Questioning the Bulls’ Faith
Jonathan Laing says the market might be setting up for a fall and bases his argument on valuation. First, p/e ratios are overstated at 16x forward multiple. Earnings are overstated because of low interest rates. Profit margins, which are high now, will revert to the mean.
John Hussman looks at price to sales, which is currently at 1.67. This is the highest level since the market high in 2000 and double the norm. Hussman, who has been looking for a big market fall for a few years, sees a 40% drop within the next couple of years.
Laing suspects that ETFs will be the weak spot in the next market fall. ETFs are up to $1.7 trillion and have been untested in a big market sell off.
FOR RAYTHEON, A COUNTDOWN TO LIFTOFF BEGINS
RTN can advance 20 to 30%. Trades at 13x 2015 projected earnings and at a 5% discount to the SP500 with a 2.5% yield. A budget deal will assure stability for a couple of years. EPS was $5.96 in 2013, could be $6.74 this year and $10 by 2016. FCF yield is just under 8.5%.
EXPENSIVE BUT WORTH IT
Google and Red Hat look good, but Twitter, NFLX and AMZN are still too high.
COMING UP ROSES
Home Depot at $77 can get to $95 in the next year. Priced at 17.4x this year’s expected earnings. Company has strong management team. Same store sales were up 6.8% in 2013. $3.76 EPS in 2013, expected $4.43 this year and $5.12 next year. Long term growth of 16.4%. HD has an 11.6% operating margin versus 7.9% at Lowe’s and an inventory turnover rate of 4.7 compared to 3.9 at LOW and 3.8 at Sears. ROE is 35.5%. Buying back $5 billion per year in stock and dividend yield is $1.88. The housing rebound will be the big tailwind.
BEWARE HIDDEN RISKS IN HIGH-YIELD FUNDS
Many low duration, high-yield funds might hold bonds that have a call feature. They are assuming the bond will be called, but if not, duration expands. According to Matt Conti of the Fidelity Total Bond fund, if you look at the Bank of America Merrill Lynch High Yield Master Index, the current duration is 3.5 years but if priced to maturity instead of the call date the duration increases to five years.
In a negative market a longer duration can lead to a momentum effect that prompts more and more selling and lower prices.
Two good bets are BHYAX and AGDAX.
A NEW APPROACH TO VALUE
GVAL is a new ETF run by Meb Faber that owns 100 deep-value stocks in some of the most battered markets. Other value ETFs metioned are FEP and JFK.
DANCING WITH THE MARKETS’ 800-POUND GORILLA
A good interview with Rob Arnott. You should read the entire article in Barron’s, but a few quick quotes:
“The S&P is no bargain. But REITs are OK, and emerging-market stocks are downright cheap.”
“Commodities have gotten a lot cheaper after the crash in god, so they are mildly interesting again.” But they are sensitive to macro conditions.
“What is the real GDP growth of the past 40 years? It’s 2.1%. Yet if you say “I’m expecting 2% growth in the decades ahead,” your are viewed as a pessimist.”
“1% real annual GDP growth in the next 20 years would be totally unsurprising.”