Dow Jones Industrial Average

If ever there was an investor reaction that summed up just how much the Federal Reserve has broken the markets it was yesterday morning's post-dismal-jobs-report surge. As John Phelan notes, we now appear to be in a position where the interests of financial markets are precisely at odds with the interests of the rest of the economy; where the good news for us is bad news for them and bad news for us is good news for them. The one way bet of the Greenspan Put maintained, so far, by Ben Bernanke, has created a market of monetary-punch-drunk liquidityholics. On its 100th birthday the Federal Reserve has the tricky task of sneaking the punch bowl out of the party, a task it seems they’ll struggle to manage without starting a riot. They may have printed themselves into a corner.

Analyst expectations for top line growth in the back half of 2013 continue to fade, and worries over a looming “Revenue recession” grow commensurately.   As ConvergEx's Nick Colas notes, the first quarter of 2013 posted an average negative 0.6% revenue comparison for the 30 companies of the Dow Jones Industrial Average, and Q2 (with a few companies left to report) looks to be +0.3%.  But back out the financials, and he points out that the number goes negative to the tune of (0.3%).  Analysts are still chopping away at their back half expectations, now down to 1.9% for Q3 and 2.1% for Q4 2013.  Those are down from 4-5% expected comps back in March, so the trend is still clearly not our friend.  As we have pointed out previously, equity markets have been powered by multiple expansion year-to-date, but, as Colas asks (rhetorically) do you really want to pay up at this point in the business cycle for still declining expectations?

It is well-known that as part of the S&P500's ascent to new records, investor margin debt has also surged to all time highs, surpassing for the past three months previous records set during both prior, the dot com and the housing, stock market bubbles. And as more attention has shifted to the topic of speculator leverage once more, inquiries into the correlation between bets upon bets and stock performance are popping up once more, in this case in a study by Deutsche Bank titled "Red Flag! - The curious case of NYSE margin debt." Of particular note here is a historical comparison of margin-debt warnings that have recurred throughout history but especially just before major stock bubble crashes, such as in the period 1999/2000, 2007/2008 and of course today, which have time and again been ignored. Here is what was said then, what is being said now, and what is ignored always.

A bearish take on U.S. stocks is about as fashionable as a beehive hairdo at the moment, which makes it a decent time to think like a contrarian.  Sell-side strategists with a sense of reality are few and far-between but as ConvergEx's Nick Colas warns, the most important reason for caution currently is, obviously, valuation and complacency.  U.S. stocks currently reflect, both in price level (16x current year earnings) and implied volatility (an 11 handle VIX), an economic acceleration which has yet to fully flower.  In addition, Colas adds, domestic equities look good in part simply because everything else – Europe, Japan, emerging markets, etc... - look so bad.  Wouldn't an accelerating U.S. economy spill over to other regions?  So what is lurking around the corner for the next lucky Fed head? And what about the three main memes for why the 'bull' can keep running?

Dow Jones industrial staple Caterpillar, better known as CAT, has made these pages quite often in the past few months for all the wrong reasons: be it due to operational weakness ("CAT Misses Across The Board, Slashes Sales And Profit Outlook"), weak top line growth ("Collapse In Caterpillar North American Sales Not Helping Bernanke's "Recovery") or simply gross management negligence ("Caterpillar Punked By Chinese Fraud, To Write Off Half Of Q4 Earnings"). It got so bad that none other than China permabear Jim Chanos declared Caterpillar his "best short idea" last week. However, CAT's troubles are far more than just China related as today's June dealer retail sales showed, which which posting a modest 'increase' in North American sales (from -16% to -10%), the weakness has returned to Asia where sales resumed sliding from -14% to -21%, in Latin America where growth plunged from 22% to 9%, in the ROW where sales dropped from -2% to -8%, all of it resulting in yet another downward inflection point in world sales from -7% (which had been a four month high) to -8%. But why bore with words when one picture should suffice. So what is the future for CAT? According to a new report released by @VolSlinger, things may get far worse in the coming months. So bad, in fact, that based on his analysis, which has a price target of $28 for the stock, there is some 67% upside to a short position.

If you’ve wondered what the next recession might bring in the way of U.S. corporate earnings, you don’t have long to wait for an answer.  Analysts expect the 30 companies of the Dow Jones Industrial Average to post a meager 0.7% top line growth for the upcoming Q2 2013 reporting season.  If recent history – think all the way back to Q1 2013 – is any guide, that means we’ll actually see a decline in revenues for the just completed quarter once all the numbers are out.  And with Q1 posting an average negative 0.6% top line comparison to last year, that will constitute a “Revenue recession” for these large and generally well-managed multinationals.  If that makes you question why U.S. stocks are still up 15% on the year, look to both corporate profits (still at record highs) and the anticipation for a better second half.  Hope may not be a strategy, as the old saying goes, but it certainly moves markets.

The late 20th century was a jam-packed time for stock-market crashes that would change, shape and alter our lives in so many ways.

Jean-Claude Trichet, the former head of the European Central Bank, in an interview with CNBC stated that there was only so much that central banks could do to save the economic situation at the present time.

China’s central bank issued a statement that the Chinese banking system had liquidity levels that were “reasonable” today. There by hangs a tale. ‘Reasonable’ is that which may fairy and properly be required of an individual (a case of prudent action observed under a set of given circumstances).

What are we supposed to do with all the “Dow 15,000” hats now? Keep them handy for another trip on the “Index Round Numbers Express” or just put them up on eBay in the “curios and collectibles” section?  ConvergEx's Nick Colas suggests one way to think about the question is to deconstruct the Dow into its 30 components and see which stocks got us to these still-respectable YTD levels in the first place.  For example, Colas notes that just seven stocks – MMM, BA, JNJ, AXP, DIS, HD, and HPQ – make up more than half the gains for the Dow in 2013.  Most of these names have a distinctly cyclical flavor, of course. And while the Dow has its share of “Defensive” names, it pays to remember that the top 10 companies by weighting take up 54% of the Average.  And they need a decent economy to grow earnings...

As a quick reminder, the old marketwide circuit-breaker system where a drop of over 2,400 points in the DJIA was needed to close the market after 2 pm no longer exists. Instead, the SEC revised its market-wide circuit breakers as follows...

The 20th century could be categorized as THE century when communications took off and we started living in each other’s pockets. Lives had been ruined by war, trouble and strife. Wealth had been redistributed beyond belief. There were no longer just a few that were making the profits, but there were growing classes of people that wanted recognition.

If stock markets really do their best to discount earnings six months ahead of time, then it’s beginning to look a lot like Christmas.  ConvergEx's Nick Colas' monthly review of analysts’ revenue expectation for the Dow 30 companies finds that hopes for growth in the second half of 2013 continues to diminish.  The upcoming Q2 2013 results won’t be much to write home about either, with average top line growth versus last year of just 1.1% and (0.7% ex-financials), the lowest comps analysts have put in their models since they started posting expectations last year.  Back half expected sales growth is down to an average of 3.0 – 3.2%, where these estimates were over 5% just three months ago.  If you are hoping for 3-4% revenue growth – the kind that allows profit margins to expand – you’ll have to wait until 2014, at least according to Wall Street analysts. The bottom line is that this data provides a less-discussed reason for all the recent stock market volatility.

Volatility is back - though the averge joe-sixpack would hardly know it as stocks see their second best day of the year. The Dow Jones Industrial Average saw its widest weekly range in 2013 - 460 points low-to-high; even as it closes green. The Nikkei the same (with another ugly week). The USD saw its worst week in 19 months (as JPY carry unwinds hit) but the commodity complex was very dispersed. Oil prices surged 4.6% on the week (so no tax cut there then!) while Silver prices plunged 3%. US Treasury prices close down for the sixth week in a row (for the first time since May 2009). The ramp in the late day today - which held us nicely green on the week in stocks - was absolutely ignored by credit markets which ended the week notably wider.

The airwaves are full of stories of economic recovery. One trumpeted recently has been the rapid recovery in housing, at least as measured in prices. The problem is, a good portion of the rebound in house prices in many markets has less to do with renewed optimism, new jobs, and rising wages, and more to do with big money investors fueled by the ultra-cheap money policies of the Fed. It seems entirely wrong that the Fed bailed out big banks and made money excessively cheap for institutions, and that this is being used to price ordinary people out of the housing market.  Said another way, the Fed prints fake money out of thin air, and some companies use that same money to buy real things like houses and then rent them out to real people trying to live real lives. At the same time, we are also beginning to see the very same hedge funds that have re-inflated these prices slink out of the market now that the party is kicking into higher gear – all while new buyers are increasingly having to abandon prudence to buy into markets where the fundamentals simply aren't there to merit it. Didn't we just learn a few short years ago how this all ends?