January 5, 2018
Michael Lewitt, manager of the Third Friday Total Return Fund, is again cautious about the outlook for stocks this year because the market has gotten expensive compared with historical norms.
“It would be very surprising if 2018 were anywhere as easy as 2017 was for bulls,” he said in the Jan. 1 edition of his Credit Strategist newsletter. “There will be opportunities for short sellers (if there are any left) to make money in 2018 while long-only and index investors will have a tougher go.” Short selling is a trading strategy that makes money when the price of a security declines.
The S&P 500 stock index’s total return was more than 19 percent in 2017, the best performance since 2013 and higher than the 7.6 percent average for the past 15 years. But company profits didn’t grow nearly as fast, meaning investors paid a higher-than-average multiple for those earnings. The Shiller price-to-earnings ratio currently is 33 times, compared with the median level of about 16 times.
Calmest Since LBJ Era
Even more notable, markets were the calmest since President Lyndon B. Johnson was in the White House. The S&P 500 only moved up or down 1 percent on a single day eight times during the year, the fewest days since 1964, according to S&P Dow Jones Indices. The biggest market drawdown was 3 percent as investors clamored to “buy the dip.”
“Virtually all Wall Street strategists and fund managers are betting on current conditions continuing over the next year because that is the path of least resistance and they are paid to think that way,” Lewitt said. “However, it would be highly unusual if the market experienced a third consecutive year without at least one 5 percent to 10 percent correction.”
Investors were cheered by Republican Donald Trump’s unexpected electoral victory in November 2016 on a pro-business platform of cutting regulation, lowering taxes and spending $1 trillion on infrastructure. President Trump and Congressional Republicans last month passed a sweeping tax reform bill that lowers the corporate tax rate while urging business investment and repatriating overseas profits.
Central Banks Giveth, Taketh Away
The biggest risk to stocks will be central bank actions to tighten the money supply, Lewitt said. While the Federal Reserve started raising interest rates two years ago, other central banks like the European Central Bank and Bank of Japan added $2 trillion in liquidity to global markets to punish saving and to urge spending and borrowing.
“The question for 2018 is whether bond markets will remain detached from equity markets. It would be unusual for stocks to ignore rising rates and shrinking central bank balance sheets,” Lewitt said. “Whether rates will rise enough and balance sheets shrink enough in 2018 to negatively impact stocks remains to be seen.”
Lewitt provided a list of his top 10 stock recommendations to buy or sell short this year:
2018 Recommendations (Long)
|AMC Networks (AMCX)||Low valuation, potential acquisition target|
|Annaly Capital (NLY)||Trading below book value, high dividend|
|Chimera Investment (CIM)||( Trading below book value, high dividend|
|Colony NorthStar (CLNS)||Trading below book value, great assets|
|Constellation Brands (STZ)||Dominant global brand on a roll|
|First Data (FDC)||Deleveraging|
|Global X Gold Explorers ETF (GLDX)||Cheap|
|VanEck Vectors Jr Gold Miners ETF (GDXJ)||Cheap|
|THL Credit (TCRD)||Trading below book value, high dividend|
|Walt Disney (DIS)||Fox deal is a big deal|
2018 Recommendations (Short)
|Alibaba (BABA)||Too opaque|
|Alliance Data Systems (ADS)||Bad debts rising|
|Bitcoin Investment Trust (GBTC)||Trades at premium to fantasy net asset value|
|Blue Apron (APRN)||Going to zero|
|Children’s Place (PLCE)||Like taking candy from a baby|
|Chipotle Mexican Grill (CMG)||The rats are running|
|iShares JPM USD EM Bond ETF (EMB)||EM bonds overvalued|
|Netflix (NFLX)||Great company but overvalued|
|Russell 2000 (IWM)||38x PE|
|Softbank Group (SFTBY)||Borrows and spends like drunken sailor|
|Tencent Holdings (TCEHY)||Overvalued and opaque|
|Tesla (TSLA)||If you have to ask….|
|Vanguard Total Return Bond Func ETF (BNDX)||Rising rates will hurt bonds|
Source: The Credit Strategist