Tuesday, May 26, 2015

Today's Market Decline Does Not Qualify As A Correction

The S&P 500 Index is down 1% today and much of the television media represent this as a market "plunge". A representative headline on CNBC notes:
As the below chart shows, the S&P 500 Index is down only 1.29% from its year-to-date high return of 3.49% reached on 5/21/2015. For the the Dow Jones Industrial Average, this index closed down almost 200 points today; however, as the market index value becomes a larger number, 100 or 200 point movements are not significant from a percentage return basis.

From Blog of HORAN Capital Advisors 5 2015

Today's market action did see the VIX increase nearly 2 points to 14.06 from 12.13 (first chart below) and the equity put/call ratio increase to .74 from .63 (second chart below). It should be noted the VIX remains at a low level and the put/call ratio is most predictive at extremes. For the put/call ratio, readings above 1.0 are more representative of an oversold market.

From Blog of HORAN Capital Advisors 5 2015

From Blog of HORAN Capital Advisors 5 2015

Additionally, from a fundamental standpoint, the economic news today was mostly positive.

 Durable Goods Orders:

From Blog of HORAN Capital Advisors 5 2015
Source: Econoday
  • "The capital goods sector is showing life, helping to limit April's aircraft-related decline in durable goods orders to a roughly as-expected 0.5 percent. Ex-transportation offers a core reading which is encouraging, up 0.5 percent following a 0.6 percent gain in the prior month.
  • "Strength in nondefense capital goods excluding aircraft reflects strength in business investment which has been soft. New orders for this reading rose a strong 1.0 percent following an even stronger 1.5 percent gain in the prior month. Shipments, after rising 1.0 percent in March, rose another 0.8 percent in April which may give a bit of a boost to second-quarter GDP estimates."
Consumer Confidence:

From Blog of HORAN Capital Advisors 5 2015
Source: Econoday
  • "After having spiked at the beginning of the year, consumer confidence is stabilizing at a solid level, at 95.4 for May which is just above the Econoday consensus for 95.1. Income expectations are up slightly and buying plans are all higher including for autos, homes, and especially for appliances.
  • "Job readings are mixed with the assessment of the current market down as more, now 27.3 percent vs April's 25.9 percent, describe jobs as currently hard to get. This reading is closely watched and will, to a small degree, limit expectations for the May employment report. But disappointment here is offset by the six-month outlook which is more favorable."
Richmond Fed Manufacturing Index:

From Blog of HORAN Capital Advisors 5 2015
  • "Regional Fed reports on the manufacturing sector continue to be soft with Richmond's at only plus 1 for May following two prior months of declines. New orders, after three straight declines, did rise but only to plus 2. Backlog orders, however, remain deep in the negative column at minus 10.
  • "Employment growth is down while shipments are in contraction for a 4th month. Price readings are flat except for wages which show a big 11-point gain to 20. Wage pressures are a trigger for an FOMC rate hike and this reading, though isolated, will get the attention of the hawks at the Fed.
  • "First it was Empire State, then the Philly Fed, then Kansas City, all showing weakness this month and now including Richmond. Data from the Dallas Fed, also released this morning, is especially weak. The manufacturing sector is having a tough time gaining momentum, held down by weak exports and contraction in the energy sector."
Case Shiller Home Price Index:

From Blog of HORAN Capital Advisors 5 2015

Source: Econoday
  • "Indications on home prices were rising solidly going into the spring selling season though there were some signs of stalling. S&P Case Shiller's adjusted 20-city house price index rose a very solid and slightly higher-than-expected 1.0 percent in March with gains across all cities and well balanced gains across all regions. These gains, however, were not confirmed by the FHFA house price index, also released at 9:00 a.m. ET today, which rose a lower-than-expected 0.3 percent in March. But year-on-year readings in both reports show an improving trend, at a moderate 5.0 percent for Case-Shiller and plus 5.2 percent for FHFA.
  • "Turning to Case-Shiller, the strongest gain in March came from Detroit where prices rose 2.6 percent following 1.2 percent and 1.0 percent gains in the two prior months. Gains in this hard-hit city speak to general strength for house prices. Prices have also been rising in Minneapolis, up 1.8 percent following February's 1.7 percent gain. West Coast cities as usual are at the top of the price list with Florida also showing strength.
  • "Unadjusted data are closely watched in the Case-Shiller data and tell the same story with a 0.9 percent 20-city gain in March. Both adjusted and unadjusted data show plus 5.0 percent year-on-year rates for both March and February in what is a rising trend from prior months."
This week is one where a number of economic data reports are released. Release dates and the data reports can be viewed at the economic calendar at this link.

In summary, as noted in yesterday's post,  Incurring Investment Risk Near A Market Correction, it would not surprise our firm if a 10+% correction were to occur in the near term. However, we do believe the U.S. economy and economies outside the U.S. are not nearing recession type levels. Issues in Greece and maybe Spain could negatively influence the market in the short term.

As we have noted in prior commentary, economic growth is not robust and there is likely to be consequences from the central bank easings taking place around the world. However, we do believe there are market segments that offer reasonable value and return opportunities for investors. Focusing on the fundamentals, both economic and at the company level, will provide a better return on one's investment time versus focusing too much attention on the daily market fluctuations, which actually have not been large this year.


Monday, May 25, 2015

Incurring Investment Risk Near A Market Correction

One issue on the minds of a number of investors is the near term potential for an equity market correction. One's thinking is framed by the fact the S&P 500 Index has not incurred a 10+% correction in three and a half years or 916 trading days. This is the third longest streak as can be seen in the below chart. Include the fact first quarter 2015 earnings were not that great from a growth perspective, the economy (GDP) is growing at a snails pace and euro zone issues (Greece and now maybe Spain), it is not surprising investors are a little on edge.

From Blog of HORAN Capital Advisors 5 2015

I believe Ben Carson, who writes commentary at A Wealth of Common Sense, addressed the correction thinking well in a recent post, To Win You have to be Willing to Lose. I am going to list just a few highlights from the article, but readers will find the entire article a worthwhile read.
"There are two types of investors out there today (and yes this is an extreme over-generalization):
  1. "Those who spend all their time obsessing over the next 5-10% correction and when it will happen.
  2. "Those who are becoming complacent to the risk of a correction or a bear market.
"Both stances are potentially dangerous because they set you up to over-react to the market’s movements. One of the first things you have to realize as an investor is that to earn a respectable return on your capital, you have to be willing to lose money on occasion — sometimes a lot of money."
His article includes a chart, by calendar year going back to 1950, showing the maximum market decline in each calendar year. In short, he notes,
  • "Just over 50% of all annual periods since 1950 saw a 10% correction or worse. So every other year investors had to deal with double digit loss at some point throughout the year. To be specific, there were 34 years with a double digit drawdowns. But 20 of those periods actually finished the year with a gain. So almost 60% of all years with a drawdown in excess of 10% still finished the year in positive territory."
  • "Since 1950, the S&P 500 has never finished the calendar year with a loss when there wasn’t a double digit correction at some point during the year. So in 31 out of 65 years in this sample set, stocks finished with a gain every single time when they managed to avoid a double digit drawdown."
Just as investors are concerned about the extended run in large cap U.S. equities, a similar concern might be directed to bonds. I discussed the below chart (updated) in a post last week, Bonds Performed Poorly Leading Up To Release of Fed Minutes, which shows the price decline in various bond asset segments. Long term treasuries continue to be down nearly 10% since only the beginning of April.

From Blog of HORAN Capital Advisors 5 2015

The conclusion for investors concerned about an equity market correction, a similar fate could be experienced by the bond market. Certainly a near term correction in stocks and/or bonds would not surprise our firm. Importantly, now is a good time for investors to evaluate the asset allocation within their investment portfolios. Selling stocks/bonds and sitting in cash that earns nearly zero percent interest could be a losing strategy if rates stay down longer than anticipated or the equity market streak challenges the longest streak of about 1,767 trading days. On the other hand, after an investor reviews their asset allocation, if higher cash levels are suggested, then planning a strategy to implement the change would be warranted.


Sunday, May 24, 2015

Divergent Performance Between Transports And Industrials Likely Not Indicating Broader Economic Weakness

The disconnect between the performance of the Dow Jones Industrial Index and the Dow Jones Transportation Index has some market strategists suggesting the broader equity market is setting the stage for a correction. The correction thinking is based on the theory that weakness in transports is indicative of less goods being moved in the economy and thus a signal of a slowing  economic environment. From a more technical perspective, some strategist look at the Dow Theory as being able to signal a market correction.

As the below chart shows the transportation index has underperformed both the Dow Jones Industrial Index and the broader S&P 500 Index. This underperformance began to accelerate in mid-March. For investors though, evaluating the actual causes of weakness in the transports will provide insight into the slowing rail segment of the market and whether these factors are broad based ones or simply industry specific ones.

From Blog of HORAN Capital Advisors 5 2015

The largest industry segment in the transportation index is trucking and railroads as noted in the below chart. The railroad segment itself accounts for about 25% of the transportation index. All four rail stocks in the index have generated a negative return this year with Kansas City Southern (KSU) being the worst index performer - down 23% year to date.

From Blog of HORAN Capital Advisors 5 2015

So looking at the rails, what are rail company executives saying about their businesses? At the Wolfe Trahan Transport Conference last week, KSU's CFO made the following comments about their business.
  • "But when you see natural gas prices drop, magnitude of 50% from a year ago, we've seen some fairly significant impacts in our coal business (emphasis added)."
  • "We have a large customer who represents, at least at peak was almost 40% of our coal business...And at one point they were about 6% of our consolidated revenues. In the first quarter, they were 0.5% of our consolidated revenues, huge impact for us. These are current numbers this quarter. They have shipped exactly one unit train. And a year ago at this point in time, they had shipped 80 unit trains."
  • "We have a significant maintenance project in Laredo in our subdivision there. The good news is that is now wrapped up. We also have an interchange partner that we operate on some of their track in Southern Texas under The Trackage Rights Agreement, they had a major maintenance program going on at the same time. And the issue is, this is a single line network (emphasis added). So when you shut the network down for 10 or 12 hours a day to do a tire replacement, as an example, you're literally stopping trains from moving, so they go off into sidings until the engineering crew is done, the maintenance crew is done, and then you open back here, your network. So, with that behind us, we should begin seeing improvement in our service levels there."
At Bank of America's Transportation Conference on May 14th, CSX's CFO noted,
  • More and more of our business is moving away from coal (emphasis added) towards that more service-sensitive cargo such as merchandise and intermodal..."
  • "Are we seeing an economy that is any different than what we've seen before? I don't think so. I think that we are continuing to see an economy that is growing in that 2%, 2.5%, maybe somewhere around three percent."
  • "if you go back to 2006 it's over 50% of our utility coal business that has gone away..."

And weakness in the chemical segment of the economy has been a concern for the market as well. Investors should note that frac sand is included in chemicals and the decline in drilling activity has negatively impacted the frac sand market demand.
  • "I think from our chemical loadings, when we present our numbers, we have frac sand in there. And clearly frac sand, after having grown 30%, 35% annually for the last three years, we are now seeing a step down probably in that 20%-plus range here this year because of what is going on with the drilling activities."

Andrew Thrasher, CMT, a portfolio manager in Indianapolis, IN, recently noted the divergence in performance of the transports and industrial indices as well. He shows in the below chart that the transportation index has approached oversold levels from a technical perspective. Certainly there are other components of the transport index besides the railroads and weakness has been seen in those industries as well. The second worst performing stock in the transport index is the airline United Continental (UAL), down almost 20% year to date.

From Blog of HORAN Capital Advisors 5 2015

The trucking industry has experienced weakness too. In April the ATA Truck Tonnage Index declined 3% compared to March. On a year over year basis the index was up 1%. Some of the weakness seen in trucking may be a result of the West Coast port shutdown which was resolved in late February. The West Coast ports handle 40% of incoming cargo shipments into the U.S. Clearing the backlog of incoming shipments could take several months, yet lead to better trucking volumes later in the second quarter.

From Blog of HORAN Capital Advisors 5 2015

In conclusion, I believe there are unique factors that have negatively impacted the transportation sector of the economy that are not necessarily due to broader economic weakness, i.e., change in coal demand and one time rail track service issues. One will need to see confirmation of this point of view as additional data unfolds in the second quarter though.


Wednesday, May 20, 2015

Bonds Performed Poorly Leading Up To Release of Fed Minutes

In our last post about a week ago we noted the slow pace of economic growth that has unfolded since the financial crisis. This slow pace of growth has resulted in the unprecedented easing programs (quantitative easing-QE) instituted by the Federal Reserve over the past few years. A consequence of these QE programs is the apparent inability of the Fed to embark on a monetary tightening path since the markets seem addicted to these programs. In our view, given the low level of rates today, an initial tightening by the Fed will not have a long lasting negative impact on the overall economy or equity market. With this said, market participants were looking for insight into the Fed's future monetary direction with the release of the Fed's most recent meeting minutes. As was true to form, the Fed seems intent on maintaining its near zero interest policy with a June rate hike most likely pushed back to later in 2015 or maybe 2016. This delay in raising rates may give the market a reason to push bond prices higher (interest rates lower) near term.

Leading up to the release of the April minutes, the bond market positioned itself for a potential rate hike in June. As the below chart shows, from the beginning of April through the market close on May 19th, treasury bond ETFs sold off significantly. The aggregate bond index was also a weak performer and traded down nearly 2%. Stocks (S&P 500 Index) on the other hand have generated a positive 3.2% return since April 1st.

From Blog of HORAN Capital Advisors 5 2015

The Fed minutes noted the recently mixed economic data as a probable reason why the Fed is likely not inclined to increase interest rates in June. Additionally, noted in the minutes was the negative impact a strengthening U.S. Dollar is having on U.S. economic activity.

From Blog of HORAN Capital Advisors 5 2015

From Blog of HORAN Capital Advisors 5 2015


The stronger Dollar has a negative impact on U.S. exports as U.S goods become more expensive outside the U.S. as the Dollar does strengthen. Also noted in the minutes was the counter impact of the improving economic growth picture in a number of countries outside the U.S. The stronger growth, ex-U.S., could be attractive to U.S domiciled firms as their products may be in greater demand. The stronger Dollar is acting as a tightening influence and may actually be doing some of the Fed's tightening work; however, the Fed does need to get rates back to a more normalized level sooner versus later.


Monday, May 11, 2015

Anemic Economic Growth Since The Great Recession And Some Causes

The March trade deficit grew to $51.4 billion which has many economist now predicting subsequent revisions to first quarter GDP will show the economy contracted for the first time since contracting -2.1% in the first quarter of 2014.  In the first quarter the advanced reading on GDP or economic growth was reported at .2% which was below an expectation of a Q1 growth rate of 1%. The large increase in the trade deficit is being attributed to resolution of the West Coast labor dispute resulting in a spike in imports and to U.S. export headwinds due to the strong dollar.

From The Blog of HORAN Capital Advisors

In our Spring 2015 Investor Letter, we discussed the recurring weakness seen in the first quarter GDP reports since the end of the financial crisis. A larger issue is the slow pace of economic growth that has occurred since the end of the financial crisis in the 2009 and why has this been the case?

From The Blog of HORAN Capital Advisors

As can be seen in the below chart, GDP growth averaged 3.46% from 1950 through March 2009. However, since March 2009 GDP growth has averaged nearly 40% less at 2.13%.

From The Blog of HORAN Capital Advisors
GDP is defined as:

GDP = C + I + G + (X - M)


Where,

C = private consumption
I = gross investment
G = government spending
(X - M) = exports - imports

How have the various components of GDP fared after prior recessions?
  • Personal consumption expenditures as a percentage of GDP are above pre-recession levels.
From The Blog of HORAN Capital Advisors

  • Gross investment, residential and non residential, continue at levels below levels reach prior to the most recent recession.
From The Blog of HORAN Capital Advisors

From The Blog of HORAN Capital Advisors

  • I noted the impact of the the trade deficit on GDP at the beginning of this post so let's look at the government input component of GDP. The below charts detail government revenues and expenses on an absolute dollar basis (first chart) as well as a percentage of GDP (second chart).

From The Blog of HORAN Capital Advisors

From The Blog of HORAN Capital Advisors

As the above chart shows, tax revenue as a percentage of GDP is above its long term percentage. On the other hand, government expenditures remain above the long term average as well. At the same time, the tax rate continues to climb. A recent article in the Wall Street Journal notes,
"The overall effect of the 2013 tax hike was not minor. The highest income-tax rate on small business income has risen to almost 42% from 35%. That’s a 20% spike in the small business tax for successful companies. When the government takes more, there is less to plow back into the business or invest elsewhere."

"This may help explain the paradox that even as American businesses today are generally efficient and highly profitable, they aren’t reinvesting in new plants, equipment and technology or hiring more workers at the pace they normally would [emphasis added]. Business investment was up last quarter—a hopeful sign—but over the recovery the trend has been sluggish."

"A comparison with the Reagan years when investment taxes were cut tells the story. From 1983 to 1988, private investment averaged 12% of GDP, one-third faster than the 9% since 2009 under Obama. In the aftermath of the Kennedy, Clinton and George W. Bush capital-gains tax cuts (1998-2006), the investment rate rose sharply and immediately."
Another headwind facing businesses is the increased regulatory burden on business. As the below chart notes, new regulations are up more than double under President Obama's tenure in office as compared to the Bush administration.

From Blog of HORAN Capital Advisors 5 2015

This mismatch between government tax revenues and expenses is an issue that needs to be addressed sooner versus later. The deficit spending taking place is resulting in the government's debt burden growing at an unsustainable level. The charts below clearly show the rapid increase in the debt level on an absolute basis as well as a percentage of GDP spiking higher since the last recession.

From The Blog of HORAN Capital Advisors

The interest expense on the government debt is projected to double in five years and triple in eight years. The interest expense alone will double the current deficit all else being equal.

From The Blog of HORAN Capital Advisors


In summary, the increased tax burden on businesses and the higher regulatory burden for businesses is constraining business reinvestment as well as businesses desire to increase hiring levels. Included in the increased regulatory burden is the continued cost impact of the Affordable Care Act. I believe Scott Grannis, who maintains the blog Calafia Beach Pundit, stated it well in a post in 2012,
"Here's another way of appreciating what has happened in recent years. The private sector has been working very hard to increase its efficiency and its output, and that shows up in the record level of corporate profits, both in nominal terms and relative to GDP. But instead of allowing or encouraging the private sector to plow those profits back into the economy in the form of new plant and equipment, new jobs, and new technologies, the federal government has effectively borrowed all the corporate profits generated since 2009 and distributed the money to the unemployed, to the poor, to favored "green" industries, to unions, to state and local governments, and to "make-work projects," among other things."

In order to get the economy on a growth track that is more indicative of historical growth patterns, less of a burden by government will need to be placed on small businesses.


Wednesday, May 06, 2015

Dividend Paying Stocks Struggling Mightily

In a post last month we highlighted the fact value strategies and dividend paying strategies were lagging both the S&P 500 Index and the S&P 500 Growth Index over the past twelve months. Frequently the value type stocks have a dividend component that provides additional return for investors.

Further confirmation that dividend paying strategies have been underperformers can be seen below. S&P Dow Jones Indices reports the average performance of the dividend payers in the S&P 500 Index have lagged the non payers by a wide margin, both year to date and over the course of the past twelve months as of April 30, 2015. For the one year period the payers return of 12.85% falls far short of the non-payers return of 20.64%.

From The Blog of HORAN Capital Advisors

This difference in return for the average or equal weighted return versus the cap weighted return noted above has carried over to the  the performance of the Guggenheim S&P 500 Equal Weight ETF (RSP) return versus the capitalization weighted S&P 500 Index. As the below chart shows, the equal weight index has outperformed the capitalization weighted S&P 500 Index for the past year and a half.

From The Blog of HORAN Capital Advisors

As the dividend paying stocks have been significant laggards relative to the non-payers, the recent outperformance of large value versus large growth since April, and noted in the below chart, may carry over to the dividend payers. Dividend focused investors would certainly relish an environment the closes the gap between the payers and non-payers returns.

From The Blog of HORAN Capital Advisors



Wednesday, April 29, 2015

Stock Buybacks Are Not A Primary Factor In Lower Wage Growth Rates

Recently, a number of articles have been circulating about the need for companies to use more of a firm's cash flow to pay employees a higher wage versus using the cash flow growth to fund stock buybacks. For example,
  • How the Stock Market Destroyed The Middle Class (MarketWatch)
  • Stock Buybacks Are Killing the American Economy (The Atlantic)
  • Profits Are Up, But Wages Are Stagnant. This Senator Has A Plan (ThinkProgress)
The implication in a number of the articles is stock buybacks increase a company's stock price and therefore buybacks are being used to increase the value of senior management stock options. In short though, buybacks have no direct impact on the value of a company's stock price. The below table shows how the share price is unchanged. What can occur is the earnings per share figure can increase due to the lower share count. Other  examples are contained in our post, Proof Buybacks Impact Earnings Per Share. We believe the market is intelligent enough to see through this type of earnings manipulation; thus, not attaching additional value for a firm's stock price due solely to stock buyback activity.

From The Blog of HORAN Capital Advisors

The buyback/wage growth argument has been a popular topic recently given the continued growth in buyback activity. What has been missing from this analysis is what the primary driver of a worker's wage increase might actually be.

Our firm writes frequently about buybacks and dividends paid by companies. In our latest buyback update, Strong Buyback Activity Reducing Share Count, we included the below chart which shows the increased buyback and dividend payments going back to 2001.

From The Blog of HORAN Capital Advisors
Data Source: S&P Dow Jones Indices

This increase in buybacks has not gone unnoticed by investors as can be seen in the below chart detailing the growth in the S&P Buyback Index along with the growth in average hourly earnings.

From The Blog of HORAN Capital Advisors

On a year over year percentage change basis, the below chart compares the performance of the buyback index to the change in average hourly earnings. The change in hourly earnings growth has a correlation with the buyback index at just above .9 (1.0 is the highest possible correlation.) Given this high level of correlation, could reducing the level of buybacks actually result in a lower rate of wage growth? Certainly the percentage growth rate of buybacks far exceeds the growth rate of wages; however, the wage growth rate of 1.75% is higher than the growth rate in mid 1986 of 1.59%. This begs the question, what is the primary driver of wage growth? And what may drive wage growth to a higher level?

From The Blog of HORAN Capital Advisors

Aside from the potential supply/demand imbalances of certain job positions that can influence wage growth rates, the below chart shows what we believe is the primary factor that influences changes in wage growth rates: inflation. The chart below compares the yearly inflation rate to that of the percentage change in average hourly earnings. Clearly, higher levels of inflation lead to higher wage growth rates.

From The Blog of HORAN Capital Advisors

The latest report on inflation shows the YOY inflation rate is negative. This fact alone will be a headwind for faster growth in employee hourly wage rates. Much more can be said about the way in which corporate managements are compensated, elevated option grants, etc. However, increases in stock buyback activity is not a significant variable in the growth rate of wages in our view.


Friday, April 24, 2015

A Further Rise In Crude Oil Prices Facing Headwinds Near Term

Oil rig count has fallen dramatically in the U.S., yet oil supply is continuing to pile up nearly unabated. The market is of the belief that this decline in rig count will ultimately put a halt to the supply growth.

From The Blog of HORAN Capital Advisors

Rex Tillerson, CEO of Exxon Mobil (XOM), recently spoke at the IHS CeraWeek conference in Houston, TX. Tillerson believes oil prices are likely to remain at a lower level for the next several years. Additionally, ConocoPhillips (COP) CEO noted the shale fracking industry has a large number of wells that will be completed once oil prices do rise. This alone is likely to place a cap on the rise in the price of oil.

Lastly, as the below chart clearly shows, in spite of the lower level of oil prices, Saudi Arabia is determined to keep the supply of oil flowing as evidenced by the country's rig count growth (green line.) Their goal is to force fracking companies out of business in an effort to eliminate this swing supply.

From The Blog of HORAN Capital Advisors

With WTI recently rebounding from the mid $40 per bbl price to mid $50's level, further oil price increases could face some headwinds in spite of the decline in global rig count (red line.) In the EIA Petroleum Status Report released on Wednesday, crude oil inventories rose 5.3 million barrels. As noted by Econoday,
"The string of inventory builds continues for oil, up a fat 5.3 million barrels in the April 17 week to 489.0 million which is the 14th straight build and yet another 80-year high [emphasis added]. The build is due to yet another rise in oil imports and also in part to an easing of refinery demand for oil. But refineries are still busy, operating at 91.2 percent of capacity."


Thursday, April 23, 2015

Investor Letter Spring 2015: Another Weak First Quarter?

The first quarter of 2015 once again was a period where reported data suggests a mixed economic picture for the global economy. Interest rates declined slightly leading to positive returns for nearly all U.S. bond market segments. This was once again influenced by lower yields outside the U.S. and the strengthening Dollar. Worries about an economic slowdown have resulted in Europe, Japan and China incorporating additional economic stimulus via interest rate decreases and bond purchase programs. For many investors, the prospect of weak economic news is good for equity markets as central banks pursue stimulus programs to reinvigorate economic growth. Stimulus seems to create a floor for equity markets as liquidity finds its way into the market.

As we noted in our blog post yesterday, Higher Yield and Value Oriented Strategies Underperforming Broader Market, the additional investor demand for these yield oriented equities, i.e. dividend growth stocks, has not resulted in higher returns. Also, Goldman Sachs notes in a recent report that the dividend yield, high quality and strong balance sheet companies have been weaker performers versus other more growth oriented strategies. The below charts provide evidence of this phenomenon.

From The Blog of HORAN Capital Advisors

Looking specifically at economic growth or GDP, the Federal Reserve Bank of Atlanta notes the weakness in GDP in each first quarter since 2010. Some attribute this first quarter weakness to poor weather. However, the Atlanta Fed notes seasonal adjustments since the Great Recession could be negatively influencing first quarter GDP reports as well. As the chart at left shows, weaker economic activity in the first quarters since 2010 is very apparent. The average GDP growth in the first quarter since 2010 has been .6% versus 2.9% for the remaining quarters of the year. The advance estimate for the first quarter of 2015 will be reported on April 29th and the Fed’s tracking of data shows Q1 2015 GDP at just above zero.

For additional insight into our views for the market and economy, one can read our Investor Letter accessible at the below link.

From The Blog of HORAN Capital Advisors


Wednesday, April 22, 2015

Higher Yield and Value Oriented Strategies Underperforming Broader Market

One interesting aspect of the recent equity market advance has been the investor focus on higher quality dividend growth equities. A result of investors' search for yield is many of these higher yielding equities are trading at the higher end of their historical valuation range. Also, given the heightened focus on yield, one would expect the higher quality dividend growth equities to have outperformed the market over the past year. However, as the below chart shows, the SPDR Dividend ETF (SDY) has generated the worst 1 year return versus the other three comparison investments. The second worst performer is the S&P 500 Barra Value Index.

From The Blog of HORAN Capital Advisors

Although investors have pursued higher yielding investments in this low yield environment, the higher demand has not resulted in higher returns. The underperformance of higher quality and higher yielding investments may be a shorter term phenomenon, but investors simply need to be aware that pursuing higher yield/higher quality strategies can result in lagging performance if only in the short run. On the other hand, in a market correction higher quality and higher yield equities tend to outperform the overall market.