this perspective, a reserve requirement, depending on its remuneration, affects the cost of intermediation and that of loans, but does not constrain credit expansion quantitatively. The main exogenous constraint on the expansion of credit is minimum capital requirements.
By the same token, under scheme 2, an expansion of reserves in excess of any requirement does not give banks more resources to expand lending. It only changes the composition of liquid assets of the banking system. Given the very high substitutability between bank reserves and other government assets held for liquidity purposes, the impact can be marginal at best. This is true in both normal and also in stress conditions. Importantly, excess reserves do not represent idle resources nor should they be viewed as somehow undesired by banks (again, recall that our notion of excess refers to holdings above minimum requirements). When the opportunity cost of excess reserves is zero, either because they are remunerated at the policy rate or the latter reaches the zero lower bound, they simply represent a form of liquid asset for banks.
As a result, we are right to ask whether further quantitative easing initiatives will have a substantial effect. Hiroshi Ugai (2006), in a widely cited report on the effect of QE in Japan found that:
Although the QEP generated an accommodative financial environment, it had limited effects on raising aggregate demand and prices. The factors behind these limited macro-economic effects of the QEP were the erosion of the financial intermediary functions of banks, burdened by nonperforming loans and corporate balance sheet adjustments.*
Lower interest rates, in theory, would make it more attractive for borrowers to take out new loans. However, if the United States is anything like Japan, lower interest rates won't matter. Borrowers simply do not want/need new loans, regardless of the interest rate charged. Providing the banking system with additional reserves at a time when they are already sitting on over $1 trillion worth of reserves is not likely, in our opinion, to accomplish all that much.
* Quantitative Easing versus Credit Easing, Frans H. Brinkhuis
The fact that there is a need for further easing speaks volumes on the state of the weak domestic economy.
The body of today's debate is whether quantitative easing will be reintroduced tomorrow afternoon by the Fed.
My view (and the larger picture) is the fact that there is a debate at all and that there is a need for further easing speaks volumes on the state of the weak domestic economy, which is only four quarters into recovery.
It is different this time, and an easing of monetary policy is no longer the preferred route toward an improved economy.
The jobs picture will continue to frame the weak economic outlook and will negatively impact our stock market.
For most voters, the only real issue is high unemployment, and it is here that Democrats seem to have set aside bold thinking and fallen into the Republican trap of placing deficit fears ahead of job revival. Rather than spend time during the campaign stoking anxiety over Social Security, Democrats should aggressively counter the myth that the deficit is causing unemployment, and advocate using government in ways that might re-inspire voters.
-- "In Search of a New Playbook" (op-ed), The New York Times
The Democrats have already retreated from immigration and energy reform. If they can't make the case to Americans like Alexandra Jarrin that they offer more hope for a job than a radical conservative movement poised to tear down what remains of the safety net, they deserve to lose.
-- Frank Rich, "How to Lose an Election Without Really Trying" (op-ed), The New York Times
The slow economic strangulation of the Freemans and millions of other middle-class Americans started long before the Great Recession, which merely exacerbated the "personal recession" that ordinary Americans had been suffering for years. Dubbed "median wage stagnation" by economists, the annual incomes of the bottom 90% of U.S. families have been essentially flat since 1973, having risen by only 10% in real terms over the past 37 years. That means most Americans have been treading water for more than a generation. Over the same period the incomes of the top 1% have tripled. In 1973, chief executives were on average paid 26 times the median income. Now the multiple is above 300.
The trend has only been getting stronger. Most economists see the Great Stagnation as a structural problem, meaning it is immune to the business cycle. In the last expansion, which started in January 2002 and ended in December 2007, the median U.S. household income dropped by $2,000, the first ever instance where most Americans were worse off at the end of a cycle than at the start. Worse is that the long era of stagnating incomes has been accompanied by something profoundly un-American: declining income mobility.
-- Edward Luce, "The Crisis of Middle-Class America," Financial Times
The biggest political change in my lifetime is that Americans no longer assume that their children will have it better than they did. This is a huge break with the past, with assumptions and traditions that shaped us....
Parents now fear something has stopped. They think they lived through the great abundance, a time of historic growth in wealth and material enjoyment. They got it, and they enjoyed it, and their kids did, too: a lot of toys in that age, a lot of Xboxes and iPhones. (Who is the most self-punishing person in America right now? The person who didn't do well during the abundance.) But they look around, follow the political stories and debates, and deep down they think their children will live in a more limited country, that jobs won't be made at a great enough pace, that taxes -- too many people in the cart, not enough pulling it -- will dishearten them, that the effects of 30 years of a low, sad culture will leave the whole country messed up....
But do our political leaders have any sense of what people are feeling deep down? They don't act as if they do. I think their detachment from how normal people think is more dangerous and disturbing than it has been in the past. I started noticing in the 1980s the growing gulf between the country's thought leaders, as they're called -- the political and media class, the universities -- and those living what for lack of a better word we'll call normal lives on the ground in America. The two groups were agitated by different things, concerned about different things, had different focuses, different world views.
But I've never seen the gap wider than it is now. I think it is a chasm.
-- Peggy Noonan, "America Is at Risk of Boiling Over" (op-ed), The Wall Street Journal
The aggregation of the investment shock of 2008, the accumulated 2007-2010 drop in stock and home prices, consistently disappointing growth in real incomes and inept, unfocused public policy that has not even budged the unemployment rate have generated a combination of a sense of frustration, inner pessimism and powerlessness on the part of the U.S. consumer.
Frustrated by the above factors, the Democratic Tsunami of 2008 heralded the start of a populist and anti-incumbent uprising that claims no political affiliation (as demonstrated by the popularity of the conservative Tea Party movement).
It also helps to explain the average American's continued disdain for what they see as the "fat cats" -- that is, the wealthy among us and the large, liquid and capital-rich corporations.
The jobs picture will continue to frame the weak economic outlook and will negatively impact our stock market. The consumer, after decades of being aspirational in both his consumption and investing, is likely to be less so in the years to come; he is constrained and his confidence has been subdued/spoiled.
The attitudes of tone deaf former head of the Council of Economic Advisors Christina Romer and Treasury Secretary Tim "Happy Days are Here Again" Geithner have only served to alienate the average American, who did not need to see Friday's weak jobs report to know which way the wind is blowing.
For now, the lack of response by our legislative and executive branches -- what the heck is Larry Summers thinking/doing? -- in formulating a transformative and focused strategy to address the current elevated unemployment picture remains the greatest headwind in face of economic and stock market recovery.
And with no real playbook, I am starting to see nothing at all that will change this in the near future.
The oil spill in the Gulf has been filled, but the largest spill of all, the loss of jobs, is still flowing.
Until the employment picture is seriously addressed, stock market valuations will likely remain pressured, and upside opportunity will likely remain limited....
Just to follow up on our last few notes, now seems an opportune time to remind clients why we think monetary policy is no longer our preferred method for stimulating growth. Simply put, and as the chart below details, despite the explosion of excess reserves in the system, the result of the Fed's balance sheet expansion, the money supply has only marginally risen as total loans in the economy continue to trend lower. Effectively, the primary channel by which monetary policy boosts output, the banking system, remains impaired. As consumers and businesses continue to delever, demand for loans and money at any interest rate is suppressed. As such, lowering interest rates further, while stimulative in theory, will have smaller and smaller effects on aggregate demand as long as the delveraging process continues. As the saying goes, you can lead a horse to water but you can't make it drink.
Source: Federal Reserve, Miller Tabak + Co. estimates
Some may look at the data and see the huge spike in excess reserves and conclude that a burst in lending is sure to follow; banks simply cannot sit on so much money without lending it out to credit worthy borrowers. But as the BIS argued and as has highlighted in the past:
The underlying premise of the first proposition, which posits a close link between reserves expansion and credit creation, is that bank reserves are needed for banks to make loans. Either bank lending is constrained by insufficient access to reserves or more reserves can somehow boost banks' willingness to lend. An extreme version of this view is the text-book notion of a stable money multiplier: central banks are able, through exogenous variations in the supply of reserves, to exert a direct influence on the amount of loans and deposits in the banking system. In fact, the level of reserves hardly figures in banks' lending decisions. The amount of credit outstanding is determined by banks' willingness to supply loans, based on perceived risk-return trade-offs, and by the demand for those loans. The aggregate availability of bank reserves does not constrain the expansion directly. The reason is simple: as explained in Section I, under scheme 1 - by far the most common - in order to avoid extreme volatility in the interest rate, central banks supply reserves as demanded by the system. From this perspective, a reserve requirement, depending on its remuneration, affects the cost of intermediation and that of loans, but does not constrain credit expansion quantitatively. The main exogenous constraint on the expansion of credit is minimum capital requirements.
By the same token, under scheme 2, an expansion of reserves in excess of any requirement does not give banks more resources to expand lending. It only changes the composition of liquid assets of the banking system. Given the very high substitutability between bank reserves and other government assets held for liquidity purposes, the impact can be marginal at best. This is true in both normal and also in stress conditions. Importantly, excess reserves do not represent idle resources nor should they be viewed as somehow undesired by banks (again, recall that our notion of excess refers to holdings above minimum requirements). When the opportunity cost of excess reserves is zero, either because they are remunerated at the policy rate or the latter reaches the zero lower bound, they simply represent a form of liquid asset for banks.
As a result, we are right to ask whether further quantitative easing initiatives will have a substantial effect. Hiroshi Ugai (2006), in a widely cited report on the effect of QE in Japan found that:
Although the QEP generated an accommodative financial environment, it had limited effects on raising aggregate demand and prices. The factors behind these limited macro-economic effects of the QEP were the erosion of the financial intermediary functions of banks, burdened by nonperforming loans and corporate balance sheet adjustments.*
Lower interest rates, in theory, would make it more attractive for borrowers to take out new loans. However, if the United States is anything like Japan, lower interest rates won't matter. Borrowers simply do not want/need new loans, regardless of the interest rate charged. Providing the banking system with additional reserves at a time when they are already sitting on over $1 trillion worth of reserves is not likely, in our opinion, to accomplish all that much.
* Quantitative Easing versus Credit Easing, Frans H. Brinkhuis
The fact that there is a need for further easing speaks volumes on the state of the weak domestic economy.
The body of today's debate is whether quantitative easing will be reintroduced tomorrow afternoon by the Fed.
My view (and the larger picture) is the fact that there is a debate at all and that there is a need for further easing speaks volumes on the state of the weak domestic economy, which is only four quarters into recovery.
It is different this time, and an easing of monetary policy is no longer the preferred route toward an improved economy.
The jobs picture will continue to frame the weak economic outlook and will negatively impact our stock market.
For most voters, the only real issue is high unemployment, and it is here that Democrats seem to have set aside bold thinking and fallen into the Republican trap of placing deficit fears ahead of job revival. Rather than spend time during the campaign stoking anxiety over Social Security, Democrats should aggressively counter the myth that the deficit is causing unemployment, and advocate using government in ways that might re-inspire voters.
-- "In Search of a New Playbook" (op-ed), The New York Times
The Democrats have already retreated from immigration and energy reform. If they can't make the case to Americans like Alexandra Jarrin that they offer more hope for a job than a radical conservative movement poised to tear down what remains of the safety net, they deserve to lose.
-- Frank Rich, "How to Lose an Election Without Really Trying" (op-ed), The New York Times
The slow economic strangulation of the Freemans and millions of other middle-class Americans started long before the Great Recession, which merely exacerbated the "personal recession" that ordinary Americans had been suffering for years. Dubbed "median wage stagnation" by economists, the annual incomes of the bottom 90% of U.S. families have been essentially flat since 1973, having risen by only 10% in real terms over the past 37 years. That means most Americans have been treading water for more than a generation. Over the same period the incomes of the top 1% have tripled. In 1973, chief executives were on average paid 26 times the median income. Now the multiple is above 300.
The trend has only been getting stronger. Most economists see the Great Stagnation as a structural problem, meaning it is immune to the business cycle. In the last expansion, which started in January 2002 and ended in December 2007, the median U.S. household income dropped by $2,000, the first ever instance where most Americans were worse off at the end of a cycle than at the start. Worse is that the long era of stagnating incomes has been accompanied by something profoundly un-American: declining income mobility.
-- Edward Luce, "The Crisis of Middle-Class America," Financial Times
The biggest political change in my lifetime is that Americans no longer assume that their children will have it better than they did. This is a huge break with the past, with assumptions and traditions that shaped us....
Parents now fear something has stopped. They think they lived through the great abundance, a time of historic growth in wealth and material enjoyment. They got it, and they enjoyed it, and their kids did, too: a lot of toys in that age, a lot of Xboxes and iPhones. (Who is the most self-punishing person in America right now? The person who didn't do well during the abundance.) But they look around, follow the political stories and debates, and deep down they think their children will live in a more limited country, that jobs won't be made at a great enough pace, that taxes -- too many people in the cart, not enough pulling it -- will dishearten them, that the effects of 30 years of a low, sad culture will leave the whole country messed up....
But do our political leaders have any sense of what people are feeling deep down? They don't act as if they do. I think their detachment from how normal people think is more dangerous and disturbing than it has been in the past. I started noticing in the 1980s the growing gulf between the country's thought leaders, as they're called -- the political and media class, the universities -- and those living what for lack of a better word we'll call normal lives on the ground in America. The two groups were agitated by different things, concerned about different things, had different focuses, different world views.
But I've never seen the gap wider than it is now. I think it is a chasm.
-- Peggy Noonan, "America Is at Risk of Boiling Over" (op-ed), The Wall Street Journal
The aggregation of the investment shock of 2008, the accumulated 2007-2010 drop in stock and home prices, consistently disappointing growth in real incomes and inept, unfocused public policy that has not even budged the unemployment rate have generated a combination of a sense of frustration, inner pessimism and powerlessness on the part of the U.S. consumer.
Frustrated by the above factors, the Democratic Tsunami of 2008 heralded the start of a populist and anti-incumbent uprising that claims no political affiliation (as demonstrated by the popularity of the conservative Tea Party movement).
It also helps to explain the average American's continued disdain for what they see as the "fat cats" -- that is, the wealthy among us and the large, liquid and capital-rich corporations.
The jobs picture will continue to frame the weak economic outlook and will negatively impact our stock market. The consumer, after decades of being aspirational in both his consumption and investing, is likely to be less so in the years to come; he is constrained and his confidence has been subdued/spoiled.
The attitudes of tone deaf former head of the Council of Economic Advisors Christina Romer and Treasury Secretary Tim "Happy Days are Here Again" Geithner have only served to alienate the average American, who did not need to see Friday's weak jobs report to know which way the wind is blowing.
For now, the lack of response by our legislative and executive branches -- what the heck is Larry Summers thinking/doing? -- in formulating a transformative and focused strategy to address the current elevated unemployment picture remains the greatest headwind in face of economic and stock market recovery.
And with no real playbook, I am starting to see nothing at all that will change this in the near future.
The oil spill in the Gulf has been filled, but the largest spill of all, the loss of jobs, is still flowing.
Until the employment picture is seriously addressed, stock market valuations will likely remain pressured, and upside opportunity will likely remain limited....
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