Jeffrey Saut: Revisiting Asset Allocation

 |  Includes: IRDM, MSFT, NIHD, NUAN, PRXL
by: Jeffrey Saut

Excerpt from Raymond James strategist Jeffrey Saut's latest essay (published Monday, July 26th):

...I think we are approaching a point where rebalancing portfolios may be in order. To wit, the June “closing highs” for the DJIA (INDU/10424.62) and the DJTA (TRAN/4369.71) were 10450.64 and 4467.25, respectively. Currently, both averages are approaching those levels. Either both averages will break out above their June highs (a Dow Theory buy-signal), one will break out and the other won’t (an upside non-confirmation), or both will fail to close above their June highs (trouble). Meanwhile, my proprietary intermediate-term trading indicator is still flashing caution, as are the stochastic and 12-month moving average indicators.

That said, I have been constructive on the stock market since the beginning of July despite the parade of negative indicator events registered since the April peak. My bullishness was driven by the most oversold reading since the “capitulation alert” of October 10, 2008 when 93% of stocks traded on the New York Stock Exchange made new annual lows. Regrettably, the extreme oversold condition that existed three weeks ago has now been largely erased. Accordingly, this week shapes up as a pivotal week and I will be watching the action closely.

While in the short-run the stock market is a beauty contest (picking the “prettiest” stock), over the long-run it is a weighting machine. Plainly, the “weighting machine’s” metric is earnings. To that point, this earnings season has been pretty good, with about 76% of the S&P 500 companies reporting positive earnings surprises and ~70% showing upside revenue surprises. Interestingly, of the S&P’s 10 macro sectors, Technology’s weekly forward earnings per share are at a record high. Since the bottoming process began (October 2008) I have emphasized technology stocks. Most recently, I have talked about Microsoft (MSFT/$25.81) and the potential for a huge upgrade cycle. Coincidentally, the invaluable GaveKal organization wrote this last Friday:

“In a recent ad hoc comment (Is It Still Time to Overweight Tech?), we highlighted that the average PC used in US companies is now six years old and has a DRAM memory of 2.5GB – both of which lag US consumer PCs. Along the same lines, it is estimated that 75% of US business PCs still use Windows XP... a point that came home to roost yesterday with Microsoft's very impressive earnings: thanks to a +21% YoY jump in global PC shipments last quarter, Microsoft reported sales of 175mn copies of Windows 7, making this latest flagship product the fastest selling operating system ever. And given that Windows 7 is not even twelve months old yet (the typical span of time for CTOs to appreciate a new operating system and decide whether to upgrade their firms' software and PCs), there could well be a whole lot more to come. Thus, Microsoft's numbers, coming hard on the heels of similarly strong numbers out of Intel, raise the possibility that we could be witnessing the dawn of a new PC cycle.”

I like tech! Using my proprietary intermediate-term trading indicator, I screened all of the technology stocks in our Analysts’ Current Favorites list and found the following tech stocks to be favorably positioned: Iridium (IRDM/$10.26/Strong Buy); NII Holdings (NIHD/$39.88/Strong Buy); Nuance (NUAN/$16.95/Strong Buy); and PAREXEL (PRXL/$24.29/Strong Buy). Remember, however, that in the short-run the stock market is a beauty contest and what happens this week, as we approach the June reaction highs, should determine the near-term price action for most individual stocks.

The call for this week: When I entered this business, some 40 years ago, one of my mentors told me to put 20% of my money into Treasury Bills, 20% into stocks, 20% into bonds, 20% into precious metals, and 20% into real estate. Clearly I have not followed that advice, although vetting it over a long-cycle shows it has a pretty decent track record.

More to my liking is the attendant asset allocation chart, which has nothing to do with ANY of the Raymond James Asset allocation models, but rather how I would structure a “businessman’s risk” portfolio. For international exposure, I would use funds like MFS International Diversification Fund (MDIDX/$11.71), which just got the mandate to increase its exposure to emerging markets. For fixed income, I would use funds like Putnam Diversified Income Fund (PDINX/$7.95), which as a side note was included in a report from our Mutual Fund Research Department last week. And for precious metals, I continue to like OCM Gold Fund (OCMGX/$24.21), which is managed by my friend Greg Orrell. And don’t look now, but crude oil ($78.98/bbl. basis September future) traded above its 200-day moving average ($77.69) last week, which is a step in the right direction for our energy investments.