Market retrospective - week of 24 July

Contents: Overview; Tea leaf readings; Economic reports; Perspective, “This market move is a LONG way from being done!”

"Our dilemma is that we hate change and love it at the same time. What we really want is for things to stay the same but to get better.” – Sydney J. Harris, US journalist, (1917 – 1986)

Overview

The investment world is full of aphorisms and sayings. One that seems to fit in today’s environment is that “the trend is your friend.” The point of this is that, whatever your emotions may be telling you, the trend of the market is the trend/direction (up or down) and whether you feel it’s right or not, you go against it at your peril.

This week started strongly with good earnings and generally positive economic news and the momentum from last week just kept building. While Friday was pretty lame, we still managed to close with all three major stock indexes higher on a week-over-week basis. The Dow has now gained 12% in just the past two weeks – something it hasn’t done since 2000. It’s also up over 9000 for the first time since January. Interestingly, it’s just about as far above the low hit this past March (+38%) as it is below its all-time high (-36%) set in October, 2007.

For the year, the NASDAQ – which is composed of 100 growth and tech companies - is definitely the leader, up 25%. The S&P 500 is now up just over 8% and the Dow is the laggard, up just under 4% year-to-date.

Earnings are what’s driving this bus and, quite frankly, is what is always the main market engine.

So far, according to Bloomberg, of the 167 S&P 500 companies that have reported, 74% are ahead of analyst estimates. More important, most of these are suggesting that the rest of the year is looking pretty okay. The market rises or falls on perceptions of the future and right now, those perceptions are getting brighter and clearer. The trend is, indeed, our friend…

Tea Leaf Readings
(I use this term to describe quotes from a number of opinion leaders about current market and economic events – what they see happening now and their expectations.)

“Most people missed the lows and continue to treat this as a rally in a bear market. Hey folks, every bull market that I’ve seen began being called a short-term rally in a bear market.” -
Jeffrey Saut, chief investment strategist, Raymond James & Associates

“With every passing month, another 870,000 people turn 65 and the world’s cohort of pensioners become larger still. Thanks to rising life expectancy, their ranks will soon be growing by almost two million a month and, by 2040, their numbers will have doubled to 1.3 billion. People over 80 are multiplying faster than any other age group, with their ranks are set to grow by 233%.” – Daily Telegraph, London

“Investors will find a lot of bargains among US stocks in the next year as the economy recovers and consumer spending improves. The world is simple. You just want to find the best ideas, risk adjusted.” - Mario Gabelli, chairman and chief executive officer, Gamco Investors Inc.

"What I like about the rally that we've seen so far is the breadth of it. It's not really confined to a single sector. It's broadly spread. It's certainly helping to restore investor confidence, given the trauma that people went through.''- John Coyne, president, Brinker Capital

"The recovery is going to be subpar. I see a one percent growth in the economy in the next few years. There will also be 11% unemployment next year and the recovery is going to be slow. It's going to feel like a recession even when it ends." - Nouriel Roubini, the economist whose dire forecasts earned him the nickname "Doctor Doom” (As we used to say in the Marine Corps, there’s always somebody that doesn’t get the word, i.e., doesn’t get informed. I think he is one who is doomed…)

"Overall, the news is positive. We have increasing existing home sales for the third straight month, declining inventory and although prices fell, they declined at a less steep pace. The housing market is healing after four years of recession." - Lawrence Yun, chief economist, National Association of Realtors

“Citigroup looked at the period of the housing boom, between 2003 and 2007, and noticed that consumers still had reserves. The idea that we spent everything we had… is so flawed, and so false, but it's the most mythical argument put forward day in, day out. The stock market is likely to go higher because there are still many institutional investors who missed the current rally. It's not so much shorts, it's guys who are underinvested in the markets. This is big money that needs to catch up on performance.” - Tobias Levkovich, chief US equity strategist, Citigroup

Global investors give Federal Reserve Chairman Ben S. Bernanke top marks for combating the worst financial crisis since the Great Depression and overwhelmingly favor his reappointment amid optimism that the world economy is on the mend. - Bloomberg

Economic reports from the past week (with occasional translations…)

The index of leading economic indicators (LEI), which is supposed to forecast economic trends six to nine months ahead, rose more than expected by 0.7% in June. This was the third straight month of increases. Over the first half of the year, the index has increased at a 4.1% annual rate. – The Conference Board

In 1986, the highest marginal tax bracket for individual taxpayers was 50%. The top 1% of taxpayers paid 26% of all federal income tax in that year. The highest marginal tax bracket for individual taxpayers was 35% in 2006 and remains there today. The top 1% of taxpayers paid 40% of all federal income tax in 2006 - Internal Revenue Service

While US economic growth is expected to be around 1% to 2% next year, global GDP is expected to rise 3.7% in 2010, with emerging markets forecast to gain 5.5%. China's Shanghai index is up more than 75% this year, making it the global leader in equity markets; Brazil's market is second with 38% growth. - Research from Bank of America/Merrill Lynch Securities
Small business is not that small. It represents 99.7% of all US employer firms. – Department of Commerce

A new national survey by the Pew Research Center confirms those nearing retirement--not those over 65--are feeling the greatest impact from the recession and stock market meltdown. In interviews in February and March, 75% of those aged 50 to 64 said the recession will make it harder for them to meet their retirement needs, compared with just 56% of those who are 65 or older. 46% of the pre-retirees said the events of the past year had led them to consider delaying retirement. – Forbes magazine

“Goldman Sachs became the first major bank to completely shed its bailout ties, paying $1.1 billion to redeem the government's TARP warrants and calling the Treasury's valuation 'full and fair' given the government's support of the financial system. With the warrant redemption and the $318 million Goldman paid in dividends on its $10 billion in TARP aid, taxpayers received a 23% annualized return for the nine-month transaction.” – Seeking Alpha

Regulators seized seven banks on Friday, including six in Georgia owned by the same parent, increasing the number of US bank failures to 64 in 2009. That’s too bad but all are being taken over by healthy institutions. Consider this…during the 5 years from 1987-91, a total of 1,901 banks and savings & loan institutions failed in the USA or more than 1 per day. - FDIC (Regarding Friday’s report, can you say much ado about not a lot???)

Perspective

“This market move is a LONG way from being done!”

Recently, there’s been much concern about another huge governmental market intrusion into health care spending and regulation, together with limits on carbon emissions. The markets have been rising these last couple weeks because it looks as if these “plans” are dead in the water.

Of course, there’s more than just those.

Let’s look at the NASDAQ – the poster child for this year’s great results, so far. Why is it outperforming the other two major indexes by such a large margin? Let me give you one very good reason. Companies want to be as efficient as possible. How to do that? Beef up your tech, for sure. There’s also been – like a lot of other things – pent-up demand for upgrades to these systems as well.

By the way, even though the NASDAQ has done relatively so far this year, in order to simply match where the Index was in early 2000, we still need another 150% advance from here! The party is not over here, for sure.

On Friday, when Microsoft and Amazon each missed their quarterly estimates – three month numbers are only important for analyst job security – the NASDAQ went down. Did the market crater as it would even recently? Well – no. Momentum came in from all 10 S&P 500 sectors to fill in the blanks – even though it’s summer and volume is low. New areas other than tech – healthcare (see opening paragraph for reason) and energy were a couple.

I am a great fan of is a guy named Brian Wesbury. Brian is an economist who, a) actually speaks so we can understand him and b) isn’t afraid to speak truth in the face of conventional “wisdom.” Let me share with you parts of a recent study of his that I support entirely and without any reservation.

His research uses historical norms for the relationship between stock prices, interest rates and corporate profits. These norms suggest that with interest rates at current levels and corporate profits where they were in the first quarter of 2009, “stocks today are at no more than 50% of fair value.” That’s right - stocks would have to roughly double from here - just to get to fair value.

Like the infomercials say, “wait – there’s more!”

Brian believes that interest rates will be going higher as the economy grows and due to all this government “stimulus.” According to his data, and even using an interest rate of 5.50% for the 10 year US Treasury note – it’s 3.70% as of 24 July so that’s a HUGE jump - the market is still “no more than 75% of fair value.”

To me, the icing on the cake in all this is that the percentage of cash - sitting in savings type accounts at puny returns - right now is at its highest in 30 years! There’s major dry powder available to drive this market higher just from a percentage of that…

New consumers are everywhere. New innovations are coming daily (anyone hear of Twitter a year ago???) and we – the US – is still one of the most innovative countries on the planet. We are totally well positioned to be the global leader for the next phase of the tech r/evolution.

Review what those Tea Leaf guys – except for that goofy Roubini dude – say and check out those economic reports.

There is NO reason for dismay. Become like a market-oriented Wayne Gretzky - go to where the market will be; not where it was…

Remember – Don’t fight the trend. The future is so bright, you have to wear shades!

All my best,

Mike

509-747-3323

Closing values as of 24 July 2009: Dow Jones 9093 NASDAQ 1965 S&P500 979 Oil $68.10/bbl Gold $951.70/oz