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Nolte Notes for the week of January 9th 2012

|Includes: AMGN, KO, PepsiCo Inc. (PEP)

What is in the past won’t hurt you…or so the financial markets believe. European debt problems are but a glimmer in the rearview mirror and the market began the year looking on the bright side of life. The US economic data continues to demonstrate some modest strength, as the employment report looked good all the way around. Manufacturing reports showed better than expected data as well as vehicle sales, indicating the consumer has opened their purse a bit and begun spending. While spending is not at rip roaring pace, the purse strings have been loosened a bit, however sustainability is the larger question. One monthly report that is distressing is the federal tax deposits, made via payroll deductions. After contracting at a 10%+ year over year rate late in 2009, they gained strength through early 2011 and again turned lower. At the end of 2011, these payments are slightly lower than a year ago. If employment is indeed getting better, than why are collections declining? Since the tax “holiday” has been in force for over a year, that impact should be negated. This series last began weakening late in 2006, well ahead of the economic decline. The current slowing is a year old and bears watching as the year unfolds. More meetings are set in Europe for more discussions and could impact stocks again this week.

As outlined in last week’s missive, expectations for equity weakness early in the year should give way to a nice second half rally that once again puts stocks near the beginning of the year levels. So far, the punch higher on the first trading day of the year masked the blasé trading the remainder of the week. One Wall Street mantra dictates that: so goes the first week, goes the month and the year. If that is to hold this year, we may have seen all the excitement for the year! It will be more instructive to see how stocks trade as earnings season begins in a few weeks. Also, the economic data, while good, needs to continue to build toward more normal levels. Cited in many places is the “bearishness” of investors and cash on the sidelines that should push stocks higher in the months ahead. While I don’t have reliable data on “sideline” cash, sentiment readings from individual investors (AAII) and institutional sentiment readings show the most bullish since early 2011, around the time/levels of the market peak. While stocks and euphoria can continue further, don’t be fooled by negative “attitudes”, they are well above apathetic levels and bordering on ebullient. Could be hard for sustained rallies to persevere in this environment.

Bond investors keep on keeping on as the bond market indicators point to still lower yields ahead. The model uses a plurality of the evidence from bonds, utilities and commodities. Commodity prices have been in sharp retreat since summer, when commodity prices were up over 40% on a year over year basis, are now down 10% vs. year ago levels and nearly 14% from summer. Meanwhile, corporate bonds and utilities remain positive; although the yearlong rally in utilities may be nearing an end and so too could end the bullish configuration for bond prices. Historically, first portions of the year have been poor for bonds until May, when bonds have historically performed better. We’ll see if this year tracks the historical tendencies. As with stock prices, Europe will hold the key.

It has been awhile since looking at the various industry sub-groups beneath the broad sectors of the markets. For instance, driving the strength in the consumer staples have been tobacco and some of the non-durable (think P&G and Church & Dwight) while the soft drink portion (thanks to weakness in Pepsi: PEP vs. Coke: KO) has been more about one stock than the group as a whole. Checking out the rankings of the sub-groups by their performance over a variety of periods in the past year shows rather eclectic top groups: from pipeline companies to railroads, from tobacco to industrial suppliers. On the strength of Amgen (NASDAQ:AMGN) the biotech group leads all sub-groups. AMGN is essentially unchanged for the past five years, while earnings are up by 50% over that period. Now selling for roughly 12x 2011 earnings, valuations are among the lowest in the history of the company. Granted earnings are not growing as fast as they were in the 1990’s, however even an average multiple on 2012 earnings could push the stock toward $75 from a current price of $65. After trailing the market for the past three years, the stock could have a 6-12 month period of superior performance vs. the index similar to the last time in 2008.

The stocks markets have been performing begrudgingly better after the opening hours of 2012. Many of the popular “plays” of utilities, consumer and healthcare may begin giving way to technology, energy and even financial stocks. However, Europe continues to hold the key to long-term performance. Bond investors may experience a rough few months as yields back up on the heels of better economic data. This too may be short-circuited by European news.

The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable, but are opinions and do not constitute a guarantee of present or future financial market conditions.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.