Market Week: February 27, 2014

February 27th, 2014

The Markets

Domestic equities had a mixed week. The small-cap stocks of the Russell 2000 managed to reclaim positive territory for the year while the Nasdaq continued to lead the pack year-to-date. The large caps didn’t fare quite as well, though the S&P 500 has now managed to erase all but 12 points of the 5.7% it had lost since January 15.

Market/Index

2013 Close

Prior Week

As of 2/21

Weekly Change

YTD Change

DJIA

16576.66

16154.39

16103.30

-.32%

-2.86%

Nasdaq

4176.59

4244.03

4263.41

.46%

2.08%

S&P 500

1848.36

1838.63

1836.25

-.13%

-.66%

Russell 2000

1163.64

1149.21

1164.63

1.34%

.09%

Global Dow

2484.10

2458.43

2465.31

.28%

-.76%

Fed. Funds

.25%

.25%

.25%

0 bps

0 bps

10-year Treasuries

3.04%

2.75%

2.73%

-2 bps

-31bps

Chart reflects price changes, not total return. Because it does not include dividends or splits, it should not be used to benchmark performance of specific investments.

Last Week’s Headlines

· January’s dismal weather across much of the country helped cut housing starts by 16% and building permits for future construction by 5.4%, according to the Commerce Department. The worst declines were seen in the Midwest, while starts actually rose in the Northeast.

· Consumer prices rose 0.1% in January, according to the Bureau of Labor Statistics, largely because of home energy demands connected to the brutal winter over much of the country. The BLS said the 1.8% increase in the cost of electricity was the biggest since March 2010, while natural gas and heating oil also were up sharply. Wholesale prices rose 0.2% during the month; that was a slight acceleration from December and put the year-over-year increase at 1.2%.

· Home resales didn’t escape winter’s ill effects. According to the National Association of Realtors®, weather plus higher mortgage rates and the ongoing shortage of homes for sale brought January sales down 5.1% during the month to their lowest level since July 2012. Sales also were 5.1% lower than the previous January.

· China’s manufacturing sector shrank for the second straight month, according to February’s Markit/HSBC Purchasing Managers’ Index, which fell to 48.3 (any number below 50 represents contraction). However, the extended Lunar New Year festival traditionally has slowed manufacturing there at this time of year. U.S. manufacturing reports also showed a decline. The Philly Fed survey fell from 9.4 in January to -6.3, and though the Fed’s Empire State survey remained positive at 4.5, it was down 8 points for the month.

· A report by the Congressional Budget Office assessing the impact of an increase in the minimum wage found that while higher pay for 16.5 million workers would lift anywhere from 300,000 to 900,000 families above the poverty line, it also could also mean some job losses. The CBO estimated that a $9 minimum wage could cut an estimated 200,000 jobs (less than 0.1%), while a $10.10 minimum wage–the level proposed by President Obama–could result in an estimated 500,000 fewer jobs (or 0.3%).

· The International Monetary Fund warned that emerging-market economies need to continue tightening their monetary policies to combat the impact of tighter money in the developed world. It also urged the eurozone to implement new lending programs and lower interest rates to fight inflation that is so low that it raises the risk of turning into deflation.

· Minutes of the Federal Reserve’s monetary policy committee’s most recent meeting suggested that investors could soon begin hearing guidance about when and how the Fed will begin raising its target interest rate.

· The Federal Communications Commission said it will try once again to write rules that prevent broadband Internet providers from blocking or slowing access to certain customers. The FCC’s so-called “net neutrality” regulations were overturned by a federal appellate court ruling last month that would allow broadband companies to charge content providers higher rates for faster service.

· Facebook stunned the tech community by agreeing to pay $19 billion in cash and stock to acquire mobile messaging startup WhatsApp (after having previously turned down one of the company’s founders for a job). The deal was reported to be the largest tech merger since the AOL-Time Warner deal in 2001. WhatsApp in turn stunned its roughly 450 million users by undergoing a three-hour outage just days later.

Eye on the Week Ahead

In light of recent weaker Fed manufacturing reports, the Commerce Department’s report on durable goods orders for January could be closely watched. Final numbers for U.S. economic growth in both Q4 and all of 2013 also will be available.

Data sources: All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. News items are based on reports from multiple commonly available international news sources (i.e., wire services) and are independently verified when necessary with secondary sources such as government agencies, corporate press releases, or trade organizations. Market data: U.S. Treasury (Treasury yields); WSJ Market Data Center (equities); Federal Reserve Board (Fed Funds target rate); U.S. Energy Information Administration/Bloomberg.com Market Data (oil spot price, WTI Cushing, OK); www.goldprice.org (spot gold, NY close); Oanda/FX Street (currency exchange rates). Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. Past performance is no guarantee of future results.

The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange. The Russell 2000 is a market-cap weighted index composed of 2,000 U.S. small-cap common stocks. The Global Dow is an equally weighted index of 150 widely traded blue-chip common stocks worldwide. Market indices listed are unmanaged and are not available for direct investment.

It’s a wonderful world

February 23rd, 2014

The economists that I follow are predicting a wonderful 2014. Real GDP growth should be at least 3.4 percent. The unemployment rate should fall to under 6.5 percent. Inflation will remain low, with interest rates moving up only slightly.

010813_OPN-after-the-bell-1

But if you read the newspapers you would believe that people are underpaid, uninsured, and over-medicated. Yet everyone understands that things are better now than ever. We have cell phones, better cars and computers, crime is down, life is safer, and we’re living longer and better. Medical technology is fantastic. And years ago who would have believed that something like Viagra would be available? Even sex is better than in the good old days.

Not only are we healthier, we’re richer as well. Confidence was very high in 1995, before the economic downturn, but we’re better off financially now than we were then.

010813_OPN-after-the-bell-graph-2

One hundred years ago, a man in the U.S. could expect to die by age 51. Now the average age for that man to retire is 61. Poverty is down, more American adults are in the labor market, and our work week has declined to under 40 hours per week. Holiday and vacation time is up and more people graduate from high school than ever before.

In “The Rational Optimist,” author Matt Ridley writes: “Today, of Americans officially designated as ‘poor,’ 99 percent have electricity, running water, flush toilets and a refrigerator; 95 percent have a television; 88 percent a telephone; 71 percent a car; and 70 percent air conditioning. Cornelius Vanderbilt had none of these.”

So perhaps 2014 is time to become optimistic and invest in those wonderful areas of life that are continuing to improve. Want to feel better? Take vitamins, as so many people do. And invest in some of the companies that create or market them, like GNC. And just hope that Amazon doesn’t go heavily into the same business.

Or buy some UnitedHealth Group (UNH) to take advantage of the burgeoning healthcare market.

Believe that the experts are right and the economy will continue to improve. Bank of America (BAC) seems like a good bet to benefit from that, if they can ever pay off their litigation liabilities. I’m selling the 15 puts naked to pick up some premium and acquire the stock at 15 if it dips. And I’m holding JPMorgan Chase (JPM) since it seems to be doing well.

Impressed with the technology advances? Consider General Electric (GE) and Intel (INTC). These are solid companies which one could expect to grow along with the economy.

–Mervyn Hecht

Market Week: February 21, 2014

February 21st, 2014

The Markets

Stability ball: A congressional accord on the debt ceiling plus fresh reassurance about Fed policy seemed to outweigh lackluster economic news, helping domestic equities follow through on the previous week’s late rally. The Nasdaq’s week was its best since late October, while the Russell 2000’s gain was the best for any of the four domestic indices listed below so far this year. Meanwhile, the Dow edged above 16,000 once again.

Market/Index

2013 Close

Prior Week

As of 2/14

Weekly Change

YTD Change

DJIA

16576.66

15794.08

16154.39

2.28%

-2.55%

Nasdaq

4176.59

4125.86

4244.03

2.86%

1.61%

S&P 500

1848.36

1797.02

1838.63

2.32%

-.53%

Russell 2000

1163.64

1116.55

1149.21

2.93%

-1.24%

Global Dow

2484.10

2406.27

2458.43

2.17%

-1.03%

Fed. Funds

.25%

.25%

.25%

0 bps

0 bps

10-year Treasuries

3.04%

2.71%

2.75%

4 bps

-29 bps

Chart reflects price changes, not total return. Because it does not include dividends or splits, it should not be used to benchmark performance of specific investments.

Last Week’s Headlines

· The contentious issue of the debt ceiling was resolved (at least until March 2015) after President Obama signed the bill passed by both the House and Senate, which contained none of the additional provisions that had created conflict in recent years.

· Many Americans apparently spent much of January shoveling instead of shopping. Though retail sales were 2.6% ahead of January 2013, the Commerce Department said sales for the month fell 0.4%, with a 2.1% drop in auto-related sales a major factor. However, severe weather couldn’t account for the downward revision in December sales, which went from a 0.2% gain to a 0.1% loss, and January sales outside brick-and-mortar stores also fell 0.6%.

· Weather also was a factor in a 0.8% drop in U.S. industrial production in January, according to the Federal Reserve. Construction took the biggest hit with a 1% decline.

· A report by China’s exports administration showed that Chinese exports accelerated in January, rising 10.6% compared to January 2013. The data from China’s official General Administration of Customs contradicted earlier private reports showing manufacturing slowing in January and raised questions about the true state of the world’s second largest economy.

· Steady as she goes: New Federal Reserve Chair Janet Yellen told Congress that absent any unexpected economic downturns, the Fed will continue to wind down its bond purchases while maintaining its target interest rate at its current low level.

· Eurozone countries experienced slightly higher growth in Q4 2013 as the region’s gross domestic product rose 0.3%. That would represent annualized growth of 1.1% and an improvement from Q3’s 0.1%. However, the official European Union statistical agency said actual eurozone GDP for all of 2013 shrank 0.4%. German GDP, which rose at an annualized 1.5%, was responsible for almost one-third of the quarter’s total growth. Meanwhile, Q4 growth in the 28-member European Union was slightly higher at 0.4%.

· The largest cable provider in the United States (Comcast Corp.) signed an agreement to acquire the second largest cable provider (Time Warner Cable). However, the deal must receive regulatory approval from the Federal Communications Commission and could face antitrust scrutiny by the Justice Department or the Federal Trade Commission.

· Two of the world’s largest exchanges of bitcoins–the five-year-old virtual currency created entirely on computers–temporarily halted withdrawals in the wake of hack attacks on their systems. The attacks followed the announcement of similar problems at a third major exchange, which had also frozen customer accounts after being hit with fraudulent transaction requests.

Eye on the Week Ahead

With the bulk of earnings season largely in the rear-view mirror, investors will have to dig their way through a blizzard of economic data.

Data sources: Economic: Based on data from U.S. Bureau of Labor Statistics (unemployment, inflation); U.S. Department of Commerce (GDP, corporate profits, retail sales, housing); S&P/Case-Shiller 20-City Composite Index (home prices); Institute for Supply Management (manufacturing/services). Performance: Based on data reported in WSJ Market Data Center (indexes); U.S. Treasury (Treasury yields); U.S. Energy Information Administration/Bloomberg.com Market Data (oil spot price, WTI Cushing, OK); www.goldprice.org (spot gold/silver); Oanda/FX Street (currency exchange rates). All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. Past performance is no guarantee of future results.

The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange. The Russell 2000 is a market-cap weighted index composed of 2,000 U.S. small-cap common stocks. The Global Dow is an equally weighted index of 150 widely traded blue-chip common stocks worldwide. Market indices listed are unmanaged and are not available for direct investment.

Predicting stock market success in 2014

February 18th, 2014

For 2014, all the expert opinions I’ve read anticipate another good year for high quality stocks, at least after the first quarter. Economists claim that the recession is over, and the upturn has finally hit Europe, which will also be good for our economy. My friend Dick Rosecrance of Harvard has written a book suggesting that the U.S. may eventually form closer trading ties to the EU market, and include Japan in the new alliance. If that happens he predicts a decline in the importance and economy of China.  But this will not happen in 2014. Others as well are predicting an eventual decline in Chinese economic growth for various reasons.

Here are a few of my predictions for 2014:

1) Oil prices will come down a bit, maybe 10 percent, and then level off. The U.S. is producing more and more oil, and this will continue as oil share production increases.  At the same time, natural gas and electric vehicles are increasing in numbers. There is a strong possibility of increased production from Iran and Libya as political tensions decrease. As countries like Mexico (ninth in worldwide production) seek outside help in production, U.S. companies such as Schlumberger (SLB) and Halliburton (HAL) will benefit. The PXJ index, already up quite a bit, may well continue its upward movement.

2) Natural gas use will increase, and the price will go up. This will strongly impact the pipeline price performance. Pipeline indexes such as SPX and AMZ will benefit from this.

3) Most of the economists I follow predict continuing low interest rates for the coming year, and a decline in unemployment. This should translate into at least a 6 percent increase in the S&P, which when coupled with a 2 percent dividend rate makes that a pretty good looking investment for the year.

4) Gold is so far down, including the gold mining company index GDX, that some are recommending it now. That might be right, but I’ve taken my losses on GDX and put those funds into the silver index instead. I think that silver is a better investment for 2014 than gold and that investment is more likely to recoup my gold losses from 2013. I base that solely on performance to date, which shows silver less susceptible to decline based on increasing economic performance.

5) As the economy continues to pick up, companies that did well in 2013 and have a backlog of cash are good candidates for increasing dividends and small gains in price.  This group includes Boeing (BA), with its recent dividend increase and stock buy-back program, and Ford Motor (F), although I personally do not invest in auto stocks because of the competition in the field. Green energy companies have a bright future, and one could speculate on Abengoa (ABGB) a Spanish company that is making a name for itself in the field of desalination and related energy areas.

6) Food is here to stay, and from what I see people are trending toward more expensive and allegedly healthier products. Whole Foods Market (WFM) has experienced a nice dip lately, and I’m buying 100 shares at a time on dips. While many are skeptical because of increased competition, the company is putting in more and more stores even in small market areas and I believe it’s a well run company with a good expansion program. I help run one of their subsidiaries and I’m impressed with their dedication. They grew about 13 percent in 2013, and while the 33 PE ratio is high, I see no reason not to expect similar growth in 2014.

7) The top equity investments in my opinion continue to be those companies paying a good dividend that consistently increases. Companies in this category include RPM International (RPM), a chemical producer; Diebold (DBD), which makes ATM machines; and Automatic Data Processing (ADP). But the safest way to benefit from this trend is to invest in one of the many “high dividend yield” funds that are available.

8) I still say the best way to profit in the market is to write covered calls on high quality stocks that pay good dividends. If the stock goes down you still get the same dividend yield, and you can keep rewriting calls for premiums. If the stock goes up you take the premium plus the profit. Some good candidates for this are Baxter (BAX) with a 3 percent dividend at $67 a share; IBM, which has come down and now pays about 2.2 percent at $180 a share; Intel (INTC) which at $25 pays a 3.7 percent dividend; and Air Products (APD) which, at $110 (it’s gone way up) still pays 2.6 percent.

-Mervyn Hecht

Back to the Fifties

February 17th, 2014

Perhaps you are old enough to remember the 1950s, a decade characterized by US dominance, technological innovation, and rapidly increasing wealth among the middle class. It was also a period of rising interest rates and robustly appreciating stock prices. I humbly submit that the current decade looks, and may continue to look, a lot like the 1950s.

Comparing the 1950s and the 2010s

There are several parallels between the American economy in this decade and in the 1950s. Back then, the world was still healing from the most severe depression and financial crisis in centuries, while simultaneously rebuilding from WWII. The US, along with other developed nations, had accumulated unprecedented levels of debt to finance the war and needed to pay it down to more manageable levels. Meanwhile, the Federal Reserve was keeping interest rates artificially low, with 10-year Treasuries pegged at 2.5%.

Sound familiar? Today we’re only four years out from the Great Recession, have massive government debt, and enjoy ultra-low interest rates courtesy of the Federal Reserve. Rates bottomed last May and have risen fairly consistently since. Rather than rolling over in the face of higher interest rates, the stock market has surged, rising over +15% during the same period.

Interest rates rose fairly persistently during the 1950s: for example, the interest rate on 10-year US Treasuries doubled from 2.5% to nearly 5% between 1950 and 1960. At the same time, US stocks rose +482%, or an average of +19.3% per year, thumbing their noses at higher interest rates. It was one of the best decades for investors ever. Could the 2010s produce a similar result?

Graphing total returns

Before we look at total return graphs of the 1950s and the 2010s, it’s important to differentiate between price return and total return. Most indexes, including the S&P 500, only track price return, or what an investor makes from changes in stock prices only. But most stocks also pay dividends, and over time these account for a meaningful portion of stock investment returns. Total return indexes, which we are using below, include the return an investor would have received from both price changes and dividend payments, and assume that these dividends are immediately reinvested in the same stocks that paid them.

In the first graph below, we show the total return of the S&P 500 from January ’50 to January ’54 and from January ’10 to January ’14. The total return from 2010-14 (+81.18%) falls a bit short of the 1950-54 return (+90.61%), and their trajectories are by no means identical, but it’s worth noting the incredible performance over both periods given how dreadfully the market did in the periods that preceded them.

*Note: To make the returns from each period comparable, we indexed both January 1950 and January 2010 to a level of “1”—so you can interpret the graph as $1 invested in January 1950 or January 2010 would be worth $X at whatever point in time you choose.

50-54&10-14

If you think the market was on fire between 1950-54, you’ll be blown away by 1954-60. Below we have indexed the entire decade from 1950-60, again starting at a level of 1. Notice that the performance from 1954-60 was so good that it makes the growth we just experienced over the past 4 years appear almost insignificant.

50-60&10-14

Could the same thing happen over the next 6 years? Though history never exactly repeats, it does rhyme, and the parallels are compelling. I personally believe that the risk of missing out on a fantastic decade greatly exceeds the risk of losing your shirt. Of course, we’ll know for sure in 2020.

Adam

Dr. Ken Waltzer MD, MPH, AIF®, CFA, CFP®
Founder and President – Kenfield Capital Strategies (KCS)

Adam Bragman
Director of Business Development – Kenfield Capital Strategies (KCS)

2014: An Orwellian Year?

February 13th, 2014

With January 2014 now in the record books, investors are naturally becoming worried as to what might be in store for the rest of the year. For the statistic junkies among you, the MSCI World index fell -4.4% in January, making it the worst month in well over a year. “What’s next?” you ask.

If you’re a regular reader, you know that short-term stock price movements are mostly random, which is why “past performance does not predict future results.” Today’s big decline was likely triggered by a surprisingly large drop in the ISM manufacturing survey; however, this report is likely an outlier owing to an unusually cold January. But once the decline began, it fed on itself and selling begat selling. In the end, there really doesn’t need to be a reason for investors to hit the “sell” button.

And forget the so-called “January indicator,” which says that as goes January, so goes the year. This indicator has a perfectly random record: in other words, stocks go up after a down January as often as they go up on average. Whether January is up or down thus has no effect on the remainder of the year. Better to follow another useless indicator, which supposedly predicts the market by looking at who wins the Super Bowl. Fortunately, a Seattle win means a good year for stocks. Better yet, flip a coin. It will be just as accurate as these silly indicators.

This year marks the 30th anniversary of the annum featured in George Orwell’s famous novel,1984. It’s remotely possible that 2014 will look something like that year, at least in the stock market (will the NSA be watching as well?). Although history rarely repeats, particularly in investing, it does often rhyme. And 1984 started out very similarly to this year, with a big drop in the market from early January through mid-February that took the S&P 500 index down -8.9%. (The somewhat good news is that, if the declines end up being similar, we’re already 2/3 of the way there.)

Cracks below the surface

1983 had been a good year, with the S&P 500 up +22.6%. And that was on top of a +39.4% gain from the bottom of the 1982 bear market. So a correction should not have been a surprise. In addition, while the large-stock indexes had basically been treading water since June 1983, small stocks had been in a bear market, declining almost continuously through the end of the year. It took until January 1984 for big stocks to catch the same cold.

This time, US small stocks have been doing very well, while the sick man of the market is represented by emerging countries like China and Brazil. They’ve been in a bear market for over 2 ½ years now and remain some -25% below their 2011 highs. It took a while, but perhaps developed countries are starting to pick up the sniffles as well. If so, it’s certainly possible that once the current decline runs its course, emerging markets may lead stocks upward rather than the US. Time will tell.

So what happened after February 1984?

You’re probably wondering what US stocks did in 1984 after that awful start. The short answer is: not much. After staging a solid recovery of +4.9% through early May, the resumed their declining ways by dropping another -8.7%, bottoming in mid-July at just shy of -10% down for the year. The January indicator fans were cheering at this point, vindicated. (Perhaps you sports fans remember who won the Super Bowl in 1984.)

But then the market rallied, with the S&P 500 shooting up +13.5% in less than a month. It treaded water from there, ending the year up a boring +1.4% (+6.3% including the hefty dividends of the day). Not much progress in either direction for what started out as a volatile year.

I’m not saying that 2014 will look just like 1984. I’m just trying to illustrate how sharp stock price movements in either direction are hardly predictive of longer-term returns. 2014 could certainly be a disappointing year for US stocks after a great 2013. But even if domestic stocks struggle, foreign ones could shine. Perhaps those sickly emerging markets will finally heal themselves and jump out of bed. Anything can happen.

By the way, after a middling 1984, investors enjoyed a profitable 1985, with the S&P 500 returning a hefty +31.7%. And that was just year 4 of what ended up being an 18-year bull market. As I’ve stated before, I believe that the secular bear market that began in 2000 is over and we’re again in the early years of a bull market that should last a decade or more. If so, enjoy the ride, bumps and all.

Dr. Ken Waltzer MD, MPH, AIF®, CFA, CFP®
Founder and President – Kenfield Capital Strategies (KCS)

Kenfield Capital Strategies℠ (KCS) is a registered investment adviser. Our services include discretionary management of individual and institutional investment accounts, along with comprehensive financial, estate and tax planning services.

Market Week: February 13, 2014

February 12th, 2014

The Markets

Despite a dizzying 326-point loss for the Dow on Monday after disappointing reports on both U.S. and Chinese manufacturing, domestic equities indices largely managed to rebound on high trading volumes. The S&P 500 finally saw its first positive week following three straight weekly losses. Unfortunately, the small caps of the Russell 2000 didn’t share in the bounce.

Market/Index

2013 Close

Prior Week

As of 2/7

Weekly Change

YTD Change

DJIA

16576.66

15698.85

15794.08

.61%

-4.72%

Nasdaq

4176.59

4103.88

4125.86

.54%

-1.21%

S&P 500

1848.36

1782.59

1797.02

.81%

-2.78%

Russell 2000

1163.64

1130.88

1116.55

-1.27%

-4.05%

Global Dow

2484.10

2389.81

2406.27

.69%

-3.13%

Fed. Funds

.25%

.25%

.25%

0 bps

0 bps

10-year Treasuries

3.04%

2.67%

2.71%

4 bps

-33 bps

Chart reflects price changes, not total return. Because it does not include dividends or splits, it should not be used to benchmark performance of specific investments.

Last Week’s Headlines

· The 113,000 new jobs added to the U.S. economy in January barely nudged the unemployment rate down 0.1% to 6.6%. Meanwhile, the labor force participation rate rose slightly to 63%, and the number of long-term unemployed fell by 232,000 during the month.

· U.S. manufacturers saw substantially slower growth in January as the Institute for Supply Management’s gauge fell 5.2% from December’s 56.5%. Though the 51.3% reading represents the eighth straight month of expansion, it’s only 1.4% away from actual contraction, and the ISM survey also showed new orders falling a significant 13.2% to 51.2%. Meanwhile, the 50.5% reading on China’s official manufacturing index was more or less in line with an earlier report of contraction there.

· The ISM’s measure of non-manufacturing activity fared better than the manufacturing sector. January’s 1% increase to 54% represented the 48th straight month of expansion, and new orders for the month increased by half a percent.

· Led by the residential market, construction spending was up 0.1% in December. The Commerce Department said the 2.6% gain for the month in private residential construction resulted in the biggest annualized increase since June 2008. Construction of single-family homes was even better, rising 3.4% for the month and 21.6% from the previous December. By contrast, commercial and government construction were both down.

· A 9.7% drop in transportation-related orders accounted for a large portion of the 1.5% decline in factory orders for U.S. manufacturers in December, according to the Commerce Department. However, the $2.3 trillion worth of U.S. exports in 2013 set a new record for the fourth straight year.

· Labor productivity rose at an annualized rate of 3.2% during Q4 2013, according to the Bureau of Labor Statistics, as output rose 4.9% and the number of hours worked was up 1.7%.

· Bill Gates stepped down as Microsoft’s chairman to take a more active role as a technology advisor to the company, while longtime executive Satya Nadella will become the company’s third CEO.

· Both Standard & Poor’s and Moody’s cut Puerto Rico’s bond rating to junk status, citing concerns about the U.S. territory’s ability to tap capital markets. S&P also reaffirmed Turkey’s BB+ rating but cut its outlook to negative, indicating the likelihood of further downgrades.

· The Congressional Budget Office forecast that the U.S. budget deficit is on track to fall to 3% of gross domestic product this year–close to the average for the last 40 years–and to 2.6% of GDP in 2015. However, after that, it will start rising again because of the aging population, federal subsidies for health insurance, rising health-care costs, and higher interest on federal debt. The 3% projected increase in GDP through Q4 2014 would be the largest rise in almost a decade, though the CBO continued to warn about the size of the federal debt (74% of GDP by the end of 2014). The CBO report also forecast that unemployment will remain above 6% until late 2016. Labor force participation could fall by the equivalent of 2 million jobs in 2017 as a result of the Affordable Care Act, “almost entirely [because of] a net decline in the amount of labor that workers choose to supply, rather than from a net drop in businesses’ demand for labor.” However, the report said that figure will depend on how many people obtain subsidized health insurance through exchanges.

· The European Central Bank kept its key interest rate at 0.25% for the third straight month despite concerns that without increased monetary stimulus, inflation that has been below 1% in the region for several months could turn into deflation.

Eye on the Week Ahead

Investors will have to determine whether the retail sales to be reported on Thursday were affected by January’s severe weather across much of the country. New Fed Chair Janet Yellen’s testimony before Congress also will be watched.

Data sources: Economic: Based on data from U.S. Bureau of Labor Statistics (unemployment, inflation); U.S. Department of Commerce (GDP, corporate profits, retail sales, housing); S&P/Case-Shiller 20-City Composite Index (home prices); Institute for Supply Management (manufacturing/services). Performance: Based on data reported in WSJ Market Data Center (indexes); U.S. Treasury (Treasury yields); U.S. Energy Information Administration/Bloomberg.com Market Data (oil spot price, WTI Cushing, OK); www.goldprice.org (spot gold/silver); Oanda/FX Street (currency exchange rates). All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. Past performance is no guarantee of future results.

The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange. The Russell 2000 is a market-cap weighted index composed of 2,000 U.S. small-cap common stocks. The Global Dow is an equally weighted index of 150 widely traded blue-chip common stocks worldwide. Market indices listed are unmanaged and are not available for direct investment.

Market Week: February 5, 2014

February 4th, 2014

The Markets

It’s a small, small world: Despite various attempts at propping up local currencies, emerging markets continued to suffer from concerns that 1) assets being moved to stronger currencies could undermine already fragile economies, and 2) a slowdown in Chinese manufacturing could reduce demand for commodities, exports of which are crucial to many emerging-market countries. Fueled by additional Fed tapering, risk aversion also spread to markets in developed countries, hurting large caps that derive a large portion of their revenues overseas. The Dow’s losses gave the index its worst January since 2009. Traditional safe-haven refuges such as U.S. Treasuries continued to benefit from the turmoil.

Market/Index

2013 Close

Prior Week

As of 1/31

Weekly Change

YTD Change

DJIA

16576.66

15879.11

15698.85

-1.14%

-5.30%

Nasdaq

4176.59

4128.17

4103.88

-.59%

-1.74%

S&P 500

1848.36

1790.29

1782.59

-.43%

-3.56%

Russell 2000

1163.64

1144.13

1130.88

-1.16%

-2.82%

Global Dow

2484.10

2422.47

2389.81

-1.35%

-3.80%

Fed. Funds

.25%

.25%

.25%

0 bps

0 bps

10-year Treasuries

3.04%

2.75%

2.67%

-8 bps

-37 bps

Chart reflects price changes, not total return. Because it does not include dividends or splits, it should not be used to benchmark performance of specific investments.

Last Week’s Headlines

· For the second month in a row, the Federal Reserve’s monetary policy committee will cut $10 billion a month from its bond purchases. That will leave the total at $65 billion a month instead of the $85 billion it had been buying as recently as December.

· Some emerging-market countries whose currencies have been hurt in recent months attempted to fight back. Turkey hiked its key interest rate from 7.5% to 12% to try to halt a decline in the country’s lira, while South Africa’s central bank raised its interest rate to 5.5% and India’s repo rate went to 8% from 7.75%. The moves came in the wake of Brazil’s decision to raise its key interest rate by a half-point to 10.5% and Venezuela’s recent attempt to impose currency controls indirectly by limiting the amount of airline tickets that can be exchanged for U.S. dollars.

· The U.S. economy expanded at an annualized rate of 3.2% during the fourth quarter of 2013. Though that was somewhat less than Q3’s annualized 4.1% growth, the Bureau of Economic Analysis said the 3.7% growth during 2013’s second half was stronger than the 1.8% expansion during the first six months. The growth was led by consumer spending, exports, and business spending on capital goods.

· Sales of new homes dropped 7% in December. However, the Department of Commerce said the figure is still 4.5% ahead of the previous December, and sales for all of 2013 were 16.4% higher than in 2012. Meanwhile, home prices in the cities covered by the S&P/Case-Shiller 20-City Composite Index were up 13.7% year-over-year in November. Though the 0.1% drop was the first monthly decline in nine months, it represented the best November since 2005.

· Durable goods orders fell 4.3% in December, according to the Commerce Department; that’s the second decline in the last three months. Aside from the volatile transportation sector, new orders for U.S. manufactured goods fell 1.6%, and business spending on equipment was down 5% for the month.

· The Bureau of Economic Analysis said personal incomes were basically flat in December, though after adjusting for inflation, they were down 0.2% for the month. Meanwhile, holiday spending helped push consumer spending up 0.4%, cutting the personal savings rate to 3.9% from November’s 4.3%.

Eye on the Week Ahead

In addition to the ongoing focus on emerging markets and earnings reports, Friday’s unemployment numbers will be of interest. And in light of currency concerns around the world, the European Central Bank’s announcement on Thursday could receive extra attention.

Data sources: Economic: Based on data from U.S. Bureau of Labor Statistics (unemployment, inflation); U.S. Department of Commerce (GDP, corporate profits, retail sales, housing); S&P/Case-Shiller 20-City Composite Index (home prices); Institute for Supply Management (manufacturing/services). Performance: Based on data reported in WSJ Market Data Center (indexes); U.S. Treasury (Treasury yields); U.S. Energy Information Administration/Bloomberg.com Market Data (oil spot price, WTI Cushing, OK); www.goldprice.org (spot gold/silver); Oanda/FX Street (currency exchange rates). All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. Past performance is no guarantee of future results.

The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange. The Russell 2000 is a market-cap weighted index composed of 2,000 U.S. small-cap common stocks. The Global Dow is an equally weighted index of 150 widely traded blue-chip common stocks worldwide. Market indices listed are unmanaged and are not available for direct investment.

Turkey Shoot!

February 2nd, 2014

Amid the recent havoc in emerging markets, last Tuesday delivered a significant (and somewhat surprising) piece of good news as Turkey raised the average rate at which banks can borrow by 2.8%. Considering that the US Federal Reserve rarely adjusts the federal funds rate by more than 0.5% at one time, this is obviously a very large increase. This news is surprising not only because of the magnitude of the rate hike, but also because Turkey’s central bank had previously been so reluctant to raise rates. We believe that Turkey did the right thing, as higher rates should help protect the Turkish lira, which has fallen nearly -25% over the past year, from dropping further, and help bring back foreign investment.

What this means

Interest rate adjustments are an important monetary policy tool, and their effects can be widespread. In the case of Turkey, some are calling Tuesday hike a “symbolic” loss for Prime Minster Erdogan, who has campaigned against a rate increase in the face of upcoming elections that may see him (and perhaps his party) voted out of office.

The rate increase will have a mixed effect on the Turkish economy. On the plus side, it should strengthen the lira, making imports less expensive because the same number of lira now buys more goods in other currencies. This is particularly important for Turkey, which is a net importerof goods. However, businesses that export from Turkey may find it harder to sell abroad, as a stronger lira also makes exports more expensive. Most importantly, a stabilized lira should help bring back foreign investment, and along with higher interest rates, help keep investors from dumping their Turkish bonds.

Remember, though, that the problems in Turkey are also political, with a major corruption scandal undermining the legitimacy of the Erdogan government. Partly for this reason, contagion to a large number of other emerging markets, as we saw back in 1997, seems unlikely at this point. Yet so far this year, investors don’t seem to be distinguishing between more stable and more troubled emerging markets, dumping everything indiscriminately (the MSCI Emerging Markets index is down -6.6% since 12/31). We suspect that investors will soon stop painting all such markets with the same brush, and realize that the developing world does not march only to Turkey’s drumsticks (sorry!).

Unless the situation in emerging markets shows signs of a true economic crisis (and not just a “crisis of confidence”), we remain comfortable holding the assets of several emerging market countries. While we aren’t (yet) planning to increase our clients’ exposure to emerging markets, we aren’t succumbing to the panic and selling assets in the face of a temporary headwind.

We’ll end on a Warren Buffett quote we’ve used many times: “Be fearful when others are greedy and greedy when others are fearful.”

Adam

Dr. Ken Waltzer MD, MPH, AIF®, CFA, CFP®
Founder and President – Kenfield Capital Strategies (KCS)

Adam Bragman
Director of Business Development – Kenfield Capital Strategies (KCS)

The RVW Response to the Current Weakness in Equity Markets in 2 Words

February 1st, 2014
Here’s the proper response to current weakness in 2 words: Ignore It.

BOTTOM LINE:
Corporate earnings are strong, there is a resurgence of manufacturing in the USA, interest rates are low and are expected to stay low – and equities are still well priced for long term growth.
The Visual Image to Keep in Mind:
Imagine a person walking up the stairs with a yo yo in his or her hand. The key is to watch the feet and not the yo yo.
PERSPECTIVE: While in absolute terms the declines in the Dow Jones Industrial Average and the S&P 500 Index appear large, they look miniscule when viewed on a one-year price chart.
HERE ARE THE DETAILS:
Discipline in a Volatile Market
The stock market’s basic long term valuation metrics are the price-to-earnings (P/E) ratio and projected earnings growth. The short term however is subject to hysteria, panic, fear and greed. Long-term investors focus on the former and ignore the latter – and over the years have richly rewarded.
As the market continues to gain value off the 2009 lows, the investment community has been rife with the terms “bubble” and “correction”. The S&P 500 Index, while currently off 3.27% from all-time highs, is still currently trading at a valuation that long-term investors should find very attractive and we believe that the long term bull market is solidly intact.
Forward Economic Indicators Continue To Strengthen
The U.S. LEI (Leading Economic Index) is a composite of ten forward economic indicators that is produced monthly by the Conference Board. It’s a great index to measure, as it has accurately predicted the past two recessions. Before a recession, the indicator will observe a streak of monthly declines. When the index turns upward, it is a precursor of economic growth.
In December 2013, the LEI inched upward once again in a sign of continued economic strength. As noted in the chart below, the Coincident Economic Index, which measures the current economy, also continues to rise.
The Current Bull Market
Along with earnings improvements, from March 2, 2009 to January 23, 2014, the S&P 500 Index price has improved from 797.87 to 1790.29, which is a rise of 992.42 points, or 124.4%.
Due to the steady nature of price appreciation in the current bull market, many naysayers believe that the market must observe a correction.
The same reasoning suggests that if a roulette wheel lands on red six times in a row, then it must land on black next. In actuality, past performance is no indicator of future results.
While this correction fear may turn out to be a self-fulfilling prophesy, at today’s prices the market is attractively valued. Rather than give in to current fears, the intelligent investor should heed valuation and stay invested for the long term.
The Current S&P 500 Index Valuation: Corporate Earnings are Strong and Growing
On January 23, 2014, S&P Capital IQ observed 2014 earnings guidance of $121.09 per share. At the current value of $1790.29, this equates to a P/E ratio of 14.78. Because the RVW approach is overweighted towards “value” oriented stocks (as opposed to “growth”), your portfolio likely has a lower P/E ratio than this – and thus a higher earnings yield, which we estimate at 7%.
If earnings were expected to decline year-over-year, such a yield might be considered low. According to S&P Capital IQ, however, the market earnings estimate will increase from $107.82 in 2013 to the aforementioned $121.09 in 2014, which is an improvement of 12.3%.
While S&P 500 TTM earnings have stagnated around $100 per share for five of the last six reported quarters (Q2 2012 to Q3 2013), they are set to explode higher over the next five quarters. Improvement in earnings momentum should lead to higher valuations, as markets reflect where they are going, not where they have been.
While many may state that Q4 2013 estimates were below expectations, as of January 23, 2014, nearly 25% of the S&P 500 Index constituents have reported earnings which have been quite impressive considering over half have beat their consensus earnings expectations.
In aggregate, over 75% of reported Q4 2013 earnings have met or exceeded estimates, which is quite good for the market.
Another way evaluating the valuation of the stock market is to flip the P/E ratio and create what is called the earnings yield, which is measured by dividing earnings by price. In terms of the S&P 500, the 2014 expected earnings yield is 6.76%.
In other words, buyers of the current domestic stock market via the S&P 500, which can be purchased through low-cost index funds such as the SPDR S&P 500 ETF (SPY), are holding an index of domestic stocks that are expected to yield 6.76%, which is a remarkable 402 basis points premium to the risk-free rate (10-year U.S. Treasury yielding 2.74%).
Historically speaking, when stocks are yielding above the risk-free rate, they are considered undervalued, while yields below the 10-year Treasury rate are considered overvalued.
Over the course of the current bull market, the S&P earnings yield has exceeded the 10-year Treasury yield. The chart below constructs opening quarter Treasury yields from Q2 2009 to Q1 2014, while S&P 500 earnings yields are by dividing forward earnings per share by opening quarter prices.
By subtracting the 10-year Treasury yield from the S&P 500 forward earnings yield, one may find the historical risk premium of the current bull market. By multiplying the difference by 100, the calculation arrives at the basis-point spread, which equates to a .01 percentage difference per basis point.
Conclusion
Even with solid fundamentals, corrections of 10% or more are part of the market’s long term bumpy move upwards over long periods. Stay the course and ignore the headlines.
The RVW Wealth Team Serving You
Selwyn, Michael, Jonathan, Loren and Mary
Selwyn Gerber CPA, Founding Member | RVW Investing LLC.
1880 Century Park East, Suite 200 | Los Angeles, CA 90067
310.945.4000 | 310.552.1626 Fax