Werlinich Asset Management, LLC
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Rye Brook, NY 10573
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January 18, 2011

Current Market Analysis
Last Month's Results
Statistics to Watch
Trends To Watch
Fearless Forecasts
What I'm Thinking and Doing
Personal News and Notes

Current Market Analysis

The market ended the year with an amazingly strong run through the fourth quarter, enabling all of the major averages to finish with double digit gains. That means two straight years with gains of 12% or better for the Dow. Could we have a third? Check out my Fearless Forecasts below for my thoughts. I do think we'll make some more money this year.

As I write this on a cold and wet Tuesday afternoon, the Dow Jones Industrial Average is trading at a new two-year high of 11,850, 3.3% higher than it was five weeks ago. Last month I wrote that there was excessive optimism in the market, which suggested that a correction might be forthcoming, but not before the end of the year. All of that remains true today, so be vigilant.

So let's look at some charts and see if they tell us anything. The daily chart of the Industrial Average right now is very bullish. After breaking above the May high in early November, and returning to the level set before the collapse of Lehman Brothers in October '08, the market experienced a quick 3% correction. Then the market surged to greater highs. Next stop? 12,000 here we come. But mark my words, a correction of between 5-10% is coming.

Like the Industrial average, the Transportation average has broken to new highs, confirming an interim bull signal according to Dow Theory. The index is also trading above both moving averages and the 50-day is higher than the 200-day average. All of this is bullish. The next resistance level come in just below 5,300.

In the past two years, the yield on the 10-year treasury went from 2% to 4%, then almost back to 2% before rising to finish the year around 3.3%. That is a harrowing ride; and not one for the faint of heart. Investors who are long bonds right now are in a very perilous position and poised to lose some money. Over the past few months I suggested that yields would "continue to rise back towards 3%." I think over the next few months, yields will likely test resistance at 4%. 

Last Month's Results

As always, I provide the following chart to show the raw results for the preceding month, the quarter-to-date and the year-to-date, not including dividends. As you can see by the results below, the broad market averages finished the year with a bang, lifting the averages to double digits gains for the year. Small-cap growth was by far the big winner and I must admit, I missed the boat on that one. Not surprisingly, bonds were the only loser in the month (and quarter). I kept saying that stocks would outperform bonds in the second half of the year and that prediction was dead on. For 2011, stocks will trump bonds by a wide margin. Write that down.

Name of Index





S&P 500




Large-cap stocks

Dow Jones Industrial Average




Large-cap stocks

NASDAQ Composite




Large-cap tech stocks

Russell 1000 Growth




Large-cap growth stocks

Russell 1000 Value




Large-cap value stocks

Russell 2000 Growth




Small-cap growth stocks

Russell 2000 Value




Small-cap value stocks





Europe, Australia, Far East

Barclays Aggregate




US government bonds

Barclays High Yield




High-yield corporate bonds

Statistics To Watch

  • According to the Department of Labor, the figure for seasonally-adjusted initial jobless claims for the week ended January 14 was 404,000, an decrease of 37,000 from the prior week's revised figure. The four-week average was down to 411,750, the lowest figure since August 2008. Notwithstanding the gain from the prior week, the general trend in claims had been showing some real, if modest, improvement. Let's see if this trend can continue through the next few months.
  • Non-farm payroll employment increased by a modest 103,000 in December, while another 70,000 were reported as added through upward revisions to October and November. The majority of the private sector jobs came in the leisure and hospitality and health care sectors. Construction lost the most jobs. Average hourly wages for blue collar workers were up to $19.21, and the average work week inched up to 33.6 hours.
  • The total number of workers counted as unemployed fell to 14.5 million (as people simple gave up looking). The unemployment rate dropped to 9.4% (which shows just how useless this number really is). The more comprehensive U-6 rate increased from 16.4% to 16.6%. 6.4 million people continued to be unemployed longer than 27 weeks. The seasonally adjusted number of people who could only find part-time work dropped to 8.9 million and the number of marginally attached workers ticked up to 2.6 million. The number of people holding multiple jobs held at 6.9 million. Overall, the employment picture remains poor and somewhat stagnant.
  • The Congressional Budget Office (CBO) estimated that on a net present value basis, the Treasury reported a federal budget deficit of $80 billion in December, leaving us with a deficit of $370 billion for the first three months of fiscal 2011, which is $18 billion less than the same period a year ago.
  • The Census Bureau reported that the U.S. had a trade deficit in goods and services of $38.3 billion in November, down from $38.4 billion in October. This is the smallest trade gap since January.
  • The Census Bureau reported that privately owned housing starts were dropped 4.3% in December, after rising 3.8% in November, and were down 8.2% from a year ago, to a seasonally adjusted annual rate of 529,000 units. New building permits were up 16.7% from the prior month and down 6.% from last year. Housing remains very weak.
  • The National Association of Homebuilders/Wells Fargo Confidence Index in January remained at 16 for the third consecutive month. At least it isn't going down.
  • The Census Bureau reported that on a seasonally adjusted annualized basis, sales of new homes in November rose 5.5% from the prior month, but remained 21.2% lower than a year ago, to 290,000 units. The estimate of homes for sale was 197,000, which represents 8.2 months at the current rate of sales. The median sales price was a higher $213,000, which is slightly below the 12-month moving average price of $218,442.
  • The National Association of Realtors reported that on a seasonally adjusted annualized basis, sales of existing homes rose 5.6% in November, but remained 27.9% lower than a year ago, to 4.68 million units. The estimate of homes for sale, at 3.71 million represents a declining 9.5 months of supply at the current rate of sales. The median sales price held steady at $170,600, which is slightly lower than the 12-month average of $172,658. The housing market is unlikely to get appreciably better any time soon.
  • The S&P/Case-Shiller Home Price Index (10-city index), which uses a three-month moving average to track the value of home prices across the US, fell again in October, giving further evidence of the trend of falling home prices across the county. While this is a trailing indicator, it does pain a bleak picture.
  • According to RealtyTrac, the number of foreclosures in December decreased 1.8% from the prior month, after plunging 21% in November. There were over 3.8M foreclosure filings on 2.8M properties in the U.S. The number of foreclosure filings is expected to increase again in 2011 once some of the litigation for "robo-signings" and other problems are addressed. This will continue to be a big problem.
  • The Institute for Supply Management (ISM) index of manufacturing activity was 57.0 in December, up fractionally from the prior month. This marked the seventeenth consecutive month of expansion in the  manufacturing sector. The ISM index of non-manufacturing activity was 57.1, also up slightly from the prior month. This marked growth in the service sector for twelve consecutive months.
  • The Federal Reserve reported that in October, capacity utilization in the industrial sector increased to 76.0% from the prior month, which leaves it only 4.6% below the average level of the period from 1972 through 2008. Capacity utilization has slowly but steadily improved over the course of the year.
  • The Conference Board reported that it's index of Leading Economic Indicators increased by 1.1% in November, following increases of 0.4% in October and 0.6% in September. Says Ataman Ozyildirim, economist at The Conference Board: "November�s sharp increase in the LEI, the fifth consecutive gain, is an early sign that the expansion is gaining momentum and spreading. Nearly all components rose in November. Continuing strength in financial indicators is now joined by gains in manufacturing and consumer expectations, but housing remains weak.�
  • According to the Bureau of Economic Analysis, the "third" estimate of GDP growth in the third quarter was a slightly better 2.6%, versus the "second" estimate of 2.5% and the "advance" estimate of 2.0%, and higher than the disappointing 1.7% rate of growth in Q2. GDP growth in Q1 was an artificially inflated 3.7%. The slight increase this quarter was due in part to increased government spending and personal consumption, as well as a build in corporate inventories.
  • The Federal Reserve reported that in November the amount of outstanding consumer credit was largely unchanged from the prior month, holding at about $2.4 trillion. The amount of revolving debt fell steadily throughout the year, while non-revolving portion remained fairly constant. The overall amount of  consumer credit is at its lowest point since the end of 2006.
  • According to the Census Bureau, retail trade and food service sales were 0.6% higher in December, and were 7.9% higher than a year ago. While the past few months have shown some modest improvements in retail sales, I continue to believe that until the employment numbers show some sustained growth, retail sales will continue to lag.
  • The Federal Reserve reported in that in December the supply of M-2 increased slightly from the prior month and was up 5.4% during the prior six months. The supply of M-1, on the other hand, rose a slightly faster 5.9% over the same six months. As I said last month, we need to see if this money will begin to circulate through the economy more quickly in order to stimulate business.
  • The Conference Board Consumer Confidence Index decreased in December from 54.3 to 52.5. This was very disappointing after the nice gains in the prior months and demonstrates the concern felt by consumers in this country. As I've said before, I don't believe that any real progress will be made here until a significant number of new jobs are created.
  • According to the BEA, the personal savings rate in November dipped to 5.3% from 5.4% in October. I would expect the savings rate to continue to trend lower thanks to a rising stock market and historically low interest rates on savings.
  • According to the FDIC, 160 banks failed in 2010, surpassing the prior record of 140 banks that were either closed or merged into healthier banks in 2009. By comparison, 26 failed in 2008 and only 3 failed in 2007. Three more banks have already failed this year, through January 14.

Trends To Watch

If you don't like roller coasters, you should stay away from the dollar index as it is not for the faint of heart. Over the past two years, the dollar has plunged and soared twice. Right now, the dollar index is sitting midway between the high around 88 and the low of 74. And as the dollar goes, so (oftentimes) goes the market, in an inverse relationship. I had expected the dollar to fall to new lows, but that was before the return of problems in the Euro-zone, and the post-election results and subsequent deal extending the "Bush tax credits". Each of these items have helped to bolster the Greenback. In the short term, I'd expect further strength in the dollar before turning back down again sometime later in 2011.

As an investor, I have been riding the golden bull market for eight years now. I have championed the long term benefits from owning gold in virtually every issue of this newsletter. And I see no reason to change my tune now. I would look for some consolidation between $1,300 - $1,400/oz before the yellow metal resumes its inevitable path to even higher prices. Over the past two years, there was a period of about six to seven months where the price traded in a narrow range before bursting higher. We're now three months into the latest consolidation. Don't say I didn't tell you when this thing bursts through $1,500.

While gold gets most of the headlines, silver continues to do equally well, if not better. Indeed, after consolidating around $18/oz for the first two thirds of 2010, the price of silver has exploded to a new high over $30/oz. I was a bit early when I started taking a position in some silver mining stocks a few years ago. I started adding to those positions late in 2008 and that decision is bearing fruit as the price of silver has surged higher. And like gold, I'd expect a few months of consolidation before it resumes its upward march.

After trading in a narrow range for the first half of 2010, the price of copper soared in the second half of the year. The price has broken above a five year resistance level around $400 to a new all time high. Like all commodities, copper is benefiting from a generally weak dollar and strong international demand (read: China). Remember, copper is often thought of as a proxy for economic growth. So this chart is telling us that the prospects for future growth look good. That being said, a pullback is inevitable, so be careful.

The price of West Texas Crude spent a year (Oct '09 - Oct '10) trading basically between $70 - $85 per barrel after recovering from the crash of '08. Then in November it made a solid move to break above that resistance and move to around $90, where it has been trading for the past month or so. In early December I wrote that I expected "the price of crude to go higher between now and the end of the year", and that came to pass. At around $92/barrel, the price of oil is trading at its highest price ever, not including the late 2007 to early 2008 bubble period in which oil got as high at $147/barrel. So where does it go from here? I think we'll see $100 before we see $80 again.

For the second time in nine months, the financial sector has broken above a powerful resistance line. The question is will it fall to hold, as it did last April, or will the sector finally move up? I have been highly bearish on financials since 2008 (a little too late unfortunately) and in not ready to turn bullish yet due to some of the fundamentals. Technically, the 50-day average has moved above the 200-day average and the index is above both. RSI is mildly oversold, suggesting a correction, or at least a consolidation, is due. 

Like the financials, the housing sector has traded in a narrow band for the past year and a half and had one failed breakout. Now it looks like it's going to try again. But to me, the fundamentals in the housing sector are even worse than in the financial sector, so I'm even more bearish. But again, technically, things look good. So we'll just have to wait and see which way this one will go. For me; I'm avoiding the sector.

The European stock market is defying all the headlines about credit problems among many of its member countries. It is now poised to break out of the classic "rising triangle" pattern seen below. This is technically a very bullish picture suggesting strong gains ahead.  

The health of the Chinese economy, and by proxy, it's stock market, is very important to the world's economy as they buy much of the world's output of raw materials and produce most of the goods sold to the world. Given the robust results from the US and Europe, you might think the  Shanghai Composite would also be hitting new highs, but that's clearly not the case. The index is now trading around the middle of the range, and between their narrowing 50- and 200-day moving averages. This is not a pretty picture. If the index falls below support around 2,700, it could fall like a brick to test the next support around 2,320. That would not be good.

This chart is the most frightening one I'm showing you this month. The NYSE Bullish Percent Index represents the percentage of stocks listed on the NYSE that signal a buy. Contrarians would argue that extreme levels of exuberance is a bearish indicator, and vice-versa. There is an over-abundance of optimism in the market right now. That suggests a move to the downside is coming. It doesn't have to be severe, and it doesn't have to last long. But it has to be bad enough to shake out the weak and fearful. Watch out for a correction, or at the very least, a period of consolidation to allow some of the excess exuberance to wear off. This would not be a bad thing as it would allow patient investors to put some money to work at better prices.

Finally we have the VIX, or the "Fear Index". As you can see, there is virtually no fear in the market right now. Like the Bullish index above, too little fear is a bad thing, which suggests sometime soon fear will return in the form of a stock market correction, which is overdue anyway. But who knows when that correction will come, for as John Maynard Keynes once wrote: "markets can remain irrational far longer than you or I can remain solvent."

Fearless Forecasts - Looking Back and Looking Ahead

Each year in the January newsletter I make a number of predictions about the stock market, the domestic economy and maybe a few trends. I also use this opportunity to review the accuracy, or lack thereof, of my Fearless Forecasts from the prior year. Let's see how I did. The forecasts are in black and what really happened is in red.

  1. I'm going to forecast a full year decline on the Dow Jones Industrial Average. I think we'll likely have a solid first half, maybe even be in the red through the third quarter. But I believe we're headed towards trouble in 2011 and I expect the market to begin to discount those future problems. I never get the percentage gains or loss correct, but put me down for a loss of 7%, bringing the Dow to about 9,700. The bad news is that I was dead wrong here. The market was flat to down through the end of August then surged higher for the rest of the year, finishing up about 12%. The good news is that I was holding about 94% equities, so my clients did very well anyway.

  2. I don't think the Fed will have the courage, or the political will, to increase rates this year in any meaningful way. So I'm going to call for Fed Funds to remain at 0.25% for most of the year, and be capped at 0.50%. I nailed this one as rates did remain unchanged. 

  3. It's much tougher to predict the yield on the 10-year Treasury because market forces would suggest higher rates, but the Fed will fight that tooth and nail. I think the yield will trade in a range of 3.50% to 4.50% for the majority of the year. If there is to be a variance, I expect it to be on the upside during the first half of the year. I was pretty good on this one. Rates held around 4% for the first quarter before plunging to 2.2% by the third quarter, then rallied to finish the year around 3.5% 

  4. Ah the dollar; everyone's favorite whipping boy. I think we will see a bit of a rally in the dollar in the first half of the year, perhaps taking the dollar index to as high as 85 or so. Then I think the dollar will continue its inevitable slide. That drop will take it back down to around 70 or so. I nailed the trend here as the dollar rallied from 74 to almost 89 by June before plunging to 75 in early November. Fiscal problems in the Euro zone helped push the dollar index a little higher by year-end. 

  5. I feel a little more confident predicting that oil will resume its upward trajectory. This will, of course, not happen in a straight line. I think the price of West Texas Crude will go no lower than $70, and maybe no lower than $75 per barrel. I'll call $95 as the high, but I wouldn't be surprised if it broke above $100 during the summer. Again, I nailed the trend and was very close on the range. After starting around $83, it briefly touched a low of $67 and finished the year at the high of around $92. 

  6. I think the price of gold will exceed $1,500 per ounce sometime in 2010, probably toward the end of the year. I don't think the price will fall below $1,000 this year. I also think the price of silver will exceed $20 per ounce. This was probably my boldest call, and I wasn't far off, as gold hit a high of around $1,440 per ounce after hitting a low of $1,075 early in the year. We won't see that price again any time soon. My silver call was correct, if conservative, as the price of silver briefly crested $30 per ounce before finishing around $28.25.

  7. I expect the housing market make incremental gains in the first half of the year. The number of units sold will have a modest increase, maybe 5% or so, while prices stay relatively flat as foreclosures and delinquent homes continue to flood the market but the number of homes for sale falls to a sustainable level. Any future gains are dependent on low interest rates. If rates go up, there will be no joy in real estate. Towards the end of the year, unfortunately, I think the entire housing sector will roll over when the next wave of adjustable mortgages come due for refinancing.  This too was pretty spot on. Housing remains stuck in the doldrums and dominated by foreclosures.

  8. I expect high yield debt and emerging markets to trail the broad market averages as these sectors, which led the market in 2009, revert back to the mean. Technology will also struggle this year as large cap value will take the lead this year. I got this one totally wrong. High yield debt, emerging markets and growth all led the broad market averages. 

  9. I think GDP growth for the 4th quarter of 2009 through the 3rd quarter of 2010 will be in the neighborhood of 2.0% to 3.0%, which isn't too bad, but which continues to be artificially inflated by government intervention. GDP for the last two quarters was 2.5% and 1.7%, after an artificially high 3.7% in Q1. Not bad for a layman.

  10. The trade gap will likely remain somewhat flat for the year, or increase slightly as economic conditions appear to improve. Unemployment will hang around 10% for the first part of the year before falling no lower than 9%. The U-6 measure for unemployment, a more accurate gauge of the true unemployment situation, will range from 15% to 17%. The trade deficit started the year at $39B and finished at $38.3B. Sounds flat to me. The unemployment rate began the year at 10%, fell to 9.5% before finishing at 9.4%. The U-6 stayed between 16.5% and 17% for most of the year.   

  11. Finally, the big stories of the year will be the Republicans taking back Congress as the electorate revolts against the incumbents, the end of the health care bill in its current form, and a huge public outcry over tax increases in 2011 for the entire country, not just the "rich". I couldn't have been much more on target here.  

Like the prior year, I think my forecasts were amazingly accurate last year. Not bad for someone with no training in economics; just someone who pays attention to what is happening in the real world.. Or maybe that's the point. Anyway, I can't rest on my laurels. It's a new year, which means a new set of Fearless Forecasts. So without further ado, here we go:

  1. As much as it worries me to say it, I think 2011 will be a good year for the market. It wouldn't surprise me to see double digit gains by the end of the year. What worries me is that bullishness is the consensus view right now. Still, I think the Dow Jones Industrial Average will finish the year around 13,500. It won't be a straight line to get there; indeed, I expect at least two corrections of 5% or better, and maybe one of more than 10% sometime during the year.

  2. I expect the Fed to leave short term rates unchanged for the entire year. And I also believe they will resist the temptation to enact further "quantitative easing" policies as the economy shows tepid signs of life. 

  3. I believe the Fed will continue its efforts to restrain the yield on the 10-year Treasury but it will be to no avail. I think the yield will slowly creep higher until it finally surpasses 4.00%. It may even go as high as 4.50%. The only way I see rates moving lower is if there is a new crisis, probably in Europe, that sets off a "flight to quality", which is still US sovereign debt.

  4. Forecasting the direction of the dollar is tough. Left on its own, the greenback would clearly sink lower. But given that the Euro is in either worse shape, and the yen isn't very appealing, this will be a year of relative performance for currencies. Therefore, I expect the dollar index to trade in range between 75-85 depending on the sentiment of the moment.

  5. Again, I believe that the price of West Texas Crude will creep inexorably higher. I think we'll again see prices north of $100 per barrel as summer approaches. I'll set a high of $105 and a low of $80 per barrel.

  6. The price of gold has moved higher in each of the last 10 years. Can any of your investments say that? I think it will again close higher this year, but I don't expect a big move. My upside target is about $1,600 per ounce while the downside is about $1,250. I think the price of silver could reach $35 per ounce while it's downside is limited to about $25. I think silver will probably outperform gold this year.

  7. I expect the housing market to remain relatively flat this year, as the story remains dominated by low prices and foreclosures. If rates go up in any meaningful way, a flat market would be the best possible result. Watch for more stories on "robo signings", lawsuits, and adjustable rate mortgages coming due for refinancing. 

  8. I think the average rate of GDP growth over the next four quarters will be 2.0% to 3.0%, which isn't horrible, but isn't enough to generate meaningful job growth. I expect better growth in the second half of the year.

  9. Employment, or the lack of it, will be the biggest domestic story of the year. The unemployment will likely top out around 10% to 10.2% before falling, at best, to around 9% by the end of the year. 9.5% might be the best we get. The U-6 measure for unemployment, a more accurate gauge of the true unemployment situation, will likely remain in the 16%-17% range.  

  10. Finally, the big domestic stories of the year will be:  the fight over the health care bill, the inevitable move by President Obama towards the center, the attempts by the Republicans to govern from the majority and to find a credible presidential opponent, the upcoming debate over our tax system and the national and statewide budget deficits. And we can't forget the problems in Europe over their budget problems.

What I'm Thinking and Doing

If you eliminated the "noise" from the market last year, simply step back and see where we ended versus where we began, 2010 was a pretty good year for the market. The broad averages were all solidly profitable, with some indices up double digits. The economy is clearly better than it was a year ago, even if the recovery remains somewhat tenuous. And importantly, some of the uncertainty has been removed from the political landscape; and we all know how the stock market hates uncertainty. As I mentioned in my predictions above, I'm cautiously bullish for 2011, even as I acknowledge the strong likelihood of one or two painful corrections sometime during the year. But it's my job to look past the noise to the bigger picture, and invest accordingly.

Last year turned out to be another excellent year for WAM and its clients. While compliance rules prohibit me from putting my actual performance numbers in print, I'd be happy to discuss them with you on the phone. I will say that I'm very proud of my track record over the past 10 years. I have been saying for some time now that I believed that things were looking better and that I thought the market would move higher. That belief has been rewarded as my clients and I have profited handsomely from this two-year rally. We have especially benefited by the tremendous move in precious metals and commodities (including crude oil, base metals and agricultural products). We have avoided the problems in the financial and housing sectors, among others. And most importantly, we did not panic and sell during the spring sell off or the two summer swoons. Indeed, we had the courage to buy during those pullbacks. We reduced our cash position from $4.3M at the end of February to about $1.6M by year-end and under $1.4M today.

Most recently, I bought a solid position in a junior gold mining company and have started to nibble at a new sector that I'm not prepared to disclose just yet. But I believe this sector has explosive potential over the next decade and beyond.

This is the perfect time of year to review your investment portfolio and your current advisor. With that in mind, I would like to offer anyone a free one hour phone consultation during the month of January. During this consultation I will review the status of any of your investments (taxable, IRA's, 401k, 529, etc.) and discuss with you whether I think changes need to be made. So give me a call.  

Personal News and Notes

The big news is that after eight years, effective immediately I've moved out of my office in Valhalla and into my home office full time. So please make note of my new office address and phone number, listed above. Absolutely nothing in my business will change except that my commute is shorter and my dress code even more casual.

Sometime within the next month I hope to formally launch WAM's fan page on Facebook. I will let all of you know as soon as it's up and running. I hope you will all join me on the page and contribute to the content. In addition, I'm planning a blog which will be integrated between my website and Facebook. I would also urge all Twitter users to follow me there as I tweet content daily about the economy and the stock market.

I'm making a commitment to getting out and about more in 2011. So I'll be attending more industry events, networking functions and meeting with other industry professionals in order to expand my ability to more effectively serve the growing needs of my clients. So if you are in the New York area, and would like to meet, drop me a line and let's get together.

Don't forget that you can friend me on Facebook, connect with me on LinkedIn, or follow me on Twitter. I try to "tweet" the latest market and economic news every day. Following me is a very easy way for you to receive stock market updates in between my newsletters. I've been using these three sites because I'm actively seeking to make new business connections as well as maintain contact with friends old and new. So please look for me out in Cyberspace, and ask your colleagues, friends and family members to do the same.

As always, I thank you, my readers, and remind you that this newsletter is for you. I have been writing to you now for over seven years. I hope some of you have learned something about our economy and our stock market, and that you will continue to follow along with me into the future. If you have any thoughts or suggestions on how to make it better, please let me know. And if you'd like to speak with me about your investment needs, I'd be pleased to be of service. Simply give me a call or drop me an email.

Best regards,

Greg Werlinich

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