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Dr. Stephen Leeb
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Dr. Stephen Leeb is a recognized authority on the stock market, macroeconomic trends and commodities, especially oil and precious metals. Dr. Leeb is founder of the Leeb Group, which publishes a line of financial newsletters including The Complete Investor, Leeb Income Performance Letter, Leeb... More
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  • What Back-to-School Shopping?
    It’s hard to believe that summer is almost over. Typically, the end of the summer means one thing for retailers: back-to-school shopping. But in this tumultuous consumer environment, most retailers are likely holding their breath and crossing their fingers for decent results, rather than a return to the free-spending American shopping season of yore. We’ll save discussions of holiday shopping season for later.
    Consumers, still confronted with high unemployment, rising gas prices, and concerns about the health of the overall economy, are saving at a rate (4.6%) that is still close to a 13-year high reached a few months ago. With continued economic weakness, and the absence of their homes as a source of wealth, we think consumers aren’t going to do an about-face and empty their pockets anytime soon. This means trouble for many retailers – specifically those with sales oriented towards more discretionary items – that rely on the season to boost full-year results.
    While students (and their parents) will likely forego or at least settle for reduced new fall wardrobes, there’s certainly some shopping that will need to be done. In our portfolio, we hold limited exposure to retailers – but the few we recommend will likely do quite well during back-to-school shopping season.
    Wal-Mart (NYSE:WMT), a recent addition to our Growth portfolio, will benefit as students flock to the discount retailer to stock up on pencils, pens, paper, and other necessary items. Shares still trade at only 14.5 times current fiscal year estimated earnings, and offer a yield of more than 2 percent to boot.
    CVS Caremark (NYSE:CVS), while benefitting greatly from increased prescription trends and a shift towards higher-margined generic drugs, is also another back-to-the-classroom special. The company receives tremendous revenue growth (18 percent) from drug sales, but more profits for the company come from “front-store” sales – those items customers pick-up on their way to the pharmacy in the back of the store.
    The company’s stores have continued to perform well during the recession, benefiting from stable pharmacy traffic. In its most recently completed quarter, the company reported a 6.1 percent increase in same-store sales – a stark contrast to most retailers who’ve seen sales drop. We expect the company to continue the trend with the help of school supply shopping, and management is also optimistic.
    In the same report, the company raised its full-year earnings guidance and noted expected sales growth of 20 percent in the current quarter. Earnings will grow in the middle teens, helped by continued strength of front-store sales. Despite the company’s strength in a dismal consumer environment, shares still trade at only 14 times the current year’s expected earnings. With a PEG of 1 and continued strength courtesy of stable store traffic and seasonal shopping we remain buyers.
    At the higher end of the spending spectrum is Apple (NASDAQ:AAPL), who, as usual is running big back-to-school promotions. The computer company is another consumer standout who has bucked the trend of tighter wallets. With profit margins of 36 percent, the company has plenty of room to offer special discounts and expand its consumer base during the current quarter – especially with students. Starting with its ubiquitous iPod, and then upselling to higher-margined Mac computers and iPhones, the company has become adept and building brand loyalty, and management uses the back-to-school promotions as a similar opportunity. Cutting prices and collecting less profit in the short-term, Apple aims to gain a lifelong customer in the form of young student.
    With a recent refresh of most product lines, including the hot selling iPhone – the company grew sales by 12 percent in the recently completed quarter. Not resting on its laurels, rumors are swirling about a new “tablet” computer that Apple may introduce in the next quarter or two. The device will reportedly be a cross between the iPod Touch and its MacBook line – likely competing with the burgeoning “netbook” computer market. Regardless, the company is continuing to grow with its current product line, and will receive a boost from back-to-school shopping, and the holiday shopping season as well.
    Trading at 24 times next year’s expected earnings, Apple’s shares do not appear cheap. However, earnings growth of 20 percent make the stock attractive, while the company’s record in the recession and over $31 billion in cash on its balance sheet are further reasons to buy the shares.
    Our last back-to-school highlight doesn’t sell any school supplies, but rather provides the means to buy them. Visa (NYSE:V), operator of the world’s largest retail payment network is benefiting from tough consumer conditions. That may sound counter intuitive, but shoppers are increasingly relying on electronic payments as cash is tight, and they’re moving more towards debit cards while banks cut credit card lines. For Visa, which boasts over 75 percent market share of the U.S. debit card market – business is good.
    The company continues to grow its fee-based revenues (it takes on zero consumer default risk), and expects earnings to continue to grow by over 20 percent into 2010. The company’s transaction processing, which grew at 8 percent last quarter, will continue to grow during the upcoming shopping seasons – and will also benefit from the company’s tremendous international exposure. Shares trade at 20 times next year’s expected earnings and a PEG of only 1. We remain buyers of this relatively low-risk, utterly dominant company.
    Aug 27 10:48 AM | Link | Comment!
  • Portfolio protection you need going forward.
    The market seems destined to become its own nemesis in the not-to-distant future. Every advance stock prices make seems to be accompanied by an equal increase in commodity prices. As we learned in 2008, this constitutes an accident waiting to happen. Commodity prices can only rise so far before they cripple our economy.
    Some will counter that higher commodity prices result from rising demand for products, which is a good thing. It's as sign of a growing economy.
    For instance, if we expand the size of our vegetable garden, we will spend more on fertilizer. But we will be more than compensated for those higher costs when we sell the produce. So higher raw material prices are part and parcel with economic growth.
    Our problem is that we are losing our competitive advantage. If our neighbor also has a garden, and there's a limited supply of fertilizer, the price of fertilizer will rise even faster. Worse, if our neighbor's soil is more fertile, his sales will outpace ours. His higher profits will help him outbid us at the fertilizer store, and corner the market.
    Here's the situation as it looks in the real world...
    Today, the driving force in the commodity market is the emerging economies, the two biggest of which are China and India (Chindia®). According to the latest forecasts, the combined Chindian economies will surpass that of the U.S. sometime next year. After that, the world will never be the same.
    Imagine if, in 1999, someone predicted that U.S. car sales would grow 30-40% over the following 12 months. What would the implications have been?
    Obviously, such an event would have led to higher prices for such commodities as steel, copper, rubber, and everything else auto parts are made from, as well as gasoline. The U.S. was the largest auto manufacturer in the world at the time, and a 40% year-over-year increase would have been phenomenal. Certainly, raw material producers would have had a hard time meeting demand.
    Today, Chindia makes more cars per year than the U.S. Next year, the region will likely see a 20-40% increase in car sales. So who cares if Americans buy fewer cars? There are a billion Chindian families now drooling over glossy photos of next year's models, dreaming of purchasing their first set of wheels. So you can pretty much count on global commodity prices going through the roof next year, regardless what happens in the U.S.
    Add to that the immense amount of money being spent on infrastructure in Chindia (including new roads, bridges, auto plants, etc.), and commodity prices should be expected to go even higher.
    And we haven't even considered the rest of the developing world. Brazil, Russia, the Middle East, not to mention the rest of Asia, will also be increasing their consumption.
    Though the U.S. may not see strong growth for some time, we will certainly be forced to pay more for both raw materials and imported finished products. For the record, industrial commodity prices (which are determined by supply and demand rather than speculation) have already risen 26% since their recent low. We believe they have a lot more room to grow.
    Meanwhile, you have to be amazed at the media's determination to keep their heads in the sand...
    Last night, Bloomberg published an article titled, “Deflation's Silver Lining Points to Further Advance for the S&P 500.” We like Bloomberg generally, but when they get things wrong, they really get things wrong.
    The article quotes several major money managers who predict we will see an explosive market in just a couple of quarters, which will result from explosive earnings, which will in turn result from an explosion in profit margins. And what, in their opinion, will be the root cause of all this positive TNT? Drastically lower commodity prices.
    We're not making this up. As the saying goes, give me one false premise and I can prove anything.
    To present their argument fairly, these money managers point out that over the past year commodity prices have fallen quite a bit – faster than the CPI. Elementary algebra tells us that corporate profit margins should therefore increase. That's certainly true, for now.
    The problem is that last year's decline in commodity prices has already been discounted in today's stock prices. Companies that reported better than expected earnings recently did so on the back of these lower costs.
    However, commodity prices bottomed last December. Six months from now, even if oil prices stay where they are now (around $71), oil will have gained 100% from its low. Ditto for copper and many other commodities. Certainly all those raw materials that China will be making cars from will cost an awful lot more.
    With emerging economies likely to remain growing, profit margins will therefore shrink dramatically – possibly in the fourth quarter of this year and certainly in the first quarter of 2010. That will drive corporate profits down, and cause share prices to tumble.
    In fact, all you have to do is reverse the verbs in the Bloomberg article to get a very accurate and but much more bearish summary of what will most likely take place.
    That said, we see no reason to give up on stocks altogether. It just means you must invest in line with reality...
    Aug 03 5:23 PM | Link | Comment!
  • Programmed Trading Has The Ball
    We’re at the mid way point of the year and the second half is likely to be every bit a thrilling as the first half. Unfortunately, we’re likely to erase much of the gains we’ve made in recent months in the second half, so we’re not necessarily talking about thrilling in a good way. Of course we intend to make the best of a bad situation with put options.
    Although they’re correcting today, stocks don’t appear to want to go down just in earnest just yet; they may hang in there for several more weeks. By August the downward trend should be more pronounced. In the meantime, we’re concerned with the lack of trading volume and the prominent role program trading is playing these days.
    In the week ending June 19, the latest for which data is available, program trading accounted to more than 40 percent of the volume on the New York Stock Exchange. Liquidity is generally a good thing, but when so much of it is coming from automated trading we can’t help but think the greater fool theory is at work. Program traders have become conditioned to expect early morning and late-day buying. What’s more, stocks have typically bounced once they’ve fallen to important support levels. That has created a Pavlovian response to buy, with traders confident that others will follow suit.
    The problem is little or no attention is being paid to fundamentals. With the economy not showing meaningful signs of improvement, eventually the piper will have to be paid. And if this currently important source of liquidity starts to dry up, stocks will likely suffer another severe setback. It’s worth noting that corporate insiders are stepping up their selling, perhaps telegraphing that all is not well.
    That’s certainly the message from our short-term market timing tools. Of course there’s no lack of instances in which the market remained irrational for extended periods. The 880 level on the S&P 500 is key support we (and everyone else) are focusing on. Perhaps even more important is the 850 mark. A move down to that level would represent a 10 percent decline from the market’s recent closing high. Declines of that magnitude are typically followed by even greater losses.
    Jun 30 1:33 PM | Link | 1 Comment
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