Could this Political Circus

Could this Political Circus Derail a Fragile Bull Market?

by Louis Navellier

October 18, 2016

*All content in the Marketmail Introduction is the opinion of Louis Navellier of Navellier & Associates, Inc.*

The S&P 500 fell 1% last week and -1.63% for the first half of October, due in part to this dismal political scene.  The S&P is up only 1.2% in the past 15 months, as investors are distracted by this political circus.  The last Presidential debate was an outlandish mix of Entertainment Tonight and Ultimate Fighting, while the third (thankfully final) debate tomorrow night promises to be even worse.  Like most of America, we are simultaneously in shock and being entertained, all at the same time, by this Presidential election cycle.

We’re seeing that when Donald Trump seems backed into a corner, he will come out fighting and will not hold back.  Like a good boxer, Trump seems to want to lure the media into beating him up; and then, when he seems to be on the ropes, he counter-punches viciously.  Trump seems to be running against what he calls a biased news media – as well as the Washington establishment, including many in his own party!

BoxingGloves.jpg

Like much of America, I do not think that the Presidential election can get over soon enough, so we can finally move on, but there may be some glitches after the election.  The Electoral College naturally favors Hillary Clinton, but she needs a big winning margin.  Trump will benefit from a strong turnout from his passionate anti-establishment base.  My fear is that Hillary Clinton will win the Electoral College by just a few votes, causing recounts in one or two states.  I would not be surprised if Trump tries to contest those states and declare that the process is “rigged,” causing the political circus to continue after Election Day.

This political circus won’t hurt the stock market much, in my view, if Hillary emerges as a clear winner. But if a recount is required, then any prolonged vote count will tend to promote even more uncertainty.

Like the political world, the stock market sometimes lives in a fantasy world.    The analyst community is almost always too optimistic, so I expect wave after wave of analyst earnings estimate cuts in the New Year.  In the meantime, third-quarter earnings for the S&P 500 are expected to decline by -0.7%, which would be the sixth quarter in a row of negative earnings; but when energy and financials are excluded, the earnings environment is actually positive and gradually improving, thanks in large part to more favorable year-over-year comparisons from the negative growth rates in late 2015.

In This Issue

In Income Mail, Bryan Perry updates the income-investing options during times of rising rates.  In Growth Mail, Gary Alexander reviews the Forbes 400 in light of our favorite sector these days, Info-Tech.  In Global Mail, Ivan Martchev updates his views on the tradeoffs between the euro, pound, and dollar, while Jason Bodner turns his attention to the lowly penny and some related market anomalies.  In my concluding column, I’ll cover quarterly earnings news and our short-term (fourth-quarter) outlook.

Income Mail:
The Bullish News About Rising Interest Rates
by Bryan Perry
Where to Invest for Income When Rates Rise

Growth Mail:
Some Investments Are More Equal than Others
by Gary Alexander
Forbes 400 Includes 42 Immigrant Billionaires

Global Mail:
The EU’s Common Currency is Not So Common
by Ivan Martchev
A Fed Rate Hike Would Make Matters Worse

Sector Spotlight:
In Markets, Price Anomalies Are Normal
by Jason Bodner
Rotating Sectors Reflect an “Inefficient Market”

A Look Ahead:
S&P Earnings Hurt by Weak Energy & Financial Results
by Louis Navellier
The FOMC Minutes Reveal a Sharply Divided Fed

Income Mail:

*All content in "Income Mail" is the opinion of Navellier & Associates and Bryan Perry*

The Bullish News About Rising Interest Rates

by Bryan Perry

Bond yields have been moving higher over the past month as fixed income traders are taking the notion of the Fed raising rates in December more seriously. There is also a growing chorus of Fed officials talking up two more hikes in 2017 followed by two more in 2018. Even if there are five of these quarter-point rate increases, the Fed Funds Rate will be at or under 2.0%. That vaguely resembles a “normalization” of monetary policy, but investors and global markets have gotten very accustomed to super-low rates.

With that said, the old saying “don’t fight the Fed” is surfacing again. With the S&P 500 trading near its all-time high, there is an elevated level of chatter as to how high the market can trade in a rising-rate environment. Actually, it might surprise most investors to learn that, historically, equity prices have often rallied in both the run-up to policy rate-hike cycles and in the year following the onset of rate increases.

During one of the stronger growth periods for the U.S. economy, the Fed Funds Rate increased from 1% in June 2003 to 5.25% in June 2006 (source: FedPrimeRate.com). The rate of GDP growth for those years was 6.42% for 2003, 6.31% for 2004, 6.52% for 2005, and 5.12% for 2006 (source: multpl.com).

As this chart (below) shows, the 10-year T-Note yield initially plunged below 4% after the dot com crash in 2000, and then moved back up to 5%+ as the economy quickly regained its footing. When that same rate bottomed in the low 2% range in early 2009, at the nadir of the Great Recession, it moved back up to around 4% with the subsequent recovery, before slowly and steadily declining to levels below 2%.

Historical Chart of the 10-yr Treasury Note Yield

Ten Year Treasury Note Historical Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

While there is no perfect historical precedent for the Fed’s extraordinary post-2008 monetary policy – which added $3.6 trillion to the Fed’s balance sheet – there is a precedent of equity market performance amid rising interest rates. Equities have advanced in the majority of periods when the broad economy was expanding and higher rates simply reflect the rising pace of economic activity. Economic expansion has historically included an underpinning of corporate earnings growth, which drives long-term stock returns.

The most recent example of this “stocks gain in an up-rate cycle” illustration is during the years 2012-13. While the yield on the 10-yr Treasury doubled from 1.5% to 3.0%, the S&P 500 had two of its best years on record, gaining 16.0% in 2012 and 32.4% in 2013 (including dividends), which compounds into a two-year rally over 53%. Since that massive run up, the market has been consolidating those torrid gains as the “E” (earnings) component of the market’s P/E ratio is playing catch-up with the “P” (price) component.

Standard and Poor's 500 Index and Price to Earnings Ratio

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

The forward 12-month P/E ratio for the S&P 500 is 16.4, based on Friday’s close (2133) and forward 12-month EPS estimates of $130 (source: FactSet Earnings Insight, October 14, 2016). A P/E of 16.4 is not expensive by historical standards and suggests there is room for P/E expansion if earnings growth can approach 10%. Zacks Research estimates the S&P will earn $116.79 this year, so any 10% gain (north of $128 for 2017) should keep the bull trend intact.

In the immediate wake of any change in monetary policy, however, markets can most certainly endure bouts of volatility and rapid sector rotation, as has been the case for the past month. Fund flows out of telcos, utilities, and consumer staples have been very pronounced, whereas fund flows into financials, information technology, select energy, consumer discretion, and natural resources have been quite bullish.

The repositioning of capital during September and October must be taken seriously, whether or not the Fed raises rates in December. Perception usually trumps reality in how markets trade and this natural law of the stock market is at work once again. Election years have typically been good for stocks, especially when the winner becomes a “known quantity” during the fourth quarter, when markets are most bullish.

Where to Invest for Income When Rates Rise

For income investors willing to take sector rotation at face value, the hunt for yield should be directed at assets that have high exposure to information technology, specialty business lending, cloud-computing data centers, freight forwarding, professional services, commercial packaging, chemicals, leisure, hospitality, and aerospace and defense. Rebalancing portfolios for income in a rising rate market doesn’t mean wholesale jettisoning of one’s favorite wireless telecom or local power utility, as these stalwarts may still be able to grow earnings and dividends, but they may underperform in the short-term.

Taking appropriate action to adjust for a changing investing landscape is prudent, especially if one’s portfolio is heavily skewed to long-term bonds and other fixed-income investments like preferred stocks, closed-end bond funds that use leverage to generate yield, and other long-dated assets, like Ginnie Maes or corporate bonds. These classes of securities stand to be at serious risk of principal erosion if and when the Fed embarks on a tighter monetary policy. As such, they should be considered candidates for reduction in the size of one’s position, or swapping for shorter-term maturities and settling for lower yield.

It pays to be proactive because markets tend to overreact to the upside and especially the downside. Taking a dynamic approach to the changing investment landscape and being sensitive to possible shifts in Fed policy and investor sentiment is best done by reducing exposure to fixed-rate assets and moving more into rate-sensitive assets. Having some cash on the sidelines during a transition in interest rate policy can also reduce risk while affording opportunities during short-term bouts of market selling pressure.

Fear is so much greater than greed and when many rate sensitive higher-yielding assets get thrown out with the fixed-income bathwater, it really pays to have some dry powder that can be put to work into heavily discounted assets. Having a well-seasoned strategy that is targeting dividend growth and is also highly adaptable to changing market scenarios can also be a valuable asset in one’s investing tool kit.

Dividend yields are currently paying out more than the 10-year Treasuries. As long as that disparity exists – and it is my view that it will continue for many more quarters and maybe even years – capital dedicated to yield will keep flowing into dividend-paying blue chip stocks that are doubling their dividend payouts every six to seven years. At Navellier & Associates, we have massaged our dividend-paying strategies based on this outlook for several years and will continue to do so for years to come.

Growth Mail:

*All content in "Growth Mail" is the opinion of Navellier & Associates and Gary Alexander*

Some Investments Are More Equal than Others

by Gary Alexander

I’ve lost my shirt on some tech stocks – investing in “great ideas” that didn’t pan out.  I’ve also had some big winners.  They tend to even out over time, but most of us know implicitly that some stocks are dogs with fleas, while others are solid citizens with decent dividends, and others become high-flyers over time.

Why should we then think that human beings are any different?  Is every teenage kid worth $15 per hour (as a minimum wage), while no CEO is brilliant enough to be worth more than, say, $1 million per year?

Granted, there is great income inequality in America, but is that a bad thing?  Not if the doors remain open for anyone to climb to the top, with enough brains and hard work.  Look at the sports world, for instance.

We’re entering that time of the year when all four major professional sports are running at once.  Baseball is in its end-game, football is in mid-season, while NHL hockey and NBA basketball are just beginning.

In this week’s American League baseball playoffs, Toronto shortstop Troy Tulowitzki earns $20 million a year while his keystone companion, second-baseman Devon Travis, earns $507,500.  This year, Travis is batting .300 to .254 for Tulowitzki, but Troy got a better contract due to his past power-hitting statistics.

Most NBA teams have one or two guys earning $20 million and a few others at half a million.  Is that fair?  The NBA-winning Cleveland Cavaliers will pay LeBron James $30,963,450 this year while half the team earns under $1 million, including two at $543,471, the NBA’s minimum wage.  That means LeBron earns 57 times as much as some of his teammates.  But he earns it.  He fills the seats and excites the crowds.  He led all players in the 2016 NBA finals in all categories – points, rebounds, assists, steals, and blocks – and his personal will to win turned that final series from an apparent loss into a triumphant Cleveland victory.

Ratio of the Average Annual Salary of Major League Baseball Players to Average United States Worker Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

There is also a lot of outrage over a few CEOs at a few underperforming large corporations who are paid too much, considering their sub-par performance; but that is a matter for board discipline, and you can be sure that a board will not stand for sub-par performance for long.  However, you look at the wide variety of CEOs of America’s largest 20,000 corporations, you’ll find that the average pay is moderate – not that far above America’s average employee.  According to the Bureau of Labor Statistics in its annual report on “Occupational Employment and Wages for 2015,” the average pay for “chief executives of companies and enterprises” in the 20,620 biggest corporations was $220,700 vs. $48,320 for the average full-time worker, a ratio of only 4.56-to-1 – the same as the previous three years and a bit lower than 2010 or 2011.

Ratio of the Average Annual Salary of Chief Executive Officers to Average United States Worker Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

So the pay imbalance is worse in sports and in Hollywood than it is in the 20,620 biggest U.S. enterprises.

Forbes 400 Includes 42 Immigrant Billionaires

The first Forbes 400 issue hit the newsstands on August 31, 1982, at the beginning of a big bull market in stocks.  The minimum to make the list then was $91 million.  It’s now $1.7 billion.  Steve Jobs and his associate Armas Markkula were at the bottom of the 1982 list.  Shipbuilder Daniel Ludwig topped the list at $2 billion.  Warren Buffett’s wealth then was $250 million, followed by Donald Trump at $200 million.

The latest Forbes 400 issue (dated October 25, 2016) focuses on the contribution of immigrants.  This year over 10% (42) of the Forbes 400 were born outside of the U.S.  Here are a few of those fortunate 400:

Hungarian immigrant Thomas Peterffy (#32 at $12.6 billion) was born in the basement of a Budapest hospital (due to constant air raids) on September 30, 1944.  He grew up under Soviet occupation.  He dreamed about coming to America, saying, “I believed that in America I could truly reap what I sowed and that the measure of a man was his ability and determination to succeed.”  At age 21, he escaped to America, landing at JFK airport in 1965 with no money and speaking no English, but, “I believed that in America, I could truly reap what I sowed and the measure of a man was his ability and determination to succeed.  This was the land of boundless opportunity.”  He learned how to program computers, created trading models, then electronic order exchanges, and then formed a brokers group, now worth $14 billion.  (His $800,000 salary is a bit low considering the wealth he brought to his staff, customers, and investors.)

Like Peterffy, George Soros (#19 in the Forbes 400, worth $25 billion) was born in Hungary.  There are many other immigrants, including youngsters (under 50) like Google co-founder Sergey Brin, born in 1973 in Russia.  He’s in the top 10, worth $37.5 billion.  Elon Musk was born in Pretoria, South Africa in 1971 and is now worth $11.6 billion (#34).  Jan Koum was born in 1976 in Kiev, Ukraine, came to the U.S. broke (on food stamps) but is now worth $8.8 billion (#50).  Jerry Yang was born in Taiwan; Peter Thiel was born in Frankfurt, Germany in 1967; and Pierre Omidyar was born in Paris, France in 1967.

Pakistani immigrant Shahid Khan could have gone to London, where there was an established Pakistani community, but he came to America and got a job as a dishwasher at night after school for $1.20 and loved it since “you just couldn’t get a job like that where I came from.”  He saved and started a business making bumpers for cars and is now #70, worth $6.9 billion, employing 12,000 Americans.  He bought an English soccer team and the NFL Jacksonville Jaguars.  You can’t find these kinds of stories in Europe.

Only 20 of the 1986 Forbes 400 (5%) were immigrants, but many of the 42 immigrants on the 2016 list have entered the tech field.  The National Foundation for American Policy says that over half (44 of 87) American tech companies valued at over $1 billion were founded by immigrants.  The Partnership for a New American Economy reports that immigrants started 28% of new businesses in the U.S. in 2011.  Immigrant-founded firms employ 10% of Americans in private business, generating sales of $775 billion.

Trails of Rich Immigrants Chart

This is not a new trend.  We’re a nation of immigrants.  The hit musical “Hamilton” includes a duet between France’s Marquis de Lafayette and Alexander Hamilton (born in St. Kitts and Nevis) at the end of Act I, singing, “The battle of Yorktown, 1781…We’ve had quite a run. Immigrants get the job done.”

Forbes estimated that five of the eight richest Americans in history, in terms of their personal net worth as a percent of GDP, were born abroad: #3-John Jacob Astor (Germany), #4-Stephen Girard (France), #5-Andrew Carnegie (Scotland), #7-Alexander Turney Stewart (UK), and #8-Frederick Weyerhaeuser (Germany).  Robert Morris, the financier of the American Revolution, was born in Liverpool, England.

Information technology is the sector our analysts favor today.  Many recent immigrants (and others) who have established the greatest U.S. fortunes did so in technology – including four of the five richest people in America (all but Warren Buffett), namely Bill Gates, Jeff Bezos, Mark Zuckerberg, and Larry Ellison.

Tech startups are famous for their lack of working capital – garage start-ups.  Steve Jobs and Sergey Brin didn’t need much capital to get started.  Information technology can thrive on less capital and isn’t so dependent on political trends or threatened by regulatory assaults.  According to a new book, The Upside of Inequality by Edward Cunard, “Success in the modern information-intensive economy often requires substantially less capital than the manufacturing based economy.”  He adds that, “Information technology – computers, software, smartphones and the Internet – not only has increased the productivity of trained talent, making their labor worth more, but it has also opened a window of new investment opportunities.

A surge in the demand for properly trained workers has driven up their wages relative to lesser-skilled workers.”  Notice how America’s income is flat at the low end but increases rapidly toward the high end.

Growth in Earned Income by Income Percentile Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

As you can see from this chart, the middle class (middle deciles, from the 30th to 80th) gains “escape velocity,” compared with Germany and France.  The rich get richer, but so does the U.S. middle class.

According to Cunard, America “has more income inequality but also faster employment growth at higher median incomes than other high-wage economies.  Rising income inequality is the by-product of an economy that has deployed its talent and wealth more effectively than that of other economies – and not from the rich stealing from the middle and working classes.  In truth, the outsized success of America’s 1% has been the chief source of growth exerting upward pressure on domestic employment and wages. The success of America’s 1% is an asset, not a liability.”  So let’s raise a toast to these job creators!

Global Mail:

*All content in "Global Mail" is the opinion of Navellier & Associates and Ivan Martchev*

The EU’s Common Currency is Not So Common

by Ivan Martchev

It was Voltaire who famously noted that, “Common sense is not so common.” His words come to mind when thinking about Europe’s “common currency,” as the euro is often dubbed. Since stabilizing in the first quarter of 2015, the euro has been in a trading range between $1.05 and $1.15 with a few minor stabs outside that box, in either direction. Two major tests of the bottom of that range ($1.05) “held support” (as traders like to say) and I suspect we are nearing a third such test, which may not hold, in my opinion.

Euro Versus United States Dollar - Weekly OHLC Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

If the British pound is destined to test its all-time low against the dollar ($1.05 in 1985), the euro should be under pressure too as a hard (no-trade) Brexit deal is as bad for Britain as it is for the EU. The euro closed on Friday at $1.0971, marginally undercutting short-term support at $1.10. The Brexit referendum lows were a hair above $1.09 on the dollar cross rate, which likely won’t hold in the next week or two.

The case for a “hard” Brexit is that if Britain is given a sweet trade deal, that will create incentives for other countries to leave the EU. Over the last year, the free flow of refugees that was sponsored by Germany is causing quite the nationalistic uproar throughout the EU now – not only Great Britain – which may cause right wing movements in France and other countries to follow the Brexit example.

It is unquestionable that Brexit weakened the EU to the core. By definition it also weakened the common currency, even though the euro has so far declined much less than the British pound. That said, much bigger declines are likely coming in the EURUSD cross rate upon a hard Brexit scenario.

The sales pitch behind the EU’s common currency was that it would bring down trade barriers by making trade and capital flows more efficient. If the dollar works so well in a federalist type of country like the U.S., with its multiple states, euro-sponsors thought the euro should also work in the EU confederation.

In reality, as the Greek economic fiasco shows and the PIIGS (Portugal, Italy, Ireland, Greece, and Spain) demonstrate, divergent economic models can put serious strain on the confederation’s currency. There are already signs that “all PIIGS are not created equal.” Specifically, Ireland – and Spain to a lesser degree – are moving in the right direction, while Italy has a very serious banking problem and Europe as a whole has a very serious deflationary problem. The inability of non-existent, flexible exchange rates to allow for more flexibility to help many European economies out of trouble is causing serious issues at present.

The introduction of the euro brought down overall interest rates in the euro-zone, which created asset bubbles and accelerated borrowing, which at the moment is resulting in a deflationary bust. The common currency may have been too much of a good thing as the strains are now beginning to appear.

European Financial Facility Stability Bonds Yield Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

While German 10-year bund yields are at 0.05% (technically positive in name only), European Financial Facility Stability bonds – which can be viewed as the confederate’s benchmark – are solidly in negative territory. I think Europe is far from fixing its deflationary problem. It will only get worse under a hard Brexit scenario. This suggests more unorthodox monetary policy interventions and a weaker euro ahead.

Euro, Dollar, and British Pound Exchange Rates Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Looking further back, using the formula of the fixed-exchange rates under which euro-zone currencies were folded into the euro, shows some interesting history. When we look at this “synthetic euro,” using its constituent currencies, a rather peculiar correlation reveals itself. Since the U.S. dollar is the reserve currency of the world, the EURUSD and the GBPUSD cross rates seem intertwined (above). When Soros “broke the Bank of England” in 1992 and the pound fell out of the ERM, that correlation was somewhat interrupted – the same way Brexit is wreaking havoc on the pound now. I think that the liquidity of pound trading is causing the sharper move, but I also think that the euro is ready to follow the pound lower.

It is rather ironic that the seeds of Brexit were sown by the highly successful Soros-led attack against the pound in 1992. A globalist like George Soros was against the Scottish independence referendum and against Brexit, but had Britain stayed in the European Exchange-Rate Mechanism (the predecessor to the euro), I seriously doubt that pragmatic people like the Brits would have voted to leave the EU if they had euro banknotes in their wallets. The fact that they still use rapidly-depreciating British pounds can be traced directly to George Soros and his star manager, Stanley Druckenmiller, and their 1992 pound trades.

It would not be an overstatement to say that the continued existence of the British pound and the independent monetary policy that comes with it became a facilitator of Brexit.

A Fed Rate Hike Would Make Matters Worse

Further complicating matters for the euro and the pound is the talk of Fed rate hikes in the middle of this global deflationary malaise. There is a $9 trillion synthetic short position against the dollar – based on the total amount of borrowing that has been done in dollars by governmental and corporate borrowers outside of the U.S. That number stood at $6 trillion at the end of 2008.

The Fed’s near-zero interest rate policy for the fed fund rate, as well as QE policies that encouraged borrowing in U.S. dollars, caused foreign borrowers to take on dollar debts. Many would then sell those dollars and spend them in their local currencies. Now that they have to repay those debts, they have to buy more expensive dollars with their depreciated currencies – due to the more precarious global economic situation causing a dollar surge. The talk of more rate hikes by the Fed is not helping this dynamic. In fact, any rate-hike talks act like kerosene on an already burning fire.

Thirty Day Fed Funds - Daily OHLC Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

It is peculiar to note that there is some disagreement in the interest rate market on whether a rate hike is coming in 2016 or not. So far there are no rate hikes forecasted by the December 2016 fed funds futures market (black line, above) and one rate hike forecasted by December 2017 fed funds futures (green line). The way we know this is by subtracting the fed fund futures contract price from 100, yielding a rate where futures traders expect the fed funds to be at the expiration of those contracts in December 2016 (0.4950%) and December 2017 (0.7550%), respectively. Since the present fed funds target rate is 0.50%, there is no increase seen for December 2016 and just 0.25% by December 2017.

United States Dollar LIBOR (London Interbank Offered Rate) Versus Fed Funds Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

As I’ve said in previous posts, the euro-dollar futures are also heavily correlated to the fed fund rate. Then there is the divergence between U.S. dollar 3-month LIBOR and the fed funds rate (see chart, above). While highly correlated at times, those rates can diverge. They did diverge massively in the 2008 crisis, less so in 2011, and they are diverging now. (LIBOR stands for London Interbank Offered Rate and is an indication of wholesale funding costs between banks. It tends to rise when banks don’t trust their counterparties or when there is a Fed rate hiking cycle expected.) I think the Deutsche Bank situation and feared rate hikes are driving the latest LIBOR divergence. Both situations are supportive of a higher dollar and therefore bearish for the euro, which comprises 57% of the U.S. Dollar Index. (Please note: Ivan Martchev does not currently own a position in DB. Navellier & Associates, Inc. does not currently own a position in DB for any client portfolios. Please see important disclosures at the end of this letter.)

Sector Spotlight:

*All content in "Sector Spotlight" is the opinion of Navellier & Associates and Jason Bodner*

In Markets, Price Anomalies Are Normal

by Jason Bodner

Consider this fact: A 2014 report from the U.S. Government Accountability Office stated that a penny costs about 1.7 cents to make; and that’s down from 2.4 cents in 2011! Don’t feel bad for the penny, it’s not alone, as a nickel was reported to cost 8 cents to make. The U.S. makes about 13 billion pennies a year and at least a billion nickels a year. Conservative estimates put the manufacturing loss at more than $100 million a year at minimum. Copper prices have plummeted in the past five years from almost $4 per pound to $2.10 last Friday, so a pound of pre-1982 pennies (95% copper) is worth $1.45 face value, but is worth $2.10 for its copper alone. That sounds inefficient to me!

Copper Prices Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

It’s a federal offense to deface U.S. currency, but it’s no crime to melt coins.  With pennies, it’s just not worth the trouble.  Instead, this penny-price discrepancy opens the doors of creativity: For instance, the car below is covered by $382.95 in pennies!

Penny Creations Image

“Price is what you pay; value is what you get!” This is one of my favorite Warren Buffettisms. It perfectly encapsulates the fact that market inefficiencies exist and they can be identified and exploited.

The efficient market hypothesis (EMH) is an investment theory that deems it impossible to “beat the market” because stock market efficiency causes existing share prices to always incorporate and reflect all relevant information. While it may be easy to dismiss this theory, first put forth by Eugene Fama in the 1970’s, some believe that with the advent of algorithmic trading, the conclusion may not be so foregone after all. I choose to believe the market is a naturally inefficient landscape where investors have the ability to exploit their own perceived imbalances in pretty much any time frame you can think of. From the 30-year horizon down to 30 nanoseconds, inefficiencies exist everywhere in nature and thus in markets, too.

Rotating Sectors Reflect an “Inefficient Market”

Let’s face reality: If market inefficiencies did not exist, there wouldn’t be continual rotations in sectors or individual stocks. This past year, we have seen some swift and frequent sector rotations. Just last week, Utilities and Real Estate surged into the lead, followed by Telecommunications. But these yield-focused sectors have also been the worst three-month laggards! In fact, month to-date Real Estate is still down 4.12% despite last week’s +1.2% rally. Tuesday marked a significant distribution day, and Health Care took the worst of it. The sector finished -3.27% for the week. With many polls favoring Hillary Clinton to win, the sector seems vulnerable to more potential pressure as a possible victory by Clinton firms up.

Standard and Poor's 500 Daily, Weekly, Monthly, and Quarterly Sector Indices Changes Tables

The story on a three-month level remains somewhat the same as what we have been saying for a while. The top three sectors for three-month performance are Information Technology, Financials, and Energy. Only Info Tech and Financials are positive for that time period, and only Info Tech is really a true bright spot, in my view. Energy and Financials remain on tenuous ground, but earnings may provide a boost. The bulk of earnings are yet to be seen, but for now, Info Tech remains the beacon of leadership.

Just look at the 1-year charts of the top two and bottom two sectors for three months’ performance. Info Tech and Financials seem to offset Real Estate and Telecom nicely. It’s this type of tug of war within the sectors that results in the choppy 1-year chart of the S&P 500 Index vs. its 5-year chart of solid growth.

Here are the one-year charts of the top three-month performers: Information Technology and Financials:

Top Three Performers One Year Charts

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Here are the one-year charts of the worst three-month sectors: Telecommunications and Real Estate:

Worst Three Month Sectors One Year Charts

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

And here is the 5-year (left) and 1-year (right) performance of the S&P 500:

One Year and Five Year Performance of Standard and Poor's 500 Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

There is a lot of talk about the market’s health looking brighter and rallying into the election, but I’d like to point out a few flaws in that theory. First, this is by no means an “ordinary” election. This election takes the cake in terms of mudslinging and new lows in terms of character defamation. Secondly, I’d like to point out that geopolitical tensions are beginning to flare up. Vladimir Putin is recalling Russian citizens from abroad, while positioning nuclear-capable missiles near the border of Poland. This is not confidence inspiring. In addition, oil still faces oversupply, corporate growth is not inspiring, and the S&P 500 currently trades at a trailing P/E of 24.68 vs. a mean of 15.62 for more than 100 years, according to multpl.com. In short, the road map of the immediate future is murky, at best. I still believe the broad market has some hurdles to overcome. The global fear meter is ticking up and uncertainty seems to be on the rise, yet the VIX still indicates some complacency at its Friday 16.12 close. Environments like these are great for breeding inefficiencies and I, for one, expect we’ll see a bit more volatility in the near future.

Pennies cost nearly twice what they are worth to make. Markets clearly are inefficient. What will be tomorrow’s new market inefficiency? Jim Morrison had a nice answer in Roadhouse Blues:

“The future’s uncertain and the end is always near. Let it roll, baby, roll…”

A Look Ahead:

*All content in this "A Look Ahead" section of Market Mail represents the opinion of Louis Navellier of Navellier & Associates, Inc.*

S&P Earnings Hurt by Weak Energy & Financial Results

by Louis Navellier

Energy remains the primary drag on the S&P 500, since third-quarter energy company sales are expected to decline by 11.3% and third-quarter energy earnings are forecasted to plunge by an astonishing -68.4%.

Also, three of America’s biggest banks reported third-quarter earnings declines last Friday, falling 15%, 17%, and 4%, respectively.  Today’s relatively flat yield curve is helping to destroy these banks’ profits.  As a result, financial and energy stocks remain a significant drag on third-quarter S&P 500 earnings.

Ironically, many energy stocks continue to benefit from surprisingly high crude oil prices as the futures market speculates that Russia and Saudi Arabia may curtail their respective production.  This will not happen, in my view, nor will OPEC be able to enforce a production cap at the end of November.  Just like any other political banter, the gossip in the oil patch has been keeping crude oil prices artificially high.

Both the American Petroleum Institute and the Energy Information Administration reported last week that crude oil inventories resumed rising in the most recent week, but I remain frustrated that many money-losing energy stocks continue to perform relatively well.  That is partially due to the high-dividend yields for many flagship energy companies, as well as the indexing/ETF boom – since ETFs must include all relevant companies, including those with negative sales or earnings.  As a result, some weak companies are still trading strong.  Some of them should eventually sink since fundamentals can’t be ignored forever.

My management company just released a new white paper entitled, “Sharks, High Frequency, and ETFs.”  It’s all about the increasingly manic nature of the stock market, fueled by algorithmic arbitrage traders jerking ETFs around, since ETFs are increasingly trading at a discount to their underlying Net Asset Value (NAV).  Nonetheless, ETFs are here to stay, since investors like low fees, even if they sometimes have to pay a premium to buy an ETF, or sell at a discount, while having no idea they are being fleeced.  (To get your copy of our new white paper on ETFs, just respond to the announcement atop this mailing.)

Shark Warning Sign Image

Interestingly, the “smart Beta” revolution is actually increasing the ETF premiums or discounts to NAVs, since those ETFs tend to be more thinly traded.  They are also rebalanced aggressively every 90 days, which makes it very lucrative for many ETF sponsors and their specialist affiliates to trade ETFs.  Since I started one of the first smart Beta ETFs several years ago, I know all too well about ETF specialists and the resulting price anomalies, so I hope that you will find my management company’s latest white paper a fascinating look at the inner workings of how ETFs trade and attract algorithmic arbitrage traders.

I will openly admit that I despise indexing and want to invest solely in companies with positive sales, earnings, and increasingly-growing dividends.  The reason is simple.  These companies tend to be more predictable and less volatile.  I would rather be a “fast turtle” and win the race with consistent, predictable companies.  I will let the “rabbits” (e.g., algorithmic traders) run around and burn themselves out as they arbitrage volatile sectors and ETFs.  These Wall Street rabbits are increasingly manic and are responsible for the herky-jerky stock market action that we have seen this year.  My quantitative grading system in both Dividend Grader and Portfolio Grader naturally avoids volatility, so I continue to avoid most financial and energy-related companies where the rabbits run, creating a lot of unnecessary volatility.

The FOMC Minutes Reveal a Sharply Divided Fed

On Wednesday, the Fed released the minutes from its latest (September 20-21) Federal Open Market Committee (FOMC) meeting, which revealed the infighting behind its 7-to-3 vote to postpone raising key interest rates.  However, the FOMC minutes also revealed that the Fed was laying the groundwork to raise rates “relatively soon,” implying a sharply-divided Fed.  As the minutes put it, “Some participants believed that it would be appropriate to raise the target range for the federal funds rate relatively soon, if the labor market continued to improve and economic activity strengthened, while some others preferred to wait for more convincing evidence that inflation was moving toward the Committee’s 2% objective.”

Regardless of the infighting within the FOMC, most economists expect that the Fed will most likely hike key interest rates at its December FOMC meeting, during the holidays, just like they did last year.

I should add that there are potential glitches that could derail the Fed’s plan to raise key interest rates.  There are growing concerns about global economic growth after China announced on Thursday that its exports declined 10% in September, which was much worse than economists’ consensus estimate of a 3.2% decline.  The persistent weakness in global demand has caused China’s exports to decline for six straight months.  Domestically, China is also apparently struggling, since its imports declined 1.9%.

A stronger U.S. dollar is also expected to put more downward pressure on U.S. exports and commodity prices.  The British pound, euro, and Chinese yuan have all fallen dramatically to the U.S. dollar, so the capital flight to the U.S. will likely continue and put downward pressure on market interest rates.

On Friday, the Commerce Department announced that retail sales rose 0.6% in September, slightly below economists’ consensus estimate of 0.7%.  Despite this narrow miss, the fact that retail sales rose in September was welcome relief after retail sales declined a revised -0.2% in August and rose only 0.1% in July.  The fact that retail sales increased 0.2% in the third quarter will contribute a bit to GDP growth.

The big contributors to September’s retail sales increase were vehicle sales (+1.1%) and gas station sales (+2.4%).  Excluding auto and gasoline sales, retail sales rose 0.3% in September.  I particularly like the fact that restaurant sales rose 0.8%, the biggest monthly increase since April.  When folks are dining out at restaurants, that is a good sign that consumer confidence is healthy.  Overall, the September retail sales report confirmed that the U.S. remains in a “Goldilocks” economy that is neither too hot or too cold.  As a result, the Fed will remain accommodative and not increase key interest rates too fast, in my opinion.


It should not be assumed that recommendations made in the future will be profitable or will equal the performance of the securities in this list. Click here to see the preceding 12 month trade report.

Although information in these reports has been obtained from and is based upon sources that Navellier believes to be reliable, Navellier does not guarantee its accuracy and it may be incomplete or condensed. All opinions and estimates constitute Navellier's judgment as of the date the report was created and are subject to change without notice. These reports are for informational purposes only and are not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities mentioned in these reports must take into account existing public information on such securities or any registered prospectus.

Past performance is no indication of future results. Investment in securities involves significant risk and has the potential for partial or complete loss of funds invested. It should not be assumed that any securities recommendations made by Navellier. in the future will be profitable or equal the performance of securities made in this report.

Dividend payments are not guaranteed. The amount of a dividend payment, if any, can vary over time and issuers may reduce dividends paid on securities in the event of a recession or adverse event affecting a specific industry or issuer.

None of the stock information, data, and company information presented herein constitutes a recommendation by Navellier or a solicitation of any offer to buy or sell any securities. Any specific securities identified and described do not represent all of the securities purchased, sold, or recommended for advisory clients. The reader should not assume that investments in the securities identified and discussed were or will be profitable.

Information presented is general information that does not take into account your individual circumstances, financial situation, or needs, nor does it present a personalized recommendation to you. Individual stocks presented may not be suitable for you. Investment in securities involves significant risk and has the potential for partial or complete loss of funds invested. Investment in fixed income securities has the potential for the investment return and principal value of an investment to fluctuate so that an investor's holdings, when redeemed, may be worth less than their original cost.

One cannot invest directly in an index. Results presented include the reinvestment of all dividends and other earnings.

Past performance is no indication of future results.

FEDERAL TAX ADVICE DISCLAIMER: As required by U.S. Treasury Regulations, you are informed that, to the extent this presentation includes any federal tax advice, the presentation is not intended or written by Navellier to be used, and cannot be used, for the purpose of avoiding federal tax penalties. Navellier does not advise on any income tax requirements or issues. Use of any information presented by Navellier is for general information only and does not represent tax advice either express or implied. You are encouraged to seek professional tax advice for income tax questions and assistance.

IMPORTANT NEWSLETTER DISCLOSURE: The performance results for investment newsletters that are authored or edited by Louis Navellier, including Louis Navellier's Growth Investor, Louis Navellier's Breakthrough Stocks, Louis Navellier's Accelerated Profits, and Louis Navellier's Platinum Club, are not based on any actual securities trading, portfolio, or accounts, and the newsletters' reported performances should be considered mere "paper" or proforma performance results. Navellier & Associates, Inc. does not have any relation to or affiliation with the owner of these newsletters. There are material differences between Navellier & Associates' Investment Products and the InvestorPlace Media, LLC newsletter portfolios authored by Louis Navellier. The InvestorPlace Media, LLC newsletters and advertising materials authored by Louis Navellier typically contain performance claims that do not include transaction costs, advisory fees, or other fees a client may incur. As a result, newsletter performance should not be used to evaluate Navellier Investment Products. The owner of the newsletters is InvestorPlace Media, LLC and any questions concerning the newsletters, including any newsletter advertising or performance claims, should be referred to InvestorPlace Media, LLC at (800) 718-8289.

Please note that Navellier & Associates and the Navellier Private Client Group are managed completely independent of the newsletters owned and published by InvestorPlace Media, LLC and written and edited by Louis Navellier, and investment performance of the newsletters should in no way be considered indicative of potential future investment performance for any Navellier & Associates separately managed account portfolio. Potential investors should consult with their financial advisor before investing in any Navellier Investment Product.

Navellier claims compliance with Global Investment Performance Standards (GIPS). To receive a complete list and descriptions of Navellier's composites and/or a presentation that adheres to the GIPS standards, please contact Navellier or click here. It should not be assumed that any securities recommendations made by Navellier & Associates, Inc. in the future will be profitable or equal the performance of securities made in this report. Request here a list of recommendations made by Navellier & Associates, Inc. for the preceding twelve months, please contact Tim Hope at (775) 785-9416.

Marketmail Archives Trade Summary

It should not be assumed that recommendations made in the future will be profitable or will equal the performance of the securities in this list. Click here to see the preceding 12 month trade report.

Although information in these reports has been obtained from and is based upon sources that Navellier believes to be reliable, Navellier does not guarantee its accuracy and it may be incomplete or condensed. All opinions and estimates constitute Navellier's judgment as of the date the report was created and are subject to change without notice. These reports are for informational purposes only and are not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities mentioned in these reports must take into account existing public information on such securities or any registered prospectus.

Past performance is no indication of future results. Investment in securities involves significant risk and has the potential for partial or complete loss of funds invested. It should not be assumed that any securities recommendations made by Navellier. in the future will be profitable or equal the performance of securities made in this report.

Dividend payments are not guaranteed. The amount of a dividend payment, if any, can vary over time and issuers may reduce dividends paid on securities in the event of a recession or adverse event affecting a specific industry or issuer.

None of the stock information, data, and company information presented herein constitutes a recommendation by Navellier or a solicitation of any offer to buy or sell any securities. Any specific securities identified and described do not represent all of the securities purchased, sold, or recommended for advisory clients. The reader should not assume that investments in the securities identified and discussed were or will be profitable.

Information presented is general information that does not take into account your individual circumstances, financial situation, or needs, nor does it present a personalized recommendation to you. Individual stocks presented may not be suitable for you. Investment in securities involves significant risk and has the potential for partial or complete loss of funds invested. Investment in fixed income securities has the potential for the investment return and principal value of an investment to fluctuate so that an investor's holdings, when redeemed, may be worth less than their original cost.

One cannot invest directly in an index. Results presented include the reinvestment of all dividends and other earnings.

Past performance is no indication of future results.

FEDERAL TAX ADVICE DISCLAIMER: As required by U.S. Treasury Regulations, you are informed that, to the extent this presentation includes any federal tax advice, the presentation is not intended or written by Navellier to be used, and cannot be used, for the purpose of avoiding federal tax penalties. Navellier does not advise on any income tax requirements or issues. Use of any information presented by Navellier is for general information only and does not represent tax advice either express or implied. You are encouraged to seek professional tax advice for income tax questions and assistance.

IMPORTANT NEWSLETTER DISCLOSURE: The performance results for investment newsletters that are authored or edited by Louis Navellier, including Louis Navellier's Growth Investor, Louis Navellier's Breakthrough Stocks, Louis Navellier's Accelerated Profits, and Louis Navellier's Platinum Club, are not based on any actual securities trading, portfolio, or accounts, and the newsletters' reported performances should be considered mere "paper" or proforma performance results. Navellier & Associates, Inc. does not have any relation to or affiliation with the owner of these newsletters. There are material differences between Navellier & Associates' Investment Products and the InvestorPlace Media, LLC newsletter portfolios authored by Louis Navellier. The InvestorPlace Media, LLC newsletters and advertising materials authored by Louis Navellier typically contain performance claims that do not include transaction costs, advisory fees, or other fees a client may incur. As a result, newsletter performance should not be used to evaluate Navellier Investment Products. The owner of the newsletters is InvestorPlace Media, LLC and any questions concerning the newsletters, including any newsletter advertising or performance claims, should be referred to InvestorPlace Media, LLC at (800) 718-8289.

Please note that Navellier & Associates and the Navellier Private Client Group are managed completely independent of the newsletters owned and published by InvestorPlace Media, LLC and written and edited by Louis Navellier, and investment performance of the newsletters should in no way be considered indicative of potential future investment performance for any Navellier & Associates separately managed account portfolio. Potential investors should consult with their financial advisor before investing in any Navellier Investment Product.

Navellier claims compliance with Global Investment Performance Standards (GIPS). To receive a complete list and descriptions of Navellier's composites and/or a presentation that adheres to the GIPS standards, please contact Navellier or click here. It should not be assumed that any securities recommendations made by Navellier & Associates, Inc. in the future will be profitable or equal the performance of securities made in this report. Request here a list of recommendations made by Navellier & Associates, Inc. for the preceding twelve months, please contact Tim Hope at (775) 785-9416.

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