All American In...'s  Instablog

The Market

Technical

The indices (DJIA 15335, S&P 1666) took a breather yesterday, but remained within all major uptrends: short term (14471-15180, 1588-1665 [the Dow is above its upper boundary]), intermediate term (13965-18965, 1481-2069) and long term (4783-17500, 688-1750).

Volume declined; breadth deteriorated. The VIX rose, finishing within its short term and intermediate term downtrends.

http://www.minyanville.com/business-news/markets/articles/255EGSPC-255EVIX-stock-market-volatility-s2526p/5/20/2013/id/49867

GLD bounced strongly off its April low. If GLS remains above 130.8 by Wednesday's close, our Portfolios will begin to re-build this position.

http://scottgrannis.blogspot.com/2013/05/whats-bad-for-gold-is-good-for-stocks.html

And (medium):

http://blogs.wsj.com/moneybeat/2013/05/20/why-precious-metals-are-taking-a-pasting/

And on a brighter note (short):

http://www.bespokeinvest.com/thinkbig/2013/5/20/a-double-bottom-for-gold.html

Bottom line: stocks remain firmly in an uptrend. While there are numerous technical indicators that raise questions of durability, momentum is currently trumping everything. As long as that remains the case, stocks will continue to move higher. However, I believe that the 17500, 1750 levels present impenetrable resistance.

Meanwhile, (m)y strategy continues to be to take advantage of what I consider unwarranted optimism by lightening up on positions when the stock price trades into its Sell Half Range. I believe that we will have a chance to buy these shares back at much lower price.'

Some perspective on this 'can't lose' market (short):

http://pragcap.com/some-perspective-on-the-cant-lose-market

Fundamental

Headlines

Only one number yesterday---the Chicago Fed's National Activity Index came in well below expectations. That isn't great for our forecast; but in context of the overall dataflow, it is not a game changer.

As usual, no one seemed to care. Most of the day investors and the media spent speculating about what happens to Jamie Dimon today, wondering how far up the food chain the IRS scandal is going to move and trying to understand why FOMC member Evans spent so much time focused on the math of the Fed's balance sheet since everyone with a third grade education knows how massive it is and how much more massive it will be if QEInfinity continues.

If that sounds like a snoozer, then you understand the market's performance.

Bottom line: stocks (as defined by the S&P) get more overvalued (as defined by our Model) every day; and as long as investors' mood remains highly optimistic, that is not likely to change. I have no idea how much higher stocks will go. But I don't think that is the appropriate measure. The issue is, are you smart enough to ride what is left of this rally and get out before stock prices are lower than they are today.

If you are, you have my utmost admiration. I, regrettably, am not that smart. So I rely on a Model that has worked on a long term basis for four decades. I am wrong to have our Portfolios at 40% cash today. I am content to be wrong on a short term basis to be sure my principal stays in tact long term.

The latest from John Hussman (medium):

http://advisorperspectives.com/commentaries/hussman_052013.php

Is a melt up coming? (medium):

http://www.thereformedbroker.com/2013/05/19/felix-zulauf-here-comes-the-buying-climax/

More on valuation (short):

http://turnkeyanalyst.com/2013/05/are-market-valuations-too-high/

And (medium):

http://aswathdamodaran.blogspot.sg/2013/05/equity-risk-premiums-erp-and-stocks.html

Unfortunately, all those under funded pension funds are not benefiting from the recent Market moon shot (medium):

http://www.zerohedge.com/news/2013-05-20/bernanke-wealth-effect-completely-wasted-trillions-pension-funds

Speaking of retirement funds, they appear to be a source of funds for the growing real estate bubble (short):

http://www.zerohedge.com/news/2013-05-20/what-could-possibly-go-wrong-here

True or false: 'Profits are the milk of the stock market'. And the answer is (short):

http://www.zerohedge.com/news/2013-05-20/wtf-chart-day-its-all-about-earnings

So much for 'Cyprus isn't a template' (short):

http://uk.reuters.com/article/2013/05/20/uk-eu-banks-idUKBRE94J0R820130520

Company Highlight

Accenture Ltd is a global leader in management and technology consulting services and outsourcing solutions with 200 offices in 54 countries. The company has generated an impressive 50%+ return on equity over the last five years while growing earnings per share and dividends 13-15% annually. ACN should be able to continue this trend as a result:

(1) demand outsourcing services are rising rapidly,

(2) Accenture's strong financial condition will allow it to continue its aggressive stock buy back program.

Negatives:

(1) its large international business subjects it to the risk of currency fluctuations,

(2) the global slowdown is impacting its consulting services.

The company has virtually no debt, is rated A++ by Value Line and pays a dividend providing a 2.2% yield.

Statistical Summary

Stock Dividend Payout # Increases

Yield Growth Rate Ratio Since 2006

ACN 2.2% 14% 36% 6*

Ind Ave 1.8 10 32 NA

Debt/ EPS Down Net Value Line

Equity ROE Since 2003 Margin Rating

ACN 0% 68% 1 10% A++

Ind Ave 20 19 NA 13 NA

*ACN has paid a dividend for 7 years.

Chart

Note: ACN stock made great progress off its October 2008 low, quickly surpassing the downtrend off its September 2008 high (red line) and the October 2008 trading high (green line). Long term, the stock is in an uptrend (straight blue lines). Intermediate term, it is an uptrend (purple lines). The wiggly blue line is on balance volume. The Aggressive Growth Portfolio owns a full position in ACN. The upper boundary of its Buy Value Range is $47; the lower boundary of its Sell Half Range is $84.

(click to enlarge)

http://finance.yahoo.com/q?s=ACN

5/13

Economics

This Week's Data

The Chicago Fed National Activity Index was reported at -.53 versus expectations of -.23.

http://www.capitalspectator.com/archives/2013/05/chicago_fed_slo_2.html#more

Other

The problem with EU youth unemployment (medium):

http://www.zerohedge.com/news/2013-05-20/europes-status-quo-pandering-risks-radicalization-entire-generation

The math of QEInfinity (medium):

http://www.zerohedge.com/news/2013-05-20/stocks-slide-following-permadove-chuck-evans-attempt-math

Chinese inventory growth (medium):

http://www.zerohedge.com/news/2013-05-20/artificial-growth-exhibit-chinas-inventory-stockpiling-hits-all-time-high

Is the US the 'cleanest dirty shirt'? (short):

http://www.zerohedge.com/news/2013-05-20/guess-who-dirtiest-dirty-shirt

Global leading economic indicators portray weak recovery (short):

http://advisorperspectives.com/dshort/guest/Dwaine-van-Vuuren-130520-Atypical-Global-Recovery.php

Politics

Domestic

IRS-gate---what did He know and when did He know it? (medium):

http://www.zerohedge.com/news/2013-05-20/white-house-explains-obama-didnt-know-what-he-knew-when-everyone-else-knew-what-he-s

Ron Paul on the IRS (medium):

http://www.zerohedge.com/news/2013-05-20/ron-paul-irs%E2%80%99s-job-violate-our-liberties

Thought for the day (short):

http://cafehayek.com/2013/05/abuse-of-reasons.html

International

Russia sends more ships into Mediterranean (short):

http://www.zerohedge.com/news/2013-05-20/russia-adds-two-more-warships-mediterranean-task-force-near-syria

Disclosure: I am long ACN.

The Market

Technical

Monday Morning Chartology

There is nothing to say. This chart speaks for itself. The only question is 'how high before the fall?'

(click to enlarge)

GLD is now testing its April low and the lower boundary of its long term uptrend. If successful, our Portfolios may start to nibble.

(click to enlarge)

The VIX was down on Friday. But even on such a strong up day, it made no attempt to challenge the lower boundary of its long term trading range.

(click to enlarge)

Update on 'the best stock market indicator ever':

http://advisorperspectives.com/dshort/guest/John-Carlucci-Best-Indicator-Ever-Update.php

Fundamental

More on valuation (short):

http://www.bespokeinvest.com/thinkbig/2013/5/17/sp-500-pe-ratio.html

Another hint of caution from a Street bull (short):

http://blog.yardeni.com/2013/05/bernankes-melt-up-excerpt.html

News on Stocks in Our Portfolios courtesy of Seeking Alpha

Donaldson (DCI): FQ3 EPS of $0.46 misses by $0.03. Revenue of $619M (-4% Y/Y) misses by $40.41M.

Economics

This Week's Data

Other

The disconnect between Wall Street and Main Street (medium):

http://advisorperspectives.com/dshort/guest/Lance-Roberts-130517-Great-American-Divide.php

Politics

Domestic

Look who is now in charge of your healthcare (medium):

http://www.zerohedge.com/news/2013-05-17/irs-official-charge-during-tea-party-targeting-now-runs-health-care-office

In case you missed this weekend news (medium):

http://www.zerohedge.com/news/2013-05-19/white-house-damage-control-script-jeopardized-new-disclosures

International

More on Benghazi (medium):

http://www.weeklystandard.com/author/stephen-f.-hayes

A message from the Boston Marathon bomber (short):

http://www.powerlineblog.com/archives/2013/05/ms-found-in-a-boat.php

Immigration into Germany (short):

http://www.zerohedge.com/news/2013-05-19/other-way-exit-euro

Disclosure: I am long DCI.

Note: I am going to take a couple of extra days for the Memorial Day holiday. So no Morning Calls next Thursday and Friday and no Closing Bell on Saturday.

Statistical Summary

Current Economic Forecast

2012

Real Growth in Gross Domestic Product: +1.0- +2.0%

Inflation (revised): 2.5-3.5 %

Growth in Corporate Profits: 5-10%

2013

Real Growth in Gross Domestic Product +1.0-+2.0

Inflation (revised) 2.5-3.5

Corporate Profits 0-7%

Current Market Forecast

Dow Jones Industrial Average

Current Trend (revised):

Short Term Uptrend 14467-15176

Intermediate Uptrend 13944-18944

Long Term Trading Range 4783-17500

2012 Year End Fair Value 11290-11310

2013Year End Fair Value 11590-11610

Standard & Poor's 500

Current Trend (revised):

Short Term Uptrend 1586-1663

Intermediate Term Uptrend 1479-2067

Long Term Trading Range 688-1750

2012Year End Fair Value 1390-1410

2013 Year End Fair Value 1430-1450

Percentage Cash in Our Portfolios

Dividend Growth Portfolio 41%

High Yield Portfolio 42%

Aggressive Growth Portfolio 43%

Economics/Politics

The economy is a modest positive for Your Money. This week's economic data was basically mixed: positives---April building permits, April retail sales, March business sales, April PPI and CPI, the April NFIB Business Optimism Index, May consumer sentiment and April leading economic indicators; negatives---mortgage and purchase applications, April housing starts, weekly jobless claims, April industrial production and capacity utilization and the May NY and Philly Fed manufacturing indices; neutral---weekly retail sales. After a positive though admittedly sparse week for data flow last week, the above pattern returns the overall trend in the numbers to mixed. That is not atypical for this recovery. So, nothing here to warrant a change in our Economic Model.

Overseas, Europe followed the same pattern; that is, after a brief respite of upbeat economic news, the stats this week took a turn back toward the negative side. The standout datapoint was a decline in first quarter EU GDP. While this clearly wasn't encouraging, our Model does assume a weak (plus or minus one percent real growth), though not dramatically recessionary, European economy.

So while the amber light on recession is flashing, our outlook remains unchanged:

a below average secular rate of recovery resulting from too much government spending, too much government debt to service, too much government regulation, a financial system with an impaired balance sheet. and a business community unwilling to hire and invest because the aforementioned along with the likelihood a rising and potentially corrosive rate of inflation due to excessive money creation and the historic inability of the Fed to properly time the reversal of that monetary policy.'

Update on big four economic indicators (medium):

http://advisorperspectives.com/dshort/updates/Big-Four-Economic-Indicators.php

And (short):

http://www.capitalspectator.com/archives/2013/05/us_economic_pro_3.html#more

The pluses:

(1) our improving energy picture. The US is awash in cheap, clean burning natural gas.... In addition to making home heating more affordable, low cost, abundant energy serves to draw those manufacturers back to the US who are facing rising foreign labor costs and relying on energy resources that carry negative political risks.

The negatives:

(1) a vulnerable global banking system. Surprise, surprise. We actually made it week without any reports of bad boy behavior from the banksters.

Never fear, there is always plenty of other problems, like nonperforming loans in the European financial system (medium):

http://www.zerohedge.com/news/2013-05-17/europes-eur-500-billion-ticking-npltime-bomb

'My concern here.....that: [a] investors ultimately lose confidence in our financial institutions and refuse to invest in America and [b] the recent scandals are simply signs that our banks are not as sound and well managed as we have been led to believe and, hence, are highly vulnerable to future shocks, particularly a collapse of the EU financial system.'

(2) fiscal policy. Benghazi was replaced by the IRS and AP scandals this week; meaning that congress continued to focus on something other than the budget. Short term, that is not necessarily a bad thing in that [a] the sequester and the tax hikes are doing the job of reducing the budget deficit and [b] it takes the ruling class' attention off of screwing you and me---again.

On the other hand, it may relieve the pressure of having to do any real work--- like entitlement and tax reform. And absent those reforms, the US economy will likely remain stuck on its current sub par growth path as it struggles to overcome the massive federal debt as well as the potential rise in interest rates and its impact on the fiscal budget. As I have noted previously, the US government's debt has grown to such a size that its interest cost is now a major budget line item---and that is with rates at/near historic lows. Moreover, government debt continues to increase and the lion's share of this new debt is being bought by the Fed.

So the risk here is two fold: [a] to the Fed---its balance sheet is levered to the point that Lehman Bros. looks like it was an AAA credit. So if interest rates go up {and prices go down}, the very thin equity piece of the balance sheet would disappear. The Fed would then be technically bankrupt. and [b] to the Treasury---it must pay the interest charges. Hence, if rates go up, the interest costs to the government go up; and if they go up a lot, then this budget line item will explode and make all the more difficult any vow to reduce government spending as a percent of GDP.....

I remain open to the possibility that congress will address the twin long term budget problems of entitlement spending and tax reform; however, with Obama dodging bullets from all directions, I am less hopeful than I was a month ago.

(3) rising inflation:

[a] the potential negative impact of central bank money printing. As I am fond of repeating, past bouts of irresponsible monetary easing have ended in either recession or inflation as central banks have shown themselves incapable of managing the transition from easy to tight money; and I see no reason why it would be any different this time.

Indeed, if anything, it could be worse in that we have never witnessed a ramp up of money printing on the current scale.

On the other hand, the simultaneous weakening in the US, EU and Chinese economic data could portend recession and that would likely postpone the transition period from easy to tight money---at least for the short term. The downside is that this would probably prompt the central banks to pour even more money into the global financial system, ultimately making this problem even worse than it already is.

Whatever happens, the fact remains that sooner or later, those bank reserves have to be withdrawn. It may be in a day, a month, a year, two years or five years; but when it does occur, the Fed along with other central banks will have the same problem that they have had every time they transitioned from easy to tight money.

Other problems, aside from the fact that this massive injection of liquidity has not accomplished the central bankers' goal, are that:

{i} our banks have used this largess for speculative purposes, increasing trading activities and funding the growth of auto and student loan bubbles---and now perhaps a new mortgage bubble. The popping of any/all of these bubbles would likely drive the US economy back into recession,

http://www.bloomberg.com/news/2013-05-16/brooklyn-to-california-bubble-threat-grows-in-housing.html

A different take on student loans (medium):

http://www.huffingtonpost.com/2013/05/14/obama-student-loans-policy-profit_n_3276428.html

{ii} any new infusion of global liquidity will likely only exacerbate this problem.

In addition, one of the corollaries of too much money printing is the rise in the potential for a currency war. ' an overly easy monetary policy generally results in the depreciation of the currency of that bank's country which in turn improves that country's trade balance and strengthens its economy. That is great unless its trading partners get pissed and commence their own 'easy money/currency depreciation' effort. At that point, you got yourself a currency war; and that seems to be the direction that the major economic powers are headed in.'

http://www.washingtonpost.com/business/economy/in-global-currency-war-a-new-front-opens-in-the-south-pacific/2013/05/14/ff07b582-bccf-11e2-97d4-a479289a31f9_story.html

So you can see how what might start out as a run of the mill economic slowdown could be made worse by the popping of various asset bubbles and/or an intensifying race of competitive devaluations.

One final note, the Japanese bond market has been taking it in the snoot for the last two weeks. Lest we forget, total Japanese government debt is over 200% of GDP; so if interest rates keep rising, the cost to service that debt keeps rising which has to be paid for with taxes or more bond issuance---neither of which will be particularly welcomed. [must read]:

http://www.zerohedge.com/news/2013-05-16/are-japanese-banks-verge-insolvency

And that says nothing about what happens to rates on the rest of the world's debt. I will repeat that I don't know how this story ends; but the odds of it ending badly are high enough to warrant caution.

[b] a blow up in the Middle East. Both the US and Russia are sending naval vessels into the vicinity [US to Israel, Russia to Cyprus]. My worry is that if violence erupts, it may in turn lead to a disruption in either the production or transportation of Middle East oil, pushing energy prices higher.

http://www.zerohedge.com/news/2013-05-16/russian-pacific-fleet-warships-enter-mediterranean-first-time-decades

More insight into the conflict in Syria (long but a must read):

http://www.zerohedge.com/news/2013-05-16/mystery-sponsor-weapons-and-money-syrian-rebels-revealed

And:

http://www.zerohedge.com/news/2013-05-17/diplomatic-escalation-russia-publicly-exposes-cia-station-chief-moscow

(4) finally, the sovereign and bank debt crisis in Europe remains a major risk to our forecast. This week, the data flow out of the EU turned more negative. The bad news is that given the level of sovereign indebtedness, the overleveraged European bank balance sheets and the [low] quality of the assets on those balance sheets [see 'a vulnerable global banking system' above], the EU economy is much more susceptible to minor changes in growth than in the US.

http://pragcap.com/european-banks-and-why-the-deleveraging-has-only-just-begun

The good news is that [a] our forecast accounts for weak economic activity in the EU and [b] the recent move by the ECB to ease monetary policy coupled with the call by the eurocrats to back off austerity could help mitigate any recessionary pressures short term.

http://www.nakedcapitalism.com/2013/05/europes-depression-deepens.html

Bottom line: the US economy remains a positive for Your Money. The budget deficit is shrinking faster than I thought but (1) it is partly a function of income being moved from 2013 back to 2012 because of the 1/1/13 tax increase, (2) there is still much to be done on entitlement and tax reform and downsizing an inefficient bureaucracy, (3) just when we thought that the acrimony in Washington couldn't get any worse, along comes Benghazi, IRS-gate and AP-gate; that's probably not conducive to productive negotiations on structural change.

Fed monetary policy along with that of the rest of the world has been jammed into overdrive. 'Regrettably, I am not smart enough to know when Markets will cease to tolerate this irresponsible behavior by the central banks or what the magnitude of the fall out will be when they do. My guess is that it won't be pretty and I will likely have to alter our Model.'

This week's data:

(1) housing: weekly mortgage and purchase applications declined markedly; April housing starts were well below estimates though building permits were quite strong,

(2) consumer: weekly retail sales were mixed while April sales were better than forecast; weekly jobless claims rose more than expected, the initial May University of Michigan consumer sentiment survey came in at 83.7 versus estimates of 78.0,

(3) industry: April industrial production and capacity utilization were disappointing; March business inventories flat, though sales rose; the April NFIB Business Optimism Index was better than anticipated; the May New York and Philadelphia Fed manufacturing indices were weaker than forecast,

(4) macroeconomic: both the April PPI and CPI were softer than expected; April leading economic indicators were +0.6% versus estimates of +0.3%..

The Market-Disciplined Investing

Technical

The indices (DJIA 15354, S&P 1667) ended the week on a very strong note, closing within all major uptrends: short term (14467-15176, 1585-1663 [both were above their upper boundary]), intermediate term (13944-18944, 1479-2067) and long term (4783-17500, 688-1750).

Volume was up big time---contrary to its recent pattern of advancing on weak volume; breadth was up. The VIX fell, finishing within its short and intermediate term downtrends. But it made no attempt to challenge the lower boundary of its long term trading range.

This Market reminds me of 2000; and I was just as early to Sell then as I am this time. As nerve racking as this is, I retain confidence in our Valuation Model. So I am not capitulating and will continue to use upward momentum to my advantage---taking profits when stocks trade into their Sell Half Ranges.

GLD was down big and is now challenging its April low and the lower boundary of its long term uptrend. As you know, I am watching that closely.

Bottom line:

(1) the indices are trading within their short term uptrends [14467-15176, 1585-1663] and intermediate term uptrends [13944-18944, 1479-2067].

(2) long term, the Averages are in a very long term [80 years] uptrend defined by the 4873-17500, 688-1750.

Fundamental-A Dividend Growth Investment Strategy

The DJIA (15354) finished this week about 34.3% above Fair Value (11425) while the S&P (1667) closed 17.7% overvalued (1416). Incorporated in that 'Fair Value' judgment is some sort of half assed attempt at getting fiscal policy under control, continued money printing, a historically low long term secular growth rate of the economy and a 'muddle through' scenario in Europe.

The assumptions in our Model related to US economic growth and fiscal policy remain unchanged. To be sure, fiscal policy has become less of a negative in the short term due to the budget deficit narrowing more rapidly than I expected. However, as I noted above, most of the reasons for this pleasant surprise are one off. Plus the truly debilitating aspects of fiscal policy (entitlement spending and tax reform) remain unresolved. I have noted that a 'grand bargain' would lead to me to raise my long term growth assumption which would in turn lift Fair Value. But that seems a long way away in now scandal ridden Washington.

The monetary policy assumptions have to change. I am just not smart enough to figure out 'to what'. The entire global central banking system is now printing money as fast as it can. In the past easy money has ultimately led to either recession or inflation; and presumably that will happen this go round. Further, given the unprecedented scale of the current liquidity infusion, one might conclude that the scale of the subsequent recession or inflation would reflect that. But in the end, I just don't know.

That said, with a number of the larger economies threatening to slide back into recession, the drop dead date for a move from ease to tightening could be postponed. And that may lead to money printing at an even more furious pace.

The point on monetary policy long term is that if history repeats itself, (1) with monetary easing now in uncharted waters, the transition from easy to tight [normal] monetary policy will be a bigger negative for our Models than is currently reflected; I just don't know by how much, (2) given the potential for the US and the EU to slide back into recession, the timing of the transition is even more uncertain and (3) as a result, this risk is not properly reflected in our Models.

Europe remains a long term problem with its sovereigns carrying too much debt, its banks too leveraged and its economy riding the cusp of a recession. To date it has managed to muddle through; and with a seemingly more tolerant view among the eurocrats toward less austerity and more money printing, it could continue on that course for sometime. Ultimately though, the issues of debt and leverage have to be addressed. I just don't know when (there are a uncomfortable level of 'I don't knows' in this note).

My investment conclusion: most of the assumptions in our Models are unchanged; though that of monetary policy almost assuredly will and to the negative.

Certainly nothing has occurred that improves equity valuations or persuades me to buy stocks are current price levels. If anything, the ever expanding race in global monetary easing has raised my anxiety level to new heights.

This week, our Portfolios did nothing.

Bottom line:

(1) our Portfolios will carry a high cash balance,

(2) we continue to include gold and foreign ETF's in our asset mix because we continue to believe that inflation is a major long term risk [which is now under review]. An investment in gold is an inflation hedge and holdings in other countries provide exposure to better growth opportunities.

(3) defense is important.

DJIA S&P

Current 2013 Year End Fair Value* 11600 1440

Fair Value as of 5/31/13 11425 1416

Close this week 15354 1667

Over Valuation vs. 5/31 Close

5% overvalued 11996 1486

10% overvalued 12567 1557

15% overvalued 13138 1628

20% overvalued 13710 1699

25% overvalued 14281 1770

30% overvalued 14852 1840

35% overvalued 15423 1918

Under Valuation vs.5/31 Close

5% undervalued 10853 1345

10%undervalued 10282 127415%undervalued 9711 1203

* Just a reminder that the Year End Fair Value number is based on the long term secular growth of the earning power of productive capacity of the US economy not the near term cyclical influences. The model is now accounting for somewhat below average secular growth for the next 3 to 5 years with somewhat higher inflation.

The Portfolios and Buy Lists are up to date.

Steve Cook received his education in investments from Harvard, where he earned an MBA, New York University, where he did post graduate work in economics and financial analysis and the CFA Institute, where he earned the Chartered Financial Analysts designation in 1973. His 40 years of investment experience includes institutional portfolio management at Scudder. Stevens and Clark and Bear Stearns, managing a risk arbitrage hedge fund and an investment banking boutique specializing in funding second stage private companies. Through his involvement with Strategic Stock Investments, Steve hopes that his experience can help other investors build their wealth while avoiding tough lessons that he learned the hard way.