I'm traveling this week so I don't have a full update. I do know, though, that there is no change in my model's fully hedged position. Last week was a sloppy one with many smaller companies hit hard. Earnings are still OK and valuation is improving a bit. The unemployment rate should be reported at the end of the coming week and I am using an increasing rate as one of my signals to stay hedged. If there is a good report and valuation improves some more, my hedges may be able to be lifted. We shall see.
In order to be able to put more money into my screening system I have added 10 stocks to the portfolio size, making a total of thirty. That has changed the history on my model somewhat, making some historical periods better and some worse. Overall, though, there hasn't been much change in the CAGR. Drawdown is quite a bit better, however. There are no substantive changes in my model this week. Earnings estimates are increasing slowly, valuation is poor and the unemployment rate is still higher than it was a few months ago. I am maintaining a fully hedged position, waiting for better opportunities. Looking at sentiment, it is apparent that most investors have become complacent about the future and are very reluctant to sell stocks without having a better place to put their money. That will probably continue to work as long as the economy grows, but all bets are off if a recession materializes. I think there is a strong possibility that economic weakness could become much more evident going forward.
The recent volatility has been well received by small investors and speculators who have largely adopted a "buy the dips" philosophy. But last week saw a relatively large decline in earnings expectations. If that were to continue, the market would be in serious trouble. Valuation improved a bit last week but it is certainly not bullish. Increases in the unemployment rate over the last few months are also worrisome. My stocks have held up relatively well. KMG reported good earnings and was up 6.8% while LCUT increased 6.1% last week. On the downside, TTMI declined 8.7% and NTGR was off 6.3%. My Russell 2000 hedge was up, of course, and I continue to feel comfortable in a fully hedged position.
Obscenity and lewdness are in the news this weekend and it gives investors a diversion from the uneventful actions of the stock market. The three year chart shown above shows that my screen and model are maintaining a comfortable lead over the Russell 2000. Last week was an "up" week for me but not for the market. CENTA and INCR were up 4%+ while SWHC was down 4%+. I continue to hold those stocks. I also continue to hold a fully hedged position due to problems with valuation. Third quarter earnings will start being released soon and they are expected to be down again for the sixth consecutive quarter. Earnings expectations for the coming year are still positive, though, so I will be watching closely to see if the optimism continues. It seems like the only optimism being expressed these days is by investors - other events leading up to the election are all pessimistic, and rightfully so.
The market continues to bounce around but doesn't make much progress. A small gain in the S & P 500 was offset by more down stocks than up stocks last week. My portfolio had a nice gainer in NUTR but also some losers like PBPB, CPS and LZB. There is no change in my model's outlook. Valuation still is way too high. Sentiment is on the negative side of neutral and earnings are still expected to increase over the next 12 months. As has been the case for some time, I am maintaining a fully hedged position.
Richard Moore, CFA
With my wife in Hawaii