|
Portfolio strategy update CURRENT MARKET NEWS
Editor's Note: The following portfolio update is from David Gottstein's monthly Dynamic Research Group's newsletter. It was compiled in early June. Bull or bear By some measures, we are experiencing a bear market. This is particularly true if you have been heavily exposed to the Nasdaq. With both the Dow and the S&P500 down more than 10 percent from their highs, investors are starting to sfeel pain on a broad basis. From a statistical perspective, we may well have entered bear territory. Is this the end of the free ride? Technically, the market is terrible. The Fed is poised to continue raising interest rates until they kill any super growth model, which is growth in excess of 3.5-4 percent. Will they do too much and throw us into a recession? With broad market PEs hovering around a historically high 25, there are those who argue that the bubble is about to burst. There are real reasons to be concerned.
On the other hand, earnings, when compared with a year ago, came in a strong 20 percent higher for the first quarter. However, they were fairly flat against the previous quarter. Earnings growth momentum may have already peaked. We believe that looking out over the horizon, the Fed will succeed in slowing the economy down moderately. They are justified in doing so because inflation pressures, particularly in the wage area, have been increasing. We think the landing will be a 2.5-3.5 percent GDP growth of about 10 percent going out three to five years, which is more in line with historic norms. Once that happens, and productivity and supply factors rein in inflation, then further rate increases won’t be necessary. The result will be a continuing rise in fair values in stock prices. Therefore, in the intermediate-to-long term, the bull market still seems to be on track to provide investors with more normal 8-10 percent returns, with risk premiums relative to bonds reduced to about 2-3 percent. In the short run, however, we wouldn’t be surprised to see further market weakness, particularly in the high technology and momentum driven Nasdaq. However, for longer-term investors, further price weakness represents an opportunity to purchase high quality issues at sale prices.
The China factor After a long, hard-fought battle, China is going to enter the World Trade Organization. This could have a profound impact on the global economy moving forward. We think the market will see it as a plus, but we will reserve final judgment on the prospects for improving general earnings growth until some results are in. Recent experiences by Coke, Chrysler and other companies may make others reluctant to invest in China. It seems every generation of management has to learn lessons from the Chinese leadership.
Will it be different this time? Will foreigners be able to profit from China? We think there are still no guarantees here. In the past, if China cheated and stole, it hurt its ability to trade. Now if it cheats and steals, it will be in the world trade body. If China plays by the rules and if there is two-way, free-flowing trade, the situation will be win-win for everybody.
Keep some powder dry Even though we think the bull market will continue, there are short-term risks that remain a bit above average. That is why we are increasing our cash or money market position to 10 percent this month.
Another positive for the market may be the growing perception that Bush will win the presidency. If a Bush victory becomes more apparent, tax changes such as the elimination of estate taxes and other reductions could help propel the market forward towards the fall.
Otherwise, we think that at best, we are headed for a trading range where stock selection becomes even more critical.
Good luck this month.
|
