My Comments: This is almost 180 degrees from what I posted yesterday. I share it to reinforce the notion none of really knows how the future will play out, just that it will.

I have put my toes back in the water and if yesterdays post was prophetic, I’m not hurt too badly. On the other hand if John Gilluly proves to be right, I’ve moved the needle in a positive direction.

BTW, there are 16 charts in his article which is more than I choose to share. If you need to see them, the following link will take you where you can see them. My disclaimer is as usual: I make no claims about the accuracy or relevancy of the claims he makes or the legitimacy of his recommendations. You are on your own if you act on any of this.

by John Gilluly \ 28 MAY 2020 \ https://tinyurl.com/ycsenz6r

Summary

• The imminent demise of the stock market remains popular, with new articles emerging weekly on why “long is wrong”.
• The fundamentals of an emerging economy, receding claims for unemployment, and nascent transport trends validate the market’s current optimism.
• The market’s fundamental and technical indicators are not overextended and have room on the upside to run.
• Recent economic commentary is predicting an explosive recovery in Q3.

Bearish warnings by royal pundits are on the rise again. The same commentators who talked you out of your stocks at the lows and inflamed panic selling at the bottom are back again as economies open and just before the summer rally and seasonality kicks in.

To the bearish viewpoint, April was an incongruous mistake (best month in 33 years) and May was supposed to be payback time, but that didn’t work out either, so now we are coming into June and surely the comeuppance is upon us soon, sayeth the bears. The latest is just in, Nobel Laureate Mylin Scholes warns us that the options market is indicating a “dire prediction for stocks” just around the corner.

And so it goes.

Here’s the facts. If someone could have predicted the last 4 bull market tops, they would have. In days counted, there have been only 4 bear years (1,028 market days) out of the last 28 years (2001-03, 2008-09, 2020), and no one was able to predict those tops when they arrived. The other 24 years were bullish. The bearish crystal ball is just as cloudy now as it’s always been.

So let’s go through the fundamental indicators, courtesy of the Federal Reserve bank. Currently, there is nothing particularly scary in our yield curve. It simply tells us that the Fed has paved the way for the resurgence of the business cycle and we are on the launching pad.

The yield curve is up, whereas earlier it was inverted. That is the difference. The predictive inversion for the current recession is in the rear-view mirror now (set the beginning date on the yield curve to 2018 and you will see this).

New claims for unemployment are bad, yes, as bad as bad could be, but they are getting “less bad” with each successive week since they topped out on March 28. The market is discounting the future, not the past:

For the last 3 bear markets, the weekly peak in unemployment claims marked the beginning of the next bull market. New claims this time around (in 2020 – and previously too in 2009), both topped out on the same week: March 28th.

If you set the beginning date on the Fed chart (above) to 2020, you will see this clearly. The same would work for the other years by selecting a smaller sample for each decade in which there was a recession.

The sudden 2020 spike in personal savings (at the right of this chart below) is the best it’s been since 1982.

The Put/Call ratio (bearish market bets over bullish bets) for May 22, 2020 on the weekly charts (below) are quite mild, and it doesn’t look any more dramatic on the daily charts.

How about the VIX (the fear index)? Going lower by the day.

Lastly, I have found this sentiment indicator (below) to be quite accurate, and it is nowhere near extended as it could be. It’s at 33%, with another 67% to go before it’s maxed out.

This chart shows the number of SPX 500 stocks that are above their 200-day moving average, a line which is considered the demarcation for a long-term bullish trend. Only 33% of the SPX stocks (169) are above it! That leaves a lot of room for improvement to the upside for the other 67%. This chart shows how deep the sell-off was and the absence of froth outside the big-cap stocks which have rallied thus far.

It is my contention that outside of the recent FAANGS rally (Facebook (FB), Amazon (AMZN), Apple (AAPL), Netflix (NFLX), Google (GOOG), Shopify (SHOP)), there is an authentic bear market (located not in Neverland) that the US economy will soon emerge from.

There are great bargains if you look for them.

I am staying in and believe the airlines will be the next surprise to the upside. It may not be obvious from these charts below, but passenger traffic (akin to same-store sales in retail) is doubling every 30-32 days. At this rate, airlines could be flying at 60-70% of normal capacity (2019) by Labor Day. You can follow the traffic patterns on TSA here.

Secondly, hoping for an uptick in summer demand, the airlines are withholding flight cancellations until 30 days prior to flights in order to monitor improvements in reservation data. In other words, as state economies open and more passengers choose to fly this summer, they will be the first to know. (See: “How Airlines Are Generating Revenue on Flights That Will Never Take Off“, by Brian Sumers, Skift, May 25, 2020.)

Lastly, there is a growing consensus that Q3 2020 could be the beginning of the strongest economic recovery in US history. Jason Furman, former chair of President Obama’s Council of Economic Advisers (CEA), delivered a startling message in early April, 2020 to a group of policy analysts in Washington, DC (See: “The general election scenario that Democrats are dreading“, by Ryan Lizza and Daniel Lippman. Politico, May 26, 2020.)

“We are about to see the best economic data we’ve seen in the history of this country,” he said.

“…Furman’s case begins with the premise that the 2020 pandemic-triggered economic collapse is categorically different than the Great Depression or the Great Recession, which both had slow, grinding recoveries.

Instead, he believes, the way to think about the current economic drop-off, at least in the first two phases, is more like what happens to a thriving economy during and after a natural disaster: a quick and steep decline in economic activity followed by a quick and steep rebound.

The bounce back “can be very very fast, because people go back to their original job, they get called back from furlough, you put the lights back on in your business. Given how many people were furloughed and how many businesses were closed you can get a big jump out of that. It will look like a V.”

The beleaguered rally in big-cap names that began on March 24th – and which has inspired a legion of naysayers to date – confirms this thesis. The airlines should be one of the first places to witness this movement of people and goods “back to work”.

One of the principles of Dow Theory is that the Industrials (INDU) “make” and the Transportations “take” commercial products to their destination. If I am correct in my assumptions, we could be on the cusp of an enormous snapback rally in the airlines, and a secondary rally in those sectors of the economy which can only recover when people physically go back to work: the hospitality and leisure sectors.

It is my conviction that now is not the time to be bearish but to be bullish, and to buy the names listed below on pullbacks. Most of the vaccine/cure headlines I have read are targeting September (back to school) for some kind of reliable treatment or experimental (but viable) vaccine for COVID-19. This would alleviate a lot of the concern around traveling in crowded conditions on planes or ships or attending crowded classrooms, restaurants or stadiums. As a matter of course, common sense tells us that travel would quickly return to normal.

Stocks to consider

(Click on selected links for charts)

Airlines (in order of presentation) – Southwest (LUV), Alaska Air (ALK), Spirit (SAVE), Delta (DAL), Allegiant (ALGT), United (UAL), Hawaiian (HA), AZUL (AZUL), Airbus (OTCPK:EADSY), Lufthansa (OTCQX:DLAKY)

I like how Spirit Airlines is positioned for the recovery – domestic travel will recover before international, low-cost before family and business, young travelers first, small planes before large ones. The company has sufficient liquidity to last it almost a year with diminished passenger counts.

The company’s chart is appealing to me. The shares have returned to the IPO price of nine years ago. The huge volume of the last four weeks has likely created a complete change in ownership of the float to a new army of investors at $10/share. Let’s see!

My next chart is of Lufthansa Airlines. This is a German International airline, but one I am partial to because of its remarkable service and professionalism. Over the weekend, the German government bought a partial stake in the company with the intention of selling that stake by 2023. (See: “Germany stamps authority on Lufthansa with $9.8 billion lifeline“, by Arno Schuetze and Michael Nienaber, Reuters, May 25, 2020.)

The rationale for the support ($9.8 billion euros) is that the pandemic is temporary, and when this crisis has passed, the airline will return to normal functioning. As soon as Europe opens for summer travel, Lufthansa will be carrying a large share of those passengers. The share price is at all-time lows, going back for 17 years to 2003. Each time the ADRs were purchased under $10, they reverted to $20 within 2 years.

Entertainment venues – Disney (DIS), Six Flags (SIX), Las Vegas Sands (LVS), Wynn Hotels (WYNN), Park Hotels (PK)

The case for theme park and outdoor venues is well-described in this article: “Why Amusement Park Stocks Rocketed on Monday“ ,by Reuben Gregg Brewer, May 18, 2020. Summer family vacation time is when these companies will make a large share of their revenues. A resurgence in participation will cause a quick rise in these companies’ business prospects. One that I think is well-positioned is Six Flags.

Oil and Natural Gas services – ONEOK (OKE), Enterprise Products Partners, (EPD) Diamond S Shipping (DSSI).

The recovery is going to need additional energy, and these companies are poised to deliver it.

Diamond S Shipping Inc. provides seaborne transportation of crude oil, refined petroleum, and other products via tankers and barges in international waters. Zacks ranks Diamond as a #2 stock with expected year-over-year earnings growth of 1,191.7% for this fiscal year and a Value Score of A.

The Homebuilders will be one of the most bullish sectors in the upcoming recovery. Although they have had a good run in 2020, doubling off the March lows, I think all of them will be heading for new 52-week highs as we enter summer, when the delayed Spring Selling season spills over into June and July this year.

My top pick is Tri-Pointe Homes (TPH), predominantly an SF Bay Area builder. I have owned the company since March. An excellent article came out over the weekend explaining the 2020 demographics of US homebuilders. See: “Housing Market Indicators Suggest Recession Could Pump House Prices“, by Simon Chandler, May 25, 2020.)

Housing starts historically go down during a recession, but starts in the United States (new construction) never recovered from the bust in 2006 and currently lie at 30-year lows, even though the population has grown over 26% in that 30-year period.

This state of affairs has now become a supply/demand issue with serious consequences for burgeoning municipalities which cannot provide affordable housing for employees in growing industries. Housing starts have fallen almost in half since February 2020.

Homebuilders are a Strong Buy, from luxury builders like Toll Brothers (TOL) to the large national builders like Pulte Homes (PHM), Lennar (LEN) and D.R. Horton (DHI). These companies are well-capitalized, and as can be seen by the starts numbers above, can turn housing starts on – and off – quickly as economic conditions dictate. 2020 was to be a banner year for new home construction before the pandemic hit. I assume that building is going to heat up again soon. The ongoing story in 2020 for the homebuilders will be stronger margins, revenues and profits in the months ahead.

In Tri-Pointe’s recent conference call, the company witnessed no slowdown in orders. Customers simply availed themselves more of online tools to preview new homes and select features from web-based catalogs.