Once Hot, MLPs Reel From Selloff

Once Hot, MLPs Reel From Selloff
WSJ, 18-Oct-15
By Dan Strumpf And Corrie Driebusch

Energy pipeline and storage companies were one of the hottest investments on Wall Street, offering steadily higher payouts, tax benefits and insulation from wild swings in oil prices.

 

Now, investors are contending with a sharp selloff in master limited partnerships that has outpaced the fall in oil prices. Deal making in the sector has slowed and investors say they are calling into question the ability of MLPs to keep up the steady pace of payout increases as U.S. oil output finally starts to decline.

 

The years long boom in U.S. oil production fueled the proliferation of MLPs. The companies transport, store, produce and refine energy, passing on the bulk of their earnings to shareholders. Income-starved investors flocked to the sector, lured by the companies’ assurances of steady payout increases and their tax advantages. Since 2009, MLPs have raised more than $100 billion from initial public offerings and follow-on stock sales, according to Dealogic.

 

But MLPs have tumbled in price in recent months. The NYSE Alerian MLP Index, a widely tracked barometer for the sector, has lost 25% this year, outpacing the 11% decline in domestic crude prices.

 

With oil production falling, the need for pipelines is declining, and the sector’s multiyear expansion and steady growth in MLPs’ dividend-like payments are under threat, investors said. U.S. crude output was down 6% in early October from a recent high in late June, according to government estimates. The number of rigs drilling for crude has fallen sharply, prompting fears that further output declines are on the horizon.

 

“When U.S. production was growing and financing was cheap, there was an abundance of growth,” said John Dowd, manager of the Fidelity Select Energy Portfolio fund, which has $1.8 billion under management. “The outlook is definitely gloomier in the pipeline space than it was six months ago.”

 

Mr. Dowd said he has lightened his holdings of MLPs and other energy companies recently and has moved into shares of certain exploration and production companies, which he said trade at more attractive valuations.

 

Cuts to payouts are still rare, but they are picking up steam. In the past year, 13 MLPs—nearly all exploration and production companies—have cut the size of their payouts, according to Credit Suisse Group. Payouts for the industry expanded each year between 2010 and 2013, but the growth clip fell to 6% last year, and is forecast to fall again to 5.9% in 2015 and 5.8% next year, according to the bank.

Plains All American Pipeline PAA 2.43 % LP shares have fallen 18% since the energy transportation company said in an August conference call that future payout growth could come under pressure. Linn Energy LINE -4.15 % LLC, the largest oil and gas producer organized as a partnership, earlier this month suspended its payout. Shares are down 70% this year.

 

Growth expectations were even bigger for some new MLPs at the time of their initial public offerings in the past year.

 

“Investors have correctly started to question these long-term growth forecasts—not just for the dividend itself, but for the ability of the company long-term to grow assets,” said Scott Roberts, portfolio manager of the $1.3 billion Invesco High Yield fund.

 

Because they pass on much of their income to investors, MLPs have historically offered yields well above that of the stocks and bonds of many companies. This year, the $7.7 billion Alerian MLP exchange-traded fund has typically yielded between 5% and 7%, according to FactSet. The benchmark 10-year Treasury note yields 2.026%.

 

The MLP swoon has tripped up buyers who have stampeded into the sector. They poured more than $19 billion into MLP mutual and exchange-traded funds during the 18 months through June, according to Morningstar Inc. They withdrew a collective $453 million in July and August and in September tiptoed back in.

 

Before the recent selloff, among the most sought after MLPs have been those of companies that had a parent company ready to keep passing on their assets to a dedicated MLP over time. These “drop-down sales” guaranteed that the MLPs were able to add new income streams and increase payouts. In 2014, Shell Midstream Partners SHLX 2.61 % LP and Antero Midstream Partners AM -0.35 % LP raised more than $1 billion a piece in highly demanded initial public offerings.

 

These drop downs must be paid for, however, and typically are funded by a mix of capital, equity and debt. Through this time of year in 2014, MLPs raised $19.7 billion in initial public offerings and follow-on equity sales, but this year the figure has fallen to $12.9 billion, according to Dealogic. No MLPs have gone public since June.

 

“You had a rush of new money into that market,” said Curtis Holden, senior investment officer at Tanglewood Wealth Management, a Houston financial adviser who oversees about $825 million. Mr. Holden said he has cut his firm’s holdings of MLPs from as much as 4% to a fraction of that amount this year.

 

Mr. Holden has his eye on buying more if prices stabilize.

 

“Growth is going to stay lower, but there’s still growth potential there,” he said.

 

For some, the recent declines appear to be too steep.

 

“If we can buy a high-quality name that has a nine or 10% yield and good visibility in terms of what the distribution profile looks like, in this environment I think that works compared with where other yield assets are trading,” said Mark Freeman, chief investment officer at Westwood Holdings WHG -0.36 % Group. He said he likes Plains All American Pipeline, Enterprise Products Partners EPD 0.24 % LP and Magellan Midstream Partners MMP 0.59 % LP.

 

While Many Panicked, Japanese Day Trader Made $34 Million

While Many Panicked, Japanese Day Trader Made $34 Million

Bloomberg, 27-Aug-2015

By Jason Clenfield and Yuji Nakamura

 

While a lot of investors were hitting the panic button Monday, a Japanese day trader who’d made a big bet against the market timed the bottom almost perfectly and narrated a play-by-play of the trade to his 40,000 Twitter followers. He claims to have walked away with $34 million.

 

As financial markets got crazy this week, many people turned cautious. Some were paralyzed. Not the 36-year-old day trader known by the Internet handle CIS.

 

“I do my best work when other people are panicking,” he said in an interview Tuesday, about an hour after winding up the biggest trade of a long career betting on stocks. He asked that his real name not be used because he’s worried about robbery or extortion. To support his claims, he shared online brokerage statements showing his trades second by second.

CIS had been shorting futures on the Nikkei 225 Stock Average since mid-August, wagering it would fall. By the market close on Monday, a paper profit of $13 million was staring him in the face. He kept building the position. When he cashed out late that night, a collapse in New York had caused his profit to double.

 

Instead of celebrating, he kept trading. He started betting the market had bottomed. When he finally took his winnings off the table on Tuesday, he tweeted, “That’s the end of my epic rebound trade.” His profit, he said, had almost tripled.

 

“It was a perfect trade,” said Naoki Murakami, who follows CIS on Twitter and whose markets blog has made him a minor celebrity in his own right.

Trash Talking

Last year, when he was the subject of a profile in Bloomberg Markets magazine, CIS said that in a decade of day trading, mostly from a spare bedroom in a rented apartment, he had amassed a fortune of about $150 million. At the time, he shared tax returns and brokerage statements to back up his claims. One document showed he had traded $14 billion worth of Japanese equities in 2013 -- about half of 1 percent of all the share transactions done by individuals on the Tokyo Stock Exchange that year.

 

CIS became a cult figure among Japan’s tight-knit community of day traders by trash talking on Internet message boards early in his career. He’s notorious for lines like “Not even Goldman Sachs can beat me in a trade.” Last year he opened a Twitter account, on which he talks about video games and, regularly, his trading. It’s impossible to say how many of his followers are also day traders, and how many of those buy and sell in his wake. Those who do, of course, are quite possibly helping him make money.

Playing Poker

During the interview Tuesday at a Tokyo coffee shop, where he had agreed to talk before continuing on to a poker game with buddies, he explained his recent trades step by step. Dressed in a plain gray T-shirt with a flannel shirt tied around his waist, he was monitoring a brokerage account on his iPad and had a $1,600 burgundy under one arm, a 2003 Domaine de la Romanee-Conti. (It wasn’t a celebratory bottle, he said; he drinks a lot of good wine.)

 

“Of course I’m happy about today, but you win some and you lose a lot, too,” he said, explaining the Greek financial crisis had cost him about $6 million.

 

CIS said he has no idea whether or not China is going to drag down the global economy. He doesn’t even care. When he trades, he tracks volumes and price moves to follow the momentum. For him the basic rule is: “Buy stocks that are being bought, and sell stocks that are being sold.”

Latest Trade

The latest trade began on Aug. 12, when CIS noticed a shift in equity markets he hadn’t seen for a while. Shares in the major indexes were struggling to recover from sell-offs. He started shorting Nikkei futures: 200 contracts the first day and another 1,300 over the following week and a half.

 

The stakes were enormous. With 1,500 contracts at a notional value of about $160,000 each, his bet against the Nikkei was about $240 million. For every 100 yen move in the index, he stood to make or lose $1.25 million.

 

The market was mostly flat over the next few days; CIS bided his time playing video games. On Friday Aug. 21, the Nikkei dipped. Then on Monday, the index plunged the most in two years, and the futures fell more than 1,000 points to 18,410. By the close at 3 p.m. in Tokyo, his profit stood at about $13 million.

Feedback Loop

This is the point where most traders would take their money off the table and call it a year. Not CIS.

“I’m adding to my position,” he wrote on Twitter. “Then I’m going to go for a walk and prayer.”

 

He sold 100 more futures contracts. Two hours later, he sold another 100. His bet against the Nikkei had risen to about $275 million. He would lose $1.4 million for every 100-yen increase in the index.

 

His logic for hanging on to the trade until the U.S. open, at 10:30 p.m. Tokyo time, was this: Panic would grip American investors returning from a weekend after they saw the scope of Asian selling, including Shanghai’s 8.5 percent plunge. That would trigger selling, which, in a feedback loop, would pull Nikkei 225 futures down violently amid the thin volume of late-night trading.

 

“I figured there would be a lot of fear around the U.S. open and that’s what I was aiming for,” he said.

 

On cue, the Dow Jones Industrial Average fell more than 6 percent in early trading. Nikkei futures tumbled again, dipping 1,250 yen below the 3 p.m. closing level. CIS, home in his pajamas, finally cashed out his short position. His profit had hit $27 million.

“Too Delicious”

There was still more money to be made from the panic though. Some investors that night were willing to pay a hefty premium for options that protected against the Nikkei crashing below 10,500. That would be a collapse of almost 40 percent. In CIS’s view, these investors were looking to buy insurance against a near impossibility.

 

He was happy to take the other side of that trade. The contracts were worth another $250,000 to him. He made the first deal within 10 seconds of what would prove to be the market’s bottom at 10:34 p.m.

 

“Too delicious,” he tweeted.

 

About an hour later, as he became more confident in a rebound, he started buying Nikkei futures. Now the play was the opposite of the short bet he’d started the day with. By 1 o’clock Tuesday morning, he’d accumulated 970 contracts, a $145 million wager that the market would start to climb.

He made one more trade before bed: a few more option contracts sold to straggling panickers. Those were worth $6,250. By now, at 1:40 a.m., he was a rich man stooping to pick up pennies.

 

He dashed off a last tweet at 2 a.m. “What a day. Still holding on to all my buys,” he wrote. “Time to sleep.”

The Rebound Trade

CIS returned to Twitter five hours later. Nikkei futures opened at about 18,000 and slowly recovered. Early that afternoon, he closed out his long position.

 

At the coffee shop later that day, CIS was pretty nonchalant for man who had made tens of millions of dollars in less than 24 hours. For him, it was just one trade out of thousands he would make this year.

 

“When a trade goes right I feel like bragging a little, but I don’t get on Twitter to talk about it if I lose,” he said with a laugh.

 

 

Jim Cramer Gets Married - Best Wishes to the Love Birds

Jim Cramer Marries Lisa Detwiler

NY Times,19-Apr-2015

By Vincent M. Mallozzi

Lisa Cadette Detwiler and Jim Cramer were married Saturday evening at the Liberty Warehouse, an event space in Brooklyn. Aran Yardeni, an archeologist and friend of the couple who became a Universal Life Minister for the event, officiated.

 

The bride, 49, is a real estate broker for Corcoran Group Real Estate in Brooklyn Heights. She graduated from Trinity College in Hartford. She is a daughter of Joan B. Cadette and Walter M. Cadette of Millbrook, N.Y. The bride’s father retired as an economist for J.P. Morgan in Manhattan. Her mother retired as an English teacher at Dominican Commercial High School in Jamaica, Queens.

 

The groom, 60, is the host of “Mad Money With Jim Cramer,” a weekday show on CNBC that analyzes investment opportunities. He is also an anchor of “Squawk on the Street,” a weekday stock market show on CNBC. He graduated from Harvard, from which he also received a law degree.

 

He is the son of the late Louise A. Cramer and the late N. Ken Cramer, who lived in Philadelphia. The groom’s mother was an artist. His father owned International Packaging Products in Philadelphia, which sold wrapping paper, boxes and bags to retailers and restaurants.

 

The bride’s first marriage ended in divorce, as did the groom’s.

 

The couple, set up by a mutual acquaintance, met in January 2006 at a bar in Manhattan. At first, Ms. Detwiler balked at the idea of meeting Mr. Cramer, who is known for his on-air histrionics.

 

“I remember saying that there was no way I was going to go out with that bald, screaming man,” she said, laughing. “But then the person who set us up reminded me that I had been spending too much time at home watching television with my dog.”

 

So she went along, but not before establishing a few ground rules. “We were both separated with children and in the process of getting a divorce and trying to start over in our lives,” said Ms. Detwiler, who had three children from her first marriage. “So the deal was that we would meet for a drink, and if he liked me, he would ask me out for a burger later that evening. And if I liked him, I would have to accept that offer.”

 

Much to Ms. Detwiler’s delight, she and Mr. Cramer hit it off immediately. “I didn’t really care about him as a TV person, but he was so well versed on so many different topics,” she said. “He had wonderful life experiences to share. And most of all, he placed his children above everything else in life. And after all I had been through, that really hit home with me.”

 

During their initial conversation, Ms. Detwiler told Mr. Cramer that two years earlier, her 2-year-old daughter, Grace, had died as a result of cardiomyopathy, a chronic disease of the heart muscle.

 

Mr. Cramer, who has two children of his own, was overwhelmed. “I’m looking at this woman who just shared with me this horrible tragedy that happened in her life, and I’m thinking to myself, how does she even have the strength to get up in the morning?” he said. “I thought I was tough, but it takes a really tough person to come back from something like that.”

 

When their date ended, Ms. Detwiler got into a cab and thought that was probably the last she would see of him. “I figured that Jim, because of who he is and what he does, is meeting incredible women all the time,” she said. But at 4 that morning, she received an email from Mr. Cramer that read, “Sometimes in life people who are special need to be told they are special.”

 

Two weeks later, they went on another date. “I wanted to get serious with her right away because I was afraid someone else would meet her,” he said. “I kept thinking that anyone who can handle what she has been through can easily handle the train wreck that is Jim Cramer.”

 

 

A Tweet Worth $2.4 million

How a Wall St. trader made $2.4mln thanks to a reporter tweet

MarketWatch, 2-Apr-15

By Bruce Golding

A savvy stock trader scored a $2.4 million windfall by using a tweet about a possible tech deal to outrace a herd of rival bulls.

 

The unidentified Wall Street whiz paid $110,530 on Friday afternoon for the right to buy around 300,000 shares in computer-chip maker Altera at $36 a share, according to reports.

At the time, Altera ALTR, +2.32%   was trading at about $34.76 a share, and the trader’s “call” options cost a measly 35 cents each because the stock ordinarily wouldn’t be expected to hit the $36 mark.

 

But within just 28 minutes, Altera shares had soared in the wake of a Wall Street Journal reporter’s tweet that the company was “in talks” to get bought out by Intel INTC, +0.06% reports said.

 

At Friday’s 4 p.m. closing bell, Altera’s price was $44.39 a share, up 28 percent.

 

By exercising the options to buy the Altera stock at $36 a share, then selling it for more, the trader made about $2.4 million in net profit, reports said.

 

Fortune noted on Wednesday that the extremely well-timed maneuver came less than a minute after the Journal reporter’s tweet at 3:32 p.m.

The tweet, along with a simultaneous headline sent out via the WSJ’s newswire service, prompted Nasdaq to suspend trading in Altera at 3:35 p.m.

 

But by then, the trader had already purchased the options and was on the road to riches.

 

Investment strategist Mike Khouw told CNBC there were several ways the trader might have been able to move so swiftly.

 

They include having seen the tweet at just the right moment, or having known about the possible deal ahead of time and reacting as soon as the news broke.

 

Khouw also speculated that an automated computer program — or “bot” — could have alerted the trader to the tweet.

 

“A bot is not as outlandish as it sounds,” Khouw told the cable network.

 

“Traders need to aggregate and filter through tremendous amounts of data quickly and will rely on technology to help if it is available.”

 

Fortune also suggested that the trade itself was automated and was executed by a computer that had been programmed to scan Twitter for the reporter’s tweets and act on any that included key phrases like “is in talks.”

 

Meanwhile, neither Altera nor Intel has confirmed the takeover report, and Altera shares closed down about 1.2 percent on Wednesday, at $42.41 per share.

 

 

Greek Tragedy Averted But Greek Drama Will Continue

Greece and Euro-zone Finance Ministers reached a tentative agreement on extending the Troika's Loan Agreement by 4 months. Hopefully, by then, they hope to sign a more permanent and durable agreement. The bottom line is that Greece is between a rock and a hard place and they can't do anything about it.

 

How did the Greek drama start? As I wrote in, The Greek Problem, the Greek debt crisis erupted in November 2009 when the newly elected Papandreou government announced that the country's deficit to GDP ratio for 2009 would be 12.7%. Just in February that year, the previous government had forecast 3.7% for 2009. Not that the EU's Stability and Growth Pact or the Maastricht Treaty required Euro members to adhere to twin goals (a) deficit/GDP ratio of 3% and debt/GDP ratio of 60%). The reason for this huge upward revision was that the Greek government had consistently mis-reported debt and deficit data to the Eurostat since 2007. This revelation rang alarm bells amongst international investors because Greece needed to roll-over €16 billion of its debt by April/May of 2010.
 
Greece was able to roll-over much of €16 billion debt in 3 tranches by mid-April (€8 billion in January, €5 billion in March and €1.5 billion mid-April) because the government was able to attract investors by passing two austerity bills (February 9 and March 5). However Greece's debt problems were far from over. The government still needed to refinance €54 billion in 2010 and they were due to pay €8.5 billion by mid-May. With multiple downgrades by the ratings agencies and upward revision to 2009 debt to GDP ratio to  13.7% in April 2010, Greece had no choice but to seek help from international agencies.

 

On April 23, the Papandreou government officially requests a bailout loan. On May 2, the Eurozone countries and the International Monetary Fund (IMF) agreed on a €110 billion bailout loan for Greece, conditional on compliance with the following three key points: (1) implementation of austerity measures, to restore the fiscal balance; (2) Privatization of government assets worth €50bn by the end of 2015, to keep the debt pile sustainable; (3) Implementation of outlined structural reforms, to improve competitiveness and growth prospects.
 
To comply with the bail-out plan, the Papandreou government passed the 3rd austerity measures on May 6, 2010 despite massive protest. On July 7, the parliament approved pension reforms and on December 15 passed laws for public companies, which cap monthly wages and cut salaries over €1,800 by 10%. The 4th austerity legislation was passed on June 29, 2011, also despite massive protests. It cut included new taxes and cut wages.

Economic situation gets worse and the EU consider 2nd bail-out for Greece. After torturous negotiation, on October 26, 211 the EU and Greece agreed to a new bail-out that included a 50% hair-cut on privately-held bonds or €100 billion and reduction in interest rates on debt. To comply with the requirement, the Papandreou government wanted to hold referendum on the austerity measures. Under tremendous international pressure that was shelved  but the government fell. A new technocratic government was formed under Lucas Papademos and with support from 2 major parties, the 5th austerity measure was passed on February 12, 2012. On February 21, the Troika (EU, IMF, ECB) approved €130 bail-out, which required it to finance all Greek financial needs from 2012 to 2014 through a transfer of some regular disbursements.

To replace the technocratic government election was held on May 6, 2012 but no party wins a majority seat. So there was another election on June 27, which resulted in a coalition government under Alexis Samaras. This government request a 3rd bail-out. Technically, it asks the Troika to make payments beyond 2014 into 2017 given worsening economic situation.

On November 5, 2012, the parliament approves 6th austerity measures to get the Troika's disbursement. In November, Troika decides not to disbursed the money but the money was re-shuffled to make the debt math work. On July 27, 2013, it approves the 7th austerity measures.

While the economic situation is getting tenuous, politics is also become more unstable. in May 25, 2014 election of the  European Parliament, the coalition of the far left SYRIZA wins. And on December 29, the parliament fails to elect the ceremonial President and new election for January 25, 2015 is announced.

On January 25, 2015 election SYRIZA won the most seats but not the majority by promising to get debt reduced and austerity measures ended. It forms a coalition government with the far right Independent Greeks.

 

 

References:

How We Got Here: Chronicling the Debt Crisis in Greece

Greece Crisis - Reporting Issues (PDF)

Greece’s Debt Crisis: Overview, Policy Responses, and Implications (PDF)
Timeline: The Unfolding Eurozone Crisis
Wikipedia - Greek Debt Crisis Timeline
Wikipedia - Greek Government Debt Crisis

 

 

Daniel Yergin on Crude Oil - Crude's Discount Days Are Numbered

Crude's Discount Days Are Numbered

Nikkei, 22-Jan-15

 

Crude oil prices will turn upward again next year as U.S. output declines, predicts energy expert Daniel Yergin. The author of "The Prize," a Pulitzer Prize-winning history of the oil industry, Yergin serves as vice chairman of IHS, a U.S. think thank. He recently spoke with The Nikkei.

 

Crude prices have been dropping since summer. What is happening?

There are three things that brought us to these prices. First is this huge surge in supply -- U.S. oil production [is] up 80% since 2008. [That is an increase of] 4 million barrels a day. There have only been three other times in history, going back to the 1930s, when you've seen this kind of sudden surge in supply come into the market. That's the first factor.

 

The second thing that happened, starting in about August, was a sense that the world economy was weaker. And demand was weaker. The third thing that happened was [that] Libyan production quadrupled. That was the trigger for the collapse. Then the Gulf Arabs, led by Saudi Arabia, made the historic decision to resign [from] their job, saying, "We're not the manager of the oil price anymore."

 

If they'd cut production in November, they would have just had to cut production again, and they were going to lose market share not only against U.S. shale, but [also against] oil from all over the world, in particular Iran and Iraq.

 

Your most recent book, "The Quest," mentioned that technological advancement boosted the oil supply. One example is U.S. shale. Do you think the shale revolution will continue?

I think right now you're going to see producers cut back. They're going to focus on their most productive assets and cut back on the other things that they're doing. This is a very innovative industry, so there's going to be a lot of focus on continuing to improve productivity and decrease costs. I think it's going to go through a difficult period, but I think this revolution's going to continue. Just not in a straight upward line.

 

For U.S. shale producers to stay in business, does the oil price need to be more than $50 a barrel?

There are tiers. We thought that at $70 a barrel 80% of U.S. growth would continue. We think that up to $60, about half of the shale oil is economic. But what's going to happen is costs are going to come down. We did a scenario two years ago called Vortex which showed oil going below $50 a barrel. And no one took it seriously.

 

Maybe the average price for oil will be in the neighborhood of $50 this year. Then next year we think we'll certainly see an oil price that might be 10-30% higher.

 

Will we ever see $100 oil again?

One of the lessons in oil is never say never. Remember, the oil price went up on the emergence of ISIS (Islamic State group) to $115. You have to be aware that turmoil in oil-producing areas could be very important.

 

Market Recap (2-Jan-15)

The tone of the US market on the “first” trading day of 2015 was unabashedly awful. The main culprits were Europe and Oil. Stocks opened down and moved lower as the day went by. DJIA fell 331 points, S&P500 37 and Nasdaq 74.

 

European markets plunged as the Euro touched the lowest level against the US$ since March 2006 after Der Spiegel reported that Chancellor Angela Merkel was ready to accept Greek exit in case the extreme left Syriza wins, as polls suggest, the January 25 election.

 

WTI fell below $50 for the first time since April 2009. There was no proximate cause for a 5% drop in oil price but strengthening US$ combined with negative headlines regarding strong supplies from Iraq and Russia could have been the reasons for the sharp decline. Needless to say Energy was the worst performing sector in the S&P500.

 

VIX captured investors sentiment as it rose 2.13 points to reach 19.92. Given the risk-off tone of the market, 10-year treasuries rallied 8bp to 2.3%. Gold also saw bounce.

 

Elsewhere, the WSJ highlighted the political tug-of-war over net neutrality in the upcoming Congress. The outcome could impact a broad swath of industry from cable to the internet. The fight over HCV drug market continues. GILD won CVS for its drugs Sovaldi and Harvoni after losing to Express Script last month to ABBV's Viekira Pak last month. With investors focused on the fall in oil price from $80 to $50, the decline in cotton price from $80 in June to $60 in December has been overlooked. This could benefit apparel makers including GPS, which was upgraded by Jefferies for that reason.

Wall Street Strategists Forecast More Stock Gains in 2015

Wall Street Strategists Forecast More Stock Gains in 2015

WSJ, 4-Jan-15

By Alexandra Scaggs

 

Wall Street has a message for U.S. stock investors: Don’t fear the Federal Reserve in 2015.

 

The U.S. central bank is expected to raise short-term interest rates this year for the first time in nearly a decade, but strategists still expect U.S. stocks to end the year with gains.

 

The Fed’s aggressive stimulus efforts have helped support stock-market gains since the financial crisis, analysts say, so some fret that higher interest rates could put the brakes on stocks’ multiyear rally. Last year, as the U.S. economy heated up, central-bank officials started to discuss when and how they would raise interest rates.

 

But many strategists say any rate increase should be viewed as an endorsement of the U.S. economy’s ability to withstand higher borrowing costs.

 

Wall Street strategists see the S&P 500 rising 8.2% this year, based on the average forecast of banks and money-management firms polled by research firm Birinyi Associates. Accelerating economic expansion in the U.S. and strong corporate-earnings growth will continue to power the rally, they say.

 

That would come after 2014’s rise of 11.4% for the broad stock index, which ended up performing better than most prognostications and notching 53 record highs. On Friday, the S&P 500 was nearly unchanged, closing at 2058.20.

 

“There’s this obsession with the potential headwinds from the Fed,” said Jonathan Golub, chief U.S. market strategist at RBC Capital Markets. “But we’re talking about very good stock-market returns for two to three years from now.”

 

Stock strategists are a perennially bullish bunch: Since 2000, the average forecast has called for higher share prices each year. Analysts didn’t foresee the dot-com bust of the early 2000s or the financial crisis. But last year, many undershot the index, leaving them scrambling to raise their targets.

 

This year, even the least bullish analysts think the Fed’s rate increase isn’t likely to deal a lasting blow to stocks. Everyone polled by Birinyi expects U.S. stocks to end the year higher.

 

Investors have been concerned that rising interest rates could prompt declines in the stock market, because they could make high-yielding stock sectors less attractive compared with bonds. And some worry higher rates could dent companies’ profit margins as it gets it pricier to borrow.

 

While stocks could take a brief hit from a rate rise, strategists say, the Fed move would be a sign that the economy is strengthening, which should be good for stocks. Studies from banks and money-management firms show that stocks can continue to climb during periods of rising interest rates, especially in the early stages of a tightening cycle.

 

Most strategists agree that corporate-profit margins will remain near record highs, even as borrowing costs rise. Jonathan Glionna, head of U.S. equity strategy at Barclays PLC, said companies should be able keep their overall costs under control this year.

 

“Profit margins are going to be key… [and] we can get a little bit of profit-margin expansion,” he said. Mr. Glionna predicts the S&P 500 will rise by just 2% in 2015 because of weak global economic growth, mainly outside the U.S.

 

In contrast, Mr. Golub of RBC is more bullish, saying that global investors don’t have many options apart from U.S. stocks. In 2014, he was one of the first analysts to sharply raise his end-year target for the S&P 500 in anticipation of faster U.S. growth.

 

“The U.S. is going to be a positive outlier, not only for the next year, but for the next decade,” he said. He sees the S&P 500 rising 13% this year to 2325.

 

Japan has slipped into recession and European economies are treading water, Mr. Golub noted. Meanwhile, U.S. bonds are offering relatively paltry yields. The yield on the 10-year Treasury stood at 2.123% on Friday. And commodities markets, which gained cachet among mainstream investors in the 2000s, have been beaten down by excess supplies of raw materials.

 

To be sure, some strategists are concerned about the stock market’s relatively high valuation, saying that it leaves stocks vulnerable to a sharp pullback if earnings disappoint or if the economic outlook darkens.

 

Based on his year-end prediction for the S&P 500, Mr. Golub sees share prices at 16.7 times forecast earnings at the end of 2015. That is above where it closed 2014, at 16.3, and its 10-year average of 13.9, according to data provider FactSet.

 

Rich valuations in the U.S. will prompt investors to gravitate to stocks in Japan and China, which are cheaper, said Russ Koesterich, chief investment strategist at BlackRock Inc.

 

“There’s much less room for [valuation] expansion than there was five years ago” in U.S. stocks, he said. So he is recommending that BlackRock’s clients consider buying stocks in Asia as well.

 

The S&P 500 is also pricey when assessed on another metric, expected sales, which can’t be boosted by share buybacks and cost-cutting, measures that have contributed to buoyant share prices. The index is trading at 1.7 times its expected sales for 2015, nearly 31% above its 10-year average of 1.3, according to FactSet.

 

“There is a clear missing ingredient in terms of earnings, which is revenue growth,” said Barclays’s Mr. Glionna.

 

Mr. Glionna recently halved his forecast for companies’ 2015 revenue growth, cutting it to 2% from 4%. He expects weaker revenue from international markets, due in part to a stronger dollar, and from energy companies, which have been hit by lower oil prices. He trimmed his expectations for profit growth as well, and now expects the S&P 500’s earnings per share to grow by 6.8%, down from his previous forecast of 8.5%.

 

While the Fed has signaled it is moving toward raising short-term interest rates, the central bank has said it will be patient in doing so. Many investors have taken this as reassurance that the central bank won’t rush to raise rates and that, once it starts, the Fed will keep the pace of increases modest.

 

Even with higher rates, Adam Parker, Morgan Stanley ’s chief U.S. stock strategist, believes stocks can rally as long as five more years, taking the S&P 500 to 3000 before the bull market ends. For 2015, Mr. Parker forecasts a climb of 10% to 2275.

 

Like many other strategists, Mr. Parker thinks the nearly 50% plunge in crude-oil prices in 2014 will support stocks. Falling gasoline and other energy costs should continue to bolster consumer spending, a trend that is likely to benefit earnings of retailers and other sectors, he wrote in December.

 

Any ascent in stocks will be bumpy, though, said Dan Greenhaus, chief strategist at New York brokerage firm BTIG. Daily swings in stocks grew bigger and more frequent in the second half of 2014 as investors began to adjust to the likelihood of rate increases.

 

“Stock volatility has risen, and should continue to rise,” Mr. Greenhaus said.

 

He predicts the S&P 500 will gain 6.9% this year.