And speaking of downs, that has been the clear direction of the equity markets since fiscal cliff talks broke apart a little over a week ago. All four major equity indices were down almost 2% for the week and have been down for the last 5 trading days in a row.
We are of the opinion that even if we do get some type of late minute deal, the markets will likely take some time to digest but then continue their lower ways. Any deal at this point is going to be a patch. How big of a patch is the question?
The real keys to this fiscal cliff issue in our view, are the extension of unemployment benefits for nearly 2 million people and the increases in taxes. Lets start with the biggest issue taxes.
We never saw cutting the payroll taxes as a really good idea to begin with. The intention of this cut was to spur demand among already cash strapped consumers still recovering from the great recession. Data has shown that most people have been reducing debt and cleaning up their own personal balance sheets rather than going out to spend. Washington should take note of this ingenious idea, spend less than you make!
The other major piece with the tax cuts are figuring out what rates people are going to pay and how they will be affected by the Alternative Minimum Tax (AMT) that will hit millions of tax payers this year for the first time if no patch is passed through congress. In either case the IRS has already stated that this is going to cause massive delays in the filling of people's taxes. This means that people expecting their tax returns within the first quarter of the year are going to have to wait. This wait is going to further erode confidence and more importantly cause people to cut back spending. Just the opposite of what the plan was supposed to do. Thank you politicians.
Further declines in spending will also occur when 2 million household loose their unemployment benefits. This is a trickier issue to deal with. Although we are not fans of all the unemployment extensions, we do know how hard it will adversely affect people's lives. I'm sure that there is a certain percentage of people who simply cannot find work while there are others who are likely milking the system.
So bottom line, Q1 growth is going to be bad in our opinion. We just don't know how bad it will get and what the lingering effects could be. This is why we are not looking for any type of rally within the equity markets during the beginning of the year and we expect the losses to continue. Of course you could get snap back rallies here and there, but the overall direction of the markets we see as being down.
On that positive note, let us turn our attention to the YTD performances of the DWCM fund and the markets. While we still have one last trading day left in 2012 on Monday, it is likely that the NASDAQ, S&P 500 and Russell 2000 will all close with double digit returns while the DJIA will return something in the mid single digits.
The DWCM Fund is on pace to finish above the 20% level beating all four major equity benchmarks quite handily. As much despair as there has been in the markets for most of the second half of the year, we are very proud of our performance given the gloom and doom atmosphere.
We have had very consistent performers across the board throughout the year. Even though Apple is down now, we harvested big gains early in the mid year with this name. The same also applies to Google which we no longer have a position in but reaped big profits on our option position during Q1 and Q2.
Our agriculture strategy also did very well this year with names such as Mosaic, Monsanto, and irrigation supplier Lindsay. Some individual names that had stellar years were Ford, help by increased North American sales and coffee chain Caribou which was taken private a few weeks ago.
One of our our biggest misses this year where our options moves especially in our current Apple long call position. However, this has over a year to play out and if things could just stabilize in Washington a bit we believe that solid names like Apple will rebound and continue to perform.
The net short position in the group of home builder stocks has been a disappointment in 2012. Housing has actually been a strength in the recovering economy even though we still believe that the home builders are priced for perfection. We will likely be leaving this position on at least through the first few months of the year to see how things materialize with the fiscal cliff fallout.
The Week Ahead
Monday is the last trading day of the year but the real action (good or bad depending upon your view) is taking place this weekend at the White House. At this point it's any ones guess as to what outcome may come about with the fiscal talks. As we have stated previously, we believe that much damage has already been done leading up to this point.
Volume is going to be extremely light on Monday which could provide additional fuel for a upside or downside rally depending upon any updates out of Washington. We are staying away at this point and will just watch the drama unfold. It is best to be protecting capital in these types of situations.
The first week of the new year will pack quite an economic punch. In addition to the fiscal cliff debacle, this is also a jobs report week. You will also be seeing same store sales from retail chains which will give further clarification as to whether or not it was a successful holiday season. Recall that the first report out here showed that growth was extremely week.
- Mon - Dallas Fed Mfg Survey
- Tue - Happy New Year
- Wed - PMI Manufacturing Index, ISM Mfg Index, Construction Spending
- Thu - Chain Store Sales, Challenger Job-Cut Report, ADP Employment Report, Jobless Claims
- Fri - Employment Situation, Factory Orders, ISM Non-Mfg Index
Have a safe, prosperous, and happy New Year!
DreamWorks Capital Management
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