Archive for October 31st, 2012
Wednesday, October 31st, 2012
How does the US achieve a sustained recovery if “the 99%” continues to suffer perpetual decline in real income?
by Eric Sprott & David Baker, Sprott Asset Management
Other than some obligatory arrests for disorderly conduct, the Occupy Wall Street movement celebrated its one year anniversary this past September with little fanfare. While the movement seems to have lost momentum, at least temporarily, it did succeed in showcasing the growing sense of unease felt among a large segment of the US population – a group the Occupy movement shrewdly referred to as “the 99%”. The 99% means different things to different people, but to us, the 99% represents the US consumer. It represents the majority of Americans who are neither wealthy nor impoverished and whose spending power makes up approximately 71% of the US economy. It is the purchasing power of this massive, amorphous group that drives the US economy forward. The problem, however, is that four years into a so-called recovery, this group is still being financially squeezed from every possible angle, making it very difficult for them to maintain their standard of living, let alone increase their levels of consumption.
One of the central themes that arose out of the Occupy movement was the growing sense of unease among the average American citizen with regard to growing imbalances in wealth within the US. The rich are getting richer while the poor get poorer. That feeling is entirely legitimate. According to the US Census Bureau, in 2011 the median income of US households, adjusted for inflation, fell to $50,054. This is 4.9% below its 2009 level, and 8.9% below its all-time peak of $54,932 in 1999.1 This is not encouraging data. It implies that the average American household is almost 9% poorer today than it was thirteen years ago.
The Census Bureau data is even more troubling if one acknowledges that the Consumer Price Index (CPI) inflation rate it uses to adjust annual income doesn’t properly account for food, energy or healthcare prices – all key inputs to the average US consumer, and all items that have gone up considerably in price over the last decade, particularly since the advent of quantitative easing. Under current CPI, the items pertaining to food, fuel and healthcare only make up 28% of the total basket.2 The average US family, however, especially among the 99%, is spending far more on these three items as a percentage of their total income. Figure 1 below compares the average price of gasoline and select food items in 1999, when the average household made $54,932 in real terms (inflation adjusted), versus 2012, when the average household made just over $50,000 in the same relative dollars. As can be seen, the increase in food and energy has grossly outpaced the official CPI inflation rate, which conveniently dropped or shifted many of the food and energy components back in the 1990’s. If the Census Bureau used a more appropriate measure of inflation to compare the median household income in 1999 to today, it would result in an even lower annual income number, implying an even worse decline in real wealth over that time period.
Figure 2 below is courtesy of Shadow Government Statistics, and shows US Average Weekly Earnings adjusted for inflation using two versions of inflation measurement. It is a sobering chart. The blue line shows inflation-adjusted earnings using government CPI, and shows a small but steady increase in real earnings since the mid-1990s. The green line, however, shows what inflation adjusted earnings would be today had the US Bureau of Labour Statistics not made changes to the CPI in the early 90s, and reveals that average weekly earnings have actually been in contraction for over 17 years.3 Forget blaming our current woes on the hangover from 2008-2009. The average American worker has been losing income in real terms since the late 1990s. This is clearly a long-term trend which has compounded itself over the last ten years. Weakness begets more weakness.
FIGURE 2: REAL AVERAGE WEEKLY EARNINGS PRODUCTION AND NONSUPERVISORY EMPLOYEES
Deflated by CPI-W versus SGS-Alternate (1990-Base)
To September 2012, Seasonally Ajusted (ShadowStatus.com, BLS)
Source: Shadow Government Statistics, October 16, 2012
Meanwhile, as the Occupy movement also repeatedly highlighted, the increase in wealth inequality within the US has grown steadily over the past thirteen years. Figure 3 below shows the “Gini Ratio” of US household income, which statistically captures income inequality within the country. A Gini Ratio coefficient of 0 corresponds with perfect equality, while a coefficient of 1 describes a situation where one person has all the income, and everyone else has nothing. As can be seen, a clear trend towards inequality has been in place since the late 1960s, and that trend appears to be accelerating today. Just as weakness begets weakness, strength begets strength for those with the most wealth.
FIGURE 3 : INCOME GINI RATIO FOR US HOUSEHOLDS
Source: US Department of Commerce: Census Bureau
These two central tenets of the Occupy movement – that the rich are getting richer while the poor are getting poorer, are the same tenets that are hindering a real recovery within the US. We simply cannot expect the US economy to grow if the 99% are not generating more wealth and disposable income over time. Any discussion of a US recovery that doesn’t acknowledge the deteriorating reality of this group is not an honest discussion in our opinion. And it’s only getting worse. On top of consistently losing purchasing power to inflation over the past decade, the 99% is faced with a pronounced deterioration in job quality (in terms of average salary), chronic youth underemployment, an inability of retirees to generate income from savings, and a steady increase in outright poverty. Market pundits can get excited about a 1.1% increase in September retail sales, but they can’t expect that increase to be sustainable unless we see some relief for the core consumptive engine that ultimately drives those sales.
In this vein, it was very interesting to watch the reaction to the most recent US Bureau of Labor Statistics (BLS) unemployment release on October 4, 2012, which optimistically reported US unemployment falling to 7.8% – representing the lowest level of unemployment since January 2009. Rather than elicit jubilation, the report prompted cynicism, most notably from the former General Electric CEO, Jack Welch, who famously tweeted, “Unbelievable jobs numbers… these Chicago guys will do anything… can’t debate so change numbers,” immediately after the release.4 Welch’s tweet elicited a torrent of defensive responses, most notably by the BLS who were outraged that anyone would question their methodology. But it’s not the methodology that should cause concern (it is just a survey, after all, although continually lowering the “participation rate” of the US labour force does deserve some eye-rolling), it’s the fact that the jobs numbers are shrouding the painful reality of the post-2008 US labour market: that the jobs lost tend to be higher-paying, while the jobs gained tend to be lower-paying.
It doesn’t take much to see this trend evolving. A cursory review of the most recent layoff announcements makes it fairly clear what type of workers are being laid off in 2012:
“Bank of America slashing 16,000 jobs before December”5
“Pharmaceutical giant Merck to cut nearly 12,000 jobs”6
“Computer giant Hewlett Packard to slash 27,000 jobs by October 2014”7
“AMD Announces 15% Cut in Workforce”8
Meanwhile, the new jobs allegedly responsible for lowering the unemployment rate tend to be coming from companies seeking part-time workers, like Amazon.com, which announced that it will be hiring 50,000 part-time workers for the holiday season.9 This is also reflected in the latest BLS report, which accounted for 582,000 of the reported 873,000 new jobs gained in September as “part-time for economic reasons”.10 The reality is that were it not for those part-time jobs gains, US unemployment would look dismal. Public hiring announcements by US companies have totaled a mere 84,937 workers for the first eight months of 2012, which is significantly lower than the 224,243 workers that were announced for the same period in 2011.11 The BLS labour surveys don’t account for the difference between a Bank of America job cut vs. an Amazon.com hire, but that’s the difference that has the biggest impact on the disposable income netted by the job loss/gain.
The trend of high-salary job losses offset by low-salary job gains is increasingly evident among the youngest participants of the 99% – recent college graduates. Figures analyzed by Northeastern University’s Center for Labour Market studies stated that, in 2011, approximately 53.6% of bachelor’s degree-holders under the age of 25 were either jobless or working in positions that didn’t require a college education, representing the highest percentage in at least 11 years.12 The data cited in the study implies that at least one out of four recent college graduates was completely out of work last year. This trend is unlikely to change anytime soon. According to government projections, “only three of the 30 occupations with the largest projected number of job openings by 2020 will require a bachelor’s degree or higher to fill the position – teachers, college professors and accountants. Most job openings are in professions such as retail sales, fast food and truck driving, jobs which aren’t easily replaced by computers.”13 With two thirds of the national college class of 2011 burdened with an average student loan debt of $26,600, the US economy will not be able to count on this demographic to generate increased spending in the years to come.14 If anything, most of these recent college grads are essentially an economic write-off until the US labour market improves.
This trend of lower pay is also starting to show in post-graduate professions. According to statistics from the National Association for Law Placement (NALP), of law graduates in 2011 whose employment status was known, only 65.4% obtained a job for which bar passage was required.15 NALP writes, “Moreover, with about 8% of these jobs reported as part-time, the percentage employed in a full-time job requiring bar passage is even lower, 60%.”16 Figure 4 shows the decrease in average law salaries since 2009, with the most striking decline evident in the median salary at law firms, which has fallen 35% over the past three years as law firms shift to more lower paying jobs.
FIGURE 4: STARTING SALARIES: CLASSES OF 2009, 2010, AND 2011
Source: Source: National Association for Law Placement, Inc.
Think of the difference in disposable income between a salary of $130,000 in 2009 vs. $85,000 in 2011. That’s the difference that isn’t being expressed in today’s labour statistics, but has a profound impact on consumer spending.
Then there are the retirees, and while they may not yet identify themselves with the Occupy movement, they do undeniably make up a key component of the 99%. This is a group that has not only faced continual inflation erosion, particularly due to massive increases in healthcare costs (see Figure 5), but also now faces the burden of generating retirement income in a perpetual zero percent interest rate environment. If there is any group that has felt the decline in living standards over the past decade it is this one. Consider, for example, that in 2012 a savings of $1 million dollars invested in a generic 10-year Treasury bond currently pays a mere $17,000 in interest before taxes. And that’s $17,000 in 2012 dollars. In comparison, $1 million invested in 10-Year Treasuries in 1999 would have generated $47,200 before tax in 1999 dollars, when a gallon of gas was $1.22 and the cost of almost every household item was lower by half. There is no statistic that measures the impact of this decline on the disposable income for retirees, but it doesn’t take much imagination to realize that it has completely changed the prospects for an entire generation of savers.
FIGURE 5: HEALTH CARE COSTS EXPLODING
Source: US Department of Labor: Bureau of Labor Statistics
Then there are the millions of Americans who haven’t saved enough: According to the Transamerica Center for Retirement Studies, an estimated 54% of workers in their 60’s do not have enough financial wealth to sustain themselves in their retirement.17 According to the Employee Benefit Research Institute, 60% of all workers in the US have less than $25,000 of savings and investments.18 That’s less than $25,000 in an investment environment that only pays 1.7% on 10-year Treasury bonds. If they don’t have enough saved for retirement today, how can we expect them to spend more tomorrow? Couple this with the 46 million Americans who are now enrolled in the federal welfare food stamps program, (more than double the amount from a decade earlier), and it paints an extremely bleak picture.19 But this is the reality of the 99%. This is the reality affecting the class of consumers that is expected to drive the US out of recession.
When Ben Bernanke announced QE3 in September, he discussed the importance of increasing the US consumer’s willingness to spend: “The issue here is whether or not improving asset prices generally will make people more willing to spend… If people feel that their financial situation is better because their 401(k) looks better for whatever reason, or their house is worth more, they are more willing to go out and provide the demand.” The 99% will not spend more unless the trend in declining real incomes can be reversed. The current antidote of quantitative easing has indeed helped the equity market and lowered the costs of mortgages. But on the flipside, it has driven the prices of food and energy far beyond the rate of inflation, destroyed retirees’ savings through zero percent interest rates, and ultimately done nothing to boost the confidence and investment required to reverse the persistent labour trend towards lower paying jobs.
The sad fact is that the economic reality for the average family is far worse today than it was ten years ago… even fifteen years ago, and the trend of declining wealth is firmly in place. The youth need higher paying jobs and the retirees need yield, and for all the trillions of dollars that the US government and other western governments have spent and printed, none of it has addressed these key areas of weakness in a way that can reverse the long-term trend. As we approach year-end and the finality of the US election, there will likely be numerous indicators implying a US recovery. Unless they directly benefit the 99%, we would advise readers to take them with a large, bipartisan grain of salt. Weakness begets weakness, until something dramatic reverses the trend’s course. The 99% are firmly stuck in a declining trend, and we do not see it reversing any time soon.
1 Politi, James (September 12, 2012) “US median income lowest since 1995”. Financial Times. Retrieved on October 15, 2012 from:
2 U.S. Bureau of Labor Statistics (September 2012) “CPI Detailed Report”. Retrieved on October 20, 2012 from: http://www.bls.gov/cpi/cpid1209.pdf
3 Williams, John (October 16, 2012) “September CPI, Industrial Production, Real Retail Sales and Earnings”. Shadow Government Statistics. Retrieved on October 21, 2012 from:
4 Stilwell, Victoria (October 9, 2012) “Jack Welch Leaves Reuters After Twitter-Post backlash”. Bloomberg Businessweek. Retrieved on October 20, 2012 from:
5 Brown, Abram (September 20, 2012) “Bank of America Cutting 16K Jobs By Dec.: Big Bank Would End Slim-Down A Year Early”. Forbes. Retrieved on October 15, 2012 from:
6 Ghosh, Palash (July 29, 2011) “Pharmceutical Giant Merck to Cut Nearly 12,000 Jobs”. International Business Times. Retrieved on October 20, 2012 from:
7 Preece, Rob (May 24, 2012) “Computer giant Hewlett-Packard to slash 27,000 jobs by October 2014”. Mail Online. Retrieved on October 20, 2012 from:
8 Reuters (October 18, 2012) “AMD Announces 15% Cut in Workforce”. Reuters. Retrieved on October 20, 2012 from:
9 Haq, Husna (October 17, 2012) “Amazon will hire 50,000 temporary workers for the holidays”. Christian Science Monitor. Retrieved on October 21, 2012 from:
10 BLS (October 5, 2012) “The Employment Situation – September 2012”. Bureau of Labor Statistics. Retrieved on October 18, 2012 from:
11 Morgan, Timothy Prickett (September 17, 2012) “IT biz bosses are ‘BIGGEST job cutters’ in the US”. The Register. Retrieved on October 20, 2012 from:
12 Weissmann, Jordan (April 23, 2012) “53% of Recent College Grads Are Jobless or Underemployed – How?”. The Atlantic. Retrieved on October 19, 2012 from:
13 Associated Press (April 23, 2012) “Half of recent college grads underemployed or jobless, analysis says”. Associated Press. Retrieved on October 19, 2012 from:
14 Pope, Justin (October 18, 2012) “Average debt up again for new college grads”. Bloomberg Businessweek. Retrieved on October 20, 2012 from:
15 NALP (July 12, 2012) “Median Private Practice Starting Salaries for the Class of 2011 Plunge as Private Practice Jobs Continue to Erode”. National Association for Law Placement,
Inc. Retrieved on October 19, 2012 from: http://www.nalp.org/classof2011_salpressrel
17 Bayston, Darwin (October 8, 2012) “Baby Boomers Will Drive the Life Settlement Industry Over the Next 15 Years!”. Life Insurance Settlement Association.
Retrieved on October 20, 2012 from: http://blog.lisainstitute.org/tag/life-insurance-consumer-disclosure-model-act/
19 RT (October 17, 2012) “One million more Americans sign up for food stamps in only a year”. RT. Retrieved on October 20, 2012 from:
Copyright © Sprott Asset Management
Wednesday, October 31st, 2012
When Markets Drive the Economy, Cash Flow is King
by David Rosenberg, Gluskin Sheff, via FT.com Contribution
October 29, 2012 - FT.com – There was a time, not that long ago, when it was the economy that drove asset prices such as equity and real estate valuations. Today, the causation is viewed, even in policy circles, as running in the opposite direction. It is asset prices that now drive the economy.
There was a time, again not that long ago, when the Federal Reserve cut the overnight rate when it wanted to stimulate the economy and stir investor animal spirits. But policy rates have been zero for nearly four years. The Fed has resorted to unconventional measures for more than three years and the latest move towards open-ended quantitative easing is the boldest step yet.
The Fed has completely altered the relationship between stocks and bonds by nurturing an environment of ever deeper negative real interest rates. Therein lies the rub. The economy and earnings are weak, and getting weaker, but the interest rate used to discount the future profits stream keeps getting more and more negative and that, in turn, raises earning expectations. The fact that the S&P dividend yield is triple the yield in the belly of the Treasury curve has also added to the allure of equities, or at least those that have compelling dividend yield, growth and coverage characteristics.
Until 2009, there was absolutely no correlation …
Wednesday, October 31st, 2012
Weighing the Week Ahead: A Three-Day Homestretch
October 30, 2012
by Jeff Miller, A Dash of Insight
Hurricane Sandy has been uppermost in everyone’s concerns. We have the greatest sympathy for those who have lost loved ones, homes, and businesses. The effects of weather are often devastating in any setting. Here in the midwest, it is often a tornado that strikes with little warning. When a hurricane hits highly-populated areas, the effects are even greater.
One mission of the investment manager is to think about the financial effects and prospects no matter what else is going on. We now have more clarity about this week’s schedule, so I will do my regular preview of the upcoming abbreviated week.
I see this as a three-day homestretch leading to an important inflection point — next week’s theme. The key elements are the following:
- Continuing corporate earnings reports, where a mixed story continues;
- The looming concerns over the fiscal cliff, with increasing prominence and visibility;
- The election, with potential for significant change.
I’ll offer my own take on these themes in the conclusion, but first let us do our regular review of last week’s news.
Background on “Weighing the Week Ahead”
There are many good lists of upcoming events. One source I especially like is the weekly post from the WSJ’s Market Beat blog. There is a nice combination of data, speeches, and earnings reports. Their schedule for this week has been thrown off, of course, but it is still valuable.
In contrast, I highlight a smaller group of events. My theme is an expert guess about what we will be watching on TV and reading in the mainstream media. It is a focus on what I think is important for my trading and client portfolios.
This is unlike my other articles at “A Dash” where I develop a focused, logical argument with supporting data on a single theme. Here I am simply sharing my conclusions. Sometimes these are topics that I have already written about, and others are on my agenda. I am putting the news in context.
Readers often disagree with my conclusions. Do not be bashful. Join in and comment about what we should expect in the days ahead. This weekly piece emphasizes my opinions about what is really important and how to put the news in context. I have had great success with my approach, but feel free to disagree. That is what makes a market!
Last Week’s Data
Each week I break down events into good and bad. Often there is “ugly” and on rare occasion something really good. My working definition of “good” has two components:
- The news is market-friendly. Our personal policy preferences are not relevant for this test. And especially — no politics.
- It is better than expectations.
The economic news last week was mostly positive, including these highlights.
- Obama’s Hint. During the last debate, President Obama basically dismissed the idea that the sequestration of defense funds would be allowed to happen. This was read in different ways by different observers. I think the outlines of a compromise are in place no matter who wins. Here is a good account.
- Forward earnings estimates are still strong. Brian Gilmartin follows this trend, and also notes that we lack forward revenue estimates — the latest metric for the skeptic. Brian is very objective in his reports, and he presents important data and ideas that you do not see elsewhere.
- Economic growth measured by GDP beat expectations. The 2% increase is certainly not consistent with the gloom of the recessionistas. Some immediately noted the spike in defense spending (as if the Commander in Chief could orchestrate a big spending push). Meanwhile, the drought subtracted about 0.4% from the GDP growth. The defense spending may be uneven, but housing and more normal weather will help. Scott Grannis notes that there is improvement, but that we are still well below trend.
The actual data last week was pretty good, but the stock result was bad. This happens, and it can be meaningful. Let us take a closer look.
- The revenue “beat rate” is terrible. Earnings beats have been mostly in line with expectations, taking advantaged of reduced expectations, as usual. Those who think that profit margins and cost savings are unsustainable have focused on revenues. Bespoke’s fine chart tells the story:
- Pending home sales were disappointing. I am scoring this as “bad” because that was the market reaction and the general commentary. Calculated Risk is not as convinced by this particular data point. Regular readers know that I favor building permits. Interpreting housing data is a challenge on many levels, partly because of the continuing distressed sales.
- Real income less transfer payments declined. Doug Short points out that this is more important than the nominal change in real income. Here is his crucial “big four” chart where he monitors the indicators followed by the NBER in dating recessions.
- GDP growth was disappointing. (Yes, the opposite of the entry in “the good.” This is the viewpoint of Prof. Hamilton, who is not prone to spinning data to fit an agenda. Here is his take and a key chart:
Sandy. Enough said.
The Indicator Snapshot
It is important to keep the current news in perspective. My weekly snapshot includes the most important summary indicators:
- The St. Louis Financial Stress Index.
- The key measures from our “Felix” ETF model.
- An updated analysis of recession probability.
The SLFSI reports with a one-week lag. This means that the reported values do not include last week’s market action. The SLFSI has moved a lot lower, and is now out of the trigger range of my pre-determined risk alarm. This is an excellent tool for managing risk objectively, and it has suggested the need for more caution. Before implementing this indicator our team did extensive research, discovering a “warning range” that deserves respect. We identified a reading of 1.1 or higher as a place to consider reducing positions.
The SLFSI is not a market-timing tool, since it does not attempt to predict how people will interpret events. It uses data, mostly from credit markets, to reach an objective risk assessment. The biggest profits come from going all-in when risk is high on this indicator, but so do the biggest losses.
The C-Score is a weekly interpretation of the best recession indicator I found, Bob Dieli’s “aggregate spread.”
Bob and I recently did some videos explaining the recession history. I am working on a post that will show how to use this method. Bob and I are meeting again this week to facilitate this. As I have written for many months, there is no imminent recession concern. I recently showed the significance of by explaining the relationship to the business cycle.
The ECRI recession call is now over a year old. Many have forgotten that at the time of the original prediction, the ECRI claimed that the recession was already underway by September of 2011. See New Deal Democrat’s carefully documented discussion, including the original video, at the Bonddad Blog.
RecessionAlert offers a free sample report. Anyone following them over the last year would have had useful and profitable guidance on the economy.
The most recent news from the ECRI states that they are “Assessing the Current Optimism.” This is apparently available only to paid subscribers, the ones who had early access to the 2011 forecast.
The public will await this report with some interest. Meanwhile, their WLI has turned higher, which everyone following their data sees as good news. Maybe it is time for them to “predict” that the recession will end within the next few months!
Readers might also want to review my new Recession Resource Page, which explains many of the concepts people get wrong.
Our “Felix” model is the basis for our “official” vote in the weekly Ticker Sense Blogger Sentiment Poll. We have a long public record for these positions. This week we shifted to a bearish position, but it was a pretty close call. These are one-month forecasts for the poll, but Felix has a three-week horizon. Felix’s ratings have continued to drift lower. The penalty box percentage measures our confidence in the forecast. That indicator has moved to the top of the range, indicating little confidence in the current bearish rating. It has been a close call over the last few weeks.
[For more on the penalty box see this article. For more on the system ratings, you can write to etf at newarc dot com for our free report package or to be added to the (free) weekly ETF email list. You can also write personally to me with questions or comments, and I'll do my best to answer.]
The Week Ahead
This week brings a little economic data.
The “A List” includes the following:
- The employment situation report (F). This is the big news of the week, especially given the brouhaha over last month’s decline in unemployment. It has now been confirmed that despite Sandy, the report will be released on schedule.
- Initial jobless claims (Th). Continuing strong interest after the results from the last three weeks.
- The ISM index (F). An important economic read for most observers.
The “B” List” includes these entries:
- Personal income and spending (M). Reported on Monday despite Sandy. Better than expected on spending.
- ADP private sector jobs (Th). I respect this as an alternative employment methodology.
- Consumer Confidence (Th)). The Conference Board moved the release because of Sandy.
- Case-Shiller home prices (T). Released on schedule, and showing improvement.
Most important will be many more earnings reports from a wider variety of sectors. Some of these reports were delayed from the Monday-Tuesday time frame. We also will have the Chicago PMI, auto sales data, and some Fed speeches.
Trading Time Frame
Felix has shifted to a bearish posture. It has been a close call for several weeks, but it is now turning more negative. Felix has done very well this year, becoming more aggressive in a timely fashion, near the start of the summer rally. Since we only require three buyable sectors, the trading accounts look for the “bull market somewhere” even when the overall picture is neutral. The ratings have moved lower again this week. While inverse ETFs have higher ratings than the broad market, everything is in the penalty box. This means that we continue with no position. Felix can go short (via the inverse ETFs) if a downtrend continues.
Investor Time Frame
Each week I think about the market from the perspective of different participants. The right move often depends upon your time frame and risk tolerance. Individual investors too frequently try to imitate traders, guessing whether to be “all in” or “all out.”
The traders (including Felix) are getting more cautious for a variety of reasons. Some are trying to lock in profits to earn their bonuses. Investors face a completely different problem.
Most people are not very agile in “chasing” a big move. They instead engage in a sort of wishful thinking that leads to bad decisions. If a stock declines they wish they had sold. Instead of treating each day as a new beginning, they watch to see if the stock regains the old price. Then they sell! On a logical basis, selling when a company has generated success is probably wrong, but that is psychology at work. This is part of the reason for not trying to time the market at these inflection points, especially with your entire account.
I’ll go into this more deeply next week.
We have collected some of our recent recommendations in a new investor resource page — a starting point for the long-term investor. (Comments and suggestions welcome. I am trying to be helpful and I love feedback. We have a good discussion going on bonds versus funds, and I plan a separate article that will provide a further forum.)
Final Thoughts on the Homestretch
In the last few weeks I have noted that we were entering the season of fear. There has been a change in tone, with little response to good news. Stocks have done poorly despite improved economic data.
When the overall earnings story is mixed, we can expect many executives to present a downbeat outlook. There is little reason to make bold predictions. Executives can be cautious, citing problems in Europe, China, and Washington.
I see continuing evidence that businesses are cautious while waiting for a resolution to the “fiscal cliff.”
In a few days, there will be a lot less uncertainty. Markets hate uncertainty — and so do businesses.
Copyright © A Dash of Insight
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Wednesday, October 31st, 2012
Canada’s TSX is now up over 1% from its pre-vertical ramp yesterday afternoon as it is now extremely clear, to all those who take the time to consider why, that as central bank liquidity provision must flow somewhere, so the algos latch on and follow the momentum. We have just had what will likely be the most costly US disaster in history, earnings are anything but robust, BoJ’s QE9 failed instantly last night, Greek Government Bonds are fading (now off almost 10% from recent highs) as deals look set to be voted down, and European sovereign bonds are leaking wider; and so – with US equities shut, that PBOC/BoJ liquidity must flow somewhere and the closest proxy is our Canadian brethren. TSX current price implies S&P futures around 1425 and S&P cash at around 1430 – back to Bernanke’s starting point for QEtc. We suspect this is just auctioning up to previous resistance but USD weakness is helping modestly (even as commodities slide lower) but of course it is just as likely to be all about slamming the European close.
TSX (red) versus S&P 500 cash (light green) versus S&P 500 futures ES (dark green)
and where that ES level would be…
Why is 1400 or Bernanke’s Bottom so important? Aside from the pschological import, S&P options have a maximum pain point (see here) at $144 (the point at which losses for ALL option buyers are maximized) or more importantly $140 (which is the strike that creates the most loss for option buyers since the last expiration)…Some serious pinning here – even though there are still over 2 weeks until Nov expiration. For the weeklies that are due on 11/2, MaxPain is $142 – even more crucial…
With the inability to manage these positions – is it any wonder that the algos are using Canada to nibble the market back up…
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Wednesday, October 31st, 2012
Upcoming US Events for Today:
- Chicago PMI for October will be released at 9:45am. The market expects 51.0 versus 49.7 previous.
Upcoming International Events for Today:
- German Retail Sales for September will be released at 3:00am EST. The market expects a year-over-year decline of 1.2% versus a decline of 0.8% previous.
- Euro-Zone Consumer Price Index Estimate for October will be released at 6:00am EST. The market expects an increase of 2.5% versus an increase of 2.7% previous.
- Euro-Zone Unemployment Rate for September will be released at 6:00am EST. The market expects 11.5% versus 11.4% previous.
- Canadian Gross Domestic Product for August will be released at 8:30am EST. The market expects a month-over-month increase of 0.2%, consistent with the previous report.
- China PMI for October will be released at 9:00pm EST. The market expects 50.3 versus 49.8 previous.
Equity markets closed on Monday and Tuesday as Hurricane Sandy threatened the North-East United States. The so-called “monster storm” forced the closure of the NYSE for the first time since the September 2001 attacks on the World Trade Centre and the first two day closure as a result of weather since 1888. The only other time in the history of the NYSE that the exchange had to close for a full day due to a hurricane was in 1985 when the market closed for Hurricane Gloria. The storm and its impacts are truly unprecedented, the final toll of which will not be realized for many days as New York attempts to get back to normal. Transportation, power, and communications will be key as many are not expected to back up for days, which could lead to imperfect markets as the number of participants could be limited. This volatile trading has already been realized on the S&P/TSX Composite Index, which shot up 50 points from the lows of the day in the last minute of trade on Monday. Earnings and month-end trading could further exacerbate volatility in the days ahead. A number of earnings reports scheduled for Monday and Tuesday have been delayed until the latter half of this week, including Pfizer, Avon, and McGraw-Hill. In the days ahead, over 700 companies are expected to report in the truncated week, with the busiest day of the entire earnings season expected on Thursday with 310 companies scheduled to release results. The trend continues to be 60% of companies beating earnings estimates while just over 40% beat on revenues, the result of which has pressured market values lower since the season began.
As markets open on Wednesday, investors will be seeking to aggressively execute month-end trades in order to “close the books” prior to the end of October. October 31st is also year-end for a number of funds, leaving them with little time to execute orders for the end of the fiscal year, including fulfilling cash requirements for possible fund redemptions. Typically October month-end is positive for equity markets, resulting in gains for the S&P 500 76.2% of the time on the second to last day of trade. Of course October month-end also marks the average start to the favorable six months of the year when equity markets typically produce their best gains. Technical support for the seasonal move has yet to be realized, however.
Looking at a daily chart of the S&P 500 Index, momentum indicators continue to show a negative trend. Lower-lows and lower highs are starting to be realized with regards to price action. And the 20-day moving average looks set to converge on the 50-day in a bearish-crossover event. The short-term trend is obviously negative and we continue to wait for signs of technical support that might mark an end to the recent slide. A reasonable level of support was tested for the S&P 500 Index on Friday as the benchmark bounced off of its 20-week moving average at 1403, approximately equivalent to the 100-day moving average. The level has been a point of support/resistance in the past and could provide equities with a logical point from which to bounce. Weekly momentum indicators, however, look less than encouraging with MACD sell signals becoming confirmed as of Friday’s close. Weekly stochastics and RSI are also curling over, adding to the technical sell signals that continue to show up. Support for the S&P 500 can be found within a range from 1375, around the 200-day moving average, to 1400, implying that downside risks in the short-term may be limited. The long-term trend of the market remains positive, but the intermediate trend remains broken, having fallen below the rising trendline that extended from the summer lows.
Companies reporting earnings on Wednesday include Arcelor Mittal, Clorox, Cummins, Eaton Corp, General Motors, Hess Corp, Mastercard, Waste Management, Allstate, MetLife, and Visa. The flow of earnings report subside next week, which will allow investors to refocus back on some of the economic reports, which have been fairly good with recent optimistic results pertaining to consumer spending and housing prices. So far companies have reported that average earnings have contracted 1.2% in the third quarter, which is better than the 3.0% contraction that was expected prior to the reporting season. Analysts continue to expect strong fourth quarter growth with earnings expanding by 7.9% for the period.
Sentiment on Friday, as gauged by the put-call ratio, ended approximately neutral at 0.99.
Chart Courtesy of StockCharts.com
Chart Courtesy of StockCharts.com
Horizons Seasonal Rotation ETF (TSX:HAC)
- Closing Market Value: $12.56 (up 0.48%)
- Closing NAV/Unit: $12.47 (up 0.11%)
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* performance calculated on Closing NAV/Unit as provided by custodian
Click Here to learn more about the proprietary, seasonal rotation investment strategy developed by research analysts Don Vialoux, Brooke Thackray, and Jon Vialoux.
Wednesday, October 31st, 2012
October 30, 2012
By Scott Ronalds, Steadyhand Investment Funds
I had lunch last week at the Fairmont with Nassim Taleb, prominent financial author and professor at the Polytechnic Institute of New York University (there were a few hundred other people there too; it was an event put on by the Vancouver CFA Society).
Taleb’s work focuses on problems of randomness and uncertainty. He believes that investment risk cannot be measured, and the industry wastes a lot of time and energy trying to do so through sophisticated modeling and computer programs (which failed miserably during the financial crisis of 2008/09). In his New York Times best-seller The Black Swan, he suggests that investors should not be concerned about trying to predict rare and improbable events (Black Swans). Rather, the focus should be on developing strategies or systems to protect against such occurrences.
I found the presentation, titled Antifragile: Things That Gain From Disorder, disappointing. It started late and was cut short, had plenty of technical glitches, and jumped back and forth between slides. I also found Taleb’s advice relating to the topic and portfolio construction quite vague. Lastly, the main dish was salmon (not a fan).
Nonetheless, I took away a great history lesson. Taleb is a big proponent of co-investment or having ‘skin in the game’. He referred to it as “the best risk management tool ever” and suggested that if you invest with someone, you want them to be hurt as much as you if the investment fails. He related the concept to Hammurabi’s Code, an ancient Babylonian law that called for an “eye for an eye” punishment if the law was broken. Taleb cited an example whereby if a house collapsed and killed the owner, the architect would be sentenced to death, as he could be the only one who truly knew of any weaknesses (risks) in the structure.
While harsh (and unjust) in many respects, the Code makes good sense in investing. Although I’m glad I don’t live in ancient Babylonia.
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