The surge in stock prices over the last two days is impressive on the surface. Will it be a sustainable rally of more than 5-10%, or is it just a technical bounce in an oversold market?
A longstanding adage of investing in the U.S. was "Don't fight the Fed," as monetary conditions in the financial system were considered a key determinant of the direction of stock prices. But as Alan Greenspan's tenure went up in smoke, the adage became less foolproof.
The news that the developed world's major central banks made concerted efforts in increasing liquidity to preempt further strains in the European banking system--along with better economic news in the U.S.--was the catalyst for the surge in stocks. But in the U.S. at least, trading volume today was relatively light given the big jump in the indexes, so volume at least today did not corroborate the strength of the move higher in stocks. That is not a sign of a robust, sustainable move higher.
I've thought recently that stocks were technically oversold and due for a bounce, but was not as confident as I was at the end of September of a major move higher in stock prices. I erroneously have avoided European stocks because of concerns about potential currency losses if the Euro would fall sharply. So far I have missed opportunities there. Yet, the constraints on the European banking system from the need to rebuild capital is curbing credit and constricting economic growth--for an extended time, I'd guess. There are several European stocks that I find attractively valued, but after gains of nearly 10% in a few days, I'd wait for a correction before making additional purchases.
Steve Lehman
LehmanInvest.blogspot.com/
Wednesday, November 30, 2011
Monday, November 28, 2011
Oil Sands Operations Are Not Worth the Risk
The New York Times reported on research efforts by several start-up companies to reduce the environmental damage caused by oil (or tar) sands extraction. There is a good reason for this. Either of the two primary means to extract petroleum from the bitumen--the sticky, heavy oil that is mixed in with sand and clay--results in heavy environmental damage.
There is enormous consumption of water using one extraction method--three to four times the oil that is extracted. The other method burns enormous natural gas that causes greenhouse gas emissions to be several times higher than that of producing conventional oil. Yet, as with the coal industry, the major oil companies with oil sands operations are claiming that these processes do not harm the environment.
This dirty fuel, like coal, causes health and environmental damage far worse than the energy benefit. There may be short-term profit opportunities from the tar sands, but it is not asustainable source of energy. I'd avoid companies that operate in this sector because there are less risky ways to produce energy.
Steve Lehman
LehmanInvest.blogspot.com/
There is enormous consumption of water using one extraction method--three to four times the oil that is extracted. The other method burns enormous natural gas that causes greenhouse gas emissions to be several times higher than that of producing conventional oil. Yet, as with the coal industry, the major oil companies with oil sands operations are claiming that these processes do not harm the environment.
This dirty fuel, like coal, causes health and environmental damage far worse than the energy benefit. There may be short-term profit opportunities from the tar sands, but it is not asustainable source of energy. I'd avoid companies that operate in this sector because there are less risky ways to produce energy.
Steve Lehman
LehmanInvest.blogspot.com/
Friday, November 25, 2011
Stock Market Return Prospect Improve
The U.S. stock market has completed its worst Thanksgiving week decline since 1932, as the S & P 500 dropped 4.7%. As a result, market sentiment measures have reversed sharply and have fallen to exceptionally depressed levels. Consequently, return prospects for stocks have improved enough to warrant cautious buying.
For those investors with no allocation to emerging market equities, now is a reasonable time to initiate a position, with this area falling to a seven-week low. Valuations on emerging market equities are favorable in absolute terms. The earnings yield is 1.5 standard deviations above the 16-year average, for example. Relative to developed markets, however, valuations are not particularly attractive. Valuations in developed markets are attractive, especially relative to bonds.
A modest addition to emerging markets seems appropriate, with greater purchases of multinationals in the developed markets, notably the U.S. If cash reserves are insufficient for this, I'd suggest reducing government bond holdings, as U.S. government bond valuations have become quite unattractive, both relative to inflation and relative to equities.
Steve Lehman
LehmanInvest.blogspot.com/
S & P 500: 1159
EEM: 36
For those investors with no allocation to emerging market equities, now is a reasonable time to initiate a position, with this area falling to a seven-week low. Valuations on emerging market equities are favorable in absolute terms. The earnings yield is 1.5 standard deviations above the 16-year average, for example. Relative to developed markets, however, valuations are not particularly attractive. Valuations in developed markets are attractive, especially relative to bonds.
A modest addition to emerging markets seems appropriate, with greater purchases of multinationals in the developed markets, notably the U.S. If cash reserves are insufficient for this, I'd suggest reducing government bond holdings, as U.S. government bond valuations have become quite unattractive, both relative to inflation and relative to equities.
Steve Lehman
LehmanInvest.blogspot.com/
S & P 500: 1159
EEM: 36
Tuesday, November 22, 2011
Share Buybacks Are Good, But For Whom?
Free cash flow--when a company generates more cash than is needed in normal business operations--is typically highly valued by professional investors. Surplus cash, when in the hands of capable management teams, can be used for debt reduction, new business ventures or acquisitions, dividend increases, or share repurchases. All of those actions are expected to increase returns to investors.
Investors typically have cheered share buyback announcements because when a company enters the stock market to buy its stock, the additional buying demand presumably drives up the share price. Using surplus cash for share buybacks also prevents managements from making poor capital allocation decisions--such as making expensive acquisitions of other companies--when the basic business lacks expansion opportunities. But research by Fortuna Advisors found that over the last decade, companies that spent the most on share repurchases had significantly lower returns to shareholders than companies that spent the least. (I would like to see more information on that, as well as corroboration by another study.)
There is a broader point as well. What might be good for a single company--or at least its top executive--might not be good for the company's workers, investors, or the country as a whole. The New York Times reported that as companies often continue to cut jobs and amass cash hordes, they're repurchasing stock in massive amounts--$445 billion authorized just this year. This shrinkage of shares outstanding can increase reported earnings per share--and enable CEOs to hit bonus goals of eps--even though the underlying business is not growing satisfactorily (Zimmer is a notable example).
Such emphasis on achieving short-term eps targets is antithetical to sustainable investing. Sustainable investing considers various stakeholders in a business enterprise, including workers and communities, and places a premium on managements who anticipate the long-term environmental and social challenges facing its industry. Such companies tend to be better managed--period. Companies with superior managements that focus on the long term sustainability of businesses have a competitive advantage. The evidence supports this, as companies ranked high in sustainability have produced superior returns to investors. So short-term earnings per share goals can produce a conflict between the interests of a handful of top executives and the interests of other stakeholders in the business--and when it's done throughout the economy--against the interests of the country as a whole.
Steve Lehman
LehmanInvest.blogspot.com/
Investors typically have cheered share buyback announcements because when a company enters the stock market to buy its stock, the additional buying demand presumably drives up the share price. Using surplus cash for share buybacks also prevents managements from making poor capital allocation decisions--such as making expensive acquisitions of other companies--when the basic business lacks expansion opportunities. But research by Fortuna Advisors found that over the last decade, companies that spent the most on share repurchases had significantly lower returns to shareholders than companies that spent the least. (I would like to see more information on that, as well as corroboration by another study.)
There is a broader point as well. What might be good for a single company--or at least its top executive--might not be good for the company's workers, investors, or the country as a whole. The New York Times reported that as companies often continue to cut jobs and amass cash hordes, they're repurchasing stock in massive amounts--$445 billion authorized just this year. This shrinkage of shares outstanding can increase reported earnings per share--and enable CEOs to hit bonus goals of eps--even though the underlying business is not growing satisfactorily (Zimmer is a notable example).
Such emphasis on achieving short-term eps targets is antithetical to sustainable investing. Sustainable investing considers various stakeholders in a business enterprise, including workers and communities, and places a premium on managements who anticipate the long-term environmental and social challenges facing its industry. Such companies tend to be better managed--period. Companies with superior managements that focus on the long term sustainability of businesses have a competitive advantage. The evidence supports this, as companies ranked high in sustainability have produced superior returns to investors. So short-term earnings per share goals can produce a conflict between the interests of a handful of top executives and the interests of other stakeholders in the business--and when it's done throughout the economy--against the interests of the country as a whole.
Steve Lehman
LehmanInvest.blogspot.com/
Monday, November 21, 2011
Coal and Solar Energy Developments
While politicians in this country grandstand over the bankruptcy of Solyndra, a solar-energy company that received a loan guarantee from the Department of Energy, South Africa is the latest country to see the energy future and act, albeit belatedly, to move toward cleaner sources of energy.
Eskom, the state-owned South African electric utility, plans to build solar plants at its coal stations. In the U.S., solar energy is under attack because of the loss from the failure of Solyndra, which while significant at about $500 million, was only about 2.5% of the total loan guarantee program at the Department of Energy.
Despite the political clout of the fossil fuel industry, renewable energy in the U.S. continues to grow and now exceeds nuclear power as a source of energy. Coal, whose pollution externalities are not reflected in its price to consumers, must be phased out. (Remember that there is no such thing as "clean coal," despite the massive advertising campaign of the coal producers.)
Imagine what progress could be made if the government provided significant, ongoing support for renewable energy sources (as it has done for many years for the oil and coal sectors)? Though the industrialized world will be reliant on oil for many years, the sooner we can move away from coal the better. Recent scientific studies add to the incontrovertible evidence of the damage to human health from mercury pollution from burning coal.
For investors, coal exports may sustain the industry for a while, but in this sector I certainly would not want to invest in the laggards in innovation and would (as I do in other sectors), favor the innovators rather than those who undermine scientific evidence in order to protect the status quo.
Steve Lehman
LehmanInvest.blogspot.com/
Eskom, the state-owned South African electric utility, plans to build solar plants at its coal stations. In the U.S., solar energy is under attack because of the loss from the failure of Solyndra, which while significant at about $500 million, was only about 2.5% of the total loan guarantee program at the Department of Energy.
Despite the political clout of the fossil fuel industry, renewable energy in the U.S. continues to grow and now exceeds nuclear power as a source of energy. Coal, whose pollution externalities are not reflected in its price to consumers, must be phased out. (Remember that there is no such thing as "clean coal," despite the massive advertising campaign of the coal producers.)
Imagine what progress could be made if the government provided significant, ongoing support for renewable energy sources (as it has done for many years for the oil and coal sectors)? Though the industrialized world will be reliant on oil for many years, the sooner we can move away from coal the better. Recent scientific studies add to the incontrovertible evidence of the damage to human health from mercury pollution from burning coal.
For investors, coal exports may sustain the industry for a while, but in this sector I certainly would not want to invest in the laggards in innovation and would (as I do in other sectors), favor the innovators rather than those who undermine scientific evidence in order to protect the status quo.
Steve Lehman
LehmanInvest.blogspot.com/
Thursday, November 17, 2011
Neutral on Stocks, But Further Declines Will Increase Their Appeal
I recently turned neutral on stocks after their extraordinary strength in October. While there are numerous factors that affect stocks and numerous--and often conflicting--indicators, a good (contrary) indicator of investor sentiment is the VIX Index of option volatility.
In trying to identify market tops, there is little information in a low VIX level (which indicates widespread investor optimism), as low readings can persist and stocks continue rising for an extended time.
A high VIX reading, however, has been associated with market bottoms over the past fifteen years. When the VIX has been above 28.5 (less than 20% of the time), the S & P 500 Index has returned 40% annualized. It closed today at 34.5. Persistence at this level on the VIX Index, or even higher levels, will increase my confidence that stocks have greater near-term appreciation potential.
Steve Lehman
LehmanInvest.blogspot.com/
S & P 500: 1216
In trying to identify market tops, there is little information in a low VIX level (which indicates widespread investor optimism), as low readings can persist and stocks continue rising for an extended time.
A high VIX reading, however, has been associated with market bottoms over the past fifteen years. When the VIX has been above 28.5 (less than 20% of the time), the S & P 500 Index has returned 40% annualized. It closed today at 34.5. Persistence at this level on the VIX Index, or even higher levels, will increase my confidence that stocks have greater near-term appreciation potential.
Steve Lehman
LehmanInvest.blogspot.com/
S & P 500: 1216
Monday, November 14, 2011
Two Quality Investments
Though the sharp rebound in stock prices over the past month has caused me to be cautious about the stock market overall, I still find individual stocks that remain attractive. Merck and Vodafone are two examples that meet my criteria for competitive and financial strength, attractive valuation, and sustainability.
Last week Merck announced a dividend increase and an positive update of its prospects for important new drugs. The dividend yield is 5%, which compares quite favorably with the overall stock market and for savings and fixed-income alternatives. Merck generates significant excess cash after capital spending and dividend outlays, and it sells for less than 10 times estimated 2011 earnings per share.
Vodafone was featured favorably in this week's Barron's magazine. Its 45% ownership of Verizon Wireless will soon show tangible results, as Vodafone will receive a $4.5 billion dividend from the joint venture. Since Vodafone will pass the Verizon Wireless dividend on to shareholders, the total dividend yield by Vodafone will be 7.5%. That even exceeds the yield on many junk bonds. Vodafone also has leading market positions in key markets and a management that is committed to returning cash to shareholders through dividends and share buybacks. The stock sells for only 10 times earnings, despite the substantial stake in Verizon Wireless that is not consolidated on Vodafone's financial statements.
In addition, both Merck and Vodafone are widely recognized as sustainability leaders. The companies' performance on environmental, social, and governance (ESG) criteria is exceptionally admired. As positive sustainability assessments are increasingly recognized as an indicator of management quality that leads to superior returns for investors, the prospects for these two investments are indeed bright.
Steve Lehman
LehmanInvest.blogspot.com/
Last week Merck announced a dividend increase and an positive update of its prospects for important new drugs. The dividend yield is 5%, which compares quite favorably with the overall stock market and for savings and fixed-income alternatives. Merck generates significant excess cash after capital spending and dividend outlays, and it sells for less than 10 times estimated 2011 earnings per share.
Vodafone was featured favorably in this week's Barron's magazine. Its 45% ownership of Verizon Wireless will soon show tangible results, as Vodafone will receive a $4.5 billion dividend from the joint venture. Since Vodafone will pass the Verizon Wireless dividend on to shareholders, the total dividend yield by Vodafone will be 7.5%. That even exceeds the yield on many junk bonds. Vodafone also has leading market positions in key markets and a management that is committed to returning cash to shareholders through dividends and share buybacks. The stock sells for only 10 times earnings, despite the substantial stake in Verizon Wireless that is not consolidated on Vodafone's financial statements.
In addition, both Merck and Vodafone are widely recognized as sustainability leaders. The companies' performance on environmental, social, and governance (ESG) criteria is exceptionally admired. As positive sustainability assessments are increasingly recognized as an indicator of management quality that leads to superior returns for investors, the prospects for these two investments are indeed bright.
Steve Lehman
LehmanInvest.blogspot.com/
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