Toro's Running of the Bulls Market Blog

S&P 500 Sales Per Share Falling

Even though earnings have been beating estimates, sales per share for the market is still falling from a year ago.

Expectations coming into earning season were very low.  Most of the upside is coming from cost cutting, not from revenue surprises.  This is why the market is acting manic.  At some point, however, sales for the market must begin rising as there is only so much cost cutting corporations can do.

The most recent sales per share for the S&P 500 from Bloomberg is $955.  Applying a 7% net profit margin to that number gets us normalized earnings of just under $67.  The market is trading at 14.3x "normalized" earnings.  The historical long-term profit margin for the market has averaged 6%.  If we use this as our normalized margin, earnings would be just over $57, and the market would be trading at 16.6x.  Neither is cheap given the current environment.

Rising on Light Volume

As stocks rise, volume has been trending lighter. You can see the trends in volume declining from the March lows.

In fact, according to Bloomberg, S&P 500 volume for July is turning out to be one of the lowest volume months this decade.  This follows volume that was far below average in June.

Markets can, of course, rise on lighter volume.  Markets can do anything they want.  However, if volume is the oxygen of the bull, the market may soon be running short of breath.

Stocks No Longer Inexpensive

A couple of months ago, we here at Running of the Bulls were pounding the table on the generational opportunity to buy stocks as equities were trading at multi-decade low valuations.

Since that time, stocks have risen over 40% off the March 6 bottom.

And with the meteoric rise, valuations are no longer attractive. 

I am using $67 as my normalized earnings on the S&P 500 by applying a 7% margin on trailing sales per share of $960.  With the S&P 500 closing at 940 on Friday, the market is trading at 14x trailing normalized earnings.  The historical trailing earnings multiple on the market is 15x.  The median multiple on estimated earnings of the stocks in the Russell 3000 is 13.5x, also slightly below the long-term average.

A normal or average valuation assumes a normal or average economic environment.  Today is not a normal nor an average economic environment.

I believe that economic Armageddon is off the table.  The market was stupidly priced in March.  But we must understand that even though the economy is ticking up slightly, the next several years will not be typical as many issues will continue to weigh on the economy for some time. 

This means that the market will most likely be a traders market for the next few years.  At these levels, given the state of the economy, stocks trading at average multiples in a below average environment is not a good risk/return trade-off, in my opinion.

This does not mean stocks cannot move higher.  Valuations mean little in the near-term.  The near-term is dominated by news flow, expectations, momentum and liquidity.  The market has been rallying because of liquidity and because earnings are coming in above expectations.

However, given that we are in a traders market, rising markets are to be sold and falling markets are to be bought.  I am a seller into this rally.

Invest in France, Have Your Building Blown Up

From the Financial Times.

Workers at a failed French car parts supplier are threatening to blow up their factory unless the company’s two biggest clients – Renault and PSA Peugeot Citroen – stump up extra compensation.

Employees of the engine parts maker New Fabris have rigged up a series of gas canisters inside a factory workshop which they say will be detonated on July 31 if the two carmakers fail to pay €30,000 to each of the 366 workers facing unemployment.

The company, which went into receivership for the second time in two years last month, holds an estimated €2m of stock ordered by the two carmakers, as well as a machine belonging to Renault valued at about €2m.

The threat could [emphasis added] still be an empty one as government officials said there appeared to be some doubt as to whether the gas canisters were full. Nonetheless, the government is taking the threat seriously, fearful that the lastest hold up marks a significant increase in labour tensions that have been present for several months. The fire brigade has been put on stand-by and emergency service reinforcements sent to the area near the factory in Châtellerault in western France, according to a news agency report.

Earlier this year France was hit by a wave of boss-nappings, where workers held factory managers hostage, sometimes for several days, to force better redundancy payoffs or protest at factory closures. Most ended without violent incident. ...

Guy Eyermann, member of the hardline CGT union that appears to be leading the protest, insisted that the battle would not be abandoned. “Are we capable of blowing up the factory? Yes we are,” he told a gathering of about 100 workers yesterday.

Why would anyone invest in a plant in France, or at least in a plant that does not serve the French market?

Dollar Reserves Increase

Despite all the gnashing of teeth regarding the dollar ...

The IMF's authoritative Currency Composition of Official Foreign Exchange Reserves (COFER) report last week indicated that the dollar's share of global reserves (where the allocation is reported) rose to 65%, to stand at its highest since 2007.

Though one would expect diversification by central banks into other currencies simply as prudent portfolio management, the simple fact is that there is no credible alternative to replace the dollar, nor will there be for many, many years. 

So Home Prices Never Fall, Eh?

From the Wall Street Journal

Kendrick Brinson/WSJ

This Atlanta area home, with an original principal amount of $236,000, was bundled for securitization. It was later foreclosed and sold for $30,000.

That is a decline of 87%!

And then there is this interesting snippet from Michael Lewis's article on AIG in Vanity Fair, which I highly recommend for reading.

He simply claimed that the fact was irrelevant: for the bonds to default, U.S. house prices had to fall, and Cassano didn’t believe house prices could ever fall everywhere in the country at once.

Simple assumptions and beliefs, especially when they are taken as "common knowledge," can have massive consequences. 

CFTC May Limit Energy Speculation

I believe that investment funds have had a disproportionate effect on commodities markets over the past five years.  Restrictions on the holdings of commodity futures and swaps by investment funds could have an enormous effect on commodity prices and the stocks of commodity companies as well as resource-based economies if the US government restricts trading in commodity futures.

From Bloomberg

U.S. regulators say they may clamp down on oil and gas price speculators by limiting the holdings of energy futures traders, including index and exchange-traded funds.

The Commodity Futures Trading Commission will hold hearings to explore the need for government-imposed restrictions on speculative trading in oil, gas and other energy markets, Chairman Gary Gensler said today in a statement. The agency didn’t say when the hearings would start or who would be asked to testify. ...

“Our first hearing will focus on whether federal speculative limits should be set by the CFTC to all commodities of finite supply, in particular energy commodities, such as crude oil, heating oil, natural gas, gasoline and other energy products,” Gensler said in the statement. “This will include a careful review of the appropriateness of exemptions from these limits for various types of market participants.” ...

Gensler said in a letter to lawmakers earlier this year that speculators contributed to an asset bubble in commodities in 2008. His statement broke from former CFTC Acting Chairman Walter Lukken, who testified to Congress on Sept. 11 that there wasn’t “strong evidence” index traders were driving up prices. ...

“The CFTC currently sets and ensures adherence to position limits with respect to certain agriculture products,” Gensler said in the statement. “For energy commodities, futures exchanges set position limits and accountability levels to protect against manipulation and congestion. The exchanges are not required to set and enforce position limits to prevent the burdens of excessive speculation.”

The chairman said the CFTC is reviewing exemptions from position limits for “bona fide hedging,” after seeking public comment on whether the exemption should continue to apply to traders who are in the market for financial reasons, rather than those that actually use the commodity.

Gensler also said the agency was going to improve its weekly commitment of traders’ reports by separating swaps dealers from hedge funds. The agency will continue to collect and report data from swaps dealers and index investors, extending a “special call” from last year, Gensler said.

If this goes into effect, one must consider the secondary and tertiary effects that would certainly come into play.  What would happen to the Canadian dollar? How would that effect the US consumer?  Do you still want to speculate in Calgary real estate?  Would funds pull all their commodity investments out and what would happen to base metals prices?  Such a decision could be wide-ranging.

I am short oil.

Manhattan Apartment Prices Drop

The expansive staff here at Running of the Bulls have been of the opinion that if the national residential housing market was not at the bottom, then it is closing in on one.

However, we have been at pains to note that even though the national data may be in the process of bottoming, the regional data bore wide disparities.  Florida and California, for example, were probably at a bottom.  Manhattan, however, was just at the beginning of their descent.

And now, the Manhattan descent has begun.

Manhattan apartment prices dropped for the first time since 2002 in the second quarter as the collapse of Lehman Brothers Holdings Inc. and Bear Stearns Cos. caught up to property owners in the nation’s most expensive urban market.

The median price fell 18.5 percent from a year earlier to $835,700, New York appraiser Miller Samuel Inc. and broker Prudential Douglas Elliman Real Estate said today. The number of sales plunged by half, the most since Miller Samuel began keeping data in 1989.

A significant decline in Manhattan is inevitable, in my humble opinion.  Bad for those living there, good for everyone else. The roadmap for the national/international housing collapse has its end when the last market standing falls. As every student of market history knows, in a severe bear market, the bear mauls everyone. Nobody is spared. 

For the bear market in housing to end, Manhattan apartment prices had to fall.  That is now happening. And unfortunately for those in New York, it still has some ways yet to go.

Correlations at All-Time Highs

According to Bloomberg

Investors are moving in lockstep like never before, driving up stocks, commodities and emerging markets and risking a replay of last year, when they all plunged the most since World War II.

The Standard & Poor’s 500 Index, whose increase in the past three months was the steepest in seven decades, is rallying in tandem with benchmark measures for raw materials, developing-country equities and hedge funds. The so-called correlation coefficient that measures how closely markets rise and fall together has reached the highest levels ever, according to data compiled by Bloomberg.

Oceans of liquidity will do that.