Werlinich Asset Management, LLC

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September 12, 2014

The Market Remains Bullish

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 on a beautiful fall-like morning, a week after I turned 50 years old, the Dow Jones Industrial Average stands at 17,000, up 426 points, or 2.6%, from when I wrote to you last month. The solid gains in the last month leaves the #DJIA only 138 points, or less than 1.0%, from the all time high achieved on July 16th. The Dow Jones Transportation index and the S&P 500 recorded their highs more recently, on September 5th. The fighting in Gaza and the Ukraine have subsided (for now), the Ebola virus seems to be limited to parts of Africa, the Argentinian bond default is behind us, and our domestic economy continues to chug along with just enough vigor to keep the Federal Reserve quiescent. Last month I wrote that "unless some other earth shaking event happens, I believe the market will shrug off all of these issues and start moving higher by the time our kids return to school in September." And that is exactly what has come to pass. Looking ahead, I think we'll probably move a bit higher heading into the mid-term elections in November, after which the next big move will happen.

As we look at the chart of the #DJIA we can see that the index bounced right off the rising support line in early August before heading higher. Importantly, the price never fell below the 200-day moving average. The current price has risen above the 50-day average, but remains just below the record closing price of 17,138.20 set on July 16. That is the next major resistance level. I believe we're more likely to hit a new record in the next month or so than fall to support around 16,500. 

The chart of the #DJTA remains decidedly bullish as the index hit a record high just last week, and is only about 50 points away from that level. The current price is well above both moving averages and RSI is a bit overbought, but not wildly so. Last month I suggested that it was "great place to buy." I hope you took that advice. 

The #DJUA remains very volatile, yet in a clearly bullish mode. The current price is well above the 200-day moving average and slightly higher than the 50-day. RSI is calm while MACD is rolling lower a bit as the price has fallen recently in concert with yields moving higher (see the next chart). I've made two "buy" calls in the last nine months, and I'm pleased with both of them. I'm holding my positions. 

After falling in almost a straight line from 3.0% on January 1 to a low of almost 2.3% by September 1, yields have spiked this month, rising to 2.6% this morning. Is this finally the end of the bull market in bonds, or just a temporary trading move? Only time will tell, but in the big picture, it's really not that big of a move. Last month I wrote that "there is no way I would buy bonds at these levels. Sooner or later, there will be blood in the streets." This may be the first salvo in that forthcoming battle. 

Last Month's Results

After a poor July, stocks generated stellar returns in August, with strong gains across the board. Growth stocks, which suffered the largest losses in July, roared back with the largest gains last month. Still, large-cap stocks continue to far outpace small-caps. And the large divergence remains between the S&P 500 and the Dow Jones Industrial Average, thanks in large part to outsized gains in tech stocks like Apple. Even bonds performed well in the month, as both the Barclays Aggregate and the Barclays High Yield indices gained better than 1% in the month and have earned solid gains for the year.

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 August 2 was 289,000, a decrease of 14,000 from the prior week's revised figure, and well below the figure from this time last month. The four-week average of 293,500 is about 18,000 lower than the tally from a month ago. About 2.52 million people continue to collect unemployment insurance, which is 52,000 people less than last month. The good news is that these numbers keep trending lower. 
  • The non-farm payroll employment report in August substantially underperformed expectations as the establishment survey reported that only 142,000 jobs were added in the month, while revisions subtracted 28,000 in the prior two months. The household survey reported that the unemployment rate dipped to 6.0%. The more comprehensive U-6 "underemployment" rate also fell, coming in at 12.0%. 9.6 million workers were still counted as unemployed (one hundred thousand less than last month). The labor force participation rate fell slightly to 62.8%. 
  • 3.0 million people were counted as being unemployed longer than 27 weeks, a nice decrease. The seasonally adjusted number of people who could only find part-time work dropped to 7.3 million and the number of marginally attached workers fell to 2.1 million. The number of people holding multiple jobs rose to 6.82 million. The average hourly wages for blue collar workers rose to $20.68 while the average work week held stubbornly at 33.7 hours for the sixth straight month. Overall, this labor report will not encourage the Fed to change their interest policy any time soon.
  • The Congressional Budget Office (CBO) estimated that on a net present value basis, the Treasury reported a federal budget deficit of $129 billion in August, which means that for the first eleven months of fiscal 2014 the cumulative deficit is $589 billion, about $166 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 full year deficit is expected to be around $500 billion.
  • The Census Bureau reported that the U.S. trade deficit of goods and services decreased slightly in July to $40.5 billion as the growth in exports continued to out pace imports. 
  • The National Association of Homebuilders/Wells Fargo Confidence Index rose for the third straight month in August, reaching 55, the highest level since January. Any reading over 50 indicates more builders view sales conditions as good than poor. “As the employment picture brightens, builders are seeing a noticeable increase in the number of serious buyers entering the market,” said NAHB Chairman Kevin Kelly, a home builder and developer from Wilmington, Del. "However, builders still face a number of challenges, including tight credit conditions for borrowers and shortages of finished lots and labor."
  • The Census Bureau reported that privately owned housing starts jumped 15.7% in July, after falling for two consecutive months, to a seasonally adjusted annual rate of 1,093,000 units, the highest level of the year, and 21.7% better than a year ago. New building permits rose 8.1% from the prior month and remained 7.7% higher than the year before. These are decent figures but one month does not a trend make.
  • The Census Bureau reported that on a seasonally adjusted annualized basis, a disappointing 412,000 new homes were sold in July, down 2.4% from the June total, but 12.3% higher than a year ago. The estimate of the number of homes for sale is 205,000, which represents a widened 6.0 months of inventory at the current rate of sales. The median sales price fell to 269,800, which has fallen below the 12-month moving average price of $272,792. This was not particularly good news.
  • The National Association of Realtors reported that on a seasonally adjusted annualized basis, 5.15 million existing homes were sold in July, up 2.4% from June but down 4.3% from a year ago. The estimate of homes for sale inched up to 2.37 million, which represents only 5.5 months of inventory at the current rate of sales. The average selling price rose for the seventh straight month to $222,900, well above the rising 12-month average of $202,517. The gains in existing home sales contradict the shrinking number of new home sales and housing starts. I'm not sure what to make of that.
  • According to the Institute for Supply Management (ISM), economic activity in the manufacturing sector grew in August to 59, marking overall growth for fifteen straight months. The ISM index of non- manufacturing activity increased to 59.6, which marked growth in the service sector for 55 consecutive months. These results demonstrate continued growth in the economy. 
  • The Conference Board reported that its index of Leading Economic Indicators (LEI) increased 0.9% in July, following a gain of 0.6% (revised) in June. "The LEI improved sharply in July, suggesting that the economy is gaining traction and growth should continue at a strong pace for the remainder of the year,” said Ataman Ozyildirim, Economist at The Conference Board. “Although housing has been one of the weakest components this year, the sharp gain in building permits helped boost the LEI in July. Financial markets and labor market conditions have also supported recent gains, but business spending indicators remain soft and their contribution marginal.”
  • According to the Bureau of Economic Analysis, GDP increased at an annual rate of 4.2% in Q2 2014 according to the "second" estimate, up from the advance estimate of 4.0%. That is far better than the anemic decline of 2.1% in Q1. By comparison, GDP growth was 2.6% in Q4 2013, 4.1% in Q3 and 2.6% in Q2. Overall, this is a very solid, but not sustainable number. Growth will likely return to the 2% to 3% range for the next quarter or two. 
  • The Federal Reserve reported that in July the amount of total outstanding consumer credit grew at an annualized rate of 9.75%, up to $3.237 trillion. Month after month, the amount of outstanding consumer credit continues to grow and is now at the highest level since I started tracking this in 2004.
  • The Conference Board's Consumer Confidence Index, which had increased in July, improved again in August, rising from 90.3 (revised) to 92.4. Says Lynn Franco, Director of The Conference Board Consumer Research Center, "Consumer confidence increased for the fourth consecutive month as improving business conditions and robust job growth helped boost consumers' spirits. Looking ahead, consumers were marginally less optimistic about the short-term outlook compared to July, primarily due to concerns about their earnings. Overall, however, they remain quite positive about the short-term outlooks for the economy and labor market.."

Trends To Watch

After trading in a very tight range for almost a year, the dollar index has recently broken through resistance at 81.50. It's now trading right around that key number, looking for it's next level. This strength, which is really more about weakness in the Euro, is having a deleterious effect on commodity prices like gold, copper and oil. It wouldn't surprise me to see a further power in the Greenback before leveling off. 

The price of gold dropped below one interim support level at $1,275 and continued right to the next one at around $1,240. Should it fall further it could fall to major support at around $1,200. Below that, who knows how far it could fall. This is not a good looking chart. 

As I've mentioned before, the price of copper is often thought to be a key indicator of economic health because it is a key component of so many manufactured goods. It is also simply a commodity, priced in dollars, and as such, it's price is suffering right now as the dollar gains in value. I attribute the current price weakness more to the dollar than to any commentary on the economy. 

The following chart is bad. The price of West Texas crude has plunged almost 15% in the past three months since peaking just under $108 in June. In doing so, it crashed through interim resistance around $100 before bouncing off major support around $92. You'd have to go back to April '13, when the price fell to $85.90, for a lower price level. Part of this weakness can be attributed to sanctions against Russia, part is thanks to the dollar, and the rest can be ascribed to a glut of oil, thanks to fracking. Looking ahead, I think there could be some more short-term weakness, but I do believe we'll see prices move higher before the end of the year. This could be a great buying opportunity. 

The NASDAQ Composite continues to shine, as the tech-laden index powers higher. The #NASDAQ is now only about 460 points, or 9% below the all-time high set on March 10, 2000, over fourteen and a half years ago. While I don't expect the index to reach a record level this year, I do believe that it will do so in 2015.

The financial sector continues to be a winner as it traces a well defined trading pattern that is moving ever higher. Last month, thanks to some short-term weakness, I called for my readers to buy. So far, so good. 

The index for the housing sector look a little better this month as it has moved back above interim support. The current price is right around both moving averages. RSI and MACD are both at their midpoints. So there's really no discernible trend right now. But overall, I'd say things are mildly positive. 

It seems that the decline in the index for the developed international markets has stopped, thanks to a virtual cessation of hostilities (at least for now) in the Ukraine. As tensions have abated a bit, trading in the index has improved. Let's watch over the next month or so to see if the price holds in the pattern I've traced below.

After breaking out of the wedge pattern last month, the price of the Shanghai Index continued to move higher recently, perhaps preparing for the IPO of Alibaba? Whatever the reason, this surge is good for world stock markets as it suggests as resurgence in China. Now it just needs to continue. 

Last month I told you that bad news was good news as the NYSE Bullish sentiment index had dropped about 17% over the prior six weeks. In doing so, it had fallen below support around 63. This resulted in RSI being severely oversold. As a result, I said "now it's time to buy." That proved to be a timely call as the market has rallied nicely since then. As by the look of the chart, there's more upside to come. 

As with the bullish sentiment indicator above, last month I told you "it's time to buy" based on the percentage of stocks on the New York Stock Exchange that were currently trading above their 50-day moving average. So our contrary indicators were two for two. 

Finally, after surging briefly, the VIX has resumed trading right in the middle of the "new normal" zone. As with the prior two indicators, I called a buy last month based on the increased volatility and that call was well timed.   

What I'm Thinking and Doing

As I finish writing this letter on a beautiful Friday morning I'm thinking that the market is reasonably healthy, and in general, it's neither a buy nor a sell. Between the end of July and the end of August I added about $400,000 in cash by allowing dividends to build and selling a few laggards. Earlier this week I sold another under-performing holding. As the third quarter comes to a close in about two weeks I am very pleased with the performance of our portfolios and how they are positioned for the fourth quarter and beyond. That doesn't mean I'll sit still. I'll continue to build some of our smaller positions, add money to our core sectors and reduce our exposure to weaker ones. But I don't anticipate any significant changes between now and the end of the year. 

In January I predicted that the #DJIA would finish the year up 12% and that, thanks to it's greater tech exposure, the #S&P500 would end up 14%. As we sit here today, the latter is right on target while the former has some work to do. Either way, if we split the difference and say "the market" will be up around 13% at year's end, I'll take it. So write me down for a 3% or 4% gain in the fourth quarter. I also believe that rates will likely trade between 2.4% and 2.8% between now and New Years Eve. 

News and Notes

In case you're wondering, I earned a 2nd, four 4ths and a 6th at the Masters Long Course National Swim Championships in the 50-54 age group a few weeks ago. Since then, I enjoyed three full weeks out of the water to rest and recuperate. I just returned to training (lightly) this week as I gear up for a new season. No rest for the weary, or waterlogged. 

My fiancé and I finally hit the Big 5-0 and we're celebrating tomorrow. The weather may not be ideal, but it should be a great party. 

That's it for this month. Enjoy the warm days and cool evenings over the next few weeks as we wind down summer and head to October. The Farmer's Almanac says we've got a wet Autumn to look forward to. 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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