Note:There is no Investment Strategy for XXXX. The most recent Investment Strategy from XXXX is available below.
Note: There is no Investment Strategy for November 15. The most recent Investment Strategy from November 8 is available below.
“Do you have the mental fortitude to accept huge gains?”
“This comment usually gets a hearty laugh, which merely goes to show how little most people have determined it actually to be a problem. But consider how many times has the following sequence of events occurred? For a full year, you trade futures contracts, making $1000 here, losing $1500 there, making $3000 here and losing $2000 there. Once again, you enter a trade because your (trading) method told you to do so. Within a week, you’re up $4000. Your friend/partner/acquaintance/broker/advisor calls you and, looking out only for your welfare, tells you to take your profit. You have guts, though, and you wait. The following week, your position is up $8000, the best gain you have ever experienced. ‘Get out!’ says your friend. You sweat, still hoping for further gains. The next Monday, your contract opens limit (down) against you. Your friend calls and says, ‘I told you so. You got greedy. But hey, you’re still way up on the trade. Get out tomorrow.’ The next day, on the opening, you exit the trade, taking a $5000 profit. It’s your biggest profit of the year, and you click your heels, smiling gratefully, proud of yourself. Then, day after day for the next six months, you watch the market continue to go in the direction of your original trade. You try to find another entry point and continue to miss. At the end of six months, your method finally, quietly, calmly says, ‘Get out.’ You check the figures and realize that your initial entry, if held, would have netted $450,000.”
“So what was your problem? Simply that you had allowed yourself, unconsciously, to define your ‘normal’ range of profit and loss. When the big trade finally came along, you lacked the self esteem to take all it promised . . . who were you to shoot for such huge gains? Why should you deserve more than your best trade of the year? Then you abandoned both (trading) method and discipline. To win the game, make sure that you understand why you’re in it. The big moves in markets only come once or twice a year. Those are the ones which will pay you for all the work, fear, sweat, and aggravation of the previous years. Don’t miss them for reasons other than those required by your objectively defined method. The IRS categorizes capital gains as ‘unearned income,’ that’s baloney. It’s hard to make money in the market. Every time you make, you richly deserve. Don’t ever forget that.”
... Robert Prechter – the Elliott Wave Theorist (1992)
“Do you sincerely want to be rich?!”
What a great question! It’s a question I ponder this time of year as I reflect on the year gone by. This year that question leaped out while studying the history of buying stampedes. Recall, the current stampede is now 77 sessions in length, which eclipses the longest such skein recorded in my notes of some 45 years. While reviewing the 1987 upside stampede, into the August 1987 peak, I rediscovered the aforementioned quote from Robert Prechter. It’s an excellent quip. Virtually everybody can identify with it. On the surface the question seems laughable; who can’t accept huge gains? But in order to set yourself up for such gains you have to possess the courage to take an oversize position and maybe even leverage it. That kind of risk takes stomach and fortitude. Many times I have waited for the right moment, the big move, and decided against it. Maybe it was because I chickened out. While I often rationalized the hesitation away, the real reason I did not act was the emotional strain.
Yet, I know myself and have learned that emotional actions are failures most of the time. What one has to do is be able to step outside of themselves in an objective fashion. When you do that, it’s kind of like seeing things in slow motion. You are calm, objective, and can see ahead, perceiving the proper sequence of events. You just know you’re right and you act. I admit it’s kind of eerie; and, it’s hard to explain to anyone who hasn’t had the experience. Years ago, I had the same kind of experience in golf. Now it happens occasionally in my writing, trading, and investing. You just feel it, you see ahead, and you get the “rhythm.”
I bring these thoughts up today because it’s very human to look back after this September 1st to December 18th “buying stampede” and say, “If I hadda . . . !” If I hadda bought that stock, that option, that index, in size, etc. . . . ! It’s painful. But, post mortems help you learn in this business. I’ve learned that history repeats itself in the financial markets, despite changing players and changing events. You have to identify the patterns, and then you have to possess the courage to act, to believe in your own discipline. “Do you sincerely want to be rich?” Know that’s a question with agonizing implications; and it may tell you more about yourself than you really want to know.
“Do you sincerely want to be rich?” To accomplish that goal, to make those “outsized” gains, you need to know one thing – in bull markets don’t lose your entire position! Certainly you can rebalance positions (read: sell partial positions) as the security in question rallies. However, never (repeat: NEVER) lose your entire position of a “bullish bet.” To be sure, you will hear a lot about how overbought the stock market, an individual stock, a bond, an index is; still, stocks can stay overbought longer than most participants think. And, that is why I have repeatedly stated – if you want to be cautious in the short-term that’s okay, but don’t get bearish. Case in point, it was March 2009 and I was pretty bullish. I was particularly attracted to emerging markets. Our annual institutional conference was in session and I had just listened to a very bullish presentation from one of the companies in our research universe, namely NII Holdings (NIHD/$45.30/Strong Buy). NIHD provides wireless communication services in South America (particularly Brazil). At the time the shares were changing hands around $12 and we were recommending purchase. Unsurprisingly, a number of accounts bought the stock. The problem was that a few months later many of those accounts sold the shares in the low-$20s and in turn asked me for additional “buy ideas.” My response was, “Why did you sell your entire position?” Their reply was, “Because we had a nice gain.” Subsequently, NIHD shares have traded substantially higher.
Ladies and gentleman, as Warren Buffett opines, “All you need is one or two good ideas a year.” Clearly, this year has been replete with good ideas, as demonstrated by the performance of our Analysts’ Best Picks List for 2010 (please see page 6 for more information). Still, a lot of 2010’s outperformance has been driven by getting two things right. First, you had to avoid getting “hammered” in the 17% May through June swoon. And second, you had to stay constructive on stocks from those June lows until now. I think the trick in 2011 is going to be much of the same since I believe the wide-swinging trading range stock market environment we have experienced for the past 10 years will continue unless our elected leaders can come together with simple, workable solutions to the nation’s problems. Manifestly, I don’t think the nation can stand two years of gridlock given the issues we are facing. As for themes, I continue to embrace no double-dip recession, slow economic growth, dividend yield, stuff (energy, agriculture, water, electricity, metals, etc.), emerging/frontier markets and their consumers (although the emerging markets are well overbought currently), technology, financials, active investment management over passive (indexing), and hedging portfolios to reduce the downside risk. And with that, Merry Christmas to all and to all a good night.
The call for this week: When I left the country last Tuesday the S&P 500 (SPX/1243.91) was trading at 1242 and my “call” was, “I think we are making a very short-term trading top here, but I don’t think any selling will gain much downside traction. All I think happens is the equity markets stall, and rest, while they rebuild their internal energy for another rally into the new year.” Well, I’m back in the country and the SPX is roughly 2 points higher than when I left and I still think we are setting the stage for another rally into the new year. That said, there are signs that the current rally is long of tooth, suggesting the potential for a January “air pocket.” Furthermore, there is precedent for that. In 1981 the SPX suffered a 5% downside “air pocket.” Again in 1990 there was a 7% “hit.” In fact, January 2010 saw a 4% hiccup. Accordingly, while I still believe the upside should be favored into year-end, I am starting to consider some downside hedge “bets” to reduce the risk in portfolios.
“The sell-off in government bond markets (U.S., Japan, and Germany) is becoming rather impressive. While government bonds are massively overvalued, the timing of recent disposals is nevertheless surprising given the unresolved troubles in Europe. Why are all government bonds selling off just at the time one would think risk appetites should be muted? The simplest explanation is that the believers in the double-dip are throwing in the towel as the numbers out of Northern Europe and the U.S. continue to point towards expansion. This may be amplified by the fact that we are coming into the year-end and as 'long bond' bets move from being winners to losers, fewer investors want to have the bet on as their books close on the year. The other explanation is that market participants are realizing that the U.S. and Germany will continue to follow accommodative policies (e.g., Obama's tax-cut extensions) until growth is seen to be massively booming . . . so with that in mind, why be long bonds?”
... GaveKal
So wrote the thoughtful GaveKal organization last week and it’s truly a great question – why be long bonds? To be sure, the most important chart patterns of December (at least so far) are the charts of the 10- and 30-year Treasury bonds, whose yields have backed up more than 10% since the end of November (see the first chart on page 3). That move has lifted the yield on the 10-year Treasury from an intra-day low of 2.9% to an intra-day high of 3.3%. However, measuring from last October’s yield-yelp low of 2.3% finds the 10-year’s yield up a massive 42%. The second most impressive chart for the month is copper, which is up 10.8%. Copper is often referred to as “Dr. Copper” for it has a better predictive record on economic growth than many economists; and last week copper came a cropper as it traded to new all-time price highs. The third most interesting chart is crude oil, which shows a monthly price rise of more than 11%. Clearly, these charts are suggesting the pending U.S. tax compromise, combined with QE2, will foster larger than expected positive surprises for U.S. economic growth. Contrary to consensus opinion, it also implies further U.S. dollar strength and more upward pressure on bond yields.
To me, the biggest surprise of the tax compromise is the payroll tax reduction of 2% (to 4.2%). This alone should add some $1,000 of disposable income for the average $40,000 - $50,000 per year wage earner. Further, the extension of the Bush tax cuts is tantamount to passing a second fiscal stimulus package, “footing” to about 40% of the 2009 initiative. The resulting impact on our economy should accelerate GDP to better than the anticipated 2.0% - 2.5% rate by the end of 2011. The quid pro quo is that the 10-year Treasury’s yield will likely approach 4%. Nevertheless, that does not mean stocks can’t continue to rally.
Plainly, the rise in interest rates, copper prices, and crude oil is suggestive of stronger economic strength than is currently envisioned. That view is reinforced by the purchasing managers’ report that anticipates factory sales will grow at 5.6% in 2011 with a concurrent ramp in capital investment of 15%. As often argued in these missives, the 2009 – 2010 corporate profits explosion has led to an inventory rebuild that is being followed by a capital investment cycle. Once companies start spending money on capital equipment (capex), hiring will increase with an ensuing “hop” in consumer consumption. That is the way the business cycle has historically worked, and I see no reason it will not play again. Indeed, despite the headlines, if you talk to temporary help agencies you find hiring, except for construction, is booming. This is being reflected in the JOLTS report, which shows job openings increased by 12% in October. Consumer sentiment is also improving, as are retail sales, punctuated by October’s $3.3 billion expansion in consumer credit. So I’ll say it again, “To the underinvested portfolio manager (PM) the current economic and stock market environments are a nightmare!” Not only do such PMs have performance risk, but bonus risk and ultimately job risk. Accordingly, my sense is the S&P 500 (SPX/1240.40) will probably rise to above 1250 this week and then consolidate before embarking on another leg higher.
If this scenario plays, and stronger economic growth materializes, the various markets should start discounting a normalization of Fed policy. All we need is a few good employment reports and the dollar, as well as interest rates, should rise. Interestingly, if interest rate differentials widen between the rest of the world and the much maligned Japan, Japan’s currency should fall, fostering a surge in Japan’s exports. I have been wrong-footedly bullish on Japan since the summer of 2009. And while I have not made much money there, I haven’t lost much money either. My investment vehicles have been two small-cap closed-end funds. Those names are Japan Small Capitalization Fund (JOF/$8.68) and WisdomTree SmallCap Dividend Fund (DFJ/$42.20). I continue to like them because Japan is “cheap” and as my father says, “Good things tend to happen to cheap stocks.” Moreover, as the astute GaveKal organization opines, “A continuation of the bond market meltdown would tell us to own stocks in U.S., Japan, Korea, and Taiwan.”
As for last week’s epiphany about 2011 potentially being “The year of the banks,” I was swamped with emails asking which banks since I have shunned them for roughly 10 years. The two mentioned in last week’s report were 2.4%-yielding IBERIABANK Corp. (IBKC/$56.16/Strong Buy) and 4.5%-yielding People’s United Financial (PBCT/$13.60/Strong Buy). Last week our fundamental bank analyst had this to say about IBERIABANK:
“Our note this morning discusses the top 10 reasons why we like IBERIABANK, which include: (1) its strong asset quality; (2) its prudent, profitable expansion over the past 10 years; (3) additional de novo and acquisition opportunities; (4) Its best-in-class management team; (5) its strong organic growth excluding its FDIC-assisted acquisitions; (6) its recent market share gains and improving deposit mix; (7) benefits from entering higher-growth markets at this point in the cycle; (8) greater earnings power potential vs. most of its peers; (9) attractive valuation; and (10) the opportunity in the stock given recent underperformance to peers.”
In conclusion, the invaluable Bespoke Investment Group scribed this about the Financials over the weekend:
“Quite a few of those risky, unloved stocks that have done so well come from the Financial sector. As shown, the Financial sector is up 8.89% since the start of the month, while the second best sector (Materials) is up just 5.84%. This has caused some to wonder whether the sector is finally breaking out of its funk of underperforming the overall market. This isn't the first time the sector has popped on a relative basis in the last few months. Since the most recent leg of the rally began in September, there have now been three periods where the Financial sector outperformed the S&P 500 for a few days. In the prior two periods, the sector quickly reverted to its longer term trend of underperformance. Will the third time be the charm?”
The call for this week: Last week, of the 10 S&P macro sectors, Financials were by far the biggest gainer with a “weekly win” of 3.34%. If the third time is indeed the charm, and 2011 does become the year of the banks, we should start to see confirmation of that by a narrowing of the financial sector’s Credit Default Spreads (CDSs). At the margin this has already begun, as seen in the chart on page 3 from the good folks at Bespoke. The implication, for the overall stock market, should be bullish because it would be difficult to get another leg up in stocks without help from the Financials. Therefore, investors should watch the Financials for a “tell” as to the stock market’s near-term direction. My guess is the SPX trades into overhead resistance between 1250 and 1265 early this week and then stalls to re-energize before trading higher.
Click here to enlarge Source: Thomson Reuters.
Click here to enlarge Source: Bespoke Investment Group.
While created by writer Dan O’Keefe, Festivus was lionized on the hit TV series Seinfeld. The holiday’s celebration includes the “Airing of Grievances,” and “Feats of Strength,” all accompanied by an unadorned aluminum pole instead of a Christmas tree. In December 2007 the Minyanville organization adopted the concept and held its first Festivus event. The proceeds from these annual events go to The Ruby Peck Foundation for the education of children. Ruby Peck was Todd Harrison’s grandfather; and Todd is the founder of the “must have” Minyanville service. Emmy award-winning Minyanville is a financial website that informs, educates, and entertains all generations with regards to unbiased investment views. Its Buzz & Banter feature is a running blog with more than 30 professors (me included) contributing daily/hourly gleanings about the current state of the financial markets. I revisit Minyanville this morning because last Friday was the annual celebration of Minyanville’s Festivus. In attendance were many of Wall Street’s “best and brightest.”
I arrived around 5:00 p.m. and had a chance to chat with a number of other early arrivers before the official festivities began. First was David Stockman. Recall, David was the former federal budget director under President Reagan. His take was – it is different this time; and, it will take a decade just to get back where we were in December 2007 unless things change. The heart of his argument was about middle class jobs. I too have written about this, scribing that roughly 2.4 million high-paying manufacturing jobs were lost in the first part of this decade. Yet, those losses were masked because many of those folks found jobs in the construction industry. When the bubble burst in construction, however, the structural unemployment situation became glaringly apparent. David also noted that for the first time in history governmental jobs (Federal and State) are shrinking as more than 250,000 jobs have been shed during the past year. Additionally, he believes most governments are broke and offered the following solution:
1) Raise revenue across the entire population by a large magnitude to pay our government’s bills; probably a half trillion dollars a year.
2) Social Security and Medicare: Cut benefits for better-off retirees by $100 billion a year through a means test for retirement entitlements.
3) Reduce defense spending by at least 20 percent from planned levels (by 2015), which is projected at about $800 billion.
4) Cut domestic discretionary spending by $100 billion – transportation, national parks service, education, farm subsidies, business subsidies (such as ethanol plants).
Next I had a conversation with Dr. Gary Shilling. The last time I spoke with Gary was last spring when we were both on a panel at John Mauldin’s conference. Gary’s views have not change all that much since then. He still thinks the 10-year Treasury’s yield is going to be zero before our bout with deflation is over. Standing next to Gary was Peter Schiff, who was so negative I had to walk away. Then there were the constructive types like my friends Tony Dwyer (Strategist for Collins Stewart) and Smita Sadana (CEO of Sunrise Capital). Of course there were many other positive pundits, yet most of their arguments resembled the thoughts expressed in these missives over the last six months. To wit, there will be no double-dip recession, earnings momentum will continue, the resulting profit explosion leads to a strong inventory rebuild (whose ramp rate is now slowing) followed by a capital expenditure cycle boosting hiring and then consumption should increase. To this consumption point, there is roughly a 90% correlation between a rise in the stock market from September through December and stronger than expected Christmas retail sales. Accordingly, for three weeks I have urged investors to consider retail stocks, the largest market cap one being Wal-Mart Stores Inc. (WMT/$54.62/ Strong Buy).
While in the city I also spoke to numerous institutional accounts, most of whom are underperforming their respective benchmarks. To be sure, this has been an extremely tough year, consistent with my mantra of December 2009, “The trick in 2010 is likely to be keeping the profits accrued to portfolios since the March 2009 bottom” (aka, “The Year of the Hangover”). The fact of the matter is that you only had to get two things right this year. You had to avoid the May – June swoon and then stay constructive on stocks. Unfortunately, a lot of investors didn’t do that and are therefore underperforming. One such portfolio manager (PM) told me that he was not going to be able to catch-up with “The Joneses,” the Dow Joneses, and subsequently had “flattened out” his portfolio and is calling the year over. Most of the PMs, however, were in desperate search of stock ideas that would help their performance into year-end. I think there is a distinct message there.
As stated, I have learned the hard way that it is tough to break stocks to the downside during the ebullient holiday month of December. While it has happened, it is still a fairly rare event, occurring only 29% of the time over the last 100 years. This year, I have argued, it should be particularly difficult due to the aforementioned underperformance; and, the fact many PMs are sitting on too much cash. Hence, driven by performance risk, bonus risk, and ultimately job risk, PMs should be inclined to buy the “dips.” And that, ladies and gentlemen, is why I have repeatedly stated that any pullback should be contained in the 5% to 8% range. So far that has been an okay “call” since the November stock stumble was contained at 4.4%, leading to the best start of December ever, albeit only three days into the month. Interestingly, since Thanksgiving the best performing groups have been (in descending order) Retailers, Consumer Durables, Semis, Transportation, Capital Goods, and Technology. Last week, the star sectors were Materials (+5.70%), Energy (+4.96%), and Financials (+4.92%). That weekly performance, however, pales in comparison to Cotton (+19.01%), Wheat (+15.61%), and Natural Gas (+10.77%). Plainly, such action was positive for my portfolio recommendations. Importantly, Energy should continue to be a major portfolio focus given my views this will be a much colder than expected winter.
The worst performing sectors since Turkey Day have been Banks and Financials. Readers of these reports know that I have avoided the banks for some 10 years. I missed them going down and have missed them going up. However, select banks finally appear to be comfortable with their capital ratios such that they should begin raising dividends in 2011. Verily, there should be widespread dividend increases next year as most of the top 50 banks have minimal payout ratios when compared to historic levels. Accordingly, I am thinking of terming 2011 “The Year of the Banks” as “The Year of the Hangover” sunsets. Whether I embrace that mantra remains to be seen, but I still would offer 4.8%-yielding Peoples United Financial (PBCT/$12.96/Strong Buy), as well as 2.5%-yielding IBERIABANK Corp. (IBKC/$53.84/Strong Buy), for your consideration. Please see our fundamental analyst’s most recent comment on these companies for more insight.
The call for this week: Festivus is alive and well, and the “Airing of Grievances” should be particularly loud since 2010 will go down as the worst year of underperformance by active money managers in memory. That will leave many of the pros unloved in the new year. Also unloved are the Financials, and consequently under owned, which if 2011 does turns out to be “The Year of the Banks” might explain why the Financials were up 4.92% last week. The Dow’s weekly-win of 2.6% broke the senior index out of its two-week trading range driven by last Wednesday’s 90% Upside Day. It was the seventh such 90% Upside Day since the beginning of September versus only one 90% Downside Day. That speaks to the strength of the underlying rally and continues to put underinvested PMs squarely in the crosshairs of the performance derby. That performance anxiety could increase if Lowry’s Buying Power Index travels above the Selling Pressure Index, which could happen this week. That said, the stock market is once again over bought so it would not surprise me to see a pause and/or pullback in the short-term. Nevertheless, I still expect the trend of buying the “dips” to continue. Watch the Financials; they may be the key to the stock market’s near-term directionality.
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