Last week the number of POSITIVE developments exceeded NEGATIVE
developments, and the stock markets moved higher.
Below is a succinct list of last week’s events:
Positives: 1) Berlusconi goes and Italian Senate passes budget (awaits lower House) 2) EFSF sells bonds to fund Irish bailout after last week’s failure 3) ECB members stick to guns and say money printing not going to happen. They implicitly say to Italy, ‘you figure it out,’ 4) Initial Jobless Claims fall to 390k, 10k less than expected and 4 week average falls to lowest since April 5) Sept Exports rise to record high but can it last? 6) MBA said refi’s rose 12.1% and purchases were up 4.8% as mortgage rates fell 7) US import prices unexpectedly fall by .6% m/o/m led by food and energy prices 8) China’s CPI moderates to five month low but remains still high at 5.5%
Negatives: 1) Italian bond yields move higher again but close well off week’s intraday highs. 3rd largest bond market in the world staring over the edge. French rising bond yields becoming big focus too 2) Will the ECB be left with no choice but to be like Bernanke? 3) US 10 yr and 30 yr Treasury auctions were weak, finally push back on historically low yields with inflation elevated and concerns with Super Duper Undercover Secret Committee? 4) Import prices from China rise .4% m/o/m, the most since April 5) India’s IP in Sept rise at the slowest pace in 2 yrs 6) German IP in Sept fall a greater than expected 2.7%
While attending the Investment conference, I was not in search of single- point certainty on the many questions I posed. That would be a foolish quest in this uncertain era. Yet, I was rewarded with insight from around the world, insight that speaks to real interdependencies between economics and politics. What follows is not a series of set-in-stone predictions. Instead I offer the results of careful thought that link economics and politics with finance and finally, to investment. Based upon the experts’ information, as well as some economic report published in the last 2 weeks:
1. America is a great place to live. As Tony Blair said, “that is why so many people are trying to get into this country”.
2. The US will avoid a recession next year – probably. It would be wonderful to forecast a strong global recovery. Yet Europe is still trying to right itself, joblessness stays high in the U.S., and real estate’s ability to escape the malaise remains an open question.
3. Several countries and/or banks in Europe could fail. The impact could start a domino effect that could be dramatic. This must be carefully watched until next summer, at least.
4. The FED will keep interest rates low – Bill Gross calls this “Financial Repression”. Through low interest rates on savings and CD accounts, the savers are in effect funding the recapitalization of the US banks. Bill expects this to continue for some time in the future.
5. Dollar devaluation will occur gradually to attempt to keep US competitive against effects of globalization.
6. Computer trading has become pervasive and creates a problem with fairness in the stock market. It needs to be reined in.
7. There is a big difference between investing in the stock market and investing in companies through the stock market. Investing in high dividend stock is an effective long term investment strategy. Buying high dividend, quality companies is one strategy to defeat the effects of computer traders.
8. Globalization and wild swings in asset prices will continue in the future.
Is the stock market suffering from Stockholm Syndrome? Think about it: U.S. stocks for months have been held captive by every mock-sincere handshake and thumb-biting hostile gesture offered during the unending European financial debate, and the market has begun to move in empathetic identification with the mood of these captors.
Witness Wednesday’s 3% slump, on some fresh complication in the European debt negotiation that spiked Italian government bond rates. Or Friday’s 2% pop on a perceived outbreak of sanity (or self-preservation) by the Italian Senate.
Figuring the stock market’s true intentions means discerning its hidden motivation, like a method actor attempting to plumb a difficult role. But lately, it has been futile to venture beyond the obvious to decipher the main market drivers.
Strategists at Deutsche Bank note that this year the price/earnings ratio on American stocks has closely tracked the Euribor-OIS spread, an arcane-sounding but now widely watched gauge of bank-funding stress on the Continent.
Jason Trennert, proprietor of market-analysis firm Strategas Group, says the manic-depressive day-to-day action shows that “the magnitude of the world’s macroeconomic concerns has led the global financial markets to arc between the poles of utter financial disaster and some silver-bullet solution that could diminish the concerns about sovereign solvency, albeit only temporarily.”
It’s hard to argue against this point, but perhaps what’s most significant is the fact that through all the buffeting of seemingly intractable, almost existential threats to the West’s financial fortunes, the stock market has attempted to find an equilibrium somewhere around where it started the year. In the absence of new and nasty headlines or evidence of acute market stress, the default mode of stocks—at least for now—is to hang firm or to climb a bit.
And so maybe it’s fitting that the Standard & Poor’s 500 Index has again traversed the flat line for the year (defined as the 1257 mark where it ended 2010) four out of the five trading days last week. The Dow Jones Industrial Average, finished the week up 1.4% at 12154, 5% higher than it started the year.
This is what happens when the opposing currents of macroeconomic and structural fiscal threats and corporate financial vigor meet, when loose Federal Reserve policy collides with the tightening effects of risk-averse and regulation-strapped banks. It makes for a lot of day-to-day movement, mostly in one direction on a given day, but little progress—little progress even over the vast stretch of 13 years, when the S&P 500 first tickled its current quote.
The crux of the bull-bear debate today, then, is whether the market’s perseverance is best compared, in boxing terms, to a resolute fighter with an iron jaw or a punch-drunk tomato can without enough sense to go down. This can be a fine and imprecise distinction, and the first condition can morph into the second with one blow too many. But when a market refuses so many perfectly good excuses to collapse for good, its resilience probably deserves the benefit of the doubt.
As put on Friday by veteran market strategist Vince Farrell of Ticonderoga Securities: “The market seems to handle whatever [is] thrown its way. The Greeks tried to take the system down, but it looks like, as the Spartans of old, they are being carried back on their shields. The Italians are hoping the full [Mario] Monti will pull a bunch of technocrats together and muddle through. U.S. economic news, on balance, continues to improve. Inflation came off the bubble in China and some are guessing the government will ease [interest rates] a bit by the end of the year.
“The stock market ran up to the 200-day moving average, got terrified, passed out and plummeted. Then it came to and rallied back. What was that all about? I guess it’s just the Internet warp-speed electronic version of what used to be a several-week process of correction and backing and filling. But we have been saying the trading range would be alive and well and would take a slight upward tilt. Despite sickening swings and volatility, it has done that.”
It’s both tempting and logical to project that this trench warfare—hopeful buying before the requisite weekend summit meetings, followed by mid-week selling upon witnessing another outbreak of clay-foot-in-mouth disease among Euro officials—will keep stocks trapped around the flat line through year’s end (Source: Barrons Online)
Last week, U.S. Stocks and Bonds increased and Foreign Stocks
declined. During the last 12 months, U.S. STOCKS outperformed BONDS.
Returns
through 11-11-2011
1-week
Y-T-D
1-Year
3-Years
5-Years
10-Years
Bonds-
BarCap Aggregate Index
-.2
6.9
5.3
8.3
6.4
5.5
US
Stocks-Standard & Poor’s 500
.9
2.3
6.3
8.3
-5.0
1.1
Foreign
Stocks- MS EAFE Developed Countries
-.4
-11.9
-10.9
6.8
-5.9
2.5
Source: Morningstar Workstation. Past performance is no guarantee of future results. Indices are unmanaged and cannot be invested into directly. Three, five and ten year returns are annualized excluding dividends.
And, as I reported in The Weekly Commentary weekly during each of the past nine weeks, a continued crisis in confidence will probably result in further economic slowdown, and maybe a full-fledged recession. I believe the probability of a recession has grown dramatically – it has increased to approx 50% in my opinion. Many economists agree with this forecast.
The stock markets have already dropped in anticipation of the economic slowdown. There is a possibility the forecasted downturn is now fully factored into stock prices. If true, this would not be the time to sell. On the other hand, the economic downturn could be long-lasting and severe. It is very difficult to predict its severity. There is no exact, 100% sure-fire way to time recessions or markets. Due to the lack of clarity in my crystal ball, I recommend the following, depending upon which category fits your unique circumstance:
1. Aggressive investors, moderately aggressive investors, and investors who do not intend to touch their investments for 10 years or longer – continue to hold the current allocation of core investments, and wait to gather more information, and carefully watch central bank activities especially from FED Chairman Bernanke later this week.
2. Investors who need to withdraw from the investment portfolio – “park” any amounts you expect to withdraw within the next 5 years in a short/intermediate term bond fund.
3. Conservative, moderately conservative, preservation minded investors and investors who with start withdrawing from their portfolio in 5 to 10 years– reduce exposure of the more volatile stock and stock mutual fund holdings in your portfolio.
This weekend I travelled to Washington DC and back on the Amtrak train. Both trips were great. On time, stress free and without the traffic mess on Rt 95. I enjoy DC, especially the museums. I spent the entire day Saturday riding the Metro and roaming the Smithsonian while my wife Jo Anne and my daughter Jennifer shopped. One display in particular struck me: The Wright Brothers’ plane – yes, the original Wright Brothers plane – is there. But, it was their story that left an indelible impression. They were bicycle makers, not engineers or scientists. The Wright Brothers simply had an incredible desire to achieve. At the time of their inventions, aeronautics was in its infancy. The Wrights were forced to get basic aerodynamic data from a German who was acknowledged as the worldwide expert. His data was wildly incorrect. So, the Wright Brothers did what you expect any American to do – they improvised and innovated – they built a wind tunnel and compiled their own aerodynamic data. And, their efforts resulted in the first, heavier than air, controlled flight. All of this – WITHOUT – government grants.
Last week the number of NEGATIVE developments outnumbered POSITIVE developments. But, the stock markets still moved higher.
Positives: 1) Markets hang in on belief EU officials will come to some sort of an agreement to force Greek bondholders to mark to reality, provide some debt relief to Greece and buy time and refinancing backstop for Italy and Spain 2) Initial Claims, while higher than expected, has 4 week avg at lowest since April 3) Philly mfr’g surprises to upside at +8.7 vs est of -9.4 and -17.5 in Sept 4) Multi-family starts a bright spot for construction industry, reach highest since Oct ’08 5) NAHB home builder survey rises 4 pts to best since May ’10 at 18
Negatives: 1) CPI in Canada 3.2% y/o/y, CPI in Hong Kong 5.8%, CPI in Malaysia 3.4%, CPI in the US 3.9% and last week saw euro zone CPI at 3%. Inflation is a growing problem 2) Months supply of existing homes ticks up to 8.5 from 8.4 3) Operation Twist this: refi’s fall 16.6% and purchases drop 8.8% 4) NY mfr’g at -8.5 vs expectations of -4.0 5) German IFO business confidence lowest since June ’10, French business confidence weakest since July ’10 6) Moody’s downgrades Spain’s credit rating to one notch below S&P and Fitch 7) China’s Q3 GDP rises 9.1%, touch below estimates and Shanghai index down 4 straight days to lowest since Mar ’09 (Source: The Big Picture).
Yes. But, there are many danger signals, too. At least, that is what one highly respected expert – John P. Hussman PhD of the Hussman Funds – says in his periodic newsletters. Hussman is a name many have heard before. John P. Hussman PhD is a highly respected financial expert who has a straightforward and direct opinion of whether the US is headed into a recession. Here is an excerpt from a recent article (the link to the entire article is: www.hussman.net/wmc/wmc111017.htm ):
“From my perspective, Wall Street’s “relief” about the economy, and its willingness to set aside recession concerns, is a mistake born of confusion between leading indicators and lagging ones. Leading evidence is not only clear, but on a statistical basis is essentially certain that the U.S. economy, and indeed, the global economy, faces an oncoming recession. As Lakshman Achuthan notes on the basis of ECRI’s own (and historically reliable) set of indicators, “We’ve entered a vicious cycle, and it’s too late: a recession can’t be averted.” Likewise, lagging evidence is largely clear that the economy was not yet in a recession as of, say, August or September. The error that investors are inviting here is to treat lagging indicators as if they are leading ones.
The simple fact is that the measures that we use to identify recession risk tend to operate with a lead of a few months. Those few months are often critical, in the sense that the markets can often suffer deep and abrupt losses before coincident and lagging evidence demonstrates actual economic weakness. As a result, there is sometimes a “denial” phase between the point where the leading evidence locks onto a recession track, and the point where the coincident evidence confirms it. We saw exactly that sort of pattern prior to the last recession. While the recession evidence was in by November 2007, the economy enjoyed two additional months of payroll job growth, and new claims for unemployment trended higher in a choppy and indecisive way until well into 2008. Even after Bear Stearns failed in March 2008, the market briefly staged a rally that put it within about 10% of its bull market high. “
Good news is good and bad news is bad, but a lack of bad news can be good, at least for investors. Stocks rose about 1% last week on improved trading volume, as third-quarter earnings reports—with the exception of Apple’s (ticker: AAPL)—came in generally as expected.
There was also a lack of bad European news and “this is a headline-driven market,” notes Andre J. Bakhos, director of Market Analytics for Lek Securities. Other than that, it has been a pretty theme-less market, he adds.
Last week marked a third consecutive week of gains, as the Dow Jones Industrial Average rose 1.4% to finish at 11,808.79. The Standard & Poor’s 500 Index picked up 1.1% to 1238.25. But the Nasdaq Composite bucked the trend, falling 1% to 2637.46.
Many investors intuitively know that stock movements among S&P 500 companies have been highly correlated of late, so much so that fundamental stock picking seems to have been hijacked by one big macroeconomic worry, that of a European banking crisis.
The other big macro worry, notes one CIO, has been a potential U.S. recession, but here again, while the macroeconomic news hasn’t been great, a lack of bad news has helped investor sentiment. “Can Europe ring-fence the problem banks? Maybe things look better than they did two weeks ago, but we are not out of the woods yet,” the CIO says.
Many look to a European summit to be held over the weekend, but already it seems that another meeting Wednesday will be even more important. “I’ve lost track of how many European meetings there have been,” Bahkos says.
Anyone who believes there will be a clean and definitive answer on Europe’s sovereign-debt problem is going to be disappointed for many months. For now, at least, it seems like the “risk on” trade is back, but European leaders have had a nasty habit of disappointing markets on Mondays.
The correlation within the equity market has never been higher, according to Bespoke Investment Group. When the S&P 500 advance/decline line (advancing stocks minus decliners) reaches plus- or minus-400 in a session, Bespoke calls that an all-or-nothing day. Since the end of July there have been 31 all-or-nothing days, more than the total for the 1990s. This year will top 2008 for such volatile trading days, according to Bespoke.
The volatility most likely is due in large part to high-frequency trading and investors’ heavy use in recent years of exchange-traded funds, which must rebalance their portfolios every day.
As noted, Apple fell sharply last week on disappointing earnings, but McDonald’s (MCD) reported strong third-quarter earnings Friday, which drove the stock to an all-time high of $92.32. Mickey D’s stock has been the best Dow performer by far since hitting lows in 2003 (Source: Barrons Online).
