Bytes, Apple & the Atom

When the woman saw that the tree was good for food, and that it was a delight to the eyes, and that the tree was desirable to
make one wise, she took from its fruit and ate; and she gave also to her husband with her, and he ate. Genesis 3:6

The news of the final trading day of August, if it was news, decidedly didn’t seem particularly “new”. “Morgan Stanley analyst predicts S&P 500 could leap another 11% this year boosted by “Magnificent Seven” stocks”. So opined Fortune. Apple Ends Historic Winning Streat. The i Phone 15 can’t come soon enough” from Barrons. And finally, from MarketWatch, “Alphabet Inc. Cl A stock outperforms market on strong trading day”. The hottest month of the year didn’t exactly warm up the financial markets but, perhaps anticipating autumn, it certainly did bathe them in a sea of red. S&P Dow Jones publishes a collection of sixty indices at the end of each month. Of the sixty fifty were red with the thirty covering the domestic stock market containing only three not of that hue. For the S&P 500 it might have been worse as the index was down 4.7% by the 17th prior to rallying 3.1% to finish down 1.6% for the month. The negativity was more pronounced everywhere else as small cap stocks slid 4.1%, midcap stocks 2.8%, foreign developed markets 3.7% and emerging markets 4.4%. Ten-year US Treasury rates starting the month at 3.97% hit a peak of 4.34% on the 21st finishing the month at 4.12%.

The most pronounced sound for those listening to the financial markets may have been that of the towels being tossed in by those market observers harboring opinions bordering the optimistic on the economy or the financial markets. The recession, though deferred, is most certainly coming. Inflation, though indisputably lower, may soon reverse course though that may not matter since Jay Powell seems determined to throw the rocks of higher interest rates until something breaks. The stock market is certainly overvalued, and US federal finances are in a state not too far distant from the catastrophic. Rather than seeking to speak truth to the market though, perhaps it might prove to be more profitable listening to what it is saying. Homebuilding stocks are up 20.6% in the past three months, more than twice the S&P 500’s 8.3%. The returns on those stocks most sensitive to the rate of economic growth are now outperforming those stocks least sensitive to it at a rate that is at ten-year highs. Finally, one of the best contrarian indicators has proven to be the rate of change at which investment strategists are lowering their price targets for the stock market. Century to date those levels have only been exceeded in 2003 and 2009, years AFTER major bear markets. What’s not to love?

Peter Thiel is famous for having said “you can invest in companies that deal in bits or you can invest in companies that deal in atoms.” This was his exhortation to invest in companies that are asset light and knowledge intensive (technology) rather than those that are asset heavy and make stuff composed of atoms (industrials). Certainly, those who took his advice when he spoke those words in 2014 have been well rewarded. In 1997 the services share of the economy was 80% larger than that of the industrial. Today it is 170%. Interestingly though, there are a collection of businesses that exist within the Industry sector of the stock market whose returns have nearly doubled at 260% the 131% return of the Information Technology sector in the past five years. Companies composing that industry such as WillScot Mobile, MYR Group, IES Holdings and Primoris Services are not exactly household names. The companies we are discussing are in the Construction & Engineering business.

Could it be that our economy is migrating to a new era in which the rewards are earned disproportionately by those companies which make rather than break things? A not small part of the story here is that the industrial part of our economy has now reached a size where even modest shifts in favor of the industrial part of our national economy represent very large changes in revenue and earnings for companies that are just not that large. WillScot Mobile (WSC) for instance had revenues in the second quarter of $582 million versus Apple’s $81.80 billion, with the latter company’s market capitalization of $2.93 trillion exceeding that of the former’s $8.092 billion, making Apple 362 times more valuable. Finally, the Bureau of Labor Statistics (BLS) employment growth forecast for the period 2021 to 2031 is interesting with the five greatest expected growth rates being Support Activities for Mining, Electrical Equipment & Component Manufacturing, Power & Communication Lines & Related Structures, Utility System Construction and Building Construction.

As mentioned above, for investors August was a veritable sea of red but it might have been, and actually was intra month worse, as 60/40 equity/fixed income portfolios finished down for the month 2.6% but better by 2% than their levels on the 17th of the month. Only equity investors holding concentrated exposure to energy stocks saw green while everything else wasn’t. The equity share of portfolios, though down 2.6% for the month, is still showing handsome returns of +14.6% year to date. Fixed income though continues to lag as higher interest rates percolate their way throughout the yield curve creating negative returns of 2% for the month and -4.5% for the year leaving portfolios with returns of 7 ½% year to date.

Mark H. Tekamp/September 2, 2023

Fine Without China?

The sun sets behind the mountains and the Yellow River flows into the sea;

To thoroughly enjoy a thousand mile sight, climb up another level – “Climbing Stork Tower” – Wang Zhihuan

August 1st’s Wall Street Journal’s celebration of July’s stock market rise headlined “S&P 500 Extends Winning Streak to Fifth Month of Gains” was subdued with another story that day cautioning “Earnings Season Threatens Lofty Stocks. The Benefit of Owning Stocks Over Bonds Keeps Shrinking”. Indeed, though concerns about imminent recession and persistent and elevated inflation have continued to fade, there is also the reality of longer-term interest rates rising, a 14% increase in oil prices and the US Treasury’s announcement on July 31st of its plans to borrow in excess of $1 trillion dollars in the 3rd quarter. Issues that offer questions with uncertain answers.
The writer of this commentary proposes to discuss the influence of China in the life of the US economy and financial markets in less than one page, seeking to accomplish an objective that others have sought to achieve through a much more profligate use of words. The reason is that it is becoming increasingly apparent that the imbalances of the relationship between the two countries have now reached such extreme levels that the time of their reversal has grown near. That poses the prospect of dramatic change as well as challenges for the global economic and financial markets over the next ten years. So, it may well be wise for us to expend the effort to understand these changes and challenges; an effort we will attempt to accomplish through our exploration of four specific topics.

First is that while China’s and the US’s economies have a profound influence upon one another, they are in no way similar. The foundation of our economic system rests upon the employment of capital where it is possible for it to earn the highest rate of return. China’s economic system, in contrast, can best be described as a communal form which seeks the highest level of output through the full utilization of employment and other resources. This explains what is often referred to as “the hollowing out” of our economy as much of our economic capacity has migrated to China and its much lower costs of production. This is reflected by investment representing 43% of China’s economy versus 21% of our own, with personal consumption composing 68% of the US economy versus 38% of China’s.

Why this matters (point #2) is because China’s trade surplus with this country, $383 billion in 2022, is financed through its employment of debt which, since the global financial crisis of 2008, has grown at a rate much faster than its economy. While its total debt in relation to the size of its economy is half that of the US, our economy, when measured on a per-capita basis, is six times greater. This means that China’s ability to service that debt is one-third of that of our own. The global economic system must ultimately balance and so China’s trade surplus is the mirror image of US federal budget deficit, which now exceed the size of the US economy for the first time since World War Two. As the economist Herb Stein posited in 1986, “if something cannot go on forever, it will stop.”

Point #3. In 2000 China represented 7 ¼% of the global economy. It is now 18 ½% with that country the source of one-third of global economic growth the past forty years. It is the producer of 60% of the world’s cement, 50% of its steel and is the consumer of more than 50% of its aluminum, coal and iron ore. As a significant share of the world’s manufacturing capacity migrated to China, the cost of manufactured goods declined, leading to lower levels of inflation, falling interest rates and rising levels of global debt. Much of China’s trade surplus with the United States, and its resulting accumulation of US dollars, was recycled back to the United States through its purchase of US treasury securities, freeing up capital in this country for employment in the financial markets, explaining at least in part, the long running bull market in US equities.
Our final point is that the current geopolitical tensions between the United States and China should perhaps be understood as an effect rather than a cause. The two countries are destined to “decouple” from one another, not entirely but to a significant extent, because, quite literally, we can no longer afford one another. Each will go its own way and that, in the economic and financial sense, changes everything.

The July stock market was a dispenser of equal opportunities as the share of the market participating in the recent uptrend broadened significantly with the 5.5% rise in small cap and 4.1% in mid cap exceeding the 3.2% of the S&P 500. The value share of the S&P 500 returned 3.4% versus 3% for the growth, and energy stocks’ 7.3% return notably outpacing technology’s 2.6%. 60/40 portfolios returned 3% for the month with the slightly negative returns on the fixed income 40% pulling down the 3 ½% contribution of the equity 60%, leaving portfolio returns at 10% year to date.

Mark H. Tekamp/August 6, 2023

The Recent Past Won’t Last

Yesterday is a mystery-where it is today; While we shrewdly speculate flutter both away

Emil Dickinson – “Yesterday is History”

“Market Monster 2023 Rally Defied All Expectations” read the headline in the July 1st Wall Street Journal. “Stocks burst out of a bear market with the Nasdaq Composite up 32% posting its best first half of the year since the 1980’s” began the story. Interestingly, 2023’s first half return for the S&P 500 of 15.9% places it as tenth best in the years since 1951 serving as a counterpoint of 2022’s -15.6% as the third worst. (note that these are “price only” returns and do not include returns attributable to dividends). While technology stocks continue to grab the headlines Carnival Cruise Lines was the month’s best performing stock returning 67.7% for the month and 133.6% for the year with Delta Airlines the fifth best up 30.9% and 44.7% respectively. Providing further evidence of the notable broadening out of the market in June was the outperformance of small cap and midcap stocks returning 8% and 9% respectively versus the S&P 500’s 6 ½%. For those keeping score the S&P 500 is now just 6% from reaching its all-time high of January 3rd of last year.

With the rising temperatures of summer seemingly having sent the bear population back into hibernation perhaps it might be helpful to recognize the existence of some creeping shadows whose outlines are becoming visible. While not necessarily having a significant impact on our economy until next year we should not forget that equity markets tend to begin to discount such events approximately six months prior to their actual appearance. In the interests of brevity, we’ll focus upon just three; mortgage and student loan payments, the downward migration of the number of job openings in relation to job applicants and the coming depletion of the surplus savings of the US population.

The market for single family homes in the US is composed primarily of the resale of existing homes as that volume exceeds the purchase of new homes by a factor of seven to one. The average mortgage payment in this country is $1672 and most of those are fixed at rates of between 3% and 5%. At current interest rates the average payment is now $2300. Homeowners have been loath to sell their homes as evidenced by a near 20% decline in the volume of existing home sales year over year which has acted to support housing prices. The decision to move though, in most instances, is one that can be deferred but not postponed. Gradually, owners will sell, buyers will buy, housing prices will adjust downwards and increasing numbers of households will be faced with notably higher monthly mortgage payments. Add to this the US Supreme Court’s ruling on June 27th that 42.3 million Americans who have enjoyed three years of forbearance on making payments on their $1.6 trillion in student loans will need to start making payments in October on those loans averaging $275 month.

Investors stepped into 2023 being continuously reminded, by almost everyone with an opinion on the subject, of the inevitability of the coming recession. This year is now half over, and an increasing share of those prognosticators have come to believe that our national economy may slow but will continue to, at worst, muddle along. A significant likely contributing cause to our having avoided more challenging economic circumstances is the $2.6 trillion we received, primarily from the federal government, for pandemic relief. We’ve spent that down to $1.2 trillion as of April and, at the current rate of their depletion, household savings will be back to their pre-pandemic levels in just about a year.

Finally, many have been struck by the plethora of “help wanted” signs just about everywhere one is able to spend their money, as prominent as American flags at a 4th of July parade. This is a significant contrast to the first eighteen years of the 21st century when those seeking work outnumbered the jobs they were seeking. That started to change even prior to the pandemic but by the onset of 2021 job openings outnumbered those seeking them by over two to one. Currently we’re at 1.6 with that rate heading steadily lower. With that rate still elevated, workers losing jobs can easily find another so the slowdown in the rate of new job creation has not yet translated into higher rates of unemployment. But should the economy continue to experience a decelerating rate of growth, those losing jobs will end up becoming unemployed and the rate of growth in wages will lessen.

Ok. The end of June is the end of the month, end of the quarter and end of the first half of the year so lots of numbers. So far this year it’s been up to the equity part of the portfolio to do all of the heavy lifting of creating positive portfolio returns. Year to date the 60% of the portfolio that is invested in equities has returned 13 1/2% but with portfolio returns over that time returning +7% the 40% fixed income share has contributed -3% as stubbornly persistent and elevated interest rates remain that way. June contributed 6% or just under half of equities’ year to date returns. The great majority of the second quarter’s earnings were earned in June and roughly equal shares of those 7% portfolio returns were earned in both the 1st and 2nd quarters.

Mark H. Tekamp/July 8, 2023

Heads & Tales – December 2020 Commentary

“Facts are stubborn things; and whatever may be our wishes, our inclinations, or the dictates of our passion, they cannot alter the state of facts and evidence.”
-John Adams, the 2nd President of the United States

Investors may not be currently celebrating all aspects of the current state of their lives, but it would be understandable if they were to pause to tap their pocketbooks an extra time or two and proffer a smile. Three months ago, investors were celebrating near breakeven, but the 4th quarter made it a year of some cheer with the average 60/40 equity/fixed income investor up 11.2% for the quarter and 13.7% for the year.

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At times, from the perspective of portfolio management, its best to spend the entirety of the twelve months dancing with “the one what brung you” but for this year’s 4th quarter it would have been an excellent idea to “change partners”. The S&P 500 was +18.4% for the year and +12.1% for the quarter. Not bad. Small cap stocks though were +31.3% for the quarter but a more modest +11.3% for the year. Financial stocks were +23.2% for the quarter but -1.7% for the year. Technology was up 11.8% for the quarter matching the return of the S&P but their +43.9% for the year more than tripled it.

Inflection points, as they relate to financial markets, are particularly challenging because they happen very infrequently and yet when they do, a great deal that we found to be useful in understanding the past is of limited value in our understanding of the future. We need a new playbook because we’re playing in a different game.

So, lets pause and entertain a number of “what if’s”. What if both inflation and interest rates are no longer going to remain at these levels but will instead be heading higher? What if we are poised to experience a migration in the “balance of power” from the financial markets to the real economy resulting in the returns of the financial markets becoming increasingly dependent upon the return those assets earn in the real economy? What if we are entering into a renaissance of work where working people earn more and capture more of the wealth that they create?

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Lest the commentator be thought to have lingered too long at the holiday punch bowl, lets add some facts to support this forecast of future reality. Central Bankers. The good news is that they do have the ability to learn from their mistakes. The better news is they’ve made plenty, so they’ve learned a great deal. After the Global Financial Crisis Ben Bernanke set out to save the financial system. And he did. Then he set out to help the economy by lowering interest rates believing that lower rates would lead to an increased demand for borrowing. But they didn’t as households were more focused upon survival than lifestyle enhancements. So, all that money the Federal Reserve, and other central banks around the world, created got stuck on their balance sheets instead of flowing into the real economy.

The United States Government is aware that as it seeks to carry the economy through the pandemic the key to its success will be to migrate money from central bank balance sheets to household bank accounts. This year the budget deficit will be our friend as it will create additional economic demand as well as contributing to the wave of liquidity that will support the financial markets in the year ahead. That increased amount of money in your pocketbook? Spend some of it!

Mark H. Tekamp January 3, 2021

Rotation Flirtation – November 2020 Commentary

“Change is the law of life. And those who look only to the past or present are certain to miss the future.”

– John F. Kennedy

November may not have included Christmas, but it certainly left investors feeling thankful. The best single month for the Dow Jones Industrial Average since 1987. The best November for the S&P 500 since 1928. The DJIA was up an eye watering 12.14% for the month, the S&P 10.95%, small cap stocks 18.17% and foreign developed markets 15.26%. At the end of October there were pockets of green surrounded by nearly equal areas of red. One month later global stock markets look like the Emerald Isle.

The four strongest sectors leading the S&P higher for the month were, in order of their performance, Energy (+25.85%), Financials (+16.90%), Industrials (+15.97%) & Materials (+12.51%). Interestingly, since 1960, there have been only three other periods when these four sectors were simultaneously up over 10% during the same two-week period, 1973, 1981 and 2008. Those prior three instances occurred either late in recessions or early in an expansion. On average the market was up 24.3% one year later. Perhaps in 2021 Christmas will be a twelve-month holiday!

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Much commentary on the market has sought to explain November’s gains through the perspective of public policy responses to the pandemic such as the rolling out of vaccines, the possibility of additional stimulus or other means of encouraging economic activity but the numbers may actually be telling us the economy is not only not on life support but actually dancing. Corporate earnings in the 3rd quarter were HIGHER than those of the 4th quarter of 2019 and are now at their highest levels in history. Home sales are UP 41.5% versus a year ago and 29.1% from January. The inventory of homes available for sale has collapsed from 6.8 months in April to 3.3 in October, the LOWEST level on record going back to 1963. New orders for durable goods, a key measure for business investment, are up 43.7% from their April lows and are now just 2.2% below their February pre-pandemic levels. Behind the dark print of most news headlines lies a great deal of positive economic sunshine!

Proponents of portfolio diversification have at times in recent years felt like a traveler waiting at the station for a train whose arrival seems to be perpetually delayed. $10,000 invested in the S&P 500 ten years ago is now worth $39,447. Had those funds been invested in foreign developed markets that same $10,000 would have grown to only $17,425. Invested in the half of the S&P described as value stocks that amount of money would have grown to $28,548, not bad but significantly less than the $45,777 reward for having invested in the other half of the S&P representing growth stocks. US small cap stocks performed at a rate equal to three-fourths that of the S&P growing to $27,661. Technology stocks would have grown to $57,235 and Energy stocks would have SHRUNK to $7,676.

November delivered to investors the most dramatic change in stock market leadership since 2008. S&P value stocks were +12.88% versus growth’s +9.70% though their year to date returns are -2.07% and 28.24% respectively. The S&P’s 10.95% return for the month was exceeded by foreign developed markets 15.26% but the S&P is +14.02% versus foreign 5.33% for the year. Energy stocks were +28.03% for the month more than doubling technology’s 11.43% but the latter is +36.08% for the year while energy stocks are still in the basement -36.47%. Is the market changing its melody? Stay tuned!

Mark H. Tekamp December 2, 2020

 

Know Member – October 2020 Commentary

“When we make the unfamiliar familiar, make the unknown known, make the uncomfortable comfortable…we can then expect the unexpected” – James K. Glassman 

The writer of the article in Friday, October 30th’s Wall Street Journal was clearly mystified. Even the headline for the article was mystifying. “Pandemic Brings New Restrictions on Restaurants and Retailers as Demand is Rising”. The article went onto include the following passages. “Surge in U.S. Coronavirus cases comes as more people are dining out and stores struggle to find workers ahead of holidays. Outback Steak House’s president says the chain hasn’t seen a drop in dining demand since Covid-19 case counts started climbing again this fall.”

Most commentaries on the outlook for the economy are as chilly as the looming Winter weather. Following are some quotes from someone who is generally considered to be an economic optimist. “Challenging times abound”, “stimulus tailwinds are fading, and economic growth appears likely to slow down until more stimulus is passed and/or a vaccine is widely distributed.” Most American’s believe in their ability to pursue what they believe to be reasonable precautions to safeguard their health and that of others but Americans want their lives back and it’s a pretty good wager that happens because, as the above quotes from the Wall Street Journal indicate, it is already happening.

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How badly was our economy damaged due to the public policy response to the pandemic? In the second quarter of this year the reported decline was 34.3% but that was a one-quarter figure annualized. Americans could be forgiven for being under the impression that our economy had shrunk by a full third in three months. For some clarity, it may be helpful to look at the size of the US economy over the prior three quarters for a more accurate measure of where we were and where we are. At the end of 2019 US GDP was at 21.73 trillion, at the end of 2020’s 1st quarter 21.54 trillion, 2nd quarter 19.41 trillion (a decline of 2.04 trillion or 9.5%) and at the end of the 3rd 21.16 trillion (an increase of 1.64 trillion or 8.4%). So that leaves us down $570 billion through the end of the 3rd quarter of this year or 2.6% so if the 4th quarter number is one-third of the 3rd quarters we’ll be back to where we started the year.

Friday’s Wall Street Journal also included the cheery headline “Market ends worst month since March”. How bad was it you ask? Well, the venerable Dow Jones Industrial Average was down 4.53% for the month and is down 5.38% for the year. The S&P 500 fell 2.66% but is still positive 2.77% for the year. Something curious though happened in October’s market. Mid-cap stocks were UP 2.17% and Small Cap stocks 2.58%. This looks more like a sector rotation than a flight to safety. US Treasury yields were up modestly but high yield bond yields declined. Europe was down 5.62% but Asia was up 4.81% perhaps providing evidence that it may not be the pandemic that is driving markets so much as market’s fear of how public authorities will choose to respond to it. Emerging markets were up 2.04% and Frontier Markets, which are the highest risk equity markets on Earth, were up 4.19%. For 60% equity/40% fixed income portfolios returns were a negative 1 ¾% leaving portfolio returns year to date positive though barely so.

Christmas is coming. The best is yet to come! And yes Virginia, and for you who live in other states, there will be a pandemic pause!

Mark H. Tekamp October 31, 2020

Vive la Resistance! (Not)! – September 2020 Commentary

“Don’t try hard to explain, but try hard to prove it.” – Abhiyanda B

Observers of the market have long been divided between those who believe the stock market is a mirror reflecting the image of the state of the economic and financial environment to the world, the fundamentalists, and those who believe the market ultimately contains within itself its own explanation of market movements, the technicians. Fundamentalists speak in intelligible terms about economic growth, increases in corporate profits etc. Technicians speak a language of their own employing phrases such as daily moving averages, support and resistance and other such esoteric terms.

September was a month that market technicians live for. In late April, almost one month to the day from the market low in March, the S&P 500 broke above the average level of its past fifty trading days and while coming close to trading below that level in late June it passed that particular test and the market continued onwards and upwards reaching its high for the year on September 2nd. From that point, the market experienced its most notable decline in the past six months falling 9.6% by the market close on the 23rd. The market then recovered modestly by almost 4%, sufficient to lift the market back to, guess what, its nearly exact fifty day moving average. Technicians view this as “the classic sign of a coiling market” meaning that in the very near future the market will likely reveal its trend for the next several months by either successfully clearing that level which is referred to as “resistance” (akin to a ceiling) after which the market likely continues to move higher and that level transforms itself into a “floor”, a level below which the market is unlikely to decline below, or the market will decline further and that level will become a “ceiling” for the market while it works its way lower. Pretty exciting stuff, right?

Back in the real world of earth, sun and sky the economy continues to mend quite nicely. The “glass half empty” crowd pointed to the non- farm payrolls increase of 661,000 for September as a disappointment but furloughed public school teachers, the numbers for whom appear in the public payrolls figure, obscured the good news of an 859,000 increase in private sector payrolls, a BETTER than expected number representing a 54% recovery of those jobs lost due to the COVID shutdown. The ISM manufacturing index number released on October 1st also offers evidence of a continuing strong economic recovery. The “half empty” crowd will counter that unemployment benefits are about to terminate and the likely absence of a COVID virus vaccine this year. Nonetheless, the balance of evidence reveals that the V-shaped recovery lives and will get stronger before it doesn’t.

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Market participants get to choose their headlines. September was the weakest for that month in almost ten years with the S&P declining 3.80%. Nonetheless, the S&P was up 8.93% for the 3rd quarter and with its following a strong 2nd quarter, the market has experienced its best two-quarter performance since 2009. The smart trade for the month with perfect hindsight would have been to sell one’s winners and add the proceeds to one’s losers, excepting the woebegone energy sector which wouldn’t have any news if it weren’t for bad. S&P growth stocks were down 4.7%, twice value’s 2.40%, though growth is up 20.6% for the year while value is down 11.40%. Foreign developed and emerging markets also outperformed, falling back “only” 2.20% though both are negative for the year 5.24% and 1.97% respectively. Bonds did their job by returning approximately 1.50% for the month offsetting the 3.30% negative equity return leaving the typical 60 equity 40 fixed income portfolio -1.78% for the month and positive 3.80% for the year.

Mark H. Tekamp October 3, 2020

The Apple of Your I Shares – August 2020 Commentary

“The high demand for the asset is generated by the public memory of high past returns, and the optimism those high returns generate for the future. The feedback can amplify positive forces affecting the market…” -Robert Shiller

 

The headlines of the stories detailing the stock market’s return in the month of August are the material of which investor’s fondest summer dreams are made. “Best Five Month Stretch in 82 Years”. “Stocks Close Higher in Another Historic Performance.” “S&P Extends Their Winning Streak With Another New All-Time High.” Indeed, August’s 7% return increasingly makes this year’s market low of -30.75% on March 23rd seems increasingly like an episode in a season of some other year.

At the end of June, the market was still off 4% but with July’s 5.6% return and August’s contribution the S&P is now up 9.7% for the year. For investor’s with a 60% equity and 40% fixed income and cash allocation the first quarter offered a 15 ½ % loss succeeded by the second quarter’s 16% gain. The first two months of the third quarter have provided a 7% positive return quarter to date so most investors have entered “the green zone” in August for the first time in 2020 since late February.

Investors understandably tend to focus upon the “headline numbers” as a source of much of their understanding of the stock market. The Dow Jones Industrial Average and the S&P 500 are the numbers most of us hear or read about and use to gauge the nature of “the stock market weather”. Since the Global Financial Crisis of 2008-2009 though, investors have been living through markets in which the “rising tides” of those markets have lifted a good many of the vessels (stocks) traveling upon it a great deal less than others.

In focusing upon the market at large we sometimes forget that it is company’s earnings that are the ultimate driver of individual stock returns and that those earnings are very much determined by the dynamics of the industry in which that company operates. Block Buster would have got you “busted” and Amazon gets you, well, just about everything, including extraordinary stock market returns. The companies composing the US market are divided into eleven separate industry groups and the variance in the rates of return of the company’s inhabiting those separate industries year to date have been truly extraordinary with five of the eleven still posting negative returns through August (ranging from Energy – 39% to Industrials – 3.2%) and six positive (ranging from Materials +4% to Technology +36%).

The influence of each of the eleven industry groups upon an  index such as the S&P 500 varies dramatically based upon the market values of the company’s inhabiting those groups with the smallest, Energy, representing 2.33% of the index and the largest, Technology, 28.76%. Thus, an equal per-centage change in the performance of Technology stocks will have a 12 1/3 greater impact upon the return of the index than would Energy.

The weightings of the industry groups also change significantly over time due to the evolution of our national economy and the market’s degree of affection for a specific market sector. For instance, Technology’s and Energy’s weighting in the S&P in 1995 were 9.39% and 9.14% respectively. That year investors would have been wise to have sold their Energy stocks and reinvested the proceeds into Technology stocks as by 1999 those respective weightings had changed to 29.2% and 5.5%. Investors though, with perfect foresight, would have also been wise to have reversed that particular trade as by 2008 Technology’s weighting  declined by almost 50% to 15.4% and Energy’s share increased by almost 40% to 13.1%. When it comes to the market the only constant is change!

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This year’s market though has taken the ebb and flow of the fortunes of the various market sectors and elevated them to a level rarely, if ever, experienced. Technology stocks are positive 36% year to date and represent just over one-quarter of the market. The market (the S&P 500) is positive 9.74% so in the absence of the contribution of Technology there is very little return at all being contributed by the remaining three-quarter’s of the market!

Apple’s weighting in the Technology sector is 17.7% and the stocks return year to date through end of August is a sizzling 76.6% contributing 13.5% or almost 40% of the 36% return of the Technology sector. Truly for 2020 to date Apple is “the apple” of your I shares or Vanguard or other Exchange Traded Funds (ETF’s) that many investors are using as the source of their stock market exposure.

Mark H. Tekamp

September 5, 2020

Bear Pause – July 2020 Commentary

“We can complain because rose bushes have thorns, or rejoice because thorns have roses.”

Alphonse Karr, “A Tour Round My Garden”

Most investors have experienced a journey this past seven months resembling a round trip returning them to where they were at the onset of the year. Since the March 22nd market lows, portfolios with a 60/40 equity-bond allocation have generated a 30% return thereby, thankfully, resulting in their having insufficient time to adopt as their anthem Janis Joplin’s song lyric “sometimes you don’t know what you’ve got ‘till it’s gone”.

 

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July revealed a disconnect between the economic news and the performance of financial markets. In the three months of the second quarter the S&P 500 was up but at a decelerating rate of 12.7%, 4.5% and 1.8% for each of its three months but in July it reversed course rising 6%. Meanwhile, while new COVID-19 cases in Europe continued to decline to levels close to its disappearance in some countries while levels in the US increased to 50,000 daily representing 25% of the world’s reported cases.

The disconnect carried into the reported economic data with the US economic recovery evidencing signs of deceleration as parts of the US reversed their earlier steps towards the reopening of their economies while the economic data flowing out of Europe indicated their economies recovering at rates now exceeding that of the US. This reversal of fortune may be the source of the news items that captured the attention of market observers as gold made its first new historical high in ten years and the dollar experienced its greatest one month decline since April 2011. Curiously though, in contrast to the US, the equity markets of those very same economies, foreign developed markets, posted negative returns in local currency terms though US investors experienced modest positive returns due to the approximately 4% decline in the value of the US dollar.

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The current investment landscape is littered with additional signposts seemingly pointing in opposite directions. 63.6% of US households are optimistic about their personal finances which is near its high water mark this past ten years but only 21.6% are optimistic about the current state of the national economy thereby seemingly indicating that many of us view the current economic and financial challenges as someone else’s problem. An additional indicator that levels of pessimism about our economy may be exceeding its actual condition is that 79% of US corporations reporting earnings quarter to date are reporting numbers that exceed those expected, the highest “beat rate” of the twenty-one plus years of the 21st century to date.

The S&P 500 is up 46% from its March lows but market sentiment indicators reveal that twice as many investors expect the market to decline rather than continue its recovery. In fact, the indicators show a state of investor psychology that has rarely been so bearish. For twenty-three consecutive weeks bearish sentiment has exceeded bullish. The last time this occurred was in 1987. The six month average for market sentiment indicates twice as much bearish as bullish sentiment for the first time since the Global Financial Crisis on 2008-2009. The interesting difference between then and now is that rather than the market having gone down 40% as it had in March 2009 its up by that same amount.

Confirming that opportunity represents the distance between expectations and reality there have been thirty-seven prior instances where the six month average of bearish sentiment exceeded that of bullish by 12% since 1987. In the following three months the average return for the market was 10.7%, 15.12% in six months and 22.6% one year. NOT ONCE IN THOSE THIRTY-SEVEN INSTANCES WAS THE MARKET LOWER ONE YEAR LATER.

 

Mark H. Tekamp

August 2, 2020

Division Indecision – June 2020 Commentary

“It is wiser to find out than to suppose.” – Mark Twain

The morning’s Wall Street Journal is a sort of caricature of how similar our current perception of reality resembles that of a clam shell, joined together with a modest amount of membrane but more separate that together. The Dow Jones Industrial futures indicate an opening (this is written prior to the market open on July 6th) positive 382 points or 1.48% but with the day’s headlines including “U.S. Coronavirus Death Toll Nears 130,000 as Infection Rate Surges”, “Coronavirus Hits Nation’s Key Apple, Cherry Farms” and “Behind Oil’s Rise Is a Historic Drop in U.S. Crude Output”.

The division in people’s perception of reality is reflected by a similar division in the market itself. In the current year’s first quarter the S&P 500 was -19.5% but in the second it was +20.5% leaving the index down 3.1% at the year’s midpoint. Hiding behind the market’s near break even performance though was a dramatic variance of fortune among its the eleven industry groups with Energy stocks down 35%, Financial stocks down 23.6% and Technology stocks up 15%. Given Energy and Financial stocks concentration in the Value portion of the market the S&P 500 Value Index is down 15.5% while Technology stocks,  concentrated in the S&P 500 Growth Index, results in that index being up 7.9%.

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Bulls and Bears are united in acknowledging the existence of recovery in the U.S economy but separate in their opinions related to the recoveries durability and rate of increase. Bears point to the seven-day moving average of new Coronavirus cases bottoming at 21,282 on June 9 having increased to 39,662 on June 28, an 86% increase in only 19 days. Bulls point to a similar 84% decline in the number of Coronavirus deaths from their peak on April 19th to their level on June 28th.

Even those not wishing to wade near the hazardous shoals of the politics of the pandemic should be able to agree that if it is not disappearing it is nonetheless migrating as states such as New York and New Jersey which previously experienced the highest levels of lethality have seen substantial declines in those rates while states such as Texas, Arizona and Florida have reversed some of the measures they had undertaken previously to reopen their economies. Also of interest is that the three countries reporting the largest number of virus related deaths, Brazil, Mexico and India, were in April experiencing very low fatality rates while countries such as Spain, France, Japan, and South Korea, which were among those countries first experiencing the pandemic in March and April, two day’s ago on July 4th reported zero virus related deaths.

If opportunity is equal to the distance between perception and reality then is remains quite possible that the opportunity to profit in the equity markets continues to be significantly greater than most believe it to be. Here I’ll draw upon the wisdom of James Carville who, back in the 1990’s, was quoted as telling the then presidential candidate Bill Clinton “it’s all about the economy…”. When it comes to forecasting the prospects for the stock market over the next six month’s I’ll echo Mr. Carville’s sentiments with “amen” and “amen”.

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Our friends at Vanguard have been relatively constructive on the outlook for the U.S. economy these past several months. This past Thursday they forecast a decline in the U.S. unemployment rate to 10% by year’s end. That same day nonfarm payrolls were reported to have risen 4.80 million in June verses an expected gain of 3.23 million resulting in a decline in the reported unemployment rate from 13.3% in May to 11.1% in June. The past two months have seen a recovery of one-third of the payrolls lost in March and April. What if in December of this year the unemployment rate was at 7%? Think that number has yet been fully discounted by this market?

Looking through the rearview mirror at the economic damage caused by the pandemic is still a jaw dropping experience.

The week of May 20th the numbers of individuals boarding outgoing flights was 10% of that of year ago levels. The week of July 1st it was 25%. In February new automotive sales were at an annualized rate of 17 million. In April in was 9 million. In June 13.3 million. For the week of June 28, 2019 9,492 thousand barrels of gasoline were consumed by motorists on a daily basis. For the week of April 24th of this year it was 5,860. For the week of June 26th 8,561. In January of this year 780,000 single family homes were sold in this country. In April 580,000. In May 680,000. These numbers show an economy well on its way to recovery and yet still some significant distance away from the economy we were experiencing at the beginning of this year.
This market wants to go higher. That is a good thing. These have been very difficult times but the future contained in these next several months will be much better. If this is, as I believe it to be, true, then this is something we can all celebrate together.

Mark H. Tekamp

July 6, 2020