Sell in May…

The old adage to sell in May and go away for the summer certainly held true for 2011.  As the summer draws to a close, hopefully so does the thrashing that markets have taken since May 1st.  It’s tough to remember that at one point this year the S&P 500 was up almost 9%.  Since then we’re down 10.5% on the S&P, sitting below where we started the year at 1255.

For the Dow, it’s been a wild to end up almost exactly where we started.  $100 invested on January 1st is now worth $100.31
This marks 2nd straight year that the summer months haven’t been kind to the equity averages.  Can 2012 make it 3 in a row?  Let’s hope not!

TBF Comparison to 30 year Treasury Yield

Up until mid 2009, the only inverse long bond ETF that a bond bear could utilize was TBT.  TBT is a 2x inverse ETF though, and due to the properties of double levered ETFs, it has been a particularly poor long term holding.  A TBT holder who bought in January ’09 has lost 30% even though the 30 year bond yield is about 40% higher over the same period.  

In 2010, ProShares introduced a non-levered inverse long bond ETF, TBF.  For someone with a long term view that rates will rise, this may be a better instrument than TBT.  Below is a comparison of the longer term performance of TBF vs. the yield on the 30 year treasury bond ($TYX).  The two have tracked much more closely than TBT over time.
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(Unfortunately the scale is slightly skewed because the two series are plotted on separate axes.)

Comparing ADP and Payrolls

ADP data will be released tomorrow morning, and Nonfarm-Payrolls data will be released on Friday.  Typically ADP gives a good sense of what the payrolls data will show, but it’s not always perfect.  Below is a comparison of the two measures since 2008.  Since the beginning of ’08 ADP has exceeded the employment number reported by the BLS by an average of 20k per month.  As a result of the difference, ADP counts 850k fewer jobs lost since January ’08–5.95m jobs compared to 6.8m.

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What incremental capital pool is going to purchase treasuries?

In normalized times (ex-quantitative easing) demand for treasuries comes from 1) shift in investment allocation from other assets 2) new domestic savings allocated to securities markets 3) foreign investment driven by trade deficits.
Arguably, a healthy treasury market would grow at the same rate as the 2nd and 3rd sources of demand.  In such a market, supply and demand would grow in tandem and there wouldn’t be an imbalance of one or the other–this would generally suggest price stability.  However, in 2009 and 2010, personal and foreign savings didn’t keep pace with new treasury supply.  YTD in 2011 they have kept pace, but in all three years supply/demand balance has mostly been a result of new money coming into the treasury market courtesy of the Fed.  Without the Fed as a buyer, the treasury market will have to rely on the organic sources of demand.  As a result there could be a supply/demand imbalance on the horizon.  

Adjusted for Deficit Nominal GDP Still Below Peak

The second estimate of GDP for 2Q11 was reported today and real GDP growth was revised downward to 1.0% from 1.1%.  Optimists will note that although real GDP is still slightly below its 2007 peak, nominal GDP hit a new peak, just under $15 trillion.

Of course, GDP for the past several years has benefited significantly from government stimulus in the form of trillion dollar deficits.  Given the trillions of dollars spent trying to push GDP higher, it’s a sad statement on the efficacy of fiscal policy that adjusted for these deficits, even nominal GDP is still below the 2007 peak.

Of course, no one knows what that line would look like with no stimulus at all, but with chatter growing for new rounds of stimulus, the question has to be asked–what’s it worth?

Spotlight on Insurers

For stock analysts, insurance is typically an industry that doesn’t get much attention.  Of course, all that changes a few times a year when a hurricane is barreling towards the eastern seaboard.  For those brief moments, everyone likes to look at insurance companies.

On CNBC this morning they’re throwing around a $10B loss estimate (Katrina was a $40B loss event for comparison).  Below is a comp table for some of the largest property casualty insurers in the US, “EqTotA” is the book value of the equity on the insurer’s balance sheet.  This group has a combined capitalization of $367B, so $10B is just a drop in the bucket, especially considering that a large portion of  any losses will be shared with reinsurers not listed here.  So, the hurricane shouldn’t move the needle too much for insurers, but while the insurance industry has our attention, I took the opportunity to put some non-hurricane related data in front of readers.

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Insurance companies, like the rest of the financial space are trading at multi-decade low multiples.  Insurance analysts will tell you that this is because the industry is overcapitalized and as a result there is too much money chasing too few policies.  This negatively impacts pricing and causes insurers to underwrite policies at a combined ratio above 100%.  This means that insurers aren’t making an underwriting profit or are losing money on every premium dollar that they take in.  In addition, an insurer makes a high percentage of its profits from investing its float in fixed income markets–with yields at multi decade lows, this is another headwind for insurance company valuations.  
Still, there’s a strong argument to be made that at prices well below book value, these concerns are already priced into the stocks.  The largest personal lines insurers TRV, CB, ALL and PGR have had admirable ROEs over the last 5 years compared to current valuations, and if there’s one thing that the insurance industry knows how to do well, it’s return capital to preserve ROE.  Since 2007, TRV for instance has bought back almost 40% of shares outstanding, taking share count from 668m to 418m today.  Such massive returns of capital indicate a willingness not to chase market share in a poor pricing environment.  
The prices of these companies seem to indicate that the markets don’t agree.  Prices seem to be indicating that the property casualty business lacks discipline and will write policies chasing market share until a negative event causes the industry to blow up.  
And prices may be correct, but consider this: securities analysis and insurance analysis are like yin and yang, two sides of the same coin.  Both arts are successfully practiced by individuals effectively pricing risk.  Therefore, securities analysts pointing the finger at the insurance industry for a state of overcapitalization may do well to examine their own industry and specifically fixed income markets.  
Overcapitalization and excess liquidity are different terms for the same concept.  In the insurance industry too much capital forces risk premia to unsustainable lows until a negative event proves that the underwriter wasn’t being fairly compensated for catastrophe risk.  In the securities industry excess liquidity forces prices higher and yields and risk premia lower until a negative event proves that the buyer wasn’t being fairly compensated for credit and inflation risk.  
In fact, both industries exist in a state of overcapitalization, but only the securities of one industry are pricing in the risks associated with that environment.  If the goal of a securities investor is to buy the security that is properly priced for its risk, then perhaps the property/casualty business may be a good place to look.  At least in that industry, buyers are returning capital to maintain ROE.  I can’t remember the last time PIMCO behaved in a similar fashion.

Time for Gold to Move Sideways?

It’s been a volatile week for gold, which fell $100 on Wednesday and sits today at $1785, up slightly from the recent lows.  So far the move has been pretty typical for the metal, which over the past 3 years shows a clear pattern of hitting overbought peaks followed by a sharp drop and then a few months of sideways consolidation back to the 50 or 100 day moving average.

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Top 20 US Retailers by Sales per Square Foot

Not much to this post other than that I think this data is good to have filed away in the memory bank.  Also I wanted to highlight the website it comes from:

I stumbled across this blog looking for the data presented below.  I was pretty impressed with the way these guys aggregate data and would encourage those looking for quick numbers on a retail company to take a look.  It’s a good resource for anyone who isn’t paying 30k per year for a Bloomberg terminal.

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