Investor Bearish Sentiment Increases

In the investor sentiment survey reported today by the American Association of Individual Investors, individual investor bearish sentiment increased to 54.65% versus last week's reading of 44.59%.

The average bearishness level going back to July 1987 is 30% with a standard deviation of 10%; therefore, this week's bearishness reading is over 2 S.D. from its average. As a result of this increased bearishness, the bull/bear spread came in at -27%. During the first week of March, the bearishness reading was as high as 70.27% and the bull/bear spread equaled -51%.

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A Green Shoot That Is Not Less Bad But Actually Good

Many data points have been cited as green shoots since they are simply "less bad". For example, if earnings continue to decline, but at a lower rate, this has been cited as a positive or green shoot. Well, one data point that is actually positive is the New Orders minus Inventories (NO-I) data point. Argus Research notes:

• During June, the NO-I jumped to a reading of 18.4, bringing the second-quarter average sharply into positive territory (at 16.7).
  

Source: Argus Research & Charles Schwab ($)

• The New Orders minus Inventory Index...has offered the most-promising indication of an economic trough.

• This barometer accurately identified the troughs in 1990-91 and 2001 recessions.

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Government Debt Has Consequences

Morgan Stanley's Richard Berner noted in a recent research report, America's Fiscal Train Wreck, that the U.S. budget deficit and resultant debt issuance will have negative economic implications over the long run. In the report Berner estimates:

• ...federal deficits will likely average as much as 6% of GDP through 2019, contributing to a jump in debt held by the public to as high as 82% of GDP by then - a doubling over the next decade. Worse, barring aggressive policy actions, deficits and debt will rise even more sharply thereafter as entitlement spending accelerates relative to GDP. Keeping entitlement promises would require unsustainable borrowing, taxes or both, severely testing the credibility of our policies and hurting our long-term ability to finance investment and sustain growth.

• the federal deficit has ballooned to US$1.8 trillion or 13% of GDP in fiscal 2009. But the bulk of the threat is structural: The fiscal stimulus package included spending increases with minimal bang for the buck, leaving more debt than growth.

• most important, by 2019 the full force of rising entitlement outlays and debt service will begin to hit the budget. No rosy growth scenario will provide sufficient resources to meet all the claims on future federal revenue. And while tax hikes or a broader tax base will likely be part of the solution, the real cure is to curb the growth of entitlement spending.

• in 2010, some 100 million Americans will be enrolled in Medicare, Medicaid and SCHIP (the State Children's Health Insurance Program), and outlays amount to 5% of GDP. Longer term, Medicare enrollment will rise significantly as the population ages. More importantly, future per capita cost growth for both programs is well in excess of per capita GDP, meaning that outlays for these three programs will double to 10% of GDP by 2035 and nearly double again by 2080. Translated into budget outcomes, according to CBO, these programs will account for virtually all of the likely growth in primary federal spending - total spending less interest on debt held by the public - in relation to GDP, and thus all the likely expansion of the deficit and debt. In contrast, social security cost increases will play a relatively minor supporting role.

The full research report can be read below.
Americas Fiscal Train Wreck

Investors and the public should give serious thought about the real benefit additional entitlement programs, i.e., government health care. The long term negative economic consequences are likely significant.

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Dividend Increase Stocks Harder To Uncover

If dividend increasing stocks were fish in a pond, the catch would be harder to come by. For the first six months of 2009, 65 companies in the S&P 500 Index either cut or suspended their dividend payment. This compares to 20 for the same period in 2008 and 4 in 2007. Increases feel nearly 50% to 86 increases versus 158 increases for the first six months of 2008.

• Consumer Staples now account for largest dividend cash payments at 17.0%; financials once over 30% and now represent 9.3% of the dividend cash payments.
  

• The top 26 issues account for 50.0% of the dividends with the first financial issue being Wells Fargo (WFC) at #41.
  

Data Source: Standard & Poor's (PDF)

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Competive Edge Stocks

One source of a wide variety of stock screens is the American Association of Individual Investors website. Access to the screens does require a membership in the organization.

From time to time the AAII Journal will feature screens the editor believes might be of interest to its readership. In the July issue of the AAII Journal, the featured screen focuses on: Stocks With a Competitive Edge. According to the article, the thinking behind this featured screen is:

"Earnings are dependent on the ability of a company to convert sales into profits. Converting a large and growing proportion of sales into earnings often points to firms that have a competitive advantage, due to brand-name loyalty, a limited niche, or even patent protection. The First Cut this issue screens for companies turning a larger percentage of sales into gross profits, operating profits and net profits."

Highlights of the screening criteria are:

• Gross profit margin: calculated by dividing gross income (sales less the cost of goods sold) by sales. It reflects the firm’s basic pricing decisions and its material costs.

• Operating profit margin: calculated by dividing operating income by sales. Operating income represents income generated after all costs except interest, taxes, and non-operating items. The operating margin reflects the relationship between sales and management-controlled costs (the cost of goods sold, as well as operating costs including selling, administrative and general expenses; research and development expenses; and depreciation).

• Net profit margin: calculated by dividing net income by sales. It indicates how well management has been able to turn sales into earnings available for shareholders.

The 30 companies passing the First Cut are domestic exchanged-listed companies with positive sales growth coupled with gross, operating and net margins above their five-year averages and also showing improvement over the previous year. A partial list of the firms with the highest annual growth in sales over the last five years are noted below.

The full list of competitive edge stocks can be viewed on AAII's website.

Source:

Stocks With a Competitive Edge ($)
AAII Journal
By: John Bajkowski
July 2009
http://www.aaii.com/includes/DisplayArticle.cfm?Article_Id=3755

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Where Are We In The Market Cycle?

From a technical perspective could the market be following the path of past sentiment cycles? The below sentiment cycle chart was first published in 1991 by technical analyst Justin Mamis in a book titled, The Nature of Risk. In looking at the below chart, it appears the current market pattern is following the pattern outlined in Mamis' chart.

(click charts to enlarge)

The market's recent advance from the early March low appears to follow the sentiment cycle's "wall of worry" advance. The next phase would then be the investor's "aversion" portion of the cycle. Consolidating some of the gains achieved since the March low would be healthy.

Although the market has had a strong recovery off the March low, since the beginning of the year, the market has essentially traded sideways.

From a longer term perspective, the market has a long way to go to reach its earlier high.

(click to enlarge)

From an economic perspective, I could cite a number of factors that would support a bullish case for the market and I could cite an equal number of bearish factors. One statistic that sticks out like a sore thumb is the continued increase in the jobless data.

Source: Federal Reserve Bank of St. Louis

Source: Chart of the Day

Initial claims have exceeded 600M for 22 straight weeks. Historically, the consumer has represented 70% of the U.S. economy and unless there is some job creation, this 70% stat is not going to hold. What then will stimulate economic growth?

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House Closer To Proposing Tax On Stock Trades?

Could it be the U.S. House of Representatives is getting closer to proposing taxes on stock trades? Below is a screen shot from my Sitemeter account detailing a search earlier today. that came from the U.S. House of Representatives. The search phrase was "taxing stock trades." The search landed on one of my earlier articles, Congress Proposing Transaction Tax On Stock Trades, written in early March.

(click to enlarge)

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Investor Sentiment, Cash and the Market

As noted in some of my prior blog posts, I frequently review various sentiment indicators. At extreme levels, these indicators can highlight turning points in the market. In addition to investor bullish versus bearish sentiment, another indicator gaining quite a bit of attention lately is investor cash levels. I noted in a post over the weekend that money market fund assets remain at a fairly high level.

The American Association of Individual Investors (AAII) surveys its members on a monthly basis regarding investor asset allocation. These investors indicated they had 42% of their investments allocated to cash in December 2008. In the most recent survey (May 2009) investors indicated they had 35% of assets invested in the cash portion of their allocation. AAII's asset allocation survey goes back to 1987 and the average cash level since the survey began is 25%. Investors continue to be overweight cash versus the historical average.

The below chart graphs the cash allocation (red line), the S&P 500 Index (green line) and the 3-period moving average of the Bull/Bear Spread (white line). Given the various sentiment indicators, it does appear investors are still skeptical of the market's current level. From a contrarian perspective then, sentiment would indicate the market could continue to grind higher.

(click to enlarge)

The sentiment data can be difficult to evaluate. The Technical Take website has a different view of the sentiment data that is worth reading as well.

What is missing in all of the data to this point are truly positive factors and not simply less negative. One potentially positive data point could be company earnings reports in the second half of the year. The market tends to trade on expectations and companies will certainly have an easier time achieving earnings growth compared to the year earlier reported results.

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Investor Cash Levels Remain High

Investors continue to hold high levels of cash relative to the value of the market. The below charts graphs cash as a percent of the Wilshire 5000 ($DWC). A part of the increased percentage level of cash can be attributable to the decline in the market's value.

Source: Charles Schwab & Co.

Interestingly, the increased cash levels are being controlled within institutional money market funds.

Source: Investment Company Institute (pdf)

Going back to January 2008 the Investment Company Institute reports total cash in money market funds has increased 17.39%. Individual money market fund assets over this same time period are essentially unchanged while institutional money market fund assets are up 28.46%

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Bullish Investor Sentiment Falls To Near March Levels

Today's sentiment survey released by the American Association of Individual Investors saw bullish sentiment fall to 28%. The bull/bear spread came in at -20.80. The 28% level is the lowest since March 12th when the reading was reported at 27.64%. The bearish sentiment level is 48.80% and reached a high of 70.27% for the week of March 5th.

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Dividend Growers Beyond Just Large Cap Stocks

Standard & Poor's evaluated companies in the S&P 1500 as of June 15, 2009 that had the following characteristics.

• paid increasing annual cash dividends for the past ten years

• 2009 estimated coverage and 2010 ratio of at least 2-to-1 (based on street estimates divided by the current 12 month indicated dividend rate)

As S&P notes, and I strongly concur, this is not a buy list, but a starting point for investors who are interested in dividend growth stocks. Undoubtedly, the current economic environment has negatively impacted a number of companies and their dividend practices.

Full View

Source:
Standard & Poor's (.xls)

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Stock Buybacks At 2003 Level

Preliminary buyback results for the first quarter of 2009 show S&P 500 companies repurchased $30.78 billion of their company's stock. This level of buyback activity was last reached in June of 2003 when companies repurchased $28.36 billion. This June 2003 level marked the low point for buyback activity until the level reached this quarter.

(click to enlarge)

Howard Silverblatt, Senior Index Analyst for Standard & Poor's notes:

"Buybacks are off 82% from their peak during the third quarter of 2007 when S&P 500 companies spent $172 billion on share repurchases.

...a closer look at the data reveals two more telling stories. The first is that Exxon Mobil represented over a quarter of the buybacks that took place during the first quarter. The second is that 83 of the issues that repurchased shares during the fourth quarter of 2008 did not participate in a stock buyback program during the first quarter of 2009."

Source:

S&P 500 Stock Buybacks Rereat 73% in the First
Quarter; Lowest Since Second Quarter of 2003
Standard & Poor's
By: Howard Silverblatt
June 18, 2009
http://www.mcgraw-hill.com/releases/sandp/20090618.shtml

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Quality Outperforms In Down Market

In an update on the performance of stocks based on their quality ranking, Standard & Poor's shows the higher quality rated stocks outperform in down markets. The short term downside to the outperformance in down markets is the highest quality stocks tend to lag the market when the market moves rapidly higher like the market performance since March 9, 2009.

As the below table notes, for the 12-months ending June 12, 2009, the A+, A and A- rated stocks have far outpaced the stocks rated B+ and lower.

(click to enlarge)

However, year to date in 2009, the lowest rated stocks in the S&P 500 Index have generated the higher return. At the end of the day though, what harms an investor's total return the most is the size of the loss incurred in down markets. Generally, if an investor loses less when the market contracts, they have a better chance of outperforming in the long run due to the fact they have more capital at work when the market recovers.

The below table notes the return an investor needs in order to recover losses at various rates of return.

Source:

A Quest for Quality ($)
Sam Stovall, Chief Investment Strategist
Standard & Poor's, The Outlook
June 24, 2009
http://www.outlook.standardandpoors.com/NASApp/NetAdvantage/i/displayStovallsSectorWatchEditorial.do?&context=IndustryFocus&docId=14325863

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