Quiet Bull Market Amidst Disappointing Earnings And A Sea Of Pessimism

For what is a typically seasonal difficult period for the stock market historically, August turned out pretty well for stock investors, as the S&P 500 rose 2.2%, the Dow 30 rose 1.65%, the Nasdaq Composite rose over 5%, while the Nasdaq 100 increased in August by a pretty decent 5.50%. (None of these returns include dividends.)

Per Bespoke Investment Group, bond ETFs like the iShares Barclays Aggregate Bond ETF (AGG), iShares Barclays 1-3 Year Treasury Bond ETF (SHY), iShares Barclays 7-10 Year Treasury ETF (IEF) and the iShares Barclays 20+ Year Treas Bond ETF (TLT), had mildly negative returns approximating 0% to -2% for August, while the high yield ETFs returned +1.1% – 1.2%. All these returns exclude income. The worst principal return was the TLT, which fell 2.31% for the month per Bespoke, but is still up 4% for the year.

The best performing sector within the S&P 500 was consumer discretionary at +4.36%, with technology increasing 3.70%. The two worst performing sectors were the “defensive” sectors such as utilities, down 4.4%, and consumer staples down -0.39%.

Jeff Miller, one of the best bloggers around today, says “there is a bull market in deception”, but I rather think there is a bull market in pessimism, and investors that are not paying attenton are being left behind.

As a form of confession, yes I do watch CNBC and Bloomberg all day, and yes I do listen to what the various commentators say in terms of market forecasts. One element that has struck me since early July (pre Q2 ’12 earnings releases) is how unreservedly bearish the prognosticators are about future stock returns, and yet the S&P 500 has put together two good months in a row, not to mention the Dow 30 and the Nasdaq.

Given the pessimism, who would have thought that year-to-date, the S&P 500 is up about 12% and the Nasdaq 100 is up 21%! Yes, a big part of that is Apple (AAPL), but Apple is part of the S&P 500. Apple rose about 9% for the month of August while Google (GOOG) and Amazon (AMZN) rose 8% and 7% respectively.

Per ThomsonReuters, the "forward 4-quarter estimate" for the S&P 500 rose this past week to $108.02, versus $108.00 even last week. Despite what seems to be great pessimism around corporate earnings in general, the “forward 4-quarter estimate” remains just short of its all-time high at $111.88 from July 13th, and the recent low of $105 in late March, 2012.

We have another light earnings week this week with just 3 S&P 500 companies reporting. 2nd quarter, 2012 earnings are still coming in around 1.3% year-over-year growth (ex Bank of America (BAC) and financials), while Q3 ’12 earnings are now expected to decline 2% y/y, on flat revenue growth for the 3rd quarter.

We are out on a limb here in terms of a forecast or prediction, but I continue to think that the 3rd quarter, 2012 S&P 500 earnings growth will be the nadir for this cycle off the 2008 – 2009 recession, (probably flat to +2% y/y earnings growth for Q3) and corporate earnings will grow progressivly for Q4 ’12 and the rest of 2013. (There is one metric I’m watching, which has turned positive since early August, but there aren't enough data points yet to post about it.)

Per ThomsonReuters, S&P 500 revenue growth is expected at +1% for Q2 ’12 (mostly in the books now), and expected to be flat for Q3 ’12.

Trading update:

* Technically, the S&P 500 remains overbought, but still shy of breaking above the 1,422 high print from April 2nd, 2012. The market’s strength has been surprising given all the pessimism. I thought we would have had a 2% – 3% pullback by now, but no such luck. Ben Bernanke’s Jackson Hole speech last Friday seemed to be taken as neutral to slightly positive by capital markets.

* As an example of the sentiment prevalent in today’s market, Bespoke noted on Thursday that, according to AAII (American Association of Individual Investors) data, bullish sentiment dropped 8 points last week to 34.27%, after 5 straight weeks of increases. Investors remain very skittish to use Bespoke’s word, which I take as continued positive.

* On the flip side, Schaeffer’s Investment Research out of Cincinnati reports that the National Association of Active Investment Managers (NAAIM) sentiment survey hit 82.89 this week, the highest since April, 2011. Per Schaeffer’s, when NAAIM gets above 80, future stock returns tend to underperform “any-time” returns.

* We bought our first position in Facebook (FB) on Friday, within a long-term account. Current EPS estimates for FB are for $0.49 and $0.63 in earnings per share for 2012 and 2013, versus the $0.43 from 2011, for expected year-over-year growth this year and next of 14% and 29%. More importantly, revenue growth in 2012 and 2013 is expected at 39% and 28%. The stock is now trading at a P/E of 38(x) 2012 and 30(x) 2013′s EPS. Expensive, yes, but down from its 100(x) multiple, and getting a lot more reasonably valued given its expected growth rate.

Interesting FB metric: we always pay attention to cash-flow valuations: consensus “cash-flow per share” estimates for FB for 2012 and 2013 are $0.91 and $1.25 per share, which at $19 per results in FB trading at 20(x) and 15(x) this and next year’s cash-flow, and looking infinitely more reasonably-valued. Hmmmmm.

It is interesting to listen to the commentators on Facebook talk about the stock and the “lock-up” all of which will be done by November. While that perception exists in terms of sellers of shares, it doesnt change FB’s valuation: analyst model’s incorporate 2.6 – 2.7 billion shares outstanding over the next two years, and that isn’t going to change, and is completely unaffected by the number of shares that actually trade. My own thought is that we'll have some longer-term investors licking their chops as FB drops into the mid-teens in the next few months. We’ll add more at $15 and hopefully even $10 – $12. November 13th is the date of the last lock-up of material size, as I understand it.

* We received a note from a client Friday night, August 31, that said that “Bernanke should be arrested” given his leaning toward further monetary accomodation with the Jackson Hole comments. I respectfully disagreed. GDP is just 1.7%, and there is still very little inflation. In 2008 – 2009 when ZIRP (zero interest rate policy) was implemented, it didnt take long for the “inflationistas” to start pounding the table that this would come back and bite the US economy in short order. Hasn't happened (inflation that is) in 4 years, despite the cacophony of inflation worries still occurring. Will the Fed be late? Sure, the Fed is usually late by design, since they don't tend to act until economic weakness (loosening monetary policy) or economic strength (tightening monetary policy) is actually showing up in the statistics, but it would probably be a plus to see a little inflation these days, anyway. Might even help housing. Chairman Ben is still battling deflation and gridlocked Washington. Right now, at least until we see what happens in November, he is the only game in town.

* Transports haven’t cracked yet: The Dow 20 Transports Average is clinging to its 50-week moving average technically, and trading below its 50 and 200 day moving averages. Carter Worth, an excellent technician, was on CNBC late Friday, August 31, looking at Boeing (BA), and thinks it is poised for a breakout to the upside after a long sideways consolidation. We remain overweight industrials in client accounts, and transports / aerospace stocks like BA, FedEx (FDX) and United Technologies (UTX) are a big part of the sector. The stocks have gone nowhere since late ’09, early, 2010. Boeing and FedEx were both down in August in terms of price return. One of our better performing industrials was UTX or United Technologies, up over 7% during the month of August.

* Intel (INTC) has been a frustrating long. We added to it this week, and expect it could get as low as $23 – $24 before bottoming. 2012 earnings per share estimates are still declining. Intel will likely see eps decline in 2012, and then rise slightly in 2013. The stock did rise Friday on good volume – 43 million shares versus the 35 average daily volume – which is a plus. The dividend yield is 3.7% too, another positive.

* It is interesting when you look at technology in the 1980s and 1990s, versus the 2000s: In the 1980s and 1990s technology was “corporate”, i.e. it was all about corporate productivity and the secular buildout of corporate tech from the mainframe, to the PC, to the server and finally the network. In the 2000s it was all about consumer technology,and personal productivity. i.e. the iPod, the smartphone, Facebook, Twitter, etc. If you look at PC growth in the 1980s and 1990s it was correlated very closely to nonfarm payroll or job growth. I wonder if that will return (to any degree) if job growth returns to the +200,000 “jobs created” that the US economy is capable of creating every month.

* Wow, it is amazing how well “brand” stocks have held up like Nike (NKE) and Tiffany (TIF), not to mention Starbucks (SBUX) and Whole Foods (WFM). Most of those companies have had earnings or guidance hiccups. Nike is a monster. Tiffany traded very well this week despite lowering guidance, and analysts taking numbers down. TIF is bumping its head against its 200-day moving average near $62. We are still watching it and waiting till its gets into the $40′s, which may never happen. TIF is another perfect example of a stock that took guidance down this week, but the stock rallied sharply. Another positive tell…

* Treasuries can’t rally much more in here if the “outside reversal” week that we saw in late July holds up. We need to see yields start to rise.

* The Gold (GLD) and Silver (SLV) ETFs rallied sharply on Friday after the Jackson Hole speech was released. Not convinced these precious metal bull markets will continue but I could be wrong too. We are watching the charts here.

* Retail stocks had a big day Thursday. August comps looked very strong. Back-to-school is much stronger than even the analysts suspected in late July. Retail has been incredibly strong in this market this year, led of course by Home Depot (HD) and Wal-Mart (WMT), two mega-caps.

* The August jobs report is this Friday, as well as the big ECB meeting. Briefing.com consensus is +130,000 jobs created by the US economy in August, versus the original release of 163,000 jobs in July. Barron’s is looking for 125,000. Jobless claims the last few weeks have been a smidge weaker than many liked.

To paraphrase my friend, Jeff Miller, there is a bull market, but it’s in pessimism, as well as deception. Still a pullback to 1,350 – 1,370 would be perfect for the S&P 500.

Disclosure: I am long AAPL, GOOG, AMZN, INTC, NKE, SBUX, WFM, WMT, HD. Long TBT and TBF – painfully. We are also long BA, FDX, and UTX within client accounts.