• The Wisdom of Smart Beta Funds
    Posted by on July 11th, 2017 at 12:38 pm

    Bloomberg ran an interesting piece a few days ago focusing on Maneesh Shanbhag who questions the wisdom of many Smart Beta funds, and I think he’s right. Smart Beta funds focus on strategies that have historically beaten the market.

    One problem is that these strategies are better at pinpointing losers than at selecting the winners. Also, since the funds focus on particular characteristics like value or momentum, the individual funds can be very volatile.

    “What’s promised by some of these ETFs is a certain consistency to their returns,” Shanbhag said. “But if you’re selecting a smaller segment from the universe, you aren’t ginning the benefits from a larger segment that just eliminates the really bad ones.”

    For example, according to one study, if you sort stocks by volatility, the most volatile stocks have historically performed the worst. But after that, there’s not much difference. The same effect can be seen with other factors such as momentum, quality, value and size. The best and the middle of the pack are basically the same.

    Some researchers believe that factors like low volatility and quality may just be another version of value, albeit one that’s less effective for investors. Others think that gains in some factors may be due to a completely separate and unsustainable phenomena, like low-vol being overweight in defensive sectors that benefited from falling interest rates, Shanbhag said.

    “If you take volatility and quality and agree there’s no premium, you’re playing a game with low odds. With that type of diversification, you’ll never be concentrated in the best,” Shanbhag said. “They’re over-promising and under-delivering.”

  • Morning News: July 11, 2017
    Posted by on July 11th, 2017 at 7:07 am

    Remember Peak Oil? Demand May Top Out Before Supply Does

    Goldman Was Vilified in Venezuela for Something Big Oil Does Every Day

    Trump Nominates Randal K. Quarles to Oversee Wall Street Banks

    CFPB’s Long-Awaited Arbitration Rule May Be a Short-Lived Victory For Consumers

    Seattle Approves New Income Tax for Wealthy Residents

    To Close Digital Divide, Microsoft to Harness Unused Television Channels

    Elliott Hedge Fund Seeks to Challenge Buffett’s Bid for Energy Company

    Snap Slips Below IPO Price Amid Doubts Over Future Growth

    Intel, While Pivoting to Artificial Intelligence, Tries to Protect Lead

    Abercrombie & Fitch’s Failed Deal Is the Latest Problem for Teen Retailers

    Pearson To Sell 22% Stake in Penguin Random House to Bertelsmann

    Tesla’s New Vehicle Inventory Skyrockets

    Jeff Carter: How Can a Pit Be Controversial?

    Joshua Brown: Superficiality

    Roger Nusbaum: Do Investors Want More Correlation?

    Be sure to follow me on Twitter.

  • Ingersoll-Rand (IR)
    Posted by on July 10th, 2017 at 1:31 pm

    Check out the long-term chart of Ingersoll-Rand (IR):

    The blue line is the S&P 500 Total Return Index. I’m curious how many people passed on this because it looked boring.

  • Morning News: July 10, 2017
    Posted by on July 10th, 2017 at 7:10 am

    Africa Defeats World’s Biggest Mobile Carriers

    Aramco CEO Sees Oil Supply Shortage as Investments and Discoveries Drop

    Trump’s Massive Tax-Cut Plan Faces ‘Train Wreck’ of a Calendar

    Treasury Secretary Mnuchin Rejects Speculation of Tax Hike on Wealthier Americans

    Rooftop Solar Dims Under Pressure From Utility Lobbyists

    Mt Gox CEO Facing Trial in Japan as Bitcoin Gains Traction

    Karma and Comfort for Orient Overseas

    Tesla Sales Fall to Zero in Hong Kong After Tax Break Is Slashed

    Dalian Wanda to Sell $9.3 Billion in Hotels and Tourism Stakes

    ClubCorp Agrees to Be Bought by Apollo for $1.1 Billion

    AT&T’s Blockbuster Deal For Time Warner Hangs in Limbo

    The Private Equity Firm That Quietly Profits on Top-Selling Drugs

    Jawbone’s Demise a Case of ‘Death by Overfunding’ in Silicon Valley

    Jeff Miller: Weighing the Week Ahead: A Seinfeld Market?

    Michael Batnick: These Are The Goods

    Be sure to follow me on Twitter.

  • RIP: Neal Patterson
    Posted by on July 9th, 2017 at 7:56 pm

    Neal Patterson, the founder of Cerner (CERN), has died.

    Neal Patterson, who helped build Cerner Corp. into a health care IT giant and wrote another chapter in Kansas City’s entrepreneurial lore, died Sunday of complications after a recurrence of cancer. Cerner co-founder and Vice Chairman Cliff Illig has been named chairman and interim CEO.

    Patterson, Illig and Paul Gorup came up with the idea for Cerner around a picnic table at Loose Park. Their idea of incorporating technology to improve health care grew into a public company and industry giant whose imprint is seen throughout the metropolitan area skyline. Along the way, Patterson and Illig prodded Kansas City to boost entrepreneurship, with Patterson regularly hosting events at his home where promising entrepreneurs could talk to local masters, and turned Kansas City into the “Soccer Capital of America” after leading a group that purchased what is now Sporting Kansas City and built Children’s Mercy Park.

    Patterson was diagnosed with a soft-tissue cancer in January 2016. He last spoke in a surprise appearance at the Cerner Health Conference in November, recounting his experience as a cancer patient and his aspirations for the company.

    “We have incredible trust in our providers — we have to. But, ultimately, we are at their mercy,” Patterson said. “The EHR needs to make medicine faster and safer, and there needs to be more participation from the patient. The industry’s not there yet. It’s still lacking and I know I was put in this position to make it better.”

    Several years of furious growth have made Cerner the area’s largest private-sector employer, with more than 11,800 local employees last July — a total that came before the opening of the first two buildings in what will be a massive new corporate campus early this year. Cerner’s Innovations Campus was to house roughly 3,000 employees in the first two buildings and eventually have 16,000 employees. The company also has sizable workforces at its North Kansas City headquarters, its Realizations Campus in South Kansas City and its Continuous Campus in Kansas City, Kan.

  • 85 Years Ago
    Posted by on July 8th, 2017 at 11:29 am

    This is a big year for market history buffs. In October, we’ll celebrate (or at least commemorate) the 30th anniversary of Meltdown Monday. Next month is the 35th anniversary of the start of the Reagan Bull Market. Earlier this year, we had the 110th anniversary of the beginning of the Panic of 1907.

    But this Sunday is the most important one of all. On July 8, 1932, the stock market reached its low. Or more technically, its low, low, LOOOWWW. The Dow bottomed out at 41.22—a stunning 89.2% drop from its peak from three years before. The S&P hit a measly 4.41, and the Nasdaq was still 40 years away.

    On Monday, July 11, the Dow rallied to 42.99. That was it-the crash was finally over! But few people knew it. The next few weeks saw a furious rally as the Dow hit 79.93 on September 7. That’s a gain of 94% in two months.

    Going by Friday’s close, the Dow is up 51,851% over the last 85 years. The S&P 500 is up a little more, 54,893%. Add in dividends and the market is up about 1,350,000%.

    Here’s to the next 85 years!

    Michael Batnick has more.

  • The Top 125 Finance Follows on Twitter
    Posted by on July 7th, 2017 at 2:43 pm

    Thank you Business Insider for naming me one of “the 125 most important finance people you have to follow on Twitter.”

    It’s a great list. Check it out.

  • Willow Farm on Ross Stores: “A Retailer With 25% Upside”
    Posted by on July 7th, 2017 at 11:17 am

    Here’s a look at Ross Stores (ROST) by RJ Rhodes at Willow Farm Investments.

    Ross Stores is an excellent business with high returns. The stock price has undergone a periodic retreat, producing a valuation that is at worst fair but, more likely, compelling in a market where visible growth is scarce.

    Ross has a 10-year runway for unit growth in store base before reaching final maturity, with a differentiated business model totally unlike the mall-based department stores. No doubt this selloff in the stock, while not on the same magnitude as the implosion in Macy’s (M), et al., is driven by some of the same psychology, e.g. fear of disintermediation by Amazon.com (AMZN). I believe the Ross moat, even though not bulletproof, is unique enough to enable continued success. I recommend the stock for purchase with a two-year horizon and potential appreciation to the low $70s.

    Check out the whole thing.

  • June NFP +222K, Unemployment 4.4%
    Posted by on July 7th, 2017 at 8:42 am

    The June jobs report is out. The U.S. economy created 222,000 net new jobs last month. Wall Street had been expecting 178,000.

    The unemployment rate rose to 4.4%.

    Average hourly earnings rose by 0.2%.

    Here’s a look at non-farm payrolls:

    The unemployment rate:

    Growth in average hourly earnings:

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

    “Investing is the intersection of economics and psychology.” –Seth Klarman

    We’re now in the second half of 2017. The first half was a pretty good one for us—and for the market as a whole. I’m pleased to say that our Buy List is beating the overall market. If all goes well, this could be the ninth time in the last eleven years in which our Buy List has beaten the Street.

    So far, the second half of 2017 looks like the first. Trading has been fairly quiet, but the overall outlook remains positive. Soon things will get a lot more interesting. The second-quarter earnings season is about to kick off. This is when we learn whose business has been performing and whose hasn’t.

    While the overall economic outlook is still solid, there are weak spots spreading. For example, the auto sector is not looking good. The industry just had another poor sales report. This week, we also got a look at the minutes from the last Fed meeting. This is when the central bank decided to raise rates again. I’ll tell you what it means for us and our portfolios. But first, let’s look at how our Buy List did during the first six months of 2017.

    Our Buy List Is Beating the Market

    Through June 30, the 25 stocks on our Buy List gained 10.10%. Including dividends, we were up 10.66%.

    That was enough to beat the S&P 500, which was up 8.24%. With dividends, the index was up 9.34%. So we’re beating the market. Not by a lot, but we’re ahead.

    Eighteen of our 25 stocks were up for the year. Fourteen were up more than 10%, and four were up more than 29%. CR Bard (BCR) just edged out Cerner (CERN) for first place, 40.7% to 40.3%. Our biggest loser on the year was Ross Stores (ROST), the deep-discount retailer, which was down 12.0%.

    Let’s also remember that we haven’t made one trade all year.

    Preview of Second-Quarter Earnings Season

    Twenty-one of our 25 stocks will be reporting earnings over the next month. (I’m including RPM International. Their quarter ended in May, but their earnings report will come out at the same time the June quarter stocks are reporting.) Earnings season runs from mid-July until early August. Expect to see increased volatility in our stocks. Let me caution you that even companies with good earnings reports can see their stocks fall. Traders aren’t always so rational. It’s simply how the game works.

    For the S&P 500, analysts expect to see operating-earnings growth of 20.6%. (You may see different numbers reported. I take mine right from S&P. I think operating earnings is the best metric to focus on.)

    The second quarter should be the fourth quarter in a row of rising earnings. Prior to that, the S&P 500 suffered through a nasty streak of seven quarters with declining earnings. A lot of that was due to the rising dollar and falling oil prices. For the most part, Wall Street looked beyond that “earnings recession.” Profits have definitely improved, and Q2 looks to see an all-time record for earnings.

    Analysts currently expect Q2 earnings of $31.00 per share. That’s the index-adjusted number. Every one point in the S&P 500 is worth about $8.567 billion. If that forecast is correct, it would top the previous record of $29.60 per share from the third quarter of 2014. That would also give the index trailing four-quarter earnings of $116.41 per share. Based on Thursday’s closing price, that means the S&P 500 is going for 19.84 times trailing earnings. That’s high, but I wouldn’t say it’s an obvious bubble.

    The $31.00 forecast for Q2 is down from the start of the year. On December 31, analysts saw Q2 earnings coming in at $32.24. Please note that analysts’ forecasts almost always start out too high. As we get close to earnings day, the forecasts get pared back until they’re actually a bit too low. When earnings finally come out, about two-thirds of companies beat their expectations. Only on Wall Street are you expected to beat expectations. In fact, you’ll often see a stock fall that merely matched expectations. Apparently no one saw that coming.

    For all of 2017, Wall Street now sees the S&P 500 earning $128.26 per share. For 2018, the forecast is for $145.96. Let’s be clear that both numbers are wildly off, but at least it’s a starting point. That would mean the S&P 500 is going for 18 times this year’s earnings, and 15.8 times next year’s. Again, that’s high, but I wouldn’t say it’s a bubble.

    Dividends Continue to Rise

    Another argument in the bulls’ camp is the continued strength of dividends. A lot of folks think this is simply smoke and mirrors generated by the Federal Reserve. I disagree. Last quarter was another solid quarter for dividends from the S&P 500. This was the 29th quarter in a row of higher dividends for the index.

    The S&P 500 paid out $12.12 per share in dividends last quarter. For Q2, dividends were up 7.42% from last year’s Q2. This was the third quarter in a row of acceleration (meaning, higher rate of growth). Dividends are up 117% since Q2 of 2010, while the index is up 107%. No one wants to hear this, but during this bull market, the S&P 500 has largely matched dividend growth. In fact, the S&P 500 has strayed terribly far from 50 times its four-quarter dividends (meaning a 2% dividend yield).

    Through the last four quarters, the S&P 500 has paid out $47.22 per share in dividends. That works out to a dividend yield of 1.96%. I’m not declaring this to be the single perfect measure of market value. I’m simply saying that this has been where the market has stayed for a long time. And it’s still right there.

    The Minutes from the Fed’s June Meeting

    I’ve told you many times that I was against the Federal Reserve’s decision to raise interest rates last month. I hope I’m wrong, but I think the Fed is being too aggressive at this moment in the cycle.

    This week, the Fed released the minutes of their June meeting. The minutes showed that the Fed thinks the recent decline in inflation won’t last. The FOMC thinks inflation will eventually stabilize around 2%.

    My concern is that the decline in inflation combined with the rate increases has worked to push real interest rates (meaning, after inflation) well above where they ought to be.

    A few folks at the Fed also said that lower volatility in the stock market may be boosting share prices too much. That also could explain why long-term bond yields remain so low. I’m a bit skeptical. I don’t think the Fed should be too concerned about equity prices. As for lower bond yields, that may suggest that the Fed has a lower interest-rate “ceiling” than they may realize.

    The futures market currently expects just one more rate hike in the next 12 months. They expect it to come in December. Even at the Fed’s meeting in June 2018, the futures market thinks there’s less than a 40% chance of a second rate hike.

    Nothing here is written in stone, and I’ll note that long-term yields have gapped up over the past eight trading sessions. Perhaps investors are expecting stronger growth numbers. The Atlanta Fed now expects Q2 GDP growth of 2.7% for Q3. It had been at 3%. Last week, we learned that the economy grew by 1.4% in Q1.

    For now, I suggest not getting too worried about the macro-economic picture. The upcoming earnings reports are far more important. In addition to good numbers from our stocks, I’d also like to see clearer guidance for the rest of the year. By the middle of the year, companies usually have a better grasp of how their customers are behaving. Investors should continue to focus on high quality and make sure they have some steady dividend-payers in their portfolios. Now let’s look at one of my favorite mid-cap stocks.

    Barron’s Highlights HEICO

    There hasn’t been much company-specific news on our Buy List stocks. That will change when earnings come out. Last week, I was pleased to see Barron’s highlight HEICO (HEI). This is a wonderful company that’s not very well known. It seems like the financial media spend the majority of their time on a handful of very well-known stocks.

    HEICO has been a huge winner for us since we added to our Buy List at the start of last year.

    Here’s a brief sample of what Barron’s had to say:

    Heico is probably one of the best companies you’ve never heard of. That’s because it serves an obscure segment of the world’s economy: It sells replacement parts to the airline industry. The aircraft-components business has grown by 5% a year for more than 50 years, along with global passenger volumes. But because Heico has found a durable, low-cost niche in aerospace, its revenue has been growing by three times that rate since 1990, when the Mendelson family took charge.


    Heico is beloved by its customers and the FAA, whose lead many of the world’s other regulatory bodies follow. A new entrant could attempt to make PMA parts as Heico does, but would have to spend years, if not decades, earning the trust of the airlines and the FAA. Heico has cracked the oligopolistic nature of the aerospace industry, and is now a member of the club.

    Shares of HEI gapped up more than 4% on Monday. HEICO continues to be a buy anytime you see the shares below $75.

    That’s all for now. Later today, the June jobs report will come out. Next week, several Fed officials will be speaking. We may get a better idea of what the central bankers are thinking about the economy. On Wednesday, the Beige Book report comes out, which is a pretty good overview of the economy. On Friday, we’ll get reports on retail sales and consumer inflation. 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