Weekly Update: 'What should I do?'
I was back in Texas this week, visiting accounts in San Antonio and Austin, and finishing by celebrating Valentine’s Day with clients in New Orleans. It seemed at every meeting, I spoke with an advisor who was holding cash for the expected correction. One adviser was particularly frustrated with waiting for a pullback. His wealthy client warned him “do not lose money’’ and indicated he will watch his investment returns over three months to judge the advisor. The advisor wished he’d invested on Jan. 1 and now is sitting on a lot of cash. “What should I do,” he asked. I suggested it is a loser’s game to try and time the market. He just shook his head sadly. Reminded me of the look I got from a dear friend who wanted to know how I lost weight. “Diet and exercise,” I said. His response: “Ugh.” A common complaint is that this market just “doesn’t let people in.” The S&P 500 has traded up/down more than 10 points in a single session only four days so far this year.
There is a reluctance to “chase” the tape higher, but dips continue to be viewed as opportunities. This dynamic, JP Morgan Chase says, is making it very difficult for stocks to suffer sustained material weakness. I think the market will remain in a sideways pattern as we approach March, but we are seeing warning signs. Volume remains low and sentiment is very high—Bank of America’s Bull & Bear Index puts investor bullishness above 99% of all readings since 2002. And NYSE member firm debit balances in margin accounts stood at $330 billion at the end of 2012, surpassing its highest level since Lehman and back to its level of May 2007, two months before the July 2007 peak. Gulp! And insider selling is high. Currently, there are 8.5 sellers for each buyer; the long-term average is just 3.5. Still, the current combination of fundamental and financial flows is non-consistent with a sharp correction anytime soon. Retail flow into the equity market has picked up substantially—net stock fund inflows are on track to reach $62 billion for the first two months of 2013, the highest in nine years. While some have suggested this may represent the return of the long-absent individual investor, Renaissance Macro found little historical association between flows and forward returns. Still, what association there is appears to be at bottoms, not tops.
With all my dinner meetings, I missed President Obama’s State of the Union—apparently a lot of Americans did; it was the least-watched annual address since 2000. But from what I read about it from all my sources, there was nothing to suggest a major bipartisan budget deal is likely. Talk of tax reform didn’t mention lower rates, which the Republicans want, and there was no real movement on entitlement spending. Calls to hike the minimum wage and establish a $50 billion infrastructure spending program appear unlikely to happen. As for the pending sequester and its $1.2 trillion of cuts, Senate Minority Leader Mitch McConnell said it’s “pretty clear’’ it will happen and that he has no interest in reviving the kind of “11th- hour” negotiations he participated in with Vice President Biden to avert the fiscal cliff. Even though both sides seem very far apart, there isn't as much urgency as was the case in late 2012 with the cliff. Also, no one is really talking about eliminating the sequester so much as they are changing its components. So, regardless, there likely will be a $120 billion headwind to GDP this year. The sequester’s March 1 deadline could be the catalyst for a pullback—if the markets start paying attention. Dividend stocks will pay us—and keep us involved in the pain trade, which obviously is to the upside—while we wait.
Consumers hanging in Nominal and core retail sales slowed in January, the first relatively comprehensive read on consumer spending since the 2013 tax hikes took effect. However, the core reading actually was stronger than expected and general merchandise sales—a bellwether of consumer habits that includes department stores—were particularly strong. This morning’s initial take on February consumer sentiment also surprised, rising to its highest level since November. Households entered 2013 with a debt-to-income ratio near pre-crisis levels and a debt service ratio near an all-time low, making it easier to absorb reinstatement of the temporary 2% payroll tax cut.
Manufacturing hanging in January’s 0.1% dip in industrial production mildly disappointed but the prior two months were revised up significantly, pushing the level of production 0.5% above that implied by forecasts. This month’s Empire index also surprisingly surged 18 points to 10, its first positive reading since July. There were strong increases in all core categories, including new orders, shipments, employment and forward-looking capex expectations. Deutsche Bank says the strength likely reflects recovery from Sandy as rebuilding efforts continue in the region. And RDQ Economics cautions the New York report has been a poor indicator of late for the national ISM survey and that a significantly smaller net percentage of respondents indicated they expect to raise vs. lower spending on new plant and equipment. Their concerns mirrored those expressed in the NFIB survey (below): “The most widely cited factor constraining 2013 capital investment plans was tax and regulatory considerations.”
All roads lead to jobs Initial jobless claims surprised to the downside this week, with continuing claims reaching new post-recession lows and the four-week moving average at a level consistent with a steady, albeit gradual, improvement in labor markets. Other signs, including last week’s ISM services survey and this week’s NFIB and Empire surveys, also point to improvement in a labor market that has been the slowest of the post-war era to recover from recession (more below).
Small businesses still very gloomy The NFIB’s monthly optimism index rose for a second straight month in January, led by improvement in the percentage of firms intending to boost hiring and capital spending. However, at 88.9, it’s still well below its October level of 93.1 and mired in deep recession levels, with small businesses continuing to cite taxes, government regulation and red tape as their most important problems. Moreover, of those looking to hire, 79% reported few or no qualified applicants for open positions, indicating a skills mismatch that will take time to improve.
Earnings are surprising but … Wells Fargo notes U.S. companies are beating analysts' earnings projections by the smallest margin since 2008. Of the S&P 500 companies whose earnings topped estimates so far in the reporting season, just 53% surprised by more than 1%. This is 12 percentage points below the 10-year average. And about 81% of forecasts for next quarter trailed analyst estimates.
Worries overseas While markets have been cheered by economic activity in China, which has surprised to the upside so far this year, Japan and Europe have been disappointing. Japanese GDP unexpectedly slipped the final three months of 2012, the third straight quarterly decline. Euro-area GDP also fell more than expected in the fourth quarter on widespread contraction led by Portugal and Italy. Only Estonia and Slovakia grew.
A dubious record on jobs As we begin the 62nd month since the previous economic peak and the 44th month of this recovery, GDP is about 3% higher than it was at the December 2007 peak. However, at 134.8 million, the number of employed persons is still 3.2 million below—or 97.7% of—the January 2008 peak. In modern history, there never before had been an economic cycle that took more than 48 months to exceed the previous peak in employment. Most developed countries, with the exception of Japan, Portugal, Ireland, Italy and Greece, have lower unemployment rates than the U.S. And their labor markets have likewise exceeded levels seen in January 2007. Of the 35 advanced economies, there are only four countries that had positive economic growth since 2007 but experienced a contraction in their workforce: Japan, the U.S., the Czech Republic and France.
So what do they want to cut? A Pew Research Center polls shows 3 in 4 respondents favor a balanced approach of cutting spending and raising taxes to deal with debt and deficits. However, a majority disapproved of raising the age to qualify for Social Security and Medicare benefits, only 51% approved of means-testing these programs, 55% were against cutbacks in military spending and even larger majorities disapproved of reducing federal spending on transportation and education. There is support for limiting tax deductions, but not on mortgage interest, one of the largest deductions and one that represents a massive distortion and subsidy to buyers of expensive homes.
My husband occasionally reads my weekly He pointed out a rare typo in last week’s missive, as did an adviser at a dinner in San Antonio, who told me she met her to-be husband at a Federated Investors dinner. (You should come to our meetings!) My husband, in fact, is the handsomest man in the room. I’m sorry for any inconvenience this error may have caused.