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 12523-14203
Long Term Uptrend 11757-23751
Year End Fair Value: 13250
2008 Year End Fair Value: 14050
Standard & Poor’s 500
2007
Current Trend:
Long Term Trading Range 750-1527
Long Term Uptrend 1225-2400
Year End Fair Value (revised): 1525
2008 Year End Fair Value (revised): 1615
Percentage Cash in Our Portfolios
Dividend Growth Portfolio 20%
High Yield Portfolio 26%
Aggressive Growth Portfolio 24%
Economics
The economy may be a positive for Your Money. As you know, my thinking is that the fate of the economy is now in the hands of the Fed; and if it doesn’t start growing the monetary base and lower interest rates soon, a recession will almost surely occur. Certainly, Bernanke’s statement on Thursday was a basis for hope; but actions, especially with this Fed, speak louder than words and the next action point for the Fed comes at its meeting at the end of January. I am going to hold off any change in my 2008 economic forecast until after that meeting--hoping that Bernanke’s comments indicate that these guys have wised up and are adopting a more accommodative policy. If that doesn’t happen, I will likely revise my forecast down, again. In the meantime, this week was very slow when it came to economic statistics but did provide a wealth of positive anecdotal data.
(1) the housing news was mixed though we did get an upbeat report from a secondary indicator: [a] November pending home sales fell over a dramatically upward revised October number, meaning that on an absolute basis it was much better than originally expected, and [b] weekly mortgage applications spiked by 32%, largely driven by a decline in long term mortgage rates,
(2) the consumer data continues to reveal sluggish spending though jobless claims were a bright spot: [a] the International Council of Shopping Centers reported that weekly sales of major retailers rose .4% and were up 1.9% on a year over year basis; however, Redbook Research reported month to date retail chain store sales fell .7% versus the comparable period in the prior month but increased 1.3% versus the similar time frame in 2006. I should note that the rate of year over year increase in both of these data points has declined since mid 2007 from plus or minus 2.5% to plus or minus 1.5%--clearly not a sign of a strong consumer, [b] December retail sales as reported by Retail Metrics came in below estimates, [c] finally, weekly jobless claims fell 15,000 versus expectations of an increase of 4,000--great news after the disappointing non farm payroll number last week.
(3) though there was only one data point this week, the industrial sector continues to be the strongest segment of the economy: November wholesale inventories were up .6% versus expectations of up .4%; but as has been the pattern for the last year, wholesale sales rose at a much stronger 2.2% pace, driving down the inventory to sales ratio, again,
(4) the big news this week came from multiple developments in the financial sector all of which were quite positive:
[a] the TIPS spread has narrowed.. As you know, I consider this a prime forward looking indicator of inflation--with a narrowing spread pointing to lower inflationary expectations. This should ease the pressure on the Fed to keep monetary policy tight,
[b] the interest rate spread between low quality and high quality bonds has narrowed significantly, suggesting that fears among bond investors of a catastrophe in the financial markets is subsiding,
[c] Fed chairman Bernanke indicated the Fed’s willingness to take any major step that is necessary to avoid recession,
[b] and finally, we received some additional visibility to the resolution of the sub prime problem as {i} total commercial paper outstanding rose this week, hopefully a sign that the lack of liquidity in this market is easing, {ii} Merrill Lynch and Citigroup announced that they were in talks with foreign entities regarding additional capital infusions which if successful would increase their lending/credit creation capacity, {iii} in a separate announcement Merrill made further disclosures about the extent of its exposure to the sub prime market ($15 billion) and {iv} Bank of America is buying Countrywide Financial which provides a much needed source of financial support for the mortgage market.
Bottom line: I view the continuing flow of information and upbeat developments in the sub prime market as positive--they are providing definition to the downside risks which with every new piece of data seem to be shrinking. It would now appear that the worst investor fears of a month or two ago will not materialize. Unfortunately, that still doesn’t mean that a recession isn’t in the offing; and, at the risk of being repetitious, I believe that its likelihood rests squarely on the shoulders of the Fed. To be sure, Bernanke’s Thursday comments provide hope that he and rest of his buddies at the Fed have gotten the picture; however, theirs has been an inconsistent record of both communicating properly with the public and delivering a pro-growth, noninflationary monetary policy. I await something other than gab.
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 environments are a negative for Your Money. Admittedly the faltering of Mike Huckabee in
On the other hand, both Democrats and Republicans, including W, are falling all over themselves to give hundreds of millions of dollars away in a knee jerk response to the prospect of a recession. The two proposals I have seen in print are from Hillary and W; and they both come right out of the liberal, ‘let’s throw money at them and worry about the consequences later’ play book. This has to be weighing on the Market.
http://www.thefirstpost.co.uk/index.php?storyID=12181
The Market
Technical
The DJIA (12606) is in a trading range defined by 12523 (the August intra day low) and 14203; the S&P (1401) similarly is in a long term trading range of 750-1527 and a shorter term trading range (roughly comparable to the current DJIA trading range) of 1370-1573.
With Friday’s reversal, stocks once again busted through the November intra day low and returned to a steep short term down trend which if it remains in tact will soon challenge the August intra day low.
Fundamental
The DJIA (12606) finished this week about 5.3% below Fair Value (13316) while the S&P closed (1401) almost 8.6% 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) to pay 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 12606 1401
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:
Charles Schwab Corp is a holding company whose primary subsidiary is Charles Schwab and Co, a retail discount securities broker serving almost 6.7 million investors with approximately $1.2 trillion in assets. The company has earned a 20%+ return on equity over the last several years while growing profits and dividends between 15-20%. SCHW should continue to produce above average returns as (1) a gradually improving economy lifts cash flow from current clients, (2) the company’s aggressive marketing effort increases its customer base, (3) an extensive program builds its asset management business which provides increased cash flow stability and (4) its ongoing restructuring plan yields wider margins. The company is rated A by Value Line, has a capital structure that contains only 7% debt and its stock yields approximately 1%.
http://finance.yahoo.com/q?s=SCHW
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.
