Financial Review

Holy Grail

Financial Review by Sinclair Noe

DOW + 155 = 18,288
SPX + 12 = 2117
NAS + 44 = 5008
10 YR YLD + .08 = 2.08%
OIL + .06 = 49.82
GOLD – 7.80 = 1206.90
SILV – .22 = 16.46


February was the best month for stocks since October 2011. The S&P 500 gained 5.5% in February. March is off to a fine start. The Dow Industrial Average closed at a record high. The S&P 500 closed at a record. The Nasdaq Composite hit 5000 for the first time in 15 years. And if you wonder why we celebrate when the indices hit records, it is because 15 years ago we didn’t know it would take 15 years to get back to these levels.


Earnings season is pretty much over and it wasn’t all that pretty. With 485 of 500 S&P 500 companies reporting, FactSet says the blended growth rate is only 3.7%. Without Apple that number shrinks to only 2% but then again if you take out energy, it balloons to nearly 7%. Estimates have been revised lower, which is typical; companies try to ratchet down expectations, but this is different. All sectors are showing expectation deterioration, not just energy.


Earnings growth has slowed, and valuations are a little on the pricey side, and expectations are down. So, why are stocks at record highs? Well, start with the idea that the Fed has not yet shifted from dove to hawk, rates are still low, the economy is growing, slowly but surely, and then the idea that we all have to be somewhere and stocks are as good a place as anything else. Add in a strong dollar, and the rest of the world wants to be in the US stock market. This is an important point.


Looking back, corporate earnings peaked in the second quarter of 1997, and stocks just continued going higher for about 3 years. Earnings momentum may be slowing and valuations may be a little out of kilter, but the market can be wacky longer than you can be solvent. Stocks don’t roll over just because the P/E gets a little high. There is no trigger being pulled on the markets right now; just the opposite, the global flow of funds makes stocks look good.


Any reversal in Fed policy, an upward drift to higher interest rates, a modestly weaker dollar, or further erosion in earnings, and equities could feel the pinch. What we are starting to see already is that a rising tide is not lifting all boats. Even though the market is at highs, it is just a few winners lifting fewer and fewer boats. This bodes well for good stock pickers, not so much for the indexed approach.


Consumer purchases adjusted for inflation rose in January. The best job market since 1999, low borrowing costs and cheaper fuel bills are driving household spending. The 0.3 percent increase followed a 0.1 percent drop the prior month. Nominal spending, which doesn’t take into account changes in price, declined 0.2 percent, more than estimated, while incomes grew 0.3 percent for a second month. Disposable income, or the money left over after taxes, climbed 0.9 percent after adjusting for inflation. The saving rate increased to 5.5 percent from 5 percent.


Now Americans are known for spending not saving, so it seems a bit strange that we suddenly start saving. But the increase in real disposable income did not come from big increases in paychecks; rather it was more buying power, mainly from lower prices for fuel. So the only way to realize the increase in income is not to spend it. Also, most people don’t expect low energy prices to last. Most people are not yet convince the economy has truly improved, and for most households, things are still a little rough.


Despite that, the Misery Index is at its lowest level since 1959. The Misery Index was proposed by the economist Arthur Okun in the 1970s; it basically looks at the unemployment rate and the inflation rate; that’s it. The Misery Index captured the angst of the 70’s much better than it recognizes the problems of today. Maybe these aren’t the best of times, but consumers and the Misery Index agree: they are far from the worst of times.


Inflation, as expected, continued to decelerate owing to the widespread effects on the economy of lower energy prices. The PCE inflation index fell 0.5% in January, lowering the increase over the past 12 months to a meager 0.2%. The PCE or personal consumption expenditures index is the Fed’s preferred gauge of inflation. Just eight months ago, the rate of PCE inflation was running at a much higher 1.7%, though that was still below the Federal Reserve’s preferred 2% target. The core rate of inflation that excludes volatile food and energy costs rose 0.1% in January, however. The core rate has risen at a mild 1.3% in the past 12 months.


Construction spending dropped 1.1% in January to a seasonally adjusted $971 billion. The Commerce Department says private-construction spending fell 0.5% in January, despite a 0.6% increase for residential projects. There was a 1.6% decline for nonresidential projects. Meanwhile, public-construction spending dropped 2.6% in January.


The Institute for Supply Management’s manufacturing index edged down to a reading of 52.9% from 53.5% in January. We’ll have more on that in a few minutes.


Asian stocks rose on Monday after China cut interest rates by a quarter percentage point over the weekend, while a survey showed HSBC’s PMI climbing from 49.7 to 50.7 in February, the strongest level since July. The Chinese central bank said: “Deflationary risk and the property market slowdown are two main reasons for the rate cut this time.”  In the last few months, China has been showing further signs of flagging economic growth, with GDP dipping to 7.3% in Q4 – its slowest rate in over two decades.


Euro zone deflation and unemployment eased. Prices fell less quickly in February than feared, and unemployment dropped in January for the third month in a row.


Citigroup will replace American Express as the exclusive issuer for Costco’s credit cards in the U.S. and Puerto Rico. Transactions will be processed by Visa beginning April 1, 2016. Costco business accounts for about 20% of AmEx’s loans and 10% of its cards.


Samsung Electronics has unveiled the Galaxy S6 in a bid to reclaim its throne as the global smartphone leader. The S6’s frame is made completely out of aluminum and uses Corning’s Gorilla Glass 4 for front and back glass panels. Other features: Wireless charging support, a 16MP rear camera, and a mobile payment system which will use the technology of recently acquired startup LoopPay.


NXP Semiconductors has agreed to buy Freescale Semiconductor, in an $11.8 billion deal that would create the eighth largest chip maker. The new company will make chips for various industries, including automobiles and mobile payments. The companies expect the deal to close in the second half this year.


Hewlett-Packard said it would buy Wi-Fi gear maker Aruba Networks for about $2.7 billion, the biggest deal for the world’s No. 2 PC maker since 2011.


“60 Minutes” reported that Lumber Liquidators  sold flooring containing levels of formaldehyde higher than California health and safety standards. The flooring comes from mills in China. The investigation used undercover reporters and hidden cameras to show that managers at three factories admitted to using false labeling that made it look like flooring produced for Lumber Liquidators met regulations when it didn’t. (LL) down 22% today.


In his annual letter to shareholders, Warren Buffett wrote: “Both the board and I believe we now have the right person to succeed me as CEO.”  In a separate letter from Charlie Munger, Berkshire’s vice chairman, suggests reinsurance head Ajit Jain or energy boss Greg Abel as worthy replacements. Berkshire posted a 16.7% decline in Q4 net profit over the weekend, dipping to $4.1 billion from $4.9 billion a year earlier. That’s actually pretty lousy performance for the fourth quarter.


Still, people want to invest like Warren; but you are not Warren. And some of the things that set Warren apart are that he is a value investor; so it makes sense that his style of investing didn’t work in the fourth quarter when the markets were hitting record highs. Warren has an extremely long time frame for investments; which means he has more patience than you or me. Warren also has more discipline than you or me. And discipline is the closest thing there is to the Holy Grail when it comes to investing; it doesn’t matter whether you are a day trader or a value investor.



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