Paradoxes Prevail
Since November, politics has dominated the financial news. The new Administration continues irregular progress with its campaign promises, faltering with reworking broad medical coverage. This led to reduced expectations that the tax cuts so eagerly awaited by the business community will become law anytime soon. When combined with developing uncertainties from Britain’s divorce from the EU, increased tensions with Russia, the French elections and threats from the grotesque government of North Korea, the news presents stock investors with several worries. Still, the stock market is up five percent in 2017.
Geopolitical crises are unsettling to all of us but their effect on stock prices is surprisingly mild. The attack on Pearl Harbor dropped 3% on the following Monday and made up these losses in a month. They were up 50% when that war ended and also gained during the Korean and Vietnam Wars. More recent conflicts ranging from the Gulf Wars, Kosovo and Afghanistan also ended in market gains. One theory is that national cohesiveness develops during military creases, soothing market volatility.
Stock markets usually tumble in the midst of optimistic complacency. The dot.com euphoria from 1995 to 2000 took the technology-heavy NASDAQ average from 1,000 to 5,000 and the Price-earnings ratio over 200. The NASDAQ fell 78% in 30 months, a Darwinian purge whose survivors are the leaders of the technology sector today.
Greed also led to the global real estate bubble of 2007-2008. Euphoria prevailed and borrowing was absurdly easy on little or no collateral for almost any purpose. Even Fed Chairman Alan Greenspan said in 2005 that there was “a little froth” in the U.S. housing market. There certainly was and the inevitable crash took over 11 million homes in the U.S. into negative equity.
“Irrational exuberance” [greed] is always hard to perceive in the middle of clouds of optimism. There are rational underpinnings for market growth, many reflected in the developing reporting season for quarterly corporate earnings reports. Initial reports are mildly encouraging. Three-quarters of the company announcements so far report higher earnings per share than prior estimates. Over half are reporting higher sales than expected.
In the strong financial sector, Goldman Sachs dropped on earnings shortfall attributed to trading losses. Morgan Stanley (MS-$42) beat estimates and remains my favorite among investment banks. JP Morgan Chase (JPM-reported $1.65 quarterly earnings per share (“eps”) against estimates of $1.52. Bank of America (BAC-$23) earned $.41, beating estimates of $.35. BlackRock (BLK-$382) reported eps of $5.25, handily beating estimates of $4.94.
Amazon (AMZN-$903) reports next week and Apple (AAPL-$142) in two weeks. Amazon estimates are all over the place, ranging from $1.10 eps to $2.35. Its revenue reports are more critical to this online giant and should be around $35 billion for the quarter, up from $29 billion. Apple should report $2.00-$2.02 for the quarter, up from $1.90. Its full year estimates should be close to $9.00, yielding a very reasonable valuation of 16 with a 1.6% dividend yield. Before 2020, one of these companies will undoubtedly reach a market cap (share price times number of shares outstanding) of a trillion dollars.
Large, forward-looking technology companies like these two should form the core of stock portfolios. These replace the traditional conventional recommendations of big oil companies, big steel, gold miners and faded wonders like Polaroid and Eastman Kodak. Big biotech companies should take their place. Big pharma and biotech slipped when Johnson & Johnson missed earnings estimates, creating a buying spot for Amgen ($162), and Celgene (CELG-$123), before they both report earnings in another week. Jazz Pharmaceuticals (JAZZ-$154) is resuming growth after winning a patent suit and may return to our portfolios.
The headlines are troubling but these often accompany investment opportunities for investors who keep their cool. Paradoxes will always prevail as Dickens wrote, “It was the best of times, it was the worst of times, it was the age of wisdom, it was the age of foolishness . . .”
Tony Crowell manages stock portfolios for individuals and their trust and retirement accounts with CROWELL•ROBERTS Investment Counsel, a registered investment advisor in Laguna Beach since 1995. [email protected] 949.494.1376/800.697.2622
