The Closing
Starting next week, I will begin putting the economic reports that come out daily in the Morning Call rather than waiting till the Closing Bell. The primary reason is obvious—timeliness--and probably should have been done earlier. In addition, these statistics are often assumed to be a causal factor for the Market pin action on the day reported and I end up commenting on them anyway. I began doing just that in Wednesday’s Morning Call in order to see how it would work; so because this is a change over week, some of the economic data below will be a bit repetitious. Going forward, the Closing Bell will summarize only the important data for the week and discuss any implications for our forecast that I haven’t already discussed in the Morning Calls.
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-again)
Real Growth in Gross Domestic Product (GDP): -1.0 - +1.05%
Inflation: 2-3%
Growth in Corporate Profits: 0-5%
Current Market Forecast
Dow Jones Industrial Average
2008
Current Trend:
Short Term Downtrend 10279-11634
Medium Term Downtrend 10733-12636
Long Term Trading Range 7100-14203
Year End Fair Value (revised): 13450-13850
2009 Year End Fair Value (revised): 13850-14250
Standard & Poor’s 500
2008
Current Trend:
Medium Term Downtrend 1164-1384
Long Term Trading Range 750-1527
Long term Up Trend 1317-1797
Year End Fair Value (revised): 1533-1577
2009 Year End Fair Value 1595-1635
Percentage Cash in Our Portfolios
Dividend Growth Portfolio 17.1%
High Yield Portfolio 17.0%
Aggressive Growth Portfolio 16.9%
Economics
The economy is a neutral for Your Money. The information we received on the economy this week may have been the most positive in a couple of months. We started out with some housing data--which on their surface were very upbeat though there was troubling undercurrents. Net, net though, there was a glimmer of hope that the housing market could be bottoming (‘glimmer’ being the operative word). But clearly we will need a lot more convincing numbers before making any assumptions that the worst is over. Then we got positive July durable goods orders followed by a better than expected second quarter real gross domestic product (GDP) number. Granted the tax rebate contributed to this upbeat performance, but it was still not a big enough factor to nullify the judgment that the economy did better than many anticipated.
As we all know, by the time the Market had absorbed the encouraging GDP report, investors were getting jiggy with the prospect that the bottom of this economic cycle, however it ultimately gets defined, had passed. And it might well have. Unfortunately, economics is a messy business; witness Friday’s disappointing July personal income and personal spending statistics. These numbers don’t negate the proposition that we are in/through the lows of this current economic cycle; but it does mean that the turn, if indeed that is happening, will probably take more time than the optimists would like to manifest itself.
Of course, if we have seen the worst in economic activity, statistically this will mean that we have avoided a recession. I don’t see this as a problem for my forecast (of a mild recession). I have said several times that whether or not the economy is in or/has gone through a recession, it would likely be a mild one and the macro impact on the economy and, importantly corporate profits, would probably be indistinguishable from just a painful slowdown. On the other major economic issue: if the data keeps getting better, inflationary pressures will assume more importance.
(1) housing statistics were not horrible for the first time in a long time which is not the same thing as saying that they were good: [a] July existing home sales rose 3.1% versus expectations of a 1.2% climb; unfortunately inventories equaled approximately an 11 month supply, a near record high, [b] July new home sales rose 2.4% versus revised June sales; however, because the June number was adjusted down substantially, the actual level of July sales was lower than had been originally anticipated; in addition, inventories remained near record highs, [c] one piece of news that Market participants found encouraging was the June Case-Shiller report on housing prices in major metropolitan areas which declined at the slowest pace since July 2007--any ebullience might be grasping at straws, {Barry Ridholtz’s take: http://bigpicture.typepad.com/comments/2008/08/case-shiller-ju.html } [d] weekly mortgage applications were up .5%, the first increase in three weeks,
(2) consumer data was somewhat negative: [a] July personal income fell .7% versus expectations of a decline of .4%, the largest decrease since the aftermath of Katrina, [b] July personal spending was up .2% {in Friday’s Morning Call, I misreported this as a .4% decrease which was actually the inflation adjusted number} versus estimates of -.2%, [c] the International Council of Shopping Centers reported weekly sales of major retailers up .2% versus the prior week and up 2.3% on a year over year basis; Redbook Research reported month to date retail chain store sales up 1.9% over the comparable period in 2007, [d] weekly jobless claims fell 10,000 versus forecasts of a decline of 12,000, [e] finally the two consumer sentiment indicators were released: the August reading of the Conference Board’s consumer confidence index came in at 56.9 versus estimates of 53.3 and 51.9 recorded in June; and the preliminary August reading of the University of Michigan’s consumer sentiment index came in at 63.0 versus expectations of 62.0 and the final July report of 61.7,
For a little balance to the personal income report, here is a chart depicting year over year change in real disposable income:
http://mjperry.blogspot.com/2008/08/real-disposable-income.html
(3) industrial activity continues to be the bright spot in our economy: [a] July durable goods orders jumped 1.3% versus forecasts of a .5% decline and +.8% recorded in June; strong demand for US manufactured goods and exports reflected continuing strength in the business sector, [b] the August Chicago purchasing managers index {secondary indicator} was reported at 57.9 {anything over 50.0 signifies growth} versus estimates of 50.5 and July’s reading of 50.8,
(4) the macroeconomic numbers showed an economy growing faster than anticipated but inflation above acceptable [by the Fed] levels: [a] revised second quarter real GDP was reported up 3.3% {annualized growth rate} versus expectations of up 2.7% and the preliminary estimate of up 1.9%; first quarter real GDP was revised down from +1.1% to +.9%, [b] accompanying this report was the revised second quarter personal consumption expenditure index {PCE} which showed prices up 4.2% year over year versus the first quarter report of up 3.6%; core PCE rose at a 2.1% annualized rate versus +2.3% recorded in the first quarter,
Here is a not so positive parsing of the GDP number (must read):
http://bigpicture.typepad.com/comments/2008/08/gdp-gross-decep.html
(5) the Fed released the minutes from its August 5th FOMC meeting and they were pretty much as expected: the economy is weak, the credit markets are under severe stress, inflation is a risk. The bottom line: it is doubtful the Fed will do anything by way of tightening credit/money supply until there is visibility that the financial crisis is coming to an end.
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.
Some thoughts on
http://article.nationalreview.com/?q=NzJiNWMzNmJiMzhkNWRiOWEyNmIzMzQxM2QzYzE2YjY=&w=MA==
The Market-Disciplined Investing
Technical
The DJIA (11543) and S&P (1282) are in a clearly defined medium term down trend extending back to October 2007 (upper boundary DJIA 12648, S&P 1383). On a shorter term basis, the DJIA, after having traded above the upper boundary of the short term down trend defined by the May 2008 and August 2008 trading highs, fell back below that resistance level (circa 11573) on Friday. On the other hand, the S&P traded above the upper boundary of the same May--August down trend resistance line but remained above it despite Friday’s poor close. That puts these two indices at odds not only on the May--August trend but also at their visible levels of support--the DJIA support being its July 2008 low close (10809) and the S&P support being its January/March low closes (1269 and 1256 respectively).
Bottom line: given the above, the uncertainties that existed in the technical picture at the end of last week remain. My best thought at the moment is my conclusion in Friday’s Morning Call: ‘(1) in a perfect world given my belief that the July low was the bottom of this Market cycle, I would love to see the DJIA test its last low (11288) and hold before re-commencing putting our cash to work, (2) however, it is not a perfect world and....there are some fundamental reasons that argue for the Market’s continued advance; so as an alternative technical signpost, I am watching the August highs of both Averages (circa DJIA 11886 and S&P 1308) to see if investors are willing to push stock values above those levels.’
Fundamental-A Dividend Growth Investment Strategy
The DJIA (11543) finished this week about 14.6% below Fair Value (13516) while the S&P closed (1282) around 17.5% undervalued (1555). By these numbers, stocks are clearly relatively inexpensive. And following the best week for economic data in some time (see above), if the optimists’ conclusion--that the economy has seen its worst days in this business cycle--proves correct, stocks may be even more undervalued than as computed by our Model. That said, there are still too many unknowns remaining in the financial sector. Plus Friday’s personal income and spending numbers remind us that a bet on an improving economy is still a risky one.
Bottom line: Our Portfolios are holding to their cash positions, doing nothing and awaiting clarity in both the technical and fundamental factors impacting stock prices.
On a slightly longer term basis, our investment strategy remains:
(a) defense is still important--protect profits and avoid losses,
(b) watch Market technicals for confirmation that a bottom has been made,
(c) on a longer term basis, recognize that there remain 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 13650 1570
Fair Value as of 8/31//08 13516 1555
Close this week 11543 1282
Over Valuation vs.8/31 Close
5% overvalued 14192 1632
10% overvalued 14868 1710
Under Valuation vs. 8/31 Close
5% undervalued 12840 1477
10%undervalued 12164 1400
15%undervalued 11488 1322
20%undervalued 10813 1244
The Portfolios and Buy Lists are up to date.
Company Highlight:
AT&T is one of the world’s largest telecommunications companies. The company has grown profits and dividends at a 5% pace over the past ten years earning approximately 15% return on equity. T has been through a rough period as the growth of its traditional wireline business slowed and margins came under pressure. Looking forward profits should regain momentum as a result of:
(1) expansion of its wireless business as well as its Internet Protocol based services to large business customers,
(2) an aggressive cost cutting program as well as the operating efficiencies coming from the integration of the Bell South and old ATT acquisitions.
T is rated A+ by Value Line, carries a 28% debt to equity ratio and its stock yields 4.7%.
http://finance.yahoo.com/q?s=T
Make money by accessing all our Portfolios, the supporting research and Price Disciplines at www.strategic-stock-investments.com. Our work is focused on making money for our Portfolios not as some academic exercise in Internet investing. Check our performance (audited)--our Dividend Growth Portfolio has beaten the S&P 500 basis points per year for the last seven years but with a beta of only .62. (Mandatory Disclaimer: past performance is not a guarantee of future results.) We give you everything you need to duplicate our results, in particular, a strict price discipline for both Buying and Selling.
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.
