About Me

Retired chief investment officer and former NYSE firm partner with 50 plus years experience in field as analyst / economist, portfolio manager / trader, and CIO who has superb track record with multi $billion equities and fixed income portfolios. Advanced degrees, CFA. Having done much professional writing as a young guy, I now have a cryptic style. 40 years down on and around The Street confirms: CAVEAT EMPTOR IN SPADES !!!

Tuesday, June 28, 2011

Stock Fundamentals -- Secondary Indicators

Corporate Profits
There has been a little slippage in the profits indicators, but nothing serious to date. Earnings
have recovered dramatically from extremely depressed levels. Yet, when viewed in historic
context, S&P 500 net per share is still running well below levels consistent with a cyclical
top and thus have plenty of room to run. Analyst earnings projections are moving well ahead
of what the macro indicators suggest, but the decay in the market's p/e ratio over the past
14 months suggests that investors have more modest expectations. Given the substantial slack
still extant in the US economy and a rather moderate growth outlook, profits have the potential
to rise out through 2014, provided the economy gains greater balance.

Oil Price
Rapid surges in the oil price do constrain the stock market, but it takes an up move in oil which
runs well above its long term channel to attract more serious concern from stock investors, such
as occured from mid 2007 - mid 2008, and more recently, from Feb. into early May. The sharp
break down in the oil price in recent weeks does take considerable pressure off stocks, but as
of now the stock market still remains vulnerable to a rising oil price.

Money market fund cash reserves have been drawn down very sharply over the past two years
to fund advances in the capital markets. It has only been very recently that institutional players
have begun to add a little more cushion to reserves. Now as a recovering economy rolls along
and reserves are drained to capture gains in the markets, private sector credit creation often
helps sustain stock market appreciation. The US stock market has not required leverage to
sustain its advance in this current cyclical bull market and that has been a good thing because
the broad measure of financial system funding has changed precious little. But with QE about
to be shelved and cash reserves running low, the US may well need to see more private
credit creation to sustain the stock market.

Monday, June 27, 2011

Stock Fundamentals -- Primary Indicators

An "easy money", high return / low risk buy signal for this cycle was first flashed during 12/08.
That signal remains in effect. By post WW2 standards, the signal is past due to end with a
reversal of the indicator readings.

But, this has been a near depression environment, and monetary policy has been super easy,
much as it was during the post 1932 period, when the economy began to recover from the Great
Depression and the Fed pegged short rates at nominal levels and allowed the monetary base to
expand rapidly for a lengthy period of time.

During post depression periods, private sector credit demand either shrinks in the early going
or grows negligibly. This leaves money and cash equivalent as the primary source of liquidity.
Thus it has been that investors have been so sensitive to the quantitative easing tactics of the
Fed. During this cycle, the Fed has twiced reversed QE: May - Aug. 2009 and May - Nov.,
2010. The stock market struggled during both of these periods, and needed assurance from the
Fed that  QE would be resumed before it could recover the primary uptrend.

The market has struggled here in 2011 following the Fed's clear intimations that QE2 would
end on 6/30/11. Thus it is that the "easy money" buy signal has not assured a low risk
environment this time out, as the generation of incremental monetary liquidity has been
critical both to the real economy as well  as the stock market.

The private sector credit markets have been thawing out but at a very slow pace in the
aggregate. So, we can only observe how well the economy will hold up in the months straight
ahead in the absence of a strong flow of monetary liquidity. Consequently, I would have to
say that the primary buy signal may not imply continuation of a high return / low risk
environment, and may not function as well as it customarily does. I do not draw a negative
conclusion here. I admit to wariness as I am stuck wanting to see how well the economy
performs and whether there is indeed some bounce back potential after a slow first half of
the year.

Monetary base historical chart.

Saturday, June 25, 2011

Stock Market -- Just Curious Right Now

the Value Line Arithmetic index ($VLE) is a favorite of mine and has been a market leader
in the current cyclical bull market. It is a broad 1700+ stock unweighted composite. The
stock market has struggled over the past six months. The $VLE did make higher highs this year,
but has given up some significant ground since the end of Apr. What intrigues me is that on a
closing price basis, the index, despite its volatility, has held support on each of the trims it
has experienced. $VLE chart.

It has held at or near the 2875 level on a half dozen occasions over the past six months, and I
am reluctant to turn negative on the market when this key index -- a decent measure of the action
of the average stock -- steadfastly and successfully tests support.

Thursday, June 23, 2011

Oil Price -- Yet Again

During this normally seasonally weak period for oil, the price of West Texas crude has dropped
by $23 bl. to around $92. The Saudis have boosted output to 8.8 mil. bd, and there is now talk
from the kingdom that they are prepared to boost production to a little over 10 mil. bd. to stabilize
the market. The OECD countries let their carry stocks run down from nearly 60 days carry to 50
as the producers ran lower cost crude through refineries to pop profits. This has prompted the
IEA to disclose that major OECD consumers are going to release 60 mil. bl in Jul. from strategic
reserves to provide modest carryover cushion. The bigger issue on the supply side is whether
the Saudis are willing to show their hand on spare capacity / larger production.

It is an important matter. It is no coincidence that MENA political upheavel has come in the wake
of a deep global economic downturn. Further economic destabilization from a fast rising oil price
may, if such occurs, lead to additional socio-political blowback which the Saudis might find harder
to manage. Wisdom suggests that if the Saudis can produce substantially more oil, that they do so
either later this summer or early next winter, for continuation of a fast rising oil price will eventually
create additional destabilization.

The oil price at $92 is down to test the cyclical uptrend line from early 2009. The bulls in the
trading pits may try to make a stand here. With seasonally weak demand still in place, and with a
smaller than now commonly forecast seasonal rebound in store as the summer progresses, oil
could have up to $15 bl. additional downside near term, especially if the Saudis are seen as
boosting output above the recent 8.8 mil bd level.

West Texas oil.

Wednesday, June 22, 2011

Monetary Policy

With eyes toward options for 2012 -- a national election year -- the Fed has opted to keep policy
unchanged, including letting QE2 expire, but reinvest proceeds to keep Fed Bank Credit (FBC) at
the current high level. The Fed is thus setting policy based on its view of mild economic recovery
and a slackening of inflation pressure. They are assuming The enlarged stock of FBC is sufficient
to provide an appropriate liquidity backstop for growth and are figuring that there is bounceback
in the cards as Japan recovers and refills pipelines and that output lost this spring from the large
flooding along the Mississippi will be made up so that there will be adds to demand. They are
also assuming a deceleration of inflation will raise real incomes and consumer confidence, and
figure the expiration of QE2 will help underwrite lower inflation. If they are wrong on economic
demand and it is too slow, QE3 will be an option for next year, which would keep them in the
background of the political battle for the presidency. If the economy surprises on the upside, They
will have every good reason to raise short rates, and can remain in the background as a faster
progressing economy would shift the ground of political debate.

This leaves investors with no easy crutch as with the QE programs, and will put an even larger
premium on the interpretation of unfolding of economic news over the next six odd months. Players
will continue to be circumspect until incoming data enables them to better connect the dots and feel
more assured about strategy. No more hand holding by the Fed? Suck it up and move on and no
whining please.

With the markets for private sector credit thawing slowly and gradually, this is a risky but not
necessarily fatal move by the Fed, especially if inflation pressures are more subdued.

Tuesday, June 21, 2011

Quick China Update

The PBoC has returned to more timely release of monetary data. The broad measure of money,
M-2, continues to experience decelerating growth, with the yr/yr rate of change down to 15.1%
through May (This compares to 30%+ yr/yr readings in late 2009 when the giant stimulus program
had been rolled out).

On a very simple macro basis, 15% money growth equates to 9.5% real growth and 5.5% consumer
inflation. Since inflation in China is still accelerating, the authorities will likely keep M-2 on a
slow growth path until it drops down inside of 15% yr/yr. A curtailmet of M-2 growth inside of
10% yr/yr would invite further downward pressure on real growth and  the gov. may not want to push
this hard on the brake at this point.

The huge surge of money and credit growth from 10/08 well into 2010 fueled a boom in capital
and investment spending and a speculative surge in the real estate markets which has created vast
tensions within the country over property development. Land grabs and higher inflation have
stoked consumer discontent, and China will need to address these concerns with a far more
conservative and balance monetary and fiscal policy going forward or risk destabilizing its
economy. The rise of inflation pressure has raised the ROI% bar on the stock market which has
led to a persistent decline of the market's p/e ratio. The speculative zeal for real estate has
also curtailed interest in the equities market.

On the plus side, China is well on its way toward bringing better monetary balance and it will
also benefit from the recent sharp slowdown of the progress of commodities prices in general
and the petrol complex in particular in the months ahead. But the key here will continue to be
creation of a more sensible longer term monetary policy.

My view continues to be that the stock market should have a decent shot at recovery over the
second half of the year and into 2012.

Friday, June 17, 2011

Stock Market

Well, as expected, the SPX did find support down in the 1260 - 1270 range. That's the good news.
The bad news is that I was anticipating the start of a nice, tradeable rally once it found support.
That did not occur this week. Blame it on Greece, blame it on quadruple witch...whatever. The fact is that when the market does not do what you think it should do, you are wisest to return to the drawing
board for further cogitation. I would not put it past the market to rally next week, but the bulls did not
show up quite when they should have. I am remain long side opportunistic, but the powder is dry.
I have attached two weekly market charts. The $SPX and the cumulative NYSE a/d line. Both suggest
the bears could squeeze out another week or two. So, I'll take it day by day.

My weekly fundamental coincident indicator has stabilized here in June after declining in May. The
indicator was very strong from late August, 2010 through early April, but it is now no higher than
it was in early January, much the same as the market. At present, the indicator suggests further
stability. This indicator can be broken down into a couple of cyclical pressure gauges, and I have
to say that when these gauges are not moving up with some consistency, stocks tend to languish.
Two important components of the indicator you can follow if you wish are industrial commodities
prices and initial unemployment insurance claims, both of which are now running flat.

I would be remiss if I did not mention that the stock market has tracked Federal Reserve intent
toward quantitative easing very closely. This may continue until we see an acceleration of
private sector credit growth. Whence that occurs, investors tend to lower quantitative moves
by the Fed as a priority.

Productivity & Profits

This post builds on the Tue. 6/14 post (immediately below).

I use a very conservative method for computing productivity in the US economy. The work shows
there has been a modest trend of improvement in worker productivity over the past 20 years. What is
interesting about the current cycle is how rapidly productivity has moved up to a new longer term
high level in just two short years. Looking back in time, cyclical improvements in productivity tend
to take quite a bit longer. The current level of output per worker is not high enough compared to
the 2007 - 2008 period to warrant concern that business is deeply short handed. The same can be
said about a comparison of the level of output per worker now with the 2000 cyclical peak. Yet,
looking forward, extending the current rapid trend of productivity improvement out just two more
years would yield worker unit output levels that would be dramatically, and perhaps, suspiciously
above levels seen over the longer run.

What is even more striking is that over the past 25 years, workers have not been compensated
at rates nearly in line with the growth in current $ unit sales. Moreover, since senior level
management compensation has expanded extremely rapidly, we know that the benefits of higher
productivity growth have been concentrated in the hands of a relatively few. (Since 1985, unit
sales in current $ have expanded by 47% while the comparble figure for total compensation
has expanded by only 38%). I think that this rapidly growing plutocracy will ultimately undermine
US growth and stability over the long term, although there any number of economists who would
take issue with this view.

Even so, the continuing imbalance between the growth of unit sales and profits and that of total
compensation may well constrain profits growth down the road if US consumers maintain a
reluctance to finance spending with credit and line up spending more closely with income

Obviously, I would be much happier with a better balance of jobs and incomes growth compared
to profits growth as I think that investors will ultimately price a growing plutocracy at a
substantial p/e ratio discount to a more balanced distribution of rewards within our economy.

Ok, sermon over.

Tuesday, June 14, 2011

Set To Wondering....

Total US business sales, in which I also include services revenues and construction spending,
is now running around $15.1 tril. At its peak in mid 2008, sales hit $15.7 tril. At the cyclical low
point in early 2009, the comparable figure was just $12.6 tril. So, peak to trough, we saw an
awful, large plunge of 20%. Sales since have recovered by 20%, but the disturbing element is that
since early 2009, total civilian employment is down 1.7% despite that 20% bounce in US sales.
With labor costs hardly moving since early 2009, profits have of course surged on a huge gain
in profit margin and productivity.

MY SP 500 Market Tracker has the market at a fair value of 1450 based on $88. in 12 month earning
power and a moderate inflation rate. The "500", at 1288, is 14.6x the $88 in eps, and players are skeptical about how fast future earnings can grow if payrolls continue to respond in such an anemic manner. The "discount" of price to fair value is now 11%. The dividend payout ratio on the SP 500 is currently 30%. With a return on book equity of 14% x the 70% plowback ratio, earnings growth potential sits at 9.8% longer term. Investors are not buying that, either.

So, what am I wondering about? Well, with a dividend yield of only 2.0%, companies are going
to have to grow earnings at 8% longer term to provide a sensible 10% return potential to attract
risk capital. The "500" has not been able to sustain 8% earnings growth for more than relatively
brief periods even with large share buy backs. And now, we have this other issue of how well
companies can sustain earnings when they may not, in the aggregate, be hiring enough or paying
sufficient wages to support a decent level of aggregate demand growth. The issue then is must
dividend yield rise more rapidly and the market's p/e ratio contact more below a traditional
fair value level to provide a more realistic balance of current return + growth potential to
attract risk capital.

Right now, I see this as a potential problem for the stock market and one I am going to have to
work on further. It may be  a longer term issue, but with the continuing lousy employment situation,
deserves attention now. Note also a double edge here. Faster employment growth would help
the aggregate demand issue, but perhaps at the expense of profit margin contraction.

Sunday, June 12, 2011

Financial System Liquidity

The financial system continues a process of a slow thaw. Non-financial commercial paper out. --
prime credits -- is moving up sharply, commercial and industrial loans have turned around, and
consumer credit demand is inching ahead. Banks and other financial service companies are also
issuing more commercial paper  and the banks are bidding successfully for large or jumbo
deposits. Liquidity or funding for the short term credit markets is thus slowly experiencing
reduced dependence on the Fed's QE program. This development is a necessity if the economy
is to sustain recovery without utter dependence on the expansion of Federal Reserve Bank credit.

The markets for longer duration real estate loans remain moribund, but the pace of decline is
now very shallow and no longer harrowing. With sectors of the market for asset backed paper
also recovering, the US appears close to a bottom in the real estate credit cycle.

But, the hard truth is that save for prime industrial commercial paper and business loans, the
credit funding of the economy is still sparse, and without vigorous mortgage and real estate
development markets, the build up of credit driven liquidity is slow enough that it is hard to
argue with conviction that the system will stay liquid enough to support ongoing economic
recovery without further quantitative easing by the Fed. The situation is far better than it was
in 2009 and is stronger than it was in 2010, when the Fed had to reinstate QE in both years to
maintain liquidity in the system. Freezing Fed credit is less risky now than in the two immediate
prior years, but with the new freeze to Fed credit, we are still looking at a chancy effort to
make a normal transition in the liquidity cycle. If the credit markets were even moderately
further along in recovery, I would say do not give the wind up of QE2 a second thought.

On another matter, I would also note that since the end of Feb. 2011, institutional money
market funds have been boosted by nearly $100 bil. Since the stock market is lower now than it
was in the latter part of Feb., you can deduce what the bigger money has been doing re: stocks.

Friday, June 10, 2011

Stock Market -- Technical

Well, following a one day bump, the SP 500 has trundled down to 1271. My view has been
that there should be more formidable support for the market in a range of 1260 - 1270 on the
SP 500 (Scroll down to the 6/6 post for more and the "500" chart).

My technical work leaves me with another observation beyond the idea the 1260 -1270 area provides
good support, and that other idea is that there is a cycle low coming up in another 10 trading days.
Now, since I respect but do not take cycle turning points as gospel, My view is that  a nice, tradeable
rally of 5-7%  should set up for us soon enough.

Since the large intermediate term overbought has been mostly worked off, I am in an opportunistic
frame of mind on the long side and will be looking for an entry point.

The more classical technicians would be happier entering long side trades at 1250 on the SP 500
as there is evident chart support at that level and it would clearly invite upward bidding if it
holds. Well, 1250 is close enough.

Thursday, June 09, 2011

Oil Price

The oil price has moved in line with the sharp recovery / expansion of global industrial output
since early 2009. As an add on, I would say with reasonable confidence that the oil price has also
benefited from time to time from speculative zeal which has tacked on up to $15 bl. The zippy
bouts have tended to be corrected especially during the spring down time for refineries, when
demand eases. The market is going through one of those periods now, and it could well last into
late Jul. and not be unusual.

looking at an ordinary grid chart, the cyclical advance in oil goes unchallenged as long as the price
stays above the low $90s in Jun. and the mid $90s next month. A period of seasonal strength in pricing
generally starts in late Jul. and can run out through late Oct. Oil Price

Going forward, what strikes me currently is that the global spurt of physical output off the early 2009
recession low is likely not sustainable, especially since the global policies of fiscal and monetary
ease which helped underwrite a strong initial recovery cycle are on the wane. I doubt the strong
positive trajectory of the oil price over the past 2 two years fully discounts the prospect for a
more extended period of moderation of global output expansion and hence slower oil demand
growth. As of now, I would put only a six - nine month window on this idea to see how it works
out. I very much liked the idea of oil at $70 bl. last year as longer term readers will recall, but I
am not at all enthused about oil at $100 bl. + and looking at a more moderate economic

Monday, June 06, 2011

Stock Market -- Technical

The market is in a confirmed shorter term downtrend. It is moderately oversold with the SPX
at 1286. The SPX may tempt some bids at the current level, but there is much stronger support
in a range of 1260 - 1270 at present. The downtrend is now hinting at a breakaway, but if such
does not develop in the next couple of trading days, then the market may catch a mild, temporary

I get cautious on near term prospects when the SPX goes to a big premium to its 200 day m/a as
we saw develop over the first several months of the year when the SPX premium went to + 13 -
15%. But now that premium is down to only 3%, so, as inevitably happens, the big intermediate
term overbought has largely been worked off. What happens next in such cases is far less obvious,
although the evidence from the past 25 odd years favors the SPX breaking below its 200 day m/a,
which in itself, need hardly be devastating since the 200 m/a is in a strong uptrend.

My guess is the SPX makes a bottom out three to four weeks before a sustainable rally might start.
But, that's a guess, and I think enough of the price momentum excess of the Sep. 2010 - Apr. 2011
upleg has been worked off  that long side players need to put themselves into a more opportunistic
frame of mind.


Saturday, June 04, 2011

Stock Market -- Fundamental Note

The correlation of the weekly cyclical coincident indicator with the weekly action of the stock market has dropped from the .65 area down to .50 over the last several months. Week to week then, it has
been a little tougher to glean the fundamentals attracting the most attention from investors. However,
it is interesting that both the indicator and the SP 500 are flat with their respective readings at the
end of Jan. So, both the market and the indicator have round-tripped over the Feb. - early Jun.
period. The weekly cyclical indicator has been stabilizing over the past month or so, and seems
likely to continue doing so for a few more weeks. The suggestion here from the fundamental side
is that perhaps the stock market will also regain more stability in the short run. However, it is
important to remember that there has been recent moderate erosion in correlative behavoir of the
market and the indicator.

Friday, June 03, 2011

Economic Indicators / Analysis

Positive momentum for the shorter term leading economic indicators I follow all peaked at
points over the Feb. / Mar. 2011 period after rebounding sharply starting Sep. / Oct. 2010.
So, the slowdown of recovery momentum has been in effect now for a couple of months.
There have been no breaks of such consequence in any of the data sets to suggest a "dip" in
output. Pressure gauges to measure future inflation potential also peaked, but in Apr. '11
following a run up from mid 2010. The suggestion is clearly that slower gains in output and
inflation pressure continue to lie ahead.

For me, the major sticking points remain four: a continuing steep depression in the construction
trades, a banking system that only now is starting to advance credit to the private sector in a tentative
manner, and a business sector, which being hell bent on maximizing profits, is pressing hard to
derive strong productivity gains by underhiring and by overseeing low wage growth for the rank and
file. Finally, petrol sector prices have been rising rapidly, which is undercutting consumer
purchasing power. Naturally, a weak employment market undermines confidence and is in no
small measure contributing to the disaster that is the residential real estate market.

My economic power index (EPI) measures the combination of the yr/yr % changes in the real wage
and in civilian employment. In a more vibrant time, the EPI would run 4.0%. Before adjustments
such as a temporary payroll tax reduction, the EPI is running about -0.5%. This is not just dreary,
it keeps the recovery at risk and dependent on monetary and fiscal accomodation.

The recovery of earnings has been terrific, but the market p/e ratio has started to fade as investors
wonder whether the purchasing power can remain in place to support such a strong earnings trend.
In a different twist, a slow recovery, near zero short rates and modest inflation pressure keep the
bond market buoyant at a time in a more normal recovery when interest rates would be headed up.

There is intelligent speculation that the Japan quake / tsunami came just as a slowdown was
brewing and the resultant supply chain problems have deferred output gains until a little later
in the year. Let's hope so.

Wednesday, June 01, 2011

More On Global Economic Supply & Demand

Over the past two years, global industrial output increased by a conservative 17 - 18%. The rise
in sensitive materials prices over the comparable period was roughly 102%. Output growth
serviced both recovering final demand and a full measure of pipeline refilling to bring inventories
up to snuff. The dramatic rise in prices suggests that purchasing management discipline may have
given over to a significant amount of inventory speculation to increase cash flows on sales. The
Japan quake / tsunami catastrophe no doubt disrupted supplies mangement for parts and sub -
assemblies, leading to a further challenge for supply chain managers just as fast rising fuels prices
may have negatively affected final demand. Now, Japan's production did rise 1% in April, but
observers there were hoping for more. Perhaps power constraints are limiting the speed of the

So, both markets players and central bankers may be stuck here with an uncertain period as
the supply chain and inventory management sorts itself out and as the world's consumers adjust
to the dramatic and sudden rise in fuel prices.

None of the above is news, but after having worked through the process, I am of the view that the
economic recovery hit a momentum inflection point made worse by the Japan event and inventory
speculation and that the slowdown in the pace of global growth might be a little steeper and longer
lasting than it might have been. But, I also think it is wise not to be emphatic about this conclusion.