Market Commentary for the week of December 16, 2013

Baby steps.
Do you find yourself reading the morning paper, and checking on business headlines discussing the latest economic statistics and market-related activity?  The news is sometimes confusing and disjointed.  And many times misleading.  My most recent data analysis concludes that the “improved” earnings reports upon which most stock speculation is currently occurring is mostly driven by cost cutting, low employment, and accounting gymnastics that enable corporations to move cash onto the favorable side of the ledger.  This is in stark contrast to an economy that needs innovation, enthusiasm, exports, and a host of “better mousetraps” to entice capital investment and consumer confidence.

To be sure, there is a lot more good economic news than bad.  And the market’s euphoric rally makes everyone a little more comfortable with their portfolio performance, while buying some time for real systemic changes to be made.

But don’t confuse the absence of downside selling pressure with the upside sustainability of near-linear gains.

In contrast to U.S. market gains, many global bourses are suffering from an undercurrent of financial and social instability in their underlying economies.  Contraction woes hang over Europe and Asia as a blanket.  Their impact upon U.S. exports and market performance is an obstacle which few discuss openly.

In such a climate, my equity analysis turns not so much on accounting and statistics, as on the viability of a company’s underlying mission statement, their core products, and any pent-up demand in the marketplace for future revenue and sales expansion.

Portfolios should be careful now at least to get back a dollar for every dollar invested.  There’s no sense in buying losers for losers’ sake.

The default side of this delicate economic ballet is to diversify one’s risk, widen one’s aperture of analysis and methodology, and to lengthen one’s timeline of expectations for portfolio capital gains to occur.  After such a protracted period of gains, it’s unlikely to maintain such lofty expectations going forward.

Misplaced.

A key driver of today’s financial data is the insistence by the Federal Reserve to keep interest rates low enough to stimulate capital investment and not to snuff out any economic expansion at the same time.

These actions were necessary, although questionable, at the time the policy was developed at the height of this generation’s most dire economic recession.  The question as to how long to maintain this bias is riddled with dissension.  While the Fed’s work might have indeed saved us from a worse fate, one might argue that imposing man-made machinations upon the capital markets might be hazardous in the long run, at best.

I am, and was, in favor of government intervention.  But I question, as a market scientist, the duration and magnitude of bailing out the wealthy (banks, autos, pharmaceuticals, energy companies) while allowing the least fortunate and less well-off to fall through a social and moral safety net.  After all, losing a caste of our citizenry by default affects the stock market in a more profound way by eliminating a source of capital and a generation of their expectations about becoming wealthy through stock speculation.  So, by investing in one group our treasuries are sacrificing another, at least and hopefully only, for the short-term.

When, and how, can we ever “earn back” this aggregate of potential depositors?

Interestingly, the calendar is working in our favor.  Typically, outperformance occurs during the holiday and year-end seasons.  Focusing on what’s right with our lives, and the euphoria of turning the page on one year and into the next really does produce a Santa Claus effect upon the equity markets.  Let’s hope, though, that we remain cognizant of the tribulations of others, the punishment we sometimes inflict unintentionally, and the assets we need to deploy to complete a recovery for the benefit of all who wish to participate.

Happy Holidays, thanks for reading and participating.

(My next publication will be the Investment Quarterly, January 2014)

Market Commentary for the week of December 9, 2013

Below the dirt.
Because so many things are subject to interpretation and subjective analysis, it is comforting to stumble across some data which might inexorably lead to only one conclusion, like gravity for example.

Objective quantitative data derived from current market studies indicates a kind of bullish extreme, which in year’s past has produced a similar corroborative negative response.  Whether we differ on which/what events might initiate a negative response, let us agree at a minimum that it was highly more probable, and beneficial, to put cash to work in 2009 at the bottom of the market than it is to do so today.  As market valuations bunch up at the top, many stocks have seen their likely near-term peaks.

Because hindsight is always 20/20, might we one day look back at today’s price peaks and wonder if we missed a near-certitude that corrections always imply?  Once the selling starts, it’s too late to pick and choose, or leave the mania open for subjective review.

This is not meant to say that the bull is over or that I no longer favor equities.  Instead, it is an assertion derived from math modeling and statistics that the odds were greater in our favor for capital gains before the bull run began than as it nears a statistical peak.  Rather, I believe it is likely to see some sort of short term cyclical capitulation in global markets which then recalibrates the odds back in our favor.  With 3 aces already on the table, the probability of drawing another from an already stacked deck diminishes significantly.  I favor equities in the long term, but I am reticent to go all in at the top.

In favor.

Of course, one’s interpretation depends upon your cash reserves and your investment timeline.  There is always something to buy, but the selection becomes depleted as many equities run ahead to new highs.  In fact, as the menu diminishes, many investors become too aggressive, trying to make that one final gambit.

As markets extend near term, I try to rely upon profit-taking and asset rebalancing to mitigate any potential drawdown to portfolios.  When probability integers move more in my favor, I typically deploy cash into opportunity.  Right now, the stochastic integers (relative strength) have not moved off of a danger signal, so I remain cautious.

Markets are fluid.  As I said earlier, there is always something to buy.  The intermediate advance (5 years) has raised the valuation of many equities and sectors, most notably the Industrials, Cyclicals, and Technology.  If there are any sectors lagging the trend, it might be Basic Materials and Energy.  The case can always be made to “go long”, but few advisors will warn you when risk outweighs opportunity.

Some might conclude from the preceding paragraphs that portfolio managers operate under a “restrained schizophrenia”, go long, sell, buy?  Well, when one employs a successful discipline, one is always as positive as one might be about the outcome, but realistically cautious about negative consequences.  Kind of like playing golf…see the target, avoid the obstacles.

A clear cut signal to be cautious is when everybody else gets exuberantly positive, as we’re modestly seeing now.

Respectfully, I just don’t think its time to follow the trend, short-term, and place all my markers on black.  Study the statistics as we near the end of the year, and muster as much patience for the longer view as you can.