One of the factors contributing to yesterday’s selloff (the largest one-day selloff since last September) was some research from Goldman Sachs highlighting “lofty” valuations. (Usually Goldman is a lot more rosy with its outlook, so this received a great deal of attention from the press).

One the charts accompanying the research (see chart above) illustrates how high the Price-to-Earnings ratio is for the U.S. market when compared to other years since 1976.  As we can see, it was only during the heights of the tech bubble when the Price-to-Earnings ratio was higher.

That said, the Price-to-Earnings ratio would have been a lot lower if it was not for the U.S. Federal Reserve’s money-printing policy of Quantitative Easing.  Normally, towards the end of Secular Bear Markets (like the one that we have been in since March 2000), the Price-to-Earnings ratio for the market approaches 9, and possible even as low as 8.  This sets up some risk for equity investors in the U.S. as the rate of Quantitative Easing is “Tapered.”  Unless there is some spectacular earning growth very soon, it will be difficult to justify the high Price-to-Earnings ratio as the amount of liquidity for investment stops growing.

The opinions expressed in this report are the opinions of the author and readers should not assume they reflect the opinions or recommendations of Richardson GMP Limited or its affiliates. Assumptions, opinions and estimates constitute the author’s judgment as of the date of this material and are subject to change without notice. We do not warrant the completeness or accuracy of this material, and it should not be relied upon as such. Before acting on any recommendation, you should consider whether it is suitable for your particular circumstances and, if necessary, seek professional advice. Past performance is not indicative of future results. 

Richardson GMP Limited, Member Canadian Investor Protection Fund.

Richardson is a trade-mark of James Richardson & Sons, Limited. GMP is a registered trade-mark of GMP Securities L.P. Both used under license by Richardson GMP Limited.

In this week’s issue:

• Weekly Commentary
• Strategy of the Week
• Stocks That Meet The Featured Strategy

Stockscores Market Minutes Video

The fast money is made by trading hot stocks but finding them too late can mean that the reward for risk of the trade is poor. This week’s Market Minutes video discusses this idea in addition to the weekly chart analysis. View the video by clicking here.

Chasing Hot Stocks
Traders love hot stocks, those names that are making big gains on strong volume and attracting a crowd of speculators which continue to drive it higher. A trader who listens to the story but ignores the chart can buy in to these stocks too late, paying a price that has more downside risk than upside potential.

Even if you are not an expert at reading stock charts, taking the time to check the chart before you buy a stock is a must. When looking at the chart, you should evaluate how far the stock has moved from its most recent area of support. The farther a stock moves from its floor, the closer it gets to its ceiling.

To see where the relevant price floor is, look at the chart and determine the last time the stock traded sideways before it started to show strength. Draw a line across the bottom of that sideways trading range.

Now, look at where the stock is now. How long has it been going up? How far up has it moved relative to the normal trading volatility of the stock?

I don’t like to chase stocks that have moved far up from their price floor because the downside risk is too much for the upside potential. If a stock is destined to move from $10 to $15 but there is a risk it could go down to $9, you don’t want to buy it at $14. It makes sense to pay $10.50 because your downside is $1.50 while the upside is $4.50.

I have shown this concept visually in this week’s Market Minutes video, you can watch it on Youtube by clicking here.

Keeping this concept in mind, it may be ok to pay a higher price for a stock if it has just recently moved up from a period of sideways price movement. That sideways price movement is a foundation for a trend, it gives you a well-defined floor for risk management.

When playing hot stocks, buy them when they are just starting to behave abnormally, getting in as close to their price floor as possible. The higher the stock goes, the riskier it gets.

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Two things have been happening to start 2014. We are seeing profit taking in the strong stocks. This makes good sense, an investor with a large capital gain going in to the end of 2013 has incentive to avoid selling it until 2014 so that the tax payment can be delayed. I think this is the major reason why the overall market is pulling back this week.

We are also seeing money come in to Mining stocks, I believe for the opposite reason. These stocks were heavily oversold going in to the end of 2013 because people were locking in their tax loss. If you have gains in other stocks, you can lower your tax bill by selling your dogs.

Now that we are in 2014, there has been some buying of the Mining stocks and Gold has bounced higher. This raises the question, should we be buying the Gold mining stocks?

My general answer to this question is no, at least not with any enthusiasm yet. The charts for the Mining stocks are still in downward trends, the strength so far this year is a comeback from oversold conditions rather than a sign of strength.

However, the gains made thus far are an encouraging first step. For that reason, I think it is appropriate to own one Gold miner if you are comfortable with being patient with it. A turnaround may be underway but it is very early which makes it less likely that the turn will actually come. If the Miners are bottoming here, you can add more as the chart improves.

With that in mind, I set out to do a Market Scan for Gold mining stocks on the Canadian exchange. I ran the Stockscores Simple Market Scan with a minimum number of trades of 250. The scan found 17 stocks of which a few were Gold miners. Here are two that I think have good long term turnaround charts.

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1. T.LSG
T.LSG has been building rising bottoms, a sign of optimism, for a few months and is now moving through resistance that has held up since last Spring. The stock has been strong for a few weeks so it may pull back in the short term before resuming its upward trend.

2. T.SMF
T.SMF broke its long term downward trend in the late summer and is moving to new 52 week highs. The stock tends to be a leader when the Gold stocks are performing well.

References

• Get the Stockscore on any of over 20,000 North American stocks.
• Background on the theories used by Stockscores.
• Strategies that can help you find new opportunities.
• Scan the market using extensive filter criteria.
• Build a portfolio of stocks and view a slide show of their charts.

See which sectors are leading the market, and their components.

Disclaimer
This is not an investment advisory, and should not be used to make investment decisions. Information in Stockscores Perspectives is often opinionated and should be considered for information purposes only. No stock exchange anywhere has approved or disapproved of the information contained herein. There is no express or implied solicitation to buy or sell securities. The writers and editors of Perspectives may have positions in the stocks discussed above and may trade in the stocks mentioned. Don’t consider buying or selling any stock without conducting your own due diligence.

While stocks were somewhat soft in early trading and bond yields a little lower, comments from Atlanta Fed President Lockhart were not received well (See chart above).

It’s not like he bashed the market, he is actually calling for GDP growth of 2.5%-3.0% (we expect 3.0%) in 2014.

But, his comments effectively gave the green light to the Fed’s $10Bn taper. Lockhart also confirmed the Fed was data dependent and will determine its next move at each meeting. In other words, the Fed taper was not on a predetermined course, a view we have heard before from a number of Fed officials.

Stocks want a more bullish assessment, even as Lockhart said “we are entering this year on a more solid economic footing”; there’s “growing confidence” behind outlook for 2014.

Or markets want comments that suggested the economy and labour market wasn’t that strong which would mean the Fed could delay further tapering. In short, “more stimulus, please!”

So risk markets either want definitive evidence that growth was quickening or evidence that the economy isn’t that good and the Fed will delay its taper.

Anything middle of the road, which was the theme of Lockhart’s comments as his comments were largely in line with market and perhaps Fed consensus thinking, is not sitting well with some investors. And with stocks sliding lower bonds are rallying accordingly.

The opinions expressed in this report are the opinions of the author and readers should not assume they reflect the opinions or recommendations of Richardson GMP Limited or its affiliates. Assumptions, opinions and estimates constitute the author’s judgment as of the date of this material and are subject to change without notice. We do not warrant the completeness or accuracy of this material, and it should not be relied upon as such. Before acting on any recommendation, you should consider whether it is suitable for your particular circumstances and, if necessary, seek professional advice. Past performance is not indicative of future results. 

Richardson GMP Limited, Member Canadian Investor Protection Fund.

Richardson is a trade-mark of James Richardson & Sons, Limited. GMP is a registered trade-mark of GMP Securities L.P. Both used under license by Richardson GMP Limited.

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