Transcript The Storm Before the Calm - New Castle Investment Advisors

The Storm Before the Calm
Market Outlook 2012
New Castle Investment Advisors, LLC
Mark Connolly, Principal
Presented January 24, 2012
2011 Market Review
• Flat Stock Year US—S&P 500 Up 2.11%
• Great Fixed Income US—Barclays Aggregate (Long) Up 29.93%; Municipals
Up 10.7%
• International Down—MSCI World Ex-US (11.78%); Emerging Markets
Down (18.7%)
• US Stocks—Growth Beat Value
• REITS Stand Out—Up 8.5%
• Stand-Out Stocks: McDonalds, IBM, Pfizer, Home Depot
• Laggards: Bank of America, Alcoa, Hewlett-Packard, Cisco
2011 In Perspective
• Lackluster Performance—what happened?
-Global Equities Up 10% by late April.
-Japan tsunami.
-Political Foibles and Blunders—whether to
commit capital not by economic fundamentals
or by parliamentary maneuvers.
-Investors alternate between the domestic
politics of small European countries to US and
back again.
2011 In Perspective
• By Spring on, economists and investors quickly
changed their views on likely economic growth—
consensus US GDP forecast drops from high 0f 3%
in February to 1.5% September.
• Economic Indicators drop in May—Double Dip
Recession Talk.
• China/India Uncertainties; Mid East Turmoil;
Rising Crude; Europe Drags.
• Late summer, high stock market volatility—25%
up-and-down swing; S&P 500 moved up or down
by 1% or more on 96 out of 252 trading days.
Looking Forward: Key Macro Themes
for 2012
• Global Economic Growth will continue to be
positive but uninspiring;
• US Household Deleveraging will continue;
• Employment will improve—on the margin;
• Interest rates will remain low as Fed continues its
focus on high unemployment and housing;
• Political uncertainty will persist in Europe and
U.S. with little prospect for near-term solutions—
whether market is better or worse depends on
Europe;
Looking Forward: Key Macro Themes
for 2012
• Policy mistakes are possible and could be a
wild-card;
• The Euro zone is in recession now;
• US Economy continues to expand. ISM Index
tells compelling story;
• Investors focused on Europe and U.S. debt
problems--not actual world economy;
• China, policymakers focus on keeping
economy growing.
Setting the Stage:
Investor Sentiment--Wary
• “Lost Decade” for U. S. Investors—S&P 500 negative
annual or flat returns 5 out of 12 last years, 42%, vs.
historic norm of 1 out of 4 years, or 25%.;
• Three-decade outperformance of bonds to stocks
(11.5% vs. 10.8%)—first time since Civil War;
• Investors today more wary than last year at this time
and only 42.7% of investment advisors will increase
their clients’ allocation to U.S. stocks.
• Expected U.S. stock returns in 2012—40% say flat to
down; 77% say 8% or less—room to run?
What the Facts are Telling Us
• Corporate America—strong balance sheets. Two trillion
in cash.
• U.S companies the most profitable in 40 years; margins
of non-financial companies in U.S. now at 15%--highest
since 1969. Was at 8.7%, June, 2009.
• Consumer Strength—ratio of house-hold debt service
payments to personal disposable income falling—lower
than most of last decade (now 11%--was 14% in 2007).
• Employment improving—in 2011, the economy added
more jobs since 2006—1.64 million. December, 2011,
nonfarm payrolls added 200,000 jobs and 46,000 were
manufacturing and construction.
What Are the Facts Telling Us
• Business inventories are low—could add more
than .5% to 1% to GDP in 2012; core capital
goods orders now at all-time high. Recovered
twice as fast as last economic recovery;
• Housing—multifamily construction improved 32%
in November. Housing starts up 9.3% in
November;
• Consumer confidence at 64.5% in December. Was
40.9% in October;
• Third straight year of increasing retail sales.
Question: The U.S. Stock Market—
cheap or expensive?
• Answer—cheap.
• Interest rates in major countries near historic
lows. The S&P dividend (E/P) is now much higher
than the yield on the 10-year U.S. Treasury
(7.72% vs. 1.89%). Highest in modern times.
Similar trend in most major countries.
• 2011 S&P 500 P/E is 12.95. Historic average is
15%.
• U.S.corporate revenues strong and earnings
strong despite slower overall economic
conditions.
2012 Market Outlook
• Global economy to expand at rate of 3.5%.
• U.S. GDP will be 2.5%; Euro zone will contract—
(.5% +/-). China, 9%. LOOK AT GDP GLOBALLY.
• Total Return--Stocks lower risk than fixed income.
Bond yields continue to be low but bias is up.
Since 2006, $900 billion has gone into fixed
income and over $400 billion has come out of
stocks--$1.3 trillion spread unprecedented.
• Asset correlations to start decoupling—Riskon/Risk-off.
2012 Market Outlook
•
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Beware extrapolation bias—rear-view driving.
Reversion to the Mean—will this start in 2012?
Sector outperformance—yes.
Overweight health, industrials, information
technology. High-yielding macro stocks still
relatively undervalued. Under-weight consumer
staples, utilities. Watch changing conditions—
election, economy, international developments.
• Favor U.S. Stocks. S&P 500 up 12-15%--maybe
more. Domestic economy not that dependent on
Europe.
2012 Market Outlook
• Global Investing—Neutral on Europe. Already priced in
but uncertain. Emerging Markets—slightly positive.
U.S. better.
• Fixed Income—High Yield debt and medium grade
corporate debt relative outperformers. Treasury yields
could go lower but bias shifting upward.
• Currencies—U.S. save haven as is Japanese Yen but
appreciation potential limited. Volatile. Euro zone
problematic. Emerging markets commodity markets
could have surprises.
• Volatility trend likely. Don’t time market.