Saturday, February 21, 2015

Planes, Tranes, and Automobiles

2015 has seen the return of durable goods…really durable goods like planes, trains, and automobiles as respective leaders in the Dow's performance. A coincidence? I think not. After the perilous days of 2007, 2008, and 2009 when demand for durables basically collapsed, we saw the fall of the American manufacturing sector.  On the heels of the financial meltdown, a number of iconic GLOBAL manufacturers went bankrupt leaving investors and workers alike out in the cold.

Why the turnaround today? 5 years in the making the shift into overdrive is the result of a cash tsunami from sovereign entities that propped up the massive durable good sectors; manufacturing is time, labor, and capital intensive. These manufacturers became leaner and competitively meaner.

With the Fed reluctant to raise rates anytime soon due to an almost complete lack of gauged inflation, tepid GDP, and basically zero real wage gain I suspect "the fix is in" for planes, trains, and automobiles. Their labor rates, although variable, are typically negotiated for years at a time. Commodity costs have collapsed. Easy money from the Fed, tightening in the labor market, and a recovery in the real estate market all point to continued gains in durables.

Monday, February 2, 2015

2015…the Year of P/E Compression?

What if revenues continue to rise AND profits similarly increase in 2015 yet stock prices remain stagnant (which, based on the January 2015 close is looking like a likely scenario), well then I believe we will have a classic case of Price-to-Earnings compression. Similar to a spring which is compressed by force, the dynamics of the stock market work in a similar, if not identical process, to the linear compression of a spring.

Over time increased revenues which translate to higher and higher earnings have typically reflected their respective advances in increasing stock prices.

When this trend deviates it is typically an abnormal movement in the traditional relationship which generally results in equilibrium (price appreciation) being restored at some point.

The question always, is when? When does the spring bounce back? If indeed GDP is slowing (possible, but with oil's fall it should remain strong), then we can expect the typical bounce back to occur when that point of "tensile" strength (i.e. greed) overwhelms the compression of earnings.

Historically this has been a rapid fulfillment of missed bounce. With nearly all the economic factors lining up in favor of increased GDP, low interest rates, low gas prices, lower manufacturing costs, increasing home values, and decreased unemployment we are in the midst of a great revenue cycle. 

In the short term stock prices may remain "unsprung," but over time the reflection of increased corporate profit should translate to a significantly higher market.