A Non-Chartist Charts the Coming Summer Decline

I am not a chartist. I use geopolitical, fundamental, and behavioral analysis that has worked well for me for 40 years or so. To these I add a dollop of common sense when reviewing the managed news bites coming out of Washington and Wall Street to draw my own conclusions.

There are many roads to success in investing. After all these years I have a number of peers and colleagues whom I highly respect, who reach similar conclusions to mine based upon their technical analysis of the market. They may think I’m a little nuts to spend all the time I do tearing into balance sheets and reading obscure journals; I can’t fathom why they would want to draw all those squiggles and lines and pennants and saucers when they could be sitting on the terrace in their backyard reading the footnotes of annual reports while listening to the birds and looking at the lake.

But I’ve recently come across a couple charts that I think even non-chartists can appreciate the simplicity and clarity of. The first is hot off the presses today from the US Census Bureau.

(Click to enlarge)

For the past few weeks, Wall Street has held a pretty marvelous rally based upon News That Isn’t Quite As Dreadful As It Could Have Been. Remember, for every buyer there must be a seller. This “good news” has given corporate insiders, Wall Street’s biggest clients, the opportunity to sell their holdings at a record pace at the top of the market. It has also allowed big banks and brokers to float astonishing amounts of new capital at prices the public wouldn’t touch just 3 months ago.

Their latest coup was to trumpet the National Association of Home Builders/Wells Fargo index of builder confidence. This index measures, on a scale of 0 to 100, the percent of builders who believed current sales are “fair” or “good” rather than “poor” and that buyer traffic is picking up or isn’t. That percentage rose from 14% all the way to 16%. And housing starts, as shown above, do not justify even this "margin of error" increase in alleged confidence.

Rather than just accept Wall Street’s dictum that this is news worthy of a 238-point rally, let’s examine what this really means. It means that last month 86% of home builders rated their current sales and future prospects as “poor.” This month "only" 84% of home builders believe their current sales and future prospects are “poor.” This is better than a poke in the eye with a sharp stick but worthy of a powerful rally? Only if you are a Wall Street firm floating stock or feathering the nest of your best clients…

I was actually quite surprised the confidence level didn’t rise far more. After all, the recovery is being engineered by Washington and trumpeted by Wall Street. Forcing interest rates down and providing an $8,000 check for first time home buyers, combined with record low prices, should have people flocking to buy homes, especially in the heavy springtime buying season. Really, now. If you ran for public office two times and the other candidate got 86% of the votes the first time but only 84% the second time, would you trumpet your “victory?”

I’m indebted to Tom Fitzpatrick and Shyam Devani of CitiFX Technicals for the next chart, which depicts a long-term view of the DJ Transportation Averages.

(Click to enlarge)

To me, the stocks that comprise this index (AMR (AMR), FedEx (FDX), Union Pacific (UNP), UPS (UPS) et al) are the harbingers of U.S. economic activity. Randy Travis sang, "Since my phone still ain't ringing I assume it still ain't you." Well, since these companies still aren’t moving goods and people around the country, I'll assume the economy still isn’t recovering... I’m hoping we don’t see a repeat of the two earlier instances with a similarly steep decline in this indicator – but I’m prepared for it if we do.

This last chart comes courtesy of Chart of the Day (www.chartoftheday.com) and is pretty self-explanatory:

(Click to enlarge)

Never before have we seen corporate earnings fall off a cliff like we have this year. But the news has been managed to perfection: “Earnings Not Down As Far As Analysts Expected,” and, yesterday, “Lowes Q1 Net Beats Estimates”! (Followed, if you actually read the article, by “The Mooresville, North Carolina-based company reported first quarter net income of $476 million, or 32 cents per share, down 22% [emphasis mine] from $607 million, or 41 cents per share, in the year-ago period. Sales fell 2% to $11.83 billion from $12.01 billion.” Remember when home improvement firms were trumpeted as havens from the storm because, with fewer home sales, more people would be fixing up their places?

I cannot discern or claim, from my non-chartist view of all the above, what the next move for each will be. Each “could” be at the bottom of a V-shaped recovery. But the devastation wrought in these three areas, combined with my read of the 3-sigma likelihood of a V-shaped recovery in housing, corporate earnings, or the transporters, leads me to believe this will not happen. This kind of devastation does not turn on a dime. That doesn’t mean the market, ex the transports, “could” not do so. But again, even a non-chartist looking at these, applying a bit of experience, common sense and healthy skepticism for the way in which news and earnings are being managed/manipulated, might draw the conclusions I have: It’s likely to be a long, hot summer.

Disclosure: Mostly in boring, safe cash equivalents, with some income, gold and inverse ETFs like EUM, SH, SEF, REW, and PSQ.

Comments

[whidbey:]

Interesting. If you assume 40 dollars in S&P earnings next year and a 15 P/E I suspect a 600 SPX us feasible. Thank you.

May 20 04:54 PM

[SeekingTruth:]

In addition to your excellent article, higher oil prices could also further weaken an already anemic economy this Summer, along with higher unemployment, weak sales, etc. etc..
The institutions and market maipulators are eyeing all that cash still on the sidelines and salivating like the big bad wolf. They will not rest until it is commited to the market so they can say "hasta la vista baby" i.e. since you like this junk at these prices better than I do, you are welcome to it --by -by!

May 20 06:04 PM

[Valley Boy:]

Another non-chartist concern would be the threat of higher
taxes weighing in on businesses and consumers. Higher taxes
are the last thing we need when the economy is fragile. If any
sin tax is imposed on certain items, then an equivalent reduction
in taxation should be granted to the people who meet payrolls.

May 20 06:28 PM

[Jasper M:]

I like the article, but I have a quibble:
"I use geopolitical, fundamental, and behavioral analysis"
Since behavioral analyses are the bases of "chartism" (= technical analysis), I wonder at the distinction. If you are using behavioral analysis, seems to me you are pretty much already a chartist . . . just without the charts.

DRINK the chartist coolaide, Mr. Shaefer - it is really quite pleasant, once you are one of us . . .

May 20 07:32 PM

[Clarence th...:]

Prescient behavioral analysis for dinner, and DJ Transportation Average for desert. My favorite!

With your eye on the lake and your nose in "obscure journals", you will be head and shoulders above the crowd. (TA humor)

May 20 07:50 PM

[Jasper M:]

Clarence, that is without doubt the most subtle joke I have seen in Years! Would not have got it without the "TA" tag. Well done.

May 20 08:14 PM

[Clarence th...:]

Aw, shucks... I'm just a candle in the wind.
Seriously, though - I took the authors "geopolitical / fundamental / behavioral" statement of faith to represent his reliance on the socio-historical context of events now unfolding.

Maybe Mrs. Shaefer can go out on the deck and give him a nudge, because I am very interested in a clarification...

With apologies to chart worship, Jasper, I am not "of the body".
I, too, have a deck with a view. And I am not afraid to use it!


On May 20 08:14 PM Jasper M wrote:

> Clarence, that is without doubt the most subtle joke I have seen
> in Years! Would not have got it without the "TA" tag. Well done.

May 20 08:31 PM

[pslater:]

Whidbey,
The current estimate from S&P for 'operating' EPS is $54.15 while the 'as reported' estimates for the next 12 months are $27.72. Using the BAA bond rate of around 8% the implied P/E should be around 12.5 (100/8). This would indicate an index 'fair value' range of around 678 (54.15 X 12.5) to 346 (27.72 X 12.5) with a midpoint of 512. ANY of these numbers are WAY below the index close of 903 today....

<Interesting. If you assume 40 dollars in S&P earnings next year and a 15 P/E I suspect a 600 SPX us feasible.>

May 20 09:41 PM

[Gyoza Mimi:]

Joseph,

Just a speculation on my side, but recovery has to start with the weakest, preferably those who caused the mess to begin with. To prop the weakest, all needs to happen is for the Wall Street to raise some money, not through issuing debt, of course. How you can raise money, if everyone scared to buy, especially shares of those who are clearly insolvent? Who in a right mind would buy a load of diluted crap called new GS issue? Only if you know that you are in the middle of the new bull market and these worthless $127 shares will appreciate no matter what. So the government and the Wall street and all other interested parties trumpet recovery while selling loads of crap they valued in billions to the general public. The question is whether the pump scheme will follow by a dump or things will really get better because thing will enter the virtuous circle.

May 20 09:55 PM

[Windsun33:]

Despite all the hype about how things "Are Getting Better" (ie, less horrible), I think the markets are poised for a downturn or at best flatline in the near future.

I see a lot of earnings up from expectations - but a huge percentage of those are from companies that have had massive layoffs.

At this point I am still in the market, but have been gradually moving to cash over the past couple weeks. I missed a few runups in glamour stocks, but I figure that in a month or two I can pick them up for a good discount.

May 21 12:14 AM

[sethmcs:]

Chart 1 - New housing starts - I would be far more fearful if this one started going up at this point. Six to nine months of inventory has to be sold first. The low number is positive for recovery.

Chart 2 - Transports - Classic Dow theory is: "industrials make it transports take it." Transports are a confirming indicator not a leading indicator. They will have their day but not today.

Chart 3 - S&P earnings - It would be more informative if core earnings excluding special items were presented but nevertheless the truth is going forward individual companies should be able to produce earning to beat the recent past and exceed earning expectations. The market is anticipating 6 to 9 months into the future.

My gut tells me to buy "junk" now at reasonable prices and wait. Junk being autos, regional banks and GE.

May 21 12:31 AM

[Windsun33:]

That is only partly true - transportation is also needed to get the raw materials to the industrials. That is primarily rail and dry shipping, and I am not seeing much of an upturn there. The one big exception has been China stockpiling basic raw materials, but even that now seems to be slowing down a lot.

On May 21 12:31 AM sethmcs wrote:

> Chart 2 - Transports - Classic Dow theory is: "industrials make it
> transports take it." Transports are a confirming indicator not a
> leading indicator. They will have their day but not today.

May 21 01:37 AM

[Bjarne Jensen:]

Joseph: I suspect that the 'confirmation' relationship between the Industrial Index and the Transportation Index is no longer a valid conclusion. For the last 6 months I've checked the origin (where made) of everything I have purchased. Other than fresh produce, nothing I purchased was made in the US yet everything was shipped here.

May 21 09:58 AM

[ArtfulDodger:]

Regarding charts: I have bitten and the taste was sour. I swallowed and then threw up.

For some reason my brain cannot fathom charts.

In fact, when my brain sees charts, it shoots my arms into the air wiggling and shaking, and I begin shouting, Danger! Danger! Unknown life form.

May 21 10:42 AM

[Joseph L. S...:]

To all who have commented as of mid-day Thursday, 21 May:

I can only say that I hope all of you become regulars at this site. I respect the literate and well-thought-out quality of the discussion among all of us, and there are days when I definitely need the humor to keep me going! (Clarence the Dog, “ ‘head and shoulders’ above the crowd” / “just a ‘candle’ in the wind,” indeed! Very clever puns…)

And, yes to all, especially Jasper M, who notes I am a closet chartist [without the charts.] Probably true, in that my background in special ops and intel took me around the world and gave me an insatiable interest in the socio-historical and “what if” worlds. I am certainly willing to believe that there is more in heaven and earth than dreamed of in my philosophy, (Horatio.) Now, if you’ll excuse me, it’s back to my stack of African Business journals and Defense Week newspapers…

Best regards,
JS

May 21 02:43 PM