Better Times Ahead

By on May 13, 2006

Originally published on:

November 17, 1996

Wow! What a market! It just keeps moving up. Look for more of the same to continue. Stocks and bonds will rise because growth is moderate, inflation virtually non-existent, and many pundits are saying this market is topping. 30 year rates should be below 6% within a few months. My guess is that a correction in the stock market will occur sometime between February and April ’97. I don’t think it will be more than a 5% drop, though. My advice is not to jump in and out of the market, but pursue a strategy that keeps the bulk of your assets in equities over the next 10 years. There will be trading opportunities from time to time, however, the basic trend is up (duh), and will continue to be so. The Dow will likely be between 15,000 and 20,000 in the year 2006! Read why in the following article, Better Times Ahead.

Better Times Ahead

If you’ve been invested in stocks the last 15 years, most likely you are very satisfied with your results. If I said that the recent past was just a warmup for the next 10 years, you’d probably say I was out of my mind. When you look at the facts it appears that returns in the future could very well top what we’ve experienced over the past few years. A confluence of factors is about to change our society for the better; far better than most anticipate. In his 1993 book, Great Boom Ahead: YOUR COMPREHENSIVE GUIDE TO PERSONAL AND BUSINESS PROFIT IN THE NEW ERA OF PROSPERITY, writer Harry S. Dent, Jr. makes a very convincing case for a renaissance in the U.S. economy in the years ahead. I was a little skeptical when I picked up this book, but when I started reading it, it was obvious that Mr. Dent had done his homework. What’s nice about reading a book like this, written several years in the past, is that a theory can be exposed for what it is; gold or hogwash. When you read this book and look at what has happened to the U.S. and world economies you can see that Mr. Dent has been very close to the mark. Granted, some of his specific predictions were more than a little off, but he has gotten the big picture correct. For example, he forecasted a major recession unfolding in 1993-94, along with a weak stock market dropping the Dow down to between 1700 and 2350. The Dow never got below 3000 after he published the book. However, the market was weak in ’94, characterized by sector corrections. He did say that the market would reach new highs by the third quarter of this year, which was a great call, although he didn’t specify a number.

The most compelling theory Mr. Dent espouses is called the spending wave. Basically, Mr. Dent shows with statistics that peoples spending peaks from ages 45-49. After age 50, spending drops off dramatically. Mr. Dent also demonstrates that there is a strong correlation between the number of people in their mid-40’s with the performance of the stock market. The larger the number of mid-fortyish people, the stronger the market.
We all know about the baby boom generation; the massive number of babies born in the late ’40s through the early ’60s. The baby boomers, of which I am one, are now between the ages of 35-50. They are divided into three major waves. The first and smallest wave is now toward the end of their peak spending years. The second wave of baby boomers is heading towards the mid-point of their peak spending years. The third, and largest wave by far, will be entering the peak spending years around the year 2000. If the statistics hold true, spending is going to dramatically increase in the next 10 years, lifting the economy out of it’s doldrums.

Another major benefit we should experience over the next 10 years is subdued inflation. Mr. Dent argues that the reason for our economic troubles in the mid-’70s to early ’80s were due to the assimilation of the vast number of young baby boomers into the labor force. When young people enter the work force, their productivity leaves something to be desired. If you have enough young people entering the economy at the same time, productivity is going to suffer. This, in turn, creates problems with inflation. Now that the baby boomers have been working and gaining experience for a number of years, their productivity has improved to the point where inflation is not the problem it once was.

Now to the payoff from all this good news. What do you get when you mix a strong economy with low inflation? A booming stock market! The first two waves of baby boomers are in their peak spending years now. The largest wave has yet to hit it’s highest spending years. Mr. Dent wrote in his book that he expects the Dow to reach 8500 between the years 2006 and 2010. This looks conservative now. If the correlation between the number of births and the level of the stock market holds true, the market will be a lot higher than that. Unfortunately, Mr. Dent believes that a great depression will ensue after 2010, when the baby boomers start retiring and become a drag on the economy.

Portfolio Holdings Update

The Templeton Dragon Fund (TDF) has had significant insider buying over the last 6 months. Two insiders bought 31,300 shares which was an increase of 150% in insider holdings. These insiders must have faith that the transition of Hong Kong to Chinese rule will go smoothly, because 80% of the Dragon fund is invested in Hong Kong equities. Mark Mobius, the manager of the fund, estimated there is a 75% chance that the transition will occur without any problems. He also stated there is a 25% chance of a Tiananmen type of disaster taking place.

The board of directors at Utah Medical (UTMD) announced that the company would be buying back 1 million of it’s shares in 1997 if the price remained near current levels (11-12 when the announcement was made). The reason they are doing this is that management feels the companies worth is not reflected in the price of the shares. UTMD only has 8,850,000 shares outstanding, so this is a significant development. Since the announcement, the stock has been trending upward and currently stands at 14.

Coachmen Industries (COA) and The Ryland Group (RYL) have been major drags on the performance of the aggressive portfolio over the past month. This is surprising because long term interest rates have been falling during this timeframe. Coachmen announced they would be issuing 1.5 million additional shares which could explain their weakness. This will cause some dilution of earnings. The weakness of RYL is a little more puzzling since the investment management company Tweedy Browne said they had upped their stake in the company recently from 6% to 8%. They paid between $13 and $14 a share and the stock is now trading at 11 3/4.

Last week Bristol Myers Squibb was approaching 10% of the conservative portfolio. Just when I was about to place a sell order on half of it, the stock dropped like a rock. It looks like we’ll have to wait awhile to place that sell order.

LSI Logic (LSI) and Novellus Systems (NVLS) have been strong along with the rest of the semiconductor industry. The Semiconductor Industry Association forecast semiconductor demand will increase 7.4% next year after falling an estimated 10.4% this year. The latest book to bill ratio was impressive, so it looks like the industry has turned the corner and should see continued growth from here. LSI, and especially NVLS, were purchased at very favorable levels during the past year and should be significantly higher one to two years from now. Demand for semiconductors should increase substantially, with few interruptions over the next 10 years.

Two holdings (Millenium Chemical and Imperial Tobacco) in the Conservative Portfolio are a result of a spinoff from Hanson PLC. Hanson is offering a low cost way to sell these shares. Since each of these spun-off companies are less than 3% of the portfolio, I’m going to take advantage of the offer and sell them.

Recommended Allocations

The aggressive portfolio is invested in 90% stocks, 10% cash. The conservative portfolio currently is 70% stocks, 30% cash.

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