Sell in May? Are you crazy, man?
That seemed to be the thought process as the markets had a very strong week. Emerging market stocks paced the global bourses, gaining 2.7% (global markets were up 1.8%). Wednesday’s Shanghai Surprise did not disrupt trading much: The S&P 500 gained 1.4%, to reach an all-time closing high of 1536. The Dow Industrials also set a new record, climbing 1.2%. The Russell 2000 index of smaller cap stocks saw some action, jumping a big 2.8%; the Nasdaq grabbed a 2.2% gain. Other big winners: The REITs, which were up nearly 6% on the week. Gold also gained 2.4%, while Oil as slightly negative.
This took place across a backdrop of weakening economic fundamentals, with GDP nearly flat, inflation rising, and job creation lackluster — all of which was of course promptly ignored.
This was the best May for the indices in years: In order, the Dow gained 4.3%, the Russell 4%, the S&P 3.3% and even the lagging Nasdaq notched a respectable 3.1%.
Equities weren’t the only things rising: Bond yields moved up, with the 10-year yield within spitting distance of 5%. This may hurt the argument that
stocks are cheap compared to bonds. Not surprising, Utility stocks suffered somewhat also.
Barron’s Trader column notes that:
"This sets up a delicate equilibrium: wobbly housing and auto sectors supported by the rest of the U.S. economy, whose modest growth is stoked by a weak dollar and strong global demand. How long the stock rally can extend will depend on the durability of this balancing act. And no, it’s not easy. Seriously."
Serious as a heart attack. No matter — we got you covered:
INVESTING & TRADING
• Global Bull Rides Boom in Loose Lending: The great global bull market in stocks rests heavily on the booming credit markets. But there are increasing worries about the soundness of that foundation. Never has credit been made available on such
advantageous terms to private borrowers, who are using it to pay for
mammoth private-equity transactions, leveraged buyouts, mergers and
acquisitions, or merely to repurchase shares. (Barron’s)• Jim Jubak points out that For bears, being right still hurts: But there’s something even worse than losing money when you’re a bear:
It’s losing money while knowing that you’re right. This stock market is
overvalued, as these market pessimists argue. This rally is built on a
flood of cheap money. Earnings growth is slowing. There are speculative
bubbles all over the world, from the apartment market in Spain to the
stock market in Shanghai. And yes, there will be a day of reckoning for
the global financial system. But in the meantime, while they wait for Armageddon and the days that
will divide the prudent from the reckless, bears are getting killed. (MSN Money) Ned Davis must have had Jubak in mind many years ago when he wrote the book: Being Right or Making Money.• I love the cover of this week’s New York Magazine: Who the @#$%! does Jim Cramer think he is? (By James J. Cramer)
• Are Hedge Funds Ruining Traditional Sentiment Readings?
• China’s alphabet soup of shares can be hard to digest: A curious thing happened as China’s yuan-denominated A-shares tumbled on Wednesday. Although they dropped by 6.4 per cent, the alphabet soup of other classes of Chinese company shares fell by sharply differing amounts. (The Australian)
• Chartistry: The Dark Arts of Wall Street (Conde Nast Portfolio)
• Is Carl Icahn the hottest investor in America? No longer the lone wolf, Icahn is more formidable than ever, having
built a team of two dozen associates to help him find targets and mount
his crusades. For Fortune’s exclusive look inside his kingdom,
Icahn, as well as his top dealmakers, sat down for several hours of
interviews in which they described the inner workings of an operation
that has boosted the total market cap of its target companies by more
than $50 billion in just over two years (see chart), spreading the
wealth among shareholders far and wide.• A Metal Scare to Rival the Oil Scare: Indium, gallium and hafnium are some of the least-known elements on the periodic table, but New Scientist
warns that reserves of these low-profile minerals and others like them
might soon be exhausted thanks to the demand for flat screens and other
high-tech goods. Scientists who have tried to estimate how long the
world’s mineral supply can meet global demand have made some gloomy
predictions. (WSJ’s Informed Reader)• Is eBay Rational?
You might think that if there’s one thing an economist should be able
to tell you how to do, it’s successfully list an item on the auction
Web site eBay. Auction theorists are, after all, celebrated in the
profession; one of them, Susan Athey, won the John Bates Clark medal in
April. (Slate)
• DON’T FEEL SO BAD, OUR COUNTRY IS TOO: Italians claim country run by Goldman Sachs: Italians grumble that Goldman Sachs runs their country, much as the Jesuits ran countries during the Counter-Reformation. Premier
Romano Prodi is an ex-Goldman Sachs man, as is central bank president
Mario Draghi and the deputy treasury chief Massimo Tononi. The
price paid for having so many friends at court is that the elite bank
inevitably becomes entangled in the financial scandals that so often
swirl around the Italian political class. (UK Telegraph)
ECONOMY
The Wall of worry continues to build:
• US economy nearly hit standstill in first quarter of the year The American economy almost ground to a standstill in the first three months of the year as a healthy rise in consumer spending was wiped out by an unexpected cut in the amount of stocks held by business. (The London Times)
• Rules ‘hiding’ trillions in U.S. debt: The federal government recorded a $1.3
trillion loss last year — far more than the official $248 billion
deficit — when corporate-style accounting standards are used, a USA
TODAY analysis shows. The loss reflects a continued deterioration
in the finances of Social Security and government retirement programs
for civil servants and military personnel. The loss — equal to $11,434
per household — is more than Americans paid in income taxes in 2006. Total liability is $516,348 per U.S. household. (USA Today)• Cars Outsell Light Trucks for First Time Since 2002:
More cars than light trucks were sold in the United States last month,
reports from the automobile companies showed Friday, as gasoline prices
nationwide soared to more than $3 a gallon. (New York Times)• Return of the Bond Vigilantes?
Fixed-income investors were dubbed "bond vigilantes" in the 1980s for
their readiness, willingness and even eagerness to drive yields higher
at the merest hint of inflation or if policymakers were suspected of
straying from the straight and narrow of prudent policy. They became so
powerful that Clinton adviser James Carville famously groused in 1993,
"When I come back, I want to come back as the bond market, because then
you can intimidate everybody." (Barron’s)
HOUSING• Wow, I could’ve had a prime mortgage: Imagine you’re a homeowner, and you discover that instead of the
expensive subprime mortgage loan you signed on for, you actually
qualified for a prime mortgage with much lower interest rates…"I reviewed several hundred [subprime] loans recently for our wholesale
division," said Allen Hardester, director of development for
mortgage-broker, Guaranteed Rate, "and all of them, with one exception,
qualified for a prime-rate loan." See also Mortgage rates move sharply higher (CNN Money)• Housing Freefall Continues Unabated
TECHNOLOGY & SCIENCE
• Transcript of the interview with Microsoft Chairman Bill Gates and Apple CEO Steve Jobs
at the D5 conference on May 30, 2007.• Updated FDA Food Pyramid (be sure to read thru the comments)
• Startup Search, a directory of the startup companies, products, investors, and people changing the web.
• Way cool mapping technology: Google Maps Street View and Microsoft Live flies around and through New York City.
MUSIC BOOKS MOVIES TV FUN!• Knocked Up is getting some surprisingly spectacular reviews: Industry bible Variety calls it "more explosively funny,
more frequently, than nearly any other major studio release in recent
memory." Is this the face of Hollywood’s next A-lister? (The Globe and Mail)• best of craigslist has some hysterical (but not safe for work) postings
• Colossal time suck: Everybody panic!
Hazy. Hot. Humid. Sticky. And thats just my underwear. Expect some Summertime sweltering this weekend, if you can get anywhere near the water, do so. Otherwise, stay in the AC and click away!
The Ultimate Money Machine
http://www.bloomberg.com/news/marketsmag/ai.pdf
S&P 500 P/E (average 4 quarters)
2003……26.2
2004……20.5
2005……18.7
2006……17.5
2007A…..17.0
2008A…..16.0
TTM S&P 500 P/E as of Friday’s close is 17.2 [1536.34/89.46 (Q1 2007) = 17.2]
Since 2003 S&P 500 has risen by 92% but S&P 500 P/E has declined by 35% (secondary to strong earnings growth)
It appears that current S&P 500 (P/E = 17.2) is undervalued if you compare it to 2003-2006 period (17.5 – 26.2).
Why do you think that S&P 500 is overvalued? (If it is overvalued now then it was overvalued during 2003-2006, it had higher P/E)
It appears that S&P 500 could easily reach 1600 in the near future. (Assuming there is no terrorist attack, no significant earnings growth deceleration, and no recession. [I could care less about Green Party propaganda – fictitious global warming myth])
you’re using earnings est’s based on the greatest profit margins and earnings of all time.if you just use the still very high profit margins of the 1990’s the p/e is over 27. WHAT PEOPLE KEEP NEGLECTING TO SAY IS WERE AT OR VERY NEAR PEAK EARNINGS. NO DIFFERENT THAN THE HOMEBUILDERS. ALL WERE SHOUTING FOR YEARS P/E’S OF 5 FOR CRAZY FRO HB’S THEN BAMM EARNINGS TANK AND NOW P/E’S 30. SAME THING WILL HAPPEN WITH STOCKS NOW.EARNINGS WILL TURN DOWN AS WERE AT HUGE CYCLICAL PEAK
A Metal Scare to Rival the Oil Scare: Indium, gallium and hafnium –
New Scientist is right , also will be shortages of germanium , in high demand for solar and other semi chips . But… being a finite earth , everything on (in the) earth could eventually “run out” . Makes one reflect a little . Looks like metals recycling is the market to be in . Well , maybe not quite yet .
Good stuff . Bill K.
Joe,
I am not sure what you mean by “you’re using earnings est’s based on the greatest profit margins and earnings of all time”.
I used data from Standard & Poor’s website.
S&P 500 Historical Average Price to Earnings Ratio
http://www2.standardandpoors.com/portal/site/sp/en/us/page.topic/indices_500/2,3,2,2,0,0,0,0,0,5,5,0,0,0,0,0.html
Again, I am not sure what you mean by “if you just use the still very high profit margins of the 1990’s the p/e is over 27”.
If you wish to see S&P 500 P/E’s from 1990’s, here they are:
1991……….21.23
1992……….23.71
1993……….22.47
1994……….17.30
1995……….16.49
1996……….19.10
1997……….22.10
1998……….29.05
1999……….31.67
2000……….27.65
2001……….35.52
2002……….35.63
2003……….26.20
2004……….20.50
2005……….18.70
2006……….17.50
2007A………17.00
2008A………16.00
(I used Standard & Poor’s website data.)
In 2003 the market was pricing in the fact that earnings were at a lower point in the cycle, and had room to grow, hence why it traded at a 26 P/E. Now the market is “telling” you that we are further down that cycle, and so is less willing to pay for those earnings. Just because a P/e is lower now than it used to be doesn’t necessarily make stocks cheaper. Unless you think earnings from here can grow as strongly as they did from 2003, in which case stocks are a steal (not my view).
For those wanting to play the P/E game, you should be looking at shorting Amazon (P/e 116) and SalesForce.com (P/e 11,970), and buying IndyMac Bancorp (P/e 7.8) and Accredited Home Lenders (P/e 5.5). Good luck with those!
And if you did believe in further earnings expansion from here, the investment banks are trading “cheap”, from MER at 9.9 to LEH/GS at 10.9, though personally am not a believer in them sustaining current earnings. But I’ve thought that before…
From an article by Keith Hazelton:
“”We are growing extremely negative on credit markets, which we see as in a bubble,” Tim Bond, head of asset allocation at Barclays Capital in London, wrote this week. “U.S. companies are releveraging aggressively in an attempt to substitute earnings-per-share growth for earnings growth. 2008 should see a fairly savage bear market for credit, a large rise in defaults and an end to easy liquidity conditions.”
Dresdner Kleinwort’s analysts, led by Willem Sels, the head of credit strategy, in London, scrutinized U.S. earnings growth in the past quarter. They concluded that the average figure of 12.5 percent was misleading because it measured earnings per share and was distorted by stock buybacks. Profit growth for the companies in the Standard & Poor’s 500 index is just 9 percent, and 3 percent for all U.S. companies. “With net debt growing at 10 percent, leverage ratios are deteriorating,” the Dresdner team wrote in a report this week. “Clearly this is not in line with unchanged credit spreads.” (All emphasis mine.)”
It is not a simple matter of P/E but a matter of real earnings – and the key word in earnings is sustainability.
traderboy,
It is funny that in 2005 a Morningstar analyst was telling us not to buy GS, saying the same “it is a cyclical business” at its peak B.S. I have bought GS at $98 against his advice (now it is $230); thinking who the !@#$ do you think you are to know when it is the peak…
In short, nobody knows but the data suggests that S&P 500 1600 level in the near future is very much possible (actually more possible than impossible). I think it would be arrogant shorting S&P 500 now (unless you are one of those Morningstar analysts who thinks that he has figured out the future).
Financial Websites are prone to make arithmetic errors.
It may be useful to look at several websites in Europe (abc bourse, boursorama, Swiss exchange) to evaluate the indices growth from January until May and use an abacus in order to correct.
As regards the Pe’s why not try to look at the future i.e. forward Pe’s as opposed to past? since investments decisions are driven towards the future.
Why not try to evaluate accordingly the risk premium through long-term interest rates sensitivity analysis.
Why not reviewing the company’s financials with an interest rates sensitivity analysis?
(the existing debts leverages are supportive of the effort)
Winston Munn & Philippe,
You are 100% correct about the leverage. It will end badly when they become overextended and go bust; but when, next week, next month, next year, next decade….?
Doug Kass and Ken Fisher think they know when, but they do not know — nobody knows.
Most likely, the game of borrowing cheap money (and using the funds to buy back shares and taking companies private) will continue until the earnings-yield/bond-yield gap closes (Ken Fisher’s view).
But again, there is another source of unlimited cheap money – Japan.
As regards the trading exchanges performances, it is extremely difficult to make a case for them since they are manipulated.
There is a legal vacuum or border which is puzzling,” traders from Latvia whom were raising the prices of penny stocks are under investigation!”
In a novel of John doss Posos “life in a village is revolving around the crabs and the human and the circling food chain”
Please see hereunder one illustration of this philosophical novel
Looming Crash Prompts Jump in Distressed Debt Hiring (Update1)
By Kabir Chibber and John Glover
May 30 (Bloomberg) — The biggest winners from the global buyout boom are hiring distressed-debt bankers in Europe at the fastest pace in five years.
V. L.
You have hit it on the head. It is not an “if” but a “when”. And it is extremely complex. Also, there is the question of will there or not be a decoupling from the U.S.?
It would seem that there could be a case made for “when” as being that point in time when U.S. debt becomes unsustainable and can only be continued with monetary inflation. A generalized time should be attainable by using average debt growth compared to average FCB support of the debt. although calamitous events could shorten that time.
Another concept is that the slowdown we are seeing now is a direct result of reaching the “critical mass” of debt. Consider this from Executive Intelligence Review.
Quote: “Throughout the 1970s, for every dollar of increase in GDP, there was $1.75 increase in debt; throughout the 1990s, for every dollar of increase in GDP, there was $3.64 increase in GDP. But for the period of 2001-03, every dollar increase in GDP required an increase in debt of $7.11. This is double the 1990s’ ratio, and four times that of the 1970s.”
I understand that now this figure is up to $10 of debt for each $1 of GDP growth. There are only two ways to finance this debt: through Ponzi financing of borrowing against current assets or through increased productivity – Ponzi finance simply moves the obligation ahead in time while increasing productivity is simply payment of the debt obligation and not constructive growth.
Here in the U.S., the timing will problably depend on consumerism – that point when real wage growth cannot sustain the increases in debt. So I would think the key issue to watch going forward is consumer spending.
This is what I am concerned about the most (but everyone seems to be concentrating on silly global warming nonsense). During the current G-8 meeting they were talking about global warming, not a single word about much more serious problems of the jihadists obtaining nuclear weapons.
Wake up people before it is too late!
‘JFK plot’ said to highlight shift in threat
http://www.ft.com/cms/s/f0b045f8-11fe-11dc-b963-000b5df10621.html
Winston Munn,
Yes, watching consumer spending is important, but it is even more important watching the terrorists and securing our borders as first priority (instead of pleasing the powerful restaurant and hotel industries at the expense of US taxpayers).
P.S. They want to kill us and destroy our western civilization but we worry about them having five-star hotel like conditions with fresh fish and chicken on their menu in Guantanamo.
“Officials said that in numerous recorded conversations, which were obtained through an informant, Mr Defreitas predicted that the attack against JFK would result in the destruction of the entire airport and part of Queens, and would “destroy the economy of America” for some time.
“Anytime you hit Kennedy, it is the most hurtful thing to the United States . . . If you hit that, this whole country will be in mourning. It’s like you can kill the man twice,” he allegedly said.”
LOL… TMI, Barry. Great list of links, as always. Thanks for making it easy.
The interesting thing going forward will be if the US did hit the slow patch early 2007, and is now accelerating. And we’ve seem to accepted higher energy costs as the new norm. Maybe those (like me) who were criticizing Helicopter Ben for keeping rates too high were wrong. Maybe Ben’s steady hand has been the right thing to do.
Barry,
Look forward to an update on what happened with mortgage rates last week. I was a bit stunned.
I was dealing with a mortgage bank that jumped its 30 yr rate 0.5% in one day – Thursday to be exact. On Wednesday, they were unwilling to lock in their stated 6.125 rate when told us that the game was on. Needless to say, we rolled out and pursued a vacation home mortgage with another bank.
Where do you think this will top out?