Dead Cat Bounce > Last Chance - Weekly Blog # 952

 

 

 

Mike Lipper’s Monday Morning Musings

 

 Dead Cat Bounce > Last Chance

Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018

 

          

 

We appear to be in a normal trendless summer, with relatively low volume on hints of fall upsurges and declines. This poses a big risk for

investors with large gains in their portfolios who could be subjected to major moves from stampeding investors selling for fear of a big decline or speculative surge.

 

I am therefore suggesting that this is the time to build cash reserves so that you are in a position to take advantage of large future declines. The trick is to have a reserve large enough to shelter the portfolio from meaningful losses, but small enough to protect against being out of the game following the next rise. The next decline could be major and last for a long time, which might encourage those who have too much cash to stay out of the game. That is the real risk facing careful investors.

 

My suggestion is to treat your account as a long-term pension or endowment account with annual flows of about 10%. This would require a two-year buildup of short-term cash reserves under normal investing conditions. This suggests a target equity commitment of 70%, with a short-term reserve of 20% and an emergency reserve of 10%. The key to this strategy is avoiding a down market that reduces the equity commitment below 50%. One way to accomplished this is to begin an orderly reinvestment program in the declining market.

 

Reasons for Concern this Week

• The Consumer Confidence survey fell to 50.8% vs the expected 52.4%.
• Estimated GDP for the second quarter came in at +1.5%, below the estimate of +1.8%.
• Chinese tech stocks fell -8.6% in July. On Friday, Apple (personally owned) fell -7.4% on rising earnings.
• Barron's 10-year high grade bond yields slipped -0.03% while yields on 10-year mid-quality bonds rose +0.04%. (The bond market is more concerned about the future of the US Government and the currency than commercial credits.)
• There were 286 new highs and 189 new lows on the NYSE, versus 468 new highs and 692 new lows on the NASDAQ*. Suggesting there is presently more opportunity in industrial and financial stocks on the "Big Board" than tech-driven stocks on the NASDAQ. (*NASDAQ stock owned in managed accounts and personal portfolios)
• Warren Buffett is quoted as thinking the market is gambling, not investing. (In the past his general warnings have proven accurate.)

 

What Do You Think?

 

 

 

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Searching for Future Long-Term Picks: Gathering Assets, Reasons to Search - Weekly Blog # 948

 

 

 

Mike Lipper’s Monday Morning Musings

 

Searching for Future Long-Term Picks:

Gathering Assets, Reasons to Search

 

Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018

 

          

 

 

Inputs from This Week

1. The Consumer Confidence Index was 91.4 vs the 94.4 expected. The index was however up from last month’s 90.6.
2. The American Association of Individual Investors (AAII) sample survey projections for next six months are Bullish 31.4% vs the prior week’s 42.3%, Bearish 42.3% vs the prior week’s 36.3%.
3. Workforce participation of 61.4% is the lowest since the covid readings. (We have made working on payroll unattractive for some.)
4. In some European countries the number of air conditioners is small, and some are even being removed. (The founder of modern Singapore stated that the installation of “AC” led to the economic growth, enabling it to become the fifth richest economy in the world.)

 

Future Investment Problems

1. Americans misreading foreign data. The foreign performance of indices and positions is converted into US dollars from the local currency. As the US dollar is currently stronger than most other currencies, it makes foreign investments look more attractive. We tend to forget that most US investors temporarily rent foreign securities. When we sell in declining markets local buyers are often the only buyers and they are not generous.
2. When looking at the statics of a company, investors look at where the fiscal headquarters of the company is located, not where the product or service is sold. Consequently, many investors currently think they are investing in the UK, Taiwan, or South Korea. The Financial Times 100 largest companies, which dominate the local British stock market, makes almost none of its operating earnings are earned in the UK. It is my guess that a good many US investors think their rapidly expanding earnings are coming from South Korea and Taiwan, not by what is happening in the US.
3. Investors are often attracted to various securities indices due to a handful of the leading performing issues within the index. These companies, at least for a while, perform better than the indices. However, history tells us that it is only a matter of time before the leaders become laggards and detract from the performance of the index.
4. One recent concern of mine is that a senior American General in Europe is resigning. He is a four-star general with a very good battle record. I don’t believe it is an appropriate time to reduce our military leadership anywhere, particularly in Europe.
5. As a portfolio manager for long-term beneficiaries, I am very conscious of the variability of performance records. Looking at the recent five-year period, only six mutual fund sectors had average performance better than the S&P 500 Index Funds average. For the ten-year period, only Large-Cap Growth Funds and Domestic and Global Science and Technology Funds beat the S&P 500 Index Funds average. Considering the CEOs of many companies don’t last beyond five years, with even fewer lasting ten years, I am particularly nervous about those whose stock prices depend on “AI” products and services. (I wonder how many repeat orders there are for their present products and services.) Many of last year’s leaders are selling below last year’s performance ranks.

 

Possible Buys

The one major stock group selling below its 2000 price is Healthcare. I do not know these stocks well and tend to use specialty funds to invest in the sector. I will probably reach sell decisions without much help from the industry, but that may be a long time from now. Without a lot of knowledge, I am starting my learning efforts with Johnson & Johnson and CVS Health. I like their strategies but don’t know their tactics, managements, and their outlooks for their critical present and future drugs. Furthermore, I don’t know the outlook for government regulation. I need any help subscribers can provide.  

                                         

US Gifts to Others

Those in the US are incredibly lucky, or if you prefer God Given, considering the benefits/gifts we have received. However, it is wise to note that some of what we have given to the rest of the world is not always beneficial, as shown below:

1. A constitution that enshrines the rights of minorities.
2. An education process that attracts students from all over the world, who return to their homelands and contribute to them.
3. A military power that has critically helped defend other countries.
4. Innovation, which has produced great things for the world. 

 

Hope you had a good July 4th and life gets better.

 

 

 

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Tactical Headlines Show Strategic Clues - Weekly Blog # 908

 

 

 

Mike Lipper’s Monday Morning Musings

 

Tactical Headlines Show Strategic Clues

 

Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018

 

 

The Art of Successful Investments

The primary reason prices move is a difference of opinion, otherwise they would stay frozen at a given level. There are two causes for the move, information changes and different investment timelines. Two approaches cause changes – a shift in prices and a shift in thought process. Most daily price changes are reactions to other price changes, which causes “outer directed” flows in the trading market. The so-called “smart money” is buying. Less often, prices move due to recognition that the future will be meaningfully different than the present. Using military terms for these changes, we would refer to them as tactical and strategic, or in psychological terms outer or inner directed. As a practical matter, outer directed frequently changes direction as markets ebb and flow. In effect, they are trading.

 

In contrast to trading, inner-directed investors move when they perceive the future to be significantly different than the present, or possibly the past. They are not primarily driven by prices, but by changes recognizing a fundamental future change. I label this approach strategic investing.

 

Traders can make changes intraday or at other frequencies. Their focus is the ratio of winning versus losing. They enjoy being with the crowd.

Strategic investors on the other hand may have years or decades between actions. A strategic investor is often lonely, in that few if any see what he/she sees. The lack of a crowd, however, reduces the size of any losses. Their loss is missing another opportunity. 

 

The media and many pundits live on providing tactical information for trading, paying relatively little attention to strategic investments. The reaction to recent press commentary provides a strategic clue of the wider significance shown in parenthesis:

 

“Amazon plans to shut fresh grocery chain in United Kingdom after just four years” (Both Walmart and CVS have reached similar conclusions. In the case of Walmart, fresh groceries appear to be a critical loss leader to get customers for other products. CVS is trying to reconfigure their “drug stores” to have a smaller front, concentrating on drug and clinical services. I suspect there is an import pricing problem which will be addressed successfully somehow.)

 

“BMO is considering selling six branches” and “Citigroup to sell an interest in Banamex”. (Both Bank of Montreal and Citi recognize the old model of local branches being the center of a local community’s financial business. However, much of that exposure can be handled by phone or computer services, or an increase by non-bank entities. Banks are laboring under various restrictions where restraints are less likely to produce troublesome losses.)

 

“American biggest corporations keep talking about AI, but struggle to explain the upside” (I have yet to see a published estimate of new sales or profits generated. One clue to the problem is several AI providers taking all three CFA exams, with the best machines scoring 79.1% correct answers. Considering AI requires a previously printed available source, one wonders about the machine’s ability to think creatively in answering a question. Maybe the test creators were not as knowledgeable as they should have been. Furthermore, I know many CFAs who I would not hire to manage money for me today.)

 

“Poland restores China overland trade route.” (The article did not mention the rail link tying traffic from China through the mid-continent, including the now independent former Russian states. These states include Kazakhstan with possibly world’s largest deposit of Uranium and substantial amounts of oil. The rail link was closed to put pressure on Russia. When reopened, rail traffic can travel throughout central Europe and into Spain etc. We are in an era of expanding rail service in every continent. The recently announced merger of Norfolk & Western with Union Pacific creates the first transcontinental freight line. (The question on many investors’ minds is why Burlington Northern, owned by Berkshire Hathaway*, has not entered into merger negations with C&S to create a parallel transcontinental line. My thought is there might be potential difficulty with labor negations. On Burlington’s mile-long freight trains there are only two employees, an engineer and a conductor. There have been difficult contracts negotiations with the conductors. In addition, there have been similar problems with Berkshire’s airplane pilots in their private rental flight business. We were in London when their subway system went on strike for 5 days. In addition, New Jersey Transit is facing a rail strike. In both cases the employees received good wages for 38 hours or less of work.)

*Owned in managed and personal accounts.

 

Short-term Signals

• The University of Michigan consumer confidence sentiment survey for August dropped to 55.1% vs 58.2% the month before.
• In the latest trading week, the number of declining stocks was greater than the number rising.

 

Longer-term Worries

Readers will not be surprised to hear that I believe there is a lot of wisdom harbored within the mutual fund industry. There is a group of funds that were designed to accumulate money for retirement and to manage capital to meet needs in retirement. These portfolios were typically comprised of stocks and bonds. The stocks were meant to supply growth and the bonds some protection against periodic declines.  These funds are labeled Mixed Asset Target, with a specific year indicating the probable retirement year. Interestingly, something happened on the way to retirement. None of the fund peer groups meant to meet retirement needs prior to 2050 produced average returns above 14.25% year-to-date.  This suggests to me that we should consider a range of twenty-five to forty years for long-term investments. This means we should hold investments for a long time and only sell if conditions change and are unlikely to return.

 

 

International equities had 10 better peer groups, world sector funds and regional funds had 6 each, sector equity, global equity, and mixed assets had 5 peer groups each for a total of 37 peer funds groups out of over 100 tracked. Turning to local stock indices, there were 67 countries better than the US for the same period.

 

It may not be too late to add international exposure to your holdings. This would exclude funds investing in US registered stocks, as you would still be exposed to US dollar purchasing power risk.

 

As of Thursday’s close, there were 18 mutual fund peer groups in the US Diversified Equity Funds Super group. The best performer on a year-to-date basis was Equity Leveraged Funds +29.25%, with twice the gain of the second-place leader Mid-Cap Growth Funds +14.25%. Since borrowed money (margin) is not used by most mutual funds, I am excluding equity leverage funds for the following analysis. Treating 14.25% as a good performer, I wanted to see which super group categories were better.

 

Dollar Risk

One reason people feel poorer today than a year ago, even though their stocks and homes are hopefully valued more than a year ago. You must go to the shopping center to understand the real economics. Almost all clothes, if their quality is maintained, sell at higher prices. Fancy cars, if they are sold at your mall, will also be higher. When you go to the grocery store or fresh food counter, meat and fish of the same quality are higher.

 

If you dig into the financial statements of many providers who raise money from overseas, their costs have risen since a year ago.

 

You may feel poorer now, but you will feel worse in the future. What caused this to happen? Who did this to you? Well, we all did it to ourselves. We collectively wanted too much from our government. They met our needs, but since we did not want to pay full price for what was provided, the politicians of both parties borrowed in our name, creating ever larger deficits financed with higher interest rates.

 

For the next ten years I expect to double the money I pay to the government for income taxes, sales taxes, use charges, tariffs, and probably transportation costs.

 

What are your thoughts?

 

 

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After Relief Rally, 3rd Strike or Out? - Weekly Blog # 889

 

 

 

Mike Lipper’s Monday Morning Musings

 

After Relief Rally, 3^rd Strike or Out?

 

Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018

 

Preparing for Rough Seas Ahead

We had a “Relief Rally” up to the close of the US stock market on Friday. Although most stocks rose, there was a change in leadership. Many of the best performers were the kind of stocks an institutional equity player adds to a portfolio to soften declining performance in a down-market phase. The leaders did not have the characteristics of stocks leading a brand-new Bull market. Everything changed late Friday, with Moody’s* announcing the lowering of its credit rating on US Treasuries from AAA to AA1.

* Moody’s stock is held in client and personal accounts.

 

Not a total Surprise

In a May 8-13 Reuters survey, 54% of bond strategists were concerned about the “safe haven” status of US Treasuries, a critical benchmark for pricing global capital markets. In April the same survey had 47% concerned. This was not the first group of worriers.

 

Consumer confidence in May fell to the second lowest reading on record. Regarding Moody’s US Treasuries downgrade, S&P downgraded the US Treasury credit rating in 2011, as did Fitch in 2023. Thus, the move by Moody’s is the third downgrade or strike. The next critical question is the nature and length of the expected decline.

 

Moody’s Answer

According to Moody’s statement, US credit “retains exceptional credit strengths such as size, resilience and dynamism of its economy and role of US dollar as global reserve currency.” Not surprisingly, the US government’s view is that Moody’s is looking backwards.

 

Expecting this retort, Moody’s focused on expectations for the future. They expect the Federal Deficit to reach 9% of the US economy in 2035, up from 6.4% in 2025. Furthermore, they expect government revenues to remain broadly flat, adjusted globally from negative. (To me this sounds like stagflation, with both tax rates and inflation rising.)

 

My Call

Odds are, we’ve struck out and ended the inning, but not the game. The absence of a structural recession/depression may keep an expansion in the low to middle gains. Portfolios with over 10% in longer than 10-year Treasuries should cut them in half.

 

How do you call it?

 

 

 

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Stress Unfelt by the “Bulls”, Yet !! - Weekly Blog # 859

 

 

 

Mike Lipper’s Monday Morning Musings

 

Stress Unfelt by the “Bulls”, Yet !!

 

Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018

 

 

 

One measure of future dangers is the length of time identified stress points are ignored. Often, the longer the period of being unaware of increased risk levels, the greater the damage. The reason for this is that more assets are committed, so more damage is sustained. Somewhat like a pain in the mouth or heart.

 

The following stress points are in plain sight and should be diagnosed, even though some may not lead to sustained account damage or damage to clients’ capital. However, the real damage of a meaningful decline is often the lack of confidence to take advantage of the recovery. The following concerns are not in any particular order.

• Pet owners are trading down.
• PPG is selling their original business.
• As mentioned in the FT, “Corporate debts as credit funds allow borrowers to defer payments using higher cost payments in kind “PIK”.
• McKinsey is cutting their workforce in China.
• There is an assumption that the first Fed rate cut is the beginning of a rate cycle of lower rates.
• After all the government spending (election-focused bribes), the civilian labor force is only up 0.48% year over year, while government payroll is up +2.26%.
• Barron’s 10 high-grade bond yields declined -27 basis points compared to a gain of +8 points for medium-grade bonds. (Wider spread for added risk?)
• Consumer confidence fell 5.37 % last month.
• The percentage of losing stocks compared to all NYSE stocks was 1.7% vs 5.1% for NASDAQ stocks.
• Jason Zweig in the WSJ quoting Ben Graham “Investing isn’t about mastering the market it is about mastering yourself.” I agree and I pay a lot of attention to what Jason and Ben say. (I was given the Ben Graham award as President of the New York Society of Securities Analysts (NYSSA)).
• P&G noted that their customers in the US and China were switching to cheaper brands.
• In the 3rd quarter, American Express* had revenue gains of +8% and earnings gains of +2%. (A classic example of the cost to produce a revenue dollar becoming more expensive. (*A small position is owned personally.)
• Volkswagen is closing German factories for the first time since 1938.
• In Europe, some are starting to watch for disinflation. (Disinflation is much rarer than inflation and is much worse, as people reduce or stop spending.) 

 

Most current global political leaders are ignorant of micro-economics and thus can’t grasp macro-economics. They are not wholly responsible for this condition because their teachers didn’t understand them either. We will all pay the price for this ignorance.

 

 

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Preparing for a Recession - Weekly Blog # 843

 

         

 

Mike Lipper’s Monday Morning Musings

 

Preparing for a Recession

 

Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018

 

             

 

Learning from Wartime

When US Marines embark on a troop ship, they are instructed to wear less than comfortable life jackets. This sense of preparedness was one of the things I learned as a Combat Cargo Officer training fellow Marines for potential conflict. This preparation for the probability of danger to our economy, including client and personal investment portfolios, is what I hope to highlight in this blog.

 

Recessions are inevitable because humans prefer optimism to pessimism, expanding debt to leverage the oncoming good times. Politicians have learned that it is not a good vote-generating strategy to disappoint voters with actions. This has been the strategy for a large number of US Administrations from both parties, where they increase private and public debt without building up reserves. Consequently, history suggests we have not repealed recessions, we just don’t know when they will occur. Furthermore, we don’t know if the oncoming recession will be cyclical and largely a correction in prices, or a more painful structural recession with significant businesses collapses requiring lifestyle changes.

 

Don’t Abandon Ship by Massive Selling, But Get Your Lifejacket Ready

As a midshipman in training on the Battleship New Jersey, I was assigned to serve watch as the sole crew member in the crow’s nest, the very highest point on the ship. I was to report anything I saw as dangerous by phone. At one point I saw some round metal objects that looked like tin cans through my binoculars and excitedly reported it to the deck officer. This caused some commotion. Luckily, the old Salt of the deck officer recognized me as a landlubber and didn’t put the ship in an emergency condition. He understood that it probably was a tin can and not an unidentified destroyer known to Ship sailors as tin cans. In viewing what may be ahead for markets and economies, I will remember my midshipman experience and be careful with my language.

 

This is What I See for You to Evaluate

• The Conference Board reported that the University of Michigan survey showed a large drop in its measure of Consumer Confidence. It came close to the low of 2020.
• Perhaps as a preparatory move, 100,000 tech workers have been laid off year-to-date. (I don’t know how many are still unemployed.)
• New capital goods orders (non-defense except aircraft), were expected to gain +0.1% but actually declined -0.6%.
• A number of large public companies are cutting employment by selling products or divisions. The interesting thing is the breadth of companies taking these steps: AIG, Morningstar, Interpublic.
• Several mutual funds that performed well in the first quarter have cut back holdings weighted over 5%. Some of the stocks cut back were Berkshire Hathaway, TSMC, and AIG. (All held in personal accounts.)
• In the latest week, 55% of the stocks on the NYSE rose vs only 49% on NASDAQ. Remember, the NASDAQ is considered more speculative than the “Big Board”. Only 38% rose in the latest Saturday WSJ list of weekly prices for market indices, currencies, commodities, and ETFs.
• Two well-established mutual fund management companies with long-term orientations are expecting dramatic changes. Capital Group expects to see a meaningful rise in price volatility. (If this happens, there will likely be a rise in direct trading between major institutions.)  The other group is Marathon, who is concerned about the expected growth prospects of all aspects of “AI”. There is not enough planned construction for all elements of AI and what is required for the rest of the economy/society. There is a need for innovation and increased efficiency.
• Year-to-date through June 27th, there were four investment sectors that produced average returns exceeding the +15.51% earned by the average S&P 500 Index fund. (You may be able to get the one day that is missing, which didn’t have much impact.)

 

Investment Peer Groups Performing Better than S&P 500

Large-Cap Growth    +20.42%

Science & Tech      +17.91%

Energy MLP          +17.69%

Equity Leverage     +16.29%

 

There were 1222 funds in these four groups.

 

Question: How are you going to recognize the next recession?

 

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Lessons from Last Week: Look to Europe and Go EAST

To lose money realized or unrealized is painful. To lose without learning useful lessons is tragic. Frank Holmes of US Global Investors quotes Baron Rothschild, writing, “The time to buy is when there’s blood in the streets, even if the blood is your own.”

My analysis of what happened last week was not a reaction to the appropriate, if not overdue, Standard & Poor’s downgrading of some US Treasury debt. (The focus of the downgrade was the political unwillingness to stop the growth of the federal government’s deficit, not an inability to pay.) What caused the decline, in my view, was the increasing recognition of the seriousness of the European fiscal, political, and therefore economic problems, and how they may and probably will, impact credit conditions globally.

The fear transmission line

One of the louder voices of concern was Mohamed El-Erian, the co-chief investment officer of PIMCO, probably the largest professional bond manager in the world, who wrote, “Any further mis-steps from American and European policymakers risk converting raging crises within the global economy to a more devastating crisis of the global system. That is how fragile the situation is, and why the world risks not just a recession but -- even more worrisome -- a prolonged one.” His fears are being heard by the American people. In a recent Marist Poll, 68% believe that the worst of the country’s economic conditions are yet to come. What was surprising, 57% of the Democrats agreed. Another poll (Thomson Reuters/University of Michigan) measuring consumer sentiment, reported a sharp drop from the month before to a level that had not been seen since May of 1980 (no misprint). Jeremy Grantham stated in a recent interview that Americans respond to a market signal better than almost anyone.

The historical perspective

Governments of all types have believed that they can only maintain power if their people are well fed. The best example of this management technique was the ancient Romans. Rome's government had to produce “bread and circuses.” To support these basic needs, wars were initiated to bring back marketable tribute, including slaves of both sexes. When the wars became defensive in nature, the costs of these adventures, particularly the military costs of defending borders, grew to a point that the tax burden was crippling the economic growth, which subsequently weakened defense spending and promoted corruption. Substitute the welfare or “nanny state” for “bread and circuses,” with the size of the deficit absorbing all of the gross national product, and you have a good description of Mediterranean Europe, and a fear for the US and the UK.

The role of the banks

In most civilizations, the governments control the banks or the banks control the government. In modern society, banks extend credit often to governments directly or to government favored activities, e.g., mortgages, car loans, commercial loans to faltering employers, etc. In the cases of those countries with well-known problems, the banks are full of domestic loans as well as other allied sovereign debts. The US market reacted to fears that the French banks were following in almost lock-step fashion behind the Irish and Spanish banks, with the Italians not far behind. These concerns on the part of both US investors as well as those beyond, has propped up the prices of US Treasuries regardless of the downgrade, which was not a surprise to anyone who reads financial reports. In just the last week, investors put $50 billion into money market funds, reversing the $49 billion outflow the week before.

What are the lessons for me?

When I look across the Atlantic to Europe, I see an aging population of workers not being replaced by younger people who want to work. In addition, there is an incredibly weak military structure and a population that does not want to declare income to pay taxes. On the other hand, as the surviving economists who have escaped from Lord Keynes’ grip will point out, across the Pacific (with the exception of aging Japan), the populations are younger, eager to work, and possess a healthy combination of savings and higher quality consumption. To me, last week crystallized the need for our clients’ accounts to increase exposure to Asia. We already had significant exposure through exporters in Germany, Chile, Brazil, Mexico, Canada and a number of US companies in our funds’ portfolios. These investments are not riskless due to economic and political cycles, but the secular investment trend is up.

What did you learn last week?


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