Market Commentary – October 26, 2009

General Market Comment:    October 26, 2009

 The earnings season continues beat estimates . . . 81% of the 199 S&P 500 companies that have reported have beaten estimates!  One would have easily bet that the percentage would have declined this week from the 79% reported last week.  The average percentage “beat” is up 18.1%.  This data is courtesy of Thomson Reuters. (by the way – Thomson mislabeled this table that I included in last week’s market comment as “Q2”)

ScreenHunter_04 Oct. 26 12.58 

Here is an update on the record of companies beating earnings estimates as provided once again from Bespoke Investment Management.  Their data encompasses all public companies and so it varies a bit from the Thomson data in the above table.  One can see that Q3 is a standout quarter so far.

 ScreenHunter_05 Oct. 26 12.59

Here is another one of their charts which is remarkable.  It overlays the net percentage of upside revisions to earning estimates on top of the S&P 500 price.  Earnings revisions are likely to incorporate increasing earnings as we proceed into Q4 if this picture portrays the true trend..

 ScreenHunter_06 Oct. 26 12.59


This is what Bespoke had to say about the two charts . . .

 In conclusion, the data shows that companies have been beating raised estimates and not lowered ones during this bull market, and the direction of quarterly “beat” rates is a trend that investors should definitely follow.

 The strength in earnings and the strength in the stock market is confounding many pundits.  After all, everyone knows that the U.S. consumer is broke and not consuming and therefore the global economy is doomed – just doomed . . . well, maybe not.

 My friends at GaveKal wrote an eloquent and short appraisal of the apparent contradiction of the rising stock market and lackluster consumer market which I include for you here.  I have highlighted comments that I liked the most.

       GaveKal         Checking the Boxes                        10-23-09

 The stream of strong results announced in the current earnings season is a reminder that we are in the midst of a very different type of recovery. In fact it is a rather old-fashioned recovery. We have come in the modern era to be accustomed to Keynesian cycles, in which consumption is the engine that drives economies back to growth after recession. This has been especially true in the past two decades, when nearly every tough patch in global output was cured with a widening of the US current account deficit as the US consumer came to the rescue every time. Yet, this time around, we have a recovery blooming even as the US current account deficit narrows, and while consumers nearly everywhere hunker down. In other words, this is an Austrian cycle, not a Keynesian one, and one where corporate profits, not consumption, will lead the way. Indeed, the companies that have weathered the storms of the past 18 months are emerging leaner and meaner, and ready to fight. They are enjoying a rebound in profits, and will need to re-invest those profits to stay ahead of the competition. As such, the next step in the recovery will be a classic capex-led restructuring, followed by a rise in employment and, later, a recovery in consumption. We are already seeing signs of this trend, with the rebounds in industrial production that are beginning to emerge across the global landscape, even as consumption data remains depressed. The US has seen three straight months of increases in industrial production, while China, for instance, just announced a +13.9% YoY jump in industrial production for September. And this is even before we have seen any meaningful restocking of inventories in the US….

 This change from a Keynesian to an Austrian cycle poses several challenges for investors. After all, indices in the past decade have been structured to reflect a Keynesian world, but portfolios should now be tilted towards an Austrian-cycle world. This is already starting to happen, as reflected in the strong performance of the tech sector, one that is capex-intensive and thus has tended to be a late-cycle performer in the recent consumption-led recoveries.

 We should also keep in mind the longer-term effects of the coming period of investment-led economic growth: increased efficiency. Tech investments always pay off in the long run by offering businesses and consumers cheaper and cheaper access to productivity-enhancing tools, gadgets and instruments. But tech is only one part of the current capex story. There will also be an immense amount of capital that will be flowing into alternative energy sources in the years ahead, as countries with dependencies on oil (e.g., the US) or other “climate-change” fuels such as coal (e.g., China) search for new technologies in wind, solar, nuclear and battery power, etc. The UN, for instance, has estimated that up to US$10 trillion in additional energy investments will have to be made over the next 20 years (see our write-up on p. 4 of the Oct. 13 Daily). The process will not only provide grist for the mill of a knowledge-based economy, but will lead to lower energy costs and greater energy efficiency (see Peak Demand?).

 In the past, “Austrian cycles” have often been associated with tough-luck, painful, even brutal economics. But this is a short-sighted characterization. Instead of a recovery led by overconsumption and mindless leverage by everyone from subprime-mortgage holders to investment banks that think they are hedge funds, we will have a recovery led by investments in the type of technologies that will make life smarter, cleaner and better. And this can only be good news.

 You are welcome to disagree with any or all of the above sentiments.  The facts as I continue to see them persuade me the market has more upside than downside.

Market Commentary – October 19, 2009

General Market Comment:    October 19, 2009

 The earnings season is not disappointing so far.  There are 135 companies of the S&P 500 reporting this week.  Here is how the companies that have already reported have fared versus their estimates.  So far 79% have beaten estimates.  The average percentage “beat” is up 23.8%.  This data is courtesy of Thomson Reuters.

 ScreenHunter_01 Oct. 18 23.22

 There are still plenty of bears in the woods who will find fault in the earnings and warn of a potential market correction . . . maybe yes – probably no . . . but that is just my opinion.  Their warnings are reassuring.

 Here is some insight from Bespoke Investment Management on the guidance toward future earnings so far.  These metrics are unequivocally bullish.  I have highlighted comments that got my attention.

Guidance — Wow

While the EPS beat rate this earnings season has been strong, there’s another data point that has been even more eye-popping.  While the earnings per share numbers grab the headlines, it’s what companies say about their future quarters that impacts stock prices the most on their report days.  As shown below, 20.3% of US companies have raised guidance so far this earnings season.  The highest reading for this number has barely broken 15% in any prior quarter this decade.  And if we compare the percentage of companies raising guidance versus the percentage of companies lowering guidance, no other quarters come even close to this one.  It will be hard to keep this up as earnings season progresses, but it’s also shaping up to be a record-breaking quarter on the positive side.

 ScreenHunter_02 Oct. 18 23.22

Given the onslaught of earnings reports and updating of estimates I decided to have a look at the degree to which the S&P 500 might be over or under valued relative to the 10 year U.S. Treasury rate.  The growth in earnings for the full year 2009 of 10.8% now places the S&P 500 32% below the fair value using the 10 year Treasury rate as a “cap rate”. 

ScreenHunter_03 Oct. 18 23.23

As you might guess the market tends to go up in the following quarters when the S&P 500 has been as undervalued – and this is before we get the full benefit of more raised earnings guidance.  Of course this tool also said the market was over 30% undervalued last fall just before we almost went into the abyss.  But that was then and now is now and earnings are rising instead of falling – so there.

 The facts are coming together to favor more upside to the market in the near term. 



Market Commentary – October 12, 2009

General Market Comment:    October 12, 2009

Here come earnings!  No need to say much about the market other than Q3 earnings reports are upon us.  Here is what Bespoke Investment Management had to say about the upcoming earnings season last week on their blog.

 Analysts at Most Bullish Level in Two Years  “ . . . analysts are more bullish heading into the current earnings season than they have been at the start of any other earnings season since the recession began.  Over the last four weeks, analysts have raised forecasts for 638 companies in the S&P 500 and lowered forecasts for 391.  This works out to a net of 247, or 16.45% of the index.  While some would argue that bullish analysts are a contrarian signal, we would note that earnings revisions were negative for several quarters and turned much more negative before they became a contrarian signal.

 ScreenHunter_10 Oct. 11 22.04

 In light of all those positive earnings revisions the following chart shows what the quarterly estimated earnings per share looks like for the S&P 500 as updated on the Standard and Poors web site as of last week. 

ScreenHunter_11 Oct. 11 22.05 

The guys who get paid to manage trillions of dollars of your retirement money can all do the math that says something that can grow prospectively almost 30% in the next 12 months is a better deal than holding a money market fund that is yielding less than 25 basis points or a 10 year Treasury bond yielding less than 3.5%.  As the analysts become more positive on earnings, the brokers get more persuasive and the portfolio managers get more anxious to chase the indexes.  Keep in mind that so long as the slope of the blue curve above is pointing up- the odds are the market will point the same direction notwithstanding the occasional panic attack.

 The analysts at the Economic Cycle Research Institute issued a timely and very bullish report last week on the direction and velocity of their series of leading economic indicators in which the stock market is included.  Here is what the managing director had to say . . .

 “We are in the early stages of the recovery and it looks to be a lot stronger” than the consensus for modest 2%-3% GDP growth, says Lakshman Achuthan, managing director of the Economic Cycle Research Institute (ECRI). . . “With WLI (Weekly Leading Index) growth rocketing to a new record high, the economic recovery will prove to be far more resilient in coming months than most believe possible,” . . . “

 Mr. Achuthan was referring to a record new high rate of growth versus absolute level in the weekly leading economic indicators.  I have plotted the numbers back to 2000 below.  This data series says the underlying elements of the economy are “smokin”!

ScreenHunter_12 Oct. 11 22.05 

If the weekly leading indicators are only half right then the optimistic estimates for corporate earnings may prove to be modest.  The outlook for continued very low interest rates for many more quarters in addition to the tendency of earnings to surprise to the upside in conjunction with the huge $9.5 trillion in cash sitting in MZM (money of zero maturity) suggest we confront a prolonged period of upside to the equity market. 



Market Commentary – October 5, 2009

General Market Comment:    October 5, 2009

 Last week was full of economic data.  This week will be full of earnings data as the Q3 earnings season gets kicked off.  The market has had a pretty run of the mill correction so far – not unlike what preceded the Q2 earnings season.  The labor numbers last week has some pundits lamenting continued economic weakness.  Remember that labor numbers lag other economic indicators.  I have a few charts on last week’s data and some items on the coming quarter that follow below.

 The first chart to consider is an update of the ISM survey results for manufacturing businesses.  Specifically it addresses the trend in new orders and employment.  Some of you may recall my prior work that shows that rising new orders has led to rising employment.  While these data series can be volatile the picture is one of recovery.  We will see the non-manufacturing data reported this week.

ScreenHunter_06 Oct. 04 20.58 

Another look at the labor situation comes from the Carpe Diem blog of Mark Perry.  Mark points out that not only have Initial Jobless Claims started to decline they are relatively modest in terms of the percentage of the labor force compared to the deep recessions of 1974-75 and 1980-82. 

ScreenHunter_07 Oct. 04 20.59

Mark described the situation as follows . . . “This measure of initial jobless claims, adjusted for the size of the U.S. labor force, shows that jobless claims peaked during this recession above the levels of the last two recessions (1990-1991 and 2001), but were never anywhere close to the levels of the previous three recessions in the mid-1970s and early 1980s (see chart above) . . . . In other words, this recession was worse than the last two, but not nearly as severe as the previous three, using this adjusted measure of jobless claims. . . Finally, the current level of 0.3634% for jobless claims as a share of the September labor force is above the level at the end of the 2001 recession, but is very close to the levels that marked the ends of the four previous recessions (see dashed blue line in graph above)..

 Some of you might be alarmed that the recent sell off in the stock market wiped out the September gains.  The analysts at Bespoke Investment Group pointed out that October has started with one of the weakest market performances since the Depression.  In fact the drop last Thursday was the 4th weakest since 1928.  Sounds scary huh?  Not to worry my friends – I went back and checked on the Q4 performance for S&P 500 for all the 10 instances Bespoke identified and found that in all but one instance the market went on to rise in the fourth quarter.  The only time the market didn’t go up after an unusually weak October start was 1931.  The last time we had a really weak October start was 1998.  In fact, the start to October 1998 was the weakest in modern market history.  The S&P 500 went on to rise 21% in Q4 1998.

 It would take a severe economic reversal – not just a slow down – a reversal – of the multiple economic indicators and earnings to prevent Q4 from seeing a positive market move.  I have displayed the Q4 experience for the S&P 500 since 1945 below.  Q4 has been a plus quarter 78% of the time since 1945 and 84% of the time since 1980.

ScreenHunter_09 Oct. 04 20.59 

 The recent correction in the market has so far been unremarkable, highly anticipated and timely.  The earnings reports in the coming weeks will set the tenor for Q4 market performance.  There are no rose colored glasses on Wall Street this quarter so the odds favor better than expected earnings reports.  The drop in the market may provide money managers the justification to put money to work to try to catch up with the market performance year to date.