Call me a flip-flopper (a term much in the news lately), but last week's horrible market action actually made me feel a bit better about the market outlook going forward. As you may recall, I was on the verge of moving my long-term market outlook to neutral from bullish for the first time since this bull market began. That still may be the outcome, but my indicators didn't fall into neutral territory last week. This signals that the current weakness may just be an extension of a simple correction that began way back last summer.
Just looking at the situation anecdotally, the talking heads on the business channels have moved en masse to the belief that a recession is almost a given at this point. While it would probably be the most widely forecast recession in history, the more important point is that the market has probably already discounted most of the recession probability.
The other factor to consider is that the government is not going to sit idly by and watch the economy go into a tailspin during an election year. There could be some positive surprises coming from that dynamic.
And in the meantime, most industries and companies are posting pretty good results.
I could sense an increase in fear last week, a feeling borne out by a higher-than-expected level of shorting by odd-lot investors as the week wore on. In the end, this indicator is still close to going neutra,l but it managed to stay in bullish territory last week.
The average stock performed worse than the major stock market averages last week, with the Value Line Geometric Average close to hitting a new low for this correction. This indicator is still rated as neutral.
Finally, let's look at a measure of stock market valuation:
This chart shows the ratio of high-quality corporate bond yields to the earnings yield (inverse of the P/E ratio) on high-quality stocks in red. The
S&P 500 is shown in black.
The theory behind the chart is that when bond yields are near stock yields (a ratio of 1.0), stocks are valued too cheaply. When bonds yield twice what stocks do, stocks should be sold.
As you may recall, I showed this chart a few weeks ago when the ratio was at the lowest point in the past several years, around 0.8. I commented at the time that even though earnings may be reduced, this indicator was likely to stay in bullish territory.
Since that time, earnings have indeed been reduced and bond yields have actually increased, but the indicator has risen to a still-attractive level of 1.1. There could, of course, be additional earnings weakness, but at least for now, I view this indicator positively.
Considering all these longer-term indicators, I am maintaining my bullish stance.
My intermediate-term indicators remained range-bound last week, but they are close to becoming more bullish. At this time, confidence levels of smart investors compared to dumb investors remain bullish. The level of put buying compared to call buying of individual equity options on the CBOE remains neutral. Finally, the level of odd-lot sales compared to odd-lot purchases remains bearish.
Given this set of indicators, my target cash position remains at 10%. The actual cash position of my IRA at the end of last week was 8.4%.
Last week I took a new position in
L.S. Starrett
(SCX)
. This company specializes in the manufacture of measuring equipment such as steel rules, calipers and gauges, but also makes many other types of small tools. Starrett is currently doing everything right by moving production to low-cost locations, making acquisitions and expanding internationally where the company is generating most of its growth.
After some rough times, the company returned to profitability in fiscal 2007 (ending June 30) as sales increased 10.7%. In the first quarter ended Sept. 30, sales were up 16.4%, and EPS increased to 35 cents from 3 cents last year.
The stock's valuation seems very low with an enterprise value/EBITDA ratio of only 4.6 times currently, well below the market and 35% below the median company in the small tools industry.
All this good news, though, didn't prevent the stock from declining 11.1% after I bought it last week, probably influenced by some negative comments emanating from
Black & Decker
(BDK)
. This decline has influenced me to be more careful about buying good stocks in out-of-favor industries in the future. Live and learn.
I had some other problems to endure last week as well.
Open Text
(OTEX)
was down 10.4% and continues to look attractive.
Elizabeth Arden
(RDEN)
was down 10.1% for no reason that I can determine. This stock is one of the cheapest in my portfolio, but the relative strength is missing at this point.
The table that follows shows all the current holdings in my IRA as of the end of last week:
| Symbol | Name | Purchase Date | Cost | Price | Gain |
| Regular Holdings |
| AXYS | Axsys Technologies | 8/27/2007 | $24.14 | $39.49 | 63.59% |
| CALM | Cal-Maine Foods | 4/16/2007 | $13.30 | $24.34 | 83.01% |
| CF | CF Industries | 5/3/2007 | $40.57 | $96.99 | 139.07% |
| CTV | CommScope | 8/15/2007 | $50.79 | $45.77 | -9.88% |
| ENS | Enersys | 11/13/2007 | $19.20 | $24.00 | 25.00% |
| EXAC | Exactech | 11/5/2007 | $21.00 | $19.33 | -7.95% |
| FTO | Frontier Oil | 9/7/2007 | $40.60 | $41.52 | 2.27% |
| GIB | CGI Group | 3/9/2007 | $8.52 | $11.39 | 33.69% |
| ICFI | ICF International | 9/14/2007 | $25.28 | $24.72 | -2.22% |
| KCI | Kinetic Concepts | 2/6/2007 | $49.75 | $51.75 | 4.02% |
| LAYN | Layne Christensen | 5/22/2007 | $41.26 | $46.33 | 12.29% |
| MEAS | Measurement Specialties | 10/29/2007 | $27.94 | $23.15 | -17.14% |
| NCX | Nova Chemicals | 9/24/2007 | $39.18 | $32.84 | -16.18% |
| OTEX | Open Text | 9/14/2007 | $25.68 | $30.66 | 19.39% |
| PRXL | PAREXEL Int'l | 6/12/2007 | $39.80 | $46.13 | 15.90% |
| RDEN | Elizaberth Arden | 7/18/2007 | $23.44 | $20.50 | -12.54% |
| RSTI | Rofin Sinar Technologies | 9/21/2007 | $35.06 | $46.53 | 32.72% |
| SCX | L. S. Starrett | 12/10/2007 | $18.88 | $16.79 | -11.07% |
| SGY | Stone Energy | 11/1/2007 | $43.74 | $45.42 | 3.84% |
| SY | Sybase | 11/13/2007 | $25.79 | $25.39 | -1.55% |
| URS | URS Corp. | 8/28/2007 | $50.03 | $53.40 | 6.74% |
| WDC | Western Digital | 8/31/2007 | $23.33 | $29.75 | 27.52% |
| One Month Screen |
| CLHB | Clean Harbors | 11/26/2007 | $55.46 | $51.02 | -8.01% |
| KEX | Kirby Shipping | 11/26/2007 | $43.49 | $48.96 | 12.58% |
| LB | Labarge | 11/26/2007 | $14.74 | $14.36 | -2.58% |
| LDG | Longs Drugs | 11/26/2007 | $53.88 | $51.12 | -5.12% |
| MGLN | Magellan Health Plan | 11/26/2007 | $45.94 | $45.01 | -2.02% |
| Performance Results As Of 12/14/2007 | IRA | S&P 500 | |
| Quarter To Date | 0.8% | -3.9% | |
| Year To Date | 30.5% | 5.0% | |
Total Return For IRA
S & P 500 Does Not Include Income For Latest Quarter |
Best wishes for a very Merry Christmas!
Please note that due to factors including low market capitalization and/or insufficient public float, we consider Axsys Technologies, Exactech, ICF International, Measurement Specialties, L.S. Starrett and LaBarge to be small-cap stocks. You should be aware that such stocks are subject to more risk than stocks of larger companies, including greater volatility, lower liquidity and less publicly available information, and that postings such as this one can have an effect on their stock prices.
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At the time of publication, Moore was long Axsys Technologies, Cal-Maine Foods, CF Industries, CommScope, Enersys, Exactech, Frontier Oil, CGI Group, ICF International, Kinetic Concepts, Layne Christensen, Measurement Specialties, Nova Chemicals, Open Text, PAREXEL Int'l, Elizaberth Arden, Rofin Sinar Technologies, L. S. Starrett, Stone Energy, Sybase, URS Corp. and Western Digital, although positions may change at any time.
Richard Moore, CFA, has 40 years of experience in various facets of the investment business. He has been employed by banks, mutual funds and investment advisory organizations during his career and has also owned retail and service businesses. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Moore appreciates your feedback;
click here to send him an email.
Read our conflicts and disclosure policy.
