Optimism was thick on Wall Street last week as the nation celebrated another birthday. It looks like the positive future outlook has gone about as far as it can by itself. Now what is needed is positive earnings comments from reporting companies. We should find out if that is possible as second quarter results are reported starting this week.
I have revamped my earnings model section in order to make it simpler and cleaner.
I will be using the same indicators as before but organizing them a bit differently.
First, looking at earnings estimates for this year, they are still in a modest decline. I am now starting to factor in 2014 expectations because we are in the second half. Still, we are in a modest decline and the indicator is neutral.
Looking at earnings 52 weeks ahead, estimates are still in an upward trend but are decelerating. The indicator is still positive, however.
With one indicator positive and one indicator neutral, my maximum earnings exposure is 75%.
Then, I consider the gap between reported earnings over the last year and earnings 52 weeks ahead. That gap is still more than 28% and it is growing.
When the gap is more than 20% and growing I subract 25% from my maximum earnings exposure, leading to a maximum exposure of 50% for the earnings factor.
This is also a cap that will be imposed on total exposure if it is greater than the cap.
Odd lot investors have moved away from an extreme bearish position as they have
increased their levels of shorting. This indicator remains neutral.
Exposure remains at 50% this week, same as last week.
Small option buyers have become more cautious and have reduced their call buying.
They remain at a neutral sentiment level.
Exposure remains at 65%, same as last week.
NAAIM managers have gotten quite a bit more concerned and have increased their cash position significantly.
Exposure increases to 80% this week, up from 65% last week.
Average sentiment exposure this week is 65%, up from 60% last week.
Percentage of stock prices represented by net current assets remained the same last week so
exposure continues at 20%, same as last week.
Comparison of stock earnings yield to ten year treasury yield declined last week in view of the sharp increase in interest rates.
Exposure declines to 10%, down from 20% last week.
Total valuation exposure is 15%, same as last week.
To combine these three factors, I multiply them together and then take the cube root.
This week, that number is 37%, same as last week.
My comparison of yields on treasury bonds compared to lower quality corporates remained
positive last week. I add 10% to account for this factor.
New highs - new lows on the Nasdaq are still positive. I add 20% to account for this factor.
Total technical adjustments this week are +30%, same as last week.
After adjustments, but before the cap mentioned above in the earnings section, total exposure for the week would be 67% or, after rounding, 75% compared to 75% last week.
Imposing the current cap because of the uncertain earnings picture leads to total exposure this week of 50%, up from 25%
Richard Moore, CFA
With my wife in Hawaii