The Market Continues To Climb A Wall Of Worry

As I write this 10 minutes before the market opens after the Memorial Day weekend, the Dow Jones Industrial Average stands at 16,606, down a mere 110 points from the record high established on May 13. On the other hand, the Dow Jones Transportation Average registered a new high of 7,986 on Friday, the same day the S&P 500 closed over 1,900 for the first time. So as you can see, things are remarkably good. Yet if you listen to the news or watch the TV, the mood does not match the reality. It appears to me that the majority of market observers are negative on the market. The commentary continues along the themes of fear and caution with many “experts” suggesting that the market is primed for a collapse. In the face of all this general pessimism, the market continues to gain ground, or “climb a wall of worry”. If sentiment remains this gloomy while the market remains at such lofty levels, I believe the market will continue to rally to ever higher levels.

Indeed, I believe that the market should end the year higher than it began, perhaps by as much as 10%. With that overarching belief in mind, I remain fully invested in my own accounts and on behalf of my clients. I don’t attempt to trade the short-term movements; rather, I look to buy the securities I want when opportunities present themselves. And I only buy things I believe will out perform the broad market for at least the next three- to five years. If I don’t have that confidence, I don’t buy it.

I also think that the battering endured by the biotech and high growth technology sectors may be over, suggesting that it could be time to nibble at some stocks in those sectors. Many prior high-flyers dropped between 25% and 50%, or more in a very short period of time. It also may be time to look at some downtrodden housing stocks as the housing numbers are expected to perk up over the next few months. Finally, as a core holding, the value sector, as represented by dividend-paying, blue chip stocks continues to be a smart place to put your money for excellent long-term returns. Indeed, that’s where the bulk of my own money is invested.

Tech Stocks Going On Sale

There is a sale going on right now in technology stocks: are you buying? Since hitting a high on March 6, the tech sector, as represented by the NASDAQ, has dropped 6.25%. More recently, the index has dropped 4.58% in just the past four trading days alone. Previous high-flyers like FireEye (FEYE – down 49%), Twitter (TWTR – down 43%), Rackspace (RAX – down 38%), Yelp (YELP – down 32%) and Netflix (NFLX – down 25%) are just a few of the examples of the recent carnage.

So what’s a growth investor to do? Do what I do: make a list of the stocks you’d like to own, along with an entry point at which you would start to buy. If a stock you want falls into the buy range, don’t buy a full position right away. This way you’re protected in case the price continues to fall. Consider buying in three equal tranches to build a full position.

Unless you’re a seasoned growth investor, be careful about which stocks you go after. You may want to pass on those trading at triple-digit multiples, or without earnings of any kind. These “story” stocks can be incredibly volatile and short-term losses can be severe. Just take a look at the chart for 3D Systems (DDD). If you can’t stomach the ups and downs of that rollercoaster ride then perhaps you may want to look at more seasoned at companies like Amazon (AMZN), Mastercard (MA) or even Facebook (FB).

Whatever you choose, go in with the understanding that you may have to be patient as you wait for the sector to recover. If you manage your expectations, and invest a reasonable amount of money (probably starting at 5-10%) then this could be a good time to dip your toes in the high growth arena.

 

*Disclosure: Werlinich Asset Management, LLC owns small positions in NFLX, AMZN and FB.

It’s Still Not Time To Panic

Even though the market has dropped for four straight days, with losses on the Dow Jones Industrial Average (#DJIA) yesterday exceeding 200 points, it still isn’t time to panic. It would appear that, once again, the turmoil is principally related to the unrest in the Ukraine, with additional worries about stagnating growth in China.

The bottom line to me is that all of this is simply noise. What investors should must focus on is that economic growth in this country is modest but stable. The Federal Reserve remains committed to a slow and steady program of tapering their bond buying program while maintaining low interest rates well into 2015. And the federal government has managed to create a budget compromise that means stability for the next two years. All of this suggests that the market should continue to move generally higher, albeit in fits and starts.

So what should investors be doing? You should be maintaining whatever allocation you have to equities, and buying quality positions on dips. Look to add to the defense, transportation, technology and medical sectors. I would also look at industrials, agriculture and banking as well. Bond-like investments in REITs, BDCs and even utilities can add additional yield to certain portfolios.

I’m not suggesting that anyone take on more risk than they’re comfortable with. Everyone should be invested such that they can sleep at night. That being said, I believe that this is still a good time to be invested in the stock market; it’s not time to sell.

I Hope You Didn’t Sell Last Month

Last month I wrote a blog entitled “Don’t Panic” on February 5 in which I stated that “I believe that this is simply a long overdue correction in a bull market that began in March 2009 and remains in place today.” As it turns out I was fortunate enough to have written this the day that the correction ended. Since that time, the Dow Jones Industrial Average has risen by 6.2% to within a scant 200 points of its all time closing high. At the same time, the S&P 500, the Wilshire 5000 and the Russell 2000 have all exceeded their old records. Clearly, the Bull Market remains in force and that the modest correction has ended.

So where do things stand now? At this moment, the market is still in a clear uptrend. Almost every major stock average is at or near record levels. Treasury yields have stabilized in the range of 2.60 – 2.80%. The value of the dollar index has fallen about 5% since last July and is currently trading near its low. This is helping to increase the relative prices of gold and silver, as well as other commodities, like crude oil.

So what should we be doing? All things considered, we sit tight but remain vigilant. There will likely be more one-off events like what’s going on in the Ukraine that will cause the market to slide. I believe that one- or two-day events like that can create short-term buying opportunities. Unless there is a fundamental and abrupt change in Federal Reserve policy with regards to interest rates, or if our economy were to quickly worsen, or should there be a major conflagration somewhere in the world, then the stock market should continue to work its way higher.

As for me and my clients, we remain fully invested in companies that are participating in this bull market. We didn’t sell last month and we won’t panic the next time the market drops a little because we understand that markets go up and down in the normal course of things. We are patient investors with the courage of our convictions. That’s how you build true wealth.

Don’t Panic

As of the close of business yesterday, the Dow Jones Industrial Average was down 1,136 points, or 6.8%, since the end of 2013. The venerable average was down 5.3% in January, which lead many seers to warn that the market would therefore be down for the full year. I’m here to disagree with that sentiment. I believe that this is simply a long overdue correction in a bull market that began in March 2009 and remains in place today.

Quite simply, the fundamentals underpinning this bull market remain in place. Corporate balance sheets remain pristine and profits continue to grow. The Federal Reserve remains committed to keeping interest rates artificially low and will inject liquidity into the system at the first sign of danger. Congress has already passed a budget deal and is likely to approve an amendment to the debt ceiling without a protracted fight. And finally, the economy continues to grow, albeit at a somewhat modest pace. All of this suggests that the stock market should again move higher.

Keep in mind that there are relatively few alternatives to an intelligently constructed stock portfolio when it comes to saving for your future. Interest rates at the bank are actually negative when viewed after taxes and inflation. Government debt is not much better. Corporate debt generally has positive yields, but you’d have to extend the maturities too far into the future to reap any reasonable yields, and in doing so you would incur significant interest rate risk. On the other hand, there are many solid, blue-chip stocks that pay annual dividends of 3% or better and are increasing those payments at rates far better than inflation. Good examples include Pfizer (PFE), Verizon (VZ), Proctor and Gamble (PG) and Chevron (CVX). [Disclosure: All four stocks are among the Top 25 positions held by Werlinich Asset Management] And while you enjoy those dividends, you also have the possibility of long-term capital growth.

For example, defense giant Lockheed Martin (LMT) pays a dividend that yields 3.5% at the current price. And the stock has tripled over the past ten years, which represents an average annual growth of about 12% per year for the past decade. While there is no guarantee the stock will continue that rate of growth for the next ten years, if it only grows at half that rate, the stock could double over the next decade, not including the dividend payments. What bond can give you the same growth potential? [Disclosure: LMT is the 3rd largest position held by Werlinich Asset Management.]

When looked at through a longer term prism, an intelligently managed stock market portfolio remains the best option available in order to save and invest for long-term growth and future financial security. 

2014 Fearless Forecasts – Looking Back and Gazing Ahead

Each year in my January newsletter (“News and Views”) I make a number of predictions about the stock market, the domestic economy and maybe a few key trends. At the same time, review the accuracy, or lack thereof, of my Fearless Forecasts from the prior year. So let’s first see how my prognostications from last year panned out before I make this year’s prognostications. The forecasts are in black and the actual results are in red.

  1. I think the broad markets will be only modestly higher in 2013. Put me down for an 8% gain for the Dow Jones Industrial Average, which means a closing price of 14,156. That, coincidentally, would be six points below the all time high of 14,164.53 from October 9, 2007. I think the S&P 500 will lag the Dow this year, limiting the S&P to a gain of only 6%, which means a closing price of 1,508. As usual, the market will not rise in a straight line. Indeed, there will likely be two corrections of between 5 – 10%. But again, investors who hold tight will be rewarded. I was right about the direction of the market, but not the magnitude. The DJIA finished up 26.5% and the S&P 500 ended up 29.6%. There were three corrections of between 5 – 10% (they were each around 6%). Buy and hold was definitely the way to go.
  2. I’m confident the Fed will leave short term rates unchanged for the entire year; they’ve already declared as much. I also believe that there will be no more “quantitative easing” plans as the risks of inflation outweigh the concerns about deflation. I think the yield on the 10-year Treasury will stay in a range of 1.50% – 2.00% and the 30-year bond will remain roughly 1.00% higher than the 10-year. Mixed result here. I was correct that the Fed would leave short term rates unchanged and that there would be no more QE. The 10-year Treasury broke above 2% in June, establishing a new trading range between 2.5% – 3.0%. The 30-year bond yield did indeed remain about 1% higher than the 10-year. 
  3. I think the value of the dollar will be lower by the end of the year, after finishing 2012 around 80. Countries all over the world are attempting to devalue their currency in order to bolster their exports and the U.S. is no exception. I expect the dollar index to trade between 73 – 83. I wasn’t too far off. The dollar finished the year right where it started, around 80, after trading as high as 85 and as low as 89 with a primary trading range between 79 and 83. 
  4. I think slower global economic growth this year will limit demand for West Texas Crude, thereby keeping the price down a bit. That being said, I think the price of WTIC will stay for much of the year between $80 – $100, although it wouldn’t surprise me to see it briefly drift as low as $70. This prediction was reasonably accurate as the price traded between $90 – $100 for much of the year, with a three month spike during the summer. There was very little downside movement.
  5. The price of gold has moved higher in each of the last 12 years, even as the rate of growth slowed a bit last year, and I’m confident it will go higher again this year. My upside target is about $1,850 per ounce while the downside is about $1,600. The primary trading range will probably be something like $1,650 – $1,750. I think the price of silver could test $40 per ounce again, but will likely remain in a tight trading range between $26 – $36. I don’t see silver going much lower than $25. Unfortunately, I could not have been more wrong with my predictions for the precious metals sector, which completely tanked last year, as the price of gold plunged almost 30%. Silver fared even worse, finishing the year down about 40% from the high. This one hurt.
  6. The housing market will continue to rally in 2013. Average prices will slowly rise throughout the year as inventory remains very tight. Interest rates will remain historically low, although they will likely be higher by the end of the year. This was mostly correct. The housing market, as represented by the HGX housing index rose 23% in the year. Housing starts increased 11%. New home sales rose 17% but existing home sales were flat. Prices in both new and existing markets rose nicely. Interest rates, although higher than 2012, did remain historically low in 2013.
  7. I think the average rate of GDP growth over the next four quarters will be around 2.0%, which is slightly lower than 2012. Q4 2012 may be the high water mark as the first half of 2013 could struggle to reach 1.75%. The average rate of growth of GDP for the last four quarters was exactly 2.0%, although the good news was that the rate of growth increased all four quarters, accelerating nicely in the second half of the year after a very laggard first half. 
  8. For the third year in a row, job growth, or the lack thereof, will continue to be one the most important domestic stories of the year. The unemployment rate will likely top out around 8.0% and will fall to only 7.5%. The U-6 measure for unemployment, a more accurate gauge of the true unemployment situation, will likely remain in the 14%-15% range. The other big story will of course be the federal deficit. There was solid improvement on the employment front last year. The unemployment rate fell from a high of 7.9% to a low of 7.0% in November, while the U-6 fell from 14.4% to 12.7% over the same period. And the fight over the deficit caused a government shutdown. 

All in all, my forecasts were a bit of a mixed bag, but except for the horribly wrong forecast for gold  I wasn’t too far off last year. And remember, I have no formal training in economics. I’m just someone who closely observes what is happening in the world and tries to apply that knowledge to my investment management business. Anyway, last year is history now; it’s time to look forward, which means a new set of Fearless Forecasts. So without further ado, here we go:

  1. I think the broad markets will again finish higher in 2014. Put me down for a 12% gain for the Dow Jones Industrial Average, which means a closing price of 18,565. I think the S&P 500, with a greater emphasis on tech and growth, could do a little better, finishing up 14%, for a closing price of 2,106. As usual, the market will not rise in a straight line. I expect there will be two or three corrections of between 5 – 10%. One could even be worse than that. But investors who hold tight will be rewarded.
  2. For the second year in a row I believe the Fed will leave short term rates unchanged. I also think the Fed will reduce their bond buying program to at least $40 billion a month by year-end. If they economy is strong enough, they could have it down to zero. The yield on the 10-year Treasury will remain in a relatively tight range of 2.75% – 3.25%.
  3. For two years the dollar index has traded between 79 and 85 and closed the year around 81. Given the reduction in QE, a falling deficit and trade gap, I expect the dollar will be 5% higher, or about 85, by the end of the year.
  4. I think an improved global economy this year will increase demand for West Texas Crude, putting upward pressure on the price. On the other hand, increased supplies from shale drilling will be a drag on prices. Therefore, I expect the price for a barrel of oil to remain relatively range-bound in the $90s for most of the year, with a low of $85 and a high of $105.
  5. After 12 straight years of increases the price of gold fell last year, and fell hard, finishing around $1,200/oz. Longer term, meaning over the next few years, I think gold will move higher. Before that however I think gold will drop below support at $1,200, falling to as low as $1,000.The yearly high is tougher to judge, but I’ll estimate the high to be no better than $1,400.
  6. I expect the housing sector to continue to rally in 2014, albeit at a measured pace as slightly higher interest rates inhibit a faster rate of growth. The volume of new and existing home sales will rise by no more than 5% and average prices will gain slightly less as inventory rises.
  7. I think the average rate of GDP growth over the next four quarters will be around 3.0%, a marked increase from the prior four quarters. I expect the first two quarters to have a higher rate of growth than the second two.
  8. Real job growth, or the lack thereof, will continue to be one the most important domestic stories of the year. The headline unemployment rate could fall as low as 6%, and will likely be no higher than 7%. The U-6 measure for unemployment, a more accurate gauge of the true unemployment situation, will likely remain in the 12.5%-13.5% range. The bigger problem is the dismal labor participation rate, which has fallen to a thirty-five year low of 62.8. That measure must improve in 2014. 
  9. Finally, I don’t believe the mid-term elections will do much to change the political landscape. Congress will likely remain divided. I do expect the The Tea Party to be marginalized as the electorate realizes that a hyper-polarized Congress cannot govern at all.

When Good News Is Really Good News

The Department of Labor today announced that the unemployment rate in October dropped to 7.0% as 203,000 new jobs were added in the month. Almost 300,000 fewer people were counted as unemployed while the labor force participation rate increased, both of which are good things. In addition, the average work week increased a bit, as did average wages. To sum it all up, this was probably the best employment report since the beginning of the financial crisis in 2008.

In recent months, this type of good economic news was often seen by the market as bad news because it suggested that it would force the Federal Reserve to accelerate its timetable to begin tapering QE. Following that logic, without QE to prop up the stock market, equity prices would fall. This convoluted thinking has left us with the backwards reality of “bad is good” and “good is bad” for the past few months.

So as an investor, where does today’s action leave us? At this moment, the Dow Jones Industrial Average (#DJIA) is up 193 points to 16,015. It could be that stock market participants finally understand that it’s good to have better employment; that it’s a good thing to have better than expected GDP growth (the second estimate for Q3 was 3.6%) and that the housing market should not collapse with the 10-year treasury around 3%. I believe that the Fed will not begin to ease before April. And if they do it right, they can reduce their monthly bond purchases slowly enough that it shouldn’t do any real harm to the economy. Indeed, if the economy is strong enough to stand on its own, that’s good for everyone, including the stock market.

Therefore, my clients and I remain fully invested in the market. I expect this rally to extend through the rest of this year and into 2014. And if the rumor is true that Congressional leaders are inching closer to a bi-partisan budget deal on the debt ceiling and the deficit which will include getting rid of the harsh sequester cuts, then we could really be looking at a very bright picture for the stock market for months to come.