Weekly Commentary & Outlook
McIntyre, Freedman & Flynn
By Tom McIntyre
January 20, 2012
Last week featured continued excellent earnings reports (see our comments below on Caterpillar and Boeing) along with mixed economic news.
As a result the stock market overall was flat to positive. As the charts above illustrate, the Dow Jones Industrial Average dropped by about one-half a percent while the NASDAQ Composite gained just over one percent largely due to a stellar report from Apple.
The Markets & Economy
On Friday, the government told us the economy grew by 2.8% on an annualized basis in the fourth quarter. For the year the growth was just 1.7%, which was less than 2010. The disappointing news does not stop there. Nominal GDP only grew by 3.2% in the fourth quarter. You can read a thousand articles discussing inflation, but if the nominal GDP growth is this slow, you simply cannot have inflation. The price of one good or service rising is simply being offset by the lower price of something else.
You have heard me preach this for years, and the mainstream press will never understand it, but if there was a true widespread inflation problem it would show up in nominal GDP, which is one of the easier macro-economic statistics to measure. So again I urge you to focus on the fact that an underperforming economy is the real culprit to our economic problems, and stop worshiping at the altar of those who simply do not understand the problems we are facing.
The other problem with the 4th quarter GDP report was that it was goosed higher by inventory restocking at a time when real final demand only rose .8% on an annualized basis. This may be setting the stage for a weak start to the New Year. The reason for these disappointing figures is quite simple: The explosion of government transfer payments which has occurred since the Obama administration came into power (see the chart below).
Quite simply, while a social safety network is always needed, when income redistribution is taking place on the scale that it is today (46 million people on food stamps, 15 million unemployed etc…) then it starts to impede the natural risk-taking activities necessary to grow the economy. Warren Buffet should understand that before he continues to make a spectacle of his secretary’s tax rate (without releasing the actual returns) into a plea to increase this trend of redistribution. What a shame he has put his iconic reputation on the line for this sort of purpose. Of course, his company Berkshire Hathaway has benefited enormously from the various bailouts and corporate favoritism that has become the rage recently.
All the news though, is not bad. Inflation, as noted above, has not reappeared as we were warned, and energy prices have stabilized with prices for natural gas actually falling to lows I never thought I would see. We should have an administration that would take advantage of our Country’s natural advantage in this area.
Finally, our weekly look at the leading economic index series from the Economic Cycle Research Institute shows another gain (see chart next page). While the index itself fell last week, the weekly year-over-year number improved to minus 6.5, which was its best reading since September when they forecast a recession. Their forecast is still not an unreasonable one given the very low nominal growth in the United States, and given that Europe is in recession. On the other hand as we have long postured, since the global economy has never really recovered, it really can slow down - but the fall from here (the equivalent of the first floor in an office building) is not very deep.
What to Expect This Week
Earnings reports will continue to roll in, and so far they have been pretty good. This morning there is another summit in Europe concerning Greece. Of course, whenever this group of government officials gathers there is almost no chance of anything of substance being agreed to. It is truly amazing to watch this group try to patch together something which none of them wish had ever been allowed to be created.
Additionally, this Friday will see the employment report for January. The forecast is for a gain of 160.000 non-farm payroll jobs. Of course though, the way people are counted as being in the work force allows this statistic to be manipulated in a way that the GDP data cannot.
Clearly, anyone who takes seriously the government’s report of millions of net news jobs last year when the economy only grew by 1.7% must also believe in the tooth fairy.
Due to my travel schedule, the next update to you will be
one week from tomorrow or Tuesday February 7th.
Caterpillar reported record fourth quarter earnings results last week and raised their earnings guidance for 2012. Earnings per share rose by nearly 60 percent for last year, and came in at $2.32 per share, which was nearly 50 cents higher than consensus estimates. Management stated that they expect profits will rise by 25 percent in 2012 and sales should rise between 13 and 20 percent.
The Company sees unprecedented growth in emerging markets and some signs of a pickup in demand in the United States and Europe. Management stressed on the conference call, that they don’t see a global recession this year and many investors view Caterpillar as a bellwether for global growth. The Company experienced its biggest increase in its sales growth rate since 1947.
We expect the news flow from the Company to remain positive for at least the next two years, which should drive the share price even higher. Even though the stock has been one of the best performing stocks in the S&P 500, we believe the valuation is still rather conservative. We expect management will continue its aggressive acquisition strategy, as many of the Company’s recent acquisitions have paid off handsomely.
Shares of Caterpillar rallied due to the strength of this report, and we look for shares of Caterpillar to be a market leader during this cycle. We believe the Company can earn at least $10 per share this year, which should lead to a $150 share price. There are very few large companies that are seeing the demand for their services that Caterpillar is currently experiencing.
Boeing reported better than expected fourth quarter earnings results as strength in the commercial airplane division more than offset any weakness in defense spending. Excluding one-time items, the Company earned $1.32 per share, which was 32 cents better than consensus estimates. Revenues also came in better than expected at nearly $20 billion. Management also stated that there will be higher pension costs in 2012, but even with those higher costs they still raised earnings guidance for 2012.
Boeing delivered 128 commercial aircrafts this year, which was up from 116 a year ago. Margins on commercial aircraft experienced strong growth during 2011, and we believe this growth is sustainable for the foreseeable future. Most importantly, the Company delivered three of the new 787 Dreamliner and nine of the new 747-8 superjumbo jets.
The Company booked orders for more than 800 commercial airplanes during this year. This pushes the Company backlog to over 3,700 planes worth nearly $300 billion. We are encouraged by this significant growth in the Company’s backlog, and expect the gap between Boeing and its main competitor Airbus to continue to grow in coming years.
Shares of Boeing initially traded down following this release due to the higher pension costs. We believe this is a buying opportunity and expect 2012 to be a very good year for Boeing shareholders. As production of Boeing’s newer planes begin to ramp up in 2012, we believe investors will bid up the shares of the Company. We believe shares of Boeing will reach $100 within the next 12 months.
(c) McIntyre, Freedman & Flynn