The Closing
Statistical Summary
Current Economic Forecast
2007
Real Growth in Gross Domestic Product: 2.0- 2.5%
Inflation: 2 - 2.5 %
Growth in Corporate Profits: 6-8%
2008 (revised)
Real Growth in Gross Domestic Product (GDP): 2.0-2.5%
Inflation: 1.75-2%
Growth in Corporate Profits: 3-5%
Current Market Forecast
Dow Jones Industrial Average
2007
Current Trend:
Medium Term Trading Range 11900-14203
Long Term Trading Range 7100-14203
Year End Fair Value: 13250
2008 Year End Fair Value: 14050
Standard & Poor’s 500
2007
Current Trend:
Medium Term Uptrend 1261-1722
Medium Term Trading Range 1062-1527
Long Term Trading Range 750-1527
Year End Fair Value (revised): 1525
2008 Year End Fair Value (revised): 1615
Percentage Cash in Our Portfolios
Dividend Growth Portfolio 26%
High Yield Portfolio 28%
Aggressive Growth Portfolio 27%
Economics
The economy may be a positive for Your Money, i.e. the economy appears to be teetering on the brink of negative growth but has yet to do so. The key to avoiding a further ratcheting down of economic growth, in my opinion, lies with the Fed, specifically, it needs to increase the rate of growth in the monetary base and lower the Fed Funds rate (the cost of money) below long term interest rates (the price of money). Absent any meaningful change in Fed monetary policy, a recession will likely result.
There was a great deal of economic data reported this week; nothing therein alters these conclusions.
(1) the housing sector is still a mess: [a] December housing starts fell 14.2% versus expectations of a 4.8% decline, [b] December building permits dropped 8.1% versus estimates of a decrease of 2.8%, [c] finally on a more positive note, weekly mortgage applications, a secondary indicator, spiked again this week, up 28.4% following last week’s jump of 32%; re-financings were up 43%--a hopeful sign that homeowners whose ARM’s are re-setting to higher rates are rolling their mortgages into lower interest rate fixed rate mortgages,
(2) the consumer data remains mixed with spending indicators soft but sentiment and employment strong: [a] December retail sales as measured by the Commerce Dept. fell .4% versus expectations of a decline of .1%; ex auto sales, they were down .4% versus estimates of a decrease of.2%; in addition, November retail sales were revised down from up 1.1% to up 1%, [b] the International Council of Shopping Centers reported weekly sales of major retailers fell .9% though they were up 1.1% year over year; Redbook Research reported month to date retail chain store sales dropped .1% versus the comparable period in December and were up a paltry .9% versus the similar time frame in 2007; both continue the trend of a declining rate of year over year increase, [c] weekly jobless claims were down 21,000 versus expectations of a rise of 18,000--the second hugely positive report following the disappointing December nonfarm payroll number; to be repetitive, a recession is almost impossible when everyone has a job {income} [d] the University of Michigan’s preliminary January index of consumer sentiment came in at 80.5 versus expectations of a reading of 74.5 and 75.5 recorded in December,
(3) industry continues to be the bright spot in the economy: [a] December industrial production remained unchanged versus expectations of a decrease of .2%; the unexpected strength coming from overseas demand, [b] December capacity utilization was reported at 81.4 versus expectations of 81.2 and 81.5 announced in November, [c] November business inventories rose .4% versus estimates of a .5% increase; more important, business sales were up a strong 1.0%, driving down the inventory to sales ratio--again, [d] and finally, mixed signals from two secondary indicators: the January NY Fed Manufacturing survey came in at 9.03 versus expectations of 8.25 and 10.31 recorded in December, while the Philadelphia Fed factory index plunged to a -20.9 reading versus estimates of -3.0,
(4) macro economics statistics reflected our current forecast--slowing growth and moderating inflation: [a] the December producer price index {PPI} fell .1% versus expectations of an increase of .2%--the major reason for this surprisingly positive performance was a decline in gasoline prices; the core PPI rose .3% versus expectations of an increase of .1%, [b] the December consumer price index {CPI} rose .3% versus expectations of an increase of .2%; core CPI was up .2%, in line with estimates, [c] the December leading economic indicators fell .4% versus estimates of a decline of .1%, [d] last, on Wednesday the Fed released its latest beige book {a once every six weeks anecdotal look at the economy} which reported {i} modest growth through the end of December in all sections of the country; though the rate of growth was slowing due to a weak housing market and sluggish Holiday spending and {ii} continuing inflationary pressures.
The real economic news this week was the failure of national leadership. To be charitable, our elected leaders demonstrated great intentions; but their commonly agreed up on fix (tax rebates) is generally recognized as having not worked when tried in the past (and judging by the Market’s action on Friday, investors were not impressed with W’s version). Regrettably, there has been little said about encouraging investment or creating jobs. But then when judged against the bureaucrat’s solution, the politicians appear positively enlightened. In his congressional testimony, Bernanke blew a perfect opportunity to take the lead in avoiding recession (increase monetary growth, lower Fed Funds rate) but instead he pandered (and judging by the Market’s reaction on Thursday, investors were more than unimpressed).
To be clear, while I am not convinced that the economy will slip into recession; but I do believe that the longer the Fed maintains a restrictive monetary policy the greater its probability. The rhetoric this week notwithstanding, in my opinion, the economy right now is on its own to self repair--if possible.
The Economic Risks:
(1) the economy is weaker than expected.
(2) Fed policy (reading the data correctly).
(3) a disruption in global oil supplies (It is not the price of oil but its availability that will cause severe economic dislocation.).
(4) protectionism (Free trade is a major positive for world and
(5) fiscal profligacy (Government spending as a percent of GDP is too high and the looming explosion in entitlement expenditures will make it worse. There is no good solution save spending discipline.).
(6) a rising tax and regulatory burden (Government has never proven that it could solve economic problems efficiently or satisfactorily.)
Politics
Both the domestic and international political environment are negatives for Your Money. I couldn’t have found a better illustration of this point than the actions (or lack thereof) this week by the politicians (who are now in a bidding contest to see who can propose the biggest rebate) and bureaucrats (who are too afraid to do anything) to provide support to the economy.
http://www.clubforgrowth.org/2008/01/youre_going_the_wrong_way.php
http://www.clubforgrowth.org/2008/01/the_correct_message.php
The Market
Technical
The DJIA (12099) is in a trading range defined by 7100 (the 2002 low)/11900 and 14100 (the 2007 high); the S&P (1325) similarly is in a trading range of 750-1527 but there is an up trend in tact with 1261-1722 boundaries. The operative numbers to be watching next week are DJIA 11900 and S&P 1261.
Fundamental
The DJIA (12099) finished this week about 9.1% below Fair Value (13316) while the S&P closed (1325) around 13.5% undervalued (1532).
There is not much to add to the blow by blow narrative of this week’s Morning Calls.
Our investment strategy remains:
(a) preserve capital by paying very close attention to the Stop Loss Discipline, occasionally moving the Stop Loss price above its historic level,
(b) insure that my research on the Valuation Model especially for those stocks that have broken below or are near their Stop Loss Price is up to date and the Values generated by the Model reflects the current economic reality,
(c) build our Buy Lists with the stocks of great companies that can be bought when the downward momentum in equity prices subsides,
(d) recognize that there are both technical and fundamental factors that argue for caution and therefore to proceed carefully with our Buying, keeping a larger than normal cash position in anticipation of valuation and strategy changes that could result from a potentially new domestic economic agenda,
DJIA S&P
Current 2008 Year End Fair Value 14050 1615
Fair Value as of
Close this week 12099 1325
Over Valuation vs. 1/31 Close
5% overvalued 13981 1608
10% overvalued 14647 1685
Under Valuation vs. 1/31 Close
5% undervaluation 12650 1455
10%undervaluation 11984 1378
The Portfolios and Buy Lists are up to date.
Company Highlight:
Accenture Ltd is a global leader in management and technology consulting services and solutions with 189 offices in 48 countries. The company has generated an impressive 50%+ return on equity over the last five years while growing earnings per share and dividends 13-15% annually. ACN should be able to continue this trend as a result of the rapid expansion of global demand for outsourcing and consulting and the accompanying very positive pricing environment, its aggressive acquisition strategy and a sizeable share buyback policy. The company has virtually no debt, is rated B++ by Value Line and pays a dividend providing a 1%+ yield.
http://finance.yahoo.com/q?s=ACN
Steve Cook received his education in investments from Harvard, where he earned an MBA, New York University, where he did post graduate work in economics and financial analysis and the CFA Institute, where he earned the Chartered Financial Analysts designation in 1973. His 38 years of investment experience includes institutional portfolio management at Scudder. Stevens and Clark and Bear Stearns, managing a risk arbitrage hedge fund and an investment banking boutique specializing in funding second stage private companies. Through his involvement with Strategic Stock Investments, Steve hopes that his experience can help other investors build their wealth while avoiding tough lessons that he learned the hard way.
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