Narwhal Capital Management

In our newsletters we’ve been talking about two main things unfolding in the coming months,

1) P/E Compression and 2) an economic test

The P/E compression appears to happening quite clearly.  Again, this can lead to frustration as companies post solid earnings but yet their shares decline or stay flat.  This will test and try people’s patience and will be a War of Attrition, if you will.

On the economic test, here is what we’ve said in our newsletter…

An economic test will occur with tougher year over year comparisons in late 2010.

This could prove to be a double dip recession, the key will be how deep it is and how long it lasts.

Frankly, this is the wait and see part of the test.  No one knows if we will dip again or not.  People are placing bets on one side or the other, but I sincerely doubt anyone knows for sure what is going to happen.  This uncertainly is precisely the reason for the contracting P/E’s. 

With all this in mind, our eyes and ears are wide open to incoming data in an attempt to find clues regarding this test.

Again, corporate CEO’s appear to be doing an excellent job as the earnings their companies are posting, in general, have been quite good.  However, employment is lagging as one of the tricks in the CEO’s bags appear to be cost containment.  Frankly, I see nothing wrong with that as Business 101 says add revenue before expenses.  But maybe that is a Catch-22 as in order to get revenue up in a consumer driven economy, you need to get the unemployment numbers down. 

Regardless, I think the CEO’s will continue to do what is best for their companies bottom line and as investors in publicly traded companies we want nothing more.  We can leave it to the leaders at the governmental level to mange the economy as a whole in these “unusually uncertain” times. 

All in all, our basic thesis (which we’ve discussed in our newsletters) that earnings should be good but multiples should remain low appears to be playing out.  And until the employment numbers get better, this market should be range bound.  Therefore, active management just might be the trick to profits in our current environment.

Well, the market has bounced as the bearish Investor Intelligence Survery suggested it might.  But now we are beginning earnings season.  Frankly, this is one earnings season where I feel the visiblity in regards to the numbers these companies are going to report is quite low.  But in a day or two we should get a real sense of the impact slowing stimulus monies have had on revenues and earnings.

I always find the “mood” of the market interesting.  After the big downdraft in the market in January of this year, the percentage of bearish investors (according the the Investor’s Intelligence Survey) was at a pretty high level.  Interestingly enough, the market rallied for a number of months in a row right around that time.  Now with all the uncertainty surrounding the market, that same survey shows the bearishness concerning the market is even higher than it was at its trough in the first quarter.  Time will tell if we are due for a relief rally or not, but it is certainly worth paying attention to.

With all the crazy headlines bombarding us each and every day, it is very easy to become emotional concerning the market and investments. Now, there is absolutely no doubt that these headlines warrant attention, consideration, and serious deliberation. But the key to surviving and thriving in volatile and emotional times is, frankly, prior due diligence.

If I woke up one day and saw headlines say that Europe was going to collapse under the weight of its debt load, North Korea was sinking South Korean warships, the U.S. economy might be running out of steam, and saw that the stock market experienced a brief “flash crash”, I would be scared out of my mind. But having done intensive due diligence on the markets for well over a decade, I feel pretty darn good concerning the context these announcements are surrounded in and, therefore, I feel pretty darn good concerning the condition of portfolios and clients financial plans.

In fact, seeing these latest market movements reminds me a lot of late 2007. Frankly, these markets don’t look anything like one another but they still have some things in common. In late 2007, the S&P was up double digits and people were generally very bullish. And now, the markets are down for the year and people are generally bearish. But what is similar is the fact that I think we are in for a test and that test will be similar to the test of 2007 which had its epicenter focused on the importance of due diligence. The due diligence we performed at that time led us to believe that we were going to need to be under-weight stocks despite the bullish mood of investors. Despite that bullish mood our due diligence paid off and our under-weight relative to equities and clients long-term strategic allocations paid dividends as the market turned very bearish, very quickly.

Again our due diligence paid off in early 2009, as we switched our under-weight position relative to equities to over-weight and fortunately for us the stock market rallied. Well, if you’ve noticed in your portfolios lately…we’ve been selling and trimming stocks into this rally for quite sometime and now we are under-weight stocks once again for clients in general across the board.

So, you see we aren’t waking up today and seeing the headlines and having an emotional reaction to the news of the day. Instead, we have been analyzing the market constantly for years and as we began to feel this latest bull market was going too far, too fast we trimmed our client’s holdings. And now as the market is in a highly emotional and volatile state, we have cash on hand to buy if we see attractive opportunities. This is not to say that the market might not fall further because it just may do that. However, for equity accounts that cash that gives us firepower to buy assets on the cheap also provides a buffer to limit some of the damage a falling market can have on portfolio values. While in balanced accounts, we have bonds and other fixed income assets to further buffer the accounts and provide other benefits, such as diversification.

Without doubt, these are historic times. But we think we can manage the stress and volatility by being proactive in portfolios and by reminding clients of a few key financial planning elements which can help them to survive and thrive in these crazy times. They are: debt control (or elimination), portfolio liquidity, and diverse forms of income and cash flow. In short, if you keep your debt low, your portfolio liquid, your income high, and you stay proactive in terms of your due diligence, you should be in prime position to weather any financial storm.

As always, please call us at anytime to discuss anything that is on your mind.