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Staying Invested by Understanding Revenue Growth and Consumer Confidence Numbers

Mar 25, 2014 | Just My Opinion, Stock Market Outlook

The market direction outlook for today was for stocks to remain weak and sell-off in the morning but try to rally in the afternoon. While I am not a big believer in the consumer confidence index, especially when you consider how high it was just before the collapse of the market in 2008 and in 2001 and 2002, today’s consumer confidence numbers are helping investors’ confidence. The problem with investing in stocks is that they are emotionally driven. Fear controls just about everything. Investors fear they are buying when prices are too high and others fear they are going to miss out on the next big move higher. This keeps volatility high in a year like 2014 when many stocks are already high or fully to overvalued. To keep stocks at present level and then move them higher the biggest driver is revenue growth. While stocks can move higher, the only way they can stay up is through growing revenue.

Understanding Revenue Growth – 2008

In 2008 when stocks crashed they were undervalued compared to their earnings and revenue potential. The belief though from many analysts was that revenue growth would be poor and possibly a major depression was about to commence. This forced stocks to stay undervalued. When investors such as myself were buying in early and mid 2009, we were buying under the belief that stocks were undervalued. If instead revenue had collapsed further, then stocks would have fallen further. This is what happened in Feb to March 2009 when many economists predicted incredible drops in revenue not only in the US but worldwide. Stocks that were trying to recover in the late fall and early winter of 2008 were hit again by a wave of selling as investors panicked more than in September and Octobere 2008. When revenue did not collapse, stocks recovered and moved higher on revenue growth. Many stocks were in fact deeply undervalued.

Understanding Revenue Growth – 2013

Last year stocks moved up rapidly all year long because the belief was that the economy was only going to get better. Employment was improving, housing prices and building was improving and the belief by many economicts was that overall revenue growth would grow faster in the months ahead as America “came back from the Great Recession”. Indeed many economists in 2013 wrote about America entering a new age of growth and prosperity. A lot of investors returned to stocks and last year saw a large increase in the amount of capital being placed into stocks again.

Understanding Revenue Growth – 2014

This year many stocks have started the year at all time-highs. To continue to support those highs, companies must be able to increase revenue numbers further. For valuations to rise and stay up, increasing revenue numbers are the only way that this can happen. To date revenue numbers have not been strong enough to support a rise in stocks to levels that will keep them up. They rise but then they also easily fall back. I write about support levels in the major indexes and in specific stocks daily, but even they are tied to revenue growth, expectations and past numbers.

McDonalds Stock Example

For example McDonalds stock continues to squeeze out better revenue numbers but only by very small percentages. If we look at the 1 year chart of McDonalds Stock you can see that last year in March, April and May the stock moved higher on the expectations of growing revenue. When that failed to occur, eventually investors faced the reality that the company may have trouble growing revenues fast enough to push the stock higher. This resulted in the stock turning sideways and drifting lower. Recently the CFO talked up McDonalds Stock to try to get the stock moving higher again. It worked for a few days but the reality is that the company earnings are growing slowly now and while that won’t translate into a massive decline in value, it does mean the likelihood of a swift rise is low. Once investors have higher expectations, the stock will jump again. Right now McDonalds Stock is ideal for my form of investing through selling puts on dips in the stock.

McDonalds Stock 1 year chart

Just like McDonalds Stock the major indexes are in general drifting sideways.

Understanding the Effect of Consumer Confidence Numbers

The consumer confidence numbers are looked upon as a sign that consumers will be out spending which means more revenue growth for companies which means higher prices for stocks. It really is that simple. Today’s consumer confidence numbers from the Conference Board places sentiment at 82.3 which is the highest since January 2008. Note how we are once again back to 2008 comparisons. This is why I don’t place a lot of faith in consumer confidence numbers.

But because stock investing is highly emotional, when investors see these types of consumer confidence numbers it helps them place more capital at risk. They get excited about stocks and the possibility that they will move higher. Basically then, investors jump in because they believe stocks will move up because consumers are going to spend more because the confidence numbers show they are less concerned about employment, living costs, etc. In other words, the expectations are what can drive stocks higher but the reality is what keeps they pulling back to fair valuations.

Summary: Stay The Course

I have been through this kind of market direction many times in the past. It is in fact ideal for my investment portfolio.

This is because my method of investing is to pick large cap stocks with strong balance sheets, a myriad of products to generate revenue streams from, growing revenue even if like McDonalds Stock it is just 1% or 2% a quarter and a trading pattern that allows me to pick strikes where I believe the stock is fairly or even undervalued and sell put options at those levels. This is why since January, despite the indexes flip-flopping back and forth but truly not getting much traction, my portfolio is growing quickly as I stay invested and pick opportunities to place capital to work.

As well despite the market direction gyrations there are really no clear signs that a collapse of equities is evident. Even a 15% pull back of stocks at this point would simply make them more attractive based on the present revenue numbers. A pullback of more than 15% would make them even more attractive based again on current revenue numbers. For stocks to collapse a lot further, there has to be a catalyst. The Ukrainian Crisis was a small catalyst to the downside at first. Fed chair Yellen’s comments last week also was a small catalyst to the downside. But an actual above the board decline in overall revenue growth would be the biggest catalyst to stocks falling beyond 15% and at present there are no signs that this is about to happen.

At the same time though there are no signs that revenue growth will grow by leaps and bounds over what was seen last year. In other words, last year’s rise in stocks may have “used up” some of the rise we might have seen in 2014. Stocks can certainly jump higher from here and stay higher for weeks or possibly even a couple of months but without revenue growth to support higher valuations, stocks will eventually pull back to fair valuation.

Therefore it stands to reason that despite the market gyrations, the best place to be is invested at what I believe is good value, fair value or under value in stocks and selling put options for income allows me to do just that while waiting for either more revenue growth to lift the market higher or a catalyst to excite investors to push stocks higher in anticipation of higher valuations.

This is why combining stock and option strategies to profit and protect a portfolio works in most market conditions. In the present condition I can select what valuations I believe a stock is properly valued at and sell options for income at those valuations. It is through combining stock and options strategies that I can stay invested and earn substantial returns, despite the market direction stuck sideways.

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