Weekly Outlook: After an amazing quarter one in the market for 2013, the market has some definite issues to deal with in quarter two along with a continued re-energizing of our country's economy. The market has seen rebounds in housing, employment, consumer confidence, and more in quarter one. Additionally, the continued implementation of quantitative easing from the Federal Reserve has provided ample liquidity to the marketplace. At the same time, the market has, more or less, ignored issues with Cyprus liquidity, stalemate in Italian elections, cuts from the government through sequestration and raised taxes through the avoidance of the fiscal cliff, and much more. The key moving forward for this market will be how do earnings shake out for Q1. Recent reports from bellwethers like Caterpillar (CAT) and FedEx (FDX) have not been bullish. If those are the norm for reports in Q2, the market could be headed for a steady correction. This coming week, we have a lot of important economic data to decipher before we start earnings season over the next couple weeks. With the S&P 500 (SPY) and Dow Jones (DIA) at record levels, the week needs to have a lot of good news to keep moving higher.
Economic data will be the key to the week with the all-important Nonfarm Payrolls (NFP) on Friday. Data gets started on Monday with the release of the ISM Index and Construction Spending. The ISM is a crucial report for manufacturing and economic growth. The Index is estimated to stay flat for March at 54. A beat there could help the new quarter start out well. After that, we get auto sales on Tuesday from major manufacturers. Auto companies have been off to a hot start in 2013, but it will be interesting to see if those sales stayed strong in the wake of strong government cutbacks in March. On Wednesday, we get ISM Services, ADP Employment Change, and Crude Inventories. Watch for ADP to be important, as it tends to be a signal to the market as to what we can expect on Friday. Expectations are for ADP to come in at 197K, which is just one thousand under last month's growth of 198K. From there, we Initial Claims and Challenger Job Cuts on Thursday to help develop the employment picture further. Finally, we get the Unemployment Rate, NFP, and Trade Balance on Friday. NFP is expected to come in at 178K, far below the 230K+ from last month. A beat here will secure a solid start to Q2, and a miss could be a signal that the top is in for the market.
Outside of the USA, Europe and Asia will play crucial roles in the market this week. The situation developing in Cyprus will continue to be important to watch. The aftermath of the country will start to unfold this week and the coming weeks. The more news that continues to break negative about creditors losing money will hurt the market. Though, with the company to get its necessary capital injection, downside risk has been limited some. China has been weak as of late, so a strong week from them would help the market. Key data to watch this week will be Chinese manufacturing numbers on Monday, Bank of Japan rate decision on Thursday, and ECB and BOE rate decisions on Thursday as well. Any changes from any central banks could definitely play an important role in the market this week.
We have a very light earnings week before things get rolling for Q1. Monsanto (MON) is the only big report of the week.
The Federal Reserve has continued to provide a nice cushion for the market with QE. The conversation seems to be very focused on continuing QE further this year without any let up in sight. That endless providing of capital will continue to benefit the marketplace as long as it lasts. The Fed has no announcements scheduled but quite a few speeches, so we will see if any of those speeches bring about any news.
So, where are we headed this week?
Q2 should start with the understanding that we came a long way in Q1, and unless we get some very strong data/news/earnings to give us more hope, the market should correct. Look for hitting targets as not enough to continue higher. We need data point beats this week and a strong employment picture to end the week in the green.
Stocks To Trade:
IBM was selected as one of our top picks for 2013, and we recently posted a Buy-rating on the company with a $250 price target for 2013. We believe the company combines several attractive qualities: dividend yield, value, growth in the cloud, and growing margins. The combination of many different attractive qualities means that many types of investors will want IBM, which should be a positive for any holders of the stock. First off, IBM is attractive to dividend investors and funds seeking yield. The company offers a yield at 1.6%. While not at the top of the industry, the company has ample cash and free cash flow to maintain a very consistent dividend. Further, the dividend has grown for 17 straight years. One of the keys to dividends is continued cash and FCF to maintain it. IBM has plenty. The company has over $10B in cash/cash equivalents. What is even more important though is FCF that can be used at any time. IBM has over $15B in FCF, which has grown about 7% in the past five years. The consistency of FCF means a healthy dividend that will continue to grow and continue to exist.
On top of a solid dividend, the company can attract value investors. The stock sits with a 11.6 future PE and 2.3 price/sales ratio. We look for value under 15 in future PE and under 3 in price/sales. Yet, that value is not because this stock is not set to grow. The company is estimated to see growth of earnings by over 10% in the next two years. Why is that? The company is moving towards a subscription-based model as they move towards more software offerings over hardware offerings. Here is more on that from our latest report:
The company is, additionally, building much more highly unique cloud systems through its PureSystems offering. The company has built a very interesting three-prong family of services in the cloud: PureFlex, PureApplication and PureData. PureFlex allows customers to integrate storage and networking into one system, which is a fairly classic cloud model. From there, the company developed PureApplication, which will allow customers to build applications for clients within a cloud network. PureData helps deliver data to applications. The three together build a solid software base that we believe will continue to grow as the company can combine its strength in hardware with complementing software.
We believe that these software offerings will continue to be successful and help create great synergies for the company between software and hardware with customers. We believe IBM still has 15-20% growth potential this year, and it looks very solid if it can break $215.
Trade: IBM, Long
Buy Point: Over $215
Another stock that we like long is USO. Crude oil looks promising currently, and we believe that it has more upside moving forward. The reason is that we believe that the U.S. will continue to see a secular recovery of our economy that will benefit employment. As employment grows and unemployment drops, the demand for oil grows, and we believe that we are going to continue to see a solid rise in employment over the next several months. This week's employment data will be key to oil, and we believe that a solid report could be a near-term catalyst. Throughout the year, though, we should see a bullish market due to the fact that supply is being cut from major producers like Saudi Arabia, global demand remains strong, and storage levels have dropped.
The Saudis are keeping supply in check. They have slashed production significantly as of the beginning of the year. OPEC, overall, is keeping supply fairly in check, which is helping to keep a nice floor on prices. Further, the countries want oil to stay around $80 - $100 per barrel, so they have a vested interest in keeping prices afloat. Their power over the American market is still there, and it affects USO. Further, global demand for oil remains very strong, and it will also keep a floor on prices. OPEC believes demand will grow in 2013, and while the IEA cut their expectations, they are still expecting growth in the market. Fears over the potential drop in demand are overdone. While long-term shifts in oil demand may occur, the market is still very vibrant, and as we get more emerging markets into the mix, the demand for oil will continue to be very solid. The US economy, on top of all that, is starting to look strong. One sign of that is the decreasing storage level in the market. In the last two months, supplies of oil have dropped by 24M barrels, which is a strong level of decline. The drop is due to a cut in supply or rise in demand. While likely a combination, both mean higher prices.
While Europe is a mess, the USA is coming back strong. Housing demand is growing along with employment. If we get positive employment numbers this week, it could help send oil higher again for several weeks, and we believe adding oil on any major drops is a smart move as the situation continues to push towards a lot of individuals wanting energy. Oil is still the most important way for that want to be satiated. Buy on a positive ADP report on Wednesday and add on a strong report on Friday as well.
Trade: USO, Long
Buy Point: Buy on good reports from ADP and NFP.
Finally, we continue to see limited upside in gold. While both gold and oil are currency-based in a lot of their moves, we see gold as having many other issues besides a strong dollar to limit its upside. First off, gold has lost its safe haven position. The commodity can help battle inflation and risk in the market, but inflation continues to be non-existent and risk seems fairly limited as long as the Fed keeps buying bonds. When will that end? We do not see anytime soon. Further, many forget that American equities are one of the only attractive places to put money right now. Bonds are yielding very small levels while European markets are a mess. Chinese markets have strong risk levels. American equities with the back of the Fed are the most attractive asset class currently, and that is the number one issue for gold. Why hold gold when the market continues to rise? That question has created a lot of the reason we believe gold has lost its allure.
Another issue is that COMEX futures and ETFs remain very high. As inflation continues to not perk up and the economy continues to show its slow recovery, gold continues to look less and less attractive. April, though, could spark some interest again in the short-term. We believe that earnings will not be strong enough to give the market a lot of further upside in the short-term. Those issues will likely give gold some short-term success, but that will be short-lived. Why? The Fed's involvement in the market makes equities very attractive, and they have proven that they can keep equities strong despite issues in the market along with inflation low. Further, if the Fed pulls the plug on QE, bonds become more attractive again, and we believe that the commodity will see another outflow again to treasuries. The only scenario where we see gold becoming attractive is if the market saw a significant hit along with inflationary signals.
We believe gold is a great way to hedge your longs by writing bear call spreads, and we would choose to add one on any pop here in April on weakness. We like the 162/164 bear call spread, as there is strong resistance there at the 200-day MA.
Trade: GLD, May18, 162/164 Bear Call Spread
Max Gain: 12%Disclosure:
I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.