Werlinich Asset Management, LLC

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April 11, 2016

Patience Was Rewarded

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

Current Market Analysis

The first quarter provided a wild, and frightening, ride for investors. After peaking on November 3 at 17,918, the Dow Jones Industrial Average fell a maddening 12.6% before bottoming at 15,660 on February 11. From that nadir, the market has rallied 12.2%, bringing the #DJIA within shouting distance of the November high at 17,576. Other broad averages had similar results, but the value-oriented averages outperformed their more aggressive brethren.

In my January newsletter, in the midst of the decline I wrote that "I think that the majority of this sell off can be attributed to the losses in China rather than anything specific about our domestic economy or stock market. Therefore, I think that this too shall pass." And one month later, it did. Now I think the market is at an interesting inflection point; it could either move higher and attempt to surpass the November high or it could roll over and head back towards the lows. My best guess is that we'll see the averages move a little higher over the next month or two and finish the year high than it started. Now let's see what the charts tell us. 

Looking at the chart of the #DJIA you can see that twice this year the key support level just below 15,750 was tested and held. The same level was tested and held last year. After the two major declines the average rose to at, or around, 18,000. That has become a key resistance level, and surpassing it will have to be the necessary first step should the market attempt to achieve new highs. Notice too that the 50-day moving average is moving close to a Golden Cross, where the 50-day moving average moves above the 200-day average. Overall, this chart looks constructive. 

From its peak on December 29, 2014 at 9,217, the Dow Jones Transportation Average fell an astounding 28.1% before hitting rock bottom on January 20 of this year at 6,625. As of the close on Friday, the #DJTA index has gained 16.8% since then. If the troubles in the transportation Index presaged the troubles that would eventually envelope the rest of the stock market, then their gains should suggest that things aren't so bad after all. Indeed, in January I wrote that "we must all pay more attention to the transports. When this begins to move higher, I think that will signal a real turnaround." It would seem that's exactly what happened. Hopefully the move lower over the past few weeks isn't signaling more nascent trouble. I hope support holds around 7,500. 

The Dow Jones Utility Average spent most of 2015 churning in a range between 610 and 540. Then, as the calendar turned to a new year, the index exploded through interim resistance at 610, and even blasted through major resistance around 655 to establish a new all-time high for the conservative, widows and orphans investment index. In a world of low- or no-yield bond returns, utilities suddenly look very appealing. That being said, should the Fed raise rates again in June, it could take some of the shine off this rose. 

The yield on the 10-year treasury bond remained between 2.0% and 2.5% for most of 2015. Then, in a surprise to most observers, including me, the yield plunged twice to test the floor at 1.65%. It's hard to believe that this low rate is sustainable, but for bond bulls, it's been a good year so far. 

Last Month's Results

The first half of the first quarter was a nightmare, with a market decline of around 10%. A furious rally followed in the second half, raising the market by around 13%, allowing the major indices to finish the quarter in the black. Interestingly, even in the face of the rally, value outpaced growth in the quarter. Technology performing particularly poorly, as evidenced by the negative returns of the Nasdaq Composite and the Russell 200 growth index. In the face of those results, it should come as no surprise that one of the best performing asset classes was government bonds! In a world of zero, or negative, interest rates, I guess 1.8% looks appealing.

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

* Returns include the reinvestment of dividends

Statistics To Watch

  • According to the Department of Labor, the figure for seasonally-adjusted initial jobless claims for the week ended April 7 was 267,000, 10,000 less than the prior week, and about 14,000 more than the prior month's figure. The four-week average of 276,750 was 9,000 lower than the tally from a month ago. The tally of jobless claims continues to hold relatively stable for the past year. About 2.19 million people continue to collect unemployment insurance, about 330,000 less than last in early January.
  • After much better than expected figures in February, the non-farm payroll employment report in March hued much closer to expectations as 215,000 jobs were gained in the month, with almost no revisions to the prior months. The household survey reported that the unemployment rate ticked back up to 5.0% after two months at 4.9%. The big news is that the labor force participation rate moved higher for four months in a row, and is now at 63.0, the highest level in two years. Average hourly wages for blue collar workers inched up to a new high of $21.37 while the average work week again remained at 33.6 hours.
  • 8.0 million workers were being counted as unemployed, a slight up tick, and 2.2 million people remained unemployed longer than 27 weeks. The seasonally adjusted number of people who could only find part-time work fell to 6.1 million while the number of marginally attached workers dipped to 1.7 million. The number of people holding multiple jobs was to 7.59 million. All of this conspired to leave the comprehensive U-6 "underemployment" rate at 9.8%. One cannot argue that more and more people are getting jobs and the more people are again looking for work.
  • The Congressional Budget Office (CBO) estimated that on a net present value basis, the Treasury reported a budget deficit of $104 billion in March, about $51 billion more than the deficit recorded in the same period last year. This leaves the six month deficit at $460 billion, $18 billion more than last year.
  • The Census Bureau reported that privately owned housing starts were 5.2% higher in February, recovering from drops in December and January, rising to an adjusted annual rate of 1,178,000 units, which was 30.9% higher than a year ago. New building permits fell 3.1% from the prior month but were 6.3% higher than the year before. This future for new home sales remains sanguine.
  • The Census Bureau reported that on a seasonally adjusted annualized basis 512,000 new homes were sold in February, up 2.0% from January, but down 6.1% from a year ago. The estimate of the number of homes for sale was 240,000, representing 5.6 months of inventory at the current rate of sales. The median sales price was $301,400, up almost $17,000 from last month, leaving it just slightly above the 12-month moving average price of $297,042. These are solid, if unspectacular, numbers/
  • The National Association of Realtors reported that just over 5 million existing homes were sold in February, down 7.1% from January, but up 2.2% from a year ago. The estimate of the number of homes for sale was 1.89 million, representing a very slim 4.4 months of inventory at the current rate of sales. The median price was $210,800, down slightly from the prior month, leaving it well below the 12-month moving average price of $221,992. We'll see if the upcoming warmer weather spurs sales growth.
  • According to the Institute for Supply Management (ISM), economic activity in the manufacturing sector expanded in March for the first time in six months, rising to 51.8. The ISM index of non-manufacturing activity was 54.5, which signaled growth in the service sector for 72 consecutive months. None of this contradicts the belief that the economy continues to be growing, but sluggishly.
  • The Conference Board reported that its index of Leading Economic Indicators (LEI) increased 0.1% in February, following a decrease of 0.2% in January. "The U.S. LEI increased slightly in February, after back-to-back monthly declines, but housing permits, stock prices, consumer expectations, and new orders remain sources of weakness," said Ataman Ozyildirim, Director of Business Cycles and Growth Research at The Conference Board. "Although the LEI’s six-month growth rate has moderated considerably in recent months, the outlook remains positive with little chance of a downturn in the near-term."
  • According to the "third" estimate by the Bureau of Economic Analysis, GDP increased at an annual rate of only 1.4% in Q4 2015, up from the first and second estimates, but still lower than the 2.0% recorded in Q3 and down sharply from the 3.9% rate reported in Q2. This anemic result exceeded only the decrease of 0.2% recorded in Q1. It did though closely mirror the the 2.2% increase in Q4 2014. This is not robust growth by any measure, and it will weigh heavily on whether or not the Fed will increase their lending rate at their next meeting.
  • According to the BLS, the seasonally adjusted Consumer Price Index for all Urban Consumers (CPI-U) decline 0.2% in February after being unchanged in January. Decline energy prices continue to hold back growth in the all items index. This further demonstrates a complete lack of inflation in the economy.
  • The Conference Board's Consumer Confidence Index increased to 96.2 in March from 94.0. "Consumer confidence increased in March, after declining in February," said Lynn Franco, Director of Economic Indicators at The Conference Board. "Consumers’ assessment of current conditions posted a moderate decline, while expectations regarding the short-term turned more favorable as last month’s turmoil in the financial markets appears to have abated. On balance, consumers do not foresee the economy gaining any significant momentum in the near-term, nor do they see it worsening." That is almost the definition of "muddle-through".

Trends To Watch

This is probably the most important chart I'm showing this month, and it is likely the largest factor behind the surge in the stock market so far this year. After surging last year to a multi-year high, peaking right at the end of the year, the dollar index has plunged about 6% this year and now sits just above a major support level that has held five times over the past year.All things being equal, a weaker dollar means higher commodity prices (like gold and oil) and greater profits for multi-national corporations with major overseas sales operations. I think the weaker greenback is a reaction to the Fed backpedaling from its earlier prediction of four interest rate increases this year. It's now more likely that the Fed will limit the number of increases to no more than two, or  possibly only one. 

The decline in the price of West Texas Crude over the past couple of years has been a catastrophe for energy investors and for people working in, or serving, the oil industry. And while the pain is certainly not over, it's possible that the bottom was made in February. Since hitting bottom at around $26 per barrel, the price of West Texas Crude has rallied about 35% to its current price at around $40. In January I wrote that "we could quickly see prices under $30." Within two weeks that prediction came to pass. My crystal ball is a little cloudy right now, but I think we'll break above $50 before we fall below $30 again. 

Well, I was wrong about the strength of the latest rally in the price of gold. I wrote in January that I didn't think "the gains will be ultimately sustainable. As a result, I still wouldn't be a buyer. Until the price can break, and remain, above the falling red trend line, I don't think we'll see joy for gold gold investors." Well, the price subsequently blew right through resistance at $1,140 and attacked major resistance just above $1,300 before faltering. Since peaking in mid-March, the price of the yellow metal has consolidated a bit, waiting for the next big move one way or another. Personally, I think we can expect a greater retracement. 

It only took about one week in January to wipe out all the gains earned in 2015. Further losses in the subsequent month took the losses in the tech index right to the edge of a bear market with losses of almost 19%. Again, what I wrote in January would prove prescient: "I wouldn't despair; look for the index to rebound fairly quickly as I don't think investors are ready to dump growth stocks just yet. It would help matters if Apple would regain some of its lost luster." Done and done. Looking ahead, I would expect the gains to extend as the index tests its highest levels around 5,200. 

The financial sector suffered along with the rest of the market in the first six weeks, and has recovered some, but not all, of its losses. Banks continue to struggle with loan problems relating to the energy sector and with the abnormally low interest rate environment. That being said, I continue to like the sector and own some of the leading players. In fact, this would probably be a good time to be a buyer for patient, long-term investors. 

After a brutal two months, during which it fell into bear market territory as it plunged about 25%, the housing index has quickly gained about 25%, thereby recovering most of it's losses. It's interesting to note that nothing fundamental changed during these four months except perception and sentiment about Fed rate hikes. The more quiescent the Fed, the better it is for the housing market. 

The index for developed international markets fell below support around 56 in January, and stayed there for two months, before showing signs of life in March. Still, the index remains sickly. In January I said that "I find little reason to invest in the developed foreign world as there just is little to no growth to be had." I stand by that sentiment and continue to advise that investors put the bulk of their funds to work in the U.S. 

Bad, bad, bad. Stay away. 'Nuff said. 

The NYSE Bullish sentiment index did indeed pierce support at 30 during January and February as sentiment turned decidedly bearish in the first six weeks of the year. That left RSI clearly oversold and primed for the rally that followed. Now, sentiment is much more exuberant and RSI is too overbought, so I'd expect a period of consolidation to follow before the rally can resume. 

The price of the volatility index, the VIX, has left the "fear" zone above 25 and returned to the low end of the normal volatility range. This doesn't suggest anything untoward in our immediate future.

What I'm Thinking and Doing

Please forgive me for being a broken record and repeating this paragraph from my last newsletter. I just believe in, and want to reinforce, the message. "So if 2016 is likely to result in modest gains or losses, what is the best game plan? I believe it would be to own a diversified basket of blue-chip, dividend paying companies with a reasonable allocation of growth among industry leading companies in today's leading sectors. Some of you may also want to own bonds which is fine, although I still don't like bonds at these yields as I believe the downside outweighs the upside. I still believe today, as I did almost twenty years ago, that being a patient investor, and taking a longer-term view (3-5 years is appropriate) is the best way to create, build and protect your wealth. It sounds trite, but the name of the game is still to buy low and sell high. If you can consistently do that over 20, 30, 40 or 50 years, you'll be just fine."

In January I bucked the conventional wisdom when I posited that the Fed would hike rates a maximum of two times, not four as everyone expected at the time. I felt that the economy was simply not strong enough, nor was it growing fast enough, to justify the danger of more rate increases. That doesn't even take into account what those rate hikes could do to a very fragile world economy. So I'm looking for one increase in each half of the year, beginning in June. Done properly, and with enough warning, the market should absorb the increases and allow for modest year-end gains. 

As for the circus, I mean the presidential primaries, we'll gathering steam and heading towards uncertain conventions. Bernie continues to show surprising strength and deny Hillary the easy path to the nomination that everyone expected. The question then becomes will this tougher nomination process help or hurt her in the general election? As for the Republicans, it appears that the backlash against the bellicose and bullying Trump has finally begun. The problem is that moderates who don't want Jesus in the White House, but do want someone with a chance to actually work with Congress, the only alternative to Cruz is the somewhat bland, if certainly capable Kasich. That means the only hope for a centrist-leaning voter would be a floor fight at the convention. If nothing else, it should be good theater.

I told you in January that I took advantage of the week long rout by spending about $250,000 in accumulated cash rounding up existing positions in a few portfolios. For a few weeks I thought I made a big mistake as the market continued to fall, but as all of these investments were made looking out years into the future I felt that those purchases would produce solid gains within the next year or so. Three months later, I'm feeling very good as each of those trades have become solidly profitable. For the most part though, I have simply watched the action, sitting patiently on the sidelines, allowing dividends to accrue and watching the portfolios return to profitability.

Last week I pulled the trigger on a few trades. I sold about $1.25 million worth of stock, eliminating four positions and reducing a fifth. I decided to take advantage of the strong rally to sell some weak holdings that were moving higher. Of course I could be giving up some modest gains ahead should the overall market continue higher, but I felt that there were better options out there for the money. And during the next decline I'll put these funds to work. I like having some cash with which to work. And remember, the idea is to buy low and sell high. 

News and Notes

I hope you have been reading my Twitter feed and blog posts in the interim since my last newsletter. If you haven't done that yet, take a moment to do so as it will keep you up to date on all of my musings. 

Things on the home front are good. The kids all see the light at the end of the tunnel for this school year. Nola is about to wrap up her junior year at Wesleyan. Lily is looking forward to becoming a high school graduate and will spend the next few weeks decided what college she'll attend in the fall. And Ezra is looking to finish 10th grade with a flourish. They are all looking forward to busy, and hopefully fun, summers. 

Kathiryn and I are both well, but fed up with this cold and damp spring. She is putting more dates on the calendar with her rock/blues band Avalon Rose. My readers in and around Westchester County should try to attend an upcoming gig. They've added a keyboard player to the band so the sound should just get better and better. We're also seeing An American In Paris tomorrow and watching Southside Johnny on Friday before heading out of town for a bit to chase the sun.

Don't forget to send in your taxes, along with your estimated payments, if any, by the end of the week. And to all the CPA's out there, congrats on surviving another tax season!

So that's it for now. I look forward to communicating with all of you via twitter, my blog and this newsletter throughout the rest of the year. And let's hope the warm weather shows up sooner rather than later. 

Best regards,

Greg Werlinich

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