Weekly Update: Hope
This is a holiday shortened workweek. That’s only one good reason to smile. Many students are enjoying their spring break from grade school or high school. It is the week where Christians celebrate Easter and Jews celebrate Passover. Both are hopeful for the future. This week I took some time off to travel with my husband and daughter as she chooses where to attend college. We saw two fabulous universities in North Carolina and Virginia, and finished by visiting my alma mater, the University of Pennsylvania, where I spied Jeremy Siegel (a highlight of the trip for me), teaching class and no doubt explaining the wisdom of dividend investing to the bright young minds. I love to visit university campuses. Meeting the often brilliant people who will help to shape the future of our country is refreshing ... and truly hopeful. The holidays and school breaks held down trading activity, but even before this week, volumes have been light, denoting a lack of conviction. The big theme of late has been the rotation out of cyclical/eco-sensitive stocks and into “safety” (utilities, staples, etc). This is odd because cyclical leadership is a hallmark of bull markets, as those areas that are most highly levered to an improving economy lead the advance. As a result, the relatively steady S&P 500 performance belies more volatility beneath the surface.
The broader sentiment remains cautious. ISI says the market seems to be arguing for a short-term correction of as much as 50 points, which would get us to a very interesting valuation range (around 14 times projected 2013 earnings-per-share of $108). All things equal, this would argue for aggressive buying then. March also will be the fifth consecutive up month, putting the S&P’s monthly relative strength index, a technical gauge of overbought and oversold conditions, more than 20% above its 50-month moving average, similar to where it was in late 2007 (gulp). Should we get a correction, Miller Tabak sees a potential downside to the 1,475 area, 5.5% below current levels. It could be that “Sell in May’’ is continuing to be attempted early. Then again, a string of daily record highs in the Dow such as we have recently seen historically has tended to be positive for the intermediate-term trend, while a series of consecutive all-time highs in the S&P does not bode as well for the market. Through Wednesday, the S&P had yet to close at a new high though, at this writing, it was on track to clear the hurdle this week (markets are closed Good Friday). A strengthening dollar also historically has been associated with equity outperformance. Moreover, the average S&P peak for 2010, ’11 and ’12 was April 29, which suggests the rally continues one more month.
In Cyprus, banks reopened after nearly two weeks to relative calm despite a significant haircut for large depositors, junior and even senior bondholders. The Institutional Strategist notes Ireland, then Greece, then Spain and now Cyprus had the same basic problem—too-big, overleveraged banks that created bubble economies built on credit targeting specific sectors such as real estate. Governments provided high incomes via high taxes and borrowing, which were unsustainable and now the adjustment process is beginning. Governments attempting to keep those systems afloat are going after every last euro of untaxed income or hidden income, which will keep the pressure on other countries which claim not to be like Cyprus. This wasn’t just about Russian money hidden in Cyprus. Every tax haven is going to be squeezed, so this was not the last banking crisis we are going to see out of Europe. That is also why the king of Europe is Mr. Draghi because as long as he backstops this process, the next monetary move in Europe is more easing. The overwhelming desire to keep the eurozone together continues to prevail, but it is becoming increasingly politically unsustainable for core countries to be seen as lenient towards weak countries, which suggests the terms of each successive bailout will have to be tougher than the previous ones. For now, the can has been kicked, a crisis averted. In this season of hope, hope—however temporary—prevailed.
Home prices accelerating February new-home and pending sales slipped, but the year-over-year increases remained solid. Last month’s drop-off was mainly attributed to historically tight inventories—a lack of supply that, coupled with rising demand, is acting to boost prices. The Case-Shiller gauge jumped the most in nearly seven years in January. This suggests housing may be entering a virtuous up cycle, with the pickup in home values lightening household debt burdens (Freddie Mac says the percentage of seriously delinquent mortgages has fallen to 3.15% after peaking at 4.20% in 2010), which in turn is boosting demand, which in turn is further boosting prices.
Capex orders on the rise Durable goods orders jumped an above-consensus 5.7% in February, and January’s decline was upwardly revised. Transportation orders were the major driver, but core capital goods orders—nondefense ex-aircraft—have risen at a 31.4% annual rate in this quarter’s first two months, up from 20.4% rate in 2012’s fourth quarter. This indicates businesses are growing more confident about the outlook.
Student loan woes overstated ISI notes the oft-cited figures regarding average student-loan debt levels ($24,000+) are erroneous because they are disproportionately impacted by the very small minority of borrowers who have very high debt levels (less than 5% of all borrowers). Median student loan debt is less than $14,000.
Sequester weighs on consumers The Conference Board’s confidence gauge plunged more than eight points to 59.7 in March (vs. the consensus 67.5), mirroring the large drop-off in the University of Michigan’s preliminary sentiment reading for the month. Expectations about the future fell sharply and much more than the decline in consumers’ feelings about the present situation, a finding survey administrators attributed to the sequester, noting similarity with concerns in late 2012 about the fiscal cliff. The three-month moving average of consumer confidence, which smoothes out some of the recent volatility, also fell to its lowest level since January 2012.
Regionals suggest a slowing The Chicago purchasing managers’ index fell by more than forecast in March on a slowdown in new orders and production. The Richmond Fed manufacturing index also fell more than expected as shipments, new orders and capacity utilization declined. However, both the Chicago and Richmond gauges remained in expansion territory. The regional surveys suggest overall economic growth of around 2% in this year’s first half.
GDP upward revision less than expected 2012’s fourth-quarter growth was bumped up from 0.1% to 0.4%, slightly below the consensus forecast for a 0.5% rise. Notably, consumer spending was revised down from 2.1% to 1.8%, due mainly to a downward revision to services consumption, partially offsetting an upward revision to business fixed investment (in particular nonresidential structures).
Unintended (but not unexpected) consequences The Society of Actuaries released a study which found health premium costs for individuals will jump 31.5% next year. Health and Human Services Secretary Sebelius conceded there will be cost increases, but says a big part of it is due to the fact the Affordable Care Act will require more comprehensive coverage. So while consumers will pay more, they will be getting comprehensive rather than bare bones coverage. The big unknown is the extent to which a poor risk pool will drive premiums higher. The study by the actuaries concludes that a riskier pool of consumers will play a big role in the higher premiums.
How low interest rates are helping … Thanks to historically low interest rates, households last year continued to improve their financial position. The financial obligations ratio dropped for the 15th consecutive quarter in 2012’s fourth quarter to its lowest level since the third quarter of 1981.
… and hurting The median level of debt among households led by someone 65 and older more than doubled between 2000 and 2011 to $26,000, according to the U.S. Census Bureau. Major forces were plummeting home values, which took a bite out of seniors’ nest eggs, and the Federal Reserve’s low-rate strategy for spurring the economy, which slashed returns on savings and safe investments such as U.S. Treasury bonds.