Some End Of The Year Thoughts

In no particular order are some things that have been going through my head as the year runs down.

1.  Most Wall Street prognosticators foresaw 2014 as being a year of low market returns {S&P 500 will likely go out with double digit returns}, rising interest rates {interest rates declined}and when they had a forecast on oil generally saw it trading much higher than where it currently rests.  Lesson:  Don't listen to prognosticators unless they are speaking in probabilities.  Even then accept the fact that much of what they think will occur will likely be wrong.  That includes probably me as well!

2.  In conjunction with a low return world, 2014 was also supposed to be the year when stock picking returned to the forefront.  Stock pickers were walloped once again by plain old vanilla indexing.  Probability suggests we'll see more of this next year irregardless of how the markets do.  There's simply too much friction in the active management world.  Taxes, turnover, spreads single stock events friction of trading are a constant drag on performance.   No elixir seems to be out there that takes away these inevitable nicks to performance.

3.  The world is trying to go someplace, trying to find some new sort of order.  You see this with the events in Ukraine, the Middle East, China and now even Cuba.  Hard to envision where this is taking us or what kind of impact this will have on markets next year and in the long run.  Probability suggests that events outside of our borders will likely be a larger driving influence on stock prices in 2015.  We'll talk more about this next year.

4.  If the last few months are any indication then we will likely see more volatility in markets in 2015.  Put on your seatbelt folks because the roller coaster may return next year.

5.  I'm in David Rosenberg's camp.  "Anybody who says they know where oil is going is either a liar or delusional."  That said there are structural changes in not only the energy markets but the way energy is being produced and consumed that may begin to be felt in other ways next year besides the price of oil.  This is something else we'll plan to discuss in 2015. 

6.  While the year isn't over yet, it's unlikely that any S&P sector is going to replace energy as the year's worst performer.  Probability suggest that energy won't be in the same boat come the end of 2015. 

7.  The US economy continued to improve in 2014.  Probability suggests it should continue to grow in 2015 as well, maybe for the first time consistently growing at a better than 3% clip.  The decline in gas prices has the potential to be a huge economic tailwind if it continues.  

8.  A 3% gain in GDP is supportive of stock prices at current levels, all else being equal.  We are working on our economic analysis for 2015.  Our current thinking regarding our cone of probability for stock prices  by year end 2015 is 1,700-2,400 on the S&P 500.  That's a much bigger range than normal, reflective of the potential for much more volatility next year.  I think we have the possibility of hitting all these numbers in 2015 and maybe more than once for some!  Treat these thoughts as preliminary and we'll be back with more details on this in January.   

9.  Probability also suggest that foreign markets {which have also stunk up the joint again this year} have the potential to outperform the US next year.  I've now felt this way over the last four years.  Someday I might even be right.

10.  Finally a time to say thank you and to also say a few words about all of you.  I do not write this blog for thousands.  It is written solely for the clients and friends of my firm Lumen Capital Management, LLC.  Anybody is of course welcome to read what I put out over the web, but you, my clients and friends, are the only audience that matters to me or that I'll pay attention to.  So today I'll say a big thank you to each and every one of you.  Many of you have been with me long before I started on my own.  Others came later and others followed me through a couple of brokerage firms  and stuck around during the dark days of two very long bear markets.  I'd like to think I've rewarded that patience.  I know I'm constantly rewarded by your friendship.  

I have client relationships that now go on decades.  In that case, as inevitably happens, a Higher Authority calls some of us home.  This year I must say farewell to Mrs B. I hope your reunion with the family was glorious.  On other fronts, I will also light a candle for Mrs. Miniver {Not her real name but she'll know who I'm talking about},  Ms. Helen in the northern "burbs",  my buddy David, and Mrs. SC in Indy-thankfully the other car was a foot too short.  Finally I'll leave a lantern out for a very good friend of mine who shall remain nameless but has been walking for a long time in darkness.  It is my sincere prayer that he finds his way out of the shadows in 2015.  

For the rest of you once again thank you.  We're going to take some time off until after the first of the year.  There's going to be a few new things to discuss then, along with a few new initiatives.  Happy Hanukkah, Happy Holidays and Merry Christmas.  Here's to a prosperous 2015 to us all.

God Bless and be safe into the new year. 

An Update On Various Markets

Just in case you've been living under a rock for the past six weeks you probably know that oil has plunged.  The winner of that scenario has been consumers.  It costs a lot less to fill up a car these days then it did even three months ago.  But there are downsides to that, particularly in those parts of the  world where exporting petroleum products is a sizable portion of the budget.  Markets initially focused on the good news aspect from the oil patch, but in the past week or so has increasingly looked to the economic downside.  As such markets have been in a classic "risk off" mode while trying to figure out what's been going on.  I'll have more thoughts about this on Friday but today I wanted to show you the monthly returns of various asset classes as represented by ETFs we follow.  Charts are from Stockcharts.com.

First chart shows some of the major market indices we follow.  Not so bad, showing basically a run of the mill sell off that could easily be attributed to a market that was overbought.  Take a look at emerging markets {far right of the graph}.  These have just been taken out and shot.  Other measure of fear to note is what's happened to the junk bond market.  

Another view of foreign markets.  Treasuries have done well.  I find it interesting that gold has barely budged during all of this.

US S&P 500 market sectors.  Take away energy and the overall market here has held up better than most.

Markets, particularly overseas indices, are over sold enough now that probability would suggest a bounce of some sort.  There are also the end of year seasonal aspects to consider.  That being said, stocks have tried to rally at the open for the past several days and have been sold down during the day so we'll have to see.

*We are long various ETFs depicted above in client and or personal accounts.  Positions can vary in accounts depending on account strategy and the unique risk/reward characteristics of our clients.

Market Sectors

Bespoke Investment Group updated their S&P 500 market sectors on Friday.  Below are the ten major  market sectors by their percentage in the index.

Technology, financials and health care are the three largest components in the index.  Health care with a 17% performance year-to-date is also the best performing sector in 2014, followed by utilities {15.7%} and then technology a distant third {roughly 7%}.   Energy is way down now and has lost nearly 24% of market value in 2014.  

*Link:  Bespoke:  Big Shifts in S&P 500 Sector Weightings.  

**Sector performance date is from Stockcharts.com.

+Long ETFs related to the various sectors shown above or long these via exposure to ETFs related to the S&P 500.

Things Are Getting Better: Consumer Gains Edition.

In the "Things Are Getting Better" Department see what Dr. Ed. Yardeni had to say a few days ago about the impact of falling oil and gasoline prices on consumers{Highlights mine}: 

"According to the WSJ yesterday {12.09.2014}, the IMF is raising its forecast for US growth next year to 3.5% from its last estimate of 3.1%, partly because of expected lower energy costs. The nearby futures prices for gasoline and heating oil are down 45% and 33% from their summer highs. Last year, consumers spent $371 billion on gasoline and $27 billion on heating oil. So they could save a total of about $175 billion, or $1,510 per household at an annual rate." 

Again folks that's real money.  A lot of that is going to be spent on the holidays and poured back into the economy next year as long as gas and oil prices stay low.  How long these prices will last is the real question.  Oil at these levels also has certain negative effects but we'll leave that for another time and at least for now enjoy those extra dollars in our pockets when we fill up the car.  

Link:  Yardeni:  Big Windfall for US Consumers.

Rebalancing Portfolios

There is a long standing practice in the investment business of rebalancing portfolios.  That is when for example a portfolio that is 60-40 stocks to bonds, due to changes in the marketplace becomes tilted too much in favor of one asset class or the other {i.e. it may now be 70-30 stock to bonds.}.  Many in the financial planning industry favor rebalancing these portfolios back to plan.  I have always had a hard time believing this needs to be done on either some formulaic basis or quarterly plan.  If nothing else, it is possible to incur sizable capital gains in taxable accounts.  This is especially true as the stock market looks at roughly two and a half years of fairly sizable gains.  

In that vain I found this article via "Marketwatch.com" yesterday of somebody else that agrees with me about rebalancing albeit while coming at this problem from  a different angle.   "According to a new study by Campbell Harvey, a finance professor at Duke University, and four co-authors from the London-based investment firm AHL-Man Group. Whenever the market is in a longer-term up or down trend, rebalancing actually increases risk, particularly downside risk. That’s because, when you rebalance, you take money away from the better-performing asset class and reinvest it in the poorer-performing one. If those two asset classes’ relative strength persists after the rebalancing, as they often do, you’ll end up worse off than if you had not rebalanced."

The article is an interesting read.  You can find it here:  Marketwatch.com "The Hidden Truth About Rebalancing Your Portfolio.

an tSonna {12.08.14}

Long time readers here know that I have been positive on international equities for quite some time, having last talked about it here.  I will also be the first to admit that that love affair has mostly been a one way relationship as international markets will for the most part disappoint again in 2014 when compared to the US market.  There are however signs that may be changing.  India has a stock market that has been on fire and China has broken out of a long term downturn that dates back to 2008.  

Bespoke Investment Group posted this chart of the Shanghai market last week.  They noted that the Shanghai market has now broken well above this downtrend line.  They note that Shanghai has had a great year and some pullback may be possible in the short run but they also point out that this type of break out is generally very bullish because "when a long term trend breaks it can have a powerful effect on prices".

I'll note that the Shanghai market has done better than most of the ETFs that you can invest in here that have money in China.  That's because the Shanghai index generally tracks Chinese A shares which until recently have been hard for non-Chinese to invest money.  However, probability suggests it's likely that a rising boat in China will begin to have a more positive on the more investable Chinese ETFs such as GXC and FXI.  Also access to Chinese A shares is starting to open up to outside investors.  You can read more about the Chinese A share market here.  {Please note that the I do not own any of the newer ETFs listed in that article and have no opinion of them.}

*Long ETFs related to Asia markets that own shares in Chinese equities.  Also long GXC and FXI in certain client and personal accounts.  Please note these positions can change at any time.

Link: Bespoke: Classic Downtrend Break in Shanghai

Schedule Change

I'm going to put out a posting schedule change that we'll run through January 15th.  Beginning tomorrow we'll commit to posting Monday, Wednesday and Thursday.   Right now I'm really swamped in the business aspect of Lumen Capital Management, LLC and I'd rather put out product that's something worthwhile for readers than just try to find a certain amount of filler.  Also it's the holidays and frankly most folks thoughts will be on something besides the gyrations of the markets between now and year end.

We will of course break from that schedule if events warrant but for now expect to see three posts a week.  We'll see how that goes and evaluate what to do going forward come January 15th.  

Happy holiday season.

Still At Sea

USS Arizona {BB-39} departed Naval Station Pearl Harbor 0806 hours Hawaii time December 7, 1941.  Sill listed at sea by the United States Navy.

If US States Were Individual Countries. {By GDP}

Top Countries by GDP

United States                          16,244,600

China                                        8,227,103

Japan                                        5,961,066

Germany                                  3,425,928

France                                      2,611,200

United Kingdom                      2,475,782

Brazil                                       2,252,664

Russia                                      2,014,775

Italy                                          2,013,375

California                                1,958,904

India                                         1,858,740

Canada                                     1,779,635

Australia                                   1,532,408

Spain                                        1,322,115

Texas                                        1,308,132

Mexico                                     1,178,126

New York                                1,157,969

South Korea                             1,129,598

Where the rest of our top 10 states with highest GDP would rank in the world if they were individual countries.

Florida {17-Between Indonesia and Turkey}

Illinois  {19-Between the Netherlands and Saudi Arabia}

Pennsylvania  {20-Between Saudi Arabia and Switzerland}

Ohio     {22-Between Iran and Sweden}

New Jersey {23-Between Ohio and Sweden}

North Carolina  {24-Between Norway and Poland}

Virginia {26-Between Belgium and Argentina}

Mississippi is by any measures one of the poorest states in the US but it actually ranks 35th by GDP and would be the 60th wealthiest country in the world if it were an independent nation.  If the states that comprised the old Confederacy were an independent nation, they would have the 4th largest economy in the world {that assumes their growth trajectories had remained the same}.

The genius of the American system is that each of these states is part of a larger whole.  Not only are there no barriers to entry among states but our federal system means these states don't have to replicate all the  infrastructure of a sovereign nation.  No state for example needs to have it's own postal service or foreign office.  Most importantly no state in our system has to have its own military.

Source: Peter G. Peterson Foundation.

We spend more on defense then the combined purchases of the next eight countries but each state's share of that is much less on a percentage basis then if they had to build their own.

Source:  Wikipedia.

         

Important Thought about Estimates.

Morgan Housel, “All valuation estimates are just that — estimates. They’re an attempt to predict a future that, in reality, cannot be known.”  (Motley Fool)

Performance Across Various Asset Classes

Year to date performance charts showing different asset classes that we follow by ETFs.  Charts are from Stockcharts.com.  You can double click on each to make them larger.  The first chart below shows the various sectors in the S&P 500.  The S&P 500 may be up nearly 14% in 2014 but it is a very narrow rally carried by "Big Cap" technology and health care names.  Low interest rates have goosed utilities while the decline in oil has butchered the oil patch.

In this subset of our asset class universe you can see that "Big Cap" stocks across different indices are the belles of the ball {S&P 500-SPY, NASDAQ-ONAQ & Total Market-VTI} along with REITS {VNQ}.  Global markets have struggled.

Below we see that emerging markets have done better then their press has suggested as have 20 year bond ETFs.  Other bond funds have seen mediocre returns.  Gold along with other commodities has hit the skids.

*We are long various ETFs depicted above in client and or personal accounts.  Positions can vary in accounts depending on account strategy and the unique risk/reward characteristics of our clients.

Energy: Gasoline Prices

I lied about posting today.  I'm back today but will be out tomorrow so the next time you'll see me here will be Wednesday now.  This is from Chart of the Day {Paywall}.

"As a result of an overall sluggish global economy plus increased global supply, the price of crude oil continues to trend lower. Over the past seven months, the cost of one gallon of gasoline has declined a significant $0.88 (i.e. 24%). Today's chart provides some long-term perspective in regards to gasoline prices by presenting the inflation-adjusted US price of one gallon of gasoline since 1980. There are a few points of interest. For one, geopolitical crises are often associated with major swings in the price of gasoline. It is also worth noting that, since the financial crisis, the resulting peaks of gasoline price spikes have been decreasing over time (see downward sloping red trendline). In the end, the recent plunge has brought gasoline prices to five-year lows."

My thoughts:  We talked last week about the potential significance of this decline on consumers.  Let me put this in a real dollars and cents case.  I traveled over the holiday down to Indianapolis.  I filled the car up before I left once down there and topped it off at a Costco just outside of Chicago on my way home.  Since I've made this trip countless times over the past twenty-something years I have a very good idea of what it costs to do a round trip to Indy.  I figured that I saved myself nearly $25 on gas.  That folks is real money in your pocket.  My guess is that you can look for some of that to be reflected in better holiday sales this year.

Link:  Chart of the Day:  Gasoline.