Raymond Micaletti

Making Sense of the Market's Wacky Valuations

Bianco's assumption that long-term interest rates will be 2.5% seems fairly aggressive given that the 10-year yield is currently 3.4% and the 30-year yield is 4.2%. Anything that would drive long-term yields down to 2.5% level would likely take equities down as well. Perhaps he's referring to short-term interest rates (< 2 years) in the long-run?

Are Risk Assets on the Verge of Melting Up?

Perhaps the short dollar trade is (or becomes) so crowded that any small rally (for whatever reason) might force shorts to cover, which causes the dollar to rally more, and that sets off a chain reaction of additional short-covering as people run for the exits. If we find out in the months ahead that a) the global economy isn't as rosy as people perceive it to be and b) the U.S. is the best off of anyone, the dollar might find some interest.


On Sep 08 10:48 PM Paul_L wrote:

> Hi Raymond, what reasons would cause USD to reverse except a descending
> wedge and extreme bearish sentiment? Thanks.

Are Risk Assets on the Verge of Melting Up?

One thing to add about descending and ascending right triangles is that once they break down or up, they quickly morph into descending and ascending wedges, which have the opposite implications: bullish in the case of descending wedges and bearish in the case of ascending wedges. So today the dollar broke down, gold surpassed $1000, the euro broke 1.45 and crude was up 5%. Instead of follow-through, what we may see now is a snapback on account of the DXY being in a descending wedge. In any event, it's something to look out for.

How The Federal Reserve Is Monetizing Debt

Given the recent sentiment survey in the dollar that revealed only 3% of traders were bullish on the dollar (a level that has marked major lows previously), I have two questions:

1) Is there anyone left to sell the dollar?
2) If it *is* revealed that things are not as rosy as they seem, might that not set off a stampede for the relative safe haven of the dollar as the world is still pretty much dependent on the U.S. consumer to drive growth?

History Favors the Bulls

The above results coupled with recent "breadth thrust" readings do suggest the market will continue upward in the near-term (perhaps with minor corrections along the way). The one thing that would be interesting to include with the above study, however, is to see how far off the bottom stocks had to climb before the 200-day moving average began rising. A cursory look at the 2003 bottoms suggests that the 200-day turned upward when stocks where perhaps 20% off the bottom. In contrast, stocks were nearly 50% off the bottom before the 200-day turned positive this time--that *may* alter the dynamics going forward.

Is the Market Out Over Its Skis?

Given that the Obama administration has taken failure of large institutions off the table and assuming the economy does recover, Bank of America is probably worth more than $13 if one factors in the future earnings from their new Merrill and Countrywide franchises. True, current shareholders are likely to be diluted if they raise equity capital, but if the true "value" is $30 rather than $13, then dilution isn't that big of a deal, since post-dilution it could still rise significantly. I think once one takes failure of these institutions off the table, it makes sense that the ones that have been crushed the most (C, BAC, in particular) have risen the most. In contrast, JPM is trading in the vicinity of where it was prior to the crisis (and prior to the run-up in 2006), while at the same time its earnings are not likely to be at pre-crisis levels for a while. Thus, it may have a much harder time appreciating from here (while C and BAC might continue to rise).

Global Stock Market Valuations: Patience Is a Virtue

The problem here is that stocks have been persistently overvalued (relative to longer-term historical valuations) since 1994-1995. So while stocks may be attractive relative to their recent past, over a much longer time horizon, they don't look as attractive. On a sector-by-sector basis in the U.S., there are some legitimately cheap sectors, but those sectors are getting little or no love in this current rally.

CEOs Must Bring Investors Along for the Ride (WSJ)

Fair points. Imagine, then, how much vitriol Nardelli would have received if he hadn't taken measures to goose EPS while the stock was falling from 50 to 20 in the first few years of his tenure (subsequently closing at 40 as he departed)....

Moreover, is replacing retiree types with college kids a horrible decision, if a) it does goose EPS and therefore increases shareholder value now and b) it's easily reversible if it turns out to be a horrible idea? Granted, you could lose market share in the interim, but is there really that much difference between HD and LOW (i.e., would LOW have always been a distant second even if Nardelli had been super-CEO)? Maybe there is, I don't know (or care), but if the college kids had turned out to be competent, Nardelli would have been hailed as a genius (I presume). That seems like it was a risk worth taking, no?

That being said, I'm not sure his $100mm+ pay package upon departure was justified (I suspect not--understatement, perhaps?), and you make a great point about the cronyism running rampant on corporate boards.


On May 03 08:35 PM TraderMark wrote:

> Ah yes, because making decisions such as letting go of all the experienced,
> retiree types who actually knew what they were talking about - and
> replacing them with low wage college kids and early 20s set, was
> a bona fide strike of genius. Even though once they "booted" him
> they had to reserve that decision. And over that time Lowe's went
> from distant second to "first" in the mind of many.
>
> Yes he did not run it into the ground - it would be nearly impossible
> (although Circuit City by doing a very similar policy suceeded) in
> destroying a duopoly in half a decade. But he took a good swing
> at it.
>
> And you are falling into the trap of short term EPS growth - ANYONE
> can grow EPS in the near term by slashing compensation expense.
> I think the main thing he learned from Chainsaw Jack Welch is how
> to cut people to goose shorter term earnings.
>

CEOs Must Bring Investors Along for the Ride (WSJ)

One note about Bob Nardelli: He actually didn't run Home Depot into the ground. Under his watch earnings increased dramatically (going from $1.11 the quarter before he became CEO to $2.63 in the quarter when he left, a 15% CAGR). The problem was that when he became CEO, Home Depot's stock was egregiously overvalued and over time it naturally drifted down to a more reasonable valuation despite the fact that earnings were increasing. Thus, shareholders of HD, if they bought the top during the Internet bubble, should really be upset with themselves for buying an overvalued stock, not with Bob Nardelli.

Equities Are Likely Heading Lower: Resist the Temptation to Short Them

If inflation is, say, 10% and the Fed funds rate is, say, 6% (and rising), and the short rebate is Fed funds less a small spread (call it 25 bps), and the stock market rises less than inflation--assume it rises at 6% annualized, how does one beat inflation by being short the market while it is rising (even if it rises less than inflation)? One would lose 6% on the stock market short, gain 5.75% from the short rebate, so one would essentially be flat (down 25 bps), whereas inflation is 10%--so one would be down 10.25% relative to inflation, no?

I get what you're saying in the sense that the stock market would be underperforming inflation, but in that case, one would not want to be long or short equities, if one wants to keep pace with inflation. Or so it seems.

Why High Inflation Will Not Take Hold

Incidentally, when stocks are in secular bear markets, commodities are in secular bull markets. So commodities are likely to do ok, but if they do too well, that puts the brakes on the economic recovery, which hurts demand, which hurts commodities prices. Thus, we are likely to get a modest amount of inflation, but too much would just work against the economic recovery. Moreover, the government would have to withdraw that liquidity at some point, thus increasing interest rates and likely damaging a still-languishing economy, which would kill any excessive inflation on the spot.

Moreover, given the common knowledge that the Fed is printing money, why is gold just hanging out? And TIPS as well? Super high inflation is not nearly a given.


On Apr 24 06:21 AM capitalisthero.com wrote:

> Nice try but your analysis fails on 2 obvious points.
>
> 1. You cannot draw comparisons to Japan. Japan had and has a huge
> personal savings reserve. Japan didn't have to print money b/c they
> just tapped their savings; unlike the US which already has a huge
> government and private debt.
>
> 2. Using your equation M x V = P x T the only way to keep prices(seekingalpha.com/symbol/p)
> from rising when the money supply (seekingalpha.com/symbol/m)
> is rising is for the number of transactions (seekingalpha.com/symbol/t)
> to decrease. But if the number of transactions decreases than by
> definition is the economy is shrinking. If the economy is shrinking
> than the government's tax receipts are decreased which means the
> government has to print more money (increase M). So to avoid inflation
> the number of transactions will have to decrease more which means
> continued shrinking of the economy which meas the government will
> have to print more money and so on and so on.
>
> The only way to avoid inflation when you print money is to have an
> ever shrinking economy or productivity gains which can sop up the
> extra cash.
>
> Sorry guys, there's no easy fix. Divest yourself of dollars and
> buy commodities.

Why High Inflation Will Not Take Hold

What if V decreases and stays low? As it has and may remain....


On Apr 24 06:21 AM capitalisthero.com wrote:

> Nice try but your analysis fails on 2 obvious points.
>
> 1. You cannot draw comparisons to Japan. Japan had and has a huge
> personal savings reserve. Japan didn't have to print money b/c they
> just tapped their savings; unlike the US which already has a huge
> government and private debt.
>
> 2. Using your equation M x V = P x T the only way to keep prices(seekingalpha.com/symbol/p)
> from rising when the money supply (seekingalpha.com/symbol/m)
> is rising is for the number of transactions (seekingalpha.com/symbol/t)
> to decrease. But if the number of transactions decreases than by
> definition is the economy is shrinking. If the economy is shrinking
> than the government's tax receipts are decreased which means the
> government has to print more money (increase M). So to avoid inflation
> the number of transactions will have to decrease more which means
> continued shrinking of the economy which meas the government will
> have to print more money and so on and so on.
>
> The only way to avoid inflation when you print money is to have an
> ever shrinking economy or productivity gains which can sop up the
> extra cash.
>
> Sorry guys, there's no easy fix. Divest yourself of dollars and
> buy commodities.

Why High Inflation Will Not Take Hold

Thank you. In regards to your last point--and I'm thinking out loud here and making no pretense about knowing the answer--if the cost of capital increases because governments need to borrow a massive amount of money, might that not continue to harm corporate earnings (as the cost of capital for corporations will also increase, meaning their net financial expense will increase and their earnings will suffer) and at the same time induce more consumers to save because now interest rates would be higher--thus reinforcing the dynamics suggested in the article? I could be missing something for sure, but that seems to be a not too implausible outcome, no?


On Apr 24 04:56 AM morph366 wrote:

> A very good article but I agree with the point above that your perspective
> is too US-centric. The prognosis for the US consumer may well follow
> your reasoning but increasingly there are the G20 economies to consider
> and many of them do not have the structural problems to contend with.
>
>
> Another problem is that the demand for credit by governments in the
> capital markets will be so massive that the cost of capital might
> increase a lot more than current forecasts are based upon (esp in
> the US and UK) and this will have inflationary implications.

Are We at the Beginning of the Next Bull Market? Probably Not

Playing devil's advocate, what if the wealth destruction that we've witnessed and will continue to witness dwarfs the amount of money that the Fed prints and circulates? Will we still see inflation? Moreover, if the consumer is dead, as you suggest (and I agree), yes, bread and milk may go up in price due to consumer demand, but pretty much everything else should see no increase in demand, thus tempering inflation. Further, if there is demand for non-necessities (at some future time), which causes them to rise in price, then doesn't that mean that some of the printed money has found its way into consumers pockets through job-creation or other means? In short, is inflation an absolute inevitability? Or are there scenarios, such as a massive consumer retrenching that leads to a deflationary spiral that outstrips the government's will to print money? I don't know, just speculating out loud.

Q1 Earnings Estimated to at Least Surpass 2001 Levels - Citigroup

In light of the increasing number of companies that didn't provide Q1 earnings guidance due to a horrific outlook or a lack of visibility back in Q4, the number of firms that were eligible to pre-announce was likely diminished. Thus, the lower number of firms pre-announcing may be misleading.