Published by Raymond James & Associates
Jeffrey Saut, Chief Investment Strategist, (727) 567-2644, Jeffery.Saut@RaymondJames.com
Art Huprich, CMT, Chief Market Technician, (727) 567-2494, Art.Huprich@RaymondJames.com October 9, 2012
Scott J. Brown, Ph.D., Chief Economist, (727) 567-2603, Scott.J.Brown@RaymondJames.com
A Monthly Chart Presentation and Discussion Pulling Together the Separate Disciplines of
Economics, Fundamentals, Technical Analysis, and Quantitative Analysis
• The rally that began with Mario Draghi’s “put option” to do whatever is needed to bail out Euroland has
paused. The question now is - is this the pause that refreshes, or the calm before the storm? Our sense is
that this is the pause that refreshes, as more clarity will come following the presidential election, which
has caused businesses to step to the sidelines until after November 6th. No wonder the economic
statistics have stalled.
• The main reason for our overall equity optimism is the open-ended central bank’s “put
• The Fed says it is targeting mortgage rates with QE3, but also has an eye on equity prices
on the belief that rising home prices and equity prices will increase confidence and foster more consumer
spending. We agree.
Please read domestic and foreign disclosure/risk information and Analyst Certification beginning on slide 28.
© 2012 Raymond James & Associates, Inc., member New York Stock Exchange/SIPC. All rights reserved.
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The Fed is Targeting Mortgage Rates and, Unsurprisingly, 30-Year
Mortgage Rates Have Declined to a Recent Generational Low of 3.38%
Before Experiencing a Slight Uptick. Obviously This is Helping Housing.
Average Mortgage Rates: 1986 - Present
26 Year Avg.
8.6% Mortgage Rate = 7.3%
Current Rates = 3.7%
5.6% Rates Trough in 1993
Rates Reach Cycle
4.6% Low in 2003
'86 '87 '88 '89 '90 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 '12
Recession 1986 - Present Historical Average
Source: Raymond James Research
The 30-Year Mortgage-Backed Security Divided by the 10-year Treasury
Spread Has Also Collapsed to Generational Lows, Suggesting Mortgage
Rates Will Go Even Lower. Another Tailwind for Housing.
Source: Bloomberg and Raymond James research.
Plainly, the Aforementioned “Mortgage Duo” is Bolstering Annualized
Existing Home Sales, Which Continue to Accelerate. Reinforcing That
View is the University of Michigan “Good Time to Buy a House” Survey,
Which Recorded a Nine -Year High Recently.
1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011
Source: Raymond James Research/FactSet
Pricing is Also Improving: Existing Home Prices: 1990 – 2012
(Trailing 12-Month Average)
Existing Home Prices Inching Higher
Y/Y % Change
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012
Source: National Realtors Association and Raymond James research.
• On a trailing 12-month basis, the existing home median price is up 1.0% y/y (depicted in chart).
• The data points continue to trend better. The median existing home sale price rose 9.4% y/y in July, due to
fewer distressed sales and higher demand from “move-up” and luxury buyers.
With Housing’s Improvement, and a Friendly Fed Buying MBSs, Bank
Stocks Have Been on a Tear, as Reflected in the KBW Bank Index (BKX).
PHLX KBW Bank Index (24 Leading Banks) (BKXK)
Oct Nov Dec Jan Feb Mar Apr May Jun Jul Aug Sep
PHLX KBW Bank Index (24 Leading Banks)
Source: FactSet Prices
We Think the Environment for Financial Institutions is Going to
Continue to be Driven by These Metrics:
1. Valuation - Group is at the low end of the valuation range looking at the last 20 years or
so. The big reason is trust. Investors don't trust the earnings or the balance sheets
(book). This is where the regulatory process comes in - it will improve trust over time.
2. Balance sheet cleanup ongoing - All financial institutions are working hard to improve
the quality and stability of their balance sheets. This means making good new loans and
cleaning up the bad old ones. Eventually the entire balance sheet will be made up of loans
that have been originated in the more conservative environment (last five years). This out
with the old and in with the new effort will allow for more consistent and predictable
earnings and book value growth.
3. Residential housing is stabilizing - One of the most important developments thus
far. The decline in housing created the recession and the improvement in housing will lead
Our Fundamental Bank Analysts
Agree With That Premise
“We expect the vast majority of banks to meet or beat the Street mean estimate
for 3Q12; however, any EPS adjustments for 2013 will likely be downward due
to continued net interest margin (NIM) concerns. Although we expect
commercial loan growth, lower deposit costs, liquidity deployment, and debt
refinancing to help mitigate some of the NIM pressure, we believe banks are
quickly realizing most of these benefits as revenue growth headwinds persist.
Assuming economic data and investor sentiment do not materially improve,
low interest rates are expected to persist well into 2014. M&A activity remains
a key wild card and this challenging operating environment, coupled with
increased regulatory burden, should eventually drive a pickup in merger
activity. However, in our view, a tepid economic recovery, uncertainty
regarding capital requirements, and a wide gap between seller/buyer
expectations have delayed what many anticipate will be a wave of
consolidation.” – Raymond James Banking Team
While There are Many Individual Bank Stocks in Raymond James’
Research Universe With Favorable Ratings From Our Fundamental
Analysts (Consult Your Financial Advisor), One of My Preferred Ways to
Get More Exposer to the Banking Complex is Using FBRSX
FBR Small Cap Financial Fund (FBRSX). The fund employs
a consistent fundamental, bottom-up investment process
to identify small-cap financial services companies that
meet the strict criteria necessary for inclusion in the
portfolio. Emphasis is on attractive valuations based on
traditional industry relative value measures. The net
result is a diversified portfolio of financial companies that
aims to provide shareholders with conservative exposure
to the financial services industry. The fund is captained by
David Ellison, who I met some 30 years ago. As testament
to his expertise, David raised 40% cash in the 1Q08.
Clearly, my kind of investor.
Inflation-Adjusted Consumer Spending (70% of Gross Domestic Product)
Has Continued to Trend at a Moderate Pace, Supported by Job Growth.
Replacement Needs (an Aging Fleet) and Easier Bank Credit Have
Supported an Improving Trend in Motor Vehicle Sales.
Home Sales and Construction Activity are Up by Double-Digit Percentages
From a Year Ago. Housing Has Turned the Corner, but a Full Recovery is
Still Years Away.
The Decline in Home Prices Has Been a Drag on Consumer Spending
(Through the Wealth Effect), but Prices Have Begun to Turn Up This Year.
Home Price Index Value
Private-Sector Job Growth Has Been Moderate, Consistent With
Population Growth, but Not Making Up Much of the Ground
That Was Lost During the Downturn.
Based On Unemployment Insurance Tax Records, the Benchmark
Revision to March 2012 Private-Sector Payrolls (to be Applied In
February 2013) Will Be About +453,000.
On September 13, citing concern about the pace of recovery in the labor market,
Federal Reserve policymakers:
1. Extended its forward guidance on short-term interest rates (“the Committee
anticipates that exceptionally low levels for the federal funds rate are likely to be
warranted at least through mid-2015.”)
2. Launched a third Large-Scale Asset Purchase program (“QE3”) – the Fed will
purchase $40 billion per month in mortgage-backed securities with no set
ending date and “if the outlook for the labor market does not improve
substantially, the Committee will continue its purchases of agency mortgage-
backed securities, undertake additional asset purchases, and employ its other
policy tools as appropriate until such improvement is achieved in a context of price
In his post-meeting press briefing, Chairman Bernanke said that these moves
should put downward pressure on long-term interest rates. He added that while
the Fed cannot solve all of the economy’s problems, it is obliged to do what it can
to support economic growth and labor market improvement.
The Fed’s Actions Should Help Keep Long-Term Interest Rates
Low, Providing Further Support for the Housing Sector by
Encouraging Home Purchases and Refinancing.
Ex-Food & Energy, the PCE Price Index is Trending Below the Fed’s 2%
Target. Other Measures of Core Inflation Have Also Been Drifting Lower.
With a Large Amount of Slack in the Labor Market, the Widest Channel
for Inflation Pressure, the Underlying Trend in Inflation is Expected to
Remain Relatively Low.
Economic Outlook: Real GDP growth of around 1.5% to 2.0% in the near term, but 2013
depends on how much of the fiscal cliff is postponed.
• Economic Headwinds
– Housing (negative wealth effect on spending, but easing as home prices rise)
– Global slowdown (Europe, China)
– Tight credit for some borrowers
– Contractionary fiscal policy at all levels of government
• Economic Tailwinds
– Accommodative monetary policy
• Economic Wildcards
– Gasoline prices
– The election
• Economic Risks
– Fiscal cliff (Bush-era tax cuts, payroll tax reduction, spending cuts)
– Debt ceiling (to be reached around the end of the year)
Consistent With the Following Statement on Page 1 of This Report: “The Main Reason for Our
Overall Equity Optimism is the Open-Ended Central Bank’s ‘Put Option,’” QE3. We Can See That the
S&P 500 has Reacted Favorably During Previous Periods of “QE” Type Activity. While the Size of
This Move May Be Different, Nothing Suggests the Direction (Higher) Will Be Different.
Fed's QE & The S&P 500
QE 1 Ends 1,600
QE 2 Ends
POMO & Bernanke
Jackson Hole 1,000
Draghi w ill
'08 '09 '10 '11 '12
©FactSet Research Systems
Source: FactSet Research System
Additionally, and While I View Seasonality Factors as Secondary Indicators,
Behind Price and Volume Indicators, the “Calendar” Has Moved Into a
Historical “Sweet Spot” Relative to the DJIA’s Price Performance.
% of Change
% of Change
Besides a “Bernanke Put,” as Defined by Global Quantitative Easing (QE), and the Favorable
Seasonal Factor Highlighted on the Previous Page, if the Election Year Cycle Plays Out Anywhere
Close to History, a “Performance Put” Will Exist, and Likely Back Stop Any Major Declines Going
Current Year % Gain
Historic % Gain
If I Combine the Following Statements From Earlier in This Report: We Think the Environment for
Financial Institutions is Going to Continue... “ and “With Housing’s Improvement, and a Friendly
Fed Buying MBSs, Bank Stocks Have Been on a Tear...” I Think the Charts on the Next Two Pages
Suggest Having Exposure in the Financial Sector.
Financials vs. S&P 500 Relative Strength
04-Oct-2011 to 04-Oct-2012 (Daily)
Oct Nov Dec Jan Feb Mar Apr May Jun Jul Aug Sep
S&P 500 / Financials -SEC
Source: FactSet Prices
Selective Exposure Within the Financial Complex Makes Sense, Given the Chart Below.
iShares DJ US Financial Services Index Fund vs. Peers
Indexed Price Performance Price (Indexed to 100)
Jan Feb Mar Apr May Jun Jul Aug Sep
iShares DJ US Financial Services Index Fund iShares DJ US Insurance Index Fund
Source: FactSet Prices
Consistent With Jeff’s Favorable Comments About the Housing complex and Scott’s Insights
Relative to Long-Term Interest Rates and Their Effect on the Housing Sector, Shown Below are
Charts of the SPDR S&P Homebuilders ETF (XHB) and the iShares Dow Jones U.S. Home
Construction (ITB) – While Both Would Benefit From a Low-Volume Pullback or Consolidation,
Each are Bullish Long-Term.
04-Oct-2005 to 04-Oct-2012 (Daily) Price (Local Currency)
'06 '07 '08 '09 '10 '11 '12
SPDR S&P Homebuilders ETF iShares DJ US Home Construction Index Fund
Source: FactSet Prices
Evidence Confirming Scott’s Comments That “Inflation-Adjusted Consumer Spending...Has
Continued to Trend at a Moderate Pace,” Can Be Seen Via the Bullishly Configured Price Trend of
the S&P Consumer Discretionary Sector.
04-Oct-2011 to 04-Oct-2012 (Daily) Price (Local Currency)
Oct Nov Dec Jan Feb Mar Apr May Jun Jul Aug Sep
S&P 500 / Consumer Discretionary -SEC
Source: FactSet Prices
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