Sept 10, 2013 - Market Commentary by James Investment Research

Stock Market Analysis

The holiday shortened week was a favorable one for stocks. Large stocks, like those of the S&P 500 gained 1.4% and their smaller brethren represented by the Russell 2000 did even better and advanced 1.9%. Volume, as might be expected, was light, with a daily average of only 700 million shares traded.

Market internals over the last 25 trading days have been somewhat shaky. Declining stocks have outpaced advancers by nearly a 3-to-2 margin and we have generally seen more stocks setting new lows than new highs.

Perhaps worse for traders is the return of Congress from its latest recess. It is worth noting that starting in 2007 stocks have gained an annualized 10.6% when Congress is out of session and the markets have lost an annualized 2.1% when Congress is in session leading the way. Given the serious issues of Syria and the debt ceiling debate there may be reason for concern.

On the economic front there were a few positive items. The Institute of Supply Management (ISM) data suggests manufacturing is on the rise. Most companies surveyed are reporting better new order figures. The one caveat is prices paid are on the rise as well. The latest inflation data suggests raw material prices are already rising at a faster rate than can be passed on to the consumer. If this condition continues it may eat into corporate profits.

We also saw improving numbers from vehicle sales which topped 16 million on a seasonally-adjusted annual rate for the first time since 2007. Readers of our annual economic outlook are probably not surprised as our research noted the average car on the road was over 11 years old. We believe the automotive area will continue to perform well in the future.

One area that is clearly disappointing is employment. In 2007 America experienced the “Great Recession”. Unfortunately the recession’s end has clearly not brought about a great recovery. Since the recession started, America has gained just under 3.3 million part-time jobs. The problem is our nation has lost over 5.6 million full-time jobs. The most recent data has trouble written all over it as well. The country lost over 150,000 entrepreneurs last month. This is critical as it is usually the entrepreneurs who look to hire other workers.

Our leading indicators are improving but are unfortunately not in the favorable camp. Speculation still remains high and prudence suggests caution at this stage. Be that as it may, improving indicators are a good reminder that upcoming opportunities will eventually emerge.

David W. James, CFA

Bond Market Analysis

It is always nice when events prove our research to be correct. I refer to newspaper headlines, “Hiring misses mark again.” which reflect weak hiring and economic stagnation here at home. Pleasure is greatly diminished when one reflects on life challenges faced by the unemployed, including friends and relatives. One hopes for enlightened, pro-business market centered policies by Washington to correct the problems.

It is a fact that observers who looked at data, not opinions, would have been guided away from the opinions of “Mainstream economists” who have been in favor of massive government intervention in the markets. The intervention was forthcoming, but not the projected results. Instead, intervention has served to unsettle the market and create uncertainty for the future, not best for firm expansion.

A further headline: “Disappointed economists don’t see quick turnaround.” ISM data shows manufacturing employment trending the wrong direction, with prices however showing a fast rise. Not a good mix. Last month the real average hourly earnings of employees at private firms were almost unchanged, up only one fifth of one percent, with construction workers suffering falling earnings.

Bond yields rose for the week and the 10 year bond touched 3.0% before falling back at the end of the week to close at 2.94%, a rise of about 16 basis points. Mortgage bond yields also rose, but only by 5 or 6 basis points. Year to date, the 10 year treasury yields rose about 116 basis points while the 30 year rose only 92. The differential in rises creates opportunities.

Durable goods orders were off 7.3% at last report, and business equipment orders off 3.3%. The latter statistic is closely correlated with employment—new equipment requires workers to use it. Home sales were off 13% from the previous month. But the picture was mixed, with leading indicators and the coincident/lagging indices both slightly higher.

Projections of a slow economy are favorable for bonds. Our indicators reflect this in neutrality now, although a shift to a less favorable aspect appears ready to begin. Be that as it may, the facts are that the bond portion of portfolios has shown excessive volatility, undermining efforts to produce steady, consistent returns for conservative investors who desire to preserve capital. To counter volatility, we plan for a somewhat larger slice of liquidity. The intent is to build the cash portion where appropriate, modestly lowering portfolio exposure to bonds.

F James, Ph.D.