By John Buckingham
October 8, 2012
As Mark Twain once said, “Facts are stubborn, but statistics are more pliable.” More examples emerged last week in support of that center box quotation from this month’s edition of The Prudent Speculator. Indeed, Friday’s monthly jobs report provided plenty of fodder for both the Obama & Romney election campaigns as the former was able to trumpet the eyebrow-raising dip in the unemployment rate to 7.8% (calculated from a survey of 60,000 individual households) while the latter could point to the less-than-stellar creation of only 114,000 jobs (calculated from a survey of 141,000 businesses) during September.
True, the numbers of those employed for July and August were revised higher to 181,000 and 142,000, respectively, but it is interesting, or something else if one resides in the Republican camp, that the household survey determined that after declining by 119,000 in August, the number of workers finding jobs exploded to 873,000 in September. Historically, the stories that the two labor surveys tell generally sound the same in the fullness of time, but investors didn’t know what to make of the numbers as Friday’s trading started off strong only to fade with the major market averages closing a bit above and below breakeven.
Obviously, the health of the U.S. economy remains a major question mark and the latest read on the nation’s manufacturing sector illustrates the uncertainty. The widely-watched Manufacturing Institute for Supply Management (ISM) Report on Business showed a better-than-expected rebound in the PMI measure to 51.5 in September as compared to 49.6 in August. With a reading of 50 the dividing line, the September tally signifies an expanding manufacturing economy while the August figure denoted a contraction.
Of course, the ISM Manufacturing Report on Business is simply a survey of purchasing and supply executives nationwide and the commentary from the respondents was all over the map. Just take a look at the following statements:
• “Appears that our so-called 'slowdown' was a summer thing. September brings with it increasing requirements and business.” (Paper Products)
• “Sales have tanked over the last two months, bringing a very concerned and stressed management team. Not very optimistic for the near-term future.” (Apparel, Leather & Allied Products)
• “Demand seems to have stabilized from August. New orders are appearing this month without advanced notice from our customers.” (Chemical Products)
• “We are sticking to our manufacturing plan, but have slowed production down considerably. Haven't added any new units to the 2012 plan, and still have no forecast for 2013 released.” (Computer & Electronic Products)
Lots of ways to interpret those statements we suppose, but the ISM folks have this to say about the significance of their report:
“A PMI in excess of 42.6 percent, over a period of time, generally indicates an expansion of the overall economy. Therefore, the September PMI indicates growth for the 40th consecutive month in the overall economy, and indicates a return to growth in the manufacturing sector following three consecutive months of slight contraction. The past relationship between the PMI and the overall economy indicates that the average PMI for January through September (52.1 percent) corresponds to a 3.2 percent increase in real gross domestic product (GDP). In addition, if the PMI for September (51.5 percent) is annualized, it corresponds to a 3 percent increase in real GDP annually.”
Alas, there aren’t too many economists projecting 3% GDP growth any time soon, and other economic stats out last week were mixed, but the economy definitely is continuing to do better than just muddling along, especially when one considers that U.S. auto sales hit a four-plus year high in September. The Mortgage Bankers Association also announced that its index of refinance applications jumped by 20% last week on a sequential basis to the highest level since April 2009. In addition, retail sales growth in September rose a modest 0.8% at 19 retailers tracked by Thomson Reuters, though if two drugstore chains were removed, the same-store sales growth climbed by 3.6%.
Also, the Labor Department reported that in the latest week first-time claims for unemployment benefits inched up by 4,000 to a seasonally-adjusted 367,000, though the four-week moving average held firm at 375,000. Meanwhile, the Commerce Department said that factory orders dropped by 5.2% in August, but if volatile transportation sector orders were stripped out, there would have been a small increase of 0.7%. And the Non-Manufacturing ISM Report on Business rose to 55.1 in September, up from 53.7 in August, representing the highest level of activity in the service sector since March. Finally, and some might say most importantly, despite higher beer prices, the Beer Institute reported that beer shipments rose by 1.9% to 141.4 million barrels in the first eight months of the year after falling for three straight years.
Interestingly, the outplacement company Challenger, Gray & Christmas disclosed last week that while the number of planned layoffs in September rose by 4.9% to 33,816, compared to 32,239 in August, the figure was 71% below the year-ago tally, when expected job cuts jumped to a 29-month high of 115,730. In fact, the latest number was the lowest September total since 1997 when only 20,698 layoffs were announced, while the fact that employers announced only 102,910 job cuts in Q3 was the lowest quarterly total since the second quarter of 2000.
The Challenger data seems to be at odds with the pessimism exhibited in the third quarter survey from the Business Roundtable, an association of chief executive officers of leading U.S. companies with over $6 trillion in annual revenues and more than 14 million employees. Business Roundtable Chairman Jim McNerney said, “CEOs foresee slower overall economic growth for 2012 and have lower expectations for sales, capital expenditures and hiring compared to last quarter. The downshift in quarterly sentiment reflects continuing concern about the strength of the recovery, including uncertainty over the approaching fiscal cliff and accompanying debates about the tax code, sequestration and the debt ceiling.”
The Survey showed that only 58% of respondents believe that their company’s sales will grow over the next six months, down from 65% a year ago and 75% in the second quarter, while only 30% expect to increase U.S. capital spending over the next two quarters. Only 29% said that they will increase employment in the next six months, compared to 36% who were likely to add workers both in the second quarter and in the year-ago period. Average expected GDP growth for 2012 stood at 1.9%, down from a guesstimate of 2.1% in the prior quarter.
Given all of those negative data points, it is little wonder that the CEO Economic Index plunged to 66.0, a big decline from 89.1 in Q2 and the lowest reading for the 10-year-old survey since Q4 2009.
Of course, those that share our contrarian view on these sorts of sentiment gauges are likely to have a smile on their faces, given that measures of 66 or below have been excellent harbingers of subsequent stock market gains. While seven periods is admittedly a very small sample size, the average subsequent one-year return for large-cap stocks as measured by the S&P 500 has been 26.2% when the CEO Economic Index has been less than 66. The gains have been even more dramatic for non-blue-chip stocks as the S&P MidCap 400 has shown an average return of 36.7%!
And corporate executives are not the only ones providing contrarian buy signals these days as the latest American Association of Individual Investors Sentiment Survey found that as of October 3, only 33.9% of respondents were Bullish on stocks for the next six months while 33.2% were Bearish. Those numbers are tilted toward the pessimistic side of the ledger, given that the average figures going back to the 1987 inception of the AAII gauge are 39% Bulls and 30% Bears. Also, the exodus out of U.S. stocks continues by mutual fund investors as domestic equity funds saw a net $5.1 billion withdrawn in the week ended September 26, according to the latest data from the Investment Company Institute, while bond funds saw $8.3 billion of net inflows.
No doubt, a good part of the disinterest in stocks these days has to do with concerns about the strength of corporate earnings. Thomson Reuters reports that analysts are projecting that the upcoming Q3 profit reporting season will see the first drop in year-over-year earnings since the third quarter of 2009. Though the discussion in the previous section would argue that Q3 2009 was a fine time to be buying stocks, despite the bottom line shortfall, we concede that analyst expectations have been coming down. At the end of June, the consensus forecast for Q3 2012 EPS for the S&P 500 was $26.21 compared to $24.94 as of October 4.
And though we would suggest that stocks are still trading for reasonable valuation multiples, especially given the microscopic interest rate environment, as bottom-up operating earnings per share for the S&P 500 are now expected to be $101.50 this year and $115.13 in 2013, we recognize that more than a few companies have issued disappointing outlooks.
This e-mail communication and any attachments may contain confidential information for the use by only the designated recipient(s). This message or any part thereof must not be disclosed, copied, distributed or retained by any person without authorization from the addressee. If you are not the intended recipient, you are hereby notified that you have received this communication in error and that any review, disclosure, dissemination, distribution or copying of it or its contents is prohibited. If you have received this communication in error, please notify me immediately by replying to this message and deleting it from your computer. Thank you.
(c) AFAM Capital