Slowdown In China and JNJ Issues Take Back Market Gains!

As a leader, you don't get too high on the highs or let the bumps balance down. Every leader over time has probably equal amount of good luck or bad luck - or, you could argue, has good opportunities or challenges. John T. Chambers


If you have traveled at all in the last five years, I imagine your experience has been less than stellar. In fact, I bet there is at least one occasion that was truly horrendous. It wasn’t always this way. When I was a youth, you could buy a pack of ten flight discount coupons from PSA (was bought by Southwest). It allowed you to literally show up at the terminal a half hour before the flight and board and get on. No muss, no fuss, no three hours showing up early, no full cavity body searches, no five dollar waters, etc. With 9-11 and the uni bomber, all that changed, as we well know. In the last six months, I have been on five flights. All five flights were delayed. Two of them were canceled and I had to spend the next day or two fighting to try and get on a flight home. In one case, I spent forty eight hours, literally, inside an airport waiting to get my flight, which wound up leaving at 12 o clock that night (thank the lord). I read about Jim Cranmer's daughter on a United flight being delayed seven hours. I had a similar experience in the Newark airport. It was snowing and we were delayed on the tarmac for three hours, and at ten thirty at night, after 4 hours of waiting, the flight was canceled. Fly the Friendly skies is the motto, right? After sitting there and being told numerous things which turned out to be, shall we say, inaccurate, with the snow on the ground, I came to the conclusion, “Not this flight, not this night.” I say this because, in thinking about the current state of affairs in the equity markets, its time to face reality. Like the flight, not this year, anyway. So, what do I mean by that?

I mean that if you are waiting for the market to soar, or even be up 5-7%, forget it. Right now it is down three percent for the year. If the market were to stay where it is for the rest of 2018, that would be a win. The key issue for many is what will happen in 2019, but for all the people whose money I manage, that is too short a time frame. As time frames extend, chances are that owning stocks will work for you. Let’s not forget, equities have been up nine years in a row. 9. 9. 9. In most decades, you get seven or eight up years and two or three down years. Your odds are pretty good when you own equities. Some think cash is a good alternative. I would argue, over a long period of time, you are wrong. Remember, you have to contend with inflation. When you own businesses through equities, the management teams get to reinvest the capital to grow cash flows and profits ever higher. The best companies do it exceedingly well and there are many great capital allocators out there. Remember, something like an Amazon started off at a hundred million in market value with maybe a fifty million dollar business. It now is a two hundred billion dollar business with nearly a trillion in market value. Not everything is Amazon, but it doesn’t have to be. Cash gets you interest of 2.01%. Congratulations, have a party with that. If you are protecting your capital, that is one thing, no problem, cash is fine, makes sense. Bonds, well, they yield 3% on the ten year treasury, put them with cash. If, however, you are trying to grow your capital, well, you can try real estate (involves borrowing lots of money, especially with today’s inflated prices everywhere), or commodities (see what drilling for oil or starting a mine costs, or use an index for lower capital costs). Cryptocurrencies, maybe? Let’s see, down eighty percent or so this year, clearly some risk there. So, let’s go back to the hated stock market, shall we?

If you look around the world, consider some situations. In the UK, Brexit nearly cost Theresa May her job this week and she still has to go back to the European Union to try and renegotiate the terms of the situation in Ireland and Northern Ireland (good luck with that Theresa, she actually has held up pretty well). In France, the country has undergone nearly a month of protests about the cost of living, which is actually a friendlier way of describing the protest against taxes on gasoline. You see, the greenies didn’t anticipate the general public in France being upset about paying more for something they have to use (imagine that). In Italy, the government is trying to figure out how to not spend as much money so they can stay within the parameters set by the EU. In Germany, Angela Merkel has announced she won’t run again, and the country is still dealing with the economic and social issues of letting so many immigrants into the country. Along with being the lynch pin of the European Union, it is an economy which has suffered from a slowdown in autos and higher trade consequences from tariffs. Of course, we should mention Canada’s little tiff with China about the Huawei executive. Saudi Arabia has issues as well, as the world and especially the United States, doesn’t like to see journalists dismembered in foreign embassies (not a good look to kill members of the press). Here in the United States, we have our own mess with the Democrats ready to impeach Trump as soon as the year turns. Newly appointed White House Chief of Staff Mick Mulvaney looks ready to chop whatever he can off of entitlements, but I suspect the Democrats ain’t going to play ball there, either. So, right now, obviously, the key word is hated.

The best example of current sentiment is what happened with Johnson & Johnson yesterday. JNJ is as high quality of a company as there is, one of the only corporations with a triple A credit rating. The stock lost ten percent of its value yesterday on reports that there was asbestos in its baby powder. If you do the research, trial lawyers have sued under ten times and won half the cases and lost the other half. JNJ is an eighty billion dollar a year business that generates over twenty billion of cash year in and year out. The litigation will take many more years to resolve. Did it deserve a ten percent haircut based on that report, which comes out to about forty billion bucks? Probably not, but it is emblematic of the current sentiment of investors. The last few months have been difficult and there are many stocks of companies which are down dramatically (greater than 20%) or more. Remember, the markets in the United States have held up better than almost every other geography. Let’s look at some reasons for optimism in 2019, shall we?


First, the S&P 500 should earn approximately 170 bucks a share in 2019, which leaves the index trading at a forward P/E ratio of 15, a little under its long term average of 17x. Inflation still is muted at around 2-2.5% per year. The ten year treasury bond trades at 3.0% and the economy is growing at 3.0% per year (there is some variability in that). Anecdotally, I am seeing insider buys at different companies we own, and corporations are announcing stock buybacks as well. Facebook just placed theirs at a cool nine billion. I also suspect the merger and acquisition environment will heat up as as executives are looking at the stock prices of competitors and low borrowing rates and deciding now may be the time to be aggressive. The strength of the dollar and lower oil prices should bolster domestic spending, but that could change quickly if there is any sign the global economy is improving. All in all, not a great year in the stock market, but as a long term investor they are not always going to be good. Long term, I’ll take my chances.


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Yale Bock, Y H & C Investments, its clients, and the family of Yale Bock have positions in the securities mentioned in the blog,  Investing in securities involves risk and the potential loss of ones principal.  Past performance is no guarantee of future results.  All investment decisions should be considered with respect to ones risk tolerance, return objectives, liquidity needs, tax considerations, and one's overall financial situation.  The fact that Yale Bock has earned the right to use the Chartered Financial Analyst in no way means or guarantee performance better than market indexes.