The Closing Bell
10/25/08
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 - +1.0%
Inflation: 2-3%
Growth in Corporate Profits: 0-5%
Current Market Forecast
Dow Jones Industrial Average
2008
Current Trend:
Short Term Trading Range 7853--?
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:
Short Term Trading Range 839--?
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 24%
High Yield Portfolio 21%
Aggressive Growth Portfolio 24%
Economics
The economy is a neutral for Your Money. There wasn’t enough data reported this week to alter anyone’s opinion of economy or its direction. We did get some positive news in housing--although weekly mortgage applications were down, existing home sales in September were up a solid 5.5% versus expectations of being unchanged. Inventories were down which is good, as were home prices. The latter may not sound all that great but it is a brutal necessity in healing the housing market. Another bright spot was the leading economic indicators which were up .3% in September. The bad news: retail sales were down and jobless claims were up.
A review of the existing home sales data:
http://calculatedrisk.blogspot.com/2008/10/existing-home-sales-nsa.html
http://calculatedrisk.blogspot.com/2008/10/existing-home-sales-increase-in.html
While we still haven’t reached the point where the economy can be statistically defined as in recession, it seems clear from the weekly figures that we have been receiving that likely a matter of when not if the recession begins. While I have built in the possibility of an economic downturn into our forecast, perhaps the more important issue is the magnitude of any decline; and given that 2008 is almost over, that measure will show up in the 2009 numbers. To be honest, I can’t get a grip on a 2009 forecast because I am still not sure whether it is poor investor psychology that is having an undue negative influence on professional observers’ forecasts or the strong likelihood of a severe recession that is making investors so pessimistic. This week’s lack of data gives me another chance to procrastinate.
For the moment, our forecast remains (1) a stagnant economy--conceding that conditions may require a more pessimistic assessment (2) with inflation subsiding as a near term problem though the recent massive injection of liquidity into the financial system poses a major risk of future price pressures.
Inflation and real yields:
http://www.capitalspectator.com/archives/2008/10/inflation_worri.html
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 US economic growth.).
(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.
Recent comments from Iran:
http://www.haaretz.com/hasen/spages/1030279.html
The Market-Disciplined Investing
Technical
Despite more violent volatility and the inability of the indices to hold the very tentative support lent by the October 10 to present short term up trend, both indices (DJIA 8378; S&P 876) still closed in what I am still hypothesizing is a new trading range (DJIA 7853--9707; S&P 839--1062). The big question remains, will those October 10 intraday lows prove to be the bottom? I was wrong about the July lows; the risk is that I am wrong again.
Fundamental-A Dividend Growth Investment Strategy
The DJIA (8378) finished this week about 38.3% below Fair Value (13583) while the S&P closed (876) around 43.5% undervalued (1550).
Last week I concluded:
‘Bottom line: I believe that the problems of the supply/demand imbalance in equities created by margin calls and/or redemptions and the fear and loathing spawned by the complete freeze up in the global financial system are past their peak. However, the repercussions of both will likely be felt in the pace of economic activity; we just don’t know the extent. As a result, stock prices will probably remain quite volatile and trendless until we gain some visibility as to the magnitude and length of any downturn.’
Less fear and loathing over a freeze up of the financial system--Si. And the process continued this week, the rampant pessimism notwithstanding.
Fewer problems with margin calls and redemptions--No. Much of the damage done this week was simply more of the indiscriminate forced selling resulting from margin calls and redemptions that we witnessed before. In the end, that trumps everything including fundamentals. Our Valuation Model and everyone else’s are and will continue to be almost meaningless in this environment. Having said that, I do think that Friday’s pin action held a small (this being the operative word) kernel of hope: as you know, stock futures were lock limit down going into the Market opening, but stocks while opening down didn’t dip nearly as far as the futures had implied. That does suggest that the supply/demand balance between buyers and sellers shifted somewhat, at least for that day, i.e. sellers didn’t totally overwhelm buyers.
That notwithstanding, it does seem as though stocks are going to test their October 10 lows (DJIA 7853, S&P 839) and perhaps soon. When that happens, as gut wrenching as it will be, our Portfolios will be Buying stock. At Market extremes, I just don’t think that we should do nothing. Indeed, as stocks traded from the upper end my hypothesized trading range to the lower end, our Portfolios sold shares of some of their stocks that had traded below their October 10 low and they bought shares of some of the stocks that appeared to be building a support level. Granted all of these transactions were small; but they hopefully accomplished our goals of gradually adding stability of principal and positioning our Portfolios for the move up whenever that comes.
As long as stock prices in general hold their October lows that will continue to be our strategy.
Our investment strategy includes:
(a) manage our cash assets between 15% and 25%; but remain aware that defense is still critically important and will be become more so if I am wrong about the October 10 lows,
(b) use price weakness as an opportunity to buy the stocks of attractive companies at attractive prices; use price strength to take profits when a stock’s price moves into its Sell Half Range or to move out of those stocks that traded below October 10 lows and can not recover,
(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 1555
Fair Value as of 10/31//08 13583 1550
Close this week 8376 876
Over Valuation vs. 10/31 Close
5% overvalued 14262 1628
10% overvalued 14941 1705
Under Valuation vs. 10/31 Close
5% undervalued 12903 1473
10%undervalued 12224 1395
15%undervalued 11545 1318
20%undervalued 10866 1240
25% undervalued 10187 1162
30% undervalued 9508 1085
35% undervalued 8829 1007
40% undervalued 8150 930
45% undervalued 7471 852
* Just a reminder that the Year End Fair Value number is based on the long term secular growth of the earning power of productive capacity of the US economy not the near term the cyclical influences. The model is now accounting for somewhat below average secular growth for the next 3 to 5 years with somewhat higher inflation.
The Portfolios and Buy Lists are up to date.
Company Highlight:
Sigma-Aldrich Corp develops, manufactures and distributes a wide assortment (130,000 products) of biochemicals, chromatography products and diagnostic reagents in over 150 countries. The company has grown earnings and dividends at a 15%+ annual rate over the last 10 years while earning approximately 20% on its capital. SIAL should be able to continue this performance because:
(1) its business is immune from economic slowdown,
(2) its program to procure raw materials and services more efficiently and better manage inventories,
(3) the acquisition of faster growing add on companies in the rapidly growing pharmaceutical and biotech industries,
(4) its ability to raise prices with little risk of the loss of business.
SIAL is rated A by Value Line, has only an 11% debt to equity ratio and its stock yields 1%.
http://finance.yahoo.com/q?s=SIAL
10/08
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.
Saturday, October 25, 2008
Friday, October 24, 2008
10/24/08
Economics
This Week’s Data
Weekly jobless claims rose 15,000 versus expectations of a 1,000 decline.
Other
More on the current tax structure--this from the congressional budget office:
http://www.american.com/archive/2008/october-10-08/america-has-a-highly-progressive-tax-system
A historical look at recession longevity:
http://bespokeinvest.typepad.com/bespoke/2008/10/us-economic-recessions-1900---2008.html
Politics
Domestic
More on ACORN:
http://www.cnn.com/2008/POLITICS/10/22/voter.fraud/index.html
International War Against Radical Islam
The Market
Technical/ Fundamental
On the surface, yesterday’s pin action was great. But this morning the futures are telling us that my speculation about the technical trading pattern of the Averages meant little and my speculation that much of the forced selling had been done was wishful thinking. Indeed, the futures are suggesting that we are in for an ugly, ugly day. At the moment, futures are limit down. This means that stocks are likely, at a minimum, to test October 10 lows and quite possibly set a new low. While there is lot of noise about the credit crisis and the global recession as causes for the sell off, the traders I talk to say it simply more forced liquidation; and until that is over fundamentals don’t matter. The disarray is so widespread that selling makes no sense at this point. If we are lucky, prices will hold the DJIA 7853, S&P 839 intraday lows. This is going to be another gut wrenching day but remember (1) our Portfolios have a solid cash position, (2) they own good quality companies with sound balance sheets, (3) after the dust settles, we will likely look back and marvel at the low valuation of stocks today; I don’t know when the forced selling will be over, but unless the end of the world is nigh stocks are likely already discounting the worst.
A look at how circuit breakers on trading work:
http://bigpicture.typepad.com/comments/2008/10/futures-look-ou.html
Some trading advice for a grim day:
http://traderfeed.blogspot.com/2008/10/five-trading-behaviors-im-seeing-among.html
An up dated chart of the volatility index:
http://econompicdata.blogspot.com/2008/10/vix-spikes-again.html
News on Stocks in Our Portfolios
Altria (High Yield Portfolio) reported third quarter operating earnings per share of $.46 versus expectations of $.44 and $.40 recorded in the comparable 2007 quarter.
And some mildly positive comments:
http://www.thestreet.com/p/_htmlrmd/rmoney/retail/10443971.html
Dow Chemical (High Yield Portfolio) reported third quarter operating earnings per share of $.60 versus estimates of $.57 and $.84 reported in the third quarter of 2007.
Alcon (Aggressive Growth Portfolio) reported third quarter operating earnings per share of $1.26 versus expectations of $1.57 and $1.36 recorded in last year’s third quarter. The company attributed much of the earnings shortfall to currency related problems. Unfortunately, the stock opened down 30+% with no opportunity to Sell. My inclination is to add to this holding; but I want to be sure where the bottom is before doing so. I will let you know via Subscriber Alert when the Aggressive Growth Portfolio takes any action. The good news in this tale is that our Sell Half Discipline pushed our Portfolio out of almost 2/3 of its original position when the stock traded at new highs in the past.
Microsoft (Aggressive Growth Portfolio) reported its first fiscal quarter earnings per share of $.48 versus expectations of $.47 and $.45 reported in the comparable 2008 fiscal quarter.
More Cash in Investors’ Hands
Thursday, October 23, 2008
10/23/08
Economics
This Week’s Data
Weekly mortgage applications fell 11%.
Other
Paying the price for protectionism:
http://www.ibdeditorials.com/IBDArticles.aspx?id=309394436809825
A brief look at the role of the rating agencies in the credit crisis:
http://bigpicture.typepad.com/comments/2008/10/ratings-agencie.html
The argument for why we have been in a recession for months:
http://bigpicture.typepad.com/comments/2008/10/happy-birthday.html
Some data suggest that the credit crunch isn’t as bad as is being portrayed:
http://mjperry.blogspot.com/2008/10/what-credit-crisis.html
Politics
Obama and McCain on taxes:
http://www.realclearmarkets.com/articles/2008/10/tax_credits_arent_path_to_econ.html
Democrats and Fannie Mae:
http://online.wsj.com/article/john_fund_on_the_trail.html
Domestic
The NY Times on ACORN:
International War Against Radical Islam
The Market
Technical
The magnitude of this decline in perspective:
http://bespokeinvest.typepad.com/bespoke/2008/10/the-worst-year-ever-sp-500s-worst-declines.html
**********************************************
It didn’t take long for the indices (DJIA 8519, S&P 896) to test that very short term uptrend off their October 10 low which I mentioned in yesterday’s Morning Call; but even though intraday they traded through that resistance point (DJIA 8438, S&P 887), they nonetheless closed above it. So the question is, will stock prices bounce from here or are we in for a test of the October 10 low? The volatility index (VIX 69) was at a level that would suggest a rebound; in addition, volume picked up which is mildly positive. (At
Here is a chart depicting the S&P price pattern:
http://bespokeinvest.typepad.com/bespoke/2008/10/sp-500-which-way-will-it-break.html
On the other hand, in yesterday’s comments I noted that at the close Tuesday there were an unsettling number of stocks in our Portfolios that were very close to their October 10 to present uptrend as opposed to the Averages which were 7-8% above them. At yesterday’s close while the DJIA and S&P held above their October 10 to present uptrend, those same stocks blew through their October 10 to present uptrend lines and are now near, at or below their October 10 intraday low.
There are at least two possible explanations for the pattern of this latest sell off:
(1) stocks in general are leading the Averages down; and if not today, then soon, will witness a violation of multiple support levels as stocks sink to new lows [think 2002: DJIA 7146, S&P 766],
(2) all stocks don’t make their lows simultaneously; the Averages made theirs on October 10, but some stocks are only now making their lows.
Overriding all of the above are stories swirling around the Street concerning the resumption of hedge fund liquidations, which if true could nullify any technical or fundamental arguments concerning the near term direction of stock prices.
Taking all these factors in to consideration, I am willing to risk the cash that our Portfolios took out of the Market at higher prices over the last two days by Buying stocks at the open this Morning. To be sure that this is all kept in perspective, that means going from roughly 22% in cash to 20.5% in cash--not an enormous bet. However, since stock prices seem to be at an inflection point, other action may be taken during the day. If so, I will notify you via a Subscriber Alert.
Fundamental
Subscriber Alert
Accordingly, small additions will be made to the following holdings at the Market open:
Dividend Growth Portfolio: Wells Fargo & C0 (WFC), 3M (MMM), Coca Cola (KO) and Home Depot (HD).
High Yield Portfolio: Reynolds American (RAI), BP (BP), Zenith National Insurance (ZNT) and
Aggressive Growth Portfolio: Balchem (BCPC),
Here is some pretty positive commentary from Dougy Kass, who has been negative for most of the year. His key point: a sure sign of a bottom is increasing stock prices in the midst of declining earnings reports. We aren’t there yet; but that something for which I’m watching.
http://www.thestreet.com/story/10443244/1/kass-buy-it-like-buffett.html?puc=_htmlttt
The High Yield Buy List
Company Close 10/6
Pacer In’tl $10.94 $11-13
Pfizer 16.74 17-20
Plains
Reynolds American 48.16 45-52
Sanofi Aventis 28.46 26-30
Zenith Nat’l Ins 30.80 32-37
News on Stocks in Our Portfolios
Positive comments on Becton Dickinson (Aggressive Growth Portfolio):
http://www.zacks.com/blog/post_detail.html?t=15405
Positive comments on Abbott Lab (Dividend Growth Portfolio):
http://www.zacks.com/rank/zcommentary/?id=8947
ATT (High Yield Portfolio) reported third quarter operating earnings per share of $.67 versus estimates of $.71 and $.55 recorded in the comparable 2007 quarter. http://www.thestreet.com/story/10443751/1/atts-net-falls-short-update.html?puc=_txtmdb
McDonald’s (Dividend Growth Portfolio) reported third quarter earnings per share of $1.05 versus forecasts of $.98 and $.88 reported in its 2007 third quarter.
And some positive comments:
Boeing (Dividend Growth Portfolio) reported third quarter earnings per share of $.96 versus expectations of $.98 and $1.11 recorded in the prior year’s third quarter.
http://www.thestreet.com/story/10443686/1/boeing-earnings-slide-amid-strike.html
And some negative comments:
http://www.thestreet.com/p/_htmlrmd/rmoney/industrials/10443804.html
Phillip Morris Int’l (Dividend Growth Portfolio) reported third quarter earnings per share of $1.01 versus estimates of $.90 and $.82 reported in the comparable 2007 quarter.
More Cash in Investors’ Hands
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