Energy & Commodities
Empty cars head back to North Dakota for more Bakken crude.
Where have all the anti-frackers gone?
You may have noticed we haven’t heard too much lately from groups opposed to the drilling practice, which involves sending millions of gallons of water and chemicals into the ground to free up oil and natural gas deposits trapped in rocks.
Their last big push seems to have come last year, with the film “Gasland II,” about the possible ill effects that fracking Pennsylvania’s Marcellus shale could pose to the Delaware River basin at the vanguard.
But since that time, we have only seen more development. Oil production is now at a 28-year high, while gas production is at all-time highs. There are now even plans to snake a new natural gas pipeline under the west side of Manhattan.
….continue reading & viewing charts HERE
The world is probably strange enough without the additional oddities provoked by the Federal Reserve.
“Investors Return to Emerging World” was a headline in yesterday’s Wall Street Journal. It told the story of how investors are “settling in for another ride in emerging markets.” India, Indonesia, Thailand – “money is flowing back into emerging markets at the fastest pace in more than a year.”
What is strange about this is the timing. It comes in newspapers full of disturbing stories. Thailand has been locked down by its generals. In Egypt, the soldiers took over via, first a coup, then a vote. In Ukraine, pro-Russia partisans are engaging in fire-fights with the nation’s armed forces.
You’d think instability would give investors a hunger for something solid that they could hold onto in an emergency – such as gold. Nope. Gold lost another two bucks yesterday, closing at $1,257.
While investors have no appetite for real money, their hunger for emerging market stocks and bonds appears almost insatiable.
We did not see this coming. Still, we claim some small credit for recommending Gazprom to you. Not that we knew anything about the future. But our ignorance of it was at least in equal measure, whether we were discussing Ukraine or the US.
Not having any idea of what would happen, we thought the cheap bird in our hand was a better bet than the expensive birds somewhere in the future bush. Since the bottom, Gazprom is up more than 30%.
According to the WSJ, that is why investors are interested in emerging markets. It is “a search for yield” that leads them to far-off places with far-out politics.
We can think of many reasons for buying assets in emerging markets. But “a search for yield” is not one of them. But that just goes to show you how grotesque the world has become.
Seeking to boost the US economy, the authorities give a boost to Indonesian capital investment (which will inevitably give US industries more competition).
Seeking to force savers into riskier US stocks (and thereby increase employment), Fed policies drive them onto the Indian stock exchange, which will inevitably create more jobs in India, taking them from Americans.
Seeking to drive US interest rates down… the Fed knocks rates all over the world onto the floor.
Nothing works as advertised… or as it should.
Back at home, the feds brighten up the lives of people who live in tanning salons. Sales of houses to the top 1% of buyers on Long Island rose 72% in the first four months of this year. The bottom 99%, meanwhile, actually bought fewer houses.
That information comes to us from Wolf Richter, via former White House budget director David Stockman. Obviously, it was not the weather suppressing sales for the 99%. Unless the top 1% live in another world altogether… one that is sunnier all year long.
From David Stockman:
The absurd deformation evident in the latest data on housing bubble 2.0 sticks the fork in monetary central planning. In the attached post, Wolf Richter provides a succinct display of existing home sales on an April YTD basis versus prior year for 30 major markets. The pattern is stunning: Among homes sold to the top 1% of households, volume is up by 20-100% in most markets. By contrast, transaction volume during the last four months was down for the entire remaining 99% of the market in 26 out of 30 cities. And the bottom 99% volume was off by double digit amounts in places like Phoenix, Orange County and Los Vegas.
Moreover, a quick peruse of the chart shows that the pattern of soaring volume among the 1% is not just a regional aberration owing to the social media and technology stock boom in the San Francisco Bay area. Volume of top 1% home sales on Long Island, for example, was up by 72% during the first four months of 2014—bad winter weather notwithstanding. Contrariwise, volume among the less well insulated 99% of Long Island home buyers actually dropped below prior year levels.
How do you like that? The whole housing rebound story is a fraud… another distortion caused by the Fed… and another example of how the insiders transfer wealth from the outsiders to themselves.
In Oakland, California, for example, sales to the 1% rose 45 times faster than sales to the rest of the population.
Yes, dear reader, it pays to be rich.
Regards,
Bill
Editor’s note: As Bill pointed out, it does indeed pay to be rich nowadays. If you’d like to learn about the same wealth-building strategies that the richest “1% of the 1%” have successfully employed for centuries, read on here.
In short, value portfolios as determined by the price earning ratio simply out-earned the glamour portfolios by a significant margin. The first chart makes that obvious – Money Talks Editor
Investing Using The Price-To-Earnings Ratio And Earnings Yield (Backtests 1951 To 2013)
The humble price-to-earnings (PE) ratio is a remarkably well-performed fundamental ratio. While I generally favor the enterprise multiple when demonstrating the utility of focusing on intrinsic value and investing in undervalued stocks (for the reasons outlined here), I’d be very happy to run a portfolio if I was only able to use the PE ratio.
Set out below are the results of two Fama and French backtests of earnings yield (the inverse of the PE ratio) data from 1951 to 2013. As at December 2013, there were 2,406 firms in the sample. The valuedecile contained the 283 stocks with the highest earnings yield, and theglamour decile contained the 281 stocks with the lowest earnings yield. The average size of the glamour stocks is $4.4 billion and the value stocks $4.3 billion. (Note that the average is heavily skewed up by the biggest companies. For context, the 2,406th company has a market capitalization today of $300 million, which is much smaller than the average, but still investable for most investors). Stocks with negative earnings were excluded. Portfolios are formed on June 30 and rebalanced annually.
Annual and Compound Returns (Portfolio Constituents Weighted by Market Capitalization)
In this backtest, the two portfolios weighted by market capitalization, which means that bigger firms contribute more to the performance of the portfolio, and smaller firms contribute less. Here we can see that the value decile has comprehensively outperformed the glamour decile, returning 16.7 percent compound (19 percent in the average year) over the full period versus 9.3 percent for the glamour decile (11.6 percent in the average year).
Average Earnings Yield (Market Capitalization Weight)
The reason for value’s outperformance is not very complicated. The value portfolios simply generated more earnings per dollar invested (19.1 percent versus 2.8 percent for the glamour portfolio):
Recent Performance (Market Capitalization Weight)
This is not a historical aberration. If we examine just the period since 1999, we find that, though the return is lower than the long term average, value continued to be the better bet.
Value has massively outperformed glamour since 1999, beating it by more than 10 percent compound, and 5.5 percent in the average year. The reason for lower returns recently may be due to the ubiquity of value strategies, but more likely it’s because the market is still working off the massive overvaluation in the late 1990s Dot Com boom.
Market capitalization-weighted returns are useful for demonstrating that the outperformance of value over glamour is not a function of the value portfolios containing smaller stocks. For most investors, market capitalization-weighted returns are irrelevant because we’re not going to invest portfolio capital according to a stock’s market cap. For one thing, it’s more difficult to manage and calculate on the fly than an equal weight portfolio, and it leads to lower returns. More likely, we’re either going to equal weight the portfolio (simply equally dividing the total portfolio capital over the total number of positions, say 10 to 30 stocks) or Kelly weight our best ideas. The equal weight returns are therefore more useful for most investors. For equal weight portfolios, the smallest stock is the most important one because the smallest stock constrains the portfolio capital, setting the maximum capital that can be invested in every other stock in the portfolio. (Recall that the smallest company in the sample has a market capitalization today of $300 million, which is investable for most investors.)
Annual and Compound Returns (Portfolio Constituents Equally Weighted)
In the equal weight backtest value generated 20.1 percent compound (23.3 percent on average), beating out glamour’s 9.8 percent compound return (13.3 percent on average).
Again, the value portfolios simply out-earned the glamour portfolios, generating 17.2 percent on average versus 2.7 percent in the glamour portfolios. It’s interesting to note that the average earnings yield for the equally weighed value portfolio is slightly lower than the average earnings yield for the market capitalization-weighted portfolios, which indicates that, over the full period, bigger stocks tended to be a cheaper method for buying earnings than smaller stocks. That won’t always be the case, but it’s interesting nonetheless.
In the equal weight portfolios, value also outperformed glamour since 1999, beating it by 8.3 percent compound, and 7.1 percent in the average year.
Over the long run, cheap stocks tend to outperform more expensive stocks, and the PE ratio is useful metric for sorting cheap stocks from expensive stocks.
About the author:
Saj Karsan founded an investment and research firm that is based on the principles of value investing. He has an MBA from the Richard Ivey School of Business, and an undergraduate engineering degree from McGill University.
“The inflation is in junk bonds”
“Bond buyers have never paid so little to lend to the riskiest junk-rated companies, yet they’re gobbling up the debt at an accelerating rate.”
– Bloomberg, May 6
“Investors hungry for high yielding bonds are turning to one of the riskiest corners of the US corporate debt market.”
– Financial Times, May 9
“Continue to overweight high yield bonds.”
– BCA [Bank Credit Analyst], May 13
“In the leveraged loan market, strength has returned, in part because buyers are using more leverage. We do not expect any downside from the trend in 2014.”
– Barclays, May 16
“US industrial output posts biggest drop in more than 1-1/2 years”
– Reuters, May 15
“China’s bad loans rose for the 10th straight quarter to the highest level in more than five years.”
– Bloomberg, May 15
* * * * *
It seems that the best for the bull market that arose as the panic ended in the spring of 2009 is in. That bottom was accompanied by very bearish technical readings. Actually, numbers seen at cyclical bottoms. Spreads between high-grade and low-grade bonds were at panic “wides”.
February-March recorded the maximum celebration of this bull market. This accomplished the most outstanding sentiment and momentum numbers since 2007.
We noted that these only register at cyclical peaks. Credit spreads have narrowed, exceptionally.
Leadership as provided by the NDX peaked in early March and on the slump into April took out key support. The rebound to last week was the key test of the high and is now rolling over.
This leadership burned itself out.
Noteworthy, is that the banks (BKX) also peaked in March and have been acting worse than the NDX since. New lows were set this week.
The action in the S&P continued to last week. Perhaps the shift from “growth” to “value” had some influence. The shift is typical of this stage of a stock market. Ross used it as an indicator.
Tuesday’s decline was explained as weakness ahead of some Fed minutes.
For us, it was that spreads (JNK:TLT) broke down as the Greek bond jumped in yield – last Thursday.
There was some relief until Monday when spreads were again weak and the Spanish bond accomplished new highs in yield.
The cyclical bottom in 2009 was accompanied by dismal technical readings and was followed by a cyclical bull market. It stands to reason the that cyclically bullish readings would be followed by a cyclical bear.
This melancholy condition is becoming evident this week and prompts the question “How bad will it be?”.
We have long described conditions as the first business cycle and bull market out of a classic crash. Similar to the one that peaked in 1937, it was preceded and accompanied by massive policy intrusions. Zero short rates and lots of bond buying.
The other part of our position has been that economic and business numbers would be positive until the stock market peaked. As with the 2007 Bubble, the recession would start virtually with the bear market.
The old normal was that the stock market would lead the economy by some 12 months.
That was the case with the Dot-Com Bubble of 2000. If the recession starts with the bear, then the trading community will not have to suffer economists going on about how good things are as the senior indexes decline.
Back to how bad?
The inflation in central bank credit is without precedent. This official speculation has been allowed because of the massive speculation by private investors. It is worth recalling that the Fed became aggressive with the Bear Stearns failure in June 2007. Then even more ambitious as the contraction became more evident in 2008. Extraordinary easing did not prevent a classic crash.
Unwitting taxpayers and witting speculators and investors sponsored the Fed’s reckless adventure. And the latter groups have created a cyclical peak in both stock and bond markets.
Bear markets are always ugly, and the developing one will put policymakers in a very bad light.
The speech to the CMRE Spring Dinner includes the comment that the Fed was formed with the earnest belief that it would prevent the financial setbacks that initiate recessions.
The next one will be number 19. Of course, this has not been good for the resume. But not preventing two Classic Bubbles and Crashes has been a real clanger.
We have noted that the decline in yield for the Spanish bond had generated four weeks of Downside Exhaustion readings. This has been our proxy for the general Euro bond market. And the action was extreme going into the time-window when reversals can happen.
The low was 2.84% on May 14th and key resistance was at 3.11%, which was taken out with the surge to 3.14% last week.
Also last week, in a rush to join the action, the Italian bond registered a Weekly Downside Exhaustion. The yield has plunged from 7.08% reached in the 2011 Panic to 2.90% on May 14th. The rebound reached 3.28%, taking out key resistance at 3.20%.
The Greek bond set its best at 5.85% on April 8th and had fully reversed on May 16 at 6.86% yield.
The Spanish (our proxy for the sector), the Greek and Italian bonds represent different characteristics of the European Sovereign Debt Market. They all enjoyed outstanding and measurable dynamics going into the window when major reversals can happen.
The reversal has been accomplished and it will take some time to unwind the excesses.
Keep in mind that the action has had full government participation and that was the case going into a similar reversal in May-June of 1998 – the LTCM collapse.
This was mentioned last May and while most bond prices got whacked, spreads did not widen. Treasuries dropped with the market. The full five-year cycle had to run.
This time the excesses have been greater in lower-grades than in treasuries. On the latter our target of 136 to 138 has been reached, but the rise is not overbought on the Weekly.
As the above headlines indicate the action is mainly in the hands of highly-leveraged fund managers. Also there are stories that retail buying of junk funds has ended. But in recalling when the “odd-lotter” was a key technical measure in stock market research.
The odd-lotter was a small trader and considered as uninformed. However, as we recall he did get the market right – at important tops.
Who knows if it is still applicable but it is fun to mention some of the old tools.
As credit conditions deteriorate we expect that the investment demand for gold will increase. This would likely be accompanied by silver underperforming gold, which is an indicator of developing trouble.
This was signaled when the gold/silver ratio rose through 66 in April. The high was 67.7 at the end of April and today it is at 66.6.
Our conclusion last week was that the developing rise in gold would again make the world safe for fundamental supply/demand research. The next phase of the post-bubble contraction may not be safe for fundamental research on silver.
Every long post-bubble contraction has moved the gold/silver ratio up. This Pivot is being written in NYC and the files are not handy, but on the contraction into the 1840s the ratio rose to around 35.
Then there was the great Silver Corner attempt by the Hunt Brothers that blew out in January 1980. The ratio declined to 16, which was considered its natural level.
On that post-commodity bubble financial disaster the ratio soared to a little over 100 in December 1990 when Citi and Chase Manhattan became insolvent.
With the 2000 Bubble it declined to 42 and it rose to 83 with the subsequent collapse.
In the 2007 Classic Bubble the ratio declined to 46 and increased to 93 with the bust.
The decline in the ratio with the 2011 blow-off in precious metals was the most sensational since January 1980. We noted that the action had become “dangerous”.
Using history as a guide, the gold/silver ratio could increase to around 90 on the developing contraction.
Most gold and silver stocks could decline with global financial troubles.
- BCA’s advice on May 13 was “Continue to overweight high yield bonds”.
- Yields and the default rate are close to a cyclical minimum.
- Hedge funds are long and leveraged.
- The move from terror and panic to bliss and confidence has taken four years.
- This is the first such extreme reading in 10 years.
- Buying is compulsive.
- There are no concerns about adversity
- The rally from a little less than 56 in February to 64.12 has been outstanding.
- The action had big momentum and is running out of steam.
- The high on this issue was 99.33, back in the halcyon days of the housing mania.
- The low was 23.10 (no typo) in 2009.
- Note the reversal to widening spreads in May-June 2007.
- Our conclusions in June of that fateful year was that “The greatest train wreck in
- the history of credit” had started.
- Another run-a-way train is thundering down the track and is out of control.
- These have a tendency to be discovered in the May-June slot.
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