Charts-SPY

This is a chart of the S&P 500 ETF {SPY}.  We use this as a proxy for the overall market because this is an easy way that investors can trade the index.  First, there's a lot going on in this chart so you can double click on it to make it larger.  The market despite Monday's sell-off rebounded to where it traded higher on the week!  The question of course is what happens next.  The reality is that nobody knows exactly.  We can though derive some clues as to what might happen by how the markets react to different price levels going forward.

There is an old investment maxim that "price has memory".  In that regard notice that last week stocks went through and touched several older levels of support/consolidation going back to late spring 2014.  Markets tried to rally on Tuesday but instead ran into an onslaught of mutual fund selling in the last 45 minutes of the day.  Markets at least didn't make a new low on that day and then rallied the rest of the week.  Those that follow money flows believe that a key tell for future direction will be how stocks respond to this low.  Many would look for a retest of that level in the coming days/weeks.  If that occurs then the clues investors will meet to be attuned to how the markets react to this test.   A market that breaks decisively to new lows would indicate to many that we are not done on the downside.  However, a market that tests and holds those previous lows would indicate a higher probability that a longer term low has been put in place.  Please note there is no law that says we must head back down.  If this plays out like declines of the past few years then we may have already formed a "V" shaped bottom.   I talked about this on a post directly below on Saturday.  Those prior declines found bottoms almost immediately and then rallied to new highs.  Next I'll take a stab at why probability suggests that won't be the case this time.

Stocks may or may not retest our recent lows but the reason that probability suggests we won't follow through the same pattern from prior declines and rally to new highs can be found in the yellow shaded area in the chart above.  Unlike the previous recoveries, this time we have an almost an entire year's worth of trapped longs.  That is all the folks that bought SPY in and above the yellow shaded area above are underwater on their purchases.  That same reasoning can be found in the charts of many other stocks and ETFs.  Theory suggests that these investors in losing trades are more likely to be motivated sellers as price approaches their breakeven prices.  Thus, there is a sizable area of resistance that needs to be eaten into before this ETF ought to be able to resume its advance.  Theory suggests and past trading indicates that this often takes time to work through.

Now the reality is that stocks can confound any analysis and do what they want and a market that rallies now to new highs would be indicative of a much more powerful bull move.  Theory suggests though that we need to consolidate at some level now below the range shaded in yellow or at the least work our way back into that zone and consolidate.  That may take weeks or months and is anybody's guess in regards to time.  Just trying to tell you what the tea leaves are saying to me.  I'll let you know how this resolves itself going forward.

Chart of SPY is from Stockcharts.com.

*Long ETFs related to the S&P 500 in client and personal accounts.  Please note these positions can change at any time without notice to our readers.

Updated Charts

Here's the beginning of a few updated charts that I promised you last week.  These charts are from Stockcharts.com.

As posted last week, the weight of the evidence that we see does not indicate at this junction that the longer term bull market we've experienced since 2009 has ended.  However. on Monday I'll show you why probability suggests we may not repeat this same pattern of "V" shaped recoveries in the same manner going forward.

*Long ETFs related to the S&P 500 in client and personal accounts.  Please note these positions can change at any time without notice to our readers.

Thoughts {08.28.15}

I will update a few ETF charts over the weekend by Monday at the latest.  It's been a wild week in the markets but I found a couple of charts that might add some perspective to this week.  Note that these obviously do not include today's trading and the markets have opened slightly lower. 

The chart below illustrates the increase in volatility in the past five trading sessions, but for all of the ups and downs in the markets the S&P is down only about 3.5% for the year.  Note though that there are many companies & sectors  in the index that are down substantially more than that.

The reason you may have felt this sell off a bit more has been the extent of this decline or draw down from the most recent  market highs.  As of yesterdays close the market is down a bit over 12% from its most recent high.  You have to go back to 2011 to see a bigger decline.  That turned out to be a pretty good time to buy  US equities although you had to live through some very serious short term pain back then.  

Link: Advisor Perspectives:  "S&P 500 Snapshot:  The Rebound Continues."

*Long ETFs related to the S&P 500 in client and personal accounts although positions can change at any time without notice.

Thoughts {08.25.15}

US and global markets are set to rip higher on the open after China cuts interest rates.   Read about it here.  Looks like everybody is jumping back in the pool today!

Markets in the short-term are oversold enough for us to rally now.  Our intermediate and longer term indicators are more neutral so we are less certain that all of this will be behind us in one day.  There's been substantial technical damage to stocks now of the kind that generally doesn't repair itself in a day or a week.  I'll try to show some examples of this in the next couple of days.  

There were crazy things that went on at the open yesterday that shows just how thinly traded markets are these days.  Prices of stocks and ETFs showed phantom opening prices that were off the charts horrific.  I'm going to spend some time today trying to figure out what went exactly happened.

I invested some of our sidelined cash yesterday as certain securities we follow presented to us what we thought were unique values.  No I'm not going to tell you what I bought except to say that for the most part these were securities that I thought made sense for our total return investment strategies and growth strategies.  Where we invested and the amounts put to work were according to our investment strategies and client risk/reward mandates.  I know we didn't hit the absolute bottom yesterday.  I know these will look smarter today at least at the open.  They may also not have hit rock bottom yet, particularly if we need to retest the lows at some point in the next few weeks.  Again, I don't care about one day returns.  We have a normal time horizon of 6-18 months and the weight of the evidence suggests there's value in these securities out in that time frame.  As usual the market will be the final judge of that.

Back tomorrow or later in the week depending on market actions with some charts. 

Letter to Clients.

I want to give you a quick update on what happened last week in the stock market and to give you my thoughts on what may come next.  In the short run it is possible that stocks will experience more volatility.  World markets sold off dramatically again overnight and our markets are going to experience a large sell-off at the open. Probability suggests that markets will take some time now to heal themselves from the damage inflicted in the past few days.  Never the less current economic data still indicates that the US economy is growing, probably in the 2-3% range. We will not change our view that stocks can continue their longer-term advance over the next 6-18 months as long as these economic conditions in the US persist.  We think this is the beginning of a normal correction, made more painful perhaps by the fact we haven’t seen one in about four years.  Because our fundamental view of the markets has not changed we will look to market weakness to add selectively to ETF positions in our universe that we find attractive.  This is the short version of our thoughts.  Read on if you want a longer explanation of what we think.

The immediate cause for last Thursday and Friday’s decline actually began the week before when China staged a surprise devaluation of its currency.  Because this devaluation was unexpected, markets reacted negatively.  The move along with this summer’s decline in Chinese stocks was seen as confirmation that their economy was weaker than had previously been acknowledged.  China’s slowing economy has been putting pressure on emerging market countries that export commodities such as copper and iron ore.  China has for years been a huge buyer of commodities such as these but has now scaled back on these.

The decline of oil is also weighing on the markets.  At first glance this would seem counter-intuitive as lower prices here at home {particularly at the gasoline pump} are seen as a good thing. But the 60% decline in oil has decimated energy company’s balance sheets and the budgets of exporting countries that rely on higher prices to fund their governments.  The implications of this decline have been eating away at markets both here and abroad all year.  US energy company’s earnings declines have impacted S&P 500 estimates while lower oil has the potential for political and economic instability abroad. 

China’s devaluation brought into focus these concerns and gave investors on the fence an excuse to become more bearish.  This is also all coming to a head in August, the peak vacation season when “Wall Streeters” flee to the beach and markets trade thin.  We’ve discussed with you many times in the past that late summer through October is statistically the weakest period of the year for stocks and so this news couldn’t have come at a worse time.  All of this seems to have caught up with investors and gave us the poor trading sessions we saw Thursday, Friday and over the weekend.  With that as a backdrop let’s discuss what we think is likely to happen next and what we are thinking about your investments.

There is a higher possibility that markets will stage some type of advance this week as we are oversold enough in the short-term that a snap-back rally could occur.  However, there is enough evidence now to suggest that markets may have entered a period of heightened volatility and it is also possible that markets will have to move lower in the intermediate time period before a more sustained rally is possible.  Our markets have spent most of this year locked in a relatively tight trading range, capped to the upside by valuation concerns, with a growing American economy providing a floor to each sell off.  However, that trading range was violated to the downside this past week. That technical damage will likely take some time now to be repaired.  While we are starting to see pockets of valuation emerge, money flows, by our work, do not yet show markets or the majority of our ETF universe to be oversold to the point where we historically have seen a longer term rally. 

Investors want to know if we are on the cusp of something worse.  Are we looking at a market that has the potential to see a much more significant decline, something like the two bear markets we experienced in the last decade? While there is no way of knowing what will occur, the current weight of the evidence suggests this is unlikely.  We would become more concerned if current data was showing evidence of a slowing economy.  Instead what the tealeaves indicate is slow but steady growth.   So far the US has avoided the global slowdown and we think there is a strong likelihood that will continue to be the case.  Of course the markets get the ultimate vote and we will change our opinion if the evidence starts to accumulate the need to do so. In regards to long-term growth, I’ll reiterate part of what we said in our last investment letter to you,

“The weight of evidence continues to suggest that the US economy is still in expansion mode.  Strength in the dollar, muted global demand and lower oil prices has put a crimp on growth.  This has hurt the industrial and energy sectors as well as businesses that rely on exports.  However, lower oil and a higher dollar have muted inflation and has been positive for consumers.  That should sustain domestic demand. 

Our longer-term view of the markets remains positive and is roughly the same as it has been for the past few years.  We believe that there is still compelling evidence that the US economy continues to expand. Employment is increasing on average by nearly 200,000 persons per month.  Americans are voting with their wallets. Car sales for example are still showing solid gains and there are no empty seats on airplanes.  We are still of the opinion which we have reiterated in the past that positive demographic trends, revolutionary developments in energy, continued advances in productivity as rooted in the efficiencies of the knowledge based economy and the continuing age of innovation that we have dubbed the “era of miniaturization” are all longer term positives for the economy.”

We have on average made more sales than purchases in accounts this year and now have higher levels of cash depending on our investment strategies and client risk/reward mandates. We have also reviewed portfolios in terms of asset allocation and will make changes if necessary.  As we’ve said in the past, we have the defensive pages of the playbook handy right now.  Absent a change in the underlying fundamentals, we’ll use the current weakness to add to positions that we believe have reached attractive price levels on a risk reward basis.  In particular we are interested in ETFs with attractive dividend yields and ETFs where prices are compelling due to their business fundamentals.  We will unlikely catch the exact bottom in these prices but will make purchases where these ETFs are showing appreciation potential on a 6-18 month time horizon.    

  

Finally I would like to say something about our work with Exchange Traded Funds {ETFs}.  We use ETFs because we believe that their attributes {low costs, exposure to equity markets without single stock risk, diversification, etc} make them compelling investments especially for individual investors.  However, ETFs will go down when markets decline.  We have disciplines that call for us to raise cash under certain circumstances, but client portfolios will never be 100% out of the markets.   When markets decline as they did last week then your account will also experience a decline.  We know of no method that exposes clients to the market’s gains without some exposure to volatility when stocks decline.  If Warren Buffet can’t figure out how to do this out than neither can we.  However ETFs do take the risk of you betting on the wrong stock horse off the table.  CNBC stated last night that currently 66% of the S&P 500 is in correction mode. That means that 66% of these stocks are down over 10%.  Many stocks are down much more than this.  The S&P 500 itself is off 7% from its highs and down something like 2% for the year as of this writing.  Investments based on an index will eventually find some level where valuation, fundamentals and sentiment will lead to a rally.  That is not always the case with an individual stock.  Because we know that these levels exist, we can develop strategies for dealing with markets when they experience a decline.  These strategies have proved valuable to us in the past and we believe we will get that opportunity again in the next few months or perhaps sooner.

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

an tSionna {08.20.15}

Chart of the S&P 500 ETF {SPY}.  Still locked in the trading range we've seen all this year.  Right now there is of course a negative bias to the market while the gloom and doom crowd is riding herd on Wall Street.  

The bears are growling right now because there's more damage to stocks than meets the eye.  The S&P 500 is a market capitalization index which means that the most highly capitalized stocks pull a greater weight.  Apple as a bigger company means more to the index than  Whirlpool.  If we take a look at an index where all the companies in the S&P 500 carry the same weight then we see a slightly different story.  Below is a chart of the Guggenheim S&P 500 Equal Weighted ETF {RSP}.  It also shows an index mired in a trading range but this has a more pronounced downward bias since the beginning of summer.  That reflects that many stocks related to energy, commodities, industrials or companies with overseas exposure to the dollar have been having a rough go of it.  

My thoughts on what's going on and why some of this may be occurring can be read in the two posts immediately below this one.  I of course don't know what's going on in the short run.  I think stocks are in their most seasonal period of weakness and that's not helping matters.  Also it's vacation time for the Wall Street crowd so markets will be thin through the end of the month.  However,   I will end this on a longer term observation.  Right now the S&P 500 carries a dividend yield just slightly under 2%.  The 10 year US Government Treasury yields 2.10%.  The S&P 500 also in all probability has growth potential {as well as volatility} over the next 10 years.  A 10 year bond purchased at this junction will in all likelihood be under pressure when rates go up at some point and will pay you a rate of return that after taxes will likely not keep up with inflation over that time.   Stocks in general are not yet oversold by our work. Anything can happen but if history is any guide the more likely horse to bet on longer term is the one with the growth.  

Back next week.

*Long ETFs related to the S&P 500 {including RSP} in client and personal accounts.  Apple and Whirlpool are components of several ETFs we own in clients and personal accounts.  Please note that positions can change at any time and without notice to our readers.

Thoughts {08.14.15}

A few observations before the open.

Stock futures are showing slight losses as the markets prepare to open. Assuming we see no acceleration of these declines as the day passes on, then markets will end the week more or less unchanged.   

Folks have asked me if I'm more bearish now than I was a few months ago.  The short answer is no. A slightly longer answer is that I am a bit more cautious in the near term.  Much of this has to do with seasonal patterns than anything I'm seeing in the economy.  August to October is historically a period of seasonal weakness and the Chinese news this week gave those who want an excuse to be more bearish a reason to do so.  That's my base thought.  We've been going through a correction of time in terms of markets this year and it's possible we could see some correction of price in the next few months.  Absent that, the longer term economic news to us seems supportive for us to think that the bull market will remain intact.  If that changes then so will our view of the market's ability to continue its advance.

The folks I know in Rhode Island who work in the investment business are predominately bearish. That, over the years, has been a pretty decent contrarian indicator as to how the year will end.

Finally an interesting divergence that bears watching.  Oil as a commodity continues to slip in price but the energy related ETFs all seem to have put in some sort of bottoms on their charts over a week ago.  They have for the most part moved higher in price since then.  Most were higher even into the global shellacking that stocks saw earlier in the week.  This may be nothing more than a dead cat bounce in these stocks and this is certainly not a recommendation to buy or trade these names.  It is, however, something that bears watching to see if that trend continues going forward.  

Back some time next week.

*Long ETFs related to China in certain foreign and personal accounts.  Chinese stocks are also held in various foreign related ETFs we hold in client and personal accounts.  Long ETFs related to the energy in both client and personal accounts. Note that these positions can change at any time without notice to our readers.

Thoughts {08.12.15}

Breaking in from the "East Coast Office" to try and put some perspective on the recent volatility in the markets.

Yesterday and today's market declines {futures indicate a down open as of this writing} are related to a surprise devaluation by the Chinese of their currency.  China is doing this to boost exports. Investors fear that the Chinese economy is doing much worse than previously thought and also worry about a budding trade war and its effect on U.S. exports.  The effect was stock losses all around the globe in the past 24 hours.  Markets don't like surprises and this one gobsmacked investors yesterday. This of course is a short generalization of what occurred.  You can read more about this here and here if you want more detail.

I don't know why market moving events like this always seem to happen in August.  Maybe it's coincidence, bad luck or bad timing but I'm going to guess that literally half of the years I've spent summer time in Rhode Island has seen a market moving event wash over the transom.  I'd also guess the majority of these are negative.  At some point I'm actually going to figure out how many years this has occurred.  I do know that events like this are magnified because Wall Street is on vacation right now and markets trade thin.

The initial read from yesterday is that this is a negative event.  China's devaluation of their currency allows cover for investors that were on the fence as to stock's short term direction to turn bearish if they want.  That suggests a higher probability of more volatility and potential market weakness in the near term.  As such we have the defensive pages of the playbook right next to the computer.  On average we've carried higher levels of cash depending on our investment strategies and client risk/reward mandates. We also have reviewed portfolios in terms of asset allocation and will make changes where and if necessary.

We use a probabilistic form of analysis based on the weight of the evidence we find from doing fundamental and money flow analysis along with valuation.  That analysis has caused us to have a more neutral short term view {a view we still maintain} for months now.   That neutral view has come from stock valuations being slightly higher on a historical basis.  This has left less potential room for price appreciation than we've seen in the past few years.  Meanwhile the underlying U.S. economic fundamentals have so far acted as a floor for equities, stopping every decline so far from turning into something more significant.  Stocks as represented by the S&P 500 have therefore traded in  a much tighter range this year than we typically see.   Nothing so far leads us to think that this dynamic has changed but it may be subject to certain seasonal issues as well as affected by current news that in the short term has negatives outweighing the positives.

Money flows, by our work, do not show our ETF universe to be oversold to the point where we have typically seen the potential for a sustainable longer term advance. However, we are starting to see this potential in certain sectors of the market.  Probability also suggests now stocks could see a continued period of higher volatility  as markets are trading so thin due to summer.  Also the potential for a deeper price correction cannot be discounted as on a seasonal basis the period between now and early autumn has historically been more prone to this sort of thing.  Having said that,  US economic data continues to show a growing economy {albeit at lower growth rates than most would care to see} and we would need to see a fundamental change in that for us to turn longer term more negative.  Stocks have corrected by time since last November and markets as represented by major indices have mostly traded flat in 2015.

There are those that would counter that market leadership has narrowed with few large companies holding up the indices.  They would be correct.  However, for those of us that invest in ETFs which are based on an underlying index, that fact matters less than to those investing in individual stocks or actively managed mutual funds.   For the most part major U.S. market capitalized index ETFs have held their own this year being roughly flat or showing small losses in 2015.  Also while ETFs are subject to the fundamental traits, directional bias and money flows into and out of their underlying indices, you do not have the single stock risk that comes with owning a portfolio of individual equity names.

We'll stick by what we said in our most recent investment letter about the longer term and will repeat what we sent to clients in late July and published here on August 5, 2015:

We still remain positive on the long-term prospects for the US economy.  We believe stock valuations will become more compelling as earnings catch up to valuations.  While stocks can at any time experience price declines, so far we’ve seen a correction by time instead of price.  The reason for our optimism is that the weight of evidence continues to suggest that the US economy is still in expansion mode.  Strength in the dollar, muted global demand and lower oil prices has put a crimp on growth.  This has hurt the industrial and energy sectors as well as businesses that rely on exports.  However, lower oil and a higher dollar have muted inflation and has been positive for consumers.  That should sustain domestic demand. 

Our longer-term view of the markets remains positive and is roughly the same as it has been for the past few years.  We believe that there is still compelling evidence that the US economy continues to expand. Employment is increasing on average by nearly 200,000 persons per month.  Americans are voting with their wallets. Car sales for example are still showing solid gains and there are no empty seats on airplanes.  We are still of the opinion which we have reiterated in the past that positive demographic trends, revolutionary developments in energy, continued advances in productivity as rooted in the efficiencies of the knowledge based economy and the continuing age of innovation that we have dubbed the “era of miniaturization” are all longer term positives for the economy. 

While we may face more headwinds right now.  There is no law that says stocks have to decline. While a larger price correction is possible, stocks could also continue to correct by time. There is also an old Wall Street adage that says that "stocks will do what they have to do to prove the most amount of investors wrong".  In that vein, it is also possible that irregardless of what our indicators suggest, stocks will move higher, confounding all the experts.  That is not our short term expectation but at the end of the day, the market's vote counts more than our analysis.

We may be a bit more defensive for the coming months when we've often experienced seasonal weakness.  A more significant market price correction also cannot be ruled out at his time, especially since it has been a very long time since the S&P 500 has experienced a correction of 10% or more. However, we are still longer term positive on U.S. markets.  Absent a change in the underlying fundamentals, we'll use any weakness to add to positions that we find compelling, particularly where we find dividend yields attractive on a total return basis.  We will be governed by the game plan for our investment strategies and by individual client risk/reward mandates.

Oh and I also think that China's actions makes an expected interest rate hike by the Federal Reserve in September more open to debate.

*Long ETFs related to China in certain foreign and personal accounts.  Chinese stocks are also held in various foreign related ETFs we hold in client and personal accounts.  Long ETFs related to the S&P 500 in both client and personal accounts. Note that these positions can change at any time without notice to our readers.

Break In: Jobs Report

From Bloomberg News:

"Employers added 215,000 jobs in July and the unemployment rate held at a seven-year low of 5.3 percent, signs of further progress in the U.S. labor market that’s keeping the Federal Reserve on the path toward raising interest rates as soon as next month.

The gain in payrolls last month followed a 231,000 advance in June that was bigger than previously estimated, a Labor Department report showed Friday in Washington. While the data also showed a pickup in hours worked, average hourly earnings climbed a less-than-forecast 2.1 percent from a year earlier, indicating little momentum in wage growth.

The persistent pace of hiring this year indicates companies are sanguine about prospects for demand in the face of a tempered global growth outlook. Better job security that leads to bigger wage gains could encourage consumers to spend more freely and provide more momentum for the economy."

Talking heads are parsing this both ways right now on the financial networks.  We'll chalk this up once again in the "Things are Getting Better Department.  Probability now suggests an interest rate hike in September is much more likely.  

*Link Bloomberg: "Payrolls in U.S. Climbed 215,000 in July in Broad-based Gain".

Summer Client Investment Letter {Conclusion}

Today is the conclusion to our summer client investment letter.  As a reminder we will have limited posting over the next couple of weeks.  

Finally, a rule of thumb I learned years ago as a rookie is something I’ll call “The Rule of 3’s”:  3% inflation, 3% GDP and 3% population growth have historically lead to 5-7% corporate earnings growth. The US has historically had all three.  Today I want to focus on the population part of the rule because it seems that our kids are going to bail us out.  The chart below shows a phenomenon that is only recently been appreciated.  Quietly while attention is focused on the retiring baby boom generation; there are now more people of the three succeeding generations than the last two.  As it turns out we are starting to see demand side growth in the economy as the millennial generation comes of age.  Evidence is starting to creep out that the kids are starting to leave home, get real jobs, get married and are looking for their own place to live.  Eventually that will also translate into children. This is all being helped by a slow thaw in credit, higher affordability in housing and an improving labor market.   In other words despite all you’ve heard to the contrary the kids will probably be all right.  And if you want to have a look at your own mortality, Pew Research also expects there to be only 16 million “Baby Boomers” left by mid-century, down from a peak 79 million and virtually nobody left from those born between 1928 and 1946.

There are three important demographic trends at work here. 1).  We are seeing a cyclical recovery in US births as the number of US births is increasing for the 1^st time in seven years.  2).  Almost all new moms are “Millennial” moms.  3) Perhaps the most important economic development is that parenthood is a catalyst for a new way of spending as it triggers two needs, an increase in child-related expenditures {think diapers and infant formula}.  It is also the catalyst for big-ticket purchases.  That is families will buy their first house and the sports car gets traded in for the mini-van.   All of these should act as an economic floor going forward.  Expect to see us discuss this in more depth in the future.

While we may be in a holding pattern for the next few months the longer-term economic and demographic trends are still positive.  

Summer Client Investment Letter {Disclosures}

Christopher R. English is the President and founder of Lumen Capital Management, LLC.-a Registered Investment Advisor regulated by the State of Illinois. A copy of our ADV Part II is available upon request. We manage portfolios for private investors and also manage a private investment partnership. The information derived in these reports is taken from sources deemed reliable but cannot be guaranteed. Mr. English may, from time to time, write about stocks or other assets in which he or other family members has an investment. In such cases appropriate discloser is made. Lumen Capital Management, LLC provides investment advice or recommendations only for its clientele. As such the information contained herein is designed solely for the clients or contacts of Lumen Capital Management, LLC and is not meant to be considered general investment advice. Mr. English may be reached at Lumencapital@hotmail.com.

Break-In...Spain

I said back in April after my trip to Spain that the country "has the feel of the US back in 2011 when things here felt like they were starting to get better".  Today we had the latest batch of economic numbers out of Spain {Purchasing Managers Index or PMI} and they blew the number away, coming in at 59.7 versus the 55.5 that was expected.  Of particular note to me though is that Spain's services sector saw the fastest hiring in eight years. 

Why I think this is important enough to point out is that to me this is further evidence that European economies are improving as their own version of Quantitative Easing {QE} takes hold.  That then should make their stock markets attractive going forward and should backstop in the near term declines in markets over there absent some unexpected event.  All eyes in Europe this year have been focused on Greece but maybe they should be focusing on countries like Spain instead.

*Long ETFs related to Europe in client and personal accounts although positions can change at any time.

Link:  Business Insider, "The Spanish Economy Just Blew Analyst Expectations Out of the Water.

Summer Client Investment Letter {Part III}

Part III of our summer letter to clients.

We still remain positive on the long-term prospects for the US economy.  We believe stock valuations will become more compelling as earnings catch up to valuations.  While stocks can at any time experience price declines, so far we’ve seen a correction by time instead of price.  The reason for our optimism is that the weight of evidence continues to suggest that the US economy is still in expansion mode.  Strength in the dollar, muted global demand and lower oil prices has put a crimp on growth.  This has hurt the industrial and energy sectors as well as businesses that rely on exports.  However, lower oil and a higher dollar have muted inflation and has been positive for consumers.  That should sustain domestic demand. 

Our longer-term view of the markets remains positive and is roughly the same as it has been for the past few years.  We believe that there is still compelling evidence that the US economy continues to expand. Employment is increasing on average by nearly 200,000 persons per month.  Americans are voting with their wallets. Car sales for example are still showing solid gains and there are no empty seats on airplanes.  We are still of the opinion which we have reiterated in the past that positive demographic trends, revolutionary developments in energy, continued advances in productivity as rooted in the efficiencies of the knowledge based economy and the continuing age of innovation that we have dubbed the “era of miniaturization” are all longer term positives for the economy.

{In tomorrow's conclusion we'll discuss why we think the kids are going to be OK and why that will be a future economic tailwind.}

Summer Client Investment Letter {Part II}

Here is part II of our summer letter to clients.

Markets do face some headwinds.  Many of these are currently foreign related. Historically it seems that many crises begin in the summer months and come to a head in autumn.  Russia/Ukraine and Iraq/Syria/ISIS are examples of potential disruptive flashpoints. The areas getting the most airtime and ink have been the meltdown in the Chinese stock markets, the ongoing crisis in Greece and the issue of Puerto Rican insolvency.  I will briefly comment on these last three.

Greece has a listed economy somewhere in size between New Mexico and Oregon's GDP.  It amounts to about 1.3% of the European Union's total output. Greece's problems belong to Greece and Europe.  They do not affect how many diapers, cars or jeans sold here in the US.  China’s stock market has recently corrected about 30% in a very short period of time.  That, however, needs to be viewed in the context of a nearly 150% appreciation in 2015!  That by the way is not a misprint.  Such a run-up makes a 30-50% pullback look somewhat understandable.  The issue from my understanding is that many small investors have bought near the top and are facing significant losses. Many of these small investors also appear to have borrowed money to buy stock.  That's a disaster for those people and also for the Chinese government for letting it happen.  But Chinese investors who bought earlier this year are still sitting on some handsome profits.  Puerto Rico’s debt issue is a large financial problem for the people living on that island and an issue for investors who loaded up on the island’s bonds in order to boost yield.  It is tiny though in relation to the rest of the municipal bond market.  While there may be some short-term issues overseas, we would also point out that in spite of the volatility outside of the US, valuations remain attractive abroad with compelling dividend yields.

Here at home we will need to see how the US economy fared in the 2nd quarter and what our domestic expectations for the rest of the year.  We will need to see how investors respond to corporate earnings.  Then we will have to again focus on whether the Federal Reserve is going to raise interest rates in September.   Finally there are market seasonal factors for us to work through.  Much of Wall Street is going to be on vacation at the beach between now and Labor Day and that has the potential to magnify small problems into something larger.  Some of these issues could be mitigated by an economy that seems to be growing at a faster pace than analysts forecast a few months ago.  Owing to seasonal factors and the potential for something unexpected to wash ashore {remember we’re also now in hurricane season!} We’ll have defensive pages of playbook ready just in case.  

{Tomorrow we'll talk about why we're still positive on the economy and stocks longer term.}

*We have exposure to foreign markets personally and in client accounts via ETFs.  These positions can change at any time.

Summer Client Investment Letter {Part I.}

This week we are going to be running in serial form our latest investment letter to clients.  Here is part I.

Market Review

Equity markets around the globe have basically run in place this year.  The S&P 500 {the most widely measured US equity index} gained about .25% during the last six months.  International stocks gained between 2-6% only to give most of that back owing to the triple trifecta of the ongoing crisis in Greece, issues of Puerto Rican debt and an equity meltdown in China.  Typical asset allocation strategies returned less than 1.0% in the first half of the year.  US markets have been locked into a tight trading range this year. This is reflective of an indecisive market.  US economic developments have been generally upbeat, especially when you factor in a 1^st quarter slow down that was partly energy related and also had much to do with the miserable winter weather that blanketed much of the northern half of the country.  On the other side of the coin cuts to earnings, especially in energy related industries, has made the market’s valuation look more expensive, hence the troubles stocks have seen in gaining traction this year. 

Earnings growth ex-energy is expected to be around 2.2% this quarter.  Our 12-month forward earnings estimate is between $124-125 on the S&P 500 with a mid-point 124.50.  That has the index currently trading with a high 16’s price to earnings ratio, a dividend yield of around 2% and an earnings yield of around 6%.  Historically this has been seen as expensive and as mentioned above is likely one of the reasons prices have been range bound.  However, we are still in an era of historically low interest rates with even long term government bonds trading under 3%.  That is an interest rate environment where probability suggests stock prices at a minimum can be sustained.  I’ve spent many years in this business where stock prices traded at PE levels between 14-15 and interest rates were substantially higher than what we see now.  In that context stock valuations may not be as elevated as first appears.

Our Cone of Probability for year-end 2015 is 2100-2200 on the S&P 500 and for 2150-2250 12 months forward.  That represents potential gains in the 3-7% range, not including dividends.  The Cone of Probability is our current assessment of the price range within which we think stocks have the potential to trade during a described period, in this case out to June 30 calendar year 2016.  It is a probabilistic assessment based on many inputs.  Some of these are: earnings estimates, and whether those estimates are rising or falling, dividend yield, earnings yield and the current yield on the US 10 year treasury.   We use this solely for analytical purposes.  It will fluctuate with market conditions and changes to the data inputs.  Index prices can and have traded in the past outside of its range. 

{Tomorrow we'll discuss some of the headwinds the market currently faces.}

*Long ETFs related to the S&P 500 in client and personal accounts although positions can change at any time.