Yesterday All My Troubles Seemed So Far Away. Now It Looks as They Are Here To Stay. Oh I Believe in Yesterday.



Kerr Financial Group

Kildare Asset Mgt.

Jeffrey J. Kerr, CFA


January 22, 2018 – DJIA = 26,071 – S&P 500 = 2,810 – Nasdaq = 7,336


Somethings aren’t what they used to be.  This comment isn’t a nostalgic yearn for the ‘good ole days’ but, instead, an observation that virtually nothing is protected from the ever present upheaval impacting our lives.

Take the National Football League for example.  NFL football games used to be around three hours in length.  Now due to a combination of constant reviews of officials’ rulings and endless player celebrations over the most routine play, the games are a tedious bore and have become unwatchable.

Another example of how times have changed involve federal government shutdowns.  They used to have much more meaning.  Previous shutdowns came with intense angst and fear over their unknown length.  Further they used to be accompanied by threats of credit rating downgrades, a falling U.S. dollar, and widespread fallout.  Sadly, government shutdowns have turned into an exercise in name calling and casting of blame with everyone knowing it won’t last long.  They’ve become routine.

And of course, the stock market is not immune to perception change.  For example, bold headlines used to announce when the Dow Jones Industrial Average crossed a 1,000 point threshold.  The business television stations would break out the party hats and it would be the topic of the day.  Last week the Dow crossed 26,000 for the first time and, if you weren’t paying attention, you could have easily missed it.

Perhaps this has become too common.  Last week’s 26,000 mark is the eighth 1,000 point level gained since Election Day in November 2016.  Furthermore, this latest threshold only took 13 calendar days from when the Dow crossed 25,000 – hardly enough time to get the Dow 26,000 hats made.  This is the shortest number of days for the Dow to move from one 1,000 mark to the next.  Obviously, 1,000 is a much smaller percentage and therefore an easier accomplishment at 26,000 than at the lower numbers.  Nevertheless, this has been a historic move for the Dow.

Not only has the stock market been moving up, it has been a remarkably steady, smooth journey.  Last week the S&P 500 set a new record for the longest time without a 5% correction.  At 395 days, this new stretch beat the 394 days in the 1990’s and 386 days in the 1960’s.  To further point out how rare this is, the S&P 500 has averaged four 5% corrections annually dating back to 1927.  In other words, there are normally four 5% corrections every year but we have’t seen anything close to that since the beginning of 2016.  Investors should consider the possibility that we might have some catching up to do.  Below is a graph showing the previous streaks. (Financial Time, January 19, 2018)


Looking at this month’s trading, the rally continues.  The S&P 500 started the year with 9 consecutive days of closing higher than it opened.  Further, it closed at a new record high 11 out of the first 14 trading days.  While this does not set a record for the best start to a year, it is among the top.  Here are the gains for the major averages through last Friday.

Dow Jones Industrial Average    +5.5%
S&P 500    +5.1%
Nasdaq Composite    +6.3%
Russell 2000    +4.0% 


Another noteworthy financial market development of 2018 involves a spike in interest rates.  We know that the Federal Reserve raised rates in December and that the shorter maturities of the yield curve had been moving higher for several months.  However, the rates on the longer end of the curve (10-year and 30-year bonds) had not moved much.  In 2018, the longer dated rates have moved up.  Last week the 10-year Treasury note closed around 2.66% which is up from 2.41% at the end of 2017.  The 10-year note was last above 2.5% in March 2017.

On the surface, these higher interest rates might seem insignificant.  But in a leveraged financial system and in an economy that has gotten used to low rates with little volatility, this is a change.  Of course, if rates are moving up due to strong loan demand and that capital is being used to fund investments that will result in further economic growth, that is good.  However, if other factors are pushing rates (inflation, deficit concerns, etc), this could lead to wider spread problems.  Higher interest payments will lead to higher interest expenses for the federal, state, and local governments.  This will lead to larger deficits if tax receipts don’t grow.

Another worry involves individual and corporate debt.  For loans with variable or adjustable interest rates, this move will increase the cost of borrowing.  Whether it’s an adjustable rate mortgage or a bank loan tied to LIBOR, these higher yields will change the landscape.

System wide debt levels are high.  According to the Federal Reserve Bank of St. Louis, non-financial corporate business debt exceeded $6 trillion at the end of the 3rd quarter 2017.  This is up from $3 trillion in the mid 2000’s.  On top of this, individual mortgage debt exceeds $1,300 trillion.  And these totals do not include such things as credit card balances, automobile financing, and student loans.  Clearly there is a lot of debt in the system and this leverage could be stressed if interest rates continue to rise.

Foreign exchange is another market with some important developments.  Actually, this story dates back over a year but has been getting more attention in the New Year.  The value of the U.S. dollar has noticeably fallen against other major currencies.  The dollar index is an index that measures the U.S. dollar against a basket of major global currencies (euro, yen, pound, etc.). It has steadily declined since December 2016 and closed last week at the lowest level since late 2014.  This has gone against the widespread belief that a Trump Administration, with the ‘Make America Great Again’ initiative, would result in a strong dollar.  That turned out to be a bad bet.  Below is a chart for the DXY (dollar index) provided by Bespoke Investment Group.

The U.S. dollar is critical to the international financial markets and global trade.  Virtually all international trade, including crude oil, is transacted in the U.S. dollar.  For example, if Japan imports liquefied natural gas from Australia, it is done through the greenback – the yen and Australian dollar are both converted to U.S. dollars to complete the transaction.  The same flow would occur when China imports commodities from Brazil and Sweden exports to Canada.

The value of the dollar also influences the competitiveness of U.S. companies.  With a weak U.S. dollar, the products sold by U.S. based companies are cheaper in terms of other currencies – the euro or yen buy more dollars.  This means that domestic companies with international markets should be more competitive from a price standpoint and those businesses should see increased sales.

While this improved competitive position is obviously good, a weaker currency has its drawbacks.  A falling currency is usually associated with countries experiencing trouble or instability.  Further, a weak currency can be the result of capital outflows which could turn into a strong economic headwind.

So far, there hasn’t been any noticeable deterioration or impact from the U.S. dollar’s retreat.  This can change but the current landscape is unaffected.  Perhaps the main force behind the fall is the relative position of central bank policy.  The Federal Reserve has been raising rates for a couple of years while the European Central Bank has only begun reducing their monetary easing.  It could be that the markets have already discounted the Fed’s anticipated rate increases while recognizing a strong European economy and higher continental interest rates later this year.

It’s been an exciting new year for the capital markets including a strong rally for stocks.  And while a repeat of 2017 would be welcome for equities, a pick up in volatility is expected.  Given that we typically get four 5% corrections in a year and we haven’t had one in two years, it shouldn’t be a surprise for the markets to be a little choppy in 2018.  Of course, maybe like the NFL and all of the other things in our lives that are going through subtle change, perhaps the markets have transformed into a smooth path of always going up.  That presumes the four most dangerous words in investing – “It’s different this time”!  Yes, somethings in our lives aren’t what they used to be but risk isn’t one of them.

Jeffrey J. Kerr, CFA

Kerr Financial Group

Kildare Asset Mgt.

45 Lewis Street – Lackawanna RR Station

Binghamton, NY 13901





I Just Want to Celebrate Another Day of Livin’


Kerr Financial Group

Kildare Asset Mgt.

Jeffrey J. Kerr, CFA


January 8, 2018 – DJIA = 25,295 – S&P 500 = 2,743 – Nasdaq = 7,136

As we look back at the holiday season, there was some joyful reflection and celebration including relaxing time spent with family and friends.   Unfortunately, for some, the holidays are a time of overwhelming stress and frustration.  Sadly, there appears to be a thin line between these two emotional states and, hopefully, more people enjoyed much of the former and little of the latter.

This range of holiday emotions is comparable, on a certain level, to those that result from dealing with the financial markets. Sometimes there’s a great deal of cheer and jubilation and while other times are filled with lament and despair.  Looking back at 2017, joy and celebration dominated the capital markets.

In most years there are sectors of the capital markets that don’t perform well and even decline.  For example, sometimes an asset class such as commodities, real estate, or fixed income fall due to currency and interest rate movements or economic developments.  It is the natural ebb and flow of the markets.  In 2017, however, all asset classes advanced during the year.

Below is a chart reviewing various asset class returns for 2017.  It shows the steady move from lower left to upper right for stocks (both U.S. and international).  Equities were followed by U.S. real estate and bonds.  Commodities and managed futures (likely related to commodities) both recovered losses in the first half of the year and posted gains.  Hedge funds, as a group, provided mid single digit returns and continued to under perform stocks which provides more ammunition to the passive investing supporters.

The table below shows annual returns of various asset classes dating back to 1998.  The sectors are ranked each year from best (on top) to worst.  The asset classes are basically stock and bond indexes.  It has two major U.S. stock indexes with the S&P 500 (dark green) and Russell 2000 (dark brown) .  International stocks are tracked via the MSCI World ex U.S. (gray), and MSCI Emerging Markets (orange).  Two fixed income indexes are included – the Bloomberg Barclays U.S, Aggregate Bond index (light green) and the Bloomberg Barclays U.S. Aggregate High Yield index (teal).  For more detail, the S&P 500 and Russell 2000 are broken down into growth and value – S&P 500 growth is light brown, S&P 500 value is dark blue, Russell 2000 growth is yellow, and the Russell 2000 value is light blue. (Apologies that size constraints make the text difficult to read).

Some noteworthy nuggets include the fact that for the past two years every sector has show positive returns.  While there are examples of this happening, three year streaks are not common.  This would suggest heightened risks for 2018.

Another important point is the rotation of the leading and trailing sectors.  In other words, last year’s winners could become this year’s laggards.  This rotation gives the table a quilt type appearance as leading sectors change and the colors move around (The exception to this is that emerging markets were the best performing sector 5 consecutive years – 2003 through 2007.  The move was very impressive with yearly gains of 55%, 25%, 34%, 32%, and 39%.  However, the emerging markets plunged 53% in 2008.)

More recently there has been the classic rotation.  In 2016, the Russell 2000 Value provided the best returns with an almost 32% increase.  2017 was a much different story as it was third to last and only up 8% (S&P 500 was up 22%).  It was the worst of the stock indexes and only beat the two bond indexes.  Another example involves the emerging markets index again.  For the 5 year stretch from 2011 to 2015, the emerging markets were the worst performer 3 years and the second to worst performer for 1 year.  They showed losses in each of those 4 years.  But from these depths it returned to be the top dog in 2017 (up 37%).

The table highlights the folly of blindly chasing yesterday’s winners while overlooking opportunities that have fallen from grace.  To be sure, sectors of the market can remain leaders for extended periods of time, but following an  investment strategy that is equal to a popularity contest will likely result in disappointment.


In hindsight, it’s easy to see that 2017 was a good year for the markets.  The Dow Jones Industrial Average closed at a record 71 times during the year.  This is the most in history exceeding 69 in 1995, 62 in 1962, and 52 in 2013.  Moreover, it was a steady and smooth trip.  In 95% of the trading days, the Dow traded in less than a 1% range as measured by the day’s high and low.  This bring up the questions – Why can’t they all be this easy?

It’s not hard to forget that the tranquil markets were in sharp contrast to news flow.  There was plenty of news that could have potentially derailed the markets.  The antagonistic political setting including open talk of impeachment of President Trump.  Terrorist attacks in New York, London and Spain.  High levels of social division leading widespread protests (Charlottesville) and massacres (Los Vegas, California, Texas).  High geopolitical tensions including North Korea’s effort toward a nuclear weapon.  Natural disasters with hurricanes hitting Houston, Florida, and Puerto Rico.  With this kind of backdrop, it is remarkable the market were not lower and a lot more volatile.  Here are the final 2017 numbers for the major averages.


DOW JONES INDUSTRIAL AVERAGE                                                                              +25.1%

S&P 500                                                                                                                                      +19.4%

NASDAQ COMPOSTIE                                                                                                            +28.2%

RUSSELL 2000                                                                                                                         +13.1%

Enough of the rear view mirror – inquiring minds want to know what’s going to happen in 2018?  It’s easy to think that the market is poised to pull back given the strength of 2017.  After all it’s second longest stretch in history for the S&P 500 trading above its 200-day moving average and markets don’t normally act this way.  On the other hand, if the capital markets have not only survived but prospered given the events of 2017, it might be another strong year ahead.

Looking at history, Bespoke Investment Group provides some data.  The table below gives the annual performance for the S&P 500 in years following a year with a 20% or greater gain.  As shown, the year after a 20%+ move is positive 68% of the time with an average gain of 10.46%.  Further, there are several examples of back-to-back years of 20% or greater returns.

While the markets absorbed 2017’s body blows, the bears are not extinct (yet).  Some of the remaining ammunition is in the form of potentially higher interest rates and high valuations.  The Fed has been raising the fed funds rate and is projecting further interest rate hikes in 2018.  Rate increases during the past couple of years have been absorbed  by the economy.  But the impact of future raises could be more disruptive.

Corporate earnings growth accelerated in 2017.  However, stock prices climbed faster leaving valuations elevated.  Some of the stock market jump was in anticipation of tax reform and the lowering of corporate tax rates.  How much of this bottom line benefit has been priced in is a critical question facing stocks in 2018.  Another important question is beyond the bump from lowered rates, how much more will earnings grow on a comparative basis.

As hard as it was to predict a smooth and historic year for the financial markets back in January 2017, it is equally difficult to forecast 2018.  There are some expected developments (interest rate hikes) in 2018.  However, it’s the unexpected stuff that could move markets.  Investors should remain flexible and, as much as possible, on top of things.  But before we get too far into the year, there are some New Years resolutions to break.

Jeffrey J. Kerr, CFA

Kerr Financial Group

Kildare Asset Mgt.

45 Lewis Street – Lackawanna RR Station

Binghamton, NY 13901


2017 3rd Qtr. Kildare Asset Mgt.-Kerr Financial Group client review letter

Making quick and easy decisions based on one simple and never-failing indicator has been the Holy Grail that investors have desperately searched for since the Buttonwood Agreement formed the New York Stock Exchange in the spring of 1792. And certainly over the years, there have been countless attempts to develop a foolproof system that would be the guaranteed road to riches.

Despite the well-intended (and some not so well intended) systems developed for making investment decisions as simple as using a smartphone app, the markets are not that easy. Corporate earnings, GDP growth, interest rates, valuations, budget deficits, and currency prices are just a few of the things that influence the financial markets.

And even if it were possible to include all of the many things that impact prices, we would then have to assign the proper weighting for each of them. Finally we would have to recognize that this is a dynamic situation and the amount of impact of these factors is constantly changing.

Of course, any system must also consider how much of the future values of these indicators are reflected in current prices. In other words, how much GDP growth (or any other influencing item) has been priced in. This is a very subjective variable.

This leads to the biggest obstacle to developing such a system – the requirement of measuring human emotions. This critical input is, unfortunately, the most unstable part of the analysis. Investor feelings and sentiment have a huge impact on the markets, contributing to push prices into bubbles as well as playing a part in panic selling. And as can be seen in hindsight, often times these emotions are flawed. A look back at 2017 provides a couple of examples of erroneous investor expectations.

Following President Trump’s election there were several widely held beliefs. The prediction for a stronger U.S. dollar was one expectation that investors assigned a high probability. This was based on the “Make America Great Again” theme which would result in faster economic growth and higher interest rates which would push the value of the dollar up.

Another forecast was centered on Mr. Trumps’ immigration policy. A shift to stricter conditions was expected to be hurtful to technology companies and their stocks. This was related to reduced access to skilled workers.

Both of these events turned out to be off target. The U.S. dollar has not only failed to rally, it has weakened significantly. Below is a chart that shows the Bloomberg US dollar index which is the value of the greenback vs. a basket of other currencies.[i] The index has been in a steady decline for the first 9 months of 2017. Obviously, this is not what Wall Street forecasted.

Likewise, strategists have been equally wrong regarding the technology sector in 2017. Whether this is correlated with the fall in the U.S. dollar or coincidence, tech stocks have outperformed this year. To be sure, it has been a strong year for the broad markets but few were predicting tech’s outperformance at the beginning of the year. Again, this demonstrates the risks of market forecasting.

Regarding the financial markets, not only has this year been hard to predict, it has been hard to explain. Given the social division, political polarity, and general acrimony, it is tough to understand that the stock market is at record levels. The explanation involves corporate earnings which have been strong. Also, despite all of the geopolitical problems, the global economy is doing pretty well. That society’s chaos has not derailed the economy could be a reason that the markets seem to be looking past these issues. Here are how the major averages have performed through September 30, 2017 and for the third quarter.

3rd Qtr. 2017

Dow Jones Industrial Average +4.94% +13.37%
S&P 500 +3.96% +12.53%
Nasdaq Composite +5.79% +20.67%
Russell 2000 +5.33% +9.85%

Using a size weighted average, here is how the average Kildare Asset Management-Kerr Financial Group client’s account performed. This is calculated after all fees and expenses.

3rd Qtr. 2017

+7.47% +12.94%

Your accounts grew in the third quarter and it was the best quarterly performance of 2017. And within the three months, September was especially strong. This was partially driven by the rally in the broad markets, but also gains in individual holdings. A couple of long time positions continued to appreciate. Hurco Companies and Layne Christensen Company both rallied after reporting earnings in early September.

As a reminder, Hurco is a machine tool manufacturer. They produce high end machines with proprietary software and sell them globally with typically over 50% of sales to Europe. The company has a strong balance with no long-term debt.

Hurco released their third quarter earnings report just after Labor Day and it showed that their growth continued. Noteworthy is the sustained expansion in their order book which should drive future revenue and profits higher.

I mentioned Hurco in the 2nd quarter review letter and pointed out that they didn’t have much interaction with institutional investors (no conference calls or presentations). I suggested that if they kept reporting strong results that Wall Street would find them. That might be happening and, if the operational trend continues, the stock could continue to appreciate.

Layne Christensen is a global water management, construction, and drilling company. They have had some challenges in some of its divisions which management is addressing. As is common in these situations, progress is not a smooth journey and investors sometimes take a cynical view.

Layne’s stock price had steadily declined for the first five months of the year falling from over $11 per share to the low $7’s or 37%. This was especially frustrating given the background of a broader bull market. The stock rebounded in June after the first quarter’s financial report showed some positive developments. Their second quarter earnings release at the beginning of September contained more news of improvement and the stock pushed to new 52-week highs.

Layne’s stock could keep moving higher as long as the improvements remain on track. Further the company has some new water related initiatives that look to leverage the company’s assets. This has been a long time holding and will remain in your account as long as the turnaround continues.

As is normally the case, there were some blemishes within your account and the most recent example is Dick’s Sporting Goods. As many know, Dick’s is one of the largest sporting goods retailers in the country. Beside the Dick’s stores, the company also owns and operates Golf Galaxy and Field & Stream stores. Sales for this fiscal year will likely exceed $8 billion. Guidance for net income is in the range of $2.80 to $3.00 per share.

As most people know, retailing is a competitive business and the current landscape is made tougher by the presence and strength of Amazon. The drop in Dick’s stock reflects investor pessimism concerning the company’s ability to compete. Dick’s shares reached an all-time high in November 2016 at $62.88. By the middle of 2017, it had dropped to the mid-30’s. I thought the selling was overdone and, at this level, it represented good long term value. In August the company reported its 2nd quarter results. The numbers were disappointing as well as the guidance for the future business conditions deteriorated. The stock fell into the upper 20’s.

I continue to think Dick’s offers good value. The stock trades at a single digit P/E multiple (as a comparison, the S&P 500’s P/E is above 20). The dividend yield is around 2.6% and is well covered. Wall Street analysts expect company revenues to grow to over $8.5 billion in coming years with projected profit stabilization.

While U.S. sporting goods sales are growing, the pace of growth is declining. Further, Amazon’s marketplace influence could continue to expand. However, there are reasons for optimism. Dick’s has a proven management team that has successfully grown the company to be a market leader. Several of their competitors (The Sports Authority, Gander Mountain, and Golfsmith) have failed which should help them in the future. Best Buy is an example of a retailer surviving tough times to eventually dominate the industry. Finally, the inexpensive valuation gives no credit for these bullish possibilities. I will be watching closely for signals for improvement or further weakening and act accordingly.

2017 has been an example of how tricky the financial markets can be. It would be hard to predict that stocks would trade at all-time highs when the headlines have been so negative. This is a reminder of how challenging the investment process can be. But from these challenges there arises the opportunities to help your investments grow. As always, I will continue to seek out these situations.

Please contact me with any questions. Thank you for your business.

Jeffrey J. Kerr, CFA

Kerr Financial Group
Kildare Asset Management
168 Water Street
Binghamton, NY 13905

[i] The Bespoke Report, October 27, 2017

Jeffrey J. Kerr, CFA

Kerr Financial Group
Kildare Asset Management
168 Water Street
Binghamton, NY 13905

There’s Something Happening Here, What it is Ain’t Exactly Clear

December 4, 2017 – DJIA = 24,231 – S&P 500 = 2,642 – Nasdaq = 6,847

“There’s Something Happening Here, What it is Ain’t Exactly Clear”[i]

Last week the Dow closed above 24,000 for the first time and Bitcoin traded above $10,000. It took 43 days for the Dow to climb the 1,000 points from 23,000 which is the third shortest stretch for it to move 1,000 points. For Bitcoin, it was a quicker trip as it took only 2 days for it move from $9,000 to $10,000.

It was a fast moving week for the financial markets that started with strong reports from retailers on the Thanksgiving weekend shopping. In addition to this, there was good news on the housing markets and manufacturing. And GDP was revised up to an estimated 3.3%.

Aside from the economic data, Wall Street also watched Washington as the Senate worked on passing a tax reform bill. Rumors of passage pushed the Dow Jones Industrial Average above 24,000 for the first time on Thursday. However, there was other news out of Washington that had nothing to do with the budget (or immoral behavior) that derailed the rally on Friday.

The Dow suddenly dropped 400 points on reports that Michael Flynn, a former advisor to President Trump, had plead guilty to lying to federal investigators and was cooperating with those conducting the probe. As the news crossed the wires, traders sold first and asked questions later. But, as has been the case all year, prices stabilized and the selloff was bought. The indexes recovered in the afternoon and closed only marginally lower. Here are the year-to-date performances for the major averages at the end of last week.


Dow Jones Industrial Average +22.6%
S&P 500 +18.0%
Nasdaq Composite +27.2%
Russell 2000 +13.3%

Indices are unmanaged, do not incur fees or expenses, and cannot be invested into directly. These returns do not include dividend.

Concerning the conquering of 24,000, it was the sixth 1,000 point threshold that the Dow has traded above for the first time since last year’s election. The Dow closed above 19,000 for the first time on November 22, 2016 which was 700 days after getting past 18,000 for the first time. Obviously the 20,000 through 23,000 were reached during 2017. And despite these 1,000 increments being easier on a percentage basis, it has been a quick trip when compared to the Dow’s historical performance. Of the six 1,000 point marks crossed since the election, it’s remarkable that they’ve only been crossed on the downside 5 times in total. Truly, 2017 has been an extraordinarily steady and constant climb.[ii]

Of course the Dow’s achievement is the turtle to Bitcoin’s hare. The crypto-currency is up over 1,000% in 2017 which includes a remarkable 50% rally in November. It’s no wonder that Bitcoin has gathered so much attention as well as questions. If fact, the controversy surrounding the crypto-currency is one of the few things that rival the polarization of President Trump.

Detractors include high profile people such as Jamie Diamond, the C.E.O. of JP Morgan. Back in September, he characterized Bitcoin as a “fraud”, described the situation as “worse than tulip bulbs”, and predicted that “It won’t end well. Someone is going to get killed”.[iii] While it’s unknown if Mr. Diamond is ultimately right, this proofs once again that there’s a fine line between being ‘early’ and ‘wrong’.

On the other hand, there is an important group of supporters of Bitcoin which recently added Wall Street to the list. The Chicago Mercantile Exchange (CME) and the Chicago Board of Options Exchange (CBOE) received approval to begin offering Bitcoin futures contracts.

Whether crypto-currencies and blockchain turns out to be bigger than the internet (as some predict) or the biggest scam of the century, there are some astounding statistics associated with it. The ‘mining’ of Bitcoin (or one of the other 15 crypto-currencies) requires a lot of power. The computers and networks that power Bitcoin transactions reportedly use more electricity on an annual basis than 159 countries including Ireland or Nigeria. And consumption connected with crypto-currencies increased 30% in the last month alone.[iv]

In a world where the President of the United States regularly tweets, Tesla is the highest valued U.S. car maker, and bonds are bought at negative interest rates, Bitcoin and the other crypto-currencies aren’t out of place. The degree of their safety and acceptance remains a question that will be answered over time.

Returning to the capital markets, stocks are clearly overbought and due for a rest. However, it’s very rare that December is a down month. Measuring over the last 50 years, December is the best performing month, averages a +1.57% return and is up 68% of the time.[v] So despite a Federal Reserve interest rate increase this month (an almost 100% probability), stretched valuations, and excessive bullish sentiment, it’s hard to predict a correction of any consequence.

On the other hand, it could be a dangerous point to put capital to work in equities. The Nasdaq Composite, 2017’s leading index, was down last week at the same time as the other averages were setting records. This could be nothing more than a natural rotation of leadership or it could be a sign of declining momentum. With tax reform almost assured together with strong economic data, the markets could be expected to drift higher into year end. While the Grinch could show up and spoil things, he’d be much better off skipping a trip to Wall Street to stay on Mount Crumpit and mine Bitcoin.

[i] Stephen Stills, 1966
[ii] The Bespoke Report, December 1, 2017
[iii], September 12, 2017
[iv], November 27, 2018
[v]Bespoke B.I.G. Tips, November 30, 2017

Jeffrey J. Kerr, CFA

Kerr Financial Group
Kildare Asset Management
168 Water Street
Binghamton, NY 13905

Make American Great Again

November 13, 2017 – DJIA = 23,422 – S&P 500 = 2,582 – Nasdaq = 6,750

“Make America Great Again”

Donald Trump was elected President of the United States one year ago. The event has enraged some and emboldened others. Of course, some of this is a result of the direction that the Trump administration is moving and some of it is a result of the methods that are used. Both have caused a significant amount of cringing. It’s not clear which side of Washington’s wrestling match Mr. Market’s is with, but there’s little doubt that he’s enjoyed President Trump’s first year.

Since the election the stock market has had a historic rally. Looking back, it’s hard to remember that stocks were expected to drop on a Trump victory. Every time a pre-election poll would show Donald Trump’s chances improving, stocks dropped. But on election night after the results were in and the futures on the Dow Jones Industrial Average were down over 800, stocks rebounded and haven’t looked back.

As measured by the Dow Jones Industrial Average, The Trump Rally is the 3rd best for a new president. The Dow’s 28.53% gain from Election Day to its one anniversary is only by exceeded by FDR (1932 – 47.94% gain) and Harry Truman (1945 – 30.59% gain). To put these numbers in perspective, the average Dow return for a new president in his first year is 8.14%.[i]

The stock market’s surge during President Trump’s first year came in spite of a whiff on campaign promises (no repeal of the ACA and no tax cuts), a tense geopolitical landscape, terrorism, and widespread social hostility. On the positive side of the ledger, economic growth accelerated and exceeded a 3% annualized rate. The economy obviously helps corporate profits which also rose materially.

Unfortunately, a strong first year for a new administration does not assure a good second year. For example, the Dow fell 17% in President Truman’s second year and it retreated almost 16% in President Kennedy’s second year, after rising 21% in his first year. The average Dow performance in the second year of a new president’s term is a gain of less than two-thirds of 1%. The median for the second year is an almost 7% decline.

It seems investors are getting used to the stock market’s steady grind higher. The S&P 500 is approaching 500 days without 5% correction and is about to set a record without a 3% correction (370 days). Investors are beginning to forget that stocks can go down which will make the next 3% correction, whenever it arrives, feel more like a crash.

This lack of volatility combined with the consistent move in the stock market from lower left to upper right is starting to show up in some investor sentiment readings. They are showing more optimism. Earlier in the year, investors worried about the negative headlines and feared that the economy was stuck in low gear. They were confused why the market wasn’t falling and were confident that it couldn’t keep rising.

As 2017 has progressed, the economy has improved. However, the news flow remains dire. Apparently higher brokerage statement balances help the public forget about their anxiety and to overlook the negatives they worried about a few months ago. This is shown in various investor sentiment indicators one of which is the Citigroup “Panic/Euphoria Model”. Please see the chart below.[ii]

The difficult to read fine print (apologies) explains that “a reading below panic supports a better than 95% likelihood that stock prices will be higher one year later, while euphoria levels generate a better than 70% probability of stock prices being lower one year later”. In other words, this is a contrarian indicator. Typically, euphoric investors have already bought and panicked ones are in cash.

The current reading at +0.33 hasn’t triggered a euphoric signal yet and there’s no assurance it does. But this does tell us that a lot of people have put money to work and, from a capital flows view, there might be limited dry powder left.

While this model is signally caution, we are approaching a seasonally bullish time of the year (Thanksgiving and Christmas). The historical trend is for gains in November and December. However, it’s possible that the strong September and October, months that are usually weak, could have drained some potential for this year’s Santa Claus rally. Perhaps the net will be a stock market that doesn’t go up as much as expected but doesn’t go down much.

From a fundamental viewpoint, there are a couple of concerns. The stock market is not cheap. While some describe the current environment as the most overvalued market in history, others offer justifications such as low interest rates and earnings growth. Nevertheless, few would defend that we are undervalued.

Another headwind is the change in central bank policy. The Fed has signaled that they will raise interest rates in December and continue this in 2018. Further, the support that other central banks have provided the capital markets will be declining. The ECB is reducing the amount of monthly bond purchases and the Bank of England raised its benchmark interest rate at the beginning of November. This is the first time in over 10 years that Great Britain has increased this rate. Higher interest rates are a material risk to an overvalued corporate bond market.

Trees don’t grow to the sky and, sadly, neither does the stock market. After a remarkable 2017, we could be facing a few more challenges which is something that highly optimistic investors are not prepared for. But like the unexpected election of Donald Trump, the surprise could be that the smooth and steady climb for stocks continues. Some more dysfunctional behavior in Washington might help.

[i] The Bespoke Report, October 10, 2017
[ii] Citigroup Investment Research, November 2017

Jeffrey J. Kerr, CFA

Kerr Financial Group
Kildare Asset Management
168 Water Street
Binghamton, NY 13905

Wall Street’s not so scary Halloween stories

October 23, 2017 – DJIA = 23,328 – S&P 500 = 2,575 – Nasdaq = 6,629
“It was the witching time of night…”[i]

October has a history of being a frightening month. Shorter days means more darkness together with a chill in the air. Of course, Halloween is accompanied by tales of ghosts, goblins, demonic developments and the release of B-rated horror movies. And scariest of all, Congress is in session.

Of course the financial markets also have a history of paranormal Octobers. The 1929 and 1987 crashes occurred in October as well as the Panic of 1907. In addition to these historic events, October has had other seminal market tribulations such as Long Term Capital Management’s implosion (technically this was a September event but had October fallout) and 2008’s drop after Lehman Brothers failed which helped start the financial crisis.

Despite this maniacal reputation, 2017’s October has been a continuation of the pleasant and steady move higher that has dominated the year. In fact, this year might become the “calmest” on record. Ryan Detrick, Senior Market Strategist at LPL Financial Research, suggests one way to determine volatility (or lack of it) is by measuring the absolute value of the average daily change. Mr. Detrick uses the S&P 500 and calculates this daily change at 0.30% so far in 2017. This is the second lowest reading with 1964 coming in at 0.26%.[ii]

The chart above shows this measurement dating back to 1928. It is interesting that there were three consecutive years of this type of low volatility in the mid-1960s. We can’t rule out the possibility that we are beginning another similar stretch. Another common belief is that when volatility returns it will signal the start of a bear market. Please note the low number registered in 1995. This was followed by much higher volatility readings in conjunction with the bull market of the late 1990s.

The serene capital markets in the face of the current headlines is similar to a perplexing mystery penned by Edgar Allan Poe. There is a great deal of irony that the markets are experiencing one of the least volatile years in the face of cultural division, protests, terrorism, political polarity, and widespread social tension.

Not only are the markets curiously calm, they are trading at all-time highs. The S&P 500 closed at a record high every day last week. Thursday was the 30th anniversary of the 1987 stock market crash where the Dow Jones Industrial Average lost over 20% in one day. Stocks marked this by staging a 2017 type crash – plunging a painful one-half of one percent – before rallying back and closing higher on the day.

The S&P 500 has now recorded 61 record highs in 2017 which is the third most behind 1928 and 1964. And there are two months remaining for this year. Below is a chart showing the yearly number of record closes for the S&P 500.[iii]

While the streak of daily records for the S&P 500 is impressive, there is more to this story. Jason Goepfert, the head of Sentiment Trader, points out that the S&P has 6 weekly record closes in a row and 7 consecutive monthly record closes. As Mr. Goepfert points out, this is 18 record closes across daily, weekly and monthly time frames. He goes to say that this is the most in history and that other periods that had a comparable series of records did not mark major stock market tops.[iv]

It is interesting that the S&P 500’s accent has happened despite battling some intimidating zombies. Bellwether stocks such as AT&T, Disney, Exxon-Mobile, General Electric, IBM, Target, and Wells Fargo are not participating and, in fact, are all lower year-to-date. These blue chip, dividend paying stocks were last year’s darlings but have become “the walking dead”. It’s remarkable that the averages have performed so well despite this drag. Here are the major indexes year-to-date numbers at the close of last week.


Dow Jones Industrial Average 18.0%
S&P 500 15.0%
Nasdaq Composite 23.1%
Russell 2000 11.2%

Indices are unmanaged, do not incur fees or expenses, and cannot be invested into directly. These returns do not include dividend.

Inquiring minds want to know why the financial markets are doing so well when the world seems to be crumbling around us. The answer has nothing to with Mr. Market playing a cruel game of Trick or Treat but rather fundamental improvements together with Wall Street’s masterful marketing.

First, corporate earnings have been strong and are projected to keep growing. This has been the trend for 2017 and it has continued in the 3rd quarter. 63% of the companies that have reported so far have beaten consensus earnings estimates. Stocks trade at lofty valuations but investors currently appear to be willing to pay higher multiples as long as the bottom line keeps growing.

The popularity of passive investing and the use of index ETFs and mutual funds also contribute to the tranquil environment. Passive investing involves buying exchange traded funds (ETFs) or mutual funds that track an index. Investors seek to invest in various asset classes via these funds. For example, SPY is the SPDR S&P 500 Trust and it tracks the S&P 500 index. AGG is the iShares Barclays Aggregate Bond Fund that track the Barclays Aggregate Bond Index which is a broad bond market index.

Capital flows into passive investment strategies have been astounding. BlackRock is the sponsor of the iShares family of ETFs. They recently reported inflows of $96 billion in the third quarter. This brought the year’s total to $264 billion which easily exceeds last year’s inflow of $202 billion.[v]

Vanguard Group, the leader in index mutual funds, has seen inflows of $291 billion in the first nine months of 2017. This is below last year’s influx of $323 billion but will likely be surpassed by the end of the year.[vi]

BlackRock and Vanguard are not the only organizations offering these approaches. There are many other significant investment firms with similar options. But just counting these two firms, a remarkable total of over $1 trillion of investment capital has been gathered in the past two years. We would guess that the majority of these dollars were directed to a passive indexed strategy.

This means that as soon as the dollars get in the ETF or mutual fund, they are invested. There is no discussion over timing and no holding for a better price – the money immediately buys more of the holdings of the index it is mirroring. $1 trillion of indiscriminate buying could be a major force behind the stock market’s steady move higher despite an unsettling news flow.

This develops into a self-feeding cyclical phenomenon and Wall Street is very happy to help promote. The more capital that flows into these funds the better the market performs and the better the market performs the more capital it attracts. So if it’s low cost, index strategies that investors want for their IRAs and 401k’s, the financial industry are more than happy to meet the need with all kind overlapping index products. “Low cost investing for the long term” is a pretty easy sell. We’re sure somewhere in the fine print it mentions that stocks can go down.

The scarier part of this situation is that passive investing is so widespread. It seems everyone is doing it which is eerily similar to some other periods of popular investing fads. Portfolio insurance was a popular strategy in 1987. It was supposed control losses by hedging through stock futures contracts. It ended up contributing to the 1987 Crash.

More recently, tech stocks in the late 1990s were can’t miss as the internet was changing the world. The internet did change the world but somewhere along the way the markets realized that not every dot com company was going to be successful. Stocks crashed again. We won’t go into the money lost on condo speculation in the 2000s.

With the current landscape, the real horror story will be when the markets start to weaken and everyone wants out at the same time. It could be a sudden and dramatic trip lower and once again investors will be wondering what went wrong. Of course, the timing of such an event is the difficult question. For now, that’s enough of fearsome tales of investment ghosts and goblins – it’s time for Halloween candy.

[i] “The Legend of Sleepy Hollow”, Washington Irving
[ii] LPL Financial Research, October 22, 2017
[iii] The Bespoke Report, October 20, 2017
[iv] Sentiment Trader, October 21, 2017
[v] Almost Daily Grants, October 16, 2017
[vi] Ibid

Jeffrey J. Kerr, CFA

Kerr Financial Group
Kildare Asset Management
168 Water Street
Binghamton, NY 13905

2017 2nd Qtr.Kildare Asset Mgt-Kerr Financial Group client review letter

Not only did June mark the end of 2017’s second quarter, it was also the eighth anniversary of the end of the Great Recession. This recovery has had plenty of detractors so may it surprise many that this has become the third longest economic expansion since World War II. Only the dot-com boom (10 years – 1991 to 2001) and the 1960’s (9 years – 1961 to 1969) are longer. To put this into further perspective, the average post war expansion is 58.4 months (just shy of 5 years) according to the National Bureau of Economic Research.

When measuring by strength, however, this expansion is not as impressive. Normally an economy that has been expanding for so long would show both above average and accelerating growth. This is not the case for the post-2009 recovery which has a compounded annual growth rate of 2.1%, well below the 3.6% rate of the 1990’s and the 2.8 % of the 2000’s.

Of course, the causes for this below average growth is the subject of intense debate. Much of this deliberation revolves around the impact of the Federal Reserve and monetary policy. Both have played important roles in trying to stimulate the economy as well as stabilize the markets. And both have been controversial in their execution and their effect.

The severity of the financial crisis, according to our central bankers, called for drastic and aggressive measures. The Fed has used “unconventional” to describe their methods which included ‘operation twist’, ‘QE’ (quantitative easing), ‘QE1’, ‘QE2’, and ‘QE infinity’. In contrast to the fancy terminology, the strategy has been simple. It has three basic components – reduce interest rates, print money, and use that newly created money to buy bonds in the open market.

Fed critics believe that these policies and strategies have distorted the markets. Interest rates are unnaturally suppressed which distorts market prices and discounting calculations. Further, some think that the economic recovery would have been much stronger absent central bank meddling.

The magnitude of these programs is illustrated in this chart. The blue line represents the assets owned by the Federal Reserve which consist of securities such as bonds. Prior to the financial crisis, the Fed’s balance sheet normally ranged between $700 million to $900 million.

The blue line spikes at the beginning of the crisis. And after this initial jump, the Fed’s holdings steadily climb until 2014. For the past couple of years, the balance sheet has been steady at approximately $4.5 trillion or more than quadruple the typical balance before the financial crisis.

This shows how dramatic the QE programs were. And while the economic impact of this monetary policy is unclear, the chart shows that the stock market, as measured by the S&P 500 (red line), has benefited. This leads to the question of what happens when the Fed starts to reverse these programs. In June, Janet Yellen and Mario Draghi both introduced the idea that their central banks will start shrinking their balance sheets.

This could increase stock market risk. Alex J. Pollock, senior fellow at the R Street Institute, wrote in June, “The Fed’s problem is now simple and obvious: once you have gotten into positions so big relative to the market and moved the market up, how do you get out without sending the market down? The Fed is expending a lot of rhetorical energy on this problem.”

Of course, the hope is that the economy is strong enough to continue to expand during a gradual reduction of monetary policy help. However, markets have gotten accustomed to central bank involvement and any change could be a headwind. The Fed and ECB’s goal (and challenge) is to gradually remove the elixir without disrupting the markets. The risk is that the addiction is greater than it appears.

Returning to 2017’s second quarter, the stock market advanced further. The gains were less than the first quarter but still respectable. Here is a break down for the major averages for the second quarter and year-to-date.

2nd Qtr 2017

Dow Jones Industrial Average +3.32% +8.03%
S&P 500 +2.56% +8.24%
Nasdaq Composite +3.86% +14.07%
Russell 2000 +2.12% +4.29%

Using a size weighted average, here is how the average Kildare Asset Management-Kerr Financial Group client’s account performed. This is calculated after all fees and expenses.

2nd Qtr 2017
+2.72% +5.83%

There were a few notable developments within your portfolio. First, Hurco Companies, Inc. had a good quarter. Its stock rose 10% with the majority of the move happening in June after the company reported earnings. Hurco is a machine tool manufacturer. They produce high end machines with proprietary software and sell them globally with typically over 50% of sales to Europe. The company has a strong balance with no long-term debt.

Hurco has made two acquisitions during the past few years that expands their product offering into other sectors of the market. From the company’s recent results, it looks like they are gaining some acceptance. Annual revenues exceed $200 million and for the past three quarters, for the first time, they have received over $60 million of orders in each quarter.

Hurco is a small company with a limited amount of shares outstanding. Further, they don’t communicate with Wall Street well. Management does not do earnings conference calls nor investment presentations. I speak to Hurco’s chief financial officer (Sonja McClelland) regularly and have encouraged her begin doing earnings conference calls to broaden investor awareness. Whether that happens, if the company continues to grow, Wall Street will find it.

Layne Christensen, which has had some successful recent quarters, and Ares Management, LP (alternative asset manager) were small drags on performance. Both stocks were flat to down slightly. Ares has been especially frustrating as it traded above $22 in the first quarter and closed the second quarter at $18.00. We are still receiving a good yield with a dividend of 6% (assuming a $20 cost basis) and the company has been growing assets and developing new sources for future growth. I think both positions will contribute to performance over time.

On the morning of the last day of the quarter, we received good news that another position was being acquired. Parkway, Inc., a real estate investment trust (REIT) which owns offices in Houston, announced that they were being bought by Canada’s Pension Plan Investment Board. As you may recall, Fortress Investment Group announced in the first quarter that they were being taken over which moved the stock much higher and helped first quarter performance.

Parkway was a late 2016 spin out from Cousins Properties, a much larger nationwide REIT. Cousins’ desire to unload the Houston properties was understandable given the trouble that oil and gas companies have encounter during the past few years.

Despite the challenges, Parkway was attractive because of a cheap valuation which priced in a lot of the negatives. Furthermore, management had a history of re-building real estate companies and there was significant potential over time.

In February, Parkway announced that it sold 49% of one of its properties to a joint venture that included the Canadian Pension Plan Investment Board. They obviously liked the situation and saw value in the whole company. The acquisition is valued at $23.05 per share which is a one-time $4 dividend and $19.05 in cash. The deal is expected to close in the fourth quarter.

Looking to the second half of 2017, the markets will deal with issues such the federal government’s debt ceiling, tax reform, geopolitical tensions, and domestic social acrimony. Add to this the possibility that the Federal Reserve and other global central banks may be cutting back on monetary stimulus.

On the bullish side, corporate earnings are growing and business sentiment is optimistic. And internationally, both developed and emerging markets are expanding. As long as none of the challenges gets out of hand or some other event upsets the global economy, further growth is expected. I will continue to monitor the events looking for opportunities while managing risk.

Thank you for your business and continued confidence. Please contact me with any questions.

Jeffrey J. Kerr, CFA

Kerr Financial Group
Kildare Asset Management
168 Water Street
Binghamton, NY 13905

If history repeats itself, and the unexpected always happens, how incapable must Man be of learning from experience

October 2, 2017 – DJIA = 22,405 – S&P 500 = 2519 – Nasdaq = 6,495

“If history repeats itself, and the unexpected always happens, how incapable must Man be of learning from experience.”[i]

Investing is hard. Madison Avenue, however, wants us to believe otherwise as TV ads for brokerage and financial advisory firms make it appear so easy. They portray clients who can only squeeze 15 minutes out of their hectic schedules for their finances yet have everything running smoothly. Or other ads where analysis and winning investment decisions are as simple as hitting a button. Contrary to this fantasy, the real world of money management is much more complicated and challenging.

It is especially difficult when deeply set historical trends inexplicably change. In other words, when the markets don’t do what they are supposed to do. We turn to September as an example of Mr. Market’s confounding ways.

Transporting ourselves back one month to end of August, we find Hurricane Harvey devastating Texas, North Korea firing missiles over Japan, the country trying to understand Charlottesville, the Republicans failing to repeal the ACA, and, of course, Tweets from President Trump. It was an uncertain and worrisome time.

As to the capital markets, caution and risk avoidance would be logical strategies given this landscape. A further nerve-wracking piece of the equation was the fact that were entering a potentially tumultuous time of the year – September and October.

Most are aware of that the two stock market crashes happened in October and the month has witnessed some other nasty air pockets. And as bad as Octobers have been, September is worse. It is the only month that averages a loss for the past 100 years!! The table below breaks down the Dow’s average performance by month for the past 100, 50, and 20 years.[ii] September’s average for the past 100 years is -1.09% – the only month that shows a loss for this time period.

To further illustrate this point, here is a graph that shows the results of $100 invested in the S&P 500 for each of the months going back to 1967 (50 years).[iii] The “Septembers” are the thick red line and are clearly the worst performing month. In fact the $100 invested exclusively in September is only worth $71 in 2017. The next worst month is August which has a value of $98.

So given this history combined with the background of social unrest, geopolitical tensions, and the unknown damage from Hurricane Harvey, who in their right mind would want anything to do with the stock market. Clearly, it would be an easy decision to sell everything and prepare for another sad September.

Instead, the stock market does the unexpected and moves higher. The Dow and S&P 500 increased by over 2% and the small caps (as measured by the Russell 2000) jumped over 6% in September. The Nasdaq Composite, which has been 2017’s leader, paused and was down less than ½%. September’s peculiarity is further proven by the Jets winning 2 games and finishing the month with a 2 – 2 record. Indeed, a curious month. Here are the year-to-date numbers for the major averages.


Dow Jones Industrial Average +13.4%
S&P 500 +12.5%
Nasdaq Composite +20.7%
Russell 2000 +9.9%

Indices are unmanaged, do not incur fees or expenses, and cannot be invested into directly. These returns do not include dividend.

This apparent irrational investor behavior could be explained by optimism concerning the strengthening economy and tax reform. Last week the Commerce Department reported that GDP (gross domestic product) for the 2nd quarter grew at 3.1% which was above forecasts.

Of course, this is backward looking as it is a 2nd quarter number and we just finished the 3rd quarter. However, there are some indications that the growth will continue. The ISM Manufacturing report for September came in at 60.8. This was the first monthly reading at 60 or higher since February 2011 and the highest number since May 2004. The survey dates back to 1948 (formally it was called the Purchasing Managers Index) and only 13.9% of the results have exceeded 60.[iv] September’s number confirms economic optimism.

The Trump Administration released the outline of their tax reform proposal last week. Setting aside its virtues and flaws, reducing corporate taxes is a positive as far as the stock market is concerned. A reduction of corporate taxes obviously translates into larger profits but might result in increased capital investment which will have an exponential economic benefit. That’s what the markets are forecasting.

Returning to our table and chart above, a look forward to 2017’s 4th quarter might add to the bulls’ healthy confidence. October, November, and December all average positive returns for the past 100, 50 and 20 years. Looking at the chart for the past 50 years, November and December are in the top 4 months of performance. Of course, just as September didn’t follow its historical trend, there is no assurance that 2017 doesn’t have a disappointing end of the year.

Considering that the negative news flow can’t stop the stocks market, investors are asking, “Is there anything that can?” That’s actually a $3 trillion question as the Fed announced their intention to start reducing their balance sheet. Recall that as part of their quantitative easing programs, our central bank bought bonds in the market with money they fabricated with the push of a computer key. Their total holdings now exceed $3 trillion dollars (this was around $750 million before the financial crisis).

Fed Chairwoman Janet Yellen announced that the Fed will begin this process in October. To start with, the mechanics of the balance sheet reduction will be that the Fed will stop buying bonds. This will obviously reduce liquidity as dollars stay at the Fed as their portfolio matures. This could result in higher interest rates as bond prices move lower in order to attract buyers. Higher interest rates, if it happens, could be a complication to higher stock prices.

Not only did the equity markets survive scary September, they surprised everyone and moved higher. And getting past September puts us into a historically bullish time of the year. To be sure, there is no guarantee that the markets don’t begin react to North Korea, Russia, the intense social unrest, or some other unforeseen event. However, the markets’ strength in 2017 has been impressive and should be respected until it’s broken. Nevertheless, it’s always wise to keep in mind that Mr. Market can be very, very fickle especially when you least expect it.

[i] George Bernard Shaw, 1902
[ii] The Bespoke Report, September 1, 2017
[iv] Bespoke Investment Group, October 2, 2017

Jeffrey J. Kerr, CFA

Kerr Financial Group
Kildare Asset Management
130 Riverside Drive
Binghamton, NY 13905

“I’m Caught in a Crossfire That I Don’t Understand”

September 18, 2017-DJIA = 22,268-S&P 500 = 2,500 – Nasdaq = 6,448

“I’m Caught in a Crossfire That I Don’t Understand”[ii]

Headlines deteriorate, capital markets appreciate. It is a perplexing mystery that has many confused and incredulous. Issues such as North Korea, Charlottesville, social protests, political discord, terrorism, and natural disasters dominate the headlines. Everyone is aware of them and naturally assume the financial markets should be a tumultuous mess. Yet, markets maintain a calm levitation.

Last week the Dow Jones Industrial Average closed at all-time highs for 4 consecutive days including Friday. The S&P 500 also closed the week at a record high while the Nasdaq reached a record earlier in the week and closed slightly below that level. Even more remarkable is the fact that this is happening in September which is one of the historically weakest months.

Here are the major averages’ performance at the close of last week.


Dow Jones Industrial Average +12.7%
S&P 500 +11.7%
Nasdaq Composite +19.8%
Russell 2000 +5.5%

A partial explanation for the markets’ strength is that numerous negatives provide a wall of worry for prices to advance. In other words, there is so much bad news and it is so widely known that a lot of that risk is priced into current levels. As mentioned, a logical investor, given this news landscape, has probably already distanced him or herself from risk assets.
Another important support for record stock prices is corporate earnings growth. S&P 500 earnings have been quietly and materially expanding. For 2017’s 2nd quarter, profits grew at a double digit rate with the year-over year growth over 12%. Additionally, S&P 500 revenues have grown more than 5%. We’re not sure investors who are focused on the myriad of negative headlines appreciate this development.

Part of the story of earnings growth is foreign exchange related. The U.S. dollar has fallen in comparison to other currencies and is having one of its worst years ever. The chart below shows the value of the dollar in 2017 compared to every year going back to 1995.[iii] It is kind of a messy chart but the red line clearly shows this year’s performance. The irony of the beaten up greenback is that a Trump Presidency was supposed to be accompanied by a stronger U.S. dollar.

The weaker dollar has boosted earnings of large, international companies. The value of foreign sales in euros or yen, for example, translate into higher numbers in U.S. dollars because the euros and yen ‘purchase’ more dollars as they are ‘converted’ for accounting purposes.

Given this financial tailwind, as expected, stocks with significant international sales have greatly outperformed those that have largely domestic customers. Borrowing another chart from Bespoke, this illustrates the difference in the stocks’ gains.[iv] The blue line is S&P 500 companies with greater than 50% of their revenues from international markets and the red line are stocks that have 90% or more of their revenues from the U.S. As you can see, the “domestic’ stocks are up a little more than one-third the gain of their “international” siblings.

This also partially explains the underperformance by the Russell 2000. This index is primarily smaller businesses with domestic customers. On the other hand, larger companies that have global markets, including technology, are included in the S&P 500 and Nasdaq.

Another ‘under the headlines’ reason for the stock market’s record level is the prospect of tax reform. President Trump committed to revamping and reducing the corporate tax burden as part of his campaign. Within dysfunctional Washington, this issue has moved higher on the to-do list and is gaining some momentum.
It is unlikely that anything gets completed in 2017, however, there is a growing chance that something is done in 2018. A new tax law reducing corporate rates will have a major benefit to company bottom lines. The likelihood of something happening on this front is moving stocks higher now.
In addition to growing profits, reducing taxes could easily increase investment back into the business in the form of capital expenditures. This could have an exponential benefit as investing in their company will have a far reaching economic impact. The stock market is discounting this as well.
While the financial markets seem to be oblivious to the bombardment of negative news, it might the case of investors focused in the wrong area. It seems that we are overlooking some important economic positives. Specifically, corporate earnings are healthy and could become a lot stronger if tax reform becomes a reality. Of course, relying on Washington is a risky proposition. However, all parties realize the importance of these market expectations and will ultimately work with the opposition to accomplish something meaningful. And as we wait, we hope that the news flow improves because it’s pretty discouraging right now.

[i] Grant’s Interest Rate Observer, September, 2017
[ii] Bruce Springsteen, 1978
[iii] Bespoke Investment Group, September 8, 2017
[iv] Ibid

Jeffrey J. Kerr, CFA

Kerr Financial Group
Kildare Asset Management
130 Riverside Drive
Binghamton, NY 13905

“The Smiles Are Returning To the Faces”[i]

The level at which any security trades is part fundamental valuation, part supply/demand, and part assumption regarding future events.  These conjectures concerning upcoming developments can be fickle especially as headlines impact investors’ attitude.  In fact, Wall Street’s reaction to the news is often more telling than the news itself.  In other words, when traders are bullish, good news is good and bad news is good.  Of course, in a bearish backdrop, all news is lousy.


The current mentality is that all news is good.  And to be sure, there have been some rays of sunshine that optimists can point to.  Housing has improved, there are no U.S. troops in Syria (yet), and Congress took August off.  The bad news, however, has been visible.  Whether Mr. Market is viewing all bad reports as good because it leads to more quantitative easing or is just overlooking anything negative, we think it is dangerous to believe that all problems can easily be solved by loose monetary policy.

[i]George Harrison

A recent example of Wall Street’s rose colored glasses was the markets’ reaction to the August employment data.  The report’s headline numbers were pretty good with the unemployment rate falling to 7.3% (the lowest in 5 years) and an estimated 169,000 jobs created in the month.  That brought the six month average job growth to 180,330.  Unfortunately, this is below the 200,000 target that some policy makers have set.[i]


Disconcertingly, adjustments to July and June’s data showed softer employment growth.  The estimated number of jobs added in July was reduced from 164,000 to 104,000 while June’s payroll gain was lowered by 16,000.[ii]  Some strategists emphasize the size and direction of the revisions as a sign of the job market’s, and the economy’s, health.  They are dismayed by these adjustments.


Further the decline in the unemployment rate was caused by a bigger drop in the overall labor force rather than job growth.  The number of workers employed fell by 115,000 while the overall labor force declined by 312,000.  This caused the labor participation rate (the number of people either working or looking for work as a share of the working-age population) to drop to 63.2%.  This is the lowest level of participation since 1978 or 35 years ago.[iii]


This soggy job market is clearly a drag on the economy.  Not only do consumers have less income, there are fewer and fewer workers supporting an increasing number receiving government benefits.  Perhaps QE is not all that it’s supposed to be.


Stocks immediately fell after the report but steadily clawed their way back throughout the day and finished little changed.  In the glass is half full view, the bad jobs data supported the Wall Street belief that that the Fed will not “taper” their $85 billion monthly bond purchases which have supported risk assets such as stocks.


After a monthly fall in August, equities have rebounded in September and, at the end of last week, have climbed back to approach 2013’s highs.  Here are the year-to-date performances for the major indexes.



Dow Jones Industrial Average  +17.3%
S&P 500                                    +15.2%         
Nasdaq Composite                    +23.3%

Russell 2000                              +24.1%


Indices are unmanaged, do not incur fees or expenses, and cannot be invested into directly. These returns do not include dividends


While there are some other noticeable blemishes (last week we had lower than expected consumer sentiment and retail sales reports), it is not affecting investor cheerfulness.  45% of the respondents to the AAII survey were bullish (the long term average is below 40%).[v]  This type of reading is often viewed as a contrary indicator (high bullish readings are bearish).


“It Seems Like Years Since it’s Been Here”[vi]


Another concern is the current high level of margin debt.  Margin is debt that is financed with investment securities used as collateral.  The amount of borrowings being financed has returned to levels that coincided with some not so pleasant times for the capital markets.  As shown in the nearby chart, the previous times that margin debt was at the current levels were March, 2000 and July 2007.[vii]  In case readers need a reminder, both dates were followed by material drops in the stock market.


Another troublesome observation is the return of market leadership by exciting, revolutionary companies.  Upstart organizations that change the playing field are a constant part of a dynamic economy.  The United States has experienced this creative destruction regularly.  The automobile industry in the early part of the 20th century was followed by radio and then TV.  More recent, of course, are computers, internet, and cell phones in the information technology area.  In addition, medicine has experienced incredible bio-tech advancements, robots are becoming more prevalent, and energy sources are being discovered and recovered from heretofore unheard of areas.


As stated above, current investment prices discount future revenues and profits.  And some of the companies offering new products and services seem to have unlimited potential.  The debate over what to pay for this prospective success is being fought in the current stock prices.


We offer some examples.  Tesla Motors, the manufacturer of electric cars, carries a $22 billion valuation in the stock market while their trailing 12 month (TTM) sales barely exceed $400 million.  To be sure, $3.50 per gallon of unleaded allows for alternatively powered vehicles.  However, in our opinion, a price-to-sales multiple of 55 times discounts some significant growth.


Yelp describes their business as “an online urban city guide that helps people find places to eat, shop, drink, relax, and play based on the informed opinions of a community of locals in the know”.[viii]  Investors must have a pretty high outlook for this business because the stock’s worth in the markets exceeds $2.5 billion.  We are not sure exactly how Yelp generates revenues but they are less than $150 million.  Another bothersome detail for Tesla and Yelp is that they are both losing money.


Even the most primitive Luddite knows what Facebook is.  While many will assign “failed IPO” to this social media leader, it has undoubtedly changed the way we communicate.  The stock has returned to favored status recently.  Mark Zuckerberg’s venture carries an $84 billion market capitalization as it generates $5 billion in sales.  One distinction from Tesla and Yelp, is that Facebook has a bottom line.  At a price in the mid-$40’s, the price-to-earnings is 190.


Energy exploration in shale formations is dramatically changing our economy.  Cheaper energy is driving a manufacturing renaissance in the U.S.  New plants are being built throughout the mid-west and south.  Furthermore, the abundant natural gas is being targeted as an eventual American export.  Many areas of the world are currently importing liquefied natural gas as an important energy source (Japan and Europe are two large importers).


Cheniere Energy is in the process of building one of the first exporting facility in the U.S.  If all goes as planned, it will be operational sometime in 2015.  Wall Street can not contain their excitement.  The stock trades at a market capitalization over $7.5 billion despite only $260 million in sales and substantial red ink on the bottom line.


Returning to the overall landscape, the stock market has had many reasons which could spark a decline.  While August was lower, it was shallow in comparison to 2013’s move.  Investors returned from the Labor Day weekend and bid prices higher.  There appears to be little to worry about.  Of course this is much different from autumn 2012 when worries over the election, Europe, and the fiscal cliff caused investor angst and pessimism.


A year ago we advised clients that a lot of bad news was priced into the markets.  It turned out to be somewhat correct despite a nasty selloff after the election.  With the current environment so cheerful, we fear there is little risk associated with the future outlook for the economy.  We hope for continued expansion but fear the markets’ expectations.



[i], September 6, 2013

[ii] ibid.

[iii] Bloomberg Business Week, September 6, 2013

[iv] The Wall Street Journal, September 14, 2013


[vi] George Harrison

[vii] BOA/Merrill Lynch Global research.







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