2010 Market Commentaries
2009 Market Commentaries
2008 Market Commentaries
2007 Market Commentaries
2006 Market Commentaries
2005 Market Commentaries
December 2010: Good economic growth drives equities higher in November
The Selective Asset Long Biased Equity Hedge Fund LP was up
3.4%* in December 2010, and was up 8.5%* in 2010 (*un-audited).
In Canada the Financials, Energy and Materials subgroups
accounted for 94% of the 14.5% gain in the S&P/TSX Composite in
2010. The S&P 500 Composite was up 9.0% in 2010 in Canadian
dollar terms.
In late August we “increased the emphasis on a company’s ability
to service its debt as well as reduce its debt.” This change has
contributed to the significant performance that has occurred
since the end of August. From August 31st, 2010 to December
31st, 2010 the Selective Asset Long Biased Equity Hedge Fund LP
was up 18.4%* outperforming the S&P/TSX Composite index which
was up 12.8% (*un-audited).
2010 was a strong year for equity markets as earnings continued
to rebound from their recessionary lows.
Strong 2011 forecast earnings growth of 26% for the S&P/TSX
companies and 13% for S&P 500 companies is expected to drive
stocks higher in 2011. We expect 2011 to be the year when rising
earnings momentum distinguishes the performance leaders versus
the laggards.
Concerns about rising inflation and the U.S. budget deficit at
10% of G.D.P. are expected to hold back bond prices in 2011. As
a result investors should shift their focus from bond to equity
funds in 2011.
Growth vs. Value
We favour growth stocks over value stocks at this stage in the
market. The S&P/TSX Composite index has outperformed the S&P 500
Composite Index in 7 of the past 8 years due to the strong
performance of resource sector stocks. The S&P/TSX is expected
to outperform again in 2011 as its over 50% resource stock
weight benefits from rising global economic growth and
particularly from the strong energizing market economies.
Oil
Ray Hanson, Technical Analyst at RBC Capital Markets, believes
that the price of oil will rise above $120 U.S. in 2011 as oil
appears to have broken out (to the upside) from an 18 month
trading range.
Copper
We noted in the October commentary that “technical analysts
forecast that if the price of copper rises above $4.00/pound it
could rise 50% to $6.00/pound in the next 12 to 18 months.”
Copper has risen above $4.00/pound and because of strong demand
and limited growth in supply for the next 2 years it appears
that the price of copper will be significantly higher by the end
of 2011.
Consumer Spending
The U.S. household debt servicing cost is the lowest it has been
in 20 years. This may lead to an upside surprise in U.S.
consumer spending in 2011. Small businesses in the U.S. may be
the driver of increased hiring leading to further reductions in
the U.S. unemployment rate.
Rising energy and raw material costs in 2011 may lead to a
squeeze in consumer oriented profit margins. This occurred in
2007/2008 but natural resource companies (the providers of the
raw materials) benefited at that time and are expected to
benefit in 2011 providing further support of our view that the
S&P/TSX should outperform.
In Summary…
Since mid-November US$20 billion has been withdrawn from U.S.
bond mutual funds to pay for equity purchases. We expect flows
from fixed income funds into equities to continue to drive
demand for equities.
We see 2011 as a year of
opportunity as we believe a new equity bull market is under way.
A near term pull back of 5 to 10% would be viewed as an
opportunity to increase resource stock holdings.
November 2010: Good economic growth drives equities higher in November
The Selective Asset Long Biased Equity Hedge Fund was up 7.3%
in November and the S&P/TSX Composite Index was up 2.2%. The
results in the 3 months since we increased the emphasis on cash
flow have been encouraging.
A robust economic recovery in Germany, high U.S. corporate
profits and good growth in emerging markets drove stock prices
higher in November.
Fed Chairman Bernanke explained the expected benefits of his
quantitative easing (QE2) actions (printing money to buy
Treasury Bonds) in a Washington Post op-ed article in early
November: “Lower mortgage rates will make housing more
affordable and allow more homeowners to refinance. Lower
corporate bond rates will encourage investment. And higher stock
prices will boost consumer wealth and help increase confidence,
which can also spur spending. Increased spending will lead to
higher incomes and profits that, in a virtuous circle, will
further support economic expansion.”
In early December Bernanke’s predecessor at the Federal Reserve
Board (Fed), Alan Greenspan told CNBC, “I think we are
underestimating and continue to underestimate how important
asset prices, very specifically equity values are, not only for
shareholders and the like, but for the economy as a whole.” The
Fed expects that quantitative easing will create a higher stock
price “wealth effect” will stimulate the slow-growing U.S.
economy.
Many European sovereign debt ratios are too high. As a result
analysts expect that the European Central Bank will also have to
undertake a larger quantitative easing effort to buy time.
The Fed hopes to lower bond yields and mortgage rates by buying
bonds. However, U.S. 10 year bond yields have risen from 2.33%
in early October to over 3.0% in early December. The
anticipation of the second round of quantitative easing and
reasonable world GDP growth expected in 2011 has lead to rising
stock and commodity prices.
Ray Hanson, RBC Capital Markets Technical Analyst, noted on
December 6th “crude [oil] is just breaking out of an 18-month
trading range and is unlikely to trade below $80 again for the
life of the new [equity bull] cycle; technical upside potential
is $120 to $140 over the next 6 to 12 months”.
The outlook for gold and gold stocks appears to continue to be
strong. Martin Roberge Portfolio Strategist at Dundee Capital
Markets noted on December 6th “the exponential phase of gold
equities” price appreciation has begun and is well supported by
relative earnings strength, positive reflation forces and
reasonable valuation.”
Gold typically rises 2.2% in December with a 54% probability of
positive returns. The S&P/TSX Global gold index typically rises
3.9% in December with a 50% probability of positive returns.
Ned Davis Research noted on December 3rd “our global equity team
is shifting to favor Growth over Value stocks due to relative
sector strength, decelerating earnings and sub-par (expected to
continue) economic growth.
“We recommend a barbell approach of over weighting small-caps
and growth, and using what exposure is given to low beta sectors
to include Dividend payers and growers”
In the September commentary we highlighted Warren Buffet’s
October 6th comment “It’s quite clear that stocks are cheaper
than bonds”. It appears that investors agree. J.P. Morgan noted
on December 3rd “(weekly reporting) bond funds saw outflows for
a third straight week. It is the first time since the beginning
of March 2009 (that this has occurred). “November will be the
first month of decent equity inflows with little or no bond
inflows, since the peak of the (equity) bull market in
September, 2007”.
We expect flows from fixed income funds into equities to
continue to drive demand for equities. Since mid-summer we have
forecast the start of a new bull cycle in the fourth quarter of
this year. We believe Ned Davis Research’s recommendation to
overweight equities in early December confirms this view. We
continue to be optimistic about the outlook for equity prices
into mid 2011.
October 2010: Positive Macro Economic Factors
The Selective Asset Long Biased Equity Hedge Fund was up 2.9%
in October and the S&P/TSX Composite Index was up 2.5%.
The U.S. job picture brightened in October as the private sector
added 150,000 to payrolls beating economists’ forecasts. This
was the biggest increase in U.S. employment data since April.
The Institute for Supply Management (ISM) purchasing manager’s
survey show accelerating growth in October in the U.S., China,
U.K. and Eurozone.
October vehicle sales were strong in the U.S. (up 13% year over
year), while Chinese car sales were up 27% year over year.
The U.S. Federal Reserve Board (Fed) announced the details of
the next round of quantitative easing (QE2). The Fed expects to
buy $600 billion in bonds by June 2011 plus about $65 billion
per month in reinvesting the proceeds of maturing mortgage
securities (from QE1).
As a result of the QE2 announcement the U.S. dollar fell to new
9-month lows vs the Euro and British pound, and gold rose to
$1,400.
The current negative real interest rate environment is positive
for investing in “hard” assets like gold and copper.
In addition, declining inventories on the London Metal Exchange
(LME) are positive for copper.
Technical Analysts forecast that if the price of copper holds
above $4.00/pound it could rise 50% to $6.00/pound in the next
12 to 18 months. This would be very positive for the copper
stocks held in the growth portfolios.
Ian Shepherdson of High Frequency Economics NY Times (Nov 6,
2010) described the positive data from the U.S. bank credit
growth as “a hugely exciting development”. If the credit
expansion he is expecting does transpire “we could achieve
annualized growth of between 3 percent and 4 percent in the
second half of 2011. And the year after that looks even more
promising.”
We believe that we are starting a new 4-year equity bull market
and have reduced cash and expect to put further cash to work
“buying the dips” that we expect between now and year end.
September 2010: Global bull market on the horizon
The Selective Asset Long Biased Equity Hedge Fund was up 3.6%
in September and the S&P/TSX Composite Index was up 3.8%.
Stock prices typically decline about 2% in September as
investors cautiously assess the economic outlook for the balance
of the year. September of 2010 was the best in over 70 years in
the U.S. as the S&P 500 was up 8.8% (C$) and the NASDAQ
Composite was up 8.1% (C$). The S&P/TSX composite index was up
3.8% on strong performance from financial and energy companies
which accounted for almost 2/3rds of the rise.
In August 2010 the European Central Bank (ECB) bought more
Greek, Irish and Portugeuse bonds. The Euro rose because unlike
the U.S. the ECB wasn’t printing new money to buy the bonds. In
the first week of October 2010 the Euro hit a six month high, up
14% versus the U.S. dollar since June.
German G.D.P. grew 9% in Q2/2010 due to strong export growth and
their unemployment rate has continued to fall. As a result
Germany has continued to cut its own deficits. Billionaire
investor, George Soros, warns that when both creditor nations
(Germany) and debtor nations (Greece, Ireland, Spain, Italy and
Portugal) reduce their deficits amid high unemployment they “set
in motion a deflationary spiral in the debtor countries…”
Investors expect the U.S. Federal Reserve Board (“Fed”) to
announce at the Federal Open Market Committee Meeting on
November 2nd and 3rd another round of quantitative easing. The
first round of easing (which ended in March of this year)
involved the purchase of approximately $1.7 trillion (U.S.). The
Fed would buy U.S. bonds in an effort to further lower interest
rates. Lower U.S. interest rates would be less attractive
compared to European interest rates which would likely drive the
U.S. dollar down. Imported goods would be more expensive causing
inflation to rise (supporting a Fed objective to avoid
deflation).
Lower bond yields as a result of quantitative easing make
equities more attractive from a valuation point of view. In
speaking at Fortune magazine’s Most Powerful Women conference on
October 6, 2010 Warren Buffet noted, “It’s quite clear that
stocks are cheaper than bonds”. If U.S. corporations were to
refinance their existing debt a 1% reduction in cost would
improve U.S. corporate profitability by $70 billion. This would
be offset by the increased funding requirements for the widening
corporate pension fund deficits.
As half of the profits from S&P 500 companies come from offshore
a lower U.S. dollar would mean higher profits and U.S. exports
would be relatively less expensive creating increased sales
opportunities.
As noted in last month’s commentary we “increased the emphasis
on a company’s ability to service its debt as well as reduce its
debt”, based on this expectation of modest GDP quality growth
companies are expected to outperform.
“From a season perspective gold shares typically rise from late
summer into the New Year”. This resulted in an increase in
holdings of gold and silver stocks which did well in September.
On an encouraging economic note in the U.S. the September ISM
service sector index was 53.2 (higher than expected), up from
51.5 in August. This was the ninth straight month of business
expansion in service industries.
While service activity was up it was not enough to cut the U.S.
jobless rates as U.S. state and local governments continued to
lay off workers due to budget constraints. This will result in
continued high U.S. unemployment, which combined with increased
mortgage foreclosures will dampen demand for new home building
for the next 2 years. We expect U.S. GDP to grow 2% over the
next year.
We continue to believe that the fourth quarter of 2010 will be
the start of a new equity bull market. Ned Davis Research
supports this view as they noted on October 7th “a stretch of
market weakness can be expected ahead of the U.S. mid-term
elections in early November. But a pullback would most likely
give way to the resumption of a cyclical bull market that
remains global in scope”. We expect to further reduce cash
levels in the fourth quarter to take advantage of this
opportunity.
August 2010: Bull cycle around the corner?
The Selective Asset Long Biased Equity Hedge Fund declined 1.9% in August and the S&P/TSX Composite Index was up 1.7% during the month.
U.S. stock markets were weak in August on rising concerns about the potential for a “double-dip” recession. The S&P 500 was down 4.7% and the NASDAQ was down 6.2% The S&P/TSX was up 1.7% during August due to strong performance of the metals and mining stocks.
In early September the Institute for Supply Management’s (ISM) Manufacturing Index reported the 13th consecutive month of growth in U.S. manufacturing. 11 of 18 (61%) of manufacturing industries reported growth. The U.S. employment report for August was also encouraging as private payrolls rose by 67,000 above the consensus estimate of 40,000. While both headlines were encouraging to the stock markets there were significant inconsistencies in the underlying data which David Rosenberg Chief Economist and strategist at Gluskin Sheff described as “just a tad confusing”.
Over the past year the performance of the portfolio has been disappointing. The classic growth factors: earnings surprise, estimate revision and quarterly earnings momentum have not performed well. During August we spent considerable time researching a solution.
In the past we have favoured companies with stable earnings, strong return on equity and rising profitability. The resulting strong cash flow allowed companies the flexibility to increase dividends, buy back stock or reduce debt. We have increased the emphasis on a company’s ability to service its debt as well as reduce its debt. Debt reduction causes earnings to rise due to the reduced interest expense, with the added benefit of a reduced asset base (due to less debt outstanding), both of which increase the Return on Assets.
Myles Zyblock, Chief Institutional Strategist at RBC Dominion Securities noted on September 8th that “macro indicators have turned decidedly mixed”. Zyblock advises “while waiting for directional clarity, remain focused on ‘quality growth’ stocks.” “Quality growth companies are usual equipped with solid balance sheets, superior profitability metrics, reliable earnings streams and dividends – attributes which add value in a sub-par GDP growth environment.”
Expectation of a Q4 market advance was recently noted by Ned Davis Research: “the S&P 500 has gained a median of nearly 8% in the fourth quarter of the (U.S.) mid-term election year…with the advance typically continuing through the first and second quarter of the following year.” J.P. Morgan also notes that “after 18 of 22 (82%) mid-term elections since 1920 markets experienced a 14.7% median performance in the following six months.” “Whether mid-term elections results in a change of majority (gains occurred in 5 of 6 times (83%), median gain of 11%) or no change in party majority at all (gains 13 of 16 times (81%), median gain of 17.3%)”.
U.S. 10 year bond yields declined to 2.42% in late August and have since risen to 2.75%. If rates rise above 2.80% it may confirm the start of a more sustained rise in bond yields.
Concerns of European Sovereign debt have resurfaced leading to renewed investor interest in gold. From a seasonal perspective gold shares typically rise from late summer into the New Year. As a result the large cap growth portfolios have an overweight in gold shares.
Over the past 3 months we’ve said that we believe the equity market is undergoing a rolling bottom that we expect to lead to the start of a new 4-year bull cycle by the end of the year.
July 2010: Interest rates decline as slow U.S. economic growth continues
The Selective Asset Long Biased Equity Hedge Fund declined
0.7% in July and the S&P/TSX Composite Index was up 3.7% during
the month. 2010 year to date the S&P/TSX Composite Index was
down 0.3%. Selective Asset Long Biased Equity Hedge Fund was
down 6.5% year to date.
Financial and energy stocks moved up in July accounting for over
2/3rds of the rise. Bank shares moved up as interest rates went
down in July. Trailing 4th quarter earnings growth in the banks
has been modest. As a result, we are underweight and
underperformed in July.
On July 21st U.S. Federal Reserve Chairman Ben Bernanke gave his
semi-annual monetary report to the U.S. Congress. He said that
the U.S. economy faces “unusually uncertain” prospects and said
that he would take additional steps to ensure economic growth if
necessary.
Recessions typically don’t recover quickly on their own.
Consumers are reluctant to spend money because they are worried
about losing their jobs, have had their hours of employment cut
back or have been laid off. Consumers avoid the shopping mall in
order to pay down debt. Companies have excess capacity so they
have no need to spend money on new plants or equipment. As a
result, government is left to increase spending to turn the
economy around.
In February 2009 the U.S. launched its $862 billion stimulus
program which has had much less impact than expected. This weak
result is because the broad supply of money (which includes
credit) in the U.S. has dramatically declined since March 2008.
Banks have not been keen on lending money and instead have used
excess cash to strengthen their balance sheets. Both existing
and potential borrowers have also been deleveraging.
Economists refer to Japan’s “lost decade” to describe 10 years
of glacial economic growth. The Financial Times (U.K.) noted on
July 31st that “in real terms, annualized (U.S.) quarterly
output has now been hovering around the $13,000 billion mark
since the beginning of 2006. That is almost five years of
absolutely no growth – halfway to equaling Japan’s infamous lost
decade…” As a result, U.S. voters will be focused on jobs and
economic growth for the upcoming mid-term elections in November.
U.S. companies posted strong Q2 results despite the news of
general economic weakness. However, 83% of S&P 500 companies
have beaten earnings estimates so far, but only 65% have beaten
sales estimates.
For the third month in a row, the U.S. employment report was
modestly below expectations. Private payrolls rose by 71,000,
their seventh straight month of gains but about half the amount
required to match the growth in the U.S. working age population.
Underemployment, including discouraged and part-time workers who
want full-time jobs stayed at 16.5%, far above normal. The U.S.
Congress recently passed a bill that restored jobless benefits
for millions of Americans as it’s taking twice as long (35
weeks) as normal to find a job. While manufacturers account for
about 12% of U.S. GDP they were responsible for firing 25% of
the 8 million U.S. workers who became unemployed since the start
of this recession. Of the companies who broke out the numbers,
in 2009 46.6% of all S&P 500 sales were produced and sold
outside the U.S. Foreign sales declined 16% in 2009 after three
straight years of gains.
The recessions in emerging markets were typically shallower and
shorter than in developed markets. U.S. manufacturing companies
like Caterpillar and 3M benefited from strong emerging market
sales in Q2. The faster rebound in emerging markets is important
as U.S. manufacturers could be a significant source of
employment growth. In addition, a Q2 survey by the National
Association for Business Economics showed that 25% of U.S. firms
increased capital spending and 44% expect to increase capital
spending over the next year.
Eurozone economic growth accelerated from a 0.8% annualized rate
in Q1/2010 to an estimated 2.5% to 3.0% in Q2. Robust growth in
Germany offset weakness in Greece and other indebted parts of
Southern Europe. As a result, consumer confidence rose sharply
in July according to the European Commission.
Merrill Lynch economists noted on August 6th: “We think the
underlying (U.S. Q2 GDP) data was stronger than the headline
2.4% (growth rate)…..Consumption, equipment investment and
exports - together contributed 3.8% to GDP growth. Looking ahead
to Q3, while the underlying economy is slowing a bit, we expect
a somewhat stronger GDP increase of 2.9%.”
We noted last month that U.S. and Canadian stock indices were
trading at a discount to historical medians and that a “rolling
bottom’ appeared to be occurring. As a result, cash levels were
reduced in anticipation of rising stock prices.
Despite the recent weak economic news stocks advanced since the
end of June as global growth themes have been embraced as stock
indices and commodities rose. Copper rose 14% and oil rose 7% in
July. Analysts believe that the rise in the MSCI Emerging
Markets Fund and the Shanghai A Index point to the S&P 500
composite index breaking above its 1131 high set on June 21st
and will confirm that the rising global growth theme is intact.
June 2010: “Rolling bottom” occurring?
The Selective Asset Long Biased Equity Hedge Fund declined
3.9% in June and the S&P/TSX Composite Index declined 3.9%, S&P
500 was down 3.8% ($U.S.) during the month. 2010 year to date
the S&P/TSX Composite Index was down 3.8%. Selective Asset Long
Biased Equity Hedge Fund was down 5.8% year to date.
North American equity markets declined in June as it appeared
that a slowdown in economic activity occurred in the second
quarter of this year. In spite of the 2% increase in the price
of oil and the 7% increase in the price of natural gas in June,
energy stocks declined.
Financial and energy stocks accounted for over two thirds of the
decline in the S&P/TSX, while gold stocks performed well. In
June the S&P 500 Composite index declined 5.2%, while the NASDAQ
fell 6.5%.
Equity prices also slumped in the three months ended June. The
decline in equity prices was the first quarter that stock
indices have dropped since Q1/2009.
In early April U.S. 10-year bond yields briefly traded above 4%.
Three months later yields fell below 3% as investors sought
“safe haven” investments. Gold stocks also did well in the
second quarter.
Economists and politicians globally are debating whether cutting
budget deficits should be more of a priority than borrowing
money to stimulate the economy. The desired result is to
increase employment and use the resulting rising tax revenue to
reduce the deficits. The challenge in the U.S. is that increase
in federal government employment due to the stimulus program has
been offset by the dramatic employment cutbacks by states and
municipalities as they move to balance their budgets.
Small businesses historically have been the main source of job
growth, but tight credit has held back small businesses in this
business cycle. It is encouraging that the National Federation
of Independent Business survey reported that hiring plans for
small businesses in the U.S. finally turned positive in June.
Technical analysts have recently noted that the 50-day moving
average had crossed below the 200-day moving average. History
suggests that investors should not be overly concerned as a
review of the 28 occurrences on the S&P 500 shows a modest 1.4%
(median) decline, (0.02% average increase) 2 months later.
Due to the decline in equity prices in the past quarter stocks
are trading at a discount compared to long-term price/earnings
multiples.
The S&P/TSX is trading at a 10% discount based on 13.4 times
2010 earnings estimates versus the long-term median
price/earnings ratio of 15.
The S&P 500 is trading at a 17% discount based on 12.4 times
2010 earnings estimates versus the long-term median
price/earnings ratio of 14.9.
The 12.4 P/E of the S&P 500 is an 8% earnings yield which is 500
basis points above the U.S. 10-year bond yield. The 2.1%
dividend yield on the S&P 500 less the 10-year U.S. bond yield
is also near a record high. The S&P/TSX dividend yield of 2.9%
is even more attractive on a relative basis.
If earnings estimates are not reduced, stocks appear reasonably
priced.
The NYSE New Highs-New Lows Index has held above its early May
lows, indicating that the typical stock has stopped going down
and a “rolling bottom” is occurring.
We have held significant cash reserves during the correction and
expect to take advantage of these better values by September.
May 2010: Europe clouds world growth outlook
The Selective Asset Long Biased Equity Hedge Fund declined
6.8% in May and the S&P/TSX Composite Index declined 3.7%, S&P
500 was down 8.2% ($U.S.) during the month. In 2010 the S&P/TSX
Composite Index was up 0.1% and year to date the Selective Asset
Long Biased Equity Hedge Fund was down 2.1% to the end of May.
Equity markets declined in May due to investor concerns about
debt in Europe and the potential resulting reduction in world
economic growth. The S&P 500 Composite declined 8.2% in May in
U.S. Dollar terms, and the S&P/TSX Composite was down 3.7%.
Financials and energy stocks were the biggest drag on the S&P/TSX
index.
The Euro recently traded at 4-year lows versus the U.S. Dollar
and 10-year lows versus the Japanese Yen. The Euro is weak due
to concerns about Greece’s, Spain’s and now Hungary’s debt
levels. Over the last decade Spain’s small savings banks offered
cheap mortgages to encourage home ownership.
Morgan Stanley estimates that 2.8 million houses were built in
Spain over five years but over half of them were unsold. Savings
banks control half of Spain’s banking assets. Two savings banks
have been seized by the Bank of Spain and a third of the 45
savings banks are merging. With Spanish unemployment at 20%
finding buyers for the homes (and maintaining existing mortgage
payments) will be a challenge.
Will Europe’s credit issues trigger a global credit crisis
similar to 2008 (after Lehman Brothers’ collapse)? We don’t
think so. The difference between the interest rate at which the
banks lend money to each other and U.S. Treasury debt is 38
basis points versus the 4.6% spread of 2008.
On the energy front the National Oceanic and Atmospheric
Administration is forecasting an “active to extremely active”
hurricane season.” 3 to 7 hurricanes could be major hurricanes
(winds above 111 mph). This may drive the price of natural gas
from the current $4.50 to $6.00 in the near term.
Due to the debt concerns in Europe China seems ready to set
aside their recent efforts to cool real estate speculation.
China’s currency (pegged to the U.S. dollar) has risen 13%
versus the Euro in the past year. On May 21st Chen Deming,
China’s Commerce minister, commented “There are still a lot of
uncertainties in the world economy. Therefore we believe it is
too early for us to talk about an exit strategy from over
stimulus package.”
In spite of China’s positive statement, copper recently traded
below $2.90, suggesting that world economic growth will slow.
Both copper and oil prices are trading below their 200 day
moving averages for the first time since late 2008. We continue
to be cautious on the near-term outlook for the market.
Reflecting this caution, we increased cash in May to 30% above
the significant cash levels held at the end of April.
April 2010: SAMI Long Biased Equity Hedge Fund LP outperforms in April
The Selective Asset Long Biased Equity Hedge Fund was up 2.7%
in April outperforming the S&P/TSX Composite Index which was up
1.4% during the month. In 2010 the S&P/TSX Composite Index was
up 4.0% to the end of April. During the same period Selective
Asset Long Biased Equity Hedge Fund was up 5.1%. Gold holdings
in the portfolio did well as the price of gold was up 5.7% in
the month.
Greece’s debt of $236 billion is “relatively”
small in total dollars (1/5 the size of Spain’s total debt).
However, if Greece was to default on its debt the impact on
other EU countries would be significant. Greece owes nearly $10
billion to Portuguese banks. Portugal owes $286 billion to banks
in Spain. Spain owes $220 billion to France, $248 billion to
Germany and $114 billion to England.
On Sunday, May 9th
EU finance minister announced a 750 billion Euro (nearly $1.0
Trillion U.S.) stabilization program. This is over and above the
110 billion Euro bailout of Greece last week. The loans cover
the funding needs of Greece, Portugal and Spain for the next 3
years.
The European Central bank is also providing
unlimited liquidity to regional banks via 3 month loans to
reduce the likelihood of a European credit crunch.
The
EU stabilization program and loans will help with liquidity
concerns but the high debt to GDP levels of Greece, Spain,
Portugal, and the U.K. continue to be a problem.
We
expect that the austerity measures required to reduce budget
deficits will slow Eurozone economic growth.
Concerns of
slowing European and Chinese economic growth caused oil and base
metal prices to decline. Copper peaked first at $3.68 in mid
April and was down 9% to $3.35 by the end of April.
We
sold most base metal stocks in the last week of April in
anticipation of reduced earnings estimates from lower base metal
prices.
Equities usually experience “summer doldrums”
from the first week of May for approximately 3 months. As a
result we did not reinvest the base metal share sale proceeds.
Cash levels during April rose approximately 11% to approximately
21% at the end of April.
With the anticipated “summer
doldrums” we expect to be able to buy stocks at better prices
over the next 3 months.
March 2010: SAMI Long Biased Equity Hedge Fund outperforms in March
The Selective Asset Long Biased Equity Hedge Fund was up 6.1%
in March outperforming the S&P/TSX Composite Index which was up
3.5% during the month. In 2010 the S&P/TSX Composite Index was
up 2.5% to the end of March. During the same period Selective
Asset Long Biased Equity Hedge Fund was up 2.3%.
Last month we noted our optimism for equities which caused us to
reduce cash to the lowest levels of cash held over the past
year. This increase in equity weighting proved correct as the
S&P/TSX Composite Index advanced 3.5% in March – which was one
of the strongest performances for the month of March in 10
years.
We had expected the U.S. dollar to weaken leading to a rally in
commodities and commodity stocks. While the U.S. dollar held
firm commodities, commodity stocks and commodity currencies
(including the Canadian dollar) rose in March.
In early April the price of oil rose above US$84 (the previous
recent high of early January 2010), leading technical analysts
to believe that oil could move towards the US$100 level over the
next three months.
Copper also recently rose above its January high of US$3.54. The
rise in the price of oil and copper appear to confirm that world
economic growth should be positive in 2010.
David Rosenberg, Chief Economist and Strategist at Gluskin Sheff,
notes that bond prices have been seasonally weak from March to
June in five of the past six years. (Lower bond prices mean
higher bond yields.) This bond price weakness would be confirmed
if U.S. 10-year bond yields rose above 4%, a level of resistance
over the past 10 months.
Higher bond yields usually push stock prices down as price
earnings multiples typically contract. However, the 25% earnings
growth rate forecast for the S&P 500 for 2010 should still allow
equity prices to move up.
Concerns about Greece’s debt has caused the yield premium on
Greek debt over German debt to rise to the highest (426 bps)
level in over 10 years. The uncertainty of Greece’s ability to
raise funds without using the International Monetary Fund’s
(IMF) or the Euro member states’ emergency lending facility has
caused weakness in the Euro and commodities. The recent
provision of the 45 billion Euro loan facility from EU members
and the IMF should lead to a resumption in the rise of
commodities and equity markets.
The Organisation for Economic Co-operation and Development’s
(OECD) composite leading indicator for the U.S. rose in
February, 2010 to its highest level (102.7) since October, 2007.
The OECD’s U.S. leading indicator was above its long-term
average of 100 for the third month in a row.
We expect higher returns for equities relative to government
bonds over the coming year as investors reduce bond holdings and
increase equity weightings.
The following is a summary of the fundamental characteristics
of the Canadian equities held as of March 31, 2010 (on a median
basis):
Cash 9%
Alamos Gold
Bankers Petroleum
Crew Energy
Domtar Corp
Dundee Wealth
Eastern Platinum
Linamar Corp
Quadra Mining
Transglobe Energy
Western Digital
Please note that the overall portfolio characteristics are the
key, rather than the specific stock names.
Analysts’ expectations for 2010 earnings growth is much better:
78% vs. the 28% earnings growth forecast for the median S&P/TSX
Composite stock.
The P/E based on 2010 fiscal year estimates is more expensive at
20.6x than the median S&P/TSX Composite stock of 15.6x.
For the most recently reported quarter: The year over year
earnings growth was much greater than the median S&P/TSX
Composite stock: 100% vs. 33%.
Quarterly earnings growth: (the most recent 4 quarters of
earnings compared to 4 quarters of earnings one quarter ago) was
much greater than the median S&P/TSX Composite stock: 31% vs.
7%.
2010 earnings estimate revisions in the last 90 days: better
than the median S&P/TSX Composite stock +8% vs. -2%.
These fundamental characteristics may produce better absolute
returns, better risk adjusted returns and better consistency of
returns compared to the average S&P/TSX Composite company.
February 2010: Intermediate rally expected
The S&P/TSX composite index rose 4.8% in February led by the
Financials sector which accounted for just over 1/3 of the gain
in the index. Gold rose about 2% in February leading gold stocks
higher. Gold stocks accounted for about 1/5th of the gain in the
index. The Selective Asset Long Biased Equity Hedge Fund LP is
up 1.7%*. The lag in the fund was due to underweighting in bank
shares. (*un-audited)
U.S. non-farm payrolls in February
were down 36,000, less severe than the expected loss of 68,000
jobs. On March 8th Ned Davis Research noted “The (U.S.)
Conference Board’s Employment Trend Index increased for the
sixth straight month in February, gaining 0.3% to 93.5, the
highest level in over a year. It was the largest six-month gain
since April 1994 (almost 6 years). The sustained improvement in
the index… suggests imminent net job creation.”
U.S.
same-store retail sales rose 4.1% in February versus February
last year, the highest increase since November 2007. Some of
this increased spending likely came out of savings as the U.S.
personal saving rate recently declined from 6.4% to 3.3%.
Investors are concerned that the U.S. government may ease up
on their stimulus program. Similar concerns about China easing
up appear premature.
The March 6th edition of the
Financial Times UK reported details of Wen Jiabao China’s
Premier’s recent speech at the opening of the National People’s
Congress in Beijing. “Mr Wen said that China’s economic recovery
was still “insufficient”. (8.7% GDP increase in 2009, up 10.7%
in Q4/09). He said that to meet the target of 8% Beijing would
maintain a “pro-active fiscal policy and moderately easy
monetary policy.”
Concerns about the debt of Greece
(budget deficit 12.7% of GDP) and other ECU countries has eased,
causing the U.S. dollar (DXY) to pull back from 81.39 set in mid
February.
We expect the debt concerns to fade further by
mid March leading to a pullback in the U.S. dollar and a rally
in commodities and commodity stocks over the next several
months. Several U.S. small cap indices have traded at recent
highs and we are encouraged that the advance/decline line for
the S&P 500 composite index hit new highs recently. We are
optimistic about the outlook for the market and have reduced
cash levels significantly to take advantage of the intermediate
term rally that we expect over the next several months.
January 2010: Greece and China offset strong Q4 Earnings
The Selective Asset Long Biased Equity Hedge Fund LP was down
5.1%* while the S&P/TSX Composite Index was down 5.5% in January
(*un-audited).
Equity markets started the year strongly. The S&P/TSX composite
rose 2.8% by January 11th and the S&P 500 composite index was up
a similar 2.8%.
China’s economic stimulus package was 3 times larger (per unit
of GDP) than the stimulus package in the U.S. In addition,
China’s money supply growth at the end of 2009 was at a 30% rate
and bank lending rose 96% in 2009. As a result, China’s GDP grew
by 8.7% in 2009 (up 10.7% in Q4/09). Chinese imports grew 56%
year over year, while Chinese exports grew 18% year over year.
In an effort to reduce the brisk growth rate the Chinese
government has targeted a 22% reduction in bank loans in 2010.
The loan reduction announcement raised concerns about a Chinese
economic slow down causing commodities and commodity related
stocks to decline in the second half of January. Oil was down
8.2% and copper was down 9% in January. As a result energy and
metal mining stocks (plus financials) declined the most. The
S&P/TSX composite index was down 5.6% in January. The
Philadelphia Semiconductor index declined 12.2% as a significant
amount of semiconductors are exported to China. The Nasdaq
composite index was down 5.4% in January.
Q4/2009 earnings for about 2/3rds of S&P 500 companies were
reported by early February. Earnings were up an encouraging 16%
year over year on 2% year over year sales growth (both figures
exclude the results of the Financials sector). The Q4 results
exceeded analysts expectations for earnings and sales for about
¾ of the companies that have reported.
The European Central Bank is enforcing fiscal discipline on
Greece and other ECU member countries with spending cuts and tax
increases to reduce deficits as the European Charter includes a
no-bailout clause.
Concern about the levels of debt of Greece (12.7% of GDP),
Spain, and Portugal lead to the 8.4% rise in the U.S. dollar (DXY)
from November 25th, 2009 (74.22) to early February (80.44).
David Rosenberg, Chief Economist and Strategist at Gluskin Sheff,
notes that since the credit crisis in 2007 there have been 3
times (averaging 65 days) when a surge in risk aversion caused a
period of U.S. dollar strength. Assuming January 13th was the
start of the period of the Greece et al debt concerns, from a
time perspective we are about half-way through the U.S. dollar
rally.
If the U.S. dollar (DXY) pulls back below 80 technical analysts
believe it could lead to a rally in commodities and commodity
stocks over the next several months.