CWS Market Review – November 18, 2011

Despite coming off a record earnings season, the stock market is still in a sour mood. On Thursday, the S&P 500 closed at 1,216.13 which was its lowest close in nearly one month. Since October 28th, we’re down 5.3%.

The S&P 500 fell by more than 1.6% on both Wednesday and Thursday this week and it’s now hovering just above its 50-day moving average (the NASDAQ Composite is already below it). The index has closed above its 50-DMA every day since October 10th. I try to avoid “timing” the market but I’ll note that the 50-DMA is often an important demarcation line separating bull markets from bear markets.

In this week’s CWS Market Review, I want to discuss a major change that’s happening in the market that’s not getting much attention. More importantly, I’ll tell about some of the best places to invest your money right now.

For the last several weeks, the U.S. stock market has been heavily dependent on what’s been happening in Europe. This is hardly surprising but it’s also been very frustrating because…well, Europe’s economy is massively screwed up. On top of that, the political situation seems to favor ignoring the issues rather than solving them. However, my biggest fear is that we’ll never see a rally here until the mess is over over there.

Lately, however, we’re starting to see the first signs that our market is disentangling itself from the European malaise. This is very important. Let me explain: Over the last few months, the U.S. stock market has been unusually highly correlated with the euro-to-dollar trade. Whenever the euro has rallied, stocks here have been very likely to rise, and when the euro has sunk, U.S. stocks have gone south. These two lines have moved together like waltzing partners.

About 18% of the profits for the S&P 500 comes from Europe. Yet at the end of October, the 30-day correlation between the Dow and the EURUSD hit an incredible 0.958. By the end of last week, it slipped to 0.834 and lately, it’s been as low as 0.498. That’s a big turnaround and I think there’s a very good chance it will continue.

The reason is that the U.S. economy is starting to show signs of life. Make no mistake, we’re not ripping along, but the recent news is somewhat optimistic. For example, this week’s report on industrial production showed a 0.7% gain last month. That was much better than Wall Street’s forecast of 0.4%. The inflation news continues to look good. We also had a decent report on retail sales which is often a glimpse at the confidence of consumers. Jobless claims fell to the lowest level since May. There’s clearly no Double Dip at hand.

Economists up and down Wall Street have been revising their economic growth estimates higher. JPMorgan Chase ($JPM) just raised its estimate for Q4 GDP growth from 2.5% to 3%. Morgan Stanley ($MS) thinks it will be 3.5%. Joe LaVorgna, the chief economist at Deutsche Bank ($DB), said that he wouldn’t be surprised if Q4 growth topped 4%. Bespoke notes that this earnings season showed the highest “beat rate” this year. What we’re seeing is a fundamentally healthy economy that’s fighting off a housing sector mired in a depression—and as bad as housing is, even that’s showing some slight glimmers of hope.

If the U.S. stock market can finally shake off the daily gyrations caused by our friends across the pond, I think we can see a nice year-end rally. Consider how fearful the market is right now. Shares of Microsoft ($MSFT) are trading at just over eight times next year’s earnings estimate. Wall Street currently thinks the S&P 500 can earn $109.30 next year which means the index is going for just over 11 times earnings. The yield on the 30-year Treasury is back below 3% and the yield on the 10-year is below 2%. In other words, the risk trade continues to be swamped with folks afraid to put their money to work in stocks.

Now let’s turn our attention to the Buy List which continues to lead the overall market this year. I especially want to highlight some of our higher-yield stocks because they’re the best way to protect yourself in a fragile market like this.

In last week’s CWS Market Review, I said that I expected to see Sysco ($SYY) raise its quarterly dividend for the 42nd year in a row, but only by one penny per share. On Wednesday, the company proved me right. Going by the new dividend, Sysco currently yields 3.95%. The stock is a good buy up to $30 per share.

Our only Buy List stock to fall short of its earnings expectation this past earnings season was Reynolds American ($RAI). I told investors not to worry since the quarterly earnings game doesn’t matter so much to a conservative stock like Reynolds. Sure enough, the stock broke out to a fresh 52-week high this week. I wasn’t thrilled by the company’s recent share buyback announcement but it’s clearly given a lift to the stock. Reynolds is now our second-best performer on the year; only Jos. A Bank Clothiers ($JOSB) has done better. At the current price, Reynolds yields 5.27%. The shares are a strong buy below $42.

Some other stocks on the Buy List that look particularly good right now include AFLAC ($AFL), Moog ($MOG-A), Ford ($F), Fiserv ($FISV) and Oracle ($ORCL).

Next Tuesday, Medtronic ($MDT) will report its fiscal second-quarter earnings. The company has said to expect earnings for this fiscal year (which ends in May) to range between $3.43 and $3.50 per share. Wall Street expects a quarterly report of 82 cents per share which seems about right to me. I think they can beat by a penny or two, but not by much more. Either way, Medtronic is cheap. The stock is currently going for less than 10 times the company’s own earnings forecast.

That’s all for now. The stock market will be closed next Thursday for Thanksgiving. For reasons I’ll never understand, the stock market is open on the Friday after Thanksgiving but it will close at 1 p.m. This completely pointless session is usually one of the lowest volume days of the year. 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

Posted by on November 18th, 2011 at 9:06 am

The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.

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