Large Cap Commentary – November 2013
Year-end is always a good time to reflect and also one to look forward. As we reflect on 2013, we will certainly toast to a market that is up between 25-30%. Such performance is especially telling given that we are closing in on the fifth year of recovery for the stock market. Undeniably, the market dug itself a considerable hole – the deepest recession in our history – but five years of up is still five years of up. Therefore, I can speak for my peers at Argent when I say that as we began 2013 we would not have predicted the kind of year we are likely to book. As I have mentioned before, on occasion we do get things wrong; however, sometimes we underestimate and are positively surprised. The robust market performance of 2013 is a case in point.
We can enter 2014 by asking “where are we?” and “what do we expect?” The short answer is a more fairly valued market and not another 30% increase in stock prices. We have often mentioned our Rule of 20, which states that the forward price-earnings (PE) ratio of the market should be close to 20 minus the yield of the 10-year U.S. Treasury bond. Today, that would predict a market PE of 17x compared to the actual forward PE of 15x. In other words, we have some room for multiple expansion during 2014, but less than we did coming into 2013.
If we are approaching a more fairly valued market, it begs the question – what do we anticipate for earnings? This is where I believe the story is more compelling. Remember, the U.S. stock market and economy have been in an uptrend for the past five years. Historically, this is a very long recovery. At this point in the market cycle, expecting more from the U.S. economy in a vacuum would be close to wishful thinking. Fortunately, we do not have to rely solely on the U.S. to drive economic growth in 2014.
The chart to the right shows the trend of Leading Economic Indicators (LEI) for the United States, Japan and Europe, or the developed countries. What is telling about this chart is its most recent upturn. Europe is driving the upturn as it begins to recover – five years after the U.S. emerged from recession. The gross domestic product (GDP) of combined Europe is greater than that of the United States. A continued recovery in Europe should yield positive ramifications for global stock markets in 2014. For large cap domestic investors, like ourselves at Argent, a strengthening Europe has positive fundamental implications for the companies in which we invest as many of those companies count Europe as their second largest market.
With valuation still somewhat depressed and the global economy improving, there is a good case to be made for positive markets in 2014. As always, we appreciate your interest in Argent Capital Management.
Ken Crawford , Senior Portfolio Manager
Views expressed herein represent the opinion of the portfolio manager as of the date above and are subject to change. Past performance is no guarantee of future results.