Let's Review Part II - Is There Value In Them Thar Hills?
This morning, we'll continue our look at the market through the three primary time-frame lenses. Yesterday, we reviewed the action and the drivers from the short- and intermediate-term view. Today, we will focus on the bigger picture. So, without further ado...
LONG-TERM (>6 months): Moderately Positive
Warren Buffett's latest big purchase (Berkshire Hathaway announced the acquisition of Precision Castparts for $37.2 billion) tells investors that one of the greatest investors of our generation is not overly concerned about stock market valuations at this time. And since valuations have become a focal point for the bears recently, this is a big deal, in more ways than one.
However, our "absolute" valuation metrics suggest that stocks are definitely not cheap at the present time. Take a look at the right side of the lower clip on the chart below. While, the data is a couple months old, the message from the red line (the median P/E ratio of the S&P 500) is clear. With the exception of the "bubble period," the current level of this indicator is about as overvalued as it gets.
But to complicate matters further on this topic, the "relative" valuation indicators (these indicators include the level of interest rates into the equation) tell us that valuations remain very reasonable on a historical basis.
For example, the chart below is a valuation model that contains 7 different "relative valuation" indicators, which are all yield based. The indicators include: Earnings yield, Dividend yield, Book value yield, Real earnings yield, Earnings yield to bond yield spreads, etc.
The first thing to note on this chart is that undervalued and overvalued have been flipped from the prior chart. On the chart above, readings above the dashed lines suggests stocks are good values relative to interest rates and vice versa. As such, it is clear that stocks remain a good buy given the level of interest rates at the present time.
So, the message from Mr. Buffett's actions should come through loud and clear. Given that even with the Fed's desire to get off the zero bound, folks like Buffett appear to believe that stocks remain good values from a long-term perspective.
Next, there is the price action of the market itself from a long-term perspective. Remember as Stan Weinstein was famous for saying, "The tape tells all."
S&P 500 - Long-Term Perspective
View Larger Image
On the chart above, the blue box highlights what we view as the long-term time frame - so we'll focus on the action within the box here. As you can see, the longer-term moving average (50-week) is still rising and suggests that the market remains in an uptrend from an uber-long term perspective.
However, the red box highlights the sideways action that has been prevalent this year. From my perspective, this would appear to be a sideways consolidation pattern. In addition, we should note that the 10- and 30-week moving averages are now on top of each other and moving sideways.
Therefore, we can argue that the current longer-term price action represents a consolidation within an ongoing uptrend.
Finally, there is my "desert island indicator" which, for me, is the final arbiter of all arguments between the bulls and the bears. This model reviews the technical health of 104 industry groups to indicate the overall health of the market.
The good news is this model remains on a "buy signal." (For the record, I've been working with this model since 1994.) Thus, from a big-picture perspective, we believe that both advisors and investors alike should continue to put money to work whenever the indices take a "dip."
Publishing Note: I will be traveling in Europe for the next couple weeks as my wife and I celebrate our 35th wedding anniversary. As you might suspect, morning reports are likely to be sparse between now and Labor day.
Turning to This Morning
China is back in the news this morning. Renewed selling pressure was seen in both the Shanghai and Shenzen indices, with overnight losses totaling more than -6%. There was no obvious catalyst for the selling and the move is disconcerting since it came on the heels of the biggest liquidity injection from the PBoC in nearly 19 months as well as more talk of further monetary stimulus. As expected, the decline in China is weighing on sentiment both here and across the pond this morning. In addition, Wal-Mart's earnings missed and the company guided lower. As such, it is not surprising to see futures pointing to a lower open on Wall Street.
This Morning's Pre-Game Indicators
Here are the Pre-Market indicators we review each morning before the opening bell...
Major Foreign Markets:
Hong Kong: -1.43%
Crude Oil Futures: -$0.08 to $41.79
Gold: -$0.10 at $1118.30
Dollar: higher against the yen, lower vs. euro and pound
10-Year Bond Yield: Currently trading at 2.165%
Stock Indices in U.S. (relative to fair value):
S&P 500: -5.86
Dow Jones Industrial Average: -65
NASDAQ Composite: -14.12
Thought For The Day:
The greatest obstacle to discovery is not ignorance - it is the illusion of knowledge. - Daniel J. Boorstin
Current Market Drivers
We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can both identify and understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).
1. The State of China's Currency/Economy
2. The State of Global Economic Growth
3. The State of European Banking System
4. The State of the U.S. Economy
The State of the Trend
We believe it is important to analyze the market using multiple time-frames. We define short-term as 3 days to 3 weeks, intermediate-term as 3 weeks to 3 months, and long-term as 3 months or more. Below are our current ratings of the three primary trends:
Short-Term Trend: Neutral
(Chart below is S&P 500 daily over past 1 month)
Intermediate-Term Trend: Neutral
(Chart below is S&P 500 daily over past 6 months)
Long-Term Trend: Moderately Positive
(Chart below is S&P 500 daily over past 2 years)
Key Technical Areas:
Traders as well as computerized algorithms are generally keenly aware of the important technical levels on the charts from a short-term basis. Below are the levels we deem important to watch today:
- Key Near-Term Support Zone(s) for S&P 500: 2050
- Key Near-Term Resistance Zone(s): 2110-2135
The State of the Tape
Momentum indicators are designed to tell us about the technical health of a trend - I.E. if there is any "oomph" behind the move. Below are a handful of our favorite indicators relating to the market's "mo"...
- Trend and Breadth Confirmation Indicator (Short-Term): Neutral
- Price Thrust Indicator: Negative
- Volume Thrust Indicator: Negative
- Breadth Thrust Indicator: Negative
- Intermediate-Term Bull/Bear Volume Relationship: Negative
- Technical Health of 100+ Industry Groups: Moderately Positive
The Early Warning Indicators
Markets travel in cycles. Thus we must constantly be on the lookout for changes in the direction of the trend. Looking at market sentiment and the overbought/sold conditions can provide "early warning signs" that a trend change may be near.
- S&P 500 Overbought/Oversold Conditions:
- Short-Term: Neutral
- Intermediate-Term: Moderately Oversold
- Market Sentiment: Our primary sentiment model is Positive .
The State of the Market Environment
One of the keys to long-term success in the stock market is stay in tune with the market's "big picture" environment in terms of risk versus reward.
- Weekly Market Environment Model Reading: Low Neutral
Wishing you green screens and all the best for a great day,
David D. Moenning
Founder and Chief Investment Strategist
Heritage Capital Research
Trend and Breadth Confirmation Indicator (Short-Term) Explained: History shows the most reliable market moves tend to occur when the breadth indices are in gear with the major market averages. When the breadth measures diverge, investors should take note that a trend reversal may be at hand. This indicator incorporates an All-Cap Dollar Weighted Equity Series and A/D Line. From 1998, when the A/D line is above its 5-day smoothing and the All-Cap Equal Weighted Equity Series is above its 25-day smoothing, the equity index has gained at a rate of +32.5% per year. When one of the indicators is above its smoothing, the equity index has gained at a rate of +13.3% per year. And when both are below, the equity index has lost +23.6% per year.
Price Thrust Indicator Explained: This indicator measures the 3-day rate of change of the Value Line Composite relative to the standard deviation of the 30-day average. When the Value Line's 3-day rate of change have moved above 0.5 standard deviation of the 30-day average ROC, a "thrust" occurs and since 2000, the Value Line Composite has gained ground at a rate of +20.6% per year. When the indicator is below 0.5 standard deviation of the 30-day, the Value Line has lost ground at a rate of -10.0% per year. And when neutral, the Value Line has gained at a rate of +5.9% per year.
Volume Thrust Indicator Explained: This indicator uses NASDAQ volume data to indicate bullish and bearish conditions for the NASDAQ Composite Index. The indicator plots the ratio of the 10-day total of NASDAQ daily advancing volume (i.e., the total volume traded in stocks which rose in price each day) to the 10-day total of daily declining volume (volume traded in stocks which fell each day). This ratio indicates when advancing stocks are attracting the majority of the volume (readings above 1.0) and when declining stocks are seeing the heaviest trading (readings below 1.0). This indicator thus supports the case that a rising market supported by heavier volume in the advancing issues tends to be the most bullish condition, while a declining market with downside volume dominating confirms bearish conditions. When in a positive mode, the NASDAQ Composite has gained at a rate of +38.3% per year, When neutral, the NASDAQ has gained at a rate of +13.3% per year. And when negative, the NASDAQ has lost at a rate of -8.5% per year.
Breadth Thrust Indicator Explained: This indicator uses the number of NASDAQ-listed stocks advancing and declining to indicate bullish or bearish breadth conditions for the NASDAQ Composite. The indicator plots the ratio of the 10-day total of the number of stocks rising on the NASDAQ each day to the 10-day total of the number of stocks declining each day. Using 10-day totals smooths the random daily fluctuations and gives indications on an intermediate-term basis. As expected, the NASDAQ Composite performs much better when the 10-day A/D ratio is high (strong breadth) and worse when the indicator is in its lower mode (weak breadth). The most bullish conditions for the NASDAQ when the 10-day A/D indicator is not only high, but has recently posted an extreme high reading and thus indicated a thrust of upside momentum. Bearish conditions are confirmed when the indicator is low and has recently signaled a downside breadth thrust. In positive mode, the NASDAQ has gained at a rate of +22.1% per year since 1981. In a neutral mode, the NASDAQ has gained at a rate of +14.5% per year. And when in a negative mode, the NASDAQ has lost at a rate of -6.4% per year.
Bull/Bear Volume Relationship Explained: This indicator plots both "supply" and "demand" volume lines. When the Demand Volume line is above the Supply Volume line, the indicator is bullish. From 1981, the stock market has gained at an average annual rate of +11.7% per year when in a bullish mode. When the Demand Volume line is below the Supply Volume line, the indicator is bearish. When the indicator has been bearish, the market has lost ground at a rate of -6.1% per year.
Technical Health of 100 Industry Groups Explained: Designed to provide a reading on the technical health of the overall market, this indicator takes the technical temperature of more than 100 industry sectors each week. Looking back to early 1980, when the model is rated as "positive," the S&P has averaged returns in excess of 23% per year. When the model carries a "neutral" reading, the S&P has returned over 11% per year. But when the model is rated "negative," stocks fall by more than -13% a year on average.
Weekly State of the Market Model Reading Explained:Different market environments require different investing strategies. To help us identify the current environment, we look to our longer-term State of the Market Model. This model is designed to tell us when risk factors are high, low, or uncertain. In short, this longer-term oriented, weekly model tells us whether the odds favor the bulls, bears, or neither team.
The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning's opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report is for informational purposes only. No part of the material presented in this report is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed nor any Portfolio constitutes a solicitation to purchase or sell securities or any investment program.
Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by anyone who has relied on the information provided.
The analysis provided is based on both technical and fundamental research and is provided “as is” without warranty of any kind, either expressed or implied. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.
David D. Moenning, an advisor representative of CONCERT Wealth Management Inc. (CONCERT), is founder of Heritage Capital Advisors LLC, a legal business entity doing business as Heritage Capital Research (Heritage). Advisory services are offered through CONCERT Wealth Management, Inc., a registered investment advisor. For a complete description of investment risks, fees and services review the CONCERT firm brochure (ADV Part 2) which is available from your Investment Representative or by contacting Heritage or CONCERT.
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