The Tail (Yield) Is Wagging The Dog (Price)

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The S&P 500 reached a new record high but it is still weighed down by depressed money center banks and energy stocks as they continue to struggle with a flattening yield curve and falling crude oil prices, respectively.

The aftermath of Brexit continues to impact bonds, too, as yields continue to plunge around the world in a seemingly worldwide limbo contest. Some long-term bonds are now in negative territory. The 50-year Swiss and 20-year Japanese government bonds each had negative yields last week. U.S. Treasury bonds also set record lows: The 30-year Treasury bond yield fell as low as 2.0943% intraday on Friday, which was extremely close to the S&P 500’s annual dividend yield of 2.06% – an extremely bullish buy signal.

Amidst all this chaos, dividend growth stocks remain an obvious oasis for investors. As we enter second-quarter sales and earnings reporting season this week, they should remain strong. Since the overall S&P 500 is forecasted to post a 4.6% earnings decline for the second quarter, I will repeat my mantra that an investor’s best defense is a strong offense of fundamentally solid stocks with dividend growth.

The investing world is turning upside down. Last Thursday, our friends at Bespoke Investment Group published a fascinating chart showing that Technology stocks – a group once noted for sporting sky-high price/earnings (P/E) ratios – now trade at a P/E ratio of 19.16, while stodgy old Utility stocks trade at a P/E of 19.85. Clearly, investors are chasing high dividends and sometimes ignoring their P/E ratios.

The reason that the “tail” (dividend yield) is wagging the dog (the stock price) is that investors around the world are realizing increasingly that interest rates may never rise again; so there is a full-bore, worldwide buying panic into high yielding shares at almost any cost, ignoring any valuation (i.e, P/E) considerations.

In addition, we are seeing negative yields in Japan and Europe and a lack of confidence in central banks anywhere, causing investors to flock back to gold and silver, which hit two-year highs last week. (Silver is up 47% so far this year.) With the British pound at a 31-year low and Italy’s banking crisis escalating, investors in Europe are turning increasingly to gold as well as any U.S. dollar-dominated investments.

Italian banks now have a shocking 18.1% delinquent loan rate. The European Commission has allowed Italy to use government guarantees of up to 150 billion euros for short-term liquidity support to banks, but that is not enough. Italian Prime Minister Matteo Renzi is determined to defy Brussels and intervene with public funds to save the Italian banking system. This intervention naturally further undermines the euro, since it creates the impression that both Brussels and the European Central Bank are losing control.

Don’t Put Too Much Credence in Monthly Jobs Reports

The market fell in early June on weak job creation and it rallied Friday on a strong jobs report, but monthly jobs reports are just not that big of a deal anymore, since declining market interest rates are messing up any plan for the Fed to raise key interest rates in the upcoming months. These job reports are also subject to massive revisions in future months.

On Friday, the Labor Department announced that 287,000 new payroll jobs were created in June, substantially higher than economists’ consensus estimate of 170,000; but the May payroll report was revised down to only 11,000 (vs. 38,000 previously reported), while the April payroll total was revised up 21,000 to 144,000 jobs (up from 123,000). Expect more revisions in August.

This monthly volatility – 11,000 in May vs. 287,000 in June – is disturbing. Even though the May payroll report was unusually low due to the 35,000 Verizon (NYSE:VZ) workers on strike, these job reports are too volatile to trust. In addition, we see the unemployment rate rising to 4.9% in June (with 287,000 new jobs), up from 4.7% in May, when only 11,000 jobs were created. The reason is that more folks entered the workforce in June. In addition, average hourly wages rose by only 0.1% (2 cents) to $25.61 per hour. Fed Chair Janet Yellen wants to see significant real wage growth, so the Fed is not expected to raise interest rates in July.

The Federal Open Market Committee (FOMC) minutes were released on Wednesday, revealing a divided Fed that debated the health of the labor market, the economic outlook, and whether or not inflation was brewing. In other words, the FOMC members did not agree on much of anything. Due to the fact that the FOMC members could not agree, they agreed that it would be “prudent to wait” for additional economic data to get a better handle on the economy. Translated from Fedspeak, the Fed is unlikely to raise rates until (1) there is consensus among FOMC members, (2) stronger economic data, and (3) market rates rise.

Disclosure: *Navellier may hold securities in one or more investment strategies offered to its clients.

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