Author: CJ Brott, Capital Ideas
Covestor models: Macro Plus Income, ETF Only
Disclosure: Long CASC, PER
In our August report we continued to emphasize our belief in a slow growth economy. Based on expectations of continued high unemployment and uncertainty over government fiscal policy we continue to hold that outlook.
On the positive side, we still think corporate earnings will surprise investors to the upside. And we still believe the possibility of a decent year-end rally exists. That expectation is based not just on better than expected earnings but also on the current technical conditions in the market.
Technically, we note the current extremely pessimistic investor sentiment readings. This, combined with recent market price action, leads to an interesting conclusion. While most investors are very negative and many have sold out their holdings, the markets are refusing to go lower in early September. In fact, the S&P 500 has set a series of higher lows and higher highs in the latest month. When markets refuse to respond to negative news with continually falling prices, that is sometimes a sign of bottoming action. If in fact a large body of investors are out stocks and in cash, that cash will become the source of funds for any year-end rally that might develop.
The “fly in the ointment” will continue to be Europe. As that situation develops it may well become the “wall of worry” that US markets would need to climb.
Why do we specify the “wall of worry” as applying to domestic markets? We are doing so on valuation. Although on August 31st the S&P 500 had fallen approximately 4% year to date (Google Finance: http://bit.ly/qPRWGD), many other world markets – including emerging markets such as Brazil and China – were down far more.
Normally markets which have declined the most would offer the greatest bargains. However, in our opinion, the emerging markets are still not as cheap as large cap U.S. stocks. Therefore our strategy remains to invest domestically for the foreseeable future. If Europe’s banks falter, U.S. cash rich low P/E companies should weather the storm far better than the over leveraged high priced stocks of the emerging market economies. When Europe does solve its problems, we will consider investing in overseas markets through ETFs. We will monitor the situation and take action when it is appropriate.
Regarding current and future investment ideas we can report the following. We continue to hold Cascade (Nasdaq: CASC) after it reported remarkable earnings growth for the quarter. We expect Cascade’s earnings to continue growing next year. (Company press release 9/1/11 http://www.cascorp.com/web2/investor.nsf/74db75a2c4ce667388256cfc00613b00/7f7607f7c7ce113b882578fe005ecba6!OpenDocument)
And recently we purchased Sandridge Permian Royalty Trust (NYSE: PER), as a high yield energy investment with considerable upside potential in our view. The annual dividend payout is expected to be relatively high, which we strategize will attract investors to the stock and push its price upward.
Additionally we are also looking at a number of large cap technology companies. Many of these companies have large cash hoards, no debt and are producing growing amounts of cash flow and earnings. The majority of these companies have not appreciated significantly in price over the last ten years. This sector seems to be an area of tremendous value and we believe the time for price appreciation is close. One large tech acquisition could set off a stampede into these stocks, and we would hope to be there ahead of such a move.
Overall, we believe valuations in tech are as cheap as they were in the late-1970s / early-1980s time period. That was a time of immense opportunity and we hope to take advantage of a similar situation going forward.
