Archive for May, 2010

And Furthermore !!!

Following on the heels of my last post, the situation in Europe created another indirect problem as well as the potential asset rotation discussed in that last post. This newly created problem could affect the earnings of U.S. companies going forward. Up to this point, the market has enjoyed “surprisingly” good earnings reports from many companies based upon better than expected sales. It is well documented that these surprisingly better than expected sales were via large increases in Asia (most seeing 30% or so increases in sales per quarter) and in India (most seeing 20% or so increases in sales per quarter), not from increases in domestic sales.

The reason that demand for U.S. goods and services increased so dramatically was the combination of a cheap dollar and low prices just as was explained  in the prior article.

 Asian and Indian demand saw much greater buying power as their currencies strengthened against the dollar as the dollar weakened against them. Suddenly, U.S. goods and services were very affordable to these overseas buyers for the first time in a very long time.

Adding to this attractiveness was the fact that the U.S. was in a recession and producers had no pricing power which drove prices of their goods and services down. In this situation, not only was the dollar cheap, but the actual cost of the product was cheap due to deflation here in the U.S.   Remember,  U.S. companies price goods and services for U.S. consumers. Most companies do not have the ability to sell overseas.  For the most part, these producers cannot sell to overseas buyers. So the prices of their products must be guided by supply and demand with the demand part of the pricing equation being supplied by U.S. consumers.

This fact indirectly limits the price that the bigger firms can charge in the U.S and continue to compete. That then controls the price at which the bigger firms can sell overseas. This arrangement keeps prices for the overseas consumers on the level with the prices that U.S. consumers see.  This combination of low dollar and low price allowed U.S. companies to draw a substantial amount of a growing Asian and Indian demand to make up for the stagnant U.S. demand which in turn allowed these companies to post better than expected earning s and helped propel the market higher.

Unfortunately, these two situations do not exist anymore. Now, the dollar has significantly increased against the Euro so it is not so cheap anymore. Further, it is well documented that U.S. consumer demand, although still placid, is starting to grow enough to allow companies to begin to increase their prices. Now, prices of U.S. goods  and services have increased. The attractiveness of U.S goods and services is no longer what it was.

Soon, possibly,  overseas eyes may turn to European goods and services. Europe is where the U.S. was a year or so ago….a very attractive combination of low prices due to the depth of their recession and a cheap European currency.

If the Asian demand (and that stands to start declining anyway as China forces a slowdown) now flows to European companies, it will do so by leaving the U.S. companies.  Suddenly, these higher than expected earnings which fueled the market can become lower than expected earnings in future quarters.

Therefore, if we combine this post with the previous post, we may see a market that sells-off as money is pulled out to be placed elsewhere in a global asset rotation but also sells-off due to lower than expected earnings. Only time will tell!

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History in the Making

Every once in a while, you will hear someone say that they knew an historic event was occurring while it was occurring. Last year’s sell-off in the market and the accompanying dismantlement of several old line Wall Street firms was an historic event that everyone knew was historic and significant at the time it was happening. Last week’s 1000 point plunge in the matter of minutes was historic and we knew it while it was happening.

But there are also historic moments that occur without anyone knowing until well after it occurs. The current market movement might just be one of those times. I am just speculating here but I believe we are watching history in the making right now! The market has been selling off, coming down from its recent highs of 11,200 in the midst of some better than expected earnings reports. This is a very different scenario than anytime prior in this latest bull market starting in March 2009 with the DOW at 6500. The market has gorged itself quarter after quarter on better than expected earnings. Suddenly, these better than expected earnings are not fueling the market even further. The question is why?

I am betting on one of the potential answers…..the one that would be historic! The first documented and acknowledged “Global Rotation.” I think we have all become aware of the rotation process and what it is.  Financials are hot, everyone jumps in. Financials cool off and people jump out of them and jump into tech stocks which are now hot. Later, they will jump out of tech stocks when they cool off and jump into the next hot sector like commodities. There is no doubt that the rotation process exists in the financial markets. Now, maybe it has developed into a global process? Follow my logic here.

When the US economy fell into a recession, we saw both the dollar and the stock market get hit hard and visit lows not seen in decades. For overseas investors, this was a huge opportunity. To start with, the dollar became so cheap that other countries currencies’ buying power was magnified. Further, the cheap prices created by the market crash made stock prices the cheapest we’ve seen in longer than most of us can remember. The combination of these two factors created an irresistible temptation and an overwhelming opportunity for overseas investors to purchase US based assets……especially in the US stock market.  This large infusion of overseas capital into the stock market was well documented and closely followed. Many were aware that this definitely contributed to the size of the bull rally.

But now, things have changed and so has the opportunity for overseas investors. The troubles of Europe made the US less than a “golden opportunity.” First, our market has risen dramatically! It is no longer at 6500, 7500, nor 8500 anymore….it was now 11,000. Obviously, the big opportunity is now long gone. Secondly, the US dollar had rallied back hard particularly against the Euro. Now, overseas buying power has diminished greatly. But, diminished is not the right word as you will see from my theory. The better word would be “shifted.” Overseas buying power shifted from US dollar based assets to Eurodollar based assets. Herein lies the basis for my theory of “global rotation.”

Maybe our current market sell-off is due to a global rotation. Just as the US gave investors a perfect storm of opportunity a year or so ago, maybe it is now Europe’s turn. The now cheaper Euro and lower asset prices there may now be overwhelmingly and irresistibly tempting to overseas money. In order to take advantage of this opportunity, investors must get their money out of the US markets by selling here, then going and buying in Europe. This could be the birth of the global rotation! As the financial markets of the world become more and more globalized, I feel that these global rotations will become more and more frequent. So, it will behoove us to closely monitor this situation so as to learn more about the signs and characteristics of these global rotations in order to eventually learn how to take advantage of these new, potentially reoccurring movements.

Staying Away from the Banks

The Wall Street Banks, already under fire, particularly Goldman Sachs, may be looking at more problems going forward. Obviously, the civil suits have turned to criminal allegations and investigations which is never a good thing. Add to this the complete public disdain for Wall Street and a pretty ugly road seems to lie ahead. You see, with just a civil suit, the Goldman’s of the world would have had a rough time but would have only received a hard slap on the wrist and the rest would be yet again, swept under the rug and almost as quickly forgotten. But, a criminal suit brings with it words like fraud and liable and those words open a plethora of law suits that will not be able to be swept under the rug. Many of us knew about these big Wall Street banks tactics long ago. They have been getting away with this stuff for a very long time.

But this begs the question as to why now? Why are they getting this heat now? This heat could have brought down on them years ago….so why now? The answer is Greece! You see, the US Government, who we all know has a special place in its heart (and wallet) for Goldman, always seemed to be able to cover for Goldman and the others. This is because Goldman, even with its insatiable greed, never stepped overseas into a high-profile situation with such a large-scale effect. With what is happening in Greece, its effect on the entire Economic Community and the global attention it is receiving, the US Government, under pressure from just about every government in the world, wasn’t able to sweep this one under the rug and cover Goldman’s rear. The news of Goldman’s involvement and actions in the Greek debacle set forth international pressure on the US Government and opened the flood gates domestically on Goldman.

Now that the Goldman case has gone criminal, more and more screwed over clients will bring lawsuits that will now have a better chance of succeeding. And as long as the Greek debt fiasco continues and it looks like it will for a while as now Greece ponders bringing suit against our large banks particularly Goldman Sachs, the US Government will have to take greater and more restrictive actions against these giant Wall Street Banks. This isn’t over by a long shot and the worst is yet to come for the bank stocks. With word that Spain, Portugal, Ireland, and others in Europe have severe enough debt problems to potentially need bailouts themselves, one can only wonder if they too decided to consult with Goldman Sachs. If they did, the US Government be damned…….only God will be able to save Goldman!  Question is,  will He even want to!

Catching a Falling Knife

Over the past year or so, the sell-off in the market created many outstanding opportunities for long term entry price levels for many different stocks across many different industries. When we look back, it seemed so easy! The entire market was getting annihilated so as long as you had the wherewithal to buy, you probably did well. Greatly aided by a stimulus package with no limit and an intervention program that was really a manipulation program in its size and frequency, momentum took over and everything ran back up.

But now, things have changed. The market is not at 6500 on the DOW. The economy and the market are no longer in a panic driven free fall. So how are we able to find these good longer term entry points now? Easy, we must find good companies that are in distress but not life threatening distress.  We have to learn to be smart, skilled, and confident enough to catch a falling knife. Fact is, in a bull market, especially in an aggressively bullish market like the one we have had, the only time we can find an attractive entry price is when the company runs into trouble and the stock sells off aggressively.The problem with that is that you now need to buy into this selling not sure if the selling continues right through ……just like catching a falling knife.

Recently, I have advised some of you to buy a few stocks that fit this bill. Schlumberger (SLB) when it sold off to just under $60 on purchasing Smith International (SII). Or Toyota Motors when it was down around $70 during its recall fiasco. Or like today when we recommended Transocean (RIG) while it dealt with the negative publicity from the oil spill. Or how we may even, at some point, recommend Goldman Sachs (GS) as it deals with the financial reform bill, its lawsuits and the ones to follow, and the downright hatred the public has for it. In all of these situations, we had to buy into the sell-off. The reason  is that when the sell-off is over, the stock bounces back so fast, with so much momentum, it’s hard to get it.

There is a way of doing it…..catching that falling knife I mean! There is a combination of understanding the news and its effect on the stock, the stock’s technicals, and some good old instincts. Love to hear how some of you attempt “bottom fishing” and I am even thinking about teaching a special class on it!