A brief note on MCD. Two weekends ago I did a post titled Chubb and McDonald's Suggest Leadership for Next Bull Move in Stocks two companies as among a group of strong multinationals that could lead the way in a new bull market, or a bull move in what I believe to be at best a chronic stagnant stock market. Both stocks have moved up both through the August downturn and again in the up-move after the late August bottom, and are now moderately extended versus each stock's own moving averages. Thus they are at least in a mini-way momentum stocks. In that context, I did not like the headline today about MCD found on Yahoo!'s Finance section:
Analysts: high hopes for McDonald's sales figure
Analysts: McDonald's sales figure to rise faster than industry
THE OPINION: UBS analyst David Palmer expects August revenue at McDonald's restaurants open at least a year to rise higher than the 4.5 percent analysts expect on average. Industrywide, the figure rose 1.5 percent to 2 percent last month, he told clients in a note Wednesday.
Having earlier in the day sold covered calls on some of my MCD shares, I sold the rest outright on that headline given the recent superior outperformance of the stock, general distaste for the stock market overall, and the premium valuation of MCD vs. other high quality stocks. (I also sold some MCD yesterday to buy Chubb on CB's price weakness.) Bullish headlines "reporting" bullish opinions before the fact smack of takedowns unless the news is outstanding. True long-term investors can ignore this sort of stuff. Let's see what happens tomorrow.
Of course, none of this commentary is other than commentary and is not investment advice of any sort.
Copyright (C) Long Lake LLC 2010
Showing posts with label Chubb. Show all posts
Showing posts with label Chubb. Show all posts
Wednesday, September 8, 2010
Saturday, August 28, 2010
Chubb and McDonald's Suggest Leadership for Next Bull Move in Stocks
On a week in which both gold and silver had strong price move, one might think that stock leadership might come from miners. Not so. While intermediate to long term Treasuries continued their price surge (lower yields) the first four trading days of the week, one of the only two Dow 30 stocks to rise in price during 2008 set yet another all-time price high today. That is McDonald's. It is the only Dow 30 stock to have hit an all-time high since the bear market officially began early in 2008. If one believes as I do that central banks and governments will pull out all the anti-deflation stops and err in policy to be soft on inflation, just as the Bank of England is currently doing (0.5% policy rate with 3+% inflation rates) and Ben Bernanke did in 2006-8 (and I believe is doing again), then one wants exposure to nominal growth as well as organic growth.
Well, Mickey D can benefit from price decreases and it is gaining market share globally. Business is good for MCD.
While I have not done a formal statistical analysis, I have been watching MCD for well over a year in relation to the 10-year Treasury yield. The two have tended to track each other. Thus when stocks were rally sharply in 2009 and Treasury yields were surging upwards, MCD dropped or at best stagnated in price when the whole market was rallying. So here are my thoughts on this stock at its current price around the all-time high set yesterday of $74.
Dividends are expected to be $2.45/share in 2011. (The board may announce a dividend increase soon.) At today's price, that would give shareholders about a 3.3% yield. The 10-year is around 2.60. Let us say that the 10-year yield backs up to 3.0% on average for all of 2011. If MCD trades at a yield equal to the 10 year as has been the case a number of times in 2009 and 2010, that would allow about a 9% price appreciation in addition to the dividend. If at any time in 2011 MCD trades at a 2.6% yield, one is looking at about a 30% total return.
What is the downside?
Of course, it is unlimited. But on a 15-year basis, I think it is reasonable to expect that MCD raises its dividend at least 5% annually. This would mean a doubling of dividends from 3% to a terminal dividend of 6% if the stock price is unchanged. Let us say that the average dividend yield would then be 4.5% at year 7/8 of this 15-year horizon. One can go out 7 years on the Treasury yield curve and get 2% back on one's money yearly.
Between the two choices, I'll take McDonald's for long-term capital I can afford to lose. And given operational trends and price increases that are galloping along in fast-growing countries such as Brazil, where MCD is doing very well; India; and China. McDonald's is financially flexible in a way Uncle Sam isn't, having just received some accolades for a yuan-denominated bond issue.
Now, I am not a professional stock analyst. I haven't eaten at a McDonald's in decades. I tried their espresso drinks last year and hated them (as did two other people who taste-tested them with me). I'm a vegetarian cardiologist who thinks America would have been better off from a public health standpoint without than with McDonald's. But I also think America would be better off without trillion-plus dollar federal deficits or Americans and "allies" chasing Afghans around their own country. But I have to live in the real world, and at least MCD has added some sops to health, and the head of McDonald's India is also a vegetarian.
But I have digressed. I am going with technical chart strength, strong operational results, steady dividend growth, global presence, and the like. If the 10-year returns to 4%, I expect MCD stock price to drop, but that would likely be in association with price increases/economic growth, so faster dividend growth and stronger earnings may await.
If you doubt that it is a market of stocks vs. a stock market, look at the charts of MCD vs. JPM (strong bank) and BAC or C (weak banks). Rising earnings/rising dividends and all-time high stock prices for MCD. Sliced dividends and variable earnings of uncertain quality for the financials = failing stock charts.
However, not all financials are created equal. The boring insurer Chubb (CB) also set a 12-month high yesterday. Its stock chart over the past 2 years is gently upsloping. It retires substantial amounts of stock, sells only slightly above tangible book value (which may be understated due to the bull market in its assets, which are almost entirely bonds), raises the dividend regularly, and has rising earnings estimates, and has stellar financial strength ratings from S&P. The stock is near its May 2007 high (I ignore the bizarre up-move into the $60s during the meltdown in fall 2008 as it might have been due to takeover speculation) and the various moving averages show that it is picking up strength on an accelerated basis.
Thus, even someone such as myself who believes that the general stock market remains overpriced, I am able to find specific boring companies such as the two listed above that meet my criteria for sleep-well-at-night on price declines plus reasonable valuation, strong chart action, no hype by the Street, and rising dividends.
If things break properly, these two stocks could provide 10% total returns year after year even if the general stock averages fail to keep up with consumer price increases (0r less likely decreases).
Lest one think I am bubbling over with enthusiasm for these assets, there is a more mature and safer asset that has no operational issues, cannot disappoint the Street with insufficient earnings gains or a smaller-than-expected dividend increase, and that remains out-of-favor with the mainstream media yet has a picture-perfect bull market chart that looks like a bull market that just might turn into a bubble that could expand for a while before it bursts. That asset is gold. Its compound annual return over long periods of time proves that compared to other financial assets, it is in no bubble. It remains my favorite asset on risk-reward considerations, but it is good to see that as discussed above, stock buyers are quietly rewarding well-run diverse companies.
If only the authorities in Washington were paying heed.
Copyright (C) Long Lake LLC 2010
Well, Mickey D can benefit from price decreases and it is gaining market share globally. Business is good for MCD.
While I have not done a formal statistical analysis, I have been watching MCD for well over a year in relation to the 10-year Treasury yield. The two have tended to track each other. Thus when stocks were rally sharply in 2009 and Treasury yields were surging upwards, MCD dropped or at best stagnated in price when the whole market was rallying. So here are my thoughts on this stock at its current price around the all-time high set yesterday of $74.
Dividends are expected to be $2.45/share in 2011. (The board may announce a dividend increase soon.) At today's price, that would give shareholders about a 3.3% yield. The 10-year is around 2.60. Let us say that the 10-year yield backs up to 3.0% on average for all of 2011. If MCD trades at a yield equal to the 10 year as has been the case a number of times in 2009 and 2010, that would allow about a 9% price appreciation in addition to the dividend. If at any time in 2011 MCD trades at a 2.6% yield, one is looking at about a 30% total return.
What is the downside?
Of course, it is unlimited. But on a 15-year basis, I think it is reasonable to expect that MCD raises its dividend at least 5% annually. This would mean a doubling of dividends from 3% to a terminal dividend of 6% if the stock price is unchanged. Let us say that the average dividend yield would then be 4.5% at year 7/8 of this 15-year horizon. One can go out 7 years on the Treasury yield curve and get 2% back on one's money yearly.
Between the two choices, I'll take McDonald's for long-term capital I can afford to lose. And given operational trends and price increases that are galloping along in fast-growing countries such as Brazil, where MCD is doing very well; India; and China. McDonald's is financially flexible in a way Uncle Sam isn't, having just received some accolades for a yuan-denominated bond issue.
Now, I am not a professional stock analyst. I haven't eaten at a McDonald's in decades. I tried their espresso drinks last year and hated them (as did two other people who taste-tested them with me). I'm a vegetarian cardiologist who thinks America would have been better off from a public health standpoint without than with McDonald's. But I also think America would be better off without trillion-plus dollar federal deficits or Americans and "allies" chasing Afghans around their own country. But I have to live in the real world, and at least MCD has added some sops to health, and the head of McDonald's India is also a vegetarian.
But I have digressed. I am going with technical chart strength, strong operational results, steady dividend growth, global presence, and the like. If the 10-year returns to 4%, I expect MCD stock price to drop, but that would likely be in association with price increases/economic growth, so faster dividend growth and stronger earnings may await.
If you doubt that it is a market of stocks vs. a stock market, look at the charts of MCD vs. JPM (strong bank) and BAC or C (weak banks). Rising earnings/rising dividends and all-time high stock prices for MCD. Sliced dividends and variable earnings of uncertain quality for the financials = failing stock charts.
However, not all financials are created equal. The boring insurer Chubb (CB) also set a 12-month high yesterday. Its stock chart over the past 2 years is gently upsloping. It retires substantial amounts of stock, sells only slightly above tangible book value (which may be understated due to the bull market in its assets, which are almost entirely bonds), raises the dividend regularly, and has rising earnings estimates, and has stellar financial strength ratings from S&P. The stock is near its May 2007 high (I ignore the bizarre up-move into the $60s during the meltdown in fall 2008 as it might have been due to takeover speculation) and the various moving averages show that it is picking up strength on an accelerated basis.
Thus, even someone such as myself who believes that the general stock market remains overpriced, I am able to find specific boring companies such as the two listed above that meet my criteria for sleep-well-at-night on price declines plus reasonable valuation, strong chart action, no hype by the Street, and rising dividends.
If things break properly, these two stocks could provide 10% total returns year after year even if the general stock averages fail to keep up with consumer price increases (0r less likely decreases).
Lest one think I am bubbling over with enthusiasm for these assets, there is a more mature and safer asset that has no operational issues, cannot disappoint the Street with insufficient earnings gains or a smaller-than-expected dividend increase, and that remains out-of-favor with the mainstream media yet has a picture-perfect bull market chart that looks like a bull market that just might turn into a bubble that could expand for a while before it bursts. That asset is gold. Its compound annual return over long periods of time proves that compared to other financial assets, it is in no bubble. It remains my favorite asset on risk-reward considerations, but it is good to see that as discussed above, stock buyers are quietly rewarding well-run diverse companies.
If only the authorities in Washington were paying heed.
Copyright (C) Long Lake LLC 2010
Sunday, August 22, 2010
Weekend Update: More Stocks Finally Looking Less Bad than the Alternatives
The public continues to be in a sour mood, and continues not to engage in many elective purchases, as shown by Gallup's ongoing polling, which shows that one measure of discretionary spending by consumers remains stuck in the $65 per day range, roughly where it has been since the mild recession of 2008 turned into the nightmare of the Great/Global Financial Crisis. This level was in the $100-125 range well into 2008 per Gallup data no longer shown on the chart, if memory serves. This is a simply amazing drop. To think that this is not a form of a very great recession requires, in my opinion, one to think again.
Governmental retail sales data suggest to me that from peak in 2008 to trough in 2009, per capita inflation-adjusted spending dropped at least 15%, given that nominal sales dropped about 12.3% (Jan. 2008 through Mar. 2009).
Since then, conventional macroeconomists have simply gotten it wrong. The best advice that President Obama obtained early in 2009 indicated that at most unemployment rates would peak at 8%. Wall Street economists concurred. The stock market began anticipating a strong and sustained economic recovery, but personal income absent governmental transfer payments have yet to reach their peak. If it were not for all the millions of unanticipated dropouts from the labor force, the measured unemployment rate would be well over 10%.
Recently (finally), mainstream economists have been substantially lowering their estimates for 2010 and often for 2011 economic performance.
Are the markets are finally discounting, or over-discounting, the economic weakness that many of the Austrian persuasion (and others, such as Nouriel Roubini) have been foreseeing? Now that there is a growing understanding that the paradox of shifting a credit boom/bubble from private to governmental ownership does not induce more profitable economic activities, is there so much gloom that it's time to tack toward a form of optimism as exemplified by buying certain common stocks?
My sense is that there is still more economic pain to go but that the answer to the above question is a "Yes, but" type of answer. For guidance I refer readers to the paper by Reinhard and Rogoff (go to http://www.google.com/search?q=rogoff+reinhart&sourceid=ie7&rls=com.microsoft:en-us:IE-SearchBox&ie=&oe=&rlz=1I7ADRA_en and then click on the first link, to "This Time Is Different"), or read the book of the same name. I also refer readers to a variety of the books on the reading list of Econophile that present an array of viewpoints and historical narratives often from the standpoint of Austrian economics.
Since securities such as stocks and bonds of at least intermediate duration, or assets such as precious metals, are long-term, investors are forced to read tea leaves and look beyond the financial storms that are so common during hurricane season in Florida.
Now that the interest rate structure has come down drastically in a short time, while at the same time the S&P 500 has dropped about 9% since interest rates peaked April 5, common stocks are far more competitive against fixed income than they were this past spring.
While many valuation measures show stocks to be overvalued, that measure assumes a desired positive rate of return, such as 7-9% annually. If, however, one is willing to invest in stocks at a 5 +/- 2% (i.e. 3-7%) annual rate, I suspect that the formulas that indicate overvaluation would no longer do so.
Further, Jeremy Grantham of GMO LLC is out with his famous 7 year predictions as of July 31, suggesting that the best asset class 7 years from now will prove to be high quality U. S. stocks (he does not define high quality, and does not equate that with large cap). He has been pretty darn accurate to date with these predictions to date, so far as I know. He does not like non-high quality small cap U. S. stocks. He gives a 6.1% return from the class of high-quality stocks in real terms, which would be about 9% per year if prices rise 3% annually.
Supporting the idea that a stock market which currently is trading with a high degree of correlation between all stocks can have an identifiable subset with superior risk-adjusted prospective returns is the lfact that when the general stock market was at its most overvalued ever, in 2000, it surprises most people to look at numerous types of stocks and find that they peaked in 1997-8 and bottomed in March 2000 just when the NASDAQ peaked. Think of everybody rushing to the left side of a boat, then some rushing to the right side.
Many of the stocks that bottomed in 2000 made things, as opposed to techs that made vaporware or proposed to be the fifth online pet supplies company, or the recent enthusiasm for financials that made bad loans or bad investments but produced little or nothing or real value. This list of relatively undervalued stocks as of 2000 includes homebuilders and numerous industrial companies. In fact, the Russell 2000 Index, which includes stocks with market cap between 1001-3000 and is thus a proxy for small cap stocks, hit a record early in 2004 when the general averages were far behind their 2000 peak. Thus there is precedent for a large class of stocks to outperform their index.
For stocks, my working hypothesis has been that the process of creative destruction/boom-bust cycles within industries remains in play as follows.
After the energy boom and overvaluation of energy and gold stocks (and gold and oil themselves) in 1980, cheap energy fueled growth for over two decades until oil started a huge price rise about a decade ago. After tech stocks went wild in the late 1990s, the stocks were just as bad buys as oil drillers were in 1980, but the technology revolution fueled growth and efficiency and continues to do so. Tech is the major force in the economy fueling lower prices in a virtuous cycle, as opposed to lower prices simply resulting from oversupply due to malinvestment during the recent boom.
The latest fad was obviously for financials. It is said that about 40% of corporate profits at the bubble peak in 2007 were from financial activities. Of course, these were in many (most?) cases "profits" rather than real, economic profits. Thus the bust.
The analogy I am drawing is that the bust in the financials has the potential to fuel growth, but that the financials and their relatives such as housing- and finance-related businesses are likely to prove as disappointing investments on a multi-year basis as techs and energy stocks were following their busts and rebounds. Trading: OK. Buy and hold; I don't think so.
The special problem now, though, is how inextricably linked with all other financial assets the financial companies are and with the State itself. Thus, teleologically, the historical record per Rogoff and Reinhart of an average of perhaps 6 years post-credit collapse for matters to right themselves. They observed that stock markets bounced back well ahead of the economy as central banks flooded the markets with cash. Thus a bust in the price of energy was viewed as good for most of the country, but a bust in financial intermediaries plays havoc with a macroeconomic world-view in which borrowing and lending, rather than accumulation of true equity, provides a crucial key to growth.
So I believe that industries with real futures, meeting real needs of real people and other real businesses globally, and that are in fields that are as far from leveraged finance as possible, should (broad brush picture here) be optimally positioned to survive and, probably grow, and could be as good investments for years to come as depressed consumer stocks were in 1981 (pre-great recession of 1981-2). At a time of constrained credit, being self-financing is a marvelous situation. As an example, Intel recently announced a deal to buy McAfee (MFE) at about 15X earnings. Zeroing out MFE's cash, that's about a 7% earnings yield; Intel is paying with cash yielding nothing. The Street booed the acquisition. Whether it's a good one or not, just think what price Intel was paying for acquisitions or what Intel's investment portfolio was receiving for IPOs a decade ago.
This buy or potential buy "list" (I have no formal list) could include energy producers and high tech companies, but it really could include almost any company. Said companies would in general be of very high quality, a la Grantham's analysis, and thus would be financially stronger than the banking system itself. If a company were a strong enough multinational, it might be stronger than almost all sovereigns financially as well as somewhat independent of any one sovereign, as well.
So my personal investing strategy is as follows. I am heavily allocated to muni bonds and short-duration Ginnie Maes (yielding as much as long-term Treasuries when bought correctly), as well as to cash. I have sold all my intermediate to long Treasuries which I bought so recently, following the amazing plunge in rates this month. I went to about a zero stock allocation at Dow 13000 in summer 2007 and except for a few months in late 2009 ending in early May this year, have hardly been in stocks at all.
While noting that the chart on all sorts of stocks stinks, the same would have been said for Treasuries at all optimal buy opportunities during this almost 30 year bull market in bonds. Seasonality and the down-pointing charts, and the rise of statism in the economy, make the future of the economy and the public's prospective mood for stocks unusually uncertain and even scary. Nonetheless, in a time of very poor investment choices, as an investor seeking both current income and long-term capital appreciation that at least stays even with inflation, I have started in with a program of purchasing stocks that yield around or over 3% and that often have P/E's in the 10 range. My thinking is that some time within the next 7 years, these companies will at the least probably not cut their dividends and will probably raise them (examples such as BP notwithstanding), and at some point their stock prices will exceed their current prices; thus their total return potential adjusted for risk probably exceeds that of the 7 year Treasury note, currently at 2.05%. Such names include Chubb (CB), McDonald's (MCD)--both of which have strong charts; and Intel (INTC) and ExxonMobil (both of which have weak charts) and/or other oils.
I am avoiding yet higher-yielding pharmaceuticals because so much of their income comes directly and indirectly from governments, which are tapped out and will have to cut somewhere, and because their profit margins are ultra-high as a direct result. But I'm watching them carefully for signs of technical strength and improvement in their R&D productivity.
Barring major financial/economic events such as led up to the collapse in stock prices from 2007-August 2008 (i.e., pre-stock market collapse), in my humble opinion the highest-quality common stocks are finally beginning to merit a significant place in a diversified portfolio with a multi-year horizon and are finally competitive with munis for taxable accounts. I write this, though, with a distinct lack of enthusiasm given the fact that in Japan, there has hardly ever been a good time to go long stocks other than for a trade since the 1980s, and the U. S. is continuing to look Japanese. Nonetheless, analogies are imperfect, America is not Japan, etc. Most importantly, I have signed on to the stagflation rather than price deflation scenario.
Meanwhile, I do not think that stocks are safe and I believe that the rent money should not be entrusted to the stock market. I also continue to believe that gold is the single best investment for funds that will not be needed any time soon, given the apparent commitment of the ancien regime (aka the authorities) to more money printing and other financial maneuvers to "save" us rather than directly face up to the many historical and ongoing malinvestments that plague the U. S. economy. But an all-gold (or all precious metals) portfolio would be quite something else again!
Last but not least, and with the caveat that I know nothing about tech, AAPL appears to be a classic GARP (growth at a reasonable price) special situation stock with a company that is a financial and market share juggernaut. AAPL is very risky, though, and may or may not ever return cash to shareholders.
I am not an investment adviser and am proffering no investment advice in this and my other web posts. No obligation exists to disclose any changes in specific or general views discussed herein or by me elsewhere.
Copyright (C) Long Lake LLC 2010
Governmental retail sales data suggest to me that from peak in 2008 to trough in 2009, per capita inflation-adjusted spending dropped at least 15%, given that nominal sales dropped about 12.3% (Jan. 2008 through Mar. 2009).
Since then, conventional macroeconomists have simply gotten it wrong. The best advice that President Obama obtained early in 2009 indicated that at most unemployment rates would peak at 8%. Wall Street economists concurred. The stock market began anticipating a strong and sustained economic recovery, but personal income absent governmental transfer payments have yet to reach their peak. If it were not for all the millions of unanticipated dropouts from the labor force, the measured unemployment rate would be well over 10%.
Recently (finally), mainstream economists have been substantially lowering their estimates for 2010 and often for 2011 economic performance.
Are the markets are finally discounting, or over-discounting, the economic weakness that many of the Austrian persuasion (and others, such as Nouriel Roubini) have been foreseeing? Now that there is a growing understanding that the paradox of shifting a credit boom/bubble from private to governmental ownership does not induce more profitable economic activities, is there so much gloom that it's time to tack toward a form of optimism as exemplified by buying certain common stocks?
My sense is that there is still more economic pain to go but that the answer to the above question is a "Yes, but" type of answer. For guidance I refer readers to the paper by Reinhard and Rogoff (go to http://www.google.com/search?q=rogoff+reinhart&sourceid=ie7&rls=com.microsoft:en-us:IE-SearchBox&ie=&oe=&rlz=1I7ADRA_en and then click on the first link, to "This Time Is Different"), or read the book of the same name. I also refer readers to a variety of the books on the reading list of Econophile that present an array of viewpoints and historical narratives often from the standpoint of Austrian economics.
Since securities such as stocks and bonds of at least intermediate duration, or assets such as precious metals, are long-term, investors are forced to read tea leaves and look beyond the financial storms that are so common during hurricane season in Florida.
Now that the interest rate structure has come down drastically in a short time, while at the same time the S&P 500 has dropped about 9% since interest rates peaked April 5, common stocks are far more competitive against fixed income than they were this past spring.
While many valuation measures show stocks to be overvalued, that measure assumes a desired positive rate of return, such as 7-9% annually. If, however, one is willing to invest in stocks at a 5 +/- 2% (i.e. 3-7%) annual rate, I suspect that the formulas that indicate overvaluation would no longer do so.
Further, Jeremy Grantham of GMO LLC is out with his famous 7 year predictions as of July 31, suggesting that the best asset class 7 years from now will prove to be high quality U. S. stocks (he does not define high quality, and does not equate that with large cap). He has been pretty darn accurate to date with these predictions to date, so far as I know. He does not like non-high quality small cap U. S. stocks. He gives a 6.1% return from the class of high-quality stocks in real terms, which would be about 9% per year if prices rise 3% annually.
Supporting the idea that a stock market which currently is trading with a high degree of correlation between all stocks can have an identifiable subset with superior risk-adjusted prospective returns is the lfact that when the general stock market was at its most overvalued ever, in 2000, it surprises most people to look at numerous types of stocks and find that they peaked in 1997-8 and bottomed in March 2000 just when the NASDAQ peaked. Think of everybody rushing to the left side of a boat, then some rushing to the right side.
Many of the stocks that bottomed in 2000 made things, as opposed to techs that made vaporware or proposed to be the fifth online pet supplies company, or the recent enthusiasm for financials that made bad loans or bad investments but produced little or nothing or real value. This list of relatively undervalued stocks as of 2000 includes homebuilders and numerous industrial companies. In fact, the Russell 2000 Index, which includes stocks with market cap between 1001-3000 and is thus a proxy for small cap stocks, hit a record early in 2004 when the general averages were far behind their 2000 peak. Thus there is precedent for a large class of stocks to outperform their index.
For stocks, my working hypothesis has been that the process of creative destruction/boom-bust cycles within industries remains in play as follows.
After the energy boom and overvaluation of energy and gold stocks (and gold and oil themselves) in 1980, cheap energy fueled growth for over two decades until oil started a huge price rise about a decade ago. After tech stocks went wild in the late 1990s, the stocks were just as bad buys as oil drillers were in 1980, but the technology revolution fueled growth and efficiency and continues to do so. Tech is the major force in the economy fueling lower prices in a virtuous cycle, as opposed to lower prices simply resulting from oversupply due to malinvestment during the recent boom.
The latest fad was obviously for financials. It is said that about 40% of corporate profits at the bubble peak in 2007 were from financial activities. Of course, these were in many (most?) cases "profits" rather than real, economic profits. Thus the bust.
The analogy I am drawing is that the bust in the financials has the potential to fuel growth, but that the financials and their relatives such as housing- and finance-related businesses are likely to prove as disappointing investments on a multi-year basis as techs and energy stocks were following their busts and rebounds. Trading: OK. Buy and hold; I don't think so.
The special problem now, though, is how inextricably linked with all other financial assets the financial companies are and with the State itself. Thus, teleologically, the historical record per Rogoff and Reinhart of an average of perhaps 6 years post-credit collapse for matters to right themselves. They observed that stock markets bounced back well ahead of the economy as central banks flooded the markets with cash. Thus a bust in the price of energy was viewed as good for most of the country, but a bust in financial intermediaries plays havoc with a macroeconomic world-view in which borrowing and lending, rather than accumulation of true equity, provides a crucial key to growth.
So I believe that industries with real futures, meeting real needs of real people and other real businesses globally, and that are in fields that are as far from leveraged finance as possible, should (broad brush picture here) be optimally positioned to survive and, probably grow, and could be as good investments for years to come as depressed consumer stocks were in 1981 (pre-great recession of 1981-2). At a time of constrained credit, being self-financing is a marvelous situation. As an example, Intel recently announced a deal to buy McAfee (MFE) at about 15X earnings. Zeroing out MFE's cash, that's about a 7% earnings yield; Intel is paying with cash yielding nothing. The Street booed the acquisition. Whether it's a good one or not, just think what price Intel was paying for acquisitions or what Intel's investment portfolio was receiving for IPOs a decade ago.
This buy or potential buy "list" (I have no formal list) could include energy producers and high tech companies, but it really could include almost any company. Said companies would in general be of very high quality, a la Grantham's analysis, and thus would be financially stronger than the banking system itself. If a company were a strong enough multinational, it might be stronger than almost all sovereigns financially as well as somewhat independent of any one sovereign, as well.
So my personal investing strategy is as follows. I am heavily allocated to muni bonds and short-duration Ginnie Maes (yielding as much as long-term Treasuries when bought correctly), as well as to cash. I have sold all my intermediate to long Treasuries which I bought so recently, following the amazing plunge in rates this month. I went to about a zero stock allocation at Dow 13000 in summer 2007 and except for a few months in late 2009 ending in early May this year, have hardly been in stocks at all.
While noting that the chart on all sorts of stocks stinks, the same would have been said for Treasuries at all optimal buy opportunities during this almost 30 year bull market in bonds. Seasonality and the down-pointing charts, and the rise of statism in the economy, make the future of the economy and the public's prospective mood for stocks unusually uncertain and even scary. Nonetheless, in a time of very poor investment choices, as an investor seeking both current income and long-term capital appreciation that at least stays even with inflation, I have started in with a program of purchasing stocks that yield around or over 3% and that often have P/E's in the 10 range. My thinking is that some time within the next 7 years, these companies will at the least probably not cut their dividends and will probably raise them (examples such as BP notwithstanding), and at some point their stock prices will exceed their current prices; thus their total return potential adjusted for risk probably exceeds that of the 7 year Treasury note, currently at 2.05%. Such names include Chubb (CB), McDonald's (MCD)--both of which have strong charts; and Intel (INTC) and ExxonMobil (both of which have weak charts) and/or other oils.
I am avoiding yet higher-yielding pharmaceuticals because so much of their income comes directly and indirectly from governments, which are tapped out and will have to cut somewhere, and because their profit margins are ultra-high as a direct result. But I'm watching them carefully for signs of technical strength and improvement in their R&D productivity.
Barring major financial/economic events such as led up to the collapse in stock prices from 2007-August 2008 (i.e., pre-stock market collapse), in my humble opinion the highest-quality common stocks are finally beginning to merit a significant place in a diversified portfolio with a multi-year horizon and are finally competitive with munis for taxable accounts. I write this, though, with a distinct lack of enthusiasm given the fact that in Japan, there has hardly ever been a good time to go long stocks other than for a trade since the 1980s, and the U. S. is continuing to look Japanese. Nonetheless, analogies are imperfect, America is not Japan, etc. Most importantly, I have signed on to the stagflation rather than price deflation scenario.
Meanwhile, I do not think that stocks are safe and I believe that the rent money should not be entrusted to the stock market. I also continue to believe that gold is the single best investment for funds that will not be needed any time soon, given the apparent commitment of the ancien regime (aka the authorities) to more money printing and other financial maneuvers to "save" us rather than directly face up to the many historical and ongoing malinvestments that plague the U. S. economy. But an all-gold (or all precious metals) portfolio would be quite something else again!
Last but not least, and with the caveat that I know nothing about tech, AAPL appears to be a classic GARP (growth at a reasonable price) special situation stock with a company that is a financial and market share juggernaut. AAPL is very risky, though, and may or may not ever return cash to shareholders.
I am not an investment adviser and am proffering no investment advice in this and my other web posts. No obligation exists to disclose any changes in specific or general views discussed herein or by me elsewhere.
Copyright (C) Long Lake LLC 2010
Saturday, March 27, 2010
The New Bubble: Feds May Need a Stock Crash to Keep Deficit Spending Affordable
We are moving into government bailout bubble territory in the U. S. The state of California had to (could) increase the size of its bond offering. What's up with that? The Feds are helping.
A potentially vast new FHA rejiggering of mortgages to help bail out borrowers and lenders alike with taxpayer funds has just been announced. The money is said to be coming from some prior bailout funds.
The surprising thing is that with the flood of issuance, the 10-year is not back above its peak of last year in yield. Certainly sentiment on the Treasury bond is as bad as can be imagined. Meanwhile "liquidity" is running wild. The "smart money" "knows" that the party will continue until the Fed tightens, thus stocks and junk bonds are buys.
When I look at my Value Line charts, I can find almost no stocks below their "value lines". Some such as Oracle and Mickey D are at their lines, but one is left with TJX and DLTR, Chubb and Everest Re (insurers highlighted by Barron's today), and scattered others. Mostly the chart patterns look long-term weak, short term overbought. You never know with bubbles and can't try to pick the top.
Holding this bubble together is a rickety edifice.
If Treasury yields surge, look out. Since Obamanomics requires low borrowing rates, watch out for the opposite happening. Obamanomics requires Treasuries to have low rates more than companies to have high stock prices. The more people and businesses suffer, the more the Feds can step in and save them. The question is whether the government can keep long rates low or even for them to move much lower. The Japan scenario, in other words. 1-2% inflation would be fine to allow 3% 10-yar treasury yields. Remember that long rates were much lower than today's all through the 1940s and well into the 1950s even as some years of war and post-war high inflation came and went. In other words, sometimes rates can be well below inflation. It just depends on psychology and on relative opportunities. And right now cash is trash and stocks are fundamentally overpriced.
There is no good general investing solution right now other than trading profits, which most people living normal sane lives cannot hope to achieve. I still think that one of these months, we are likely to see a recrudescence of a Treasury buying surge/panic. No idea when, though. But unlike with stocks as a whole, the 10-year pays you to wait.
Gold continues to act as suggested here. It is frustrating traders, short sellers and long-term investors. The more the financial markets inflate in price and gold does not, the more it is likely that gold prices are set to surge.
Copyright (C) Long Lake LLC 2010
A potentially vast new FHA rejiggering of mortgages to help bail out borrowers and lenders alike with taxpayer funds has just been announced. The money is said to be coming from some prior bailout funds.
The surprising thing is that with the flood of issuance, the 10-year is not back above its peak of last year in yield. Certainly sentiment on the Treasury bond is as bad as can be imagined. Meanwhile "liquidity" is running wild. The "smart money" "knows" that the party will continue until the Fed tightens, thus stocks and junk bonds are buys.
When I look at my Value Line charts, I can find almost no stocks below their "value lines". Some such as Oracle and Mickey D are at their lines, but one is left with TJX and DLTR, Chubb and Everest Re (insurers highlighted by Barron's today), and scattered others. Mostly the chart patterns look long-term weak, short term overbought. You never know with bubbles and can't try to pick the top.
Holding this bubble together is a rickety edifice.
If Treasury yields surge, look out. Since Obamanomics requires low borrowing rates, watch out for the opposite happening. Obamanomics requires Treasuries to have low rates more than companies to have high stock prices. The more people and businesses suffer, the more the Feds can step in and save them. The question is whether the government can keep long rates low or even for them to move much lower. The Japan scenario, in other words. 1-2% inflation would be fine to allow 3% 10-yar treasury yields. Remember that long rates were much lower than today's all through the 1940s and well into the 1950s even as some years of war and post-war high inflation came and went. In other words, sometimes rates can be well below inflation. It just depends on psychology and on relative opportunities. And right now cash is trash and stocks are fundamentally overpriced.
There is no good general investing solution right now other than trading profits, which most people living normal sane lives cannot hope to achieve. I still think that one of these months, we are likely to see a recrudescence of a Treasury buying surge/panic. No idea when, though. But unlike with stocks as a whole, the 10-year pays you to wait.
Gold continues to act as suggested here. It is frustrating traders, short sellers and long-term investors. The more the financial markets inflate in price and gold does not, the more it is likely that gold prices are set to surge.
Copyright (C) Long Lake LLC 2010
Wednesday, March 17, 2010
The Fed and the Stock Market: Weak Economy Continues to Propel Stock Price Inflation
Every pro and many amateurs are aware of the correlation with the Fed funds rate and low volatility, and between that of low volatility and rising stock prices. Thus it is no surprise that the Fed's unsurprising reiteration of its prior policy track was followed by yet another late afternoon increase in stock prices. Gold was up all day, up a bit more later in the day, and is up a bit more overnight. The joys of cheap money!
Meanwhile, probably the best portent for job growth is yesterday's downbeat job projections out of the White House. They won't be caught on the overoptimistic side of predicting the economy if they can help it ever again.
Unfortunately, the health care "reform" fiasco is looking the end of Terminator. You can't kill it, but it keeps getting uglier. This plus the recent Nancy Pelosi pledge that Federalization of health care is just the start is definitely not helping the mood amongst small businessmen. One wonders if by some chance the majority party can't beg/borrow/steal just a few more votes from its own party members in the House to pass this bill the stock market will give a big cheer, just as it did when Bill Clinton lost control of the house in the 1994 elections. And one wonders if passing the bill would give a sense of finality (finally) and allow business to focus on business rather than the irritant of health insurance, which would also be good for the public mood. On the other hand, this bill imposes tax increases before the spending kicks in. So that might make it bad for the public mood and anti-Keynesian. So I'm ignoring this bill in discussing investment options.
Let us step back and with apologies to Barry Ritholtz and his blog, look at the big picture.
Money printing and various forms of credit extension into such things as the black hole of Fannie/Freddie and the new black hole of Ginnie Mae (FHA), plus population growth plus cyclical factors have "strengthened" the real economy-- whatever that really means. There will be growth in the spring. But much is rotten in the state of this country. The Federal government is not close to a true AAA credit any more. Multiple states are fiscally mismanaged. Many financial institutions that remain too big to fail would be insolvent today on a mark to market basis. Thus your money in the bank is not there. Gold is roughly trading at an historical average price relative to the (long-suffering) S&P 500 index.
Doubling back to the Fed-- if the economy remains so weak that cash must be trash and even the alleged security of 10-year Federal debt only pays $3.65 per $100, how are stock buyers so sure that the future is so bright as to pay such a large premium over tangible book value as they are today and to accept such a historically low rate of return on BBB-rated corporate debt?
Yet even more than the bond market to my eyes, the stock market has pockets of relative attraction. Discount retailers have surging stock prices but TJX and DLTR remain at quite ordinary P/E's. Everest Re is a totally boring reinsurer that trades far under tangible book value yet has a top-notch quality rating by S&P's stock advisory service. Chubb, a cream of the crop sort of insurer, trades marginally above tangible book, has a 3% dividend yield, has a very high free cash flow yield (as do the other names mentioned above), and could be a mega-company's takeover meal to boot. McDonald's is operationally outperforming its peers and has a stock chart that has already broken to new alltime highs in its 50 and 200 day moving averages. It yields almost that of the 10 year Treasury but in 10 years, if dividends rise 7% per year, it will be paying investors twice what the T-bond will pay out in year 10. What will the "stub" of the MCD equity be worth then? I dunno, but as a conservative income and inflation hedge, plus the strong chart pattern, I find it a worthwhile part of a diversified portfolio.
Every name mentioned above is "defensive". With ECRI sounding the tocsins about more frequent recessions ahead, but with many stocks pricing in a strong and/or prolonged economic expansion, yours truly finds this a stock market that only a pro should short but that most people should be leery of. As it should be of most of modern, debt-infested finance.
Copyright (C) Long Lake LLC 2010
Meanwhile, probably the best portent for job growth is yesterday's downbeat job projections out of the White House. They won't be caught on the overoptimistic side of predicting the economy if they can help it ever again.
Unfortunately, the health care "reform" fiasco is looking the end of Terminator. You can't kill it, but it keeps getting uglier. This plus the recent Nancy Pelosi pledge that Federalization of health care is just the start is definitely not helping the mood amongst small businessmen. One wonders if by some chance the majority party can't beg/borrow/steal just a few more votes from its own party members in the House to pass this bill the stock market will give a big cheer, just as it did when Bill Clinton lost control of the house in the 1994 elections. And one wonders if passing the bill would give a sense of finality (finally) and allow business to focus on business rather than the irritant of health insurance, which would also be good for the public mood. On the other hand, this bill imposes tax increases before the spending kicks in. So that might make it bad for the public mood and anti-Keynesian. So I'm ignoring this bill in discussing investment options.
Let us step back and with apologies to Barry Ritholtz and his blog, look at the big picture.
Money printing and various forms of credit extension into such things as the black hole of Fannie/Freddie and the new black hole of Ginnie Mae (FHA), plus population growth plus cyclical factors have "strengthened" the real economy-- whatever that really means. There will be growth in the spring. But much is rotten in the state of this country. The Federal government is not close to a true AAA credit any more. Multiple states are fiscally mismanaged. Many financial institutions that remain too big to fail would be insolvent today on a mark to market basis. Thus your money in the bank is not there. Gold is roughly trading at an historical average price relative to the (long-suffering) S&P 500 index.
Doubling back to the Fed-- if the economy remains so weak that cash must be trash and even the alleged security of 10-year Federal debt only pays $3.65 per $100, how are stock buyers so sure that the future is so bright as to pay such a large premium over tangible book value as they are today and to accept such a historically low rate of return on BBB-rated corporate debt?
Yet even more than the bond market to my eyes, the stock market has pockets of relative attraction. Discount retailers have surging stock prices but TJX and DLTR remain at quite ordinary P/E's. Everest Re is a totally boring reinsurer that trades far under tangible book value yet has a top-notch quality rating by S&P's stock advisory service. Chubb, a cream of the crop sort of insurer, trades marginally above tangible book, has a 3% dividend yield, has a very high free cash flow yield (as do the other names mentioned above), and could be a mega-company's takeover meal to boot. McDonald's is operationally outperforming its peers and has a stock chart that has already broken to new alltime highs in its 50 and 200 day moving averages. It yields almost that of the 10 year Treasury but in 10 years, if dividends rise 7% per year, it will be paying investors twice what the T-bond will pay out in year 10. What will the "stub" of the MCD equity be worth then? I dunno, but as a conservative income and inflation hedge, plus the strong chart pattern, I find it a worthwhile part of a diversified portfolio.
Every name mentioned above is "defensive". With ECRI sounding the tocsins about more frequent recessions ahead, but with many stocks pricing in a strong and/or prolonged economic expansion, yours truly finds this a stock market that only a pro should short but that most people should be leery of. As it should be of most of modern, debt-infested finance.
Copyright (C) Long Lake LLC 2010
Thursday, January 21, 2010
Nouriel Roubini Should Stick to Economics, not Market Forecasting
In Roubini Says Global Stocks May Correct as Growth Disappoints, Bloomberg.com continues to publicize the market views of a top-tier economist who has built a large consulting business. The article begins:
A global rally in stocks may end in the second half of the year amid a muted recovery in the world’s largest economies and as deflationary pressures limit gains in corporate earnings, Nouriel Roubini said.
Failure to restrain asset-price bubbles in emerging markets, fueled by loose monetary policies in the U.S. and around the world, may also cause an “unraveling and a significant correction of asset prices which will be damaging to global and regional economic growth,” Roubini, the Harvard- schooled New York University professor who in 2006 foresaw the financial crisis, said in Hong Kong today.
At this point, the Roubini outlook as expressed in the article are quite mainstream.
Because they are mainstream, it is unclear whether even if events occur as he predicts whether markets are discounting this and will look forward even as a growth slowdown occurs.
What is most important in looking at markets is spying relative over- and under-valuation. A classic example involves March 2000. The NASDAQ peaked around 5100, having doubled in 1999 and gone up a bit farther in the new year. Fundamental measures of market overvaluation were at record levels, surpassing those of 1929.
Yet there were a great many industry groups that bottomed exactly when the averages popped. These groups were diverse and included homebuilders, HMOs, basic industry, and other out of favor groups. By mid-2002, if memory serves me well, the Russell 2000 was hitting record levels even as the averages were floundering. By the time the market his its double bottom in early 2003, many stocks had moved a great deal.
Toll Brothers, for example, bottomed in March 2000 around 4 and hit 15 little over 2 years later, ending 2003 at 20 (about where it trades today).
What had really happened was that the average stock, rather than the large cap stocks and the tech sector, topped out during the Asian contagion that began in 1997 and rolled on through 1998; it is those stocks that kept bleeding support and got grossly undervalued relative to the popular stuff.
It appears to me that a milder version of that has now occurred. One can look through Value Line and find company after company that is way off its lows, has a poor long-term chart, relatively weak financial strength, no dividend payment and none on the way, and a fundamentally rich valuation. One can also find strong companies with fundamental reasonable valuation, rising and record dividends, rising and record sales and earnings, and no reason not to have a reasonable expectation at least mid-to-high single digit returns to shareholders over a 5-10 year history. Relative to the market, they have underperformed the past year, but on a 2-year or 5-year basis, these companies have outperformed the stuff that I believe has moved too much.
These companies have been highlighted many times here. The list does not change much. Some, such as National Presto, have moved a great deal and are no longer cheap. Others, such as Teva, have not moved much. Everest Re, trading around book value, was up yesterday despite the general sell-off.
There are a series of poor investment choices available due to the general inflation of financial assets that Bill Gross wrote about in his December Pimco letter. This will cycle, but living in the present, we know that cash is being trashed but all bonds are increasingly risky given the explosion of debt combined with stagnant incomes.
The warnings of seers such as Nouriel Roubini are part of the chatter, no matter how right they are. Where they are most valuable is when they identify an evolving bubble or a seriously undervalued situation. Right now, the major imbalances - governmental deficits and money-printing are well known (don't sell gold). Unsexy stocks such as Chubb, Everest Re selling at single-digit P/E's and yielding over 2%; discount retailers with low double-digit P/E's and huge free cash flows; Teva and other special situations; and others provide inflation protection yet can do well in a no-growth economy. Over time these financially strong companies that have proven themselves winners over many years tend to continue to be winners.
Nothing in Nouriel Roubini's outlook have any special relevance to my willingness to hold all the above as part of a diversified portfolio. Until he develops more market experience, he would be well advised to stick to getting the economics correct and letting his clients adjust their market expectations accordingly.
Copyright (C) Long Lake LLC 2010
A global rally in stocks may end in the second half of the year amid a muted recovery in the world’s largest economies and as deflationary pressures limit gains in corporate earnings, Nouriel Roubini said.
Failure to restrain asset-price bubbles in emerging markets, fueled by loose monetary policies in the U.S. and around the world, may also cause an “unraveling and a significant correction of asset prices which will be damaging to global and regional economic growth,” Roubini, the Harvard- schooled New York University professor who in 2006 foresaw the financial crisis, said in Hong Kong today.
At this point, the Roubini outlook as expressed in the article are quite mainstream.
Because they are mainstream, it is unclear whether even if events occur as he predicts whether markets are discounting this and will look forward even as a growth slowdown occurs.
What is most important in looking at markets is spying relative over- and under-valuation. A classic example involves March 2000. The NASDAQ peaked around 5100, having doubled in 1999 and gone up a bit farther in the new year. Fundamental measures of market overvaluation were at record levels, surpassing those of 1929.
Yet there were a great many industry groups that bottomed exactly when the averages popped. These groups were diverse and included homebuilders, HMOs, basic industry, and other out of favor groups. By mid-2002, if memory serves me well, the Russell 2000 was hitting record levels even as the averages were floundering. By the time the market his its double bottom in early 2003, many stocks had moved a great deal.
Toll Brothers, for example, bottomed in March 2000 around 4 and hit 15 little over 2 years later, ending 2003 at 20 (about where it trades today).
What had really happened was that the average stock, rather than the large cap stocks and the tech sector, topped out during the Asian contagion that began in 1997 and rolled on through 1998; it is those stocks that kept bleeding support and got grossly undervalued relative to the popular stuff.
It appears to me that a milder version of that has now occurred. One can look through Value Line and find company after company that is way off its lows, has a poor long-term chart, relatively weak financial strength, no dividend payment and none on the way, and a fundamentally rich valuation. One can also find strong companies with fundamental reasonable valuation, rising and record dividends, rising and record sales and earnings, and no reason not to have a reasonable expectation at least mid-to-high single digit returns to shareholders over a 5-10 year history. Relative to the market, they have underperformed the past year, but on a 2-year or 5-year basis, these companies have outperformed the stuff that I believe has moved too much.
These companies have been highlighted many times here. The list does not change much. Some, such as National Presto, have moved a great deal and are no longer cheap. Others, such as Teva, have not moved much. Everest Re, trading around book value, was up yesterday despite the general sell-off.
There are a series of poor investment choices available due to the general inflation of financial assets that Bill Gross wrote about in his December Pimco letter. This will cycle, but living in the present, we know that cash is being trashed but all bonds are increasingly risky given the explosion of debt combined with stagnant incomes.
The warnings of seers such as Nouriel Roubini are part of the chatter, no matter how right they are. Where they are most valuable is when they identify an evolving bubble or a seriously undervalued situation. Right now, the major imbalances - governmental deficits and money-printing are well known (don't sell gold). Unsexy stocks such as Chubb, Everest Re selling at single-digit P/E's and yielding over 2%; discount retailers with low double-digit P/E's and huge free cash flows; Teva and other special situations; and others provide inflation protection yet can do well in a no-growth economy. Over time these financially strong companies that have proven themselves winners over many years tend to continue to be winners.
Nothing in Nouriel Roubini's outlook have any special relevance to my willingness to hold all the above as part of a diversified portfolio. Until he develops more market experience, he would be well advised to stick to getting the economics correct and letting his clients adjust their market expectations accordingly.
Copyright (C) Long Lake LLC 2010
Saturday, January 2, 2010
State Finances: More Reasons for their Troubles
In The States and the Stimulus, the WSJ editorializes on adverse fiscal effects on the states of last year's ARRA "stimulus" bill. Even after I strip away unnecessary partisan comments, the facts laid out--assuming they are presented accurately--are impressive and taught me something: Sometimes you have to look a gift horse in the mouth. It appears that the states got a "teaser" one-year gift and now they are stuck paying for it.
Thank goodness 49 states have balanced budget requirements. At least they will deal with revenue shortfalls as best as they can. If on the other hand the Federal government makes up much of the states' deficits with grants and borrows/prints the money to so do, then our mess is bigger than contemplated.
The stock market is valuing companies based on earnings, not on tangible assets, and now that ECRI has repeated its prediction for more frequent recessions than we have been used to since Volcker let up on the reins, I continue to believe that investors should minimize their exposure to the general market even though the alternatives look a bit uninspiring to be sure, and follow Jeremy Grantham's advice (at GMO) to focus only on high quality companies whatever their size. And please don't chase performance unless you know how to do it. GOOG/AAPL/ISRG etc. were great buys. But they are in the hands of momentum buyers who are really renters. Who knows, but Chubb (CB) or the less well-known insurer Everest Re (RE) are highly safe stocks (top-ranked for safety by Value Line) that offer historically low price to tangible book ratios, low price/earnings ratios, dividend yields better than 3-year Treasuries, and low correlation to the general market or even general economy. In tech, IBM and Oracle have both broken out to multi-year price highs associated with record earnings, and both are free cash flow generating machines with rising dividends. Neither is cheap, but then nothing from precious metals, cash itself, bonds, etc. is cheap, so it's a pick-your-poison financial marketplace. Perhaps the most dangerous market is the tax-free muni market, as was hinted at at the start of this post. You can lose on credit as well as interest rates. Caveat emptor there.
Copyright (C) Long Lake LLC 2010
Thank goodness 49 states have balanced budget requirements. At least they will deal with revenue shortfalls as best as they can. If on the other hand the Federal government makes up much of the states' deficits with grants and borrows/prints the money to so do, then our mess is bigger than contemplated.
The stock market is valuing companies based on earnings, not on tangible assets, and now that ECRI has repeated its prediction for more frequent recessions than we have been used to since Volcker let up on the reins, I continue to believe that investors should minimize their exposure to the general market even though the alternatives look a bit uninspiring to be sure, and follow Jeremy Grantham's advice (at GMO) to focus only on high quality companies whatever their size. And please don't chase performance unless you know how to do it. GOOG/AAPL/ISRG etc. were great buys. But they are in the hands of momentum buyers who are really renters. Who knows, but Chubb (CB) or the less well-known insurer Everest Re (RE) are highly safe stocks (top-ranked for safety by Value Line) that offer historically low price to tangible book ratios, low price/earnings ratios, dividend yields better than 3-year Treasuries, and low correlation to the general market or even general economy. In tech, IBM and Oracle have both broken out to multi-year price highs associated with record earnings, and both are free cash flow generating machines with rising dividends. Neither is cheap, but then nothing from precious metals, cash itself, bonds, etc. is cheap, so it's a pick-your-poison financial marketplace. Perhaps the most dangerous market is the tax-free muni market, as was hinted at at the start of this post. You can lose on credit as well as interest rates. Caveat emptor there.
Copyright (C) Long Lake LLC 2010
Saturday, December 26, 2009
Stocks for the Intermediate Run
One of the good things about markets is the ability to look for relative undervaluation. Readers know that I believe that we are in an era where labor is undervalued relative to financial assets, and a re-equilibration is likely to occur. Once that is said, what is the manager of money to do?
Yours truly took the long view about 28 months ago to exit stocks for cash and bonds. This winter, when it looked likely that a fragile technical stock market bottom and bond interest rate bottom was made, specific stocks were mentioned along with gold. The stocks have all done well with limited risk: Teva (TEVA), Ross Stores (ROST), and National Presto (NPK) all made all-time highs, and all remain in all-time high territory. The other specific stock was McDonald's (MCD), which has done well but did not hit an all-time high and has to be sure lagged the market. This lagging is specifically related not to any special failing of the company, which kept exceeding earnings expectations and had a substantial dividend increase, but due to the catch-up nature of the stock rally.
Regular readers know of my consistent kind words for gold all year, whether the metal was priced in the $800s or the $1000s, and of the tactical sell when GTU reached about a 7-8% premium over NAV when the physical metal was around $1200. The recent strength of the dollar per the DXY index is seen much less using the St. Louis Fed's trade-weighted index.
Any number of technicians and fundamentalists are both positive on gold longer-term but cautious to bearish short-term.
In a primary bull market, the trend is your friend. Either gold has gotten too popular and should be avoided for some time to come, or the recent strength of the dollar against the Euro is just that one drunk is a little more upright than the other this spree. On Christmas Eve, more support for Fannie/Freddie came out, along with the revelation that Treasury also spent hundreds of billions of dollars buying mortgage-backed securities this past year. Yikes, as they say.
This is all gold-friendly.
What happened technically to gold this summer and fall was that while the price remained below its winter 2008 highs, its moving averages went t0 new highs-- and quietly.
A similar thing appears to be happening with certain individual stocks which meet the criteria for reasonable valuation (little is cheap!) and strength not just in the stock price but in the 50 and 200 day moving averages, along with upside earning surprises or at least rising earnings estimates. Unsurprisingly, these companies are global and are self-financing. In addition to all the ones listed above except MCD, these include Oracle (ORCL), IBM and TJX, all of which have consistent records of shrinking shares outstanding; though ORCL has turned into such a serial acquirer that it pays dividends instead.
One perhaps fundamentally undervalued group of stocks includes some insurers. Chubb (CB) and Everest Re (RE) are off of their panic lows but have global franchises, high quality financial bona fides, and limited to no premium to tangible book value. In normal financial times, these stocks trade at premiums to book value. Their P/E's are single digits. There is nothing exciting at all about their financials, and they are well off their bear market lows, so purchase of them is likely to be boring. But assuming a muddle-through economy this year, I believe we are seeing the market neglect certain sectors and be over-excited about others.
What, you ask, are those companies?
Look at Barron's this week, with a lead article warning about Burlington Northern.
It appears that the "Street" is much more optimistic about BNI's 2010 earnings than even the best-case scenario of the company itself.
Many industrial companies have declining consensus earnings estimates, high P/E's and stock prices double their low of the bear market. Methinks the risk-reward is better with the above-mentioned names that pay dividends, have controlled but positive stock charts, and a true valuation story so that barring an AIG-type collapse, one can hold the stock should it drop after purchase and not feel compelled to sell if it goes up the way one might if one bought Amazon at 80 times earnings.
The above is stated with the repeated caveat that there is a reason why short term interest rates are near zero.
That reason is that there really is a financial crisis, and the government wants real interest rates to be negative. Now that they have in fact have crossed that threshold and the ECRI data continue to be strong, we may be at that point in the economy and markets where everything seems to work. Inflation is cyclically low, as labor is by far the most important input to prices and labor has zero pricing power; therefore profits rise; the Federal deficit surprises people by being less than expected, yet the Fed does not take away the punch bowl.
We are in a make-believe financial world, where a roll-up like Teva with no tangible book value and a minimal dividend can be a powerhouse company and trillions of Federal or Fed dollars just appear at will. No asset is good or bad, it's just what is the flavor du jour and what was yesterday's flavor. If ORCL is at an 8 year high in stock price on good news and also on its moving averages, a melt-up is possible. That ORCL also has no tangible book value and almost no dividend yield means something in a bear market. It means nothing when stock buyers ignore those fundamentals. If you buy the stock or own it already, you must remember there is no large stash of gold carried at $42.20 per ounce in the company coffers to provide fundamental value. Oracle is a strong company that just might be a good speculative asset play for the months ahead.
Anyone owning stocks should in my opinion be able to follow Mr. Buffett's rule and be able to financially and psychologically withstand a 50% fall in the stock averages.
No guarantees, but all the stocks mentioned above are of very high apparent quality and thus should drop less than the market in a general collapse. When and from what level and with what degree of warning the next market downturn will occur is unknown. Perhaps it will start Monday.
Caveat emptor and owner.
Copyright (C) Long Lake LLC 2009
Yours truly took the long view about 28 months ago to exit stocks for cash and bonds. This winter, when it looked likely that a fragile technical stock market bottom and bond interest rate bottom was made, specific stocks were mentioned along with gold. The stocks have all done well with limited risk: Teva (TEVA), Ross Stores (ROST), and National Presto (NPK) all made all-time highs, and all remain in all-time high territory. The other specific stock was McDonald's (MCD), which has done well but did not hit an all-time high and has to be sure lagged the market. This lagging is specifically related not to any special failing of the company, which kept exceeding earnings expectations and had a substantial dividend increase, but due to the catch-up nature of the stock rally.
Regular readers know of my consistent kind words for gold all year, whether the metal was priced in the $800s or the $1000s, and of the tactical sell when GTU reached about a 7-8% premium over NAV when the physical metal was around $1200. The recent strength of the dollar per the DXY index is seen much less using the St. Louis Fed's trade-weighted index.
Any number of technicians and fundamentalists are both positive on gold longer-term but cautious to bearish short-term.
In a primary bull market, the trend is your friend. Either gold has gotten too popular and should be avoided for some time to come, or the recent strength of the dollar against the Euro is just that one drunk is a little more upright than the other this spree. On Christmas Eve, more support for Fannie/Freddie came out, along with the revelation that Treasury also spent hundreds of billions of dollars buying mortgage-backed securities this past year. Yikes, as they say.
This is all gold-friendly.
What happened technically to gold this summer and fall was that while the price remained below its winter 2008 highs, its moving averages went t0 new highs-- and quietly.
A similar thing appears to be happening with certain individual stocks which meet the criteria for reasonable valuation (little is cheap!) and strength not just in the stock price but in the 50 and 200 day moving averages, along with upside earning surprises or at least rising earnings estimates. Unsurprisingly, these companies are global and are self-financing. In addition to all the ones listed above except MCD, these include Oracle (ORCL), IBM and TJX, all of which have consistent records of shrinking shares outstanding; though ORCL has turned into such a serial acquirer that it pays dividends instead.
One perhaps fundamentally undervalued group of stocks includes some insurers. Chubb (CB) and Everest Re (RE) are off of their panic lows but have global franchises, high quality financial bona fides, and limited to no premium to tangible book value. In normal financial times, these stocks trade at premiums to book value. Their P/E's are single digits. There is nothing exciting at all about their financials, and they are well off their bear market lows, so purchase of them is likely to be boring. But assuming a muddle-through economy this year, I believe we are seeing the market neglect certain sectors and be over-excited about others.
What, you ask, are those companies?
Look at Barron's this week, with a lead article warning about Burlington Northern.
It appears that the "Street" is much more optimistic about BNI's 2010 earnings than even the best-case scenario of the company itself.
Many industrial companies have declining consensus earnings estimates, high P/E's and stock prices double their low of the bear market. Methinks the risk-reward is better with the above-mentioned names that pay dividends, have controlled but positive stock charts, and a true valuation story so that barring an AIG-type collapse, one can hold the stock should it drop after purchase and not feel compelled to sell if it goes up the way one might if one bought Amazon at 80 times earnings.
The above is stated with the repeated caveat that there is a reason why short term interest rates are near zero.
That reason is that there really is a financial crisis, and the government wants real interest rates to be negative. Now that they have in fact have crossed that threshold and the ECRI data continue to be strong, we may be at that point in the economy and markets where everything seems to work. Inflation is cyclically low, as labor is by far the most important input to prices and labor has zero pricing power; therefore profits rise; the Federal deficit surprises people by being less than expected, yet the Fed does not take away the punch bowl.
We are in a make-believe financial world, where a roll-up like Teva with no tangible book value and a minimal dividend can be a powerhouse company and trillions of Federal or Fed dollars just appear at will. No asset is good or bad, it's just what is the flavor du jour and what was yesterday's flavor. If ORCL is at an 8 year high in stock price on good news and also on its moving averages, a melt-up is possible. That ORCL also has no tangible book value and almost no dividend yield means something in a bear market. It means nothing when stock buyers ignore those fundamentals. If you buy the stock or own it already, you must remember there is no large stash of gold carried at $42.20 per ounce in the company coffers to provide fundamental value. Oracle is a strong company that just might be a good speculative asset play for the months ahead.
Anyone owning stocks should in my opinion be able to follow Mr. Buffett's rule and be able to financially and psychologically withstand a 50% fall in the stock averages.
No guarantees, but all the stocks mentioned above are of very high apparent quality and thus should drop less than the market in a general collapse. When and from what level and with what degree of warning the next market downturn will occur is unknown. Perhaps it will start Monday.
Caveat emptor and owner.
Copyright (C) Long Lake LLC 2009
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