FBIAS™ for the week ending 12/11/2015
The very big picture:
In the “decades” timeframe, the question of whether we are in a continuing Secular Bear Market that began in 2000 or in a new Secular Bull Market has been the subject of hot debate among economists and market watchers since 2013, when the Dow and S&P 500 exceeded their 2000 and 2007 highs. The Bear proponents point out that the long-term PE ratio (called “CAPE”, for Cyclically-Adjusted Price to Earnings ratio), which has done a historically great job of marking tops and bottoms of Secular Bulls and Secular Bears, did not get down to the single-digit range that has marked the end of Bear Markets for a hundred years, but the Bull proponents say that significantly higher new highs are de-facto evidence of a Secular Bull, regardless of the CAPE. Further confusing the question, the CAPE now has risen to levels that have marked the end of Bull Markets except for times of full-blown market manias. See graph below for the 100-year view of Secular Bulls and Bears.
Even if we are in a new Secular Bull Market, market history says future returns are likely to be modest at best. The CAPE is at 25.4, down from the prior week’s 26.4, and approximately at the level reached at the pre-crash high in October, 2007. In fact, since 1881, the average annual returns for all ten year periods that began with a CAPE around this level have been just 3%/yr (see graph below).
This further means that above-average returns will be much more likely to come from the active management of portfolios than from passive buy-and-hold. Although a mania could come along and cause the CAPE to shoot upward from current levels (such as happened in the late 1920’s and the late 1990’s), in the absence of such a mania, buy-and-hold investors will likely have a long wait until the arrival of returns more typical of a rip-snorting Secular Bull Market.
In the big picture:
The “big picture” is the months-to-years timeframe – the timeframe in which Cyclical Bulls and Bears operate. The US Bull-Bear Indicator (see graph below) is at 59.89, down from the prior week’s 62.71, and continues in Cyclical Bull territory.
In the intermediate picture:
The intermediate (weeks to months) indicator (see graph below) turned negative on Friday, December 11. The indicator ended the week at 27, down sharply from the prior week’s 32. Separately, the quarter-by-quarter indicator – based on domestic and international stock trend status at the start of each quarter – gave a negative indication on the first day of October for the prospects for the fourth quarter of 2015.
In the Secular (years to decades) timeframe (Figs. 1 & 2 above), whether we are in a new Secular Bull or still in the Secular Bear, the long-term valuation of the market is simply too high to sustain rip-roaring multi-year returns. In the Cyclical (months to years) timeframe (Fig. 3 above), the US is the only major market still firmly in Bull territory. In the Intermediate (weeks to months) timeframe (Fig. 4 above), US equity markets are rated as Negative. The quarter-by-quarter indicator gave a negative signal for the 4th quarter: neither US equities nor ex-US equities were in an uptrend at the start of Q4 2015, sufficient to signal a higher likelihood of a down quarter than an up quarter.
In the markets:
Concerns over further declines in the price of oil and other commodities led to widespread weakness in the market, and every major US index finished down substantially for the week. In the typical pattern as of late, the SmallCap and MidCap indexes took a heavier hit than their LargeCap counterparts. For the week, the Dow Jones Industrial Average declined over 580 points, closing at 17265, a fall of -3.26%. The Dow Transports plunged over 5.4%. The tech-heavy Nasdaq Composite Index lost the psychologically-significant 5000-level, declining over -4% to 4933. The LargeCap S&P 500 retreated -3.7%, the MidCap S&P 400 gave up -4.1% and the SmallCap Russell 2000 plunged over 5%. Canada’s TSX pulled back more than -4.25%, as the heavy weighting of energy stocks took its toll.
Weakness hit European and Asian major markets as well. The United Kingdom’s FTSE index declined over -4.5%. Germany’s DAX ended down -3.8% and France’s CAC 40 lost -3.5%. In Asia, Hong Kong’s Hang Seng declined -3.4% and China’s Shanghai Stock exchange declined -2.5% (and LargeCap Chinese stocks lost more than -7.5%). Japan lost -1.4%.
In commodities, West Texas Intermediate crude oil cratered over -11.9% to $35.36 a barrel, a price not seen since 2009. Precious metals were also weak as Silver lost -4.5% to $13.89 an ounce and gold declined $12.10 to $1073.70.
In US economic news, initial unemployment claims hit a five month high, rising by 13,000 to 282,000. It’s the highest reading since mid-summer and points to potential softness in the labor market if it continues. Overall, jobless claims using the more-meaningful multi-week average remained below the 300,000 level, which has been associated with a healthy job market.
Job openings declined 2.7% to 5.4 million in October according to the Labor Department’s Job Openings and Labor Turnover Study (JOLTS) report. The hiring rate held steady at 3.6%, and 5.1 million people were newly hired. The rate of people quitting their jobs held near a historically low reading of just 1.9%. Counterintuitively, higher rates of “quits” are a good thing, as it indicates that the quitters are confident of finding new employment promptly.
US import prices continued to fall last month according to the Labor Department, as plunging oil and weak overseas economies suppressed inflation. Import prices declined -0.4%, less than expectations but still the fifth straight monthly decline. Imported petroleum fell -2.5% versus the previous month and is down a huge -44.5% versus a year earlier. Import prices excluding petroleum fell -3.4% versus a year ago, the biggest decline in six years. The weak petroleum prices are attributed in large part to a perceived “war” that Saudi Arabia has launched on US oil and gas producers, seemingly determined to underprice them out of business.
The Association of American Railroads reported that US weekly rail traffic declined -6.6% last week from the year ago period. Total carloads were down -12.9%, while containers and trailers were up +0.8%. The rail traffic report has been called Warren Buffett’s “favorite economic indicator”.
Consumer spending remained flat as Gallup reported that the average self-reported daily US consumer spending was $92 in November, the same as October. November spending was slightly below last year’s $95, but it remains among one of the highest readings since 2008.
The Commerce Department reported that retail sales picked up in November, however, the small +0.2% gain missed expectations of a +0.3% rise. Ex-autos, sales advanced +0.4%, beating forecasts. Holiday shopping got off to a relatively healthy start as sales at electronics and appliance stores rose +0.6%. Research firm Global Insight is projecting a +3.4% rise in holiday retail sales, a solid reading but behind last year’s +4.1% increase.
Inventories at US wholesale businesses fell -0.1% in October after a slight increase in September, according to the Commerce Department. With sales remaining flat the inventory-to-sales ratio of 1.31 remains at a post-recession high for a third straight month. The elevated level of inventories is one key reason that economists feel GDP growth will come in at a modest 2% or lower in the 4th quarter.
Credit card data for October slowed more than expected as Americans reined in credit card spending heading into the holiday shopping season. The Federal Reserve reported that October consumer credit rose by +$16 billion, less than the +$20 billion analysts had expected. Revolving credit, which is mostly credit card debt, increased +$179 million in October and was the weakest reading since February’s negative reading. The reading suggests that consumers were frugal with their discretionary spending just before the holiday season. Adding to this conclusion is the Commerce Department’s income and spending report, which showed that consumer spending rose only +0.1% in September and October.
In Canada, housing starts rose in November as the number of new homes under construction rose 211,916. Consensus estimates were for 198,000 new units. Strength was concentrated in condominium building in Ontario and regions of Alberta, Saskatchewan, and Manitoba.
In the United Kingdom, interest rates were left unchanged by the Bank of England as the bank’s Monetary Policy Committee voted 8-1 to keep rates at 0.5%. The bank predicts that inflation will stay below 1% until the second half of next year. Also in the United Kingdom, the trade deficit widened more than expected in October to $17.9 billion from $13.3 billion the previous month. Imports rose 7% in the month powered by automobiles and other manufactured goods. Excluding oil, it’s Britain’s biggest trade deficit since 1998.
In the Eurozone, 3rd quarter GDP growth was +0.3% over the previous quarter and up +1.6% year over year. Private consumption grew +0.4% after a +0.3% increase in the 2nd quarter. Inventories increased +0.2% and government consumption increased +0.6%. Exports, however, suffered from a slowdown in global trade.
In Germany, industrial production rose +0.2% in October, the first increase since mid-summer but well below expectations of +0.7%. Annualized, growth was up +0.1%. Weakness in energy output and consumer goods weighed against a good +2.7% gain in capital goods.
Finally, a continuous argument on Wall Street is whether the market’s current valuation is too high, too low, or just right. Some analysts say that current Price/Earnings (PE) ratios are artificially high because of a handful of high-flyers with astronomical PEs (Amazon and Netflix, for example) – and therefore, the market is reasonably priced or better. In order to remove the outsize effects of those highflyers, the respected research firm Ned Davis Research (NDR) published a study using the “Median” valuation instead of the usual “Average” valuation. A median number, as you recall from your freshman statistics class, has an equal number of greater and lesser values on either side of it, and thus eliminates the outsize effects of those highflyers. What NDR discovered was that, using median valuation measures based on trailing-12-month data, the current valuation of the market is higher than the 2 previous bull market peaks. They noted that this is true on both a Price/Earnings basis and a Price/Sales basis.
Currently, on a median basis the NYSE has a P/E ratio of 25.6 based on trailing 12 month earnings. At the bull market peak in October 2007 this same ratio was less than 20—and at the top of the internet bubble the ratio was even lower. In fact, according to NDR’s report, the current median P/E ratio for the NYSE is the highest it’s been in a bull market environment since their data began in 1980. NDR concluded with a nicely understated observation that this is “clearly a concern.”
(sources: Reuters, Barron’s, Wall St Journal, Bloomberg.com, ft.com, guggenheimpartners.com, ritholtz.com, markit.com, financialpost.com, Eurostat, Statistics Canada, Yahoo! Finance, stocksandnews.com, marketwatch.com, wantchinatimes.com, BBC, 361capital.com, pensionpartners.com, cnbc.com)
The ranking relationship (shown in Fig. 5) between the defensive SHUT sectors (“S”=Staples [a.k.a. consumer non-cyclical], “H”=Healthcare, “U”=Utilities and “T”=Telecom) and the offensive DIME sectors (“D”=Discretionary [a.k.a. Consumer Cyclical], “I”=Industrial, “M”=Materials, “E”=Energy), is one way to gauge institutional investor sentiment in the market.
The average ranking of Defensive SHUT sectors rose to 14.8 from the prior week’s 17.8, while the average ranking of Offensive DIME sectors rose to 13.5 from the prior week’s 14.0. The Offensive DIME sectors continue to lead the Defensive SHUT sectors, but not by much. Note: these are “ranks”, not “scores”, so smaller numbers are higher ranks and larger numbers are lower ranks.
The US has led the worldwide recovery, and continues to be among the strongest of global markets. However, the over-arching Secular Bear Market may remain in place globally even through new highs were reached in the US earlier this year. Because the world may still be in a Secular Bear, we have no expectations of runs of multiple double-digit consecutive years, and we expect poor market conditions to be a frequent occurrence. Nonetheless, we remain completely open to any eventuality that the market brings, and our strategies, tactics and tools will help us to successfully navigate whatever happens.
If you have any questions about the FBIAS™ Fact-Based Investment Allocation Strategy portfolios, feel free to give your Anthony Capital, LLC advisor a call at 303-734-7178 or by scheduling a private virtual meeting/conference call. We work with clients from all over the country and would be happy to help.
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Dave Anthony, CFP®, RMA®