“For All the Sad Words of Tongue and Pen...”
by Jeffrey Saut, Chief Investment Strategist, Raymond James
January 28, 2013
“For all the sad words of tongue and pen, the saddest are these: It might have been.”
... John Whittier; an influential American Quaker poet
Certainly, American poet John Greenleaf Whittier’s apothegm has stood the test of time, serving as a universal lament for what “might have been.” I was reminded of this maxim last week as Wall Street heard increasing laments from investors on the Street of Dreams. To wit, “What might have been if I had bought the indexes four weeks ago?” Or how about, “If I could have just covered my shorts . . . sold my bonds . . . bought Dell (DELL/$13.16/Strong Buy), which is up 30% YTD,” etc. And, those laments were music to my ears, for those are precisely the kind of “whines” that you hear at this stage of a buying stampede as the “outs” lament about not being “in.” Indeed at session 18 (today), of the typical 17- to 25-session stampede, this is typically where the “outs” worry that this rally is the real thing – that THE bottom has been made and a new bull move has begun. Reinforcing those feelings are numerous pundits pontificating everything from, “our government is dysfunctional and the debt ceiling will prove it,” to the often recited “this is just a rally in an ongoing bear market.” Of course, these are the same pundits that have already falsely called for the bear market to resume for nearly four years, as well as telling us that Armageddon was coming with the “fiscal cliff.” Moreover, when “the cliff” was pinned to the great wall of media hype the headlines were immediately refreshed for the next Armageddon, aka the debt ceiling. Of course with that “orchestrated drama” now passing into the rearview mirror, at least in the short-term, investors are going to have to start focusing on the fundamentals, and here the story is improving noticeably. Nevertheless, these false prophecies should cause the “outs” to attempt get back “in,” thus extending the “buying stampede.”
Recall that “buying stampedes” tend to last 17- to 25-sessions with only one- to three-session pauses and/or pullbacks, before they exhaust themselves. It just seems to be the rhythm of the thing in that it takes that long to get everybody bullish enough to throw-in their “bear towels” and commit capital right in time to make a short-term trading top. While it is true a few stampedes have lasted 25 to 30 sessions, it is extremely rare to have one extend for more than 30 sessions. Today is session 18. Granted, for the past few weeks I too have been overly cautious, influenced by tried and true indicators that have served me well over the years. To be sure, the S&P 500 (SPX/1502.96) remains overbought with 92.6% of its stocks above their respective 50-day moving averages (DMAs), as well the NYSE McClellan Oscillator is still overbought in the short-term. However, the stock markets can remain overbought for longer than most think in a bull move. Further, the Volatility Index (VIX/12.89) is not confirming the renewed stock strength and some of the hitherto leading stocks are not acting well.
On the bullish side, we began the year with back-to-back 90% Upside Volume Days, a feat that has not been seen since 1987 when the D-J Industrial Average (INDU/13895.98) was beginning a rally that would carry it 24% higher into April. Interestingly, year-to-date this is the best beginning of the year rally since, you guessed it, 1987! Also recall that the history of back-to-back 90% days is for the SPX to be higher an average of 6.8% one month later 83% of the time and 12.8% higher three months later 100% of the time. Then there was the breadth thrust that occurred last Thursday when the net percentage of new 52-week highs in the S&P 500 hit 25% (see chart on page 3). According to the sagacious Bespoke Group, “This is a very strong sign for the long-term health of the market, but it’s also a sign that we remain overheated in the short term.” The DJIA, however, seems to paying no attention to the term “overheated” as it is now in position to challenge its all-time high of 14164.53 made on October 9, 2007. While I have conceded to a half-hearted Dow Theory “buy signal,” when the Industrials broke above their recent reaction high of 13610.15 (made on October 5, 2012), therefore confirming the D-J Transports (TRAN/5870.05) breakout to new all-time highs, it would be much better for the Industrials to achieve a similar new all-time high (above 14164.53). That would definitely be a Dow Theory “buy signal;” and, we are only 268.55 points away.
Of course such action is lighting up my phone with the question, “have we seen the bottom?” Such questions reminded me of this tale from an era gone by. It was August 1982 right after the bull market began when we at E.F. Hutton had a national call with the firm’s strategist, Newton Zinder. After telling us all about support points and resistance levels, he was asked, “Newton, all we want to know is, have we seen the bottom?” To which Newton Zinder, with all seriousness, said: “Well, if the market keeps rallying, then yes, we have seen the bottom!” I have not been so glib, having suggested for months that there is a 25% possibility that we are in a new secular bull market and nobody believes it. Consider this, over the past two alleged Armageddons our government has become just a little less dysfunctional. Last week there was even more movement that way when the D.C. Court of Appeals slapped down the National Labor Relations Board’s appointees, potentially invalidating many of the NLRB’s decisions. If so, that could unlock billions of dollars of “shelved” projects like Boeing’s debacle in South Carolina.
Ladies and gentlemen, if we can put the government’s dysfunction behind us, the really good things that are occurring in our country should take the lead. Things like energy independence, onshoring, increased manufacturing, the strengthening housing recovery, strong auto sales, a technology boom, more employment, etc. Furthermore, as investors grow more comfortable with this outlook, money should move out of cash and fixed income and into stocks, other assets and goods/services; and, that move may have already begun (see chart on page 3). As Bridgewater’s Ray Dalio said, “The shift of that massive amount of cash is what will be a game changer.”
With Dalio’s thoughts in mind, we polled our analysts at Raymond James looking for their best stock ideas for a three- to five-year holding period that meet the following criteria: have a recurring revenue stream; have high barriers to entry in its markets served; its business is not dependent on the economy or financial markets to prosper; can grow EBITDA 5-10% annually or better regardless of economic conditions; competitive edge in its industry or sector; a company CEO who has been successful before; and the company is expected to be a superior investment over the next three to five years. Additionally, the stock should have: a current market cap of between $300 million and $10 billion; average daily trading volume of 100,000 shares or more; a stock price of $4 or more; and it need not pay a dividend. Further, no banks or utilities were considered. These are the stocks that made that screen: Altera (ALTR/$33.52/Strong Buy); Conceptus (CPTS/$21.52/Outperform); Denbury Resources (DNR/$18.50/Outperform); NIC Corp. (EGOV/$16.60/Strong Buy); Equinix (EQIX/$225.25/Strong Buy); EV Energy Partners (EVEP/$58.07/Outperform); IDEXX Laboratories (IDXX/$99.46/Outperform); Iridium Communications (IRDM/$7.12/Strong Buy); LKQ Corp. (LKQ/$23.38/Outperform); National Oilwell Varco (NOV/$74.00/Outperform); Verisk Analytics (VRSK/$54.99/Outperform); and Wabtec (WAB/$92.21/Outperform).
The call for this week: In last Friday’s Morning Tack I talked about a pattern in candlestick charting known as a “doji” formation. A doji represents indecision in the market. When a doji forms in an uptrend or downtrend, this is normally seen as significant, as it is a signal the buyers are losing conviction, or that sellers are losing conviction. If, however, the doji formation is ignored by the market, like it was on Friday, it probably means the buying stampede remains in force. But at day 18, in the typical 17- to 25-session skein, this rally is pretty long of tooth. That said, there is nothing in my work that suggests we are anywhere near a major top in the equity markets, even though we could be near a short-term trading top based on my day-count sequence and the overbought conditions. Nevertheless, I would not get bearish because in the intermediate term we could be involved in what we saw from July 2006 until February 2007 where the SPX gained 225 points (~18%) and only experienced 20- to 30-point pullbacks along the way. Indeed, as Bridgewater’s Ray Dalio said, “The shift of that massive amount of cash is what will be a game changer.”
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