Werlinich Asset Management, LLC

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July 14, 2014

Don't Be Afraid Of This Market

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

As I write this, the Dow Jones Industrial Average stands at 16,943, up 168 points, or 1.0%, from when I wrote to you last month. This leaves the #DJIA only 125 points shy of the all time high achieved on July 3rd. The Dow Jones Transportation index and the S&P 500 also recorded new highs on the 3rd. Since then the market has slipped a bit, but nothing to be concerned about. I said last month that "barring a major conflagration between the ruling party and the Sunni insurgents, I expect the market will shrug off this threat, as it has done with all other bumps in the road during this extended bull run." So far, that has proven to be the case. And as I've said before also, the market continues to "climb a wall of worry". As long as investor and guru sentiment remains nervous and gloomy, I believe the market can continue to ascent further. I'll bet on the market action rather than the nattering nabobs of negativity. 

While I do believe that, on balance, the market will continue to move higher, that doesn't mean there won't be days or weeks when it loses ground. In fact, I expect a reversal to happen at some point this summer when bad news of some kind combines with low summer trading volume to provide a quick downward snap. And when that happens I'll be ready to buy because I'm convinced the market will finish the year higher. 

The chart of the #DJIA is just a thing of beauty for the bulls. We clearly see the unbroken upward slope as it hugs the dotted green line in the middle of the trading channel. Volatility has really smoothed out over the past four and a half months, which suggests that there will be a bigger move, up or down, coming up sometime soon. In order to create any concern at all, the price would have to fall below the 50-day moving average. After that, it would have to fall below support around 16,000 (orange line). Until then, it would appear that things are just fine and the chart remains bullish.

The chart of the #DJTA continues to look great. The trading channel has been in place for well over a year, even though I'm showing only the last ten months. The current price remains well above the 50-day moving average and above the mid-point of the trading range. RSI is at a reasonable level and MACD has fallen into negative territory, so there is room to grow here. 

After hitting a new high earlier this month the #DJUA corrected harshly over the first couple days of July but again seems to be recovering. The current price is above both moving averages and comfortably above an interim support level at around 530 (pink line). Historically low interest rates continue to benefit this sector. I have held my core utility positions through all of the ups and downs over the past few years, and I see no reason to change this stance. This sector shouldn't be traded; we own it for stability and income. With yields 50%-100% higher than treasuries, just buy when the sector is beaten down then hold on until something fundamental changes. 

The yield on the 10-year Treasury is falling again to support at 2.45%. That support has held each of the prior four times and I would expect it to do so again. I find it strange that investors would flee equities for the "safety" of bonds because of a fear that higher interest rates in early 2015 will punish stocks. Yet they seem to forget that higher interest rates will punish bonds even worse. That's why I'm out of bonds.

Last Month's Results

June was a another solid month for equity and fixed income investors. And for the second month in a row, growth remained the driving force, as witnessed by the outsized gains in the NASDAQ and Russell 2000 Growth indices. It's interesting to note the divergence now between large and small cap stocks as investors seem to prefer the safety of the bigger companies right now. Fixed income has generated solid returns for the first half of the year, confounding many many observers (including me)..

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

* Return numbers 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 July 5 was 304,000, a decrease of 10,000 from the prior week's revised figure, and 13,000 lower than this time last month. The four-week average of 311,250 is about 4,000 lower than the tally from a month ago. About 2.57 million people continue to collect unemployment insurance, which is 70,000 people less than last month. The good news is that these numbers keep trending lower. 
  • The non-farm payroll employment report in June exceeded expectations as the establishment survey reported that 288,000 jobs were added in the month, while revisions added 29,000 in the prior two months. The household survey reported that the unemployment rate fell to 6.1%, the lowest level since September 2008. The more comprehensive U-6 "underemployment" rate also fell, dropping to 12.1%. 9.5 million workers were still counted as unemployed (three hundred thousand less than last month), and the labor force participation rate held at 62.8% for the third straight month.
  • 3.1 million people were counted as being unemployed longer than 27 weeks, a drop of 300,000. The seasonally adjusted number of people who could only find part-time work rose to 7.5 million and the number of marginally attached workers dipped to 2.0 million. The number of people holding multiple jobs decreased to 7.0 million. The average hourly wages for blue collar workers rose to $20.58 while the average work week held stubbornly at 33.7 hours. For the fifth straight month, more than 200,000 people have found a new job and the unemployment rate is falling. But wage growth is slow, hours worked is stagnant and the labor force participation rate refuses to budge, so the employment picture is better, but still needs improvement.
  • The Congressional Budget Office (CBO) estimated that on a net present value basis, the Treasury reported a federal budget surplus of $70 billion in June, which means that for the first nine months of fiscal 2014 the cumulative deficit is $366 billion, about $144 billion less than the same period in the prior year, thanks to an 8% increase in revenues (mostly taxes). Spending is up 1% thanks to increases in social security and health care programs. 
  • The Census Bureau reported that for the first time in six months the U.S. trade deficit of goods and services decreased in May to $44.4 billion as the growth in exports finally outpaced imports. 
  • The National Association of Homebuilders/Wells Fargo Confidence Index rose 4 points to 49 in June. “After several months of little fluctuation, a four-point up tick in builder sentiment is a welcome sign and shows some renewed confidence in the industry,” said NAHB Chairman Kevin Kelly, a home builder and developer from Wilmington, Del. “However, builders are facing strong headwinds, including the limited availability of labor.” “Consumers are still hesitant, and are waiting for clear signals of full-fledged economic recovery before making a home purchase,” said NAHB Chief Economist David Crowe. “Builders are reacting accordingly, and are moving cautiously in adding inventory. ”
  • The Census Bureau reported that privately owned housing starts fell 6.5% in May, after rising 12.7% in April, to a seasonally adjusted annual rate of 1,001,000 units, which is 9.4% higher than a year ago. New building permits fell 6.4% from the prior month and were 1.9% lower than the year before. This does not portend well for the housing recovery. 
  • The Census Bureau reported that on a seasonally adjusted annualized basis, 504,000 new homes were sold in May, up a whopping 18.6% from a slightly lower revised figure for April, and 16.9% higher than a year ago. The estimate of the number of homes for sale is 189,000, which represents a very slim 4.5 months of inventory at the current rate of sales. The median sales price increased to 282,000, which is above the 12-month moving average price of $269,942. The increase in units is a positive, but the price increase bodes poorly for future unit growth as first time buyers may be priced out of the the market. 
  • The National Association of Realtors reported that on a seasonally adjusted annualized basis, 4.89 million existing homes were sold in May, up 4.9% from March but down 5.0% from a year ago. The estimate of homes for sale grew to 2.28 million, which represents 5.6 months of inventory at the current rate of sales. The average selling price rose for the fifth straight month to $213,400, well above the rising 12-month average of $201,092. Here we had solid unit growth as well as decent price gains., yet the strength is somewhat illusory as we remain below the levels from a year ago.
  • According to the Institute for Supply Management (ISM), economic activity in the manufacturing sector was essential unchanged in June at 55.3, marking overall growth for thirteen straight months. The ISM index of non-manufacturing activity slipped slightly to 56.0, which marked growth in the service sector for 53 consecutive months. These results are solid, if unspectacular.
  • The Conference Board reported that its index of Leading Economic Indicators (LEI) increased 0.5% in May, following a gain of 0.3% in April. "May’s increase in the LEI, the fourth consecutive one, was broad based,” said Ataman Ozyildirim, Economist at The Conference Board. “Housing permits held the index back slightly but the LEI still points to an expanding economy and its pace may even pick up in the second half of the year.”
  • According to the Bureau of Economic Analysis, GDP shrank by 2.9% in Q1 2014, a sickening drop vs. the loss of 1.0% that was reported in the second estimate. This is a plunge from the 2.6% rate of growth earned in Q4 and a far cry from the robust 4.1% logged in Q3. By comparison, GDP growth was 2.6% in Q2, a meager 1.1% in Q1 and an anemic 0.4% in Q4 2012. I'm not going to give much weight to this number, which was clearly impacted by the horrible weather and by companies drawing down their inventory. The important figure will be in Q2.
  • The Federal Reserve reported that in May the amount of total outstanding consumer credit grew at an annualized rate of 7.5%, up to $3.194 trillion. The growth in revolving credit slowed to 2.5% while non-revolving credit grew at an almost double digit rate. Clearly, the consumer continues to borrow in order to spend, whether by choice or necessity.
  • The Conference Board's Consumer Confidence Index, which had increased in May, improved again in June, rising from 82.2 to 85.2. Says Lynn Franco, Director of The Conference Board Consumer Research Center, "Consumer confidence continues to advance and the index is now at its highest level since January 2008 (87.3). June’s increase was driven primarily by improving current conditions, particularly consumers’ assessment of business conditions. Expectations regarding the short-term outlook for the economy and jobs were moderately more favorable, while income expectations were a bit mixed. Still, the momentum going forward remains quite positive."

Trends To Watch

For almost a year the dollar index has traded in a very tight range between 79 and 81.50. The index has repeatedly bounced off those support/resistance levels without breaking through. There doesn't seem to be any imperative to move the dollar significantly in one direction or the other. So for now, until the trend changes, assume more of the same. And this generally lower dollar continues to support higher commodity prices and to benefit US exports. 

Gold continues to have a very good 2014 as the prices moves higher. Indeed, it is now bumping again an interim resistance level around $1,350. As I've said before, I don't believe this is part of a longer term trend towards higher prices. Rather, I expect it's simply a trading opportunity. Based on that idea, I would be a seller right now. 

After eliminating this chart about a year ago, I thought I'd bring back the chart showing the action of the price of copper. Copper prices are often thought to be a key indicator of economic health because so many manufactured goods use copper. If one believes that premise, then the resurgent price of copper over the past few months (with a gain of 14%) is a clear harbinger of better things to come for our economy. 

The price of West Texas Crude didn't quite make it to resistance at $110 before rolling over and falling for over 10 consecutive days to reach interim support (green dotted line) just above $100 per barrel. The current price is just above the 200-day moving average and right on interim resistance and the short-term trend line (solid green line). So this is a key inflection point. If the price falls below $100, it could fall to major support at $92.

Notwithstanding the sell-offs in January and March, the NASDAQ Composite has been a monster over the past year, gaining about 22% since last September. I think this sector has more room to grow so I'm looking to add to my holdings.

The financial sector continues to be a winner. If you don't own a position in this sector, you're missing out. Look for a decline to around 22 as a good place to start buying. 

The index for the housing sector has stabilized in the upper end of its trading range where it remains above both moving averages, although a recent slide has brought it right to the 50-day average. The index was unable to breach resistance early this month but I'm not giving up. I think the housing numbers will continue to improve, and therefore the index will likely move higher. 

As you can see below, the index for the developed international markets remains in an unbroken uptrend, although it appears the index is a bit overbought and could be primed for a small retreat before heading higher. Longer term though, the bullish trend should continue.

My recording is stuck on repeat here as I'll continue to speculate that the Shanghai Index is headed towards a major move. As the wedge gets tighter and tighter, the pressure grows greater and greater. Most technical analysts view this as a bullish pattern because history suggests a greater likelihood of an upside breakout. I'm not suggesting anyone buy this pattern just yet because the pressure still has room to build. I think that in three or four months the pattern will burst and the index will move decisively one way or another, and take the global stock markets with it. All it would take is one month of better than expected GDP growth or PMI data and this market could explode higher as all the bad news seems to be baked in. 

After a two month lull in April and May, investors have grown far more bullish, as you can see in the chart of the NYSE Bullish sentiment index. At a current level of around 72.6 the index is dangerously close to over exuberant levels around 76. RSI is very overbought, suggesting that a correction could be coming up. It won't take much sideways, or downside, action to bring sentiment down a bit, setting the stage for the next rally.

Right now 66% of stocks traded on the New York Stock Exchange are currently trading above their 50-day moving average, which is actually below the figure from last month, which is surprising considering the market is trading at higher levels. Given that, I'd expect to see this figure rise again back towards resistance around 84. 

I'm wondering if the VIX is an important indicator of market sentiment any longer. Historically, these levels of extraordinary investor complacency would suggest major trouble, yet the market no longer seems to care. For now, I'll continue showing it, but it's hard to get excited about these super low levels any longer. 

What I'm Thinking and Doing

If you listened to the doom and gloom prognosticators you are out of the market and very unhappy to be missing the party. The market has simply ignored, or discounted, all of the social, political and economic troubles around the globe and continued to power ever higher, fueled by the easy money policies of the various central banking institutions. If you listened to me and just sat tight, then you're enjoying solid, if unspectacular gains. There was no "sell and May and go away" this year. That old axiom didn't work last year either. Sometimes you simply have to stop reading the papers, turn off CNBC and tune out the noise to hear what the market is telling you. The action of the market is the only "expert" whose voice truly matters. And the market is telling us that, for whatever reason, we must remain invested right now. It really is as simple as that because, in this case, the charts and numbers truly don't lie.

That doesn't mean that the party will go on forever, which it clearly won't. As my Grandfather used to say, "times and conditions change" and you must be willing to change along with them. But for now, I'm not concerned. I continue to believe that the #DJIA will return around 10% this year, which means modest gains in the second half of the year. And if we read the tea leaves correctly, and invest in the out-performing sectors, and ignore the laggards, we can earn even higher returns.

For the second straight month, I have done very little with my portfolios. For the most part, I'm following my own advice and simply sitting still and enjoying the gains. There are few stocks I'd like to buy at current prices so I'm being patient, allowing dividends to pile up, and waiting for better buying opportunities. I still have my eye on a few ideas, and I'll be ready to pounce if and when the price is right. 

News and Notes

There is only one more month until the Masters summer National Swim Championships, being held at the University of Maryland in mid-August, and I'm piling up the yardage. I've got another two or three weeks of intense training before I begin to taper for the meet. I'm hoping that with a little luck I'll produce a few fast swims and earn some Top Ten rankings. Wish me luck. 

Ezra is currently having a blast at camp and Lily is busy rock climbing in Zion National Park and hiking in the Grand Canyon. Nola is home spending time with friends and doing some volunteer work before she and Lily head to Spain for a week later this month. Kathiryn and I have been keeping busy, as we usually do, and are having a great time so far this summer, with even more plans upcoming. 

That's it for this month; there's nothing else to report. As always, I thank you for reading. If you'd like to speak with me about your investment needs, or if you know of someone that might benefit from my guidance, 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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