Saut che cita Gavekal che è spesso positiva sui mercati che attualmente è invece estremamente prudente...
July 23, 2007
One of the signs hanging in our office reads, “Wrong answers $0.50. Correct answers $1.00. Dumb looks are free!” Clearly, over the last 37 years in this business we have given our share of dumb looks. That skein continued for the past few weeks as we traveled to Manhattan two weeks ago to speak with portfolio managers (PMs), while last week we spoke at Raymond James’ Summer Development Conference. By far the question most asked was, “Hey Jeff, what do you think of the stock market?” After the perfunctory dumb look, our response went something like this:
“First of all, it is a market of stocks and not a stock market since there is always a bull market somewhere and in something. That said, when looking at the S&P 500 (SPX/1534.10) history continues to show that stocks in the aggregate are optimistically priced at 18.5x trailing four-quarter earnings, 3.4x book value, and with a paltry 1.8% dividend yield. Even using this year’s consensus earnings estimate of $94.00 for the SPX produces a forward P/E multiple of 16.3x, which is still above the historic mean and certainly not cheap by historic standards.”
Nonetheless, we heard it again on CNBC last week. A professor at one of this nation’s most prestigious business schools stated flatly that stocks were very cheap. When asked if that is true then why is Warren Buffett saying that stocks (in the aggregate) will provide substandard returns over the next few years, the professor replied he didn’t worry too much about what Warren Buffett has to say. Once we quit screaming at the TV, “As a professor have you ever read ANYTHING written by Graham & Dodd?” we settled back and listened to the professor’s rationale. As usual, the entire “cheap stock” argument was based on the Fed Model. Simply stated, the Fed Model suggests that when the S&P 500’s earnings yield (earnings divided by price) is greater than the yield on the benchmark Treasury note, stocks are considered “cheap.” Forgetting that the Fed Model would have had you NOT buying stocks at many of the major bear market lows, as well as forgetting that it doesn’t take into account the business cycle, we admit that the Fed Model is one “arrow” in the “quiver” for investment valuations. However, if it were the Golden Fleece everyone would be in Warren Buffett’s league.
Currently, the forward looking earnings yield, based on the aforementioned $94.00 estimate, is 6.1% ($94/1535) while the yield on the 10-year Treasury is roughly 5%. Consequently, according to this indicator stocks are some 20% undervalued. Worth consideration, however, especially in light of the numerous earnings “misses” last week combined with the plethora of corporate reductions in forward earnings guidance, is just how accurate that $94.00 earnings estimate is. Also worth considering is the direction of interest rates, which brings us to the second most asked question, “Hey Jeff, which way do you think interest rates are headed?”
As repeatedly stated since the beginning of the year, “We think the fooler in 2007 could be that instead of lowering interest rates the Fed keeps rates where they are, or maybe even raise them.” That “rate sense” has been derived by our belief that the economy either continues to muddle forward, or actually reaccelerates. If, on the other hand, the naysayers are right, and the economy slows dramatically, bonds are a “buy.” And while we don’t think that will be the case, last week’s data certainly leaned that way. To wit, the Index of Leading Economic Indicators fell, retail sales slowed, and building permits slid (-7.5%). Even more to this “slowing” point were comments from our leisure analyst who noted, “2007 looks to be the lowest unit volume for powerboats since the data began being collected in 1965.” Plainly, crude oil’s rise from its January 2007 low of roughly $50 per barrel to last Friday’s close of $75.57 is hurting boat sales, as well as Harley Davidson (HOG/$58.21/Market Perform) sales, and that brings us to our third most asked question, “What’s up with inflation?”
Forgetting crude oil’s 51% rise from its January lows, and the concurrent 63% rise in gasoline, we advise you to turn to the Wall Street Journal’s commodity section and look at the “cash markets,” particularly things you use on a daily basis. What you find will not be shocking to anyone who visits a supermarket. Indeed, what is there, hiding in plain view, are the following price increases on a year-over-year basis: corn (+38.5%), soybeans (+45.5%), wheat (+74.4%), milk (+121.8%), eggs (+167%), and the list goes on. As stated in last week’s letter, and reprised in this week’s Barron’s magazine, “Ladies and gentlemen, when you get these sorts of price increases it is merely a matter of time until they bleed-over into prices at the supermarket. We think you are going to see this increasingly reflected in 4Q07 and continuing for the foreseeable future.”
Putting it all together, we think inflation is on the rise, a sense confirmed by another new all-time high in the Goldman Sachs Commodity Index last week. We also think that barring a severe economic slowdown, higher inflation implies higher interest rates. While both of these possibilities suggest some headwinds for the stock market, as often repeated in these missives we don’t see signs of a “top” despite our lingering worries about optimistic valuations. In fact, on a purely technical basis the chart of the S&P 500 looks pretty bullish given the upside breakout that occurred two weeks ago, as can be seen in the chart on page 3. However, while the SPX was tagging new all-time highs the stock market’s internals were weakening, as measured by new highs versus new lows, upside versus downside volume, buying climaxes (suggests stocks being distributed, or sold), etc. Still, as we have repeatedly stated, “The upside should be given the benefit of the doubt.”
Consistent with these thoughts, we have been using what we consider fairly defensive stocks, preferably ones with a yield. Names used have been General Electric (GE/$40.12), Johnson & Johnson (JNJ/$61.79/Strong Buy), MeadWestvaco (MWV/$35.10), Flagstar Bancorp (FBC/$11.70/Outperform), Quadra Realty (QRR/$12.44), and Wachovia (WB /$49.98), all of which are followed by Raymond James or our research correspondents. And this morning we are adding 4.6%-yielding Pfizer (PFE/$24.90/Strong Buy) in light of our analyst’s upgrade. We have also recommended a number of ETFs that play to our various themes, like the PS Aerospace & Defense ETF (PPA/$22.37) and the PS Water Resources ETF (PHO/$21.58). Interestingly, there is a relatively new water-based ETF for your consideration with a number of global names in it, consistent with our invest internationally theme. That name is PS Global Water Portfolio (PIO/$26.50).
Speaking of international investing, the good folks at the astute GaveKal organization recently opined:
“It has been Charles’ lifetime investment strategy to only trade when something is ‘totally abnormal’ (due to market confusion, lack of foresight, market distortion, etc.). As such, we give the most consideration to indicators displaying a net measurement that is significantly positive or negative. Today, our indicators show that a) the ‘very overvalued’ markets are: Australia, Canada, and Germany; b) ‘overvalued’ markets are: France, Hong Kong, Korea and Sweden; c) ‘neutral’ markets are: the US, UK, Japan and Taiwan. Not one of our valuation indicators is registering an ‘undervalued’ signal. As we are now heading into to the summer lull (with lower volumes), approaching equity markets with a bit more caution might make sense.”
Clearly we agree and would note that remaining overweight the international/emerging equity markets, while holding long positions in the Volatility Index (VIX/$16.95), could prove to be an outperforming strategy.
The call for this week: One of the investment vehicles we have been using for the past few years to get international exposure is MFS International Diversification Fund (MDIDX/$17.79), whose PM we had a drink with at our conference. We have also been recommending MFS’s Sector Rotational Fund (SRFAX/$19.77) as a risk-adjusted way to get exposure to U.S. equities. We continue to like both of these funds. Additionally, at last week’s conference we learned about another way of gaining exposure to our agricultural theme, namely Claymore’s Unit Investment Trust (UIT) “Delta Global Agriculture Portfolio.” And don’t look now, but the U.S. dollar broke down last week while gold broke out to the upside, which should help all of our gold stock positions as well as the OCM Gold Fund (OCMGX/$20.32).
