Archive for August, 2011

• Oracle’s Low Valuation
  Eddy Elfenbein, August 19th, 2011 at 12:37 pm

  The chart really says it all. Oracle‘s ($ORCL) stock is the blue line and it follows the left scale. The earnings line is yellow and it follows the right scales. The two axes are scaled at a ratio of 15-to-1 so whenever the lines cross, the P/E Ratio is exactly 15. The red line is the earnings estimates.

  

• CWS Market Review – August 19, 2011
  Eddy Elfenbein, August 19th, 2011 at 12:16 pm

  The stock market seemed to be recovering for a few days. That is, until Thursday hit. From the S&P 500’s low of August 9th (1,101.54) to the high of this past Wednesday, August 17th (1,208.47), the market gained an impressive 9.7%. We’re still a way from the recent peak of July 22nd, but it’s nice to regain some lost ground. The bears, however, got back in control on Thursday and shaved another 4.46% off the index.

  So where do we go from here? It’s still hard to say but in this issue of CWS Market Review, I want to discuss some likely scenarios and more importantly, tell you how to position yourself for the weeks ahead.

  Initially, I was never terribly impressed with the arguments made by the folks who were expecting a Double Dip recession. After all, these folks already blew this call last year as their worrying helped bring down the market by 18%. All their panicking did was offer up some great bargains. Anyone else remember when Wright Express ($WXS) broke below $30 last summer? Thank you, panic sellers!

  Over the past few days, I’ve become more convinced that the fears of a Double Dip recession are, as of now, vastly overblown. As always, let’s look at the facts rather than at our emotions.

  Earlier this week, the government released its industrial production report for the month of July, and it showed the largest increase in four months. This is important because most of the other reports were for the month of June which was in the second quarter. Only now are we getting a better handle on the third quarter which is already more than half over. For July, industrial production rose by 0.9% which nearly doubled the 0.5% expected by Wall Street. Also, capacity utilization hit 77.5%, a three-year high.

  Last week, the number of initial claims for unemployment dropped below 400,000 for the first time in 17 weeks. Yesterday’s report showed that we jumped up to 408,000 but the trend is still favorable. Also, the recent report on retail sales was the strongest in four months. This is important because it reflects the strength of consumers, the backbone of the U.S. economy. For July, the Commerce Department said that retail sales rose by 0.5%.

  I don’t want to ignore the bad spots. Housing is still a mess and the jobs market is bleak. The recent Consumer Confidence survey was terrible. It was the lowest number since the Carter Administration. Also, I wasn’t exactly thrilled by the ISM report at the beginning of the month. But even that mediocre report is still a long way from a recession. We have to view the actual news in context of what everyone else’s perception is. Bear in mind that the 10-year Treasury dropped below 2% and the 10-year TIPs is negative. The fear on Wall Street is massively overdone.

  My view is that the economy will probably bounce along at a growth rate between 1% and 2% or so. For folks out of work, that’s bad news. But the outlook for corporate profits and, by extension, the stock market, is still pretty decent especially considering the cheap valuations and extremely low Treasury yields.

  I took notice earlier this week when both Home Depot ($HD) and Walmart ($WMT) reported higher-than-expected earnings; plus both companies raised their full-year earnings guidance. I can’t think of a company that better reflects the breath of American shoppers than Walmart. We’re not yet seeing earnings revisions from most companies. Wall Street still expects the S&P 500 to earn close to $100 this year and $113 for next year, though I think the latter number should probably be close to $105.

  Due to the sluggishness of the economy, I still encourage investors to steer clear of most of the cyclical names. I’m writing this early on Friday and the Morgan Stanley Cyclical Index (^CYC) actually broke below 800 very briefly. That’s a stunning 28% collapse in just six weeks. That’s the thing about cyclicals—they move in cycles. When everything is good, it’s very, very good. When it’s not, get out of the way.

  I’m inclined to believe that the worst of the selling has past. That doesn’t mean we won’t go lower from here, but future selling won’t match that selling we’ve already seen. Bear attacks usually end before most investors realize it. I’m also struck by the persistence of high volatility. Instead of reflecting danger in the markets, I think high volatility is more of a reflection of the war between the Double Dip and Anti-Double Dip camps. Once the market settles on a thesis, I expect a quick return to low volatility, but there will be fits and starts along the way.

  I still like a lot of the names on our Buy List. Let me highlight a few that look especially good right now. I noticed that Oracle ($ORCL) dropped down below $26 per share. Let’s remember that this company has been consistently beating earnings, and Wall Street has been raising estimates. For this current fiscal year (ending in May), Wall Street expects earnings of $2.41 which gives ORCL a forward P/E Ratio of 10.6.

  I have to fess up that I blew my Sysco ($SYY) call. In last week’s issue of CWS Market Review, I said expect earnings of 60 cents per share, plus or minus two cents. Instead, Sysco reported 57 cents per share which matched Wall Street’s estimate. The shares got pounded hard on Monday and they’ve continued to retreat.

  It turns out what I missed is that the company was hurt by food cost inflation more than I expected. That put the squeeze on margins which is what every business hates. However, in pure operational terms, I think Sysco had a decent quarter. When we look at a company, we have to discern between manageable problems and non-manageable ones. For Sysco, higher food costs are ultimately very manageable. The silver lining is that Sysco now yields over 3.8%. This is a very good stock to own below $28.

  We’re soon going to get earnings reports from our companies that have quarters ending in July. Medtronic ($MDT) is due to report this Tuesday, August 23rd. Jos. A. Bank ($JOSB) will probably report around September 1st. Wall Street expects earnings of 79 cents per share for MDT which sounds about right. Frankly, even if they miss by a little, Medtronic is so cheap right now that the stock shouldn’t be too dented. The stock currently yields a little over 3%. Medtronic is a good buy below $32.

  That’s all for now. Be sure to keep checking the blog for daily updates. I’ll have more market analysis for you in the next issue of CWS Market Review!

  – Eddy

• The Cyclical Index Breaks Below 800
  Eddy Elfenbein, August 19th, 2011 at 12:02 pm

  On July 7th, the Morgan Stanley Cyclical Index (^CYC) closed at 1,114.09. Today, it briefly fell below 800.

  

• Morning News: August 19, 2011
  Eddy Elfenbein, August 19th, 2011 at 6:45 am

  Japan Urges G-7 Coordination on Markets

  Yuan Pipeline Back to China Securities Seen by Year-end – HK Official

  European Stock Markets Open Sharply Lower

  Austria Says Finnish Collateral Deal May ‘Blow Up’ Greek Rescue

  Putin Calls U.S. ‘Parasite’ as Russia Gorges on Its Debt

  Morgan Stanley Raises Yen, Sterling Forecasts

  Spot Gold Soars To New Record

  Stocks, Oil Drop on Growth Concern; Gold at Record

  U.S. Economy: Consumer Prices Climb, Manufacturing Falters

  AIG Pays $2.15 Billion From Sale to U.S.

  HP to ‘Reinvent’ Company With Return to Roots

  Bank of America Set to Slice Jobs

  Volkswagen Global Vehicle Sales Surged 16% In July

  Liberty Invests $204 Million in Barnes & Noble After Dropping Takeover Bid

  Jeff Miller: Interpreting the St. Louis Fed Stress Index

  Brian Shannon: Stock Market Video Analysis 8/18/11

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• “Michael, we’re bigger than U.S. Steel”
  Eddy Elfenbein, August 18th, 2011 at 3:09 pm

  So said Hyman Roth to Michael Corleone in The Godfather Part 2.

  Lately, that doesn’t mean so much. US Steel ($X) dropped to a new 52-week low today of $25.25 per share. Three years ago, the shares peaked at $196. That’s an enormous fall, especially for a company that wasn’t involved in banking.

  

  Their last earnings report was a dud. This is exactly the kind of cyclical stock you want to stay away from right now.

• Updating the Gold Model
  Eddy Elfenbein, August 18th, 2011 at 11:59 am

  Jake at EconomPic Data has updated my gold price model. It’s still holding up well.

  

• The 10-Year Yield Breaks Below 2%
  Eddy Elfenbein, August 18th, 2011 at 11:26 am

  Four months ago, the 10-year yield was over 3.6%, and four years ago, it was over 5.3%.

  

• Morning News: August 18, 2011
  Eddy Elfenbein, August 18th, 2011 at 7:01 am

  Morgan Stanley Lowers Global Growth Forecast

  European Stocks Slide

  U.K. Retail Sales Rise Less Than Forecast

  U.S. Inquiry Eyes S.&P. Ratings of Mortgages

  U.S. Regulators Step Up Scrutiny of European Banks Local Units, WSJ Says

  Rush Out of Long-Term Mutual Funds

  Warburg Stays in Fray, but Off Public Market

  Texas Farm Losses Reach Record $5.2 Billion After Drought, University Says

  Coca-Cola Plans $4 Billion China Investment

  Lenovo Net Rises on Emerging Markets

  Dell CEO Continues Backing Google, Microsoft Tablet Software

  Sears Results Miss Estimates

  Air Berlin CEO Hunold Quits After Cutting Routes to Stem Mounting Losses

  Joshua Brown: CME’s Food Prices Megagraphic

  Howard Lindzon: Google is my ‘Newman’ Stock

  Paul Kedrosky: The End of (Financial) Evolution

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• How High Can Gold Go?
  Eddy Elfenbein, August 17th, 2011 at 3:33 pm

  If you take the latest TIPs yield curve and plug it into my world-famous gold price model, you can get a look at the possible future price of gold. According to the latest numbers, gold will break $2,000 an ounce next year and $2,500 in 2013.

  

  There are some important caveats. One is that my model only looks at the relative price of gold to current real interest rates. Those could be far too low, and with the 10-year TIPs at 0%, I think that’s likely true. Still, this shows gold having an impressive run.

  Also, notice how the velocity of gold’s rise starts to slow down around 2020. Once real rates start to climb higher — whenever that will be — it will hurt the price of gold. The TIPs market doesn’t see that happening for some time, but it will come.

  That’s the key thing about gold: its price is driven by political considerations. Higher real rates will spell the end of the gold rally.

• Breaking Down Bond Yields
  Eddy Elfenbein, August 17th, 2011 at 12:41 pm

  Timely Portfolio has a post up that breaks down long-term bond yields into their three components: the inflation premium, the credit premium and the real rate.

  The real rate is now going for -1%.