9/10/08

Economics

Recent Data

July wholesale inventories jumped 1.4% versus expectations of an increase of .6%; perhaps more important, wholesale sales fell .3%. You may recall that sales growth has been consistently outpacing the increase in inventory; this is the first sign of a reversal in this pattern and is not promising. Pictorially:

http://econompicdata.blogspot.com/2008/09/wholesale-trade-sales-july.html

The International Council of Shopping Centers reported weekly sales of major retailers down .1% but up 1.9% on a year over year basis; Redbook Research reported month to date retail chain store sales up 1.8% versus the comparable period in 2007. Both numbers were impacted by the rash of hurricanes that plagued the Gulf and Atlantic coasts.

Other

protectionism (Free trade is a major positive for world and US economic growth.). There are still three free trade agreements before the Senate for approval:

http://www.orlandosentinel.com/news/opinion/orl-ed08108sep08,0,3876867.story

An economist looks at cap and trade:

http://www.american.com/archive/2008/september-09-08/the-pigou-club-goes-to-washington

An update on credit spreads:

http://econompicdata.blogspot.com/2008/09/corporate-mortgage-backed-security.html

Thoughts on the mandated reduction in Fannie/Freddie’s mortgage portfolios:

http://econompicdata.blogspot.com/2008/09/fannie-freddie-portfolios-250b-by-year.html

Politics

Domestic

Understanding Obama’s role as a community organizer:

http://article.nationalreview.com/?q=OWMxNGUxZWJjYzg1NjA0MTlmZDZmMjUwZGU3ZjAwNmU=

Some quotes from Alaskan newspapers on Palin’s role in the bridge to nowhere:

http://www.powerlineblog.com/archives2/2008/09/021462.php

International War Against Radical Islam

The Market

Technical

Eye candy on the NYSE cumulative tick:

http://traderfeed.blogspot.com/2008/09/cumulative-nyse-tick-look-at-short-term.html

A positive read on the Market’s current pin action:

http://traderfeed.blogspot.com/2008/09/introduction-to-trading-stock-market.html

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Technically speaking, it appears that Monday was the eye of the storm. I don’t have to tell you yesterday was brutal. Stock prices were down big, the volatility index spiked from 22 to 26 and looks to headed for the 30-36 area that typically marks support levels (bottoms). As the day went on, I recalled the conversations with the floor traders that I had last Friday and that I recounted in last week’s Closing Bell--the gist of which was that they were very gloomy about the prospects for stock price performance on Monday and Tuesday this week, expecting a firm test of the July 2008 low. It would appear that they were right, it just got postponed by a day. Hold on to your shorts, tomorrow may be rough but hopefully it will be THE (successful) test of the July low.

Fundamental

There appeared to be two driving forces behind stocks dismal performance yesterday:

(1) Lehman Bros. which has been on the ‘sick’ list of financial institutions, has apparently become the focus of the short seller/hedge fund crowd. From the tone of the news/rumors on the Street and the pin action of the stock, it seems that investors are betting that it will not survive in its current form. This, in turn, led to some serious whackage of many financial stocks. If history repeats itself, this situation will likely resolve itself, just like the Bear Stearns and Fannie/Freddie did [see below]. The good news from our limited perspective is that we only own one bank--Northern Trust which, as you know, has been hitting all time price highs--and one broker/dealer--Charles Schwab which has also traded near its Sell Half Price—though yesterday it sold below a pre-set Stop Loss [see below]. The remainder of our positions in the financial sector are trading well within their long term trends and their Valuation Ranges. The only exception is Mastercard where the Aggressive Growth Portfolio sold some shares last week to protect profits and where it will sell more this morning [see below].

Here is Lehman’s proposed resolution to its problems:

http://online.wsj.com/article/SB122103219388318869.html?mod=hpp_us_whats_news&apl=y&r=769188

(2) liquidation of energy/commodity stocks. We are not so lucky here. Last week when the Ospraie hedge fund closed its doors, I posed the question; ‘is the demise of this hedge fund a singular event or are there committee meetings at hedge funds, pension funds and foundations going on as you read this deciding whether or not the commodity bubble has burst and whether to liquidate or substantially reduce exposure to this investment class. We have to be alert to this possibility and.... we will know the answer soon enough.’ The price action of these stocks over the past week suggests that we now know, i.e. it looks to me like these stocks are being subject to mass liquidation with the result that some of the stocks in our Portfolios are being hit very hard.

The dilemma here is that while I believe that the global industrialization thesis remains in tact, I don’t know how long this liquidation will last and how far down these stocks will fall before the selling subsides. My solution is always the same--protect capital first.

Here is Cramer’s take:

http://www.thestreet.com/p/_htmlrmd/rmoney/jimcramerblog/10436522.html

Unfortunately, a number of our Portfolios holdings are trading through our pre-set Stop Loss prices which I established to protect profits. In fact there are more of them than I can ever remember in prior Market declines. However, given the Averages proximity to their July lows, I want to be cautious about any wholesale liquidation. Therefore in my analysis following yesterday’s Market close, I focused just on those stocks that not only traded below our pre-set Stop but also have little technical support within 10% of their current price. Accordingly at the Market open this morning---

Subscriber Alert

The Dividend Growth Portfolio will Sell sufficient shares in Illinois Tool Works (ITW-$48) and ExxonMobil (XOM-$73) to reduce the size of these holdings to one half of normal. In conjunction with that ITW and MDU Resources (MDU-$28) are being Removed from the Dividend Growth Buy List as a result of their shares selling below the lower boundary of the Buy Value Range. In addition, the stock price of Marathon Oil (MRO-$40) has traded below its Stop Loss Price. All but a one quarter position in this stock will be Sold

The High Yield Portfolio will Sell sufficient shares in Rayonier (RYN-$44), Nustar Energy (NS-$48) and Oneok Partners (OKS-$58) to reduce the size of these positions to one half of normal. In addition, Plains All American Pipeline (PAA-$44) is being Removed from the High Yield Buy List as a result of its shares selling below the lower boundary of its Buy Value Range.

The Aggressive Growth Portfolio will Sell sufficient shares of Charles Schwab (SCHW-$23), American Vanguard (AVD-$13) and Smith Int’l (SII-$60) to reduce the size of these position to one half of normal; it will Sell sufficient shares of Bucyrus Int’l (BUCY-$43), XTO Energy (XTO-$45) and Suncor Energy (SU-$43) to reduce the size of these holdings to one quarter of normal. The stock prices of Mastercard (MA-$206) and Reliance Steel (RS-$45) have traded below their respective Stop Loss Prices. All shares will be sold. Finally, the stock price of Frontier Oil (FTO-$18) has traded below the lower boundary of its Buy Value Range; therefore FTO will be Removed from the Aggressive Growth Buy List. The Aggressive Growth Portfolio will Hold this stock for the time being.

As a final thought, I want to re-emphasize that these actions are being taken for one reason and one reason alone: to protect capital. Given the proximity of stock prices to the July lows, the end of this decline could very well come in the next couple of days; and even though I believe that the July lows will hold, I am unwilling to risk capital to prove that point. As I said last Thursday, I would rather buy stocks back up 5% than assume the risk of holding them down 10% to 20%.

Company Highlight

Aflac Inc is the world’s largest underwriter of supplemental cancer insurance primarily through business and employee organizations in Japan (72% of revenue) and sells life, Medicare supplement, accident and long term convalescent care in the US. The company has grown profits and dividends 16-20% over the last ten years earning an 18% return on equity. AFL should continue this above average record as a result of:

(1) improving margins due to the introduction of new products with lower loss ratios,

(2) deregulation in the Japanese market allowing the company to begin selling it policies at bank branches; plus the company was selected to be the exclusive cancer insurance provider to the Japan Post Network [postal service],

(3) Japan’s aging population facing significant deficiencies in that country’s national health plan.

Aflac is rated A by Value Line, carries a 17% debt to equity ratio, aggressively utilizes its excess cash flow to repurchase stock and raise its dividend and its stock yields 1.6%.

http://finance.yahoo.com/q?s=AFL

9/08

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