Dividend Payers Outperforming

For the month of June and the first six months of 2010, the dividend payers in the S&P 500 Index are outperforming the non-paying stocks. For the month, the payers' return of -5.91% was better than the non-payers' return of -7.30%. Additionally, this year the payers have declined 2.90% versus the non-payers decline of 4.41%.

Source: Standard & Poor's

On a year over year basis as of June, dividend payments were up 5.7%, for the quarter up 2.6% and down 3.2% on a year to date basis. In a further sign that companies view future prospects as improving, ten companies initiated dividends versus 65 that either decreased or suspended payments in the first six months of 2009.

The two negative actions this year fell in the energy sector. Valero (VLO) decreased its dividend by 67% in January and Tesoro (TSO) suspended its 20 cent dividend in February.

Cash Likely To Reduce Overall Investment Returns

The past ten years have been difficult for investors given the extent of the market's volatility. During this time period it may seem that holding onto cash has been the proper investment decision. The question then becomes cash versus what other alternative. As the below chart notes though, on a calendar year basis, not once during the past ten years did cash outperform both stocks (S&P 500 Index) and bonds (BC Aggregate Index).

From The Blog of HORAN Capital Advisors

As a result there was a better investment alternative than sitting on cash if that cash was targeted for longer term investments. Holding some cash is perfectly logical if the cash is needed for short term needs. Since 1926 cash has outperformed equities and bonds in 12% of the calendar years covered.

From The Blog of HORAN Capital Advisors

Source: Fidelity (PDF)

Holding some cash can serve as a useful purpose in reducing ones overall investment volatility. However, holding too much cash can be a drag on an investor's overall returns.

Individual Investors Certainly Not Bullish

Individual investor bullish sentiment declined over nine percentage points this week to 24.7%. This is the lowest bullishness level since November 5, 2009 when the bullish percentage was 22.2%. The 8-period moving average of the bullishness level fell for the sixth consecutive week to 35.1%. The 35.1% reading is the lowest bullishness average since the end of July last year when the 8-period average fell to 35%. The bull/bear spread for the week was reported at -17.3%.

From The Blog of HORAN Capital Advisors

Source: American Association of Individual Investors

The Market Does Track Earnings

If operating earnings for 2010 and 2011 come in as anticipated, the market is certainly likely to end the year at a level that is higher than where the S&P 500 Index closed today, 1,030. As the below chart notes, the market does track reported operating earnings.

Data Source: Standard & Poor's

After what has turned out to be a dismal second quarter for the market, many of the stocks in the S&P 500 Index are trading below their 50 day moving average. In fact, only 5% of the stocks are trading above their 50 day averages. This is a level that was last reached in mid May of this year and March of 2009. So on a short term basis the market certainly qualifies as being short term oversold.

The percentage of stocks trading above their 150 day moving average at the end of June (20%), is lower than the May 2010 level of 26%. This moving average declined to only 2% as of early March 2009. This could be one of those examples where the market can stay irrational longer than an investor can remain solvent.

From The Blog of HORAN Capital Advisors

For investors, company earnings reports for the second quarter, and more importantly, forward earnings guidance, will be critical in determining the direction of the market for the second half of the year. At this point in time at HORAN Capital Advisors, we are finding value in higher quality companies that are generating decent earnings and cash flow growth as well as trading at attractive valuations.

Economically, there are a number of positives that we will touch on in our second quarter newsletter. The two biggest negatives though are housing and employment.

Expect Market To Trade Within A Range

If history doesn't repeat itself perfectly, it often looks similar. As the below chart from Chart of the Day details, it is not uncommon for the market to trade within a range after a strong recovery off of a significant bear market. On top of this, the market tends to be choppy during the summer months. If the presidential election cycle market plays itself out, a better market environment may be upon us beginning in the fourth quarter and carrying over into early next year.

Source: Chart of the Day

Investors can use this opportunity to build positions in higher quality companies that have pulled back in this market correction.

How Low Will New Home Sales Fall?

A Peak In The Leading Indicator Index Indicative Of Mid-Cycle Economic Phase

A number of strategists are citing the fact the economic leading indicators index is rolling over based on April's report and thus the economy is rolling over as well. Investors should note though that this is not an uncommon occurrence when the economy is moving into its mid cycle phase. A recent report from Fidelity provides a chart of the LEI versus the coincident indicator index.

"The number of leading indicators rising on a one-month basis fell significantly from seven out of 10 in March to four out of 10 in April (see Exhibit 3, right). On a more sustained six-month basis, eight out of 10 indicators rose in April—the same as the prior month. The declines on a one month basis were relatively small for all of the leading indicators except building permits, which fell 12% in April from the prior month--a sign of continued stress in the residential housing markets. However, continued strength on a six-month basis and mixed messages on a one-month basis could be indicative of the economy moving into the mid-cycle stage of economic recovery (emphasis added).

While leading indicators tend to rise in near unison immediately following recessions, interpreting them becomes more difficult as the economic recovery gains footing because these indicators tend to rattle around in a more volatile manner. The Conference Board combines these 10 leading indicators into a weighted Leading Economic Indicators (LEI) index that helps paint a broader picture than any one of its subcomponents. As an economic recovery develops, it is helpful to observe these leading indicators alongside other data to gauge a recovery’s strength. The Coincident Economic Indicators (CEI) Index, which helps to gauge current economic conditions as opposed to the leading nature of LEI, is suitable for this purpose."

Source:

Rising Corporate Confidence: Yet to Show Signs of Reversal
Market Analysis, Research & Education
A unit of Fidelity Management & Research Company
June 14, 2010
http://personal.fidelity.com/products/funds/content/pdf/yet_to_show_signs_of_reversal.pdf

Where To Invest In An Inflationary Environment

Inflation has not been a threat to the economy or to asset prices in 2010. In fact, last week's CPI report contained hints of deflation with the seasonally adjusted CPI for May equal to the CPI reported in December. However, James Hamilton, professor of economics at the University of California San Diego notes in a recent article on inflation versus deflation,

"...my concern about long-run inflation comes not from the expansion of the Fed's balance sheet, but instead from worries about the ability of the U.S. government to fund its fiscal expenditures and debt-servicing obligations as we get another 5 or 10 years down the current path"

In the event inflation does take hold, what investments should an investor pursue to protect their assets? To answer that question an investor should determine whether they want to pursue an inflation hedge strategy or whether they desire an inflation protection strategy. The difference between an inflation hedge versus an inflation strategy is best summed up by Bill Ralls, CFA of Fidelity.

"In theory, a perfect inflation hedge would be an investment whose price moves in the same direction, at the same time, and by the same amount as changes in the consumer price index. Of course, there is no perfect inflation hedge, and while past performance is no guarantee of future success, some asset types have been more successful than others. For a successful hedging strategy, an investment’s return should increase at least as much as and at about the same time as the increase in inflation—or the time lag should at least be measured in months rather than years. Whereas building in protection against inflation over the long haul requires a more holistic approach and a consideration of what asset types have tended to do best in different inflationary environments."

From a hedging perspective, Treasury Bills, TIPS and commodities have the highest correlation to CPI as detailed in the below table. A perfect hedge would have a correlation of 1.0.

Although commodities have one of the higher correlations, in periods of low inflation (Quintile 1 in the below table) the average 12-month rolling return for commodities is actually negative for all the rolling periods and commodities generated negative returns in 49% of the 12-month rolling periods evaluated.

In high inflation environments, Quitiles 4 & 5 above, commodities had the best 12-month rolling returns. Given the volatile nature of commodity prices, they still generated negative returns in 16% and 28% of the rolling periods.

As I noted in an article from a few years ago, Are Stocks A Good Hedge Against Inflation?, the important factor to consider is the direction of inflation. If the rate of inflation is slowing, i.e., increasing at a decreasing rate, the market is likely to view this as a positive for stocks. So in a high inflation environment, even stocks can be a good investment if the rate of change in inflation is negative.

The conclusion in my earlier article noted, "in these tough times in the market, stock price returns will be impacted by events happening in the future and not by those that have already occurred. From an emotional standpoint, it is easy to let ones feelings for future stock expectations get clouded by past events. Being able to overcome these past influences is important in achieving positive investment returns."

Source:

Inflation vs. deflation: Prepare for Either
Fidelity Viewpoints
By: Bill Ralls, CFA
June 2, 2010
https://news.fidelity.com/news/article.jhtml?guid=/FidelityNewsPage/pages/fidelity-prepare-for-inflation-or-deflation&topic=investing

Is Gold's Bubble About To Burst?

Oppenheimer's chief investment strategist, Brian Belski, believes gold's price has reached bubble levels. In his recent research piece that was summarized in InvestmentNews, Belski states,

"...even on an inflation-adjusted basis, gold prices are higher now — two standard deviations above their long-term averages —than they've been since the early 1980s, when the U.S. was experiencing double-digit inflation. The metal is also “out of whack” with other commodities, a trend which has caused some puzzlement, even in places like the Federal Reserve."

Source: Chart of the Day

Corporate Cash Levels Continue To Grow

Until several quarters ago, cash on corporate balance sheets remained at a fairly stable level. Recently though, companies have been growing cash balances. A recent Wall Street Journal article noted,

"...nonfinancial companies had socked away $1.84 trillion in cash and other liquid assets as of the end of March, up 26% from a year earlier and the largest-ever increase in records going back to 1952. Cash made up about 7% of all company assets, including factories and financial investments, the highest level since 1963."

As the two charts below note, cash has been increasing on an absolute dollar basis (first chart) and also as a percentage of a company's debt level (second chart). For S&P 500 companies, debt has grown by 5.6% over the past two years whicle cash has grown by 42.6%.

Source: Standard & Poor's

With a recent strengthening of the US Dollar versus the Euro and higher capital gain tax rates coming, US companies may use some of the cash to support corporate acquisitions both here and abroad. This same type of scenario played out when then president Reagan adjusted taxes in 1987. Additionally, given the level of cash, companies have the ability to step up dividend payments and dividend growth rates.

At the end of the day, this cash growth does show company business prospects have improved. No doubt corporate level expenses have been cut as well, but growth in revenue and earnings is occurring. I suspect this revenue and earnings growth will continue through year end and into 2011.

HORAN Capital Advisor's Philosophy & Approach

The rules for successful investing do not change just because the environment has become more uncertain. At HORAN Capital Advisors, we believe investing begins by clearly defining one’s philosophy and approach. Managers who stray from their discipline tend to reach for market returns and ultimately get caught in short term situations that can produce negative outcomes. A thoughtful, repeatable approach that emphasizes high quality investments can navigate volatile markets and provide for sustainable long-term outperformance.

Attractive rates of return are achieved with dynamic asset allocation and a focus on high quality investments. Our philosophy emphasizes the importance of fundamentals and valuations. Investor euphoria and asset bubbles occur when fundamentals and valuations are ignored.; therefore, screening for high quality securities takes patience and a disciplined process. The capital markets always present opportunity and value is added when undervalued investments are purchased and overvalued ones are sold.

When we look at specific securities, the screening process must be clearly defined. For example, we approach individual equities by identifying criteria defined by a high quality approach. Companies must exhibit consistent growth, management strength, market dominance, and financial stability. Frequently, the byproduct of these metrics is a consistent dividend distribution. A company with the availability to grow its dividends is a sign of strong cash flow and profitability.

The world has become a different place over the past decade. Household wealth has seen significant variations leading to nervous investors. Volatility may likely remain as the world reacts to sovereign debt issues, geopolitical concerns, and policy changes. Patient investors will find opportunities to invest in securities that have attractive valuations and growth characteristics.

A strong and communicative client relationship enables us to establish an appropriate asset mix utilizing the global opportunity set. Our investment philosophy and core approach helps clients achieve their long-term goals and objectives.

The Market's Bear Case

John Hussman of the Hussman Funds notes in his weekly market commentary that all of the economic growth in this recovery has been fueled by the government's deficit spending. Hussman notes:

...if one removes the impact of deficit spending, "the economy has recovered to the point where the year-over-year growth rate since early 2009 now matches the worst performance of any of the 50 years preceding the recent downturn." In effect, Wall Street's is seeing "legs" where the economy is in fact walking on nothing but crutches.

Hussman's comment cites four variables he evaluates to determine whether we are in a recession or not. An update on the readings for these variables can be read in his weekly comment on the Hussman Funds website.

He does conclude, "From my perspective, the evidence isn't yet sufficient, from a probability standpoint, to firmly anticipate a double dip. But it is notable how close the evidence is to locking in on that conclusion."

Source:

Born on Third Base
Hussman Funds
by: John Hussman
June 14, 2010
http://www.hussman.net/wmc/wmc100614.htm

Contrarian Signs That Bull Market Phase Approaching

Media headlines are now proclaiming that Dow 10,000 is a barrier that may not be surpassed for several years to come. The cover of Bloomberg's June 14th Businessweek magazine features a bear with the article lead in:

"The bearish forecasters who rose to fame in the market crash of 2008 have, for the most part, not surrendered their pessimism. Their moment could be coming back around..."

Last week an issue of the Wall Street Journal featured an article titled, The 11-Year Itch: Still Stuck at Dow 10000, that was written by Jason Zweig. In that article it noted:

"Last week, the Dow Jones Industrial Average rose above 10000—again. Since March 16, 1999, when it first touched 10000 in intraday trading, the Dow has bounced over that threshold and back 63 times. This Friday (6/11/10), the index closed 219.6 points below where it stood exactly 11 years ago."

As the WSJ article notes, the Dow hit 1,000 for the first time in January 1966 and did not convincingly close above that level until December 1982. In November of 1963, with the Dow at 740, Ben Graham said:

"in my nearly 50 years of experience in Wall Street, I've found that I know less and less about what the stock market is going to do but I know more and more about what investors ought to do."

At the end of the day, one will not see the bull market coming, but all the bear market talk tends to be an indicator of a better market environment in the not too distant future.

Dividend Payments Likely To Improve?

As I have noted in past posts, 2009 was the worst year for dividends since the late 1950s. S&P reports that dividends on the S&P 500 Index fell 21%, which was the biggest decline since 1938. Even worse for investors was the fact that the higher quality dividend paying stocks lagged the broader market rebound in 2009 by returning 26% versus 65% for the S&P 500 Index. As Tom Huber, portfolio manager of T. Rowe Price's Dividend Growth Fund notes,

"A dividend-oriented strategy has to be looked at over market cycles—there are times when it will lag, typically coming off a market correction or recession, and times when it does relatively well, usually in periods of market turbulence."

Today, companies are in a position to once again focus on growing their dividends for several reasons.

• Strong Balance Sheets: Many companies are flush with cash. A recent Wall Street journal article noted, "U.S. companies are holding more cash in the bank than at any point on record, underscoring persistent worries about financial markets and about the sustainability of the economic recovery. The Federal Reserve reported Thursday that nonfinancial companies had socked away $1.84 trillion in cash and other liquid assets as of the end of March, up 26% from a year earlier and the largest-ever increase in records going back to 1952. Cash made up about 7% of all company assets, including factories and financial investments, the highest level since 1963."

• Sluggish Growth: In periods of slow economic and earnings growth dividends become a more critical part of the total return of a particular company's stock. In this environment companies are likely to respond to the investor's desire for more income from their equity investments. Since 1925, reinvested dividends have accounted for almost 44% of the total return of the S&P 500 Index.

• Less Volatility: Dividend paying stocks tend to be less volatile during downside market volatility. One factor we believe that will be present in the investment markets for the foreseeable future is a more volatile investing climate. A recent T. Rowe Price report notes, "dividend-paying stocks in the S&P 500 outperformed nondividend payers in every bear market since 1973 but tended to lag in bull markets, according to Ned Davis Research (NDR), a market research firm.

  During the bear market from March 24, 2000, to October 9, 2002, the S&P 500 plummeted 49.1%, while the Dividend Aristocrats gained 15.5%, according to Strategas Research Partners, another market research firm. In the recent market decline from October 2007 to March 2009, the Aristocrats declined 49.6%, compared with 56.8% for the S&P 500."

• Long-Term Performance: "NDR calculates that from 1972 through March 31, companies in the S&P 500 that have consistently increased or started making their dividend payouts provided an annualized return of 9.4%, compared with 7.3% for companies that paid dividends but did not increase them and only 1.5% for non-dividend-paying stocks."

• Steady Cash Flow: "From 1980 through 2009, dividends on stocks in the S&P 500 grew at an annual compound rate of 4.7% compared with the 3.7% annual inflation rate."

  Over a longer time period, principal growth of an equity portfolio outpaces that of a fixed income portfolio as well. The T. Rowe Price article cites a Ned Davis Research study showing this performance difference.

  "NDR tracked the performance of two portfolios over the past 25 years. One consisted of the top 50% of dividend payers in the S&P 500. The other was the S&P Long-Term Government Bond Index. The study assumed all interest and dividend payments were taken in cash each year.

  Assuming a $500,000 initial investment in each portfolio at the end of 1984, the equity index provided total dividend payments of more than $2.6 million through 2009, or about $212,000 more than the total interest payments from the bonds. Moreover, in terms of principal value, the original $500,000 investment in the stock portfolio grew to more than $2.8 million compared with about $908,000 in the bond portfolio."

For an investor then, a resumption of dividend growth could be at hand. The stock prices of dividend growers will likely benefit from this growth as well.

Source: T. Rowe Price Report

If history plays itself out, outperformance of dividend payers, over the long run, is likely to continue.

Source:

Dividends, a Casualty of the Crisis, Poised for a Comeback? (pp12-13)
T. Rowe Price Report
Spring 2010
http://individual.troweprice.com/staticFiles/Retail/Shared/PDFs/Spring2010PriceReport.pdf

Market Still Short Term Oversold

Just because the market seems oversold, this does not mean it will move higher in the next day or week. I wrote a post on May 31st titled, Seems Like The Market Is Oversold. At that time the S&P 500 Index was trading at 1,089 and closed today at 1,050 or 3.5% lower than the 5/28 close.

What does seem to be the case though is the selling pressure is subsiding in spite of the late day sell off today. Trading volume on these down days continues to occur on successively lower volume days. Additionally, the percentage of stocks trading above their 50 and 150 day moving averages continues to decline. The percentage above their 50 day M.A. is not too far from the percentage reached in March of last year.

With this recent pullback, there are a number of high quality stocks that are trading at attractive valuations and yields. Investors might use this opportunity to initiate or add to these positions if they have cash set aside for equity purchases.

Dividend Payers Trail Non Payers In May

The performance of the dividend paying stocks in the S&P 500 Index trailed the non payers in May by 1.34 percentage points. The payers returned -7.75% versus -6.41% for the non payers. On a year to date basis the payers have a slight edge, 3.20% to 3.11%, respectively.

Source: Standard & Poor's

Presidential Election Cycle Nearing Its Best Quarters

The market's performance around the presidential election cycle is one technical data point that seems to garner quite a bit of press-so here we go.

Standard & Poor's recently updated the cycle data through the first quarter of 2010 and going back to 1945. What the data suggests is the worst performing period for the market is Q2 and Q3 of the second year of a president's term. As the below table notes, the second quarter averaged a loss of 2.0% and the third quarter averaged a loss of 1.0%. For the quarter to date period in Q2 of this year, the S&P 500 Index is down 8.61% through the market's close on June 4th. This 8.61% decline is far worst than the average decline of 2.0%. In fact May's return of -8.2% is the worst May return for the market since 1962.

For Q4 of the second year, Q1 of the third year and Q2 of the third year, the frequency of positive returns was over 80%. For a sign that the market might achieve these positive returns investors should look for market leadership in the cyclical sectors like, autos, steel and equipment related firms. So seeing positive momentum from the industrial, materials and some consumer discretionary related companies could be a signal that the market will resume its upward advance.

In looking at the chart technicals for the S&P 500 Index, downside volume has been on the decline. One question that jumps out in the chart is whether the red line around the 1,050 level on the S&P is support or whether it is the neckline in a head and shoulder chart pattern. If the market can push through the 1,150 level on the S&P, i.e., break the resistance of the left shoulder of the pattern, technically the market could see additional strength. In the end though, the market will trade on fundamentals.

We are cautiously optimistic about the market through year end. With this recent pullback, there are a number of high quality companies that are trading at attractive valuations and have decent yields. The market will not move higher on a straight line basis and volatility is likely with us for some time. However, investors are getting an opportunity to begin building positions in attractive high quality companies at this point in time.

Source:

Whistling a New Tune in June?
Standard & Poor's
By: Sam Stovall, Chief Investment Strategist
May 28, 2010
http://tinyurl.com/2eegx46

Stocks Undervalued and/or Bonds Overvalued?

Below is research on the difference between stock and bond yields and subsequent 12-month forward stock market returns. The data was pulled together by Argus Research.

"The chart below depicts (on the right axis) the gap between the yields on the benchmark 10-year Treasury note and the S&P 500. Plotted against this series is the performance gap between the return on the S&P 500 and the return on the 10-year Treasury over the subsequent 12-month period.

Generally, a yield gap of 400 basis points or less has proven bullish for stocks. More notable, however, is that extreme levels have been very predictive of the market’s future direction. For example, the yield gap peaked in the fourth quarter of 1999 at 535 basis points, accurately foreshadowing that stocks were quite overvalued relative to bonds. Alternatively, in March of 2003 the gap had shrunk to just 150 basis points as bond yields had plunged and stock prices had sunk to bear market lows (thus pushing up dividend yields). The current readings are even below the March 2003 levels, suggesting that stocks are quite undervalued."

Source: Argus Research & Charles Schwab

Smart Money Optimism On The Increase

One sentiment indicator that has a fairly wide following is the Smart Money Dumb Money Confidence Index pulled together by SentimentTrader.com. As the below chart notes, the smart money indicators of the so called smart investors are starting to signal i more optimistic market environment.

Liz Ann Sonders, Chief Investment Strategist for Charles Schwab & Co notes:

"In general, you want to follow the smart money traders—tracking indicators such as commercial hedger positions and the S&P 100 index (OEX) put/call and open interest ratios. In contrast, you want to do the opposite of what the dumb money traders are doing—tracking indicators such as the equity-only put/call ratio, flows into and out of the Rydex series of funds and small speculators in equity index futures contracts.

As the old adage goes, markets can stay irrational longer than you can stay solvent, so I’m not here to judge the precise end to this correction. As we’ve noted, the market had been overdue for another pullback, one likely to be less benign than those that preceded it in light of stretched technical and sentiment conditions. In fact, it’s usually soon after the first year of a new bull market (cyclical or secular) that the market experiences its first 10%-15% correction."

Source:

Some Days Are Better Than Others ... Just Not These Days
Charles Schwab & Co.
By: Liz Ann Sonders, Chief Investment Strategist
June 1, 2010
http://tinyurl.com/29xcuu5

Better Investing's Most Active

Following is a list of companies attracting the most interest from members of BetterInvesting, based to their recent buy and sell decisions, as reported by a small, informal sampling -- 160 transactions -- for the trailing 4-week period ended Monday, May 31, 2010.

Full View

Figures in parentheses provide the previous ranking four weeks ago. This listing is presented as a source of stock ideas in the current market. No investment recommendation is intended.

Disclosure: Long ABT, GE

Seems Like The Market Is Oversold

The S&P 500 Index return of -7.99% for May 2010 was the worst since May 1962. This poor May performance seems to be validating the mantra, "sell in May and go away." Just as selling in May 2009 was not the right investment approach, could selling now be equaling bad timing given the magnitude of the market's decline in May?

The sharp sell off has resulted in a number of technical indicators suggesting an oversold market. The percentage of S&P 500 stocks selling below their 50-day moving average is near levels achieved in early 2009.

Additionally, individual investor sentiment become significantly more bearish last week. The American Association of Individual Investors reported bullish sentiment declined over 11 percentage points to 29.83%. The bull/bear spread became more negative at -21%.

Lastly, S&P notes that with 99% of companies having reported first quarter earnings, the rolling four quarter reported earnings per share totals $60.93. As the below chart notes, earnings have crossed the value for the S&P 500 index. Could this be a form of the technician's golden cross? Earnings estimates for the S&P in 2010 total $64.84 and the 2011 estimate is $80.92. Company fundamentals do seem to be favorable.


If there is a concern, beyond those in Europe, it is deleveraging that is occurring at the moment. This deleveraging process is taking away some of the strength that would come from the consumer. With job growth weak, consumers are feeling stressed and with out a confident consumer, economic growth might continue, but on the weaker side.

Market Corrections Not Unusual

A bull market is defined as one that achieves a return greater than 20%, conversely a bear market is one that declines over 20%. Market corrections are ones where the decline is greater than 10% , but does not exceed 20%. The market's recent decline from its April high was -12.3%; thus qualifying it as a correction. Corrections do not necessarily lead to bear markets though.

According to a recent report from Fidelity, the following aspects of market corrections are pretty typical:

• It’s been about 14 months since the current bull market began on March 9, 2009, which is in the neighborhood of the average length of time that has passed from the start of prior bull markets to a first correction (17 months, see above table).

• The stock market gained 80% before the recent correction. Historically, the first correction in a new bull market has come after average gains of 57%, implying the current bull market was overdue for a correction on a price appreciation basis.

• The main factor that has differentiated this recent correction is that it has taken place at a fairly swift pace compared to history. It took 27 days for the market to surpass the 10% decline threshold, which is half the time it’s historically taken on average for a correction to occur (54 days).

• Since 1926, there have been 20 stock market corrections during bull markets, meaning 20 times the market declined 10% but did not subsequently fall into bear market territory. Whether the market recovers again from here and avoids a bear market remains to be seen, but at the very least the more surprising development based on historical patterns would have been a continued bull market rally without a 10% pause.

In the short term, the S&P 500 index has bounced 2% off the May 26 low of 1,067. A number of equities are now trading at attractive valuations; maybe giving investors an opportunity to pick up some decent companies at attractive prices/valuations.

Source:

Stock Market Corrections: Unsettling But Not Unusual (PDF)
Fidelity Management & Research Company
By: Dirk Hofschire, CFA
May 21, 2010
http://personal.fidelity.com/products/pdf/stock-market-corrections.pdf

Are You A Contrarian Investor?

Volatility remains the order of the day and the market is down over 13% from its recent high. One can go back to 1998 and the S&P was trading at the 1055 level so in 12-years, on a price only basis, an investor has essentially made no money investing in the S&P 500 Index.

One question might be to determine if you are a contrarian investor. A recent MarketWatch article, The Bearish Bandwagon, noted that as of a couple of weeks ago, market timing newsletters were recommending investors allocate 80% of their Nasdaq-oriented portfolios to stocks. Today they are recommending minus 45%. The article notes, "this represents an extraordinary shift away from excessive bullishness to aggressive bearishness in a remarkably short period of time."

Markets Are Increasingly Volatile

Recently, investors seem to be pulling the sell trigger first and asking questions later during down market days in the stock market. At one time in the not to distant past investors believed 1% daily moves in the market were rare. Now 1% daily moves seem almost commonplace. Now the new standard is 2% daily price swings.

According to Standard & Poor's:

"the number of days in the past year that the S&P 500 fell by 2% or more in a single day began to accelerate. Indeed, May 4 and May 6 were the two most recent times the 500 dropped 2% or more in a single session. In the past 12 months (ended May 14), the 500 fell by 2% or more 13 times vs. an average of seven per year since 1970. Of course, these readings are nowhere near the peak of 54 declines experienced in mid-2009 as a result of the megameltdown in equity prices."

The quick sell mentality of investors seems to be driving higher volume on down days as well. Year to date through May 14th, S&P reports the volume of trades in S&P sector ETFs on down days equals 278.4 million shares. The volume on up days is 177.1 million shares. As a result the percent of down volume to up volume is 61%.

This higher volatility is an aspect of investing that investors need to be aware of going forward. A key focus of the investing approach utilized at HORAN Capital Advisors is to construct the foundation of ones portfolio in a way that minimizes this volatility.

Source:

Learning to Live with Increased Volatility
Standard & Poor's
By: Sam Stovall
May 17, 2010
http://tinyurl.com/28xa4a6

Launching A New Era In Wealth Management

I am pleased to announce the formation of HORAN Capital Advisors (HCA) in conjunction with Mark Bennett, CFA, Nick Reilly, HORAN Associates and Terry Horan.

HORAN Capital Advisors expands on the larger HORAN organization by expanding on HORAN's wealth management services. The combination of HORAN’s well-established wealth management practice combined with the intellectual capital and depth of experience of HORAN Capital Advisors creates a strong resource for individuals, families, and institutions.

HORAN Capital Advisors expands on the value HORAN provides to current clients while advising on over $550 million in assets. HCA extends the expertise of HORAN’s wealth management practice by providing clients with superior market knowledge and a proven, sound approach to investment solutions.

The foundation for HCA was established by Jack Horan in 1948. By satisfying the needs of their clientele for over 60 years, HORAN Associates has grown to become one of the region’s largest privately held financial services companies. HORAN has over 6,500 clients in 40 states while managing diversified products for more than 500 companies and 170,000 individuals.

To learn more about our thinking and approach to managing wealth for individuals and institutions, visit HORAN Capital Advisors' website and the HORAN organization website.

Higher Yielding Bonds Tend To Hold Up Better In Rising Interest Rate Environment

If an investor maintains any cash in a money market/savings account today, they know interest rates are at levels approaching zero percent. Consequently, it does not seem as though rates can go much lower. When (not if) interest rates do begin to trend higher, be it 6, 9 or 12 months from now, the impact on the price or value of bond investments will be negative. As bond investors know, there is an inverse relationship between bond prices and interest rates. As interest rates rise, the price of bonds will decline. In simple terms, the magnitude of the bond price decline is dependent on the maturity length of the bond or bond fund and the coupon yield for the bond.

Fidelity recently published a research report showing the impact on bond returns during one of the toughest periods for a bond investor: 1941 - 1981. During this stretch of time, intermediate treasury rates rose from .5% to over 16%. As detailed below, bonds that had higher rates tended to generate better returns over the early period of the '41 - '81 time period. The reason for this is bonds with higher coupons and or shorter terms returned cash to an investor sooner that could be reinvested at the then higher rates.

As mentioned earlier, the concern with the Fed moving to an increasing interest rate environment is the potential for an investor to experience negative total returns in the bond portion of their portfolio and many investors use bonds as an insulator or shock absorber to counteract volatile equity markets. I believe Fidelity's research article sums up the situation pretty well:

Investors have reason to worry about future prospects for bond returns—history shows that current low yields may be expected to result in below-average performance, especially if interest rates rise. Investors particularly concerned about the possibility of rising rates may want to diversify their fixed-income portfolios into less interest-rate sensitive sectors. However, the great bond bear market of 1941-1981 also offers some more comforting lessons as well. High-quality bonds are much less volatile instruments than stocks, and they do not lose that attribute during periods of rising rates. Even during a prolonged period of rate increases, owning bonds lowered the volatility and improved the risk-adjusted returns of an overall investment portfolio. As a result, investors may not look with much excitement at the near-term outlook for bond returns, but that doesn’t mean they should over-react by shunning bonds altogether.

Of particular concern is record levels of cash continue to pile into bond funds as reported by ICI. The previously reference link also shows investment flow activity after the flash trading market correction from a few weeks ago. In aggregate, investors have withdrawn large sums of money from all types of investment funds, with the largest dollar amount coming out of equity funds. subsequent to the flash trading event. The Zero Hedge website contains a chart of the S&P index graphed with the fund flow data.

For bond investors, pay attention to the maturity (better yet, duration) of the bond or bond portfolio. Additionally, staying invested on the shorter end of the bond curve could minimize the impact that a rising interest rate environment will have on a particular bond or bond fund's price.

Source:

Perspective on the Potential Downside for Bonds
Fidelity Management & Research Co.
By: Dirk Hofschire, CFA
April 23, 2010
http://personal.fidelity.com/products/pdf/perspective-potential-downside-bonds.pdf

A Lot Of Good Economic News Too

Much of the financial news has been centered on the EU and its dealings with the Greece sovereign debt issue. Rightfully so the debt issue is one that could have consequences beyond Greece itself. On the other hand, quite a bit of good economic news has been reported recently as well.

Industrial Production

• Industrial production jumped up at an annualized rate of 10.0 percent in April, following an upwardly revised 2.5 percent gain in March.

• Over the past 12 months, industrial production is up 5.2 percent, its highest growth rate since June 2000.

Consumer Sentiment

• The University of Michigan Index of Consumer Sentiment edged up in early May, increasing from an index value of 72.2 to 73.3.

• Both the current conditions and consumer expectations components posted modest increases, contributing to the overall increase.

Retail Sales

• Total retail sales rose 0.4 percent (nonannualized) in April, following an upwardly revised 2.1 percent jump in March.

• Over the past 12 months, retail sales have risen 8.8 percent (their highest growth rate since July 2005).

Factory Orders

• New orders for manufactured goods increased 1.3 percent (nonannualized) in March, following an upwardly revised 1.3 percent jump in February.

• New orders excluding transportation rose 3.1 percent in March and are now up 15.6 percent over the past year.

• The I/S ratio for manufactured goods continues to decline from its peak reading of 1.47 months in January 2009 to 1.27 months.

ISM Index

• The ISM’s Manufacturing Purchasing Managers Index (PMI) continued improve in April, increasing 0.8 index point to 60.4 (its highest level since June 2004), following a 3.1 point jump in March.

• The new orders index jumped up from 61.5 to 65.7 in April, continuing its rebound from an all-time low of 22.9 in December 2008.
  

• The production index rose 5.8 points to 66.9 during the month, marking its eleventh month above the diffusion index growth threshold of 50.

• The employment index surged to 58.5 its highest level since January 2005.

Nonfarm Payroll Employment

• Nonfarm payroll employment grew by 290,000 in April, topping expectations for roughly a 200,000 gain. Census hiring inflated April’s figure by 66,000, but private payrolls still increased 231,000 when discounting the government’s boost.

• Revisions to February and March figures were solid as well, tacking on an additional 121,000 jobs and leaving those months’ respective gains at 39,000 and 230,000.

• Jobs in goods-producing industries expanded by 65,000, and services expanded 166,000, its largest increase in over three years.

From a stock market perspective, the S&P seems to have held support at its 200 day moving average at around 1,100. The 50 day moving average is now serving as resistance for the index at the 1,174 level. With the index closing at 1,135 on Friday, if it reaches the 1,174 resistance level, that would be a pretty decent return. Additionally, the selling volume seems to be subsiding as it is in a downtrend at this point. A number of investors likely got stopped out during the 1,000 point decline that occurred on May 6 and are trying to reenter the market.

Economic Data Source: Federal Reserve Bank of Cleveland

A Look At The Market Around The Presidential Election Cycle

I have noted in the past that the market, the Dow Jones Industrial Average ($INDU) in this case, tends to follow a pattern around the presidential election cycle. It is believed tougher economic policy is followed early in the presidential election period if necessary. The hope is the economy will recover in time to re elect the party that is in power. If the market follows this same pattern, a sideways trend may be the norm until the 4th quarter of this year with a stronger advance in the pre-election year period.

Given the extent of potential tax increases in 2011 and sovereign debt issues, a strong market advance is not assured next year. In this environment, an investor should consider constructing the foundation of their investment portfolio in high quality companies.

Source: Dogs of the Dow

The Two Sides Of Risk

I read an interesting newsletter written by Howard Marks of Oaktree Capital where he opines on two main investment risks: the risk of losing money and the risk of missing opportunity. In the Howard Mark's newsletter, he notes:

You can completely avoid one or the other, or you can compromise between the two, but you can’t eliminate both. One of the prominent features of investor psychology is that few people are able to (a) always balance the two risks or (b) emphasize the right one at the right time. Rather, at the extremes they usually obsess about the wrong one . . . and in so doing make the other the one deserving attention.

During bull markets, when asset prices are elevated, there’s great risk of losing money. And in bear markets, when everything’s at rock bottom, the real risk consists of missing opportunity. Everyone knows these things. But bull markets develop for the simple reason that most people are buying – ignoring the risk of loss in order to keep from missing opportunity – just when elevated prices imply losses later. Likewise, markets reach their lows because most people are selling, trying to avoid further losses and ignoring the bargains that are everywhere.

The entire newsletter can be read at the original post on Zero Hedge's website. Mark's provides some thoughts pertaining to the current market environment as well.

Dividend Aristocrats Outperforming Year To Date

In a volatile market environment like the one experienced over the last several weeks, investing the foundation of ones equity portfolio in high quality dividend paying stocks can be beneficial. As the below table displays, S&P's Dividend Aristocrats are outperforming the broader S&P 500 Index on a year to date basis through 5/13/2010. The higher quality nature of dividend payers tends to provide a cushion in highly volatile down trending markets.

Data Source: Standard & Poor's

The S&P 500® Dividend Aristocrats index measures the performance of large cap, blue chip companies within the S&P 500 that have followed a policy of increasing dividends every year for at least 25 consecutive years.

Events Last Week Were An Excuse To Take Some Profits

As typically is the case, the event(s) that precipitates a market correction is typically unforeseen. Last week's 1,000 point plunge in the Dow at mid week was no exception. Not wanting to make light of the cause for the correction, the S&P 500 Index ($INX) seems to have bounced off its 200 day moving average this past Friday.

From a fundamental perspective, bottom up 2010 and 2011 earnings estimates for the S&P 500 Index are expected to total $81.06 and 94.87, respectively. The $94 estimate would surpass the $92 earnings achieved near the market's peak in late 2007. At that point in time the S&P 500 Index traded in the 1,500 area. Is it possible or better yet probable that the market gets back to this level in 2011?

Through the end of April, the only S&P sector trading near its October 2007 high is the staples sector. As the below table indicates, most sectors are still below their highs by double digit percentages. The S&P 500 Index itself remains over 24% below its October 2007 high.

As I noted in October of last year, anecdotal evidence of a pickup in trucking activity seemed evident during an out of town trip. An article from a week or so ago, Riding the rails: Road map to recovery, also cited a pick up in trucking and rail activity as a sign of improved economic activity. Although first quarter GDP of 3.2% came in lower than the 5.6% reported for the fourth quarter of 2009, it was growth nonetheless. From a positive perspective the growth came from the consumer and business (excluding inventory restocking). Longer term, a lack of saving by the consumer is a problem.

In the recent edition of Standard & Poor's The Outlook, they note that, "no bull market since 1949 has lasted fewer than 24 months." So can this bull market run through March of 2011?

Disclosure: Long NSC

Don't Let Government Dictate Whether One Is In Or Out Of The Market

Tom Gallagher, ISI Group's Washington Analyst, provides insight into recent policy action and its future impact on the market in this recent WealthTrack video. His view on government's impact on the market is an interesting one.

As some readers of this blog know, ISI is a highly respected research and strategy group with many of its analyst top rated by independent outside sources. Tom's strategy team team has been rated #1 by Institutional Investor magazine for 7 straight years.

Tom notes investors should expect somewhat lower returns in their equity investments in the coming years. A part of this is a direct result of the government's action in this post bubble period. Tighter credit standards are being forced on financial institutions and consumers are attempting to reduce the leverage on their own balance sheets at the same time. He notes in the video that yield will become an even more important part of an investor's returns in the coming years versus just capital appreciation.

Lastly, Tom makes some interesting comments about the potential long term opportunities that exist in the emerging markets. He cautions there may still be some downside risk in those markets; however, long term value is present.

Does May 2010 Lead To A Repeat of March 2009

For investors, today's market action may have felt like late 2008 or the first quarter of 2009. One aspect of the 2008 and early 2009 market was investors had an opportunity to reassess their comfort level with the potential volatility associated with equities. Many were questioning whether they should be reducing their equity exposure during that time period. If they stayed the course, they were able to recover a large portion of paper losses during the last 15 months.

In the strong market advanced achieved since March of last year, investors need to be cautious in not letting emotions get in the way of sound investment decisions. If an investor was uncomfortable with the market environment in March last year and today were uncomfortable with their investments due to today's 1,000 intraday market decline, then an investor might want to consider lightening up on equities at this point in time keeping in mind equities are a long term investment choice.

As it turned out though, a majority of today's market decline was the result of an erroneous trade. For the trade in question, a trader selling shares of Procter & Gamble (PG) inadvertently entered the shares in billions versus millions. With Procter & Gamble being a Dow component, the 37% drop in P&G's stock contributed about 170 points to the Dow's decline. 3M (MMM) fell over $18 and represented over 140 points in the Dow's decline.

Without a doubt there are some uncertain market events in play at the moment, specifically events in Greece and the potential contagion in the sovereign debt markets. From a fundamental perspective though, the U.S. market does not seem to be extended on a valuation basis. Bottom up 2010 earnings for the S&P 500 Index are estimated at $81.06. This represents a projected P/E ratio for the S&P Index of just under 14. Top down 2010 earnings estimates are $65.37 and equates to a P/E multiple of 17. The market is not cheap, but it is does not appear expensive either.

Below are a couple of charts that display a few technical aspects of the market as it relates to the percentage of S&P 500 stocks that are trading above their 50 day and 150 day moving averages. These percentages have decline quite a bit from a few months ago.

For investors then, the sovereign debt issues are certainly events that will continue to impact the markets in the near term. The biggest concern is whether Greece's issues will spill over into other countries like Spain, Italy and Ireland, to name just a few. Investors should keep in mind that it is May and the market is entering a seasonally weak period. Absent of what I think are reasonably sound fundamentals for many high quality U.S. stocks, investors should keep the big picture in mind as it relates to the overall asset allocation for their investment portfolio.

Dividend Payers Outperforming Through April

For the first four months of the year, the dividend paying stocks in the S&P 500 Index are outperforming the non-dividend payers, 11.87% versus 10.17%, respectively. The payers have trailed the non-payers in the strong market advance over the last 12-months, however, investors seem to be rewarding the payers now.

Data source: Standard & Poor's

The Beginning Of May And The Market

Now that it is May some investors are reminded of the adage, "sell in May and go away." Selling in May in 2009 certainly would have left investors on the sidelines during one of the strongest bull markets of recent years.

The tough part with the selling in May strategy this time around is where does an investor go with the cash. As the above table shows, even the low rates of return in the May to October period would be better than money market investments in this market. As a recent Bloomberg BusinessWeek article notes, the May to October period has seen gains in 12 of the last 20 years. The Sell in May and Go Where? article provides an investor with some areas of the market that have tended to perform well during this period, i. e., Health Care and Staples are a couple of sectors.

Source:

Stocks: Sell in May?
Bloomberg BusinessWeek
April 27, 2010
http://www.businessweek.com/investing/insights/blog/archives/2010/04/stocks_sell_in_may.html

Sell in May and Go Where?
The Outlook
By: Sam Stovall
May 5, 2010
http://www.spoutlookonline.com/NASApp/NetAdvantage/mkt/OutlookMarketInsight.do?subtype=OWMO&pc=NET&tracking=NET&context=Company&docId=15400443