Permanent Value

Weekly Update: October 24- 29, 2010

Michael La Salle
October 29th, 2010

Stocks Unchanged, Strong October Ends

Stocks remained mostly unchanged this week as a very strong October comes to an end.  The S&P 500 gained 0.02% and the Dow Jones Industrial Average was down 0.13% for the week.  For the month of October, the S&P 500 gained 3.37% and the Dow Jones Industrial Average gained 2.61%.

In economic news, a big surprise came Monday in the existing home sales report.  Sales jumped 10% to an annualized pace of 4,530,000 homes, much better than the expected 4,300,000 sales.  Durable goods orders also surprised on the upside this week as orders jumped 3.3% this month.  Expectations were set at a 1.6% increase.  Initial jobless claims fell steeply this week to the 434,000 level, moving the four-week moving average down to the lowest it has been since July.  Third quarter GDP expanded at a 2% annualized pace, matching analysts’ expectations.

In quarterly earnings news, Verizon Communications beat analysts’ expectations by over 3% after posting earnings of 56 cents per share.   Microsoft announced earnings of 62 cents per share, 13% better than expectations and 52% higher than last year.  Northrop Grumman also surprised on the upside after posting earnings of $1.64 per share.    ConocoPhillips, General Dynamics, Proctor & Gamble, Eastman Kodak, Motorola, and Dow Chemical are other notable names that topped analysts’ expectations.

Low Interest Rates and Small-Cap Value Stocks

By Nathaniel T. Ritchison, CFP®

You’ve probably heard the saying, “There’s an investment opportunity in every economy.”  With our historic low interest rates and a slow economic recovery, investors are finding ways to take advantage of current opportunities.  One asset class in particular has an advantage at this stage of the recovery: the small-cap value stocks (aka small moderate growth companies).

In low interest rate environments, publicly traded companies have some unique advantages relative to other asset classes.  For one, companies are able to borrow at the lowest rates in decades, making borrowing costs for reinvestment and growth extremely affordable.  Also during a recovery, investors may choose stock investments as an alternative to low interest rate investments such as bonds.  Both of these advantages are available to stock investors regardless of the company size, so why then are small-cap value stocks particularly attractive?

Small-cap companies, defined as companies with a market valuation between $300 million and $2 billion, are particularly attractive during a recovery. They provide larger companies with an acquisition opportunity because it may be cheaper to add complementary products by acquisition rather than grow internally. Buyouts also are attractive to large companies as a way to put idle cash to work and boost revenue, especially those value companies whose stock is cheap relative to its earnings.  A recent survey (Sept 2010 Merrill Datasite) of 119 large-cap companies found that 51% expect to make an acquisition in the second half of 2010, and that of those, 71% expect to acquire smaller companies costing less than $500 million.  The main reason for this increased activity is the belief by large companies that small-cap acquisitions will drive revenue growth without much increase in overall risk to their company.

So as the recovery continues over the next few months (or years), we will be looking to find the best investment opportunities for you that are both appropriate for your financial situation as well as fit well in the current economy.

Market Returns

  This Week Year to Date Last 12 Months Last 5 Years
S&P 500 0.02% 6.11% 10.99% -1.26%
Dow Jones Industrial Average -0.13% 6.62% 11.60% 6.88%

Next Week’s Economic Releases

November 1 – Personal Income & Outlays, ISM Manufacturing Index

November 4 – Jobless Claims

November 5 – Pending Homes Sales, Employment Situation