Argus Research performed a back-of-the-envelope value of Tobin’s ‘q’ – which is a measure of market valuation. This is based on the Federal Reserve's recently released quarterly Flow of Funds data for the second quarter of 2009.
"Investors will recall that 'q' is defined as the ratio of the market value of a firm to the replacement cost of its assets; in this case we are estimating those figures for the entire industry. According to Nobel Laureate James Tobin, the ratio of total stock market value to the stock market’s net worth (corporate net worth) is a reliable indicator of market valuation. When the stock market trades at a ‘discount’ to the replacement cost of its assets, the market is inexpensive, or cheaper to buy than build. This discount possesses 'q' ratios that are less than 1.0. Conversely, when 'q' exceeds 1.0, the market trades at a premium to its replacement cost. The run-up from 1996-2000 had 'q' approaching the unthinkable value of 2.0. The most recent (QII 2009) level of 0.78 is notably higher than the 0.65 posting in the first quarter, which was the lowest since QIV 1990."
The below chart speaks for itself when it comes to the relationship between government spending and inflation. It appears the inflation threat is not a matter of if, but when. Government spending is now 25% of GDP and higher interest rates will certainly have a negative impact on the government's future outlays as it likely pays a higher level of interest on the debt.
Consuelo Mack of WealthTrack interviewed the following individuals on Friday:
Michael Hartnett, Chief Global Equity Strategist at BAS-Merrill Lynch
David Winter, portfolio manager of the Wintergreen Funds
Whitney Tilson of the Tilson Mutual Funds
In the interview Consuelo conducted with the three individuals, she obtains their views on the various markets and types of stocks one might consider investing in at this point in the market cycle. A couple of the interview highlights suggest that:
investor need to look more towards individual companies when selecting investments. In short, the easy money has been made with the market rise off of the March lows.
the interview quests suggest investors should look at the emerging markets for future growth opportunities.
Investor enthusiasm remains in check as bullish sentiment fell slightly last week to 39.09% versus the prior week's reading of 42.14%. This is in line with the long term average of the bullish sentiment reading of 39%. The 8-period moving average also declined to 40.70% versus last week's level of 41.77%. The bull/bear spread became more negative with a reading of -5% versus +2% last week.
The sell off in the market towards the end of this week has been occurring on lower volume. The market seems to be working in a healthy consolidation similar to the consolidations in the middle and end of August.
As I have noted in prior posts, the below chart was first publish in 1991 by technical analyst Justin Mamis in a book titled The Nature of Risk. I believe we are still in the "denial" phase of the market and have yet to see returning confidence that might present itself as capitulation buying.
Certainly today's economic reports were mixed. Of interest was the Michigan Sentiment Index that came in at a better than expected 73.5. The estimate was 70.5. Returning consumer confidence is critical since the consumer accounts for 70% of GDP. Later this weekend I hope to post a summary of recently released economic data.
In a recent article in T. Rowe Price's Investor Magazine, it is noted that the market generates a large portion of its return in advance of the economic data confirming the end of a recession. The below table shows some of the prior recessions and the market's return from the recession low after six months and the market's return from the recession low after twelve months.
It seems the most frequent comment I receive of late is "the market is due for a pullback" or something along those lines. If you are a contrarian, this is good. The more investors are skeptical of the advance, the more likely it could move higher. However, as the below chart shows, this advance looks like it could or should be topping out.
(click to enlarge)
Since the March 9th closing low of 677 for the S&P 500 Index, the market has advanced nearly 58% to Friday's close of 1,068. No wonder investors believe we need some market consolidation.
A few technical thoughts on the above chart.
Over 92% of stocks are trading above their 50-day moving average (see white circles at top of chart). The same can be said for the 200-day moving average. This type of chart pattern played out in the April/May period earlier this year. However, the April/May period was one where we saw increasingly lower volume. Today, we are seeing this high moving average percentage, but it is occurring on increasingly higher volume.
In addition to the high percentage of individual stocks trading above their 50 and 200 day moving averages, the S&P 500 Index is significantly above its 200 day moving average. Bespoke Investment Group notes the S&P is trading 20% above its 200-day moving average and this has not occurred since May of 1983.
From a valuation perspective, the market does not seem over or undervalued. The below chart is the P/E of the S&P 500 Index using average inflation adjusted earnings from the past ten years.
The MACD, both the slow and fast moving average lines are in a downtrend. This could signal market weakness in the near term. Offsetting this concern is the market's recent move higher has occurred on higher volume.
It is positive to see higher volume, but this past week was a quadruple option expiration one. This expiration day likely influenced the volume for the week. Also, higher volume could be an indication of capitulation buying by investors that have felt left behind given their high cash levels. Volume in the 8 billion range would be more of the capitulation concern and recent weeks have seen volume below 6 billion.
Are some market strategist that were once bearish now turning bullish? James Grant, editor of Grant's Interest Rate Observer, wrote an article in Saturday's Wall Street Journal titled, From Bear to Bull. He notes in the opening paragraphs of the article:
"As if they really knew, leading economists predict that recovery from our Great Recession will be plodding, gray and jobless. But they don't know, and can't. The future is unfathomable.
Not famously a glass half-full kind of fellow (emphasis added), I am about to propose that the recovery will be a bit of a barn burner. Not that I can really know, either, the future being what it is. However, though I can't predict, I can guess. No, not "guess." Let us say infer."
The entire article by James Grant is a worthwhile read. The below video is an interview with Grant on CNBC in June. A lot of the discussion surrounds the Fed, but the market tone is negative.
So in the end, there is a great deal of conflicting data regarding the sustainability of this market move higher which can be a positive from a market perspective. There are investment opportunities in this climate, but making money in them will not be as easy as it would have been by investing in March.
The bullish investor sentiment reported this week by the American Association of Individual Investors shows bullish sentiment increased to 42.14%. This is above the long term average of 38.94%. This week's bullish reading was higher than last week's level of 37.3%.
The forward six month return from March 19, 2009, which was near the low for the bullish sentiment reading in this cycle, has now begun to turn lower. With this week's reading of 42+%, could the market be approaching a topping out level if we anticipate future six month returns? From a pure technical perspective, the bullishness reading is not at an extreme, but a cautious investment approach is probably warranted at this time.
The second quarter of 2009 is the first quarter buybacks plus dividends did not exceed operating earnings since the first quarter of 2007. Even taking into account the fact that buybacks in the 2nd quarter declined $6.58 billion and dividends declined $4.1 billion, operating earnings still exceeded the buybacks plus dividends total for S&P 500 companies. On a sequential basis, the rate of decline in dividends is slowing maybe foretelling dividend growth in the second half of the year.
In total these top five companies had buybacks totaling $11.296 billion or 46.7% of the total buybacks for the quarter.
Source:
S&P 500 Stock Buybacks Hit Record Low (PDF) Standard & Poor's By: Howard Silverblatt & David R. Guarino September 15, 2009 http://www2.standardandpoors.com/spf/pdf/index/20090915_500-Buyback-PR.pdf
Increasingly more data confirms consumers have significantly changed their spending habits. In the short run this hurts economic growth since consumer spending has accounted for 70% GDP. In the long run, however, higher consumer savings will have a positive impact on the economy.
Earlier this week it was reported that consumer credit outstanding fell at an annualized rate of over 10%. This represents a $21 billion drop consumer credit outstanding.
In addition to consumers paying off more of their outstanding debt with their free cash flow, they are saving more on their income on a percentage basis as well. This was highlighted in an earlier post at EconomPic.
This week's sentiment survey by the American Association of Individual Investors shows bullish sentiment remains essentially unchanged from the prior week at 37.33%. This compares to the long term average of the bullish sentiment reading of 39%. The bearishness level did increase to 44% versus last week's bearishness level of 37.97%. The net result is the bull/bear spread came in at -6.67% versus last week's spread of 0%. As the below chart notes, the market advance has been significant since the bullishness level hit 25.32% in early March.
Dividend actions for the S&P 500 Index through August are anything but overly positive. As the below chart notes, positive actions YTD are down almost 50% from the eight month period in 2008. Equally concerning is negative actions are up over 173% for the period January through August of this year.
The average return of dividend paying stocks in the S&P 500 Index are having difficulty keeping pace with the return of the non-paying issues. For the month of August, the payers average return lagged the non-payers by 170 basis points (or 1.70 percentage points.) Year to date the return gap is much wider with the non-payers average return totaling 46.19% versus the payers YTD return of 12.59%.
The sector returns as well as dividend actions by sector are detailed in the below chart.
