CWS Market Review – August 16, 2013

“The voice of reason is small, but persistent.” – Sigmund Freud

Youch! Thursday was the worst day for the S&P 500 in nearly two months. By the time the closing bell rang, the index had dropped 1.43% for the day and was back to 1,661.32. Of course, we’re still higher than we were on July 4th. If you take a step back and look at the larger picture, Thursday’s loss was small potatoes. In fact, the most prominent feature of the recent rally is how tame it’s been.

Let’s look at some facts: Morgan Housel notes that 2013 is on track to have the fewest daily swings of 1% or more since 1995. Going by that measure, this year could be the seventh-least-volatile year since 1928.

What’s also interesting is that the stock market rally has been remarkably consistent. The S&P 500 has traded above its 150-day moving average every day for the last eight months. This is the ninth-longest such streak since 1980. In plainer terms, the market has climbed slowly upward almost nonstop since the election. It’s been so placid that this recent break appears more dramatic than the numbers say.

In this issue of CWS Market Review, we’ll take a look at what caused Thursday’s market headache. We’re only five weeks away from the Fed’s September meeting, and more folks on Wall Street think the guardians of the temple will start pulling back on their bond-buying program. We’ll also focus on the upcoming earnings reports from Medtronic ($MDT) and Ross Stores ($ROST). But first, let’s look at why good news for the jobs market is apparently bad news for investors.

Initial Jobless Claims Lowest Since 2007

I’m always suspicious of any pat explanation for why the market does this or that on a given day. Just because some market activity coincides with some bit of news doesn’t mean the news is the cause. Oftentimes, traders are looking for an excuse to do something, and if some event in the larger world vaguely resembles a reason, they’ll take it.

On Thursday morning, we actually got a piece of very good news. The government reported that initial claims for unemployment had dropped to 320,000. This is significant because that’s the lowest reading since October 2007, which was the top of the market.


Any news about the labor market has to be viewed in the context of the Federal Reserve’s plans for later this year. The Fed has already told us that they’re looking to taper their bond purchases at some point, and that will largely be determined by how strong the jobs market is. So traders probably took the good news about yesterday’s jobless claims as evidence that the Fed will begin paring back on their bond purchases.

I’ve said before that I disagree with the view that the stock market will be stranded without the Fed’s help. The Fed is merely discussing pulling back on the level of support they’re giving investors. No one is pulling the rug out from under the market. As a general rule of thumb, investors place far too much emphasis on what the Fed does (I know, this is a screaming heresy to a lot of folks on Wall Street).

I’m also a doubter that the Fed will make any tapering decision at its September 17-18 meeting. I appear to be in the minority on this point. I should also add that my views on what the Fed will do have been pretty off the mark this year. The good news for us is that forecasting what government eggheads will do isn’t a prerequisite for being a good investor.

This leads to an odd situation where good news on the jobs market leads to bad news for investors, because it signals that the end of QE is within sight. The more dramatic response to any shift in Fed policy hasn’t been in the stock market, but in the bond market. On Thursday, the yield on the 10-year Treasury bond topped 2.8% for the first time in two years. The yield has nearly doubled in the last year. More broadly, last summer may have marked the peak of an astonishing 31-year rally for bonds.


The importance of long-term bond yields is that they usually (though not always) coincide with outperformance of cyclical stocks. They’re called cyclical for a reason, and if the cycle is in their favor, they can do very well. Two summers ago, the bond market gave the stock market a world-class beat down, and the cyclicals got hammered hardest of all.

If there’s any evidence against the Fed making a move next month, we got it with two reports this week. The first was a rather lackluster report on retail sales. This is usually a good clue on how strong consumer spending is. It also tells us how well some of our Buy List stocks, like Bed Bath & Beyond ($BBBY) or Ross Stores ($ROST), are doing.

I was also disappointed by this week’s report on industrial production. This is a key data series watched by the people who decide whether there’s a recession or not. Industrial production has been noticeably flat for the past five months. If there’s going to be a second-half pickup, we should see it soon.

As impressive as the market’s rally has been, a lot of it has been based on earnings growth ramping up later this year. As I’ve said, if that’s the case, the stock market is still quite cheap. But if that thesis doesn’t play out, stocks could take a tumble. The Street’s earnings estimates for Q3 have dropped from $30.27 in March 2012 to $27.17 today. The Q4 estimate is down, but not as much, falling from $31.18 in March 2012 to $29.13 today. Analysts now expect the S&P 500 to earn $108.51 this year, and $122.37 next year. As always, I caution against putting too much faith in estimates beyond a few months out.

What to do now: Our strategy is to be focused on high-quality stocks. Our Buy List has had a very good run since April, so we can expect it to catch its breath. Right now, I think Cognizant Technology Solutions ($CTSH) is a solid value. I also think Oracle ($ORCL) looks good below $33 per share. Please don’t get too worried about what the Fed may or may not do. Good companies can do well in any environment. Now let’s look at our Buy List earnings coming next week.

Medtronic Is a Buy up to $57 per Share

Medtronic ($MDT) is due to report its earnings next Tuesday, August 20th. The Street currently expects 88 cents per share. That sounds about right to me. I was very impressed by MDT’s last earnings report in May. The medical-device company topped consensus by seven cents per share.


The big surprise last quarter was that sales of pacemakers and defibrillators rose. Pretty much everyone was expecting more declines. Sales of defibrillators rose by 1.5%, and pacemakers were up by 2.6%. Company-wide, revenues were up by 3.8%. Medtronic’s CEO said that for the first time in four and a half years, sales of defibrillators and spinal products rose in the U.S. in the same quarter.

For their last fiscal year, which ended in April, Medtronic made $3.75 per share, which is up from $3.46 per share for the year before. In May, the company said it sees FY 2014 earnings ranging between $3.80 and $3.85 per share. Last week, MDT came within two cents of hitting $56 per share. The shares have pulled back with the market’s recent slide, but it’s nothing too severe. Remember that a few weeks ago, Medtronic raised its quarterly dividend for the 36th year in a row. Not many companies can say they’ve done that. Medtronic remains a very good buy up to $57 per share.

Ross Stores Is a Buy Below $70 per Share

Ross Stores ($ROST) is due to report earnings next Thursday, August 22nd. Unfortunately, the discount retailer has gotten punished over the last few days. At the beginning of August, ROST was closing in on $70 and threatening to make a new 52-week high. But some bad news for the retail sector, including disappointing earnings from Walmart and a tepid retail-sales report, brought shares of ROST down to $64.89 by the closing bell on Thursday.

Make no mistake, Ross is a very well-run outfit, and I’m not at all worried about its prospects. In May, the company reported fiscal Q1 earnings of $1.07 per share, which matched forecasts. Quarterly sales rose 8% to 2.54 billion, and same-store sales were up 3%.

Ross said that it sees Q2 earnings coming in between 89 and 93 cents per share. The Street foresees 93 cents per share, which may be a penny or two too high. But bear in mind that this is still a pretty nice increase over the 81 cents Ross earned in last year’s Q2. For the entire year, Ross projects earnings between $3.70 and $3.81 per share. Ross Stores is a very good buy up to $70 per share, and it’s especially good if you can get it below $65.

Nicholas Financial Announces Dividend of 12 Cents per Share

On Tuesday, Nicholas Financial ($NICK) said they’d be paying out another 12-cent quarterly dividend. I thought there was a chance they might increase their dividend. I think we may see a two- or three-cent-per-share increase this December, at the time of their shareholder meeting. Going by Thursday’s close, NICK now yields 3.16%.

That’s all for now. Next week will probably be another quiet week on Wall Street. All the big money guys are chillaxing at their cribs in the Hamptons. On Wednesday, the Fed will release the minutes from their last meeting. This might contain clues to what they have planned for their September meeting. Expect folks to read too much into it. We also have earnings reports from Medtronic and Ross Stores. 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 August 16th, 2013 at 7:14 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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