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Signs of Margin Pressure Ahead
by Chun Wang of The Leuthold Group,
Banks’ lending standards for C&I loans (typically to large businesses) tightened quite a bit in Q1, which bodes ill for both investment and overall economic growth going forward. Private investment and industrial production data seem to have confirmed the ongoing slowdown.
Too Many Clocks: Adjusting Earnings Has Left Investors with Too Many Watches to Consult
by Scott Opsal of The Leuthold Group,
Whatever your philosophical leaning, the practice of adjusting earnings has left investors with too many watches to consult. Stocks may look expensive on one earnings number but cheap on another, and investors need to be aware of the differences in earnings metrics as they try to determine a company’s true economic earnings and valuation.
Today’s Barbelled Market Performance Has Only Occurred in 15% of the Months—and It Hasn’t Gone
by Scott Opsal of The Leuthold Group,
The relative performance of small cap stocks is an important indicator of business fundamentals and market sentiment. We’ve recently noticed that the market has been sending mixed messages about size. Intrigued by these contrary signals, our curiosity prompted a closer look at the all-important size factor.
EM Country Rotation Based On A Stock Factor Model
by Jun Zhu of The Leuthold Group,
With the rapid development of single country ETFs, capturing factor alpha at the country level may prove to be an efficient, practical alternative to individual stock selection. In this study, we look at how effectively our internally-developed EM stock selection model can guide country overweights/underweights. Back testing shows that stock-level factor alpha can indeed be captured at the country level.
A Statistical Take On The Fourth Quarter
by Doug Ramsey of The Leuthold Group,
Technicians are fond of saying that the most bullish thing a market can do is to make a new high. This simple study takes a more nuanced view, finding that the sustainability of a new high is related to its underlying technical, monetary, and economic underpinnings. On that score, this market—as overvalued as it may be—is currently “thrice-blessed,” and we expect even higher highs in the fourth quarter.
Boom/Bust Doesn't Point to Recession
by Doug Ramsey of The Leuthold Group,
The odds of recession in the next 12 months appear low based on a number of financial indicators, including the yield curve, corporate credit spreads, and of course the stock market. We generally prefer these market-based measures over government generated statistics for economic forecasting purposes. The Boom/Bust Indicator, however, combines a market-based measure (commodity prices) with a weekly government report on the employment situation.
Bonds And Aristocrats
by Doug Ramsey of The Leuthold Group,
One of this year’s many perplexing leadership trends has been the weak relative action of the once-coveted S&P 500 Dividend Aristocrats in the face of a solid bond market rally. We certainly aren’t complaining, since we’ve been highlighting the valuation risks embedded in these bond-like stocks for what seems like forever.
Goldilocks—Enjoy It While It Lasts
by Chun Wang of The Leuthold Group,
All things considered, while we recognize that uncertainties abound and inflation headwinds are gaining strength, the underlying economy still shows enough vitality, and financial conditions are still favorable enough to justify our goldilocks view. Enjoy it while it lasts!
Still In Thrall With Low Vol
by Doug Ramsey of The Leuthold Group,
While we wouldn’t go so far as to tar it with the “bubble” epithet, the ongoing investor obsession with stability strikes us as considerably more dangerous than the situation in the Technology sector. While many see market parallels with 1999, we instead see a mirror image.
Trump Inherits Poor ‘Initial Conditions’
by Doug Ramsey of The Leuthold Group,
Don’t tell The Donald, but the stock market doesn’t take him seriously. The market took JFK seriously. In April 1962, Kennedy clashed with steel companies. The S&P 500 plummeted 24% over the next two months as the confrontation continued.
Impact Of Lower Corporate Tax Rate
by Jun Zhu of The Leuthold Group,
A stock market wild card in 2017 is the potential for a significant reduction in the corporate tax rate. President Trump’s desire to lower corporate taxes, if implemented, would have multifaceted impacts on businesses. Tax expense is a direct reduction of income, and any possibility to lessen that burden is a plus for equities.
Today's Bull Versus The 1990s
by Doug Ramsey of The Leuthold Group,
The advance since March 2009 has just surpassed the bull market of 1990-1998 to become the second longest bull of all time, and it will move into the top spot if it can survive until next March 15th (the “Ides of March”). Intrigued by this market’s similarities with the 1990s, we updated a study that reinforces a point we’ve made for a while: Among the six major measures examined here, the stock market looks least overvalued on the basis of the S&P 500 5-Yr. Normalized P/E.
Policies Trump Politics
by Chun Wang of The Leuthold Group,
It’s safe to say global bonds are in an unprecedented regime with one-third of global sovereign debt in negative-yield territory and price-insensitive buyers (central banks) sucking up $180 billion in bonds every month. The supply-demand dynamics completely overwhelmed other fundamental aspects of bond investment and, with the BoE joining the easing party, there seems to be no end in sight at this point.
A Tale Of Two Exits—How Different Is This Time?
by Chun Wang of The Leuthold Group,
Despite the uncertainties surrounding all the possible paths Brexit might take, and the significant differences in the macro backdrop, we think our best guide is still the 1992 U.K. exit from the European Exchange Rate Mechanism (ERM). While the ERM exit was practically forced upon the U.K., Brexit is very much a self-inflicted wound. The initial market reaction was nonetheless similar with big drops in the pound in both cases. Overall, we think the market action of the pound is consistent with an event of this magnitude and there is probably more room on the downside.
Who’s Selling Bonds?
by Doug Ramsey of The Leuthold Group,
Yields on 10-Year U.S. Treasury bonds sunk to an all-time low of 1.37% on July 5th, yet so far there’s been a mysterious absence of contrarians willing to step up to say that “the” secular low in bond yields is at hand. Evidently, strategists and economists have learned the painful lesson of the “widow-maker” trade (shorting Japanese government bonds). While there are few public bond bears, we’ve watched with interest in recent months as “commercial hedgers” in Treasury bond futures have steadily built up a sizable short position.
“Teflon” Bonds—The Donald Trump Of Investments
by Chun Wang of The Leuthold Group,
Bonds are the Donald Trump of the investment world. Most people hate them but they keep going up. Throw anything at them, these “Teflon” bonds can shake it all off. QEs or Fed hikes, risk-on or risk-off, $100 oil or $30 oil, strong dollar or weak dollar, you name it. The multi-decade march toward ever-lower yields seems unstoppable, not even by the zero line these days, and there is little sign a change in the trend is imminent.
Apple Falls To Earth
by Phil Segner of The Leuthold Group,
It was just over a year ago that we celebrated Apple’s re-admittance to the esteemed Four Percent Club following a two-year hiatus. We speculated that given the brief membership of past Four Percenters and the law of large numbers, Apple was doomed to fall back to Earth. From the dizzying heights of a $775 billon valuation on February 23rd, 2015, the value of Apple declined by the equivalent of one General Electric or two IBMs. Poof, gone. Looking back at the performance history of past Four Percenters, we probably shouldn’t be surprised by Apple’s rapid descent.
Factors Continue To Underperform
by Greg Swenson of The Leuthold Group,
For factor investors, recent months have been repetitive and painful. In April, Momentum saw its third consecutive month with a performance spread of -5% (or wider). Low Volatility, a trade that has become extremely crowded, continued to underperform. Investors of late have been piling into the so-called “safe” corners of the market. Whether it happens in an up or down market, typically this type of crowding does not have a happy ending.
Margins: Mean-Reversion Works
by Doug Ramsey of The Leuthold Group,
We’ve said this before but it bears repeating. Operating (EBIT) margins failed to reach previous cycle highs and came under pressure only three years into the current economic recovery—evidence that the gravitational forces of capitalism remain in effect. Net margins remain above average mainly because interest expense remains low—a benefit that’s set to wear off following the last three years’ corporate borrowing binge.
The Bullish Case: A Mental Exercise
by Doug Ramsey of The Leuthold Group,
Our quantitative tools have delivered an emphatic bear warning, and we are subjectively convinced the message is correct. But it’s precisely these times when our conviction level is highest that we find it helpful to entertain the other side of the investment argument. We won’t back off our bear market call unless our model does, but we don’t want overplay our hand, either. The charts and tables herein are the ones we find the most challenging (even frightening) to our bearish stance—the ones that appear during those fitful nights when we worry, “What could go right?”
Knee Deep In An Earnings Recession
by Phil Segner of The Leuthold Group,
We entered an earnings recession at the end of June. Thanks to evaporating earnings, last-twelve-months earnings per share now stands almost 5% below its all-time high. To see 2015 lumped in with the market meltdown years of 2001, 2008, and 2009 is a bit unsettling. While we don’t think we’re on the precipice of economic calamity, the longer that profits and revenues (which have also contracted for the past three quarters) fall short of their peaks, business activity will be adversely affected.
Impact Of The First Hike - This Time Might Really Be Different
by Chun Wang of The Leuthold Group,
This rate hike might really be different as it occurs in an environment where, despite strong job growth, the business cycle has already turned contractionary, disinflation is still dominant, and various risky assets are showing late-stage characteristics. In other words, we are in unchartered territory. Expect the unexpected.
Surveying The Commodity Carnage
by Doug Ramsey of The Leuthold Group,
Commodities and commodity stocks have been a disaster in recent years, but fortunately one that our Group Selection (GS) Scores managed to avoid. Underperformance in both the Energy and Materials sectors during the last 12 months in particular (Chart 1) is so severe that any contrarian with a pulse probably can’t help but take a peek. We’ll admit the wreckage is beginning to look interesting, and—what with our cautious stance on the stock market—it would be fun to be bullish about something. But both our GS Scores and our intuition suggest it’s still too early.
The Bear Case: "Before And After"
by Doug Ramsey of The Leuthold Group,
While our gut instincts and quantitative disciplines aren’t always in agreement, that conflict doesn’t exist today. The evidence comes down decisively in the “bear market” camp. The action leading up to the S&P 500 bull market high of May 21st traced out a “textbook” top in many ways.
Inflation - It Will Get Worse
by Chun Wang of The Leuthold Group,
The dollar real effective exchange rate and the 10-year real yield are great proxies for monetary conditions. Stronger dollar and higher real yields are both indications of tighter monetary conditions. Unfortunately, this is what is happening right now. In other words, the markets are doing the tightening job for the Fed. This is why we think the Fed would be much better off postponing the rate hike.
What’s Next For The Dollar?
by Doug Ramsey of The Leuthold Group,
The U.S. Dollar Index has recovered about half the losses from a two-month, -7% setback from the 12-year peak it established in March. We expect continued dollar strength over the next year as monetary policies in the rest of the developed world remain even looser than in the United States.
Faded Photographs: Obituary Of The Bull Market
by Doug Ramsey of The Leuthold Group,
We’re always impressed with those lengthy, and unnaturally eloquent, obituaries that pop up online within minutes of the passing of an elderly celebrity or public figure. Such an exercise might be fun when applied to another subject, specifically, the cyclical bull market in stocks (b. 2009—d. 20XX). How will today’s bull market be viewed through the eventual clarity and objectivity of hindsight? We’ve pulled together several still frames…to maximize the effect, run each page through a fax machine to produce the nicely faded, black-and-white images that might accompany an obituary.
Mythbusters: Style Performance During Bear Markets
by Doug Ramsey of The Leuthold Group,
Will Rogers said, “It isn’t what we don’t know that gives us trouble, but what we know that ain’t so.” Investors have long “known” that Value stocks provide a safer place to hide than Growth stocks during a cyclical bear market, an assumption probably based on: (A) experience since the early 1970s; and (B) common sense, in that speculative investments with low price tags and low expectations should be expected to suffer less when animal spirits deflate.
The Bull Market Turns Six
by Doug Ramsey of The Leuthold Group,
We cautioned investors during the current bull market’s initial blast-off not to expect a repeat of the prior bull market’s leadership—namely, Emerging Market equities and commodity-oriented equity sectors. Excesses built up during a sustained leadership cycle (i.e., equity valuations, production capacity) require a long period to be surged, generally resulting in the former leaders “skipping” a market cycle from a relative performance perspective. That view has been on the mark…
2015 Leadership: An Early Take
by Doug Ramsey of The Leuthold Group,
Last year’s economically defensive winners held their grip on stock market leadership in January. This action is consistent with our view that the bull market is an aged, overvalued one that has begun a final “distribution” process that will eventually erupt into a cyclical bear. Like every other facet of the topping process, though, defensive leadership can persist for an extended period—to the point that it’s ignored when there’s a genuine warning to be heard.
Thoughts on Energy
by Doug Ramsey of The Leuthold Group,
We?re not certain that the historic rout in the Energy sector is over, and even if we were our Group Selection (GS) Scores would likely prohibit us from loading up on Energy subgroups for at least a few more months. Last decade we frequently discussed the ?Three Act Play? then unfolding in commodities, with the terminal act producing a 2006-2008 surge in commodity-oriented equities and a commensurate binge in capital spending. While all of the commodity sector participated, Energy certainly played either a lead or a co-starring role.
Can The Dollar Save Small Caps?
by Doug Ramsey of The Leuthold Group,
The dollar’s moonshot in recent months has resuscitated a stock market leadership argument we haven’t heard for a long time—namely, that Small Cap stocks are better insulated than Large Caps from the loss of competitiveness and the currency translation impact of a stronger buck. Is there merit to this argument, or are Small Cap proponents grasping for straws after a flat year? It turns out there’s reasonable support for the Small Cap enthusiasts’ view, based on evidence from the U.S. (trade-weighted) Dollar Index.
Commodity Bears (i.e., Everyone) Should Read This
by Doug Ramsey of The Leuthold Group,
The commodity "oversupply" story remains intact, with high levels of capital spending in the Energy and Materials sectors persisting, despite the 3 1/2-year downtrend in commodity prices. But for those wishing to buck that longer-term bearish trend, now might be an interesting time. The negative reaction appears disproportionate to the actual damage. Don't look for further substantial declines in commodity prices over the very short term, except perhaps in gold.
Small Cap leverage
by Jun Zhu of The Leuthold Group,
Small Caps' balance sheets and debt servicing capacity are not in the healthiest state to weather higher interest rates (relative to Large Caps). This could be part of the big picture of weakening Small Cap performance. Small Cap investors should place an emphasis on companies with relatively stronger balance sheets, and higher earnings power in order to accommodate an environment of rising interest rates. With the Fed mulling over a rate increase, investors may have already started to avoid companies with excess leverage. Unfortunately, Small Caps, on average, are in this camp.
Why We Think Tapering Is Tightening
by Doug Ramsey of The Leuthold Group,
While Fed watchers continue to debate the timing of the first post-2008 hike in the Federal Funds rate (first or second quarter of 2015), we believe the first move toward tighter policy occurred in January when the Fed first reduced the rate of its monthly bond purchases by $10 billion to $75 billion. Our opinion isnt based on any intricate knowledge of Fed liquidity flows, but simply on the subsequent action of two key stock market segments.
Market Internals—Breadth Weakness Troubling But Not Dire
by Doug Ramsey of The Leuthold Group,
Last month we argued "stock market participation is too broad for an imminent cyclical top to form," and we're not retreating from that statement. But interim market tops of varying degrees of importance can form with little or no warning. We've characterized stock market action alternately as uniform or in gear throughout most of 2014, but it's clear that market participation has not been nearly as "egalitarian" as it was throughout 2013. We've marveled at how well measures of market breadth were able to shrug off Small Caps' dramatic relative strength breakdown.
Small Cap Weakness Is Not A Market Death Knell
by Doug Ramsey of The Leuthold Group,
The celebration of the DJIAs new record high on April 30th was notable for its absence. Small Cap stocks, in fact, commemorated the event by falling to an 11-month relative strength low, and many technicians point to this divergence as evidence that a dangerous period of distribution is now underway. Were not so sure.
Long-Term Equity Performance Coming Up Short
With the bull?s fifth birthday upon us, it seems U.S. equity markets are back on track. While recent memory is bright, investors who bought in 10, 15, and even 20 years ago may not be as apt to break out the balloons and bubbly. The Annual Compound Return (ACR) for the past 15 years (4.53%) is in the FIRST decile of a distribution of 15-year returns since 1926. The longer-term ACRs are a reminder that even a five year bull market can?t undo the damage inflicted by a double bear market decade.
The Bull Market Turns Five
by Doug Ramsey of The Leuthold Group,
The post-2009 stock market upswing now qualifies as only the sixth cyclical bull market since 1900 to last five years or more. Life expectancies at such an advanced age are limited; only three of the previous five-year-old bulls lived to see a sixth birthday. Many media and market pundits seem to believe a rising age somehow leads to rising life expectancy. The consensus opinion that a new secular bull market has begun is much more confident today than at the bull?s first, second, third or fourth birthdays.
Secular Bull Or Bear?
by Doug Ramsey of The Leuthold Group,
At the January highs, the S&P 500 had gained almost 175% in just 58 months, while secondary stocks and equal-weighted market measures have gained considerably more. If it?s already over (and we don?t think it is), this cyclical bull will go down as a memorable one. But is this move the first leg of a new secular bull market? ? We think the next cyclical bear market will drive the market to levels low enough that debate will rage over the true date of the secular bear market low: was it 2009, or 201X?
Commodities In 2014: Supply Remains A Concern
by Doug Ramsey of The Leuthold Group,
If a reacceleration of EM demand for raw materials were imminent, one would think the MSCI BRIC Index would be the first to sniff it out. Yet that index remains among the poorest performing market composites in the world. Still, commodity demand will eventually right itself. Our worry is supply. Capital spending levels remain elevated, and are far above the levels seen just over a decade ago-on the eve of Chinas great commercial and residential construction boom. Commodity producers didnt anticipate that boom, which is precisely why it was so powerful.
The Mundane Truth Behind Margins
by Doug Ramsey of The Leuthold Group,
The margin expansion story of the last 20 years is a financial one, not an operating one. Investors routinely attribute todays near-record margins to operating efficiencies like factory automation and the outsourcing of labor to lower-wage foreign locales. This is certainly an attractive story, but the reality is that competition demands these actions, and many more, to merely maintain margins. We dont understand why economists who seem to be perfectly good capitalists in every other way think these innovations should result in a permanent jump in profitability.
Five Reasons Inflation Is Still Missing
by Chun Wang of The Leuthold Group,
Apart from a couple of market-oriented drivers that could reverse course on a short-term basis, we are not seeing convincing evidence of an imminent pick-up in inflation. Let us be clear. There is most definitely inflation in the financial markets, but that does not seem to benefit the average person in the U.S. The liquidity injected by various central banks went mostly into the financial markets first and foremost; only a small fraction of it trickled down to the average person. That is why all this money printing has not been reflected in various inflation measures.
Decomposing Today's Record Profit Margins
by Doug Ramsey of The Leuthold Group,
Again, the popular perception is that this cycles record margins stem from dramatic strides in corporate efficiency, driven in good part by the outsourcing of manufacturing/assembly operations to lower labor cost countries. But most margin expansion since the 1990s is attributable to a couple of other players -- specifically, the Bond Bulls and the Bookkeepers (we know, it sounds like a cheap romance novel).
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