Market Trading Report

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Federal Reserve Chair Jay Powell says he is keeping rates at zero for a while. It was no surprise, but it confirms that we will continue to ignore US Treasury bonds. They might not pay enough in our lifetimes to warrant our attention ever again!

Instead, we will turn our focus to higher paying fixed income vehicles. I am talking about corporate bonds, convertible bonds, and “preferred” stock. They all dish more dividend per dollar than lame T-Bills. But is this the best time to buy them, with an election just around the corner? It is a common question, as I am seeing many subscribers writing in to ask:

First, let us use the most accurate tool out there, the prediction market.

You can ignore the “gurus” who have developed models to predict the election. First, they were all wrong in 2016. Second, it is not necessary to listen to them because we can tap the “wisdom of crowds” (really, the wisdom of gamblers!) by looking at a site like PredictIt. We should not use a random poll to base our investment decisions on. We should follow the money that is flowing through a site like PredictIt to make actual wagers on real outcomes.

When making our dividend decisions, we do need to plan for any version of 2021-22 politics. As I write, the presidential election is being bet 56/44 in favor of the Democrats. It is basically a toss-up. The Senate is being priced close too with a 60/40 betting lean in favor of the Democrats. Only the House (83% chance of continued Democrat control) can be assumed to be a done deal.

Now what do the incumbents and challengers all have in common? What is the one area where they almost certainly agree? They are likely to let Fed head Jay Powell do whatever he needs to do to support the stock market economy. That will probably involve Powell’s sleek office printer:

The “economy” is a convenient excuse to ramp up greenback printing. However, we contrarians know that stock prices and the actual economy are two different things. Wall Street (sadly) does not care that our favorite restaurant is shutting its doors on Main Street. The stock market indices trade off the profits of big businesses. And big firms are still making lots of money. Plus, there is still a ton of “new cash” out there. Powell cranked up his money printer and flooded the world with liquidity starting in March. Other central banks around the world were generous as well. Here in the US, our M2 money supply is up an astounding 23% year-over-year.

Let us not let the current pullback distract us from this “big picture” view. We were due for a breather, as stocks do not always go up. We have got the pullback, it has taken down most stocks and some fixed income, too, and now it is time to go shopping.

That said, what are the best bonds to buy before, during or after the November election? We income seekers should consider:

• Preferred shares, which pay 7% or more today,
• Convertible stocks, which benefit from a rising stock market because they “convert” from bond to stock as their underlying equity price rises (the fund I like pays 4.4%), and
• Overseas bond funds, which pay up to 11% today thanks to the big yields offered by emerging market governments.

Another benefit of these funds, beyond their big dividends, is their downside protection. For example, the S&P 500 topped on September 2 and is down 9.3% (as I write). Meanwhile, my favorite preferred stock fund, the Flaherty and Crumrine Dynamic Preferred and Income Closed Fund (DFP), is up by 0.6%. (Its positive total return is represented by the monthly dividend the fund just confirmed yesterday!)

If you’re wondering where I’m finding these pullback-proof monthly dividends… and perhaps the type of glue I’m sniffing to see these 4%, 7% and even 11% yearly yields in Bond-land, I’ve got three letters for you: CEF

There are some great closed-end funds (CEFs) that dish income investors these generous dividends. The great thing about CEFs is that they trade like stocks because they have fixed pools of shares. Which means that when the market slides, they can often trade at discounts to their NAVs (net asset values).

A 12.5% discount is unheard of for a bond ETF. However, there are many bond CEFs that are currently trading at discounts this generous. In fact, we can buy some secure foreign bonds for as little as 86 cents on the dollar (a 14% discount to NAV), thanks to this recent pullback and general ignorance about CEFs.

Economic News of Interest:

The number of Americans filing new claims for unemployment benefits unexpectedly increased last week, supporting views the economic recovery from the COVID-19 pandemic was running out of steam amid diminishing government funding. Initial claims for state unemployment benefits rose 4,000 to a seasonally adjusted 870,000 for the week ended Sept. 19. Data for the prior week was revised to show 6,000 more applications received than previously reported. Six months after the pandemic started in the United States, jobless claims remain above their 665,000 peaks during the 2007-09 Great Recession.

U.S. federal debt held by the public will balloon to about 195% of the country’s economic output in 2050, from about 98% at the end of 2020 and 79% in 2019, the Congressional Budget Office projected on Monday. The CBO, in its annual Long-Term Budget Outlook, said that increased federal government spending associated with the coronavirus pandemic has accelerated the growth of U.S. budget deficits and debt. The nonpartisan budget referee agency said that the 2020 deficit is projected at 16% of U.S. GDP, and the share will fall for several years, but will begin rising sharply again by 2028.

Failure to deliver more government aid to households could precipitate a wave of mortgage defaults and evictions, Federal Reserve Chair Jerome Powell said on Thursday in a fresh warning amid a continued deadlock in Congress over another coronavirus relief package. While households are spending now, perhaps using what’s left of money from the $2.3 trillion package passed by Congress in March, “the risk is they will go through that money, ultimately, and have to cut back on spending and maybe lose their home or their lease,” Powell said in testimony before the Senate Banking Committee.

U.S. orders for durable goods increased in August at a slower pace than expected, restrained by declines in bookings for motor vehicles and military equipment, though a gauge of business investment rose more than forecast. Bookings for durable goods — or items meant to last at least three years — increased 0.4% from the prior month after an upwardly revised 11.7% jump in July, Commerce Department data showed Friday.

Now, The Week Ahead…

While it may no longer be the top news story in the financial press, the coronavirus pandemic is still with us. On Wednesday, Johnson & Johnson (JNJ) said that its vaccine candidate is progressing to Phase 3 trials. In the meantime, several countries in Europe are considering reinstating business and travel restrictions, as the number of new cases has re-accelerated. If the pandemic continues to spread, it could hamper the positive trajectory of economic recovery reported in recent months.

The first U.S. Presidential debates will occur on Tuesday evening. President Trump announced the nomination of Amy Coney Barrett to the Supreme Court on Saturday. This adds another layer of conflict to an already contentious election.

We will get the final reading for second-quarter GDP on Wednesday. This is followed by the closely watched monthly Payrolls Report (September) which is due out on Friday. This should be the last payrolls report before the US election. Estimates call for the addition of 800,000 non-farm payrolls in the month, and for the headline unemployment rate to tick down to 8.2%. Following the snap-back recovery in stocks from March lows, we believe that investment gains will be harder to come by in the second half of the year. As a result, deciding what and when to buy can be challenging for any investor. However, the fact remains that attractive investments are out there if you are willing to dig a little deeper.

Index Charts:

With the weekend ending, it remains to be seen whether the sellers will exert further pressure next week or will we see a turnaround, with major indices reaching key levels within a mixed macro backdrop.

Shares have fallen for four weeks, with the S&P pulling back around 10% from its record high. Sentiment has been downbeat so far in September. As well as profit-taking from record highs, there has been growing concerns about the disconnect between the economy and the markets.

Besides valuation concerns, the alarming rise in coronavirus cases across Europe and other parts of the world has revived growth concerns, just as the global economy was beginning to recover from the pandemic.

Recent macro data suggests the stimulus-driven US economic recovery may also be stalling, and there is growing uncertainty over whether there will be more fiscal stimulus with the presidential election looming. Yet, the selling has not been anything like back in March. And let us not forget the big elephant in the room. Officials from the Fed and other major central banks have been reminding investors that more stimulus may be provided if the economy warranted it. Also, several European countries have already extended their fiscal stimulus support and there is a good chance the US government will follow suit.

With various stimulus measures still ongoing, and more fiscal and monetary stimulus potentially on the way, we continue to do what we have done so over the past decade: buy the dip again. It is worth noting that some investors who were presumably hoping for a pullback have now got a 10% correction from the record high, which makes it more probable than not that we see a rebound soon.

With that said, from a technical point of view, the S&P has now reached a critical juncture after its recent falls:

S&P 500 Short-term (SPX)… As the daily chart shows, the index has been very sensitive around the ~$3215.00 area in the past, where we have seen good bounces and rejections from. And it was precisely here where the index once again reacted from on Friday, as it started to turn higher after being in the red in the overnight session.

But was this bounce an oversold reaction, or a sign of things to come in the next few sessions?

Well, some would argue that the RSI (banded oscillator) was at bear oversold levels and after a 10% correction you are bound to see some dip-buying at or near support.

For confirmation, I would now like to see the S&P stage a breakout point from this correction. The Day Trade Setup Type 15 is one of my reliable reversal patterns. So, a decisive break above would be deemed a bullish development.

To wrap-up this Market Trading Report, Friday’s reaction was nice, but it now needs to break out—and soon. Otherwise, there is a risk we could see further falls in the near-term. Indeed, a daily close below ~$3215.00 could see the index drop towards its 200-day average at ~$3107.00, or even lower. But even if that bearish setup plays out, it is worth remembering that in the grand scheme of things, the correction from the record highs has been relatively shallow thus far. The index has not even retraced to its 38.2% Fibonacci level (~$3054.00) yet. This means that objectively, the long-term bullish trend remains intact and traders should be prepared for a sudden short-squeeze rally to potentially emerge, even if the macro backdrop may suggest otherwise.

Charts of Interest:

Cirrus Logic (CRUS) is my “Chart of Interest” this week. The company makes integrated circuits for consumer electronics and other various industries. The stock gained more than 5% this week. We believe this positive momentum can continue throughout the remainder of 2020. Here is why:

What makes Cirrus Logic stand out is that the company derives nearly 80% of its sales from Apple (AAPL). This type of revenue concentration can often raise a red flag. It is less of a concern when you are talking about one of the biggest and best-run businesses on the planet. That leverage to the Apple juggernaut was on display last month when management posted quarterly results that exceeded expectations.

The company earned $0.53 a share in the June quarter, as revenue increased fractionally from a year ago, to $242.6 million. Looking ahead to the September quarter, management sees sequential sales improvement, to $290 to $330 million. Cirrus Logic has $606 million (over $10 a share) of cash and investments on its debt-free balance sheet. Backing this out, the company is currently valued at just 16.7x expected full-year earnings of $3.15.

The stock has received upgrades from two analysts this past month. The average price target of six active brokerage firms is $76.50, which represents 21.4% upside potential.

On top of the positive aspects mentioned already, the company has seen insider buying, as well as improving sentiment from investors (both professional and individual).

Conclusion

Embrace your subscription here with Pries Capital. As you work your way through your subscription, remember that this is not all-encompassing. It is a 40,000-foot view of how day trading/investing works & is designed to give you the basic information to get past the all-important question of how to get started. As time goes along, make note of any questions or highlights, & then come back to Jason, whether email or by phone, & ask questions to learn more about anything on your mind. Pries Capital is a community of all diverse types of day traders and investors, so begin participating, learning, & growing.

With that said, “We have great challenges & great opportunities, and with our help we’ll meet them together!” – Jason Pries