Growing Unemployment Across States 0

Roughly one in ten workers have filed for unemployment in the last three weeks. Here’s a look at estimated unemployment by state:

Three states might have unemployment rates over 20% right now: Michigan, Pennsylvania and Rhode Island.

15 states (and the District of Columbia) likely have unemployment rates over 15%: Alaska, California, District of Columbia, Hawaii, Kentucky, Louisiana, Maine, Massachusetts, Michigan, Nevada, New Hampshire. New Jersey, Ohio, Pennsylvania, Rhode Island, Washington

Only 11 states have estimated unemployment rates under 10%: Colorado, Connecticut, Florida, Nebraska, Oklahoma, South Dakota, Texas, Utah, Virginia, West Virginia, Wyoming

Colorado is showing what could be the lowest unemployment rate in the country and it is still an estimated 6.9%. At the end of February, only 6 states had unemployment rates over 5%.

If you add the 16.8 million individuals who have filed for unemployment over the last three weeks to the 7.14 million who were already unemployed, the national unemployment rate jumps to nearly 15 percent.

Yes, there has been some hiring over the last three weeks, but hiring has unlikely not proceeded at the same rate as it was earlier in the year. It is likely also true that many who are eligible for unemployment benefits have not applied. Some of these figures could be our lower bounds.

Making Sense of the Unprecedented March 2020 Job Losses in the Hospitality Sector 0

The loss of hospitality jobs in March 2020 is unprecedented.

When we have April data in a month, we’ll see the U.S. economy suffered more hospitality job losses in two months than during the entirety of the last recession.

The leisure and hospitality sector includes businesses like hotels, restaurants, bars, casinos, amusements parts, museums. Some 85% of the sector is accommodations and food service (think hotels and restaurants). The sector reported 459,000 fewer jobs in March 2020. The worst monthly change prior to March 2020 was a loss of 83,000 (August 1989). The sector accounted for roughly 66% of the total decline in Nonfarm payroll (701K) during March 2020.

The leisure and hospitality sector shed 623,000 jobs during the Great Recession (Jan 2008-February 2010). That decline happened over two years. The current downturn is bigger and quicker than we have ever seen.

The March 2020 data only include workers who are paid by their employer for all or any part of the pay period including the 12th of the month. So it doesn’t include the destruction we saw in the second half of the month. That will come in April’s data. March is much worse than the data suggests.

Some of these furloughed employees will likely return to payrolls in 90 days. Many will not.

 

 

An Updated Look at the Financial Markets 0

The summer starts and ends with a holiday.  With the latter holiday now behind us I thought I’d take a moment to provide an update on my views of the current state of the financial markets.

On August 7th – I moved an additional 5 percent of my portfolio into cash – and am still considering moving a further share into cash. Stocks through August 2nd were up about 17 percent for the year – but my assessment continued to be that things were unstable and finally warranted a reallocation. Since August 2nd the market has been down around 4.49 percent. August was the worst month since May 2012 when the market was down 6.27 percent.  It is only the third monthly decline in the last 15 months. I don’t think it will be the last down month for the year.  I expect September and October could also be down months for stocks.

Even with August’s poor performance, stocks remain up 14.5 percent in 2013 – with the total return being 16.15 percent. The total return for stocks last year was 16 percent and I still question the markets ability to best that return when we finally close the book on 2013. I expect 2013 will be an up year – the question remains how up.

Underlying Fundamentals Lacking

The underlying fundamentals of the market remain unsatisfying. With 99 percent of issues reporting, 2Q13 earnings have set another record (both operating and as reported). While earnings estimates for 3Q13 have declined 2.1% since the end of June, they remain 2.6% above 2Q13 – consequently on track to set another record.

What I find unsettling is that the record earnings growth is coming not through sales growth but through near all-time high operating margins. Companies continue to report strong earnings because they remain extremely lean.  Operating profit margins remain near all-time highs – something I don’t believe is sustainable over the longer-term. Over the long-run I want to see strong sales growth.  As sales growth increases, companies will need to invest in order to capture those sales and as a result operating margin will – or should – decline.

Sales growth increased slightly in 2Q13.  Annual growth increased to 2.9 percent from 2.5 percent in the first quarter. Both figures are well below the average annual sales growth of 4.3 percent.  Operating margins remained near all-time highs and have thus supported record operating profits.

At the start of the year I had expected 4.3 percent sales growth for 2013.  Average sales growth.  I expected operating margins to recede to something closer to 8.7 percent.  I expected multiples to expand in 2013 to 16 times earnings.  Currently, sales growth is 2.9 percent with operating margins of 9 percent and earnings multiplies of 16.7 percent.  These relationships were even more pronounced when August started. I think the market today is close to where it will close the year. I could also see further downside, with the market closing the year in the 1560 to 1590 range.

Cycle Update

We are 53.7 months into the current bull cycle – dating back to March 9, 2009.  The average bear market lasts 56.5 months.  If you exclude the 1990 to 2000 bull market – which ran 113 months – the average drops to something closer to 51 months. I think this bull market has the foundation to be longer than average but by the end of the year we will be beyond the average life cycle of most bull markets. Looking to 2014 should raise many questions for investors.

Uncertainties Gyrate

The future of Federal Reserve leadership remains uncertain. Fed tapering – timing and extend – remain uncertain.  Watch the September 17th/18th Fed meeting for more on this – unless Friday’s employment report is horrible. Future Fed leadership remains uncertain. Consumer and corporate spending have remain tepid and questionable. Consumer spending is of key importance as we head into the ever-important holiday season. Egypt and Syria and who knows who’s next produce a tremendous amount of weight on the market. Mortgage rates have moved 150 basis points in only a few months.  Housing is slowing. Issues impacting the economy are questionable.

I don’t expect these uncertainties to ease before year-end.

Expectations for Equity Markets in 2013 0

Equity markets continue to reach for new highs in 2013 – up over seven percent year-to-date and hitting new highs on Wednesday. As enter first quarter earnings seasons, it seems like an appropriate time to share my expectations for equity markets in 2013.  Most of the following comes from the presentation I give in early March each year at CEA’s annual Economic Retreat. My assessment of current markets and expectations for 2013 haven’t changed significantly in the last month.

0313 sales growth

We are now four years into the stock market recovery.  Over this time, equity prices are up roughly 130 percent since setting a low on March 9, 2009.  Bull markets typically last 57 months and over that period are typically up 164 percent. With history as our guide stock prices should continue to increase for another year or so – presuming the current bull market looks like the past.  We likely overshot on the downside and could certainly overshoot on the upside – suggesting a longer and stronger bull market than history would dictate.  If history is our guide, the S&P500 would need to close at 1,786 in 9 months – up 13.9% from current levels – in the current bull market to achieve a return of 164 percent over 57 months.

The current consensus (bottom-up) estimate is calling for $112 in S&P500 operating earnings while the consensus (top-down) is calling for $111 in S&P500 operating earnings.  The average Wall Street estimate is wrong.

0313 operating margin

Let’s start with a simple approach to earnings estimates – operating earnings are a function of operating margin and sales growth.  With that as our guide, let’s take a look at some history. In 2012, S&P 500 sales were approximately $1092.  Operating margin was 8.9 percent in 2012 which equates to S&P 500 earnings of roughly $96.8.  Sales revenue grew 3.8 percent in 2012. As you can see in the chart, S&P 500 sales growth has averaged 4.3 percent since 1994 and is also evident, sales growth has started to slow over recent few quarters.
A similar story is true with operating margins. Operating margins have averaged 7.3 percent since 1994.  At the 2012 level of 8.9 percent, operating margins are near all-time highs.
Let’s now pull these two things together. The chart below lays out a simple earnings estimate approach.  As you can see, earnings growth and operating margin run along the axes. We are left with grid of possible S&P earnings. As the chart clearly shows, earnings expectations of $111-$112 requires certain sales growth and operating margin pairing.

0313 valuation approach

Sales growth of 11 to 12 percent paired with operating margin of 9.5 percent would produce earnings of $111 to $112 for the year. Similarly, you can achieve $111 to $112 in S&P 500 earnings with earnings growth of 6 percent and a higher operating margin of 10 percent.  Finally, with sales growth of two percent operating margin must increase to 10.5 percent.  The dilemma should be evident. To realize earnings in the $111 to $112 range, either sales growth must accelerate or operating margin must accelerate. Under either scenario, either sales growth must be above it’s current and long-run trend or operating margin must be above it’s current and long-run trend. Analysts have overestimated year-ahead S&P 500 earnings in 5 of the last 6 quarters.
More realistic expectations suggest earnings growth has some potential to possibly accelerate (and revert towards the mean), while operating margin declines slightly (and also reverts towards its mean). For 2013, I expect S&P 500 sales of $1,138 and operating margin in the range of 8.7 percent.  This results in S&P 500 operating profits of $99 for 2013.  With minimal growth in operating profit, most equity market appreciation will come from earnings multiple expansion and this is one area where I think expansion is warranted. Despite continued concerns of contagion risk from Europe, investors are starting to feel less risk averse.

Where are we in the Market Cycle? 0

In The Short View in yesterday’s FT James Mackintosh writes about where we are in the current cycle (see Share price moves echo March 1987).  One particular statistic stood out to me.  Mackintosh writes, “For those bought up on the story of the Great Crash of ’87, such a comparison suggests it is time to sell before disaster strikes.  But from March that year equities soared another 16 percent before peaking.”

Just four days ago we marked the 4th anniversary of the market low set on March 9th, 2009 when the S&P 500 closed at 676.53 – marking a nearly 13-year low.  The S&P 500 is today just a few points for breaching the high set on October 9, 2007 when it closed at 1565.15.

Bull markets have historically lasted 57 months on average over which time the market is up 164%.  The current market is up about 128% over the 48 months. The S&P 500 would need to close at  1,786 – up about 15% from current levels.  If this is a typical bull market – we probably have a year left.

I think there are a few potential reasons the current bull market might run a bit longer than the average bull market.  Namely,

  1. the market overshot on the downside and as a result might overshoot to the upside as part of the correction.  Under this scenario this bull market runs longer and is up something more than 164 percent from the March ’09 bottom.
  2. the economic recovery accompanying this bull market has been more muted. Should it actually begin to behave like a true economic recovery it might provide additional support to the market.
  3. in the current zero interest-rate environment, there is tremendous pressure for assets to appreciate.  When the cost of money is zero, everything can up in price.  The calculated equity risk premium is near infinity with interest rates at almost zero. The pressures on investors to “Join In” mount as the market rises.

I think this later point has as much to say about where the market will peak as anything.

Are there counterpoints to those above?  Definitely.  For example, the market has manufactured earnings by cutting costs significantly over the last four years.  Margins are at near all-time highs.  I’ll write more about this particular point tomorrow and the implications for valuations in 2013.

The No-Cost Refinancing Myth – A Rebuttal 0

Over the last 13 years, I’ve refinanced several different mortgages seven or eight times using no-cost refinancing options.  With a traditional no-cost refinance, you take a loan with an interest rate slightly above the current market rate.  In exchange for taking a rate 1/8th to 1/4th higher than you could get in the market at zero points, the lender pays for your closing costs.

No-cost refinance options are not available in every state because related real estate taxes differ between states and the funds generated from taking a slightly higher rate can’t always off-set the taxes and other fees in states with relatively high real estate taxes.  Recently I was talking with someone in another state about no-cost refinancing options and I did a quick Internet search to see if this particular state had no-cost options readily available.

In doing my search I came across this Forbes.com “column” by Mark Greene. In the article, Greene writes, “again, this may feel like “no costs” were incurred, but the consumer pays in the form of a higher interest rate and more interest paid over time.”  But in this statement Greene is caught by an important fallacy. The interest rate and subsequent interest paid over time is only higher if one is perfectly clairvoyant and can time the bottom of interest rates perfect.  We can’t.  The probability that we refinance at exactly the bottom in interest rates is nil.  As a result, a no-cost refinance allows one to follow interest rates as they move lower without incurring closing costs each time.  Sure, you’ll miss the bottom by 1/8th of a point by definition, but again the chance you will foresee the bottom is practically zero.  Using no-cost refinancing allows you to follow rates lower and get much closer to the lull than others who opt to buy closing costs.

Will Interest in the Fiscal Cliff Wain 0

Since the election, the Fiscal Cliff as dominated the media cycle.  Here is Google Trend data depicting web search interest for the term “Fiscal Cliff” over the last twelve months in the United States. Unsurprisingly, web searches have spiked significantly.  This has been true not only in the United States, but also in the rest of the world.

Now that the Fiscal Cliff as been averted pushed forward, I imagine that web searches as a share of total searches will decline, but since nothing was really solved, I imagine we’ll continue to see spikes of media attention and subsequent consumer attention throughout most of 2013.

0113 fiscal cliff google trends

 

 

 

 

A New Year’s Resolution and Thoughts on the Markets 0

I haven’t quite solidified my personal goals for 2013, but one of them will be to write/blog more frequently.  I was thinking – though unreasonable it might be – that I’d set a goal to blog daily.  This might be a failed effort already considering it is now 1:20AM on the 2nd of January on the East Coast. Perhaps this specific goal will have a PST associated with it.

I wanted to share a few thoughts on the markets as we start the year.  With the markets closed New Year’s Day the focus has been on resolution of the Fiscal Cliff. The Committee for a Responsible Federal Budget covers the details the good, bad, and ugly here. I echo their sentiment that it is truly unfortunate we failed to use this opportunity to put into place measures necessary to stabilize the debt as a share of the economy.

I suspect we’ll see markets open higher on the first trading day of 2013 – not because of how Congress acted, but because they did act. 2012 is officially in the books and despite the volatility, when everything is said and done 2012 was a good year. Going back to 1926, the annualized total return (with dividends) for the S&P500 is 9.93 percent. In 2012, the S&P500 closed 13.41 percent higher than it opened (16% with dividends). 2011 was flat (up 2.11% with dividends). Midcap and SmallCap did even better with total returns of 17.88% and 16.33% respectively. Midcap and SmallCap have cumulative returns of 161% over 10 years – compared to 87% for the S&P500. Seems like it remains smart to have exposure to smaller companies and I expect that will remain true in 2013.

Vincent Farrell recently reminded me of the rule of 20 which states the “stock market multiple and the inflation rate historically, and consistently, total 20.” With inflation around 2% and as reported PE multiples around 14.7% for 2012 and 14.2% for 2013, it appears we have a lower risk stock market. At the same time financials were the biggest winners in 2012 – up 26% in the last year followed by consumer discretionary up nearly 22%. Pulte was the best performing stock in the S&P500 for 2012. Only utilities were down in 2012. Investors are becoming more risk seeking at the same time they are remaining skittish. I see asset allocations shifting at the same time investors are cautious as to what they are willing to spend for those earnings. The markets closed 2012 with the VIX lower than when they started 2012. Despite all of the events of 2012, we seem to be moving into a lower risk environment – for now. It is beginning to look like a real recovery (at least historically speaking) even if it doesn’t quite feel like one and it seems like a good time to be long the areas of the economy that will benefit most from a traditional recovery.

US. Companies appear ripe to make investments.  Large-cap S&P500 companies (old industrials) are sitting on a record $1T in cash and cash equivalents even after record dividend payments. More companies paid extra dividends in 2012 than in in the last 39 years. December extra dividend payments in 2012 was higher than we’ve seen in the last 57 years (1955)- suggesting companies were paying attention to what was happening in Washington. Expect to see more buybacks in the first half of 2013 and company acquisitions.

Interest rates were little moved in 2012. The 10-year U.S. Treasury closed at 1.75% compared to 2011 year-end close of 1.88% ( 2010 was 3.29% and 2009 was 3.84%). I expect this story to be true in 2013 as well. I like being long debt (ie being a borrower) – especially when I can lock those rates long into the future.

With all of this said, I expect 2013 could in many ways be more difficult than 2012 as reforms are implemented.  German Chancellor Merkel suggested this for Europe and I think the same applies to the US.

 

 

Another Once-in-a-Century Event…. 0

The East Coast is set to welcome tropical storm Sandy this week.  The potential damage is expected to be especially pronounced in the the Mid-Atlantic and New York tri-state areas.  Here are a few of the recent headlines:

This storm adds to the dozens (if not hundreds) of natural disaster events over the last 24 to 36 months which have been 1-in-50 or 1-in-100 year events.  Here are just a few of the events I’ve tracked over the last 2-3 years:

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