CWS Market Review – September 29, 2017

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

On Thursday, the S&P 500 closed at 2,510.06, yet another all-time high. We still have one day left, but this could be the eighth-straight quarterly gain for the S&P 500. If we include dividends, it will be the 11th-straight monthly gain. Not only that, but it looks like this September could be the least volatile September on record.

Even with as well as the big-cap indexes have been doing, the small-caps have been particularly popular lately. On Wednesday, the Russell 2000 skyrocketed 1.5% for its best day since June. (And yes, in 2017, a 1.5% counts as “skyrocketing.”) The index is up nearly 10% since mid-August.

We should be thankful for the market’s good mood, but we should always be prepared for whatever the market throws our way. In this week’s CWS Market Review, I want to focus on some recent economic news. I’ll also discuss the Buy List’s performance so far this year. Later on, I’ll have some updates on our Buy List stocks.

Expect a Good Earnings Season Next Month

On Thursday, the government updated its report for Q2 GDP growth. They now say that the economy grew, in real terms, by 3.1% during the second quarter. That makes it one of the better quarters in this cycle, but will the good news last?

I’m not so sure. We may slip back into our 2% trend line that’s been very hard to shake for several years now. The Atlanta Fed’s GDP Now forecasts Q3 growth at 2.1% (Take note of Mr. Buffett’s comments on forecasters in this week’s epigraph.)

Earnings season will soon start and then we’ll get a much better look at how the corporate world fared during Q3. Remember, of course, that profits and the broader economy don’t always need to move at the same speed, or even in the same direction.

Wall Street currently expects the S&P 500 to report Q3 earnings of $32.90 per share. That’s the index-adjusted number. As is often the case, that figure has been pared back as earnings season approaches, but the estimate cuts have been less than we saw during Q2.

If the forecast of $32.90 is correct (if!), that would translate to quarterly profit growth of 14.7%. It would also be the sixth quarter in a row of profit growth for the S&P 500. Some of the previous growth has relied heavily on share buybacks. We’re seeing less of that recently. Share buybacks are down 25% since the start of 2016.

The S&P 500 is currently expected to earn $127.05 this year and $144.71 next year. That means the stock market is currently going for 17.3 times next year’s earnings. That’s elevated, but I wouldn’t say it’s an obvious bubble. Let’s also remember how low bond yields are. To give you an example, the yield for five-year TIPs (the inflation-protected securities) is just 0.16%.

The chart below shows the S&P 500 (black line, left scale) along with its trailing earnings (blue line, right scale). The two lines are scaled at a ratio of 16-to-1 so whenever the lines cross, the market’s P/E Ratio is exactly 16. The red part of the line is Wall Street’s estimate.

This should also be the 30th quarter in a row of growing dividends. As I’ve pointed out a few times, this rally has been about dividends almost as much as it’s been about share prices. For all the talk we’ve heard of a bubble, stock prices have largely kept pace with dividends.

On our own Buy List, we had recent dividend increases from Microsoft (MSFT) and Ingredion (INGR). We may get another soon from RPM International (RPM).

Some Buy List stocks that look particularly good right now include Signature Bank (SBNY), Danaher (DHR), Alliance Data Systems (ADS) and Stryker (SYK). Remember to pay attention to our Buy Below prices.

The Buy List’s Performance So Far

We still have one day left in the third quarter, but I wanted to give you an update on how the Buy List is doing so far this year. Through Thursday, our Buy List is up 11.09%. That trails the S&P 500, which is up 12.11%.

Neither figure includes dividends. I didn’t have enough time to calculate the dividend-adjusted returns, but our Buy List yields a little bit less than the market as a whole. I hope to post all those numbers soon.

While we’re trailing the market at the moment, I think we have a very good shot at once again beating it for the year. Our difficult period came in late July and early August, during Q2 earnings season, when a few bad earnings reports caused our Buy List to lose its lead. That was a tough time for us, but we’ve gotten back on track. Lately, in fact, our Buy List has been beating the overall market.

Also, we shouldn’t lose sight of the fact that the Buy List is making money for us this year. What works against us is that the market’s rally has been skewed to a small number of stocks that have performed very well.

Through Thursday, four of our Buy List stocks are up more than 40%. The big winners are CR Bard (BCR), HEICO (HEI), Moody’s (MCO) and Cerner (CERN). Remember that sometime in Q4, CR Bard will become Becton, Dickinson.

Our biggest loser this year is Smucker (SJM), which is down nearly 19% YTD. The next biggest loser is Signature Bank, which I think looks especially tempting below $130 per share. It’s interesting how often one year’s biggest losers becomes the next year’s biggest winners.

Preview of RPM International’s Earnings Report

We haven’t had many Buy List earnings reports lately, but we’ll get another one next week. RPM International (RPM) is due to report before the market opens on Wednesday, October 4. This will be for RPM’s fiscal first quarter, which ended on August 31. The consensus on Wall Street is for earnings of 84 cents per share. That’s an increase of one penny over last year’s result.

This will be an interesting report because RPM has missed Wall Street’s consensus for the last three quarters. The shares dropped 7% after the last earnings report came out in July. I want to see signs of improvement here. RPM makes building materials and adhesives.

In July, RPM said they see Q1 earnings ranging between 83 and 85 cents per share and between $2.85 and $2.95 per share for the fiscal year. That disappointed investors. Wall Street had been expecting 89 cents per share for Q1 and $3 per share for the fiscal year.

The company blamed a rainy spring for poor results at their Kirker nail-enamel business. I’m usually suspicious when the weather is used as an excuse. A higher tax rate last quarter ate up 12 cents per share.

I also expect to see a modest dividend increase from RPM. They currently pay out 30 cents per share. The company has raised its dividend every year since 1973. I don’t think they’ll go very high, but they’ll do enough to keep the streak alive.

Buy List Updates

This has been a rough year for Ross Stores (ROST), but the shares have improved recently, plus they got a nice upgrade this week. I think the deep discounter got tossed in with many other retailers that were being done in by Amazon, but investors should understand that Ross competes for a different market segment.

Late last year, ROST got close to $70 per share, but by July, it was trading below $52. This week, an analyst at JP Morgan upgraded Ross to “outperform” from “market perform.” That was the latest catalyst in a nice rally over the past month. The stock closed Thursday at $64.80 per share. Notice how often good stocks take their lumps but then come charging back.

Hormel Foods (HRL) announced the resignation of their chairman, Jeffrey Ettinger. He was the CEO until last year. Lately, HRL has been struggling along with many other food stocks. The shares seem to have found a floor around $31 per share.

Axalta Coating Systems (AXTA) said it was shutting down operations in Venezuela. I’m surprised it’s taken this long. It’s sad what’s happening in Venezuela. I hope the country can emerge from this crisis successfully.

Sherwin-Williams (SHW) updated its Q3 guidance to reflect the disruptions caused by the recent hurricanes. The company now expects core sales to rise for Q3 in the low single digits. Previously, Sherwin gave Q3 earnings guidance of $3.70 to $4.10 per share. The company has now lowered that range to $3.40 to $3.70 per share. Actually, that’s not as bad as some were expecting. The shares rallied 2% on Thursday on the news. The CEO said, “”While we are still assessing the longer-term impact of these tragic events on our business, the sales momentum we are seeing across most geographies—particularly in our company-operated stores in the unaffected regions of the U.S. and Canada—should enable us to recover some of the third-quarter earnings shortfall over the balance of the year.”

The Financial Times notes that investors are expecting the Bank of England to raise interest rates soon. That’s caused trading volume for Intercontinental Exchange (ICE) to surge to its highest level in four years.

That’s all for now. Q4 begins next week. On Monday, we’ll get the September ISM report. On Wednesday, Janet Yellen will be speaking. Also, the ADP payroll report will come out. On Friday morning, the September jobs report comes out. The unemployment rate for August was 4.4%, which is close to a 16-year low. There’s a good chance we’ll make a new low. 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 September 29th, 2017 at 7:08 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.