• CWS Market Review – January 6, 2017
    Posted by on January 6th, 2017 at 7:08 am

    “Forecasts may tell you a great deal about the forecaster; they tell you nothing about the future.” – Warren Buffett

    The 2017 trading year is underway, and so far, it’s been a decent one for Wall Street. On Wednesday, the S&P 500 came within inches of setting an all-time closing high. Hopefully this will be a pleasant change from last year when Wall Street had one of its worst starts ever.

    Earlier this week, the Federal Reserve released the minutes from its last policy meeting, the one at which it decided to raise interest rates. I still believe the Fed is getting way ahead of itself on the need for higher rates. I suspect that as the year goes on, the Fed will gradually pare back its rate-hike plans. I’ll have more on this in a bit.

    With the start of the new year, we have Q4 earnings season coming, starting next week. This should be a good one for Wall Street. Apart from the reports themselves, I’ll also be curious to see what companies have to say about 2017. For the first time in a while, the Street appears optimistic. Later on, I’ll cover the recent earnings report from RPM International, one of this year’s new stocks. The earnings missed expectations, but I’m not worried about RPM. I’ll also have some updates on our other Buy List stocks. But first, let’s take a closer look at the economy.

    Q4 Earnings Season Looks to Be a Good One

    On Wednesday, the Federal Reserve released the minutes from last month’s FOMC meeting. These minutes got a lot of attention because this was the meeting in which the Fed decided to lift interest rates.

    Interestingly, the minutes showed that the rate-hike decision wasn’t terribly controversial. Instead, the committee was concerned about the possibility of the economy surging ahead this year with the aid of fiscal stimulus.

    When the Fed made the rate-hike decision last month, it also released its forecasts for the next few years. The members expect to hike interest rates three times this year, plus three times next year and three more in the year after that.

    Not to put too fine a point on it, but that’s nuts. That’s just my opinion, of course. As always, I like to keep an open mind about these things. As I see it, maybe the Fed will hike one or two times this year. I just don’t see the pressure out there for tighter money.

    We’ll learn more later today when the government releases the December jobs report. You’ve probably noticed that the monthly jobs reports have decreased in significance over the past several months. That’s because they’ve mostly confirmed that the trend of the last few years is still firmly in place.

    The consensus on Wall Street is for an increase of 175,000 non-farm payrolls, and for the unemployment rate to tick up 0.1% to 4.7%. Both sound about right, but what’s become more important is the wage-growth numbers. These have become some encouraging signs of wage growth. Frankly, though, we need to see more. Higher wages mean higher sales for companies, and further down the road, that means higher prices for shoppers. We’re still quite a way away from that scenario.

    Fourth-quarter earnings season is set to begin next week, and it should be a decent one for the overall market. For the third quarter, the S&P 500 finally snapped its seven-quarter streak of declining operating earnings. The index made $28.69 per share (that’s the index-adjusted number), which was a 13% increase over the year before.

    For Q4, analysts currently expect operating earnings of $30.48, which would be a 30% increase over the year before. Of course, that big increase is due to a poor environment in late 2015. During most of 2016, analysts gradually hacked down their estimates for Q4. They started off 2016 very optimistically. One year ago, they were expecting Q4 op earnings of $33.35. That’s been cut back by 8.6%.

    If analysts are right about Q4, and I suspect they’re very close, that would mean the S&P 500 earned $108.84 per share in 2016. Two years ago, Wall Street had been expecting over $135 per share for 2016. The analysts weren’t even close. Still, 2016’s total is a decent increase over the $100.45 from 2015, but it’s below 2014’s $133.01.

    A lot of the earnings recession was due to the pain in the energy sector, and that caused a pullback in capital expenditures. After all, when oil’s crashing below $30, no one’s in a hurry to start new projects, and that has a ripple effect. Now that oil’s back above $53, people feel a little different.

    Wall Street expects 2017 operating earnings of $130.92 per share. I expect that to come down some. Setting that aside, it means the S&P 500 is currently going for 17.3 times this year’s estimate. I just don’t see that as being a bubble.

    One interesting aspect of the recent earnings recession is that it didn’t hit dividends terribly hard. That was probably a sign, and an accurate one, that the earnings drop would soon pass. Last quarter was the 27th quarter in a row of dividend growth for the S&P 500. For Q4, dividends rose by 5.95%. Interestingly, Q4 had the fastest growth rate of the year.

    For all of 2016, dividends rose 5.53%. This was the seventh calendar year in a row of rising dividends. Over the last seven years, dividends have grown at an average rate of 10.72% per year. So if the last seven years have been a bubble for stocks, then they’ve been a bubble for dividends as well. However, that’s an odd definition of a bubble.

    Investors sometimes overlook the importance of dividends. Consider these stats: From the market’s closing low on March 9, 2009 until Thursday’s close, the S&P 500 gained 232.03%. But the S&P 500 Total Return Index, which includes dividends, gained 292.19%. The lesson is that reinvesting your dividends is a powerful tool for long-term investors.

    Should We Fear the Strong Dollar?

    Since Election Day, the U.S. dollar has been on a tear. That really isn’t a surprise given that our Fed is raising rates while other countries are still struggling with rock-bottom ones.

    Before the election, one U.S. dollar could fetch 18 to 19 Mexican pesos. Now it gets you 21.4. It got so bad that the Mexican Fed jumped in on Thursday to save the peso. The situation is similar in Europe. There’s a good chance that the dollar could soon reach parity versus the euro for the first time since 2002.

    But the really interesting action is happening in China where the government lets the yuan float freely—kinda. It floats within very narrow bands. But outside of China, the two currencies trade freely. Here’s where it gets interesting, because the offshore yuan usually doesn’t stray too far from the official rate. Lately, it has.

    Just as in Mexico, the Chinese central bank stepped in to shore up the yuan, which caused the currency to jump against the dollar. The WSJ reported that “the rate that banks charge each other in Hong Kong’s overnight lending market leapt from 17% to 38%.” It’s as if the PBOC kneecapped the shorts.

    The official stats aren’t too reliable, but it appears that the Chinese economy is slowing down. Whether it will be an orderly slowdown or a train wreck is an open question. Coupled with this is that money is flowing out of China. The government is trying to halt outflows, but as governments tend to do, they’re trying to stop the effect and not address the cause.

    The concern is that China will devalue the yuan. In August 2015, the government shocked the world when it devalued. Of course, President-elect Trump has been very vocal about our trade deals with China.

    I want to be careful not to overstate the issues, but the strong dollar could become an issue for investors. A big change in forex markets acts almost like a magnet near a compass—it throws off all the readings. Also, a strong U.S. dollar pretty much affects everything everywhere. The rising greenback could sink emerging markets and punish domestic manufacturing. It could also shelve any plans by the Fed to keep raising rates. Several companies have also warned investors about the impact of a rising dollar. I don’t want to alarm you, but this issue isn’t over, and it could become a major theme in 2017.

    RPM International Misses Earnings

    After being on our Buy List for three days, RPM International (RPM) decided to give us a disappointing earnings report. Let me assure you that the news wasn’t that bad, nor was it wholly unexpected.

    The reason I added RPM is optimism for this year. The just-released earnings report covers September, October and November, when the company was impacted by the lingering effects of the earnings slowdown.

    For fiscal Q2, RPM lost 54 cents per share, but after adjusting for impairment costs, RPM made 52 cents per share. That was nine cents below Wall Street’s estimate of 61 cents per share.

    For Q2, RPM’s net sales rose by 3.0%. It would have been 5.5%, but currency exchange pinged them a bit. Of that, organic sales would have been up by 3.8%, while acquisition growth would have added 1.7%.

    Frank C. Sullivan, RPM’s head honcho, said, “Mid-year restructuring and expense-reduction activities and the benefit of first-half acquisitions, along with having addressed the capacity situation at our DAP subsidiary, will allow revenue growth to be better leveraged to our bottom line during the fiscal 2017 fourth quarter and beyond.”

    Frankly, RPM’s business is a bit choppy right now, but that’s not why I added it this year. The company should benefit from a resurgent economy, especially in the industrial sector. The company expects to make $2.62 to $2.72 for the back half of their fiscal year. RPM has already made $1.35 per share in the front half.

    Shares of RPM were taken down for a 4.1% loss on Thursday. I’m not at all concerned about the company’s prospects. RPM is a buy up to $58 per share.

    Buy List Updates

    There wasn’t a whole lot of news on the Buy List this week, but I wanted to pass along a few items.

    CR Bard (BCR) was upgraded by Morgan Stanley. They now have a $260 price target for BCR, which is about a 13.4% run from here. I’m not a big fan of price targets, but Morgan said it’s based on 20 times their 2018 earnings estimate of $12.98 per share. Then on Thursday, CR Bard got another upgrade, this time from Raymond James.

    On Tuesday, Alliance Data Systems (ADS) said its board has approved an additional $500 million to its share buyback program. The old program expired at the end of last year. I’m not a terribly big fan of share buybacks, but I do love free cash flow. ADS remains a solid company.

    That’s all for now. The big jobs report comes out later today. Next week, we’ll get the consumer-credit report on Monday. Wholesale inventories is on Tuesday. Initial jobless claims are on Thursday. We nearly set another multi-decade low this week. Then on Friday is the retail-sales report. It will be interesting to see some hard data on how strong holiday shopping was. Be sure to keep checking the blog for daily updates. I’ll have more market analysis for you in the next issue of CWS Market Review!

    – Eddy

  • Morning News: January 6, 2017
    Posted by on January 6th, 2017 at 7:00 am

    Eurozone Economy Sees More Evidence of a Pickup

    For Mexican Leaders, a Turbulent Start to the New Year

    Yuan Pares Record Rally as Goldman Says Now’s the Time to Sell

    China Aims to Spend at Least $360 Billion on Renewable Energy by 2020

    China Ready to Step Up Scrutiny of U.S. Firms If Trump Starts Feud

    Trump’s Twitter Warning to Toyota Unsettles Japanese Carmakers

    Apple Confirms South Korea Store Plans, Challenging Samsung at Home

    Former Snapchat Employee Alleges Company Inflated Growth Metrics

    Lampert’s Rescue of Sears Puts Him on the Hook for $1.2 Billion

    Sears Agrees to Sell Craftsman to Stanley Black & Decker to Raise Cash

    Department Stores, Once Anchors at Malls, Become Millstones

    Coca-Cola Sued for Alleged Deceptive Marketing

    Jon Corzine to Pay $5 Million for Role in Collapse of MF Global

    Josh Brown: When Only Dragon Remain

    Jeff Carter: A New Blog For the Under Represented in Tech

    Be sure to follow me on Twitter.

  • Morning News: January 5, 2017
    Posted by on January 5th, 2017 at 6:59 am

    The Impossible Dream

    China’s Epic Short Squeeze Is Back as Yuan Rally Crushes Bears

    The Oil Trade That Shows Where OPEC’s Cuts Are Starting to Bite

    Bitcoin Is an Escapist Safe Haven

    Donald Trump Nominates Wall Street Lawyer to Head S.E.C.

    Battle With Trump Puts GM in Tough Spot

    Amazon’s Rumored Bid For American Apparel Could Solve Its Trump Problem in One Master Stroke

    Apple Confirms $1 Billion Investment in SoftBank Vision Fund

    Apple Removes New York Times Apps From Its Store in China

    Why Alibaba Can’t Stop Counterfeiters

    Social Publisher Medium Cuts One-Third of Staff

    Macy’s: Nothing Shocking Here, Snap Up The Dividend

    My Pillow, The Infomercial Sensation, Flunks Out Of Better Business Bureau

    Jeff Miller: Profitable New Year’s Resolutions for Investors

    Cullen Roche: The Top Research Papers of 2016

    Be sure to follow me on Twitter.

  • Seven Straight Years of Dividend Growth
    Posted by on January 4th, 2017 at 10:31 am

    Last quarter was another good one for dividends. It was the 27th quarter in a row of dividend growth for the S&P 500. Quarterly dividends rose 5.95%. Interestingly, Q4 had the fastest growth rate of the year.

    For all of 2016, dividends rose 5.53%. It was the seventh calendar year in a row of rising dividends. Over the last seven years, dividends have grown at an average rate of 10.72% per year. That’s not bad.

    Investors sometimes overlook the importance of dividends. Consider these stats: From the market’s closing low on March 9, 2009 until yesterday’s close, the S&P 500 gained 233.74%. But the S&P 500 Total Return Index, which includes dividends, gained 294.06%. That’s a nice boost.

    Something that has surprised me is how closely, over the last 15 years, the S&P 500 has tracked a 2% dividend yield. Here’s a chart of the S&P 500 (blue line, left scale) along with the S&P 500’s trailing four-quarter dividends (red line, right scale).

    I’ve scaled the two lines at a ratio of 50-to-1 which means the S&P 500’s dividend yield is exactly 2% whenever the lines cross. Except for the worst of the Financial Crisis, the market has generally stayed close to having a yield of 2%. For a very simple valuation metric, it’s worked pretty well.

  • Morgan Upgrades CR Bard
    Posted by on January 4th, 2017 at 7:16 am

    Good news yesterday for CR Bard (BCR). The stock was upgraded by the folks over at Morgan Stanley. It’s about time!

    Higher growth, insulation from macro headwinds and potential upside from tax reform and balance sheet suggest there is a lot that can go right for Bard in 2017…

    Diversified and insulated growth should be coveted this year. Bard revenue growth accelerated over 300 bps in ’16 to 7% organic growth on the back of new products and emerging markets, but we see durability into 2017 above 6%. The hallmark of Bard’s growth is that it is never reliant on any one product or division and continued product cadence in ’17 is likely. We see continued share gains in Surgical (Phasix), penetration in Oncology (PICCs ex US), and broader emerging market (EM) growth as likely adding more than half of the 6.2% growth rate. As for leverage to the bottom line, our view throughout ’16 has been one where Bard will provide preferential drop through to EPS above 10% as top line growth reaches and exceeds 6%. We saw this EPS inflection beginning in 1Q16 and expect it to continue in ‘17 where our model embeds ~12% underlying EPS growth. Our new $260 price target is based on ~20x our ’18e EPS of $12.94, which reflects a ~10% premium to the NTM S&P P/E vs.

    In October, Bard said they see 2016 profits ranging between $10.23 and $10.28 per share.

    (Courtesy Ben Levisohn at Barron’s.)

  • Morning News: January 4, 2017
    Posted by on January 4th, 2017 at 7:16 am

    Euro-Area Economy Ended Year With Fastest Growth Since 2011

    Euro-Area Inflation Outpaces Expectations as Oil Surges

    Why Finland is Ahead Of The US With Guaranteed Income

    China Said to Consider Options to Back Yuan, Curb Outflows

    Best Economic Forecasters Lay Out 2017 Calls

    U.S. banks Gear Up To Fight Dodd-Frank Act’s Volcker Rule

    Trump Is Bringing In The Big Guns to Roll Back Free Trade

    Why Trump Tariffs on Mexican Cars Probably Won’t Stop Job Flight

    Don’t Count Out Seasonal Patterns to Predict Rates

    Tesla Keeps Missing Forecasts: What This Means For Model 3

    Toshiba Shares Recover From Early Plunge on Accounting Report

    Equifax, TransUnion Settle CFPB Claims of Deceptive Marketing

    Airlines, Now More Proactive on Weather, Allow Fliers to Shift Own Travel Plans

    Coming to Carnival Cruises: A Wearable Medallion That Records Your Every Whim

    Roger Nusbaum: 2016: The Good, The Bad & The Ugly

    Be sure to follow me on Twitter.

  • Alliance Data Announces New Stock Repurchase Program
    Posted by on January 3rd, 2017 at 4:57 pm

    Disco!

    Alliance Data Systems Corporation (ADS), a leading global provider of data-driven marketing and loyalty solutions, today announced that its board of directors has approved a new stock repurchase program to acquire up to $500 million of the Company’s common stock during 2017. The new repurchase program replaces the existing program, which expired at the end of 2016.

    Repurchases will be financed through free cash flow. The Company expects to maintain moderate levels of debt over the course of the repurchase program, providing flexibility to pursue tuck-in acquisitions, portfolio purchases and/or international loyalty coalition program expansions.

    “We are pleased to announce our new share repurchase program as it underscores the confidence we have in our business model, our financial performance, and prospects in 2017 and beyond,” said Charles Horn, chief financial officer of Alliance Data. “We will opportunistically repurchase our stock, while maintaining ample liquidity to support the future growth of the business, as well as continuation of a quarterly dividend initiated in the fourth quarter of 2016.”

    Under the repurchase program the Company is authorized to repurchase shares in open market purchases as well as in privately negotiated transactions from time to time through December 31, 2017. Stock purchased as part of this program will be held as treasury stock. The repurchase program’s terms will comply with SEC Rule 10b-18, and the program is subject to market conditions, applicable legal requirements, contractual obligations, and other factors. The repurchase program does not obligate the Company to acquire any specific number of shares and may be suspended or terminated at any time.

  • Hempton on Valuation Analysis
    Posted by on January 3rd, 2017 at 12:32 pm

    Here’s a very good post by John Hempton on valuation analysis. Here’s a key bit:

    This is a general quality of investment analysis. Proper valuations are far more art than science. DCF valuations – especially of something growing near or above the discount rate are famously sensitive to assumptions. The right comparison is to the Hubble Telescope: move direction a fraction of a degree and you wind up in another galaxy.

    By contrast there are some things for which a proper valuation should be done and can be done.

    If you own a regulated utility what you really own is a regulated series of cash flows with regulatory risk around them.

    An accurate valuation is part-and-parcel of the analysis – because it delineates what you own.

    The battle here is to work out what the salient details are. Sometimes they are whether young people will continue drinking Red Bull. Sometimes they are working out a technological change.

    In rare cases they are working out valuation.

    Mostly valuation is simply about bounding a margin of safety. And most of that involves understanding the business anyway.

    This is a reason why I tell investors not to rely on stock screeners. The big winners in your portfolio won’t be stocks that go from a 13 P/E to a 17 P/E. Rather they’ll be ones that increase their “E” by 10 fold.

  • “Risks Remain in this Market”
    Posted by on January 3rd, 2017 at 12:27 pm

    One of the staples of the financial media is telling us that “risks remain in this market.” There are several different ways of spinning this. You can get a key quote from some muckety muck. See “Summers Says Markets Underestimating Risks of Trump Presidency.”

    My problem with these stories is that they sound as if they’re saying something sober and judicious when they’re really saying very little. Of course, there are risks in every market.

    Risk involves two components: the chance that something will happen and the fallout from what does happen. Last year was a perfect example of risky things happening but not having the expected impact. Brexit and Donald Trump were expected to lose at the polls. In both cases, a win was expected to bring disaster to follow. Both happened and markets took them in stride.

    People tend to view the market as a running back darting downfield, avoiding tackles and sprinting toward the end zone. That’s a fun but flawed metaphor. Instead, the market synthesizes events. It’s more like a giant scale that’s constantly weighing new information. There are always risks, but the question is, how important (i.e., heavy) are they?

  • The Cyclicals are Out Front
    Posted by on January 3rd, 2017 at 11:46 am

    The stock market is starting 2017 on the right foot. The S&P 500 has been as high as 2,263.88 this morning. However, the underlying currents of the market are quite different. Cyclical stocks like Materials and Energy are doing very well, while defensive sectors like Healthcare and Income are pretty flat. (As I write this, the Energy Sector has made an abrupt U-turn and has given back much of its gains.)

    This morning, the ISM Manufacturing Index came in at a healthy 54.7. Wall Street had been expecting 53.8. The ISM has been trending higher over the past few months. Tomorrow we’ll get the minutes from the Fed’s last meeting which is the one where they raised interest rates. Then on Friday is the December jobs report.