TORONTO -- Bull markets have to climb a wall of worry. And history shows that the worse people feel, the further stocks will climb.
This week, I’ve been at the inaugural World Money Show Toronto. My appearances included a presentation in which I featured primarily recommendations from my Canadian Edge advisory. I also moderated two panel discussions including leading lights in Canada’s investment advisory industry.
Not everyone was bearish, particularly when it came to Canadian stocks. But the overwhelming consensus was caution, especially concerning the US market. Even the most optimistic cited Americans’ appetite for debt and the need to work it off before consumer spending would rebound. Consumer spending, in turn, was cited as the only thing that would rejuvenate the US economy. One analyst exhorted investors to “pay down all debt” as the best investment for safety.
Others warned explicitly against US financial stocks, arguing the rebound has overshot. Several argued against investing in any investment on the basis of a high yield alone. And one of the most popular speakers warned against investing even in Canadian trusts and US utilities, on the basis that they offered little growth.
As a student of Canada and its markets, I’m definitely a fan of the country’s conservative ways, which kept its banking system out of trouble during last year’s credit crunch and have generally held down over-leveraging throughout its economy. But coupled with reader feedback I’ve received in abundance in recent weeks, it’s a pretty clear sign that this market--despite the huge move we’ve seen since early March--is far from euphoric.
Conversely, at the same time we’re seeing more and more signs that the US economy is stabilizing. Meanwhile, the Bank of Canada is expecting that country to post third quarter growth of more than 3 percent.
Perhaps even more important, strong conditions in the lending market continue to get even better. This week, for example, Southern Company (NYSE: SO) issued two-year bonds at a premium of just 40 basis points to US Treasuries. Coupled with very low Treasury rates, that adds up to some of the lowest borrowing rates in history for the power producer.
The bottom line is credit conditions today simply couldn’t be more in contrast to those of last year. A catalyst may emerge to take down stocks. But with companies borrowing at such low rates, it’s not going to be the credit markets that do the damage. And, amazingly, few of today’s cautious investors are aware of this reality.
That points to the way toward solid gains for strong companies as an extremely low bar of expectations is exceeded again and again in coming quarters. And that’s exactly what we’re likely to see as third quarter earnings are announced over the next few weeks.
Chevron (NYSE: CVX) and Entergy Corp (NYSE: ETR) posted solid results earlier this month, clearly indicating their underlying businesses have stabilized. This week, AT&T (NYSE: T) posted expectations-beating third quarter earnings, despite a continued decline in business spending that dampened results at its enterprise division.
The company attracted 3.2 million iPhone customers, a full third more than expected. Most were monthly bill-payers, though some of the wireless gains were due to the company’s relationship with Mexico’s America Movil (NYSE: AMX). Churn was just 1.17 percent, while average revenue per user rose 3.8 percent year-over-year and 1.7 percent sequentially, i.e. from the second quarter. Overall earnings of 54 cents per share basically matched last year’s 55 cents and trounced Wall Street expectations of 50 cents.
The most amazing thing about AT&T’s earnings release had nothing to do with the numbers. Rather, it’s the fact that reporters covering the release continue to quote front and center an analyst from Sanford C. Bernstein & Co who has repeatedly missed the mark on the company since the recession began.
AT&T and other major communications companies have repeatedly beaten expectations because global appetite for connectivity continues to grow. True, the company’s legacy copper wireline network continues to lose customers. But that’s part and parcel of the transition to a high-speed wireless and wireline broadband network, which AT&T dominates in the US along with Verizon Communications (NYSE: VZ) and cable giant Comcast Corp (NSDQ: CMCSA).
We don’t yet have data for the latter two companies. But based on AT&T’s success, odds are high that both will report strong results, just as they have since this economic downturn began in late 2007. Connectivity demand is clearly transcending the slower economy.
For investors, that means the Big Three’s dividends are safe, and in fact are likely to rise. At these prices they’re also well undervalued. And the media’s continued willingness to quote bears but not bulls on AT&T’s prospects is yet another sign that expectations are unrealistically low and therefore easy to beat.
The big news in communications is, of course, what the Federal Communications Commission (FCC) decides to propose for net neutrality. Based on developments this week, the FCC is divided on how much new regulation should be imposed on wireless and wireline broadband companies in the name of ensuring open and unfettered access to the Internet.
Democrats, who occupy three of the five seats on the commission, reportedly favor new and binding rules. Both Republican commissioners, however, apparently have grave reservations, which are shared by a group of 72 members of the US House of Representatives, including the so-called Blue Dog Democrats.
As expected, the FCC majority, led by new Chairman Julius Genachowski, favors the adoption of six principles that would place new restrictions on owners of broadband networks. Added to the five rules proposed a month ago is a new one requiring “transparency” about network practices.
The bottom line for investors is that much is still undecided. Even the FCC is officially “uncertain” about whether new rules will apply to wireless communications. And anything too egregious is certain to be appealed to the courts, which are dominated by judges appointed during the Bush administration, most of whom are not comfortable with new regulation.
Meanwhile, this is one industry that’s beating expectations on the ground, climbing a wall of worry both in the US and Canada. That’s not only a great reason to keep buying and holding communications companies. It’s also a good reason to expect today’s negative sentiment on the general market will prove overdone.
There are still problems with the US economy, and even a severe correction is still possible. But such deeply negative sentiment has never coincided with the kind of meltdown we saw last year. And with Southern Company borrowing two-year paper at just 48 basis points above US Treasuries, lending is clearly unfrozen.
That’s a stark contrast with last year that rules out a repeat of the credit freeze that cratered the economy and market last year. Don’t be fooled by the hype and emotion that’s been swirling this market for well over a year. Continue holding good companies, as long as their earnings measure up.