January 28th, 2013
by Jeff Miller, A Dash of Insight
Is it time for the individual investor to return to stocks, reversing the flows from equities to bond funds? The individual investor is usually the last to the party. What should we make of some nascent signs of a change in investing trends.
The week ahead promises an avalanche of information. We have plenty of economic data, including many of the most important reports. It is the heart of the earnings season. And finally, there are signs of a change in investor psychology.
Goldman Sachs President Gary Cohn has joined the bullish camp. Cohn contrasted his view on stocks with that on bonds:
"Fixed income on the other hand, interesting. At some point, interest rates will go higher again, and all of the money that has piled into fixed income over the past three years, some of it will come out."
Could this be a tipping point for the individual investor? Do new highs in equity markets signal a new trend, or a warning?
I have some thoughts on individual investors which I'll report in the conclusion. First, let us do our regular update of last week's news and data.
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 other events.
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.
This was a very good week, both for data and for earnings. The big complaint from some will be that some of the good news was "pulled forward" by the prospects for higher taxes. The emphasis this week is on the positive, but that is what actually happened. Over several years I have always sought balance, but I will not distort news to give a false impression. Things are getting better, and that is something you should know.
- Congress! I understand that for most, this is difficult to believe. At the start of a new Congressional term we have a little distance from the next election. It now appears that there will not be an imminent debt ceiling crisis. CNBC has even taken down the countdown ticker! There are even hints at progress on immigration. The budget issues may return to the normal committee structure, something that I have been predicting for many months. Bottom line? No crisis, significant progress – market friendly.
- Home prices. Dr. Ed says, "Home prices may be starting to melt up. That means that fewer homeowners will have negative equity in their homes and more of them will have less of it. That could do a lot to boost consumer confidence and spending, and boost bank profits too." Here is his helpful chart:
- Jobless claims seemed to confirm last week's dip to the 300K range. Skeptics still question the seasonal adjustment factors, so we are watching carefully.
- ECRI's WLI is making a 95-week high. Analysis from Dwaine Van Vuuren via Doug Short.
The thin data week included a little bad news. Feel free to add in the comments anything you think I missed!
- Bullish sentiment spikes. On a contrarian basis, this is a short-term negative. (via Bespoke).
- Trading in Apple stock. It is a microcosm of the old debate: technical versus fundamental analysis. Historic records in earnings were not good enough for those who see the next Kodak and falling profit margins. The bearish viewpoint took command. (A dissent from Scott Grannis who has some interesting charts).
- New home sales are "not pretty". Analysis from John Lounsbury and Steven Hansen at GEI, including this chart:
- Fiscal drag from the payroll tax resumption. Dr. Ed has a helpful chart.
Ackman versus Ichan. Traders paused to enjoy the name-calling and also to provide some background applause. The out-of-control commentary replaced the normally-scheduled programming on CNBC. The content was certainly different from the standard fare, but Jon Friedman is skeptical. You would not see this on Meet the Press!
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." I have now added a series of videos, where Dr. Dieli explains the rationale for his indicator and how it applied in each recession since the 50's. I have organized this so that you can pick a particular recession and see the discussion for that case. Those who are skeptics about the method should start by reviewing the video for that recession. Anyone who spends some time with this will learn a great deal about the history of recessions from a veteran observer.
I have promised another installment on how I use Bob's information to improve investing. I hope to have that soon. Anyone watching the videos will quickly learn that the aggregate spread (and the C Score) provides an early warning. Bob also has a collection of coincident indicators and is always questioning his own methods.
I also feature RecessionAlert, which combines a variety of different methods, including the ECRI, in developing a Super Index. Dwaine just announced another intriguing new product. The best way to learn how you can benefit is to check out the free sample report. Anyone following them over the last year would have had useful and profitable guidance on the economy. RecessionAlert has developed a comprehensive package of economic forecasting and market indicators. I will try to do a more complete review soon. Dwaine Van Vuuren also has an excellent data update, demonstrating how the coincident data have reduced recession prospects.
Doug Short has excellent continuing coverageof the ECRI recession prediction, now well over a year old. Doug updates all of the official indicators used by the NBER and also has a helpful list of articles about recession forecasting. His latest comment suggests that a retraction of the ECRI call is "long overdue." Doug also continues to refresh the best chart update of the major indicators used by the NBER in recession dating.
Readers might also want to review my 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. About a month ago we switched to a bullish position. These are one-month forecasts for the poll, but Felix has a three-week horizon. Felix's ratings stabilized at a low level and improved significantly over the last few weeks. The penalty box percentage measures our confidence in the forecast. A high rating means that most ETFs are in the penalty box, so we have less confidence in the overall ratings. That measure remains elevated, so we have less confidence in short-term trading.
[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 little data and scheduled news, an artifact of the calendar and the holidays.
The "A List" includes the following:
- Monthly employment report (F). Expectations are for stronger net job gains. There will also be "benchmark revisions" which will show that improvement was understated last year.
- Initial jobless claims (Th). Continuing special interest after the recent improvement. Seasonal adjustments?
- Personal income and spending (Th). Important role as concurrent indicator on "recession watch."
- ISM index (F). Good read on employment trends and manufacturing.
The "B List" includes the following:
- Consumer confidence (T). The Conference Board survey (on which I place less reliance than Michigan's) is still an interesting source of information about employment, consumer expectations, and spending.
- Chicago PMI (Th). This is mostly interesting as the single best read on the national ISM report.
- FOMC decision (W). Given all of the prior discussion, this should not be a surprise.
- ADP private employment (W). A good forward look on Friday's big employment number.
And of equal importance with the economic data, we have an avalanche of earnings stories. We are moving from the financial and tech stocks into some of the big cyclical names.
Trading Time Frame
Felix continues his bullish posture, fully reflected in trading accounts. Felix has been cautious, but still has caught most of last year's rally, and did so with less risk. Felix is once again reflecting a very bullish posture, with plenty of breadth. The ratings are not consistent with a toppy market.
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.
Buying in times of fear is easy to say, but so difficult to implement. Almost everyone I talk with wants to out-guess the market. The problem? Value is more readily determined than price! Individual investors too frequently try to imitate traders, guessing whether to be "all in" or "all out."
If you are thinking of going it alone, you might want to follow my series of book reviews for individual investors. I have more (promised) installments to come. I have written over thirty book reviews in the past seven years. The current series has a focus on the individual investor who wants to go it alone. The TV commercials make it seem so easy! Here are the first and second installments.
Rather than do a weekly update for investors, let me refer readers to my 2013 preview for Seeking Alpha. This covers key investor catalysts, as well as some specific stock and sector ideas. My recommendations did well last year, and we are off to another good start. You need to be comfortable in taking the other side of one of the most hated rallies in history.
But please beware! General ideas are not for everyone. Each person needs unique treatment. We have several different approaches, including one that emphasizes dividend stocks with enhanced yield from writing near-term call options.
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).
There are two quite different perspectives about investing prospects:
- Any time there is a rapid move of 5% or so it is time to take profits.
- A significant move might mark the long-awaited return of the individual investor.
There is a growing awareness that the second theme may have some real legs. This was the conclusion of a recent Bloomberg survey. The following are the top points, but there are many others in the full article:
- 38 percent, the highest, expect the US to be in the top two markets over the next year, followed by China.
- 53% say equities offer the highest return in the next year, the most since the poll began in July 2009.
- Nearly 66% plan to increase equities during the next 6 months.
- 35% say the global economy is getting better, twice the number who say it is getting worse – Europeans were the most upbeat, Americans the least.
The survey respondents are actually correct. As we have noted in this column, week after week, the fundamentals have improved. Risk is lower. The economy is doing better. Corporate revenues are encouraging.
The old market highs are not some impossible barrier. They represent completely different circumstances in terms of risk, government policy, and earnings.
For a great summary, read Cullen Roche, covering the David Tepper appearance on Bloomberg. This is a noteworthy "never before bullish" call. Cullen highlights the following:
On why now is a good time to be long:
"Listen, you're sitting here in a 2% to 3% growth situation. You have some very interesting news last week. The Republicans are not going to play with the debt ceiling. If they pass legislation on Wednesday, you probably have five months of relative quiet. So three months extension plus two months they can play games to extend it further. You really have a little bit of change in attitude that you will probably not have a debt ceiling fight. There is no major negative. You have these earnings, this money growth. You have the Japanese coming on top. There is no other choice out there. You really have not had this money supply push on a relatively good economy. I do not think it is really a steaming pile of garbage, using the G word instead of another word."
On when we'll see the shift from credit into equities:
"You saw some of the shift into equities earlier, mutual fund flows. I know people are looking for this great shift. But you don't have to have the shift. You just have to have all new money going into stocks…People make money, they invest money. There is incremental money that people save. The shift will be in new money. And there will be a shift in old money. Pension managers and others are really off sides in how they are set up. Whether you believe a Goldman Sachs report that they're underweighted by under 20% in equities, which is just huge. Insurance companies underweighted in equities. Just incredible underweights. So I think either you will have a shift or you will see all incremental funds move into the equity market over the course of this year. And then I think you will have a retail shift this year too at some point."