Ramblings of a Portfolio Manager 7-27-2009

Ramblings of a Portfolio Manager or Congratulations Mr. E.! You’re not going to die…but you may walk with a limp.

It seems like only yesterday that the market, along with the press, was throwing out all kinds of consonants to describe our inevitable descent into a deeper recession, all the while whining for a second stimulus package. Well, actually, it was about three weeks ago. Close enough. Today, we got extremely strong numbers from the housing sector and the press is officially declaring an end to the recession. So goes the schizophrenia of Wall Street in our just-in-time, immediate data driven, blogosphere-based economy. You recall we pointed out that there are many conflicting cross-currents at any economic inflection point—well, here you go.

So are we really emerging from the recession abyss? The short answer is yes. But what about those generationally high unemployment numbers--do they mean nothing? The short answer is yes. Does all this mean that the market should be going up? The short answer is yes. We don’t intend to be flippant about such important questions, especially when it comes to the human toll of high unemployment, but a full discussion of their nuances is well beyond the scope and purpose of our weekly missives. Unemployment aside, there has been substantial evidence that the economy is indeed turning to the better. From leading economic indicators to company reports and guidance, the arrows point to an upward bias to economic growth. The question now being bandied about is over what the pace of the recovery will be (remember that just three weeks ago there was to be no recovery)—will we get a “V” or an “L?” They we go with those consonants again…

The fashion term being overused in this economic cycle is “new normal.” The bears argue that the “deleveraging” of US corporations and households will dampen demand for years to come, resulting in a “new normal” (lower) level of GDP growth. Others, more politically inclined, posit that the Obama Administration’s spending plans, anti-business bias and rapid u-turns in policies are causing uncertainty that stifles new investment by business (we tend to be somewhat in this camp). The bulls, by contrast, argue that fiscal policy is irrelevant and that the accommodative monetary policy of the Federal Reserve will be all that is needed to engender significant GDP growth. As bottom-up, fundamentalists, we look at all this from a seldom mentioned point of view. Stitching together the earnings reports we have observed so far, we note that US corporations, having cut early and deeply, are more lean than they have been in years. There is a reason that technology is outperforming this year--investment in technology increases productivity, allowing companies to be more profitable with fewer workers. So when companies “beat the street” on the bottom line with lower than expected top line they are telling us something very important: that when demand does improve—and it will—the new earnings leverage in corporate America is going to produce some impressive growth. And it is earnings growth that drives the stock market. All that without debt. Go figure…

Ramblings of a Portfolio Manager 7-20-2009

Ramblings of a Portfolio Manager or Really Bad Dandruff…

As might be divined from our past Ramblings, we are not big proponents of technical analysis. Not that we don’t think there is a place for it. Like any philosophy, if enough people ascribe to its tenants then it becomes a self fulfilling prophecy of sort. And, believe us, there are many adherents to the chart method if investing so to ignore it would be folly. Still, we remain firmly grounded in fundamental analysis while keeping a half an eye on the charts. But sometimes we like to have a few yuks at the technicians expense…

Last week a very important technical event occurred. The “head and shoulders” of doom chart pattern, which every bearish technical analyst used as proof that we were heading back to Dow 6000 and at which every bullish technician sullenly nodded his head in gloom, took a hit. The body blow came mostly from Intel with some help from a few other tiny tech companies such as IBM and Novellus. The bottom line was that, the bottom lines of tech companies (and a few really small financial service companies like Goldman Sachs and JPMorgan) weren’t as bad as analysts expected. As you recall from our last Ramblings, we suspected just the case would unfold thanks in part to conservative (frightened) Wall Street analysts’ failure to raise earnings expectations after last quarter’s reporting season. No, we are not tooting our own horn here. There are lots of earnings reports to come still and many sectors have not even begun their confessions. And, of course, we have really only heard from the “bell weather” companies. Frankly, we expect a mixture of positive and negative surprises versus expectations, which should form a “normalizable” bell curve when graphed. Yes, we know that’s not a real word but it is the best way we know how to express the fact that earnings reports are typically skewed to the positive since companies long ago learned to play the expectations game. Anyhow, all we are saying here is that this earnings season should actually turn out to be a good old fashioned one—some beats, some misses, some “in lines.” And that is what makes markets, produces opportunities on both the long and short sides and makes fundamentally-based active money management worth pursuing. So, having said that we fully expect the Dow to hit 9123.75 if it can break 8778.5 at which point we should all be buyers…unless, of course. it stalls at 8771.3, in which case it we expect it to go to 8345.295 and we would be sellers. Then again, it could just sit here and we recommend doing nothing. Wait, are we holding the chart the right side up…? Happy Investing!

Ramblings of a Portfolio Manager 7-13-2009

Ramblings of a Portfolio Manager or “The most important earnings season of all time”

So runs the constant tag line on CNBC…this week. It truly amazes us the superlatives that have been used since the market meltdown last September. “Most important jobs report,” “most significant GDP report,” “most impactful INSERT ECONOMIC REPORT HERE.” Somehow, the financial crisis has ascribed additional significance to every piece of company or economic data due out on the wires. Were these data not important pre-crises? Did no one care about jobs reports, GDP or company earnings in the “good old days?” Of course they did but the media loves to assign a primacy import to all recent public events—we note that many a talking head labeled Michael Jackson’s passing “the most significant celebrity death ever!” As Farah Fawcett fans we take issue. Of course the media fails to realize that by aggrandizing every story they simply marginalize the impact of each successive one. How much bigger could the New York Post have made the front page type when man finally walked on the moon?

OK, enough editorializing. How important is this reporting season? We don’t want to belittle the significance of what companies will be reporting and, more importantly, what they will be projecting over the coming quarter. What is immediately clear to us is that the Market is jumpy and ready to react to the slightest bit of “impactful” data. Recall last week that we hypothesized that this behavior signaled a bottom…or at least an inflection point in the economy. Case in point: Monday morning the futures were down significantly as were European and Asian markets until bank guru Meredith Whitney made positive comments about Goldman Sachs and several banks. Those commentaries alone produced a 100pt rise in the Dow futures. Conversely, on July 2^nd, one weak jobs report for June changed market sentiment from fear of growth-related inflation to fear of further economic decline and dropped the Dow 600 points in one week. So, much as we hate to go along with the consensus “wisdom” we do sit in the camp that believes in the importance of this earnings season. At a minimum, it will be a “tell” as to the potential direction of the economy going forward. They key for investors will be to know which company’s reports will be the ones of significance. Last week, Alcoa’s positive earnings were all but shrugged off whereas Chevron’s were seen as a negative harbinger of things to come. The market got it backwards, in our humble opinion and, thus, we caution investors not to react too swiftly to earnings as they roll in.

Ramblings of a Portfolio Manager 7-6-2009

Ramblings of a Portfolio Manager or The ABC’s of W’s,L’s, U’s and V’s Last Thursday, the final trading day of the holiday-shortened week, the market received some unpleasant economic data. The US jobless rate climbed to 9.5%, a 26 year high. June Job losses exceeded the 363,000 expected by economists, bringing the total number of jobs lost to 6.5million since December of 2007. There were very little encouraging facts in the data. Even the average workweek fell, to 33 hours, its lowest since 1964. The market’s reaction was swift and merciless with the Dow falling over 200 points, its worst decline on a July 4^th holiday in over 50 years. Economists and pundits were equally swift in their reactions, proclaiming the recovery either “stalled” or farther off than originally expected. These same pundits were just a week earlier calling the recession at an end and wringing their hands over inflation and when the Fed would have to start raising rates to rein things in. That talk, too, sent the market down at the time.

The metaphors and acronyms have been flying wildly since this recession began. “Green shoots,” “brown shoots,” “mustard seeds,” recoveries with charts shaped in almost every letter of the alphabet, etc.. Everyone is looking for a sound bite to describe what is going on and where they see things going. The fact of the matter is, with all deference to the PhDs, the world economy is much more complex and dynamic than might be described in a convenient one-liner for the media (they know this but it doesn’t make for good TV). This recession, unlike many of its predecessors, began swiftly, mostly unexecpectedly, and, yes, the chart was almost a straight a perfect inverted “V.” But recoveries are seldom so neat and clean. There are many cross-currents in any economic rebound. Data will often be conflicting and opinions will diverge widely. This is characteristic of any change in direction—a “bottom” in economic terms. That is likely where we are now. So what letter can we expect going forward? All of them, of course! Economies never recover in a straight line. There will be fits and starts, periods of acceleration and periods of weakness. The data will continue to be conflicting…until its not. But make no mistake, the economy will recover—just not neatly enough to be summed up in a one-liner. This is what creates markets and more importantly, opportunities. The key is to read the data in a holistic sense and not react to each piece of information that comes through as the definitive data point. The good news is that, in our immediate information age, there will be many, many more data points to which to react over the next few weeks.