Easter Holiday

In celebration of the Easter holiday there will be nothing here between Good Friday and next Tuesday. I will be traveling visiting clients on Monday.  Happy Easter to all!

Surrexit Dominus vere, alleluia!

The US vs. Europe

From the website Pragmatic Capitalist.   {My highlights.}

This Great Graphic was created by an old friend Rab Jafri. Drawing on Bloomberg and Eurostate data, the chart depicts the performance of US and euro area industrial output over the past several years.

It shows that the US collapse in industrial output was not as steep as in the euro area, but the recovery began a bit later. Through Q1 2011, there was an apparent synchronized recovery. However, since than the divergence has become increasingly evident. The disappointing flash euro zone PMI, in contrast to greater than expected gain in the Markit preliminary US PMI,  warns that the divergence is widening further.

Some observers may argue that the out performance of the US is a function of the reluctance of the US to take its foot of the fiscal accelerator. This, we argue, is misleading. First, for the past few years, more often than not the US government sector was a net drag on GDP, with few exceptions. As fast as Washington may have arguably been spending, the states and local governments were cutting back even faster.

Second, the combination of the fiscal cliff and sequester resolutions while several European countries are given more time to reach deficit targets, means that US fiscal consolidation will be greater than the euro zone’s this year.

Third, the US may have gone for a more pro-growth strategy at the cost of more gradual fiscal consolidation and is saddled with a large deficit and mounting debt. The euro area went with fiscal consolidation and has poor growth to show for it and large deficits and debt. If it were a poker game, wouldn’t you prefer US cards over the euro zone, even if it is not a royal straight flush.

Link:  {Pragmatic Capitalist.com}: US-Euro Area Industrial Production Divergence.

an tSionna {Gold}

From Chart of the Day.com:

With gold currently trading 15% below its September 6, 2011 peak, today's chart provides some long-term perspective on the bull market in gold that began back in 2001. As today's chart illustrates, the pace of the 12-year bull market has increased over time. Over the past 18 months, however, the price of one ounce of the yellow metal has declined more than at any point since 2008. In the end, this latest pullback has resulted in gold coming right back to support of its six-year accelerated uptrend channel.

*  Link:  Chart of the Day: Gold

**Long the gold ETF GLD in certain client accounts.  

In Re The What If Things Are Getting Better Department

Lost in all the angst over Cyprus and what's going on across the pond in Europe are these recent headlines out of the US.

{Bloomberg} Home Prices in 20 US Cities Climb Most Since 2006

{Bloomberg} Orders for US Durable Goods Rise More Than Forecast.

{Calculated Risk} Chicago Fed: Economic Activity Improved In February

{Business Insider} SHALE BOOM: Why Fracking Is An Economic Game-Changer That Can't Be Overhyped

{Boston Globe} Mass. has regained jobs lost in last recession

I could go on {and I'm not trying to ignore the negatives of which there are many still} but hopefully you get the point.  A lot of this gets ignored in the popular press it seems.

an tSionna {03.25.13-Comparing Valuations}

I posted this chart last fall from JP Morgan showing the S&P 500 as it neared record highs.  If this chart was updated we'd see the S&P 500 ready to open just a bit under 1560.  Let's compare valuations at this level with the levels we saw the last two times we made it this high.  For current estimates I will use my earnings midpoint target of 106.50.

March 2000:   S&P 500 = 1,527,  Forward PE = 25.6,  Dividend Yield= 1.1%,  Earnings Yield = 4.7%
10 Year Treasury Yield = 6.2%

Oct. 2007:      S&P 500 = 1,565,  Forward PE = 15.2,  Dividend Yield= 1.6%,  Earnings Yield = 6.5%
10 Year Treasury Yield = 4.7%

Current:         S&P 500 = 1,560,  Forward PE = 14.6,  Dividend Yield= 1.9%,  Earnings Yield = 6.8%
10 Year Treasury Yield = 1.9%

Traditional*: S&P 500 = 1,560,  Forward PE = 16.3,  Dividend Yield= 1.5%,  Earnings Yield = 5.2%

*S&P 500 based on traditional valuation metrics would place fair value based on my earnings estimates between 1,730-1,900 right now!  There is no reason to believe that we are going back to those levels any time soon or ever.  But it is a base line way to measure where we are versus where we could be assuming that the economy continues to improve and nothing unexpected washes over our shores.

** Long ETFs related to the S&P 500 in client and personal accounts.

VGK

Above chart is the Vanguard European ETF courtesy of Finviz.com.  The question I ask myself after this week and all the negative news out of Cyprus is why hasn't this performed worse?  Now VGK as of this writing is down about 2% for the week and the Cypriot situation is as  they say "fluid" so  it is possible that we may have an answer maybe next week.  Yet it's hard not to notice that Europe as a whole so far seems to have taken this in stride.   Big weekend over there it seems as that some resolution will be in place by Monday.  

*Long VGK in client and personal accounts.  Note however in the interest of disclosure that we sold certain positions in VGK in both client and personal accounts a bit over a month ago.  Sales varied across client strategies, positional size and client individual risk/reward perimeters.

Quote of the Day

A brief comment this morning posted from the iPad.  I'm having electronic issues with my office modem so I have to focus on that first.  Thought however that I'd share this quote I saw from Barry Ritholtz over at The Big Picture.com.  

"...{W}e have a market which remains disliked, under-owned by investors, not unreasonably priced, with few alternatives to equities. (Does that sound like the recipe for a market crash to you?)"

Lest you try to extrapolate this in a way that I think Barry probably didn't intend, I wouldn't characterize him as an Uber-bull.  I would place him in the camp of Uber-Realist.  

Back tomorrow. {Hopefully!}

Link:  Ritholtz.com: What Really Drives Market Sentiment?  

Cyprus: {Six Thoughts}

A few quick notes/thoughts on the Cyprus situation.  I'll not recount the events over there from last Friday until now because the financial "webverse" is dominated by this news but here's a few quick thoughts.

1.  Cypriot banks are scheduled to remain closed until Thursday.  Right now there's all sorts of talk about what kind of haircut {if any} depositors under 100,000 Euro might be forced to accept.  My question is what happens now to the little guy.  Irrespective if he's going to take a haircut or not, why isn't he going to take all his money out of the banks at the first opportunity he can do so?   I know that's what I'd do.   Even if he's spared a haircut, what confidence can he have that the government won't come after him again.  Now I suppose Cyprus could put in place capital outflow checks.  That might keep businesses and individuals from doing precisely what I just suggested.  But why then would I ever put money into a bank that won't let me get it out.  It seems this solution might lead to the very process of bank insolvency that it was designed to prevent.

2.  Then again if the banks are insolvent, the country's government broke and the EU unwilling to completely foot the bill, what choice do they have.

3.  If I was a Russian Oligarch, I'd be calling/bribing/threatening every member of the Cypriot Parliament that I could get my hands on or I could get to answer a phone.

4.   So far, particularly here in the US, markets have shaken this off.  Stocks fell yesterday morning abut came back as the day progressed.  Futures are up here today and Europe is positive so for now markets are looking through this event.  I think the verdict is out till we get through the end of the week, see what happens over there and see what happens when their banks reopen.

5.  What have I done so far?  Nothing.  A one day event is not necessarily the reason to take action.  We're guided by our indicators, the playbook and the game plan.  When they tell us to do something we do.  To quote Jim Cramer, "Nobody's ever made a dime by panicking".

6.  As to the point above, it may be that Cyprus marks a high of some point in the market although the jury is out on that.  What should be noted is that Cyprus won't be the cause of a market decline.  It may be the straw that breaks the camel's back in terms of an event that finally changes market sentiment.  If the market is going to begin a new phase here, it will be most likely because the weight of the overall evidence finally turns the table.  So far we've seen no evidence of this.

Cyprus

Cyprus (a tiny EU country with a GDP 7% of Greece or a country that has a GDP smaller than Shreveport, LA} applied for a bailout over the weekend from the EU.  The terms they received are starkly different than places like Ireland, Greece and Italy.   In addition to the customary bank bailout by the EU, depositors of Cypriot banks are going to be taxed.  The taxes on savings accounts as originally proposed were a tax of 9.9% on amounts over 100,000 Euros and 6.5% on amounts under that amount.  As of this writing, the tax number for amounts under 100,000 euros is under negotiation and could be lowered.  

Lot's of chatter over the weekend and today on whether this is a tax or confiscation of assets, on whether this will lead to a run on banks in other countries on the European periphery or even if this means that Germany calls all the shots.  You can go to any financial website and rapidly get an idea of what's going on.  Cyprus has long had a history of being a haven for money launderers so this is undoubtedly one of the reason the EU is going after the depositors.  World stock markets have not taken this well, being down about 1% for the day.  That's also about what the US is set to open down.

Only time will tell if this is a one off event or the beginning of something bigger.  It's hard to know at this stage where this goes.  What I do know is that this is happening at three critical junctures for stocks.  The first is that the Dow has just hit new all time market highs and the S&P 500 is bumping up against it's old high.  These are both milestones that many thought could lead to some profit taken.  The profit takers now have their excuse.  

We are also near the beginning of the period where seasonal trends begin to work against stocks.  Late spring to early autumn is statistically a harder period to make money than the fall winter time frames.  Finally markets are very over bought in all three time frames that we measure so either a pause or some form of correction could be expected here anyway.  These things usually need a spark.  

It's hard to know if Cyprus is that spark.  Certainly world markets haven't liked what they've seen today.  This was an unexpected and unlooked for event so it's understandable that markets would have reacted in a negative manner.  It will be how markets react in the following days that will be important. That's the weather gage we'll use here.  One thing I'll throw out.  If world markets shake this off and are higher a week from now, there are many out there that may have to reevaluate their overall economic views.  If markets shake this off then it will likely mean that investors see global economic growth as better and that will likely trump these events.

Stay tuned.....

*Long ETFs related to the S&P 500 in client and personal accounts.  Long ETFs related to the Dow Jones Industrial Average in certain client accounts.

Beannachtaí na féile Pádraig!

Beannachtaí na féile Pádraig!

Happy St. Patrick's Day Everybody! 

From Going My Way {1944}

Fun Facts About the Irish {Reprint}

People seem to have liked this post over the years so I tend to reprint it during the season.  {No dancers anymore-brings a dad sometimes to tears!  However the Sheila Tully Irish Dancers will be likely somewhere near the front of the parade come Saturday.}

From Solas! March 10, 2006! 

We are smack in the middle of that time of the year known as St. Patrick's Day. The only "day" that I know that somehow extends itself into a "fortnight".In addition to the duties of Lumen Capital Management, I will be chasing my daughters around the Chicago area as they do the Irish Step Dance thing. Posting may be brief in the next two weeks because of this. You can look for us in the Chicago Official St. Patrick's Day Parade tomorrow. We will be with the Sheila Tully Irish Dancers, #31 in the parade.

To honor the date I thought I'd throw in 10 facts about the Irish, the parade or about Ireland which are not well known. Just trying to have some fun with the season and we will get back to more serious matters soon. Irregardless if you are 100% Irish, part Irish (like my family) or just Irish For The Day- Cead Mille Failte!

1) Ireland is slightly larger than West Virginia. If it were part of the U.S. it would rank approximately 19th in terms of population between Wisconsin and Maryland according to 2000 census figures.

2) The Gross Domestic Product of the U.S. is in excess of $11 Trillion dollars & is ranked 1st in the world. Ireland is ranked 30th at $183 billion dollars. Chicago's GDP has been estimated at around 380 Billion.

3) According to the Chicago Tribune, "Corned Beef and Cabbage" is an Irish-American staple and more Budweiser is consumed in Ireland than Guinness.

4) Musicians with Irish ancestral ties include Paul, McCartney, John Lennon & George Harrison of the Beatles; Bruce Springsteen & Keith Richards.

5) 16 American Presidents have Irish Ancestry. This list not only includes obvious Presidents suchas Kennedy and Reagan but also includes Andrew Jackson, Both Bush's & President Clinton. Every elected President since 1960 claims Irish ancestry. {As a note this string now is 17 because President Obama can claim Irish ancestry.}

6) New York City has the largest St. Patrick's Day parade in the world. Last year more than 150,000 marchers participated and it attracted roughly 2 million viewers. That is roughly 500,ooo more souls attended the parade than the combined populations of Dublin, Belfast, Limerick & Cork.

7) Michael Flatly of Riverdance fame is credited with popularizing Irish Step Dancing around the world. It is widely assumed that Flately is a native of Ireland but in fact he was born and raised right here in the Chicago area. Perhaps because of this it is claimed that over 100,000 young women in Chicago and its surrounding environs actively participate in some form of Irish Dance.

8) George Clooney, Harrison Ford, Mel Gibson, Gregory Peck, Barbara Stanwyck, John Travolta, Spencer Tracy, Judy Garland & John Wayne all had Irish ancestors.

9) Guinness & St. Patrick's Day seem to go hand in hand. (At least they do in my neck of the woods). They also have a side business of that World Record Book. Almost 2 billion pints of Guinness are served each year. More Guinness is served on St. Patrick's Day than on any other day of the year.

10) Finally the best for the last. It is claimed that Ireland has never had a population greater than about 8 million people. The Irish have emigrated all over the world. The majority of their descendants are found in Canada, the U.S., Australia, New Zealand and the United Kingdom. 45 million Americans claim Irish Ancestry. Their descendants can also be found in more unexpected places like Chile, South Africa, Mexico, Argentina and even China. Former Mexican President Vincente Fox is of Irish ancestry. Altogether it is estimated that perhaps as many as 80 million people can trace some part of their family tree back to Ireland. This is over fourteen times the population of the island of Ireland itself!

Dia dhuit.

The Revolution WILL Be Televised

When I was a kid there was a saying which came out of the 1960's counter-culture that "the revolution would not be televised".  With all due respect, they were wrong.  Look at these pictures from the Vatican upon the announcement of both Pope Benedict in 2005 and Pope Francis in 2013.  Pictures come by way of BusinessInsider.com.

2005

                                                                                                                             REUTERS/Kimimasa Mayama

2013

                                                                                                                             AP

Link:  Business Insider.com Vatican 2005, 2013.

CNBC: An Update

Saw this New York Post article about declining viewers over @ CNBC courtesy of Doug Kass over at RealMoneyPro.com {Subscription required}.  We did our own analysis of CNBC about nine months ago here.  

By the way the best business programming by far today is Bloomberg Surveillance hosted by Tom Keene but it comes on too early for most people in the midwest.  In my opinion CNBC has about two hours of programing that are worth watching.  These are what's on between 7:30-9:00 AM Chicago time and the first half hour of Fast Money which comes on here at 4:00 PM.  Cramer's first fifteen minutes of Mad Money is also sometimes worth watching.  The rest of their programming in my opinion is mostly filler.

.....And most TVs that you see during the day tuned to CNBC still have the volume turned down.

I'm out tomorrow.  Something to do with that St. Patrick's Day weekend thing.  No Irish Dancers anymore though.  My girls are too old and have started to fly the coop!  

What If Things Are Getting Better?

We have for over a year asked the question, "What if things are getting better?"  We have long felt that investors have been ignoring the possibility of better than expected economic results.  We are currently seeing concrete economic news that housing is on the mend.   There is the new energy boom that is a transformative event for the US economy.  Finally all that gloom and doom talk about the end of the year increase in payroll taxes seems to not be having the effect that many expected as US retail sales increased 1.1% last month, sharply higher than expectations and the largest increase since last September.

Now the investment community seems to be coming around to our point of view on this.  Business Insider.com reports this morning that Morgan Stanley thinks we may be closer to the end of this five year economic crisis.  Morgan analyst Vincent Reinhart per an article in Business Insider notes the coming inflection point for the US Economy:

In the Morgan Stanley forecast for the US, the trajectory of economic activity marks an inflection point midway through 2013. The severe financial crisis of 2008-09 necessitated significant downward adjustments by the private sector to the levels of aggregate demand and efficient supply. As the event recedes further into history, however, the drag on growth from these ongoing level adjustments plays out.

In our forecast, the expansion of real GDP steps up to around 2-3/4 percent in the second half of this year and beyond. Indeed, the resilience of the private sector in our market economy probably would have been more evident by now had not Washington politics intruded. Uncertainty about fiscal policy last year and the reality of budget consolidation this year places the US currently in the middle of three quarters in which real GDP growth averages about 1 percent.

It is hard to say with a stock market up nearly 10% for the year how much of this kind of thinking is already baked into stocks.  One intriguing thing to think about is that as fears of the financial crisis sink into the past whether stocks will command a higher price multiple.  For example during much of my investment career it was not uncommon to see stocks trade with a 16 PE on forward estimates.  A multiple expanding environment is not unreasonable to assume where interest rates are so low and expectations for a stronger and more viable economic expansion begin to be established.  A 16 PE on our 106.50 end of the year S&P 500 estimate would give you a price target of S&P 1,700.  Not saying that's going to happen and that is not our expectation at this time.  However, it is something not beyond the realm of possibility if we continue to see further improvement in the economic tone.  It is a much higher likelihood if Washington gets its act together on the budget, the deficit and taxes.

By the way if the economy does start to expand at something beyond our 2% GDP expectations for this year then it is probable that our current S&P estimate is too low.

*Link:  Business Insider.com:  Economy At an Inflection Point?

**Long ETFs related to the S&P 500 in client and personal accounts.

Valuation {03.12.13}

With the S&P 500 near all time highs {the Dow's already surpassed it's older higher notches}, it's time to step back and take a look at valuation.

The S&P 500 is up just slightly under 10% for the year closing last night at 1550.  Using our $106.50 year end 2013 estimates for the index it currently trades with a 14.55 PE and a 6.8% earnings yield. A 15 multiple on our earnings estimates yields a price target of roughly 1,600 on the index.  Our year end price estimate based on our $106.50 earnings estimate is S&P 500 1,625.  We are about 5% lower than that right now.

Current Wall Street estimates for the end of this year on the S&P range between 108-112.  If we take a mid-point of those estimates then stocks currently trade with a 14 PE and a 7% earnings yield based on those year end numbers.  A 15 PE on 110 in earnings equates to a year end stock valuation of 1,650.

So far this year stocks trade in a pattern similar to last year when they broke fast and hard higher out of the gate, gaining about 8% by this time in 2012.  If stocks trade in the same pattern then they would top out in the next few weeks and ultimately give some of these gains back between now and early summer.  There is no guarantee or reason to suggest that stocks must trade in the exact same way as last year.  However I will note that we are statistically much closer to the six month period of market weakness that typically exists between April and sometime in the early fall.  Stocks are also very over bought right now.

The one wild card would be if the politicians in Washington are able to cobble together some grand bargain regarding the budget, the deficit and taxes.  If that gets done then stocks have a much higher probability of shooting much higher than most of us currently anticipate.

*Long ETFs related to the S&P 500 in client accounts.  Long ETFs related to the Dow Jones Industrial Average in certain client accounts.

An Investment Thought

As I was walking out the door I found this scrap of an investment thought on my desk.  I know I read it from somebody else but I don't have the reference.  I will say that I didn't write this although I agree with its process.  I'll share it with you and perhaps refer to it again at a later date.

"Any investment manager is really a risk manager.  Essentially a risk manager's job is to create an option on profits.  This is done in such a way so as to protect finite capital."

Anyway I didn't say this so I'll apologize again for no attribution as I don't have the original linkage.

  

Oil Boom

I have to be out today.  I thought this Business Insider.com article on how the US energy boom is creating a sea change for the dollar is an interesting read.

Hopefully back here tomorrow.

*Long energy related ETFs in most client accounts.

The Dow In Pictures

From Chart of the Day.com

"Almost four years to the day after the Dow made its ultimate financial crisis low, the Dow officially posts a new all-time record high -- a rather remarkable feat considering where both the market and the economy were not so long ago. For some perspective, today's chart illustrates the trend of the non-inflation-adjusted Dow from 1990 to the present. As the chart illustrates, the stock market has been especially volatile as it navigated through a couple of historic boom bust cycles (i.e. dot-com boom and bust of 1995-2002 followed by the credit boom and bust of 2002-2009). As for the post-financial crisis rally, it stands out for the obstacles that it had to overcome (e.g. housing market plunge, near financial meltdown, European sovereign debt crisis, etc.) with the Dow still being able to more than double since its March 2009 low. All in all, it has been an impressive and resilient performance."

My Comment:  Notice that the volatility has decreased as confidence has returned to the system.  Traders love volatility.  Investors basically hate it.

Link:  www.chartoftheday.com-The Dow.

*Long ETFs related to the Dow Jones Industrial Average in certain client accounts. 

The Idiot Maker Rally

In our winter investment letter we discussed how experts have been wrong in the past few years about this rally in stocks.  In that regard Business Insider.com ran a post yesterday of well known Wall Streeters-experts from both the bullish and bearish camps- who since the market bottomed back in March of 2009 have presented their arguments for why investors should sell.  Now to be fair I have not seen the complete body of each investors work.  I know one instance, Doug Kass, who has been both a bull and a bear during that time.  But it is interesting the shear volume of folks who have been bearish and fought this market on the way up.  It is also interesting that just based on these quotes how many of these well respected experts have been wrong.

Link:  Dow Jones-Idiot Makers Rally.

Dow Jones New High

Close to four years to the date that the Dow printed it's bear market low and despite nearly four years of incessant negativity, the Dow Jones Industrial Average printed a new high this morning.  Nobody knows what will happen the rest of the day but we have now reached record levels.  For those interested the printed low was 6547 back on March, 09, 2009.  The Dow is up roughly 115% since then. 

For my thoughts on this see my last letter to clients which begins here.

*Long ETFs related to the Dow Jones Industrial Averages in certain client accounts.

PEs

From Chart of the Day.com:

"Today's chart illustrates the price to earnings ratio (PE ratio) from 1900 to present. Generally speaking, when the PE ratio is high, stocks are considered to be expensive. When the PE ratio is low, stocks are considered to be inexpensive. From 1900 into the mid-1990s, the PE ratio tended to peak in the low to mid-20s (red line) and trough somewhere around seven (green line). The price investors were willing to pay for a dollar of earnings increased during the dot-com boom (late 1990s), surged even higher during the dot-com bust (early 2000s), and spiked to extraordinary levels during the financial crisis (late 2000s). Since the early 2000s, the PE ratio has been trending lower with the very significant but relatively brief exception that was the financial crisis. More recently, the PE ratio has moved slightly higher. It is worth noting, however, that even with this recent uptick, the PE ratio still remains at a level not often seen since 1990."

Link:  www.chartoftheday.com: PEs
*Long ETFs related to the S&P 500 in client and personal accounts.

Byron Wien

We'll continue with the list theme today to start a new week.  Investment legend Byron Wien recently discussed his lessons learned from his first 80 years in the investment business.  Here's the list excerpted courtesy again of Pragmatic Capitalism.com:

Concentrate on finding a big idea that will make an impact on the people you want to influence.

Network intensely.  Luck plays a a big role in life.  Meet as many people as possible.

When you meet someone new, treat that person as a friend.

Read all the time.

Get enough sleep.

Evolve.

Travel extensively.

When meeting someone new, try to find out what formative experience occurred in their lives before they were seventeen.

On philanthropy my approach is to try to relieve pain rather than spread joy.

Younger people are naturally insecure and tend to overplay their accomplishments.

Take the time to pat those who work for you on the back when they do good work.

When someone extends a kindness to you write them a hand-written note, not an e-mail.

At the beginning of every year think of ways you can do your job better than you have ever done it before.

Never retire.

Links:  Byron Wien's 14 Lessons {Pragmatic Capitalism.com}
Byron Wien's 14 Lessons {Blackstone}

10 Investment Rules

Years ago Bob Farrell developed ten great investment rules.  The folks over at Pragmatic Capitalism.com a few weeks ago did a visualization to those rules.  I think it's a good read & I think you should follow the link at the end of this post and give it a once over.  The article is too long to excerpt so I'll give you the 10 rules and send you over to them for the meat of the whole thing.

1.  Markets tend to return to the mean {average price} over time.

2.  Excesses in one direction will lead to an opposite excess in the other direction.

3.  There are no no eras-excesses are never permanent.

4.  Exponential rapidly rising or falling markets usually go further than you think,  but they do not  correct by going sideways. 

5.  The public buys the most at the top and the least at the bottom.

6.  Fear and greed are stronger than long-term resolve.

7.  Markets are strongest when they are broad and weakest when they narrow to a handful of blue chip names.

8.  Bear markets have three states-sharp down, reflexive rebound and a drawn-out fundamental downtrend.

9.  When all the experts and forecasts agree-something else is going to happen.

10. Bull markets are more fun than bear markets.

Link:  Visualizing Bob Farrell's 10 Investing Rules.