Stock

Don’t Be Fooled: Why A New Stock Market High Does Not Guarantee Growth

Published in CityA.M.

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The global recovery does not fully account for the rise in markets, and the growth that would justify these elevated price levels is not guaranteed. (more…)

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Strategic Stock Selection by Gemma Godfrey on CNBC

Follow this link: CNBC Clip for a 3-minute run down of where you should be investing and what to avoid.

Incl: headwinds facing the banks (a “Tale of Two Cities: Goldman Sachs and Credit Suisse); opportunities for firms ‘ready for change’ (Apple versus Nokia) and the inflationary pressure on consumers (Pepsi and Coca-Cola)

Bank Rules: Stability Up, Profitability Down  21 Apr 2011

“I’m a little bit cautious about the sector and it will be interesting to see how (banks) are reacting to the regulation,” Gemma Godfrey, head of research at Credo Capital said of the banking sector. She added there would be more stability with higher capital requirements, but profitability would be reduced, as in the case of Credit Suisse.

“Squawk Box” is the ultimate “pre-market” morning news and talk program, where the biggest names in business and politics bring their most important stories. “Squawk”‘s unique sense of street smarts and wit, mix business news with an unscripted and fast-paced exchange of banter.

CNBC’s signature program in EMEA, Squawk Box Europe, is the pre-game show for the markets. The focus is on stocks and stories that affect the way markets trade.

Squawk Box Europe is lively, timely and irreverent. Every day anchor Geoff Cutmore is joined by a guest host, either a leading business figure or financial market specialist. They provide three hours of must-see commentary and analysis wrapped around the European market open

How to Invest in These Markets

Click HERE to see Gemma Godfrey on CNBC\’s European Closing Bell

Gemma Godfrey, Chairman of the Investment Committee and Head of Research at Credo Capital, and John Authers of the Financial Times on CNBC’s European Closing Bell. Discussing how you should invest your money.

Join Guy Johnson and Louisa Bojesen for a fast-paced, dynamic wrap up to the trading day. “European Closing Bell” gives an in-depth analysis of the day’s market action and includes expert analysis from the major players in the European business and financial world.

With algo’ trading and the weight of passive “on-off” money in the markets, how can judgmentally driven hedge fund managers compete? Radio Clip

“We will never have all the facts to make a perfect judgement, but with the aid of basic experience we must leap bravely into the future” – Russell R McIntyre

Click to listen to a ~1 minute clip of my views from the “N@ked Short Club”, Resonance Fm… The main points are highlighted below.

CONTEXT – A MARKET TREND

  • 1w late May this year ~60% of trades on NYSE were down to high frequency and algorithmic traders
  • Beginning of this month the ISE announced: opening up to algorithmic trading
  • Result – will account for an increasing share of trading volumes on EM exchanges & beyond

ASSESSING THE DISTINCTION – Algo trading vs. judgement driven

  • Humans are responsible for writing the code that identifies anomalies in stock prices
  • Based on assumptions about what a hypothetical efficient market should look like
  • Still at risk of errors – bugs in these systems – Flash Crash – May 6, 2010 when the markets crashed by 573bps in 5mins (a large order by broker via algo program was identified as the probable tipping point) but recovered fairly quickly- CFTC*/SEC says that early sell pressure was absorbed by algorithmic and high frequency traders – evidence of adding significant liquidity – beneficial (*Commodity futures trading commission)

AT RISK OF TRADING RESTRICTIONS? JUST THE REVERSE!

  • The SEC is considering a requirement that high-frequency traders keep buying and selling shares during periods of stress, instead of abandoning the market.

BOTTOM LINE – Judgment driven strategies retain their use.

  • NOT ENOUGH TO MAKE MARKET EFFICIENTstill opportunities / inefficiencies to exploit.
  • TRENDS BREAKDOWN – when do – it’s opportunistic players w uncorrelated returns that save a portfolio.
  • UNCERTAIN TIMES the flexible players willing to adapt to their judgment calls benefit

Hedge Funds – The Root of All Evil?

“We cannot forget how in 1997-98 American hedge funds destroyed the economies of poor countries by manipulating their national currencies.” – Dr. Mahathir Bin Mohamad, (former Prime Minister of Malaysia, during the emerging market crisis).

The Hedge Fund industry has come under major scrutiny in the past few years. Blamed for stock market crashes, manipulating the markets and threatened with a ban on short selling, if a scapegoat was needed, they were ‘shortly’ targeted (!). Chargers of high fees and notoriously opaque – people naturally fear the unknown, and an expensive unknown even more so. Nevertheless, as Richard Wilson pointed out in his blog – back in 2007 the head of the Financial Services Authority (FSA) said that:

hedge funds were not the catalysts or drivers of (that) summer’s events.”

Hedge funds trading in the financial markets can increase liquidity and aid price formation. Jed Emerson wrote a great piece at the end of last year taking he argument away from a debate between “good” and “evil” and instead concluding:

“fundamental fund of hedge fund investment strategies, when managed appropriately, may represent an emerging though as yet not realised opportunity for investors to pursue both full,  commercial  rate  returns  and  affirm  relevant  aspects  of  Sustainable  investment practice.”

Although I question the assertion the fund of hedge funds industry is emerging – since in some cases it seems to be retracting, I agree they offer an opportunity for returns and the claim of affirming sustainable investment practice balances the opposition’s argument.

What seems to be a rarely discussed topic is the value the industry provides the wider economy, outside the financial markets. Below I highlight some impressive information, sourced from a great article by Open Europe….

BOTTOM LINE: Job and tax contributions should not be under-estimated.

Benefits of PE / HF Industry to EU Economy

  • Contributed ~ 9 billion (£7.9 billion) in tax revenues in 2008 – could fund the EU’s overseas aid budget for twelve years, or the regional budget for Poland,
  • Directly employ 40,000 people in the EU – 18,000 of whom are employed in the UK (before taking those involved in real estate funds or dependent on the industry)

Benefits to UK Economy

  • €6.1 / £5.3 billion tax income raised in the UK alone
  • Enough to pay for over 200,000 nurses or 165,000 teachers.
  • Tax revenues generated over 2 years could pay for the entire 2012 London Olympics.
  • If the revenues were lost, would take 20% increase in av. council tax bill to make up

SK

The Case for Equities and How to Invest

“Quality is never an accident, it is always the result of intelligent effort” (Ruskin)

There appears to be at present a major discrepancy between quality and value – which reminds me of the Oscar Wilde quote that “a cynic knows the price of everything but the value of nothing”. As I highlighted in a prior post, What’s Driving the Markets and How Should I Invest?, investors have seemed to push up the price of lower quality companies, leaving an opportunity to invest in companies of higher value with upside potential of reversing its underperformance versus its index. I will now show how despite there being question marks over the value of the wider equity market versus its long-term average, against other asset classes the investment case looks strong – and there’s much cash waiting on the sidelines! Just remember – Quality, Quality, Quality!

Valuations may be unconvincing…

As you can see from the above chart it is arguable that relative to its long-run average, the equity market is fairly priced to slightly over-valued. To explain, using the same great blogger who sources the chart , the avid “Charter” of financial data, Doug Short: “The Q Ratio is a popular method of estimating the fair value of the stock market developed by Nobel Laureate James Tobin. The total price of the market divided by the replacement cost of all its companies. The mean-adjusted chart above indicate that the market remains significantly overvalued by historical standards” — 41% to 52% (depending the version of calculation you choose).

… But risk premium is stretched…

US Cyc-Adj Earnings Yield (Non-Fin) vs. US Real Return on Cash (%). Source: Capital Economics

Despite my point on valuation, the above chart shows how little all the cash sitting on the sidelines is earning their investor and in stark contrast to the earnings yield some equities could be providing instead – a mighty enticing motivation to invest.

… the Case for Equity versus Bonds Strengthens…

Ok, so what about bonds? Surely that would be an equally enticing move? Perhaps better on a risk return basis? Actually no. The superior yield equities can offer versus bonds is well- exemplified in the chart below, from Jesse Felder in his contribution to Seeking Alpha, By One Measure Stocks Are Cheapest in Over Half a Century.

This highlights not only the motivation for a move from cash to equities, but also a switch from government bonds to equities. When discussing earnings yield it is interesting to remember Warren Buffett’s quote that: “earnings can be pliable as putty when a charlatan heads the company reporting them”, lending support to my focus on quality companies which includes the requirement of good management.

I showed in my previous post, How to Play the Bond Markets, how the case for bonds is no longer a “broad-based trade” and investment grade spreads are now 63% narrower than at their 2008/9 peak and now below 2002 levels.

… And it’s Not the Time for High Yield

Moving on to high yield, credit appears to have recovered much more than equities. The below chart (which will be uploaded tomorrow – an exciting insight from Merrill Lynch) shows that the last time high yield (called high grade (HG) in this graph) spreads were near 200 bps, the S&P 500 was between 1,400 and 1,500, vs. only 1,181 currently (20/10/10). (To keep this post short and snappy, I will explore this in more detail later)…

INVESTMENT INSIGHT – How to Invest

As previously expressed, this has been a low quality rally, driven by low quality, high beta names (exemplified in my chart showing US Consumer Discretionary which should be the most affected in a recession driving increases in the wider market) – Therefore active management remains key – sector and stock divergence

This is a ‘stock-pickers’ market. Invest in high quality companies (strong balance sheets, cash flow rich) which have the upside potential to re-rate to their intrinsic value and having underperformed during the periods of market over-exuberance.