It's a Winter Warming Spell - But More Snow Ahead for Markets 38 comments
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OK, we are in a rally — a bear market rally. Winter isn’t over, but this week’s market sure feels like spring. More snow predicted later.
While bonds are flat, and commodities are up slightly over the last five days (through Thursday March 12th), US equity REITs are up 22%, and stocks are up in the 10% to 12% range.
click images to enlarge
One Week Performance — Key Categories
The most important contributor to the rise in the stock markets has been the financial sector, which is way up from very low levels based on “suggestions” from the CEOs of Citigroup (C) and Bank of America (BAC) that they are profitable for the first two months of 2009.
Unfortunately, no details were provided, and there was no mention of whether the profits were before or after asset write-downs.
We see the CEOs and bank investors grasping at straws over these snippets of info which may be no more than spin — remember the confident statements about capital adequacy and dividend safety in recent months that proved to be false.
Bank of America (BAC) was up over 85% in the past five days, but it’s still just a $6 stock that used to be a $53 stock.
SPY, the S&P 500 proxy, has pierced first level resistance in the $74 area, but faces several other key resistance challenges, including the major lows from the 2002-2003 period.
The 2002-2003 lows still represent an important hurdle opposing large expansion of this rally, which we believe is a bear market rally.
Why we think this is a bear market rally:
Given that this is Friday the 13th, citing 13 reasons that the bear will continue in spite of this rally seems appropriate.
1. Current P/E: the current 20+ P/E on trailing “as reported earnings” is too high for this set of negative sales, earnings and dividends growth conditions.
2. Forward P/E: the projected 2010 S&P 500 earnings by Standard and Poor’s at about $40 would only support 800 at best (20 P/E), and more likely would support 600 (15 P/E), assuming there was a general recovery under way — before that time, the current market should sell for less than 800, and perhaps less than 600.
3. Earnings: profits are still declining in the aggregate
4. Dividend Yield: banks and other companies continue to cut dividends, reducing stock appeal and putting total return in question until dividends stabilize and begin to grow (historically dividends generated about 1/3 of total return for the S&P 500)
5. Revenue: overall sales are down — declining sales, earnings and dividends are not reasons for bullish markets.
6. World GDP Growth: credible parties (Goldman Sachs, IMF, and noteworthy individuals, such as Nouriel Roubini, predict worsening global economies) — until forecasts for improvements within 12 months or less for the US or world economies become prevalent, the market is unlikely to “anticipate” with a sustainable trend reversal to a bull
7. Government Intervention: the US and global economies are currently highly government policy dependent, and while policies are becoming more clear, they are not all revealed, and there are suggestions more may be needed — the resulting uncertainty warrants low valuation until government policies to “save” and “stimulate” economies are no longer the centerpiece of investor hopes and earnings prospects
8. Real Estate: the US and global real estate asset deflation continues with waves of negative impact on household and institutional wealth — until property prices stabilize, or are believed to be about to stabilize, a new bull market will have difficulty gaining traction.
9. Other Bank Shoes to Drop: the major banks have not yet experienced likely future write-downs associated with non-mortgage asset types, such as credit cards and auto loans.
10. Auto Industry: the fate of GM, Chrysler and the entire supply chain is uncertain with unknown government involvement.
11. LBOs: private equity firms built on leverage may not be able to continue to service and rollover the debt they used to make recent optimistic acquisitions — those debts could be a further burden on the financial sector.
12. Retirees and Pre-Retirees: the 55 and over crowd who control the largest portion of US private assets are not as likely to risk their life accumulations in stocks relative to bonds as they were in the boom times of the last couple of decades — that will delay the onset of a bull and subdue the extent of a bull when it occurs
13. Credit Availability: the credit and leverage availability that helped the US stock market recover from the 2002-2003 bottom is not available at this time to increase household expenditures and corporate capital investment — even the US government may be put on credit rationing by China, which today said it is “worried” about the credit quality of their US Treasury holdings, which has implications about their willingness to support the borrowing our “stimulus” programs require and assume to be available.
[some relevant funds: SPY, IVV, AGG, BND, VNQ, IYR, DJP, DBC, EFA, VEA, EEM, VWO]
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While I believe the changing mark to market rules is nothing more than fiddling with accounting numbers, and does not change the fundamental values in a balance sheet, could market ignorance take this as a sign of improvement in financial health of banks and their capital, propelling the S&P another 150+ points in the next 2 months?
Thanks again for an excellent article.
most people use top down numbers...they pick an overall earnings number and calc multiple...however, that takesinto account the large negative incomes of the various players...
go throught the list of S&P stocks with a 20 forward multiple? now look at the res tof the stocks...the vast majority of S&P stocks are near P/E lows....why the fallacy? again because in this downturn we have massive negative earnings
I am assuming it is NOT in my plans. Even one assumes it is, there are definitely more fundamental problems ahead more unfavorable than otherwise!
And what if your aunt had testicles? She'd be your uncle. How high a "probability" factor have you incorporated into your "what ifs"?
About the only thing that I see on your "wish list" that has a prayer of happening is a re-juggling of the S&P 500. None of the others are supported by fundamental or macro evidence.
On Mar 14 09:49 AM Steve Pasq wrote:
> What if the financials have write ups?
>
> What if the S&P 500 stock list changes because of the low capitalization
> of some of the companies?
>
> What if S&P 500 earnings are $60/share? A 15 multiple is 900
> and a 20 multiple is 1200. It is easy to imagine a high multiple
> if earnings do not go down as much as many predict.
The pension issue is a good one that I'm seeing rising to the fore in various places. Supposedly CAT (on my watch list) and JNJ (in my core portfolio) are 2 possible "victims" of having to divert income to make up pension funds losses....and no doubt, there are many others.
old trader
On Mar 14 12:11 PM Sonia wrote:
> Good analysis. Also, consider the impact of "Mark to Market" on non-financial
> companies suffering a reduction in disposable earnings because they
> have to divert income to bolster pension plans shrunken in nominal
> value by the falling DOW and S&P. If the market rallies and/or
> "Mark to Market" is modified (or declared politically incorrect,)
> the nominal value of pension funds goes up and companies won't have
> this forced diversion of income. There are so many factors in the
> equation it's hard for investors to know what to do. If stocks are
> the frying pan, bonds may be the fire.
1. Stimulus package and unemployment benefits might just create enough oomph to enhance consumer confidence and in return spending.
2. Attempts to bring and keep mortgage rates down to <5% that can stimulate significant refinance activity.
3. Stimulus packages and welfare spending in other countries starting to create a more robust domestic economy there. China plans to spend big time (in the near future) on their local rural/migratory populations on health care, education, retraining and retirement benefits. This is over and above their $587B stimulus package. Indian market is starting to look up due to the election and because the market is way oversold. Australia, Japan, Saudi Arabia and others have their own stimulus and welfare spending plans already in action.
4. M&A activities could start to perk up as strong companies decide not to wait much longer lest they loose good buying opportunities. I wont be surprised if many companies don't already have a list to work off of when the time is right.
5. Bad asset mop-up might just become successful thanks to market upswing, mark-to-market discussion and private bank interest in grabbing a good deal with treasury backing.
6. TALF program
7. Census program (additional employment)
8. Unlikely as it may be, there may be no more news big enough to wake up the shorts. Especially if the uptick rule is reinstated.
9. Retirees, contrary to conventional wisdom, may decide to take risks and jump into stock market to revive and save their retirement. That is their only chance.
10. Last but not least, weather and consumer confidence. Even the small four-day rally has made people to sit up and even splurge on small low cost luxuries. Even I decided to buy one out of the umpteen items I had so far put off buying. I even sent a small amount to a charity! They could provide just the needed push to move the indices beyond various resistance levels. They are such key motivators :-)
My 2 cents.
MORE importantly, the public is being duped again. Market-to-market accounting, whether altered or removed, has nothing to do with banks' ability to operate. Cash flow does. So, can banks lend more to OFFSET losses if write downs are hidden? How much are the shares worth if we cannot determine what the value of their portfolio is? And just how many new loans are being made in this environment? Be very wary of what you hear from bank CEOs.
SP earnings not indicative of the entire market,i.e.
what about the leaders such as commodities?
your comments take and borrow from the other bears and is subjective and not balanced
On Mar 14 12:28 PM Chezfrederick wrote:
> Excellent article and compelling points. Are there any catalysts
> which may show up on the horizon which could accelerate a bottoming
> of the market, and/or add legs to the bear market rally.
>
> While I believe the changing mark to market rules is nothing more
> than fiddling with accounting numbers, and does not change the fundamental
> values in a balance sheet, could market ignorance take this as a
> sign of improvement in financial health of banks and their capital,
> propelling the S&P another 150+ points in the next 2 months?
>
>
> Thanks again for an excellent article.
On Mar 14 10:04 PM Manifestor wrote:
> While your 13 reasons are compelling, the argument is not complete
> until you also discuss the potential reasons for a pull out of the
> bear market and argue why they may not succeed. Here are a few potential
> reasons for a bigger upside potential:
> 1. Stimulus package and unemployment benefits might just create enough
> oomph to enhance consumer confidence and in return spending.
> 2. Attempts to bring and keep mortgage rates down to <5% that can
> stimulate significant refinance activity.
> 3. Stimulus packages and welfare spending in other countries starting
> to create a more robust domestic economy there. China plans to spend
> big time (in the near future) on their local rural/migratory populations
> on health care, education, retraining and retirement benefits. This
> is over and above their $587B stimulus package. Indian market is
> starting to look up due to the election and because the market is
> way oversold. Australia, Japan, Saudi Arabia and others have their
> own stimulus and welfare spending plans already in action.
> 4. M&A activities could start to perk up as strong companies
> decide not to wait much longer lest they loose good buying opportunities.
> I wont be surprised if many companies don't already have a list to
> work off of when the time is right.
> 5. Bad asset mop-up might just become successful thanks to market
> upswing, mark-to-market discussion and private bank interest in grabbing
> a good deal with treasury backing.
> 6. TALF program
> 7. Census program (additional employment)
> 8. Unlikely as it may be, there may be no more news big enough to
> wake up the shorts. Especially if the uptick rule is reinstated.
>
> 9. Retirees, contrary to conventional wisdom, may decide to take
> risks and jump into stock market to revive and save their retirement.
> That is their only chance.
> 10. Last but not least, weather and consumer confidence. Even the
> small four-day rally has made people to sit up and even splurge on
> small low cost luxuries. Even I decided to buy one out of the umpteen
> items I had so far put off buying. I even sent a small amount to
> a charity! They could provide just the needed push to move the indices
> beyond various resistance levels. They are such key motivators :-)
>
>
> My 2 cents.
>
>
>
I don't think Obama cares if he "runs off" the fat cats. It's all about income redistribution. He is literally following the Herbert Hoover "playbook" by raising taxes on the rich, protecting US jobs at the expense of free trade, and other gaffes. Make no mistake. Obama will lead this country into a Depression. And if I were a CEO of a US company I would not hestitate to relocate to Switzerland. Obama apparently did not listen to the words of the late Boris Yeltsin (former Russian President) who was asked the direct question in an interview "Does socialism work?". His answer was an unequivocal "No". He said Russia had over 75 years to make it work and it was not enough to keep it from failing. If Russia one of the largest countries in the world can't make it work, no one can. Are you listening Obama?
On Mar 14 11:10 AM basehitz wrote:
> The thoughtful analysis is compelling.
>
> Another issue on which I am focused is tax policy. There is a steady
> stream of major US corporations heading overseas (Switzerland is
> a favorite) in anticipation of coming tax policies.
>
> A March 11 AP article "Corporate oil booms in low-tax Switzerland"
> states:
> "Yet a wave of energy companies has in the last few months announced
> plans to move to Switzerland -- mainly for its appeal as a low-tax
> corporate domicile that looks relatively likely to stay out of reach
> of Barack Obama's tax-seeking administration." Already RIG, WFT,
> NE, FWLT and others are moved or in process.
>
> Another March 11 TSDC article states:
> "The tax-law change, which has not yet been introduced for a vote
> to Congress, hopes to collect an extra $210 billion in corporate
> taxes.
> "For U.S. companies like IBM, Hewlett-Packard, Microsoft, Intel,
> Cisco, Qualcomm and Juniper, which operate foreign subsidiaries,
> this could mean bigger tax bills."
> ""Under a worst-case-scenario," Gelblum wrote, Cisco and Qualcomm
> would see a 22% tax rate grow to 35%. This would reduce 2010 earnings
> by 17%."
>
> The unintended consequences of aggressive tax policy may actually
> reduce tax revenues rather than, as some have explicitly stated,
> accept a less competitive world position for these large multinationals.
>
>
> So far, it is unclear Washington is hearing it. Yesterday I heard
> a compromise from Washington about moderating corporate tax rate
> but the strings attached may make it a non-starter. I don't have
> details yet. These guys better be careful they don't run off the
> very companies we need for our future.
>
>
>
S&P 500 earnings for Q4 2008 = -$12.
In an environment where GDP continues to shrink and unemployment continues to increase, is it realistic to expect $40 total earnings for the S&P 500 for 2009?
This assumes most companies have already "re-sized" their cost structure (and incurred the one time costs) in 2008. As significant restructuring actions continue in 2009 (witnessed by the long list of massive layoff announcements thus far), these will result in one time charges hitting earnings, at least in Q1, and into Q2 as restructuring actions continue.
Hypothetically, if Q1 2009 earnings equal the -$12 from Q4 2008, this means the rest of the year would need to deliver $52 in earnings to net to $40 for 2009.
Therefore, doesn't the $40 in S&P Earnings for 2009 assume the majority of restructuring actions, as well as bank write-downs, are behind us? If not, the $40 looks very optimistic, therefore the 15-20x multiple range for the S&P 500 also looks optimistic.
the Dax bottomed at 2200. If you take into consideration the economy back then was in much better shape, the only conclusion is,there is worse to come.
I agree , the market will recover first, but only after the bleeding has stopped, that is to say, less foreclosure, less lay-offs , or at least 1 better quarter of earnings.