The Enterprising Investor’s Guide 12-1-08

We hope everyone had a wonderful Thanksgiving holiday and is recharged for the week ahead. Historically, the market has been fairly benevolent to investors during Thanksgiving week and last week was no exception. The S&P 500 rebounded 12% for the week, which was certainly a welcome occurrence. The market strung together 5 straight positive days in a row, a significant feat considering, prior to this, the S&P 500 had not even had two consecutive up days the entire month of November! This sustained rally proved to be the best weekly performance in more than 34 years. Because of this rally, the S&P 500’s price-to-peak earnings multiple has risen to 10.0x this week from its low of 9.0x last week.

We do not want to make too much of this rally because–as noted–the Thanksgiving-shortened week is usually marked by positive returns and low volume. However, up until now in this historic bear market, significant gains have inevitably been followed by waves of selling. So, why did the markets rise continuously last week? The week began with news of a government rescue package for Citigroup (C) which included a cash infusion and a backstop on the bank’s massive exposure to toxic assets. Also of note, Treasury Secretary Paulson, in another iteration of his grand plan, decided that the government would indeed become a buyer of mortgage backed securities and other troubled assets. These developments propelled markets upward as financial stocks soared more than 30% during the week; Citigroup’s beleaguered common stock lead the way, more than doubling.

S&P 500 Price Peak

The percentage of NYSE stocks selling above their 30-week moving average rose to 5.5% this week, which shows an improvement but is still at remarkably low levels. This could be the beginning of a trend upwards towards more normal sentiment levels. Sentiment rarely stays at the extremes for an extended period of time, and this measure has stayed below 10% (which we consider extremely rare) for eight consecutive weeks.

One telling indicator of consumer confidence is the post-Thanksgiving, “Black Friday” sales results. This year, results were mixed. There was positive news of a better than expected “Black Friday” with estimates of sales up by 7.2%, mall parking lots full and deal seekers abundant (some crowds were downright dangerous in anticipation of savings, see what happened at a Long Island Walmart (WMT)). However, sales tapered off throughout the weekend, and an estimated 70% of shoppers were only interested in heavily discounted items. The outcome for retailers from discounted sales are squeezed margins and less bang for their sales buck. Surveys also indicate that more shoppers are finished with a majority of their holiday shopping this year (39%) than were at this point last year (36%).

NYSE Sentiment

As for our asset allocation model, we are affirming our stance that this market presents a remarkable buying opportunity for patient, value investors. The stock market has been utterly painful for more than a year now, but it was a necessary correction from overbought, overvalued and over-leveraged market conditions. We have seen the stock of good companies with strong fundamentals–considering the economic slowdown–that are being driven down by widespread selling pressure. The market has priced in a deep and lengthy recession and anything less than this will be a positive surprise. Long-term investors simply do not find buying opportunities like this very often where valuations are very justifiable and sentiment has cratered. We know that it can be difficult to remain optimistic when losing a significant amount of money in the stock market, but selling at low levels right now only makes the losses permanent. A value investor must be a contrarian and try to find stocks that have unjustly fallen out of favor in the market. In this environment, there are many such stocks to build a portfolio around.

Equity Allocation

About Ockham Research 645 Articles

Ockham Research is an independent equity research provider based in Atlanta, Georgia. Security analysis at Ockham Research is based upon the principle known as Ockham's Razor, named for the 14th- century Franciscan friar, William of Ockham. The principle states that a useful theory should utilize as few elements as possible, because efficiency is valuable. In this spirit, our goal is to make the investing environment as simple and understandable as possible, yet no simpler than is necessary.

We utilize this straightforward approach to value over 5500 securities, with key emphasis given to the study of individual securities' price-to-sales, price-to-cash earnings and other historical valuation ranges. Our long term value investing methodology is powered by the teachings of Ben Graham and it has proven to be very adept at identifying stock prices that are out of line with fundamental factors.

Ockham Research provides its research in a variety of forms and products including our company specific reports, portfolio analytics tools, newsletters, and blog posts. We also offer a white labeling research solution that can give any financial services firm their own research presence without the time and cost associated with building such a robust coverage universe of their own.

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