UP & DOWN WALL STREET

Dow was up 0.66% and the SP500 up 1.22% for the week. There appears to be some slight deescalation in hot spots around the world as a ceasefire held between Israel and Hamas and US airstrike relieved pressure between ISIS and Kurdistan.

George Friedman of Stratfor sees 10 plus years of “Lebanonization” of the middle east. In other words, civil wars that will tear apart countries that were artificially created back in 1916. This will likely translate into rocky financial markets. Friedman thinks Putin might be tossed out at leader of Russia at some future point not that far away.

REVIEW

Germany’s economy declined and 10-year bunds fell below 1%. Output in Japan fell 6.8%. Wal Mart reduced its guidance on earnings. Store traffic declines for the 7th straight quarter. Carl Icahn said “We are in a major asset bubble that continues to grow.”

SOME COMPANIES THAT BARRON’S WROTE ABOUT THIS WEEK

Andrew Bary’s article says that the recent financial engineering by Kinder Morgan (KMI) makes the Company overpriced. Jack Hough writes about four companies that are “ready for a rebound”, they are BBT, COP, JNPR and UTX. Jonathan Buck’s article on TNTE.Netherlands says the stock can continue to decline. David Englander says ABM can increase by 15% over the next year. The cover story is on the positive prospects for SLB.

AN INTERVIEW WITH STEPHEN AUTH

Auth thinks the market can increase 30% over the next 18 months.

The Trader

Dow advances 0.7% and the SP500 advances 1.2% to 1955.06. Industrial production rose and job openings increased. Retail sales up only 0.1% below expectations and the economy contracted in Germany and Italy by 0.2% each in Q2. Earnings reports are improved by 10.2% over last year. About 59% of stocks have beaten earnings estimates and 61% have beaten revenue estimates.

Research by Wesley Gray of Drexel University shows that using cyclically adjusted valuation measures will outperform buy and hold and out perform buying expensive stocks. Cyclically adjusted book to market value performs the best of the different valuation measures, and that can be improved by monthly rebalancing and applying a momentum feature.

Click for the paper.

Below are the July economic numbers. We have reworked the color scheme. Previously, red indicated that the number was worse than consensus and green indicated better. Now, red indicates the number is worse than the month before and green indicates it is better than the month before.

Up & Down Wall Street

Market was down sharply early Friday morning on news that the US was bombing the Islamic State terrorists in Iraq. But when news broke later that Russia was withdrawing troops from the border with Ukraine the market rallied.

Geopolitics has started to impact the markets with problems in Ukraine, Gaza and Iraq. The DAX is down abut 10% and there are record low yields on government securities in Germany, France and Finland. The Euor economy does not look good.

Meanwhile in the USA, the bottom line is healthier but a lot of that has to do with financial engineering from repurchases, M&A, tax inversions, etc.

Randall Forsyth’s column closes talking about closed-end funds for bank loans. Generally, they are selling at discounts of around 8% meanwhile they have had increases in net asset value. Example – FCT.

(disclosure – Long AFT)

Triple Trouble for Valeant

Problems for VRX – if the US prevents American companies from playing the tax inversion game, it would lower the chances and the prices someone would pay to take over VRX. Also, as VRX shares continue to fall in price it reduces the attractiveness of a stock offer in VRX takeover attempts.  And VRX has reduced revenue and earnings guidance in 2010. Thomas Tobin of Hedgeye says VRX can hit $200 if they can dodge US taxes and acquire Allergan, or it can fall to $70 otherwise (see also Vito Racanelli’s comments on 6/9/14).

(disclosure – Short VRX).

REVIEW

The US hit rebels in Iraq and a US General was killed in Afghanistan. Bank of America agrees to pay $17b to settle mortgage claims. Russia has implemented import bans in reaction to US and European sanctions over Ukraine. The Ebola virus has now killed almost 1,000 and has been declared a public-health emergency. The Sprint/T-Mobile deal falls apart.

Jeremy Grantham’s second quarter letter:

GMO_Grantham_Q2.14

Up & Down Wall Street

The column talks about the growth of part-time jobs, especially at the expense of those who want to work full-time. The June survey shows that about 23% of those who got part-time jobs would rather work full-time.

New claims for unemployment had a big decline to 284,000, lowest number since the last recession began. Unemployment rate is at 6.1% but wage growth is only 2.3% year over year.

STREETWISE

ESRX looks good now. Trades at13x,  10–year median is 17.4. Retention rate is predicted to be about 94% due to account managers that have left from the Medco purchase, but bears think it can be much lower. Earnings expected to grow 14% in 2015.

REVIEW

Money funds that serve institutional investors cannot stick to the $1 per share value and prices must reflect market values. Funds can also temporarily block withdrawals during market emergencies. S&P was about flat and the Dow was down 0.82% on the week. New home sales fell 8.1% in June.

Link to the research paper  by Thomas George and Chuan-Yang Hwang.

Here is the Abstract:

ABSTRACT

“When coupled with a stock’s current price, a readily available piece of information—the
52-week high price–explains a large portion of the profits from momentum investing.
Nearness to the 52-week high dominates and improves upon the forecasting power of
past returns (both individual and industry returns) for future returns. Future returns
forecast using the 52-week high do not reverse in the long run. These results indicate
that short-term momentum and long-term reversals are largely separate phenomena,
which presents a challenge to current theory that models these aspects of security
returns as integrated components of the market’s response to news.”

________________________________________________________________________
Some notes:

The 52-Week High and Momentum Investing Notes

Jegadeesh and Titman showed that a strategy that buys the top 10% and sells the bottom 10% ranked by 6-month returns and holds for six months produces profits of 1% per month. Others have documented long term reversals in stocks. Poorly performing stocks in the past will do better than outperforming stocks over a 3-5 year period. These are two different phenomena.

The 52-week high explains a lot of the profits from momentum investing. Traders are slow to react to good news. Nearness to a 52-week high outperforms a strategy based on past returns.

When stocks are close to the 52-week high, traders do not want to push the price higher even in the face of positive information that would justify the new high. Eventually information will move the price to a new high.

This might have to do with anchoring bias.

January has a negative effect on the 52-week and the momentum strategies.

The paper looked at three momentum strategies. They were:

1. Long (short) position in 30% of top (bottom) performing stocks.
2. Use industry returns. Long (short) position in stocks within the 30% of the top (bottom) performing industries.
3. How close the current price is to the 52-week high. Long (short) based on how close (far) the stock is from the 52-week high.

The 52-week high strategy outperformed and the outperformance was even greater when excluding January.

http://basehitinvesting.com/wp-content/uploads/2013/01/52-Week-High-and-Momentum-Investing.pdf

The great Columbia Professor Bruce Greenwald taped in 2005 at the Gabelli Value Investing Conference.

Lecture 1: https://www.youtube.com/watch?v=OT-U0oUFnEc#t=4728

Lecture 2: https://www.youtube.com/watch?v=kbuaqw0PZGk#t=6264

UP & DOWN WALL STREET

The market dropped more than 1% on Thursday hit by news of a Malaysian Airlines flight being blown out of the sky and the invasion of Gaza by Israel, in response to never ending rocket attacks on Israel by the Palestinians. However, by Friday, the scare seemed to be over as the market recovered most of its losses.

Janet Yellen, in Fed testimony, said that market valuations were not that far above historical averages but that “valuation metrics in some sectors do appears substantially stretched – particularly those for smaller firms in the social-media and biotechnology industries.”

A Fed report also noted that yield spreads on high-yield corporates and leveraged loans were very slim by historical standards. In recent weeks, HYG and HYS have seen pullbacks.

Doug Ramsey of the Leuthold Group says that smart money has been buying puts on the OEX.

Global bond yields are extremely low and the 10-year German bunds hit a record low yield of 1.13% on the 10-year. The 10-year treasury is under 2.5% and the 30 year is at 3.3%.

The legendary investor Leon Cooperman was on CNBC this morning. In the past Cooperman has stated that a market decline is usually associated with an on coming recession. Today, Cooperman makes the case that there is no sign of a recession on the horizon. Cooperman lays out five signs that a recession is on the way, they are:

1. accelerating inflation,

2. inverted yield curve,

3. rising inventory to sales ratios,

4. declining employment,

5. rising initial jobless claims

Currently, the economy doesn’t show any of the above. Cooperman says the question becomes, “How high is high?”

“At the end of the day we will get to euphoria but we are nowhere near euphoria [now].”