NEW YORK (TheStreet) -- Doug Kass of Seabreeze Partners is known for his accurate stock market calls and keen insights into the economy, which he shares with RealMoney Pro readers in his daily trading diary.
Among his posts this week, Kass noted the factors that could keep the markets from declining further and explained why banking stocks could rise in coming months.
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Buffers of Support
Originally published on Aug. 19 at 8:08 a.m. EDT.
Tactically, I continue to stick my neck out: I see a successful test between 1130 and 1150 on the
. This guesstimate would lead to the view that support is somewhat above the lows of last Monday night.
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To repeat, I see the following buffers of support that could insulate the markets from further declines:
- There will be no double-dip (the negative feedback loop is hurting business and consumer sentiment) but other hard economic indicators don't signal a recession.
- Interest rates are anchored at zero;
- Inflation and inflationary expectations are contained.
- Strength of corporate balance sheets and trailing profits are strong.
- Valuations are reasonable.
- 55% of the all S&P stocks now yield more than the 10-year U.S. note.
- Risk premiums (the difference between earnings yield and corporate bonds are near record levels).
- Investor expectations are limited.
- Derisked hedge funds (ISI Hedge Fund Survey reports net exposure down to 45.8%, the lowest level in two years).
- The wholesale abandonment by the individual investor ($30 billion withdrawn last week alone).
- The possibility of a large reallocation out of low-yielding bonds and into stocks.
Banking on Upside
Originally published on Aug. 19 at 7:30 a.m. EDT.
" If you can keep your head when all about you
Are losing theirs ...
You'll be a Man, my son!"
-- Rudyard Kipling, If
Last night on "Fast Money," we examined the opportunities in the eye of the hurricane -- the U.S. bank stocks.
I opined that in the next few months the bank sector (as tracked by the
) could rise by 10%-15% and, potentially, lift by more than 50% over the next six to 12 months.
But first I objected to characterization by a panelist that the world's economies were falling off the cliff. (I also accused Chaminade "Joe" of extrapolating the very weak Philly Fed as a precursor to a domestic recession -- I misinterpreted what he said, and I apologize for that!)
Weak business and consumer sentiment is indeed a byproduct of the negativity feedback loop I have been writing about over the past week. But I would emphasize that certain hard gauges of real-time activity (in production, retail sales and employment) are holding up far better than the sentiment numbers. For example, the leading indicators usually flash recession only when the numbers are negative -- but the LEI is up 6.2% year over year. I also pointed to retail sales that were also holding up well through the middle of August. (As an example, Johnson Redbook sales were +4.7%.) Important gauges of employment also point to stability, not weakness. The four-week moving average of initial job claims is at the lowest level in four months and the rate of growth in withholding tax receipts have actually accelerated from under two percent to +2.7%.
Moving to bank stocks, my case was made based on the following factors:
Forced liquidations: Recent weakness is, in some part, due to forced hedge fund liquidations and high-frequency trading strategies that are exacerbating the sector's weakness. We are in a panic mode for the industry's share prices, in part reflecting concerns over Europe's fragile banking system.
Franchise Values or private market values are enormous relative to current stock prices. In housing, Bank of America and Wells Fargo will have the residential real estate markets to themselves in the period ahead. JPMorgan Chase and Citigroup will become the go-to lending institutions, not only in the U.S. but around the world.
Market Share Gainers: With the shadow banking industry obliterated, the European banks (many of which have U.S. branches) suffering and consumers less likely to expose themselves to banking in smaller, local banks, the largest banks in this country will dominate banking in the years ahead.
Improved Balance Sheets: The banking industry has delevered and is far better shape in terms of capital and liquidity than most investors realize. They are prepared for short-term funding disruptions.
Income Statement Strength: Pretax income before provisions is strong for the industry and very sustainable -- and I see the coming earnings reports as supportive of this and as a possible catalyst to higher prices. And as Karen Finerman mentioned a few weeks ago, the stocks trade at absurd levels relative to 2013-14 earnings power. Today Citigroup is less than 57% of book value. And at $7 a share, BAC shares are implying another $70 billion of writeoffs and that the bank will only be able to achieve a mid-single-digit return on the depleted equity base.
Economic and Housing Concerns Are Now Consensus: My long-held concerns about the housing market, the impact of low interest rates on net interest margins and my view that economic growth would disappoint have now become consensus. And, with share prices down so far, those concerns have been largely discounted.
Low Interest Rates Have a Silver Lining: When the inventory of unsold shadow inventory is worked off -- and we are beginning to see it (that wonderful agency Standard & Poor's just came out with a 130-page report yesterday that shows that it is beginning to be worked off) -- low interest rates will probably accelerate the process. Low rates also improve the consumers' balance sheet and income statement (mortgage service is a large component of incomes), and this will allow for a continuation of the trend over the past 12 months of improving credit quality trends.
In summary, the largest banks that have scale are the best positioned.
Doug Kass is the president of Seabreeze Partners Management Inc. Under no circumstances does this information represent a recommendation to buy, sell or hold any security.