“The stock market is never obvious,  It is designed to fool most of the people,

most of the time.”  — Famed market trader Jesse Livermore

One thing the market volatility of 2015 has done is decimate some of our best-laid plans, like owning hedges like QID into monster earnings from the QQQ stalwarts like AMZN, GOOG, FB, MSFT and AAPL.  But on the good side it has also opened up some amazing opportunities, punishing brilliantly-run companies with great revenue and earnings potential just because they were in the wrong sector at a time when the markets’ primary participants wanted something other than what they offer.  For the year thus far, for instance, that means New Tech / Social Media and Consumer Discretionary.

So while Amazon, Google, Apple, Microsoft, Facebook et al have been on a tear, financials, utilities, most health care (particularly the high-tech biotechnology subset,) industrials, materials, consumer staples, utilities and energy are down for the year.  That’s six of the original nine S&P sectors of our economy!  (S&P just added two new sectors this month.)  The V-shaped rally of October lifted health care to a 1.7% gain for the year, but the others are all still in the red.

It’s important to recognize this because, in this too-much-data world we live in, people tend to be swayed by the biggest headlines, like the one recently on Marketwatch.com, proclaiming “Stock indexes enjoy best month since 2011” and think, “Wow, the market must really be up this year!”  Not exactly.  Even after October’s 8.8% rally, the S&P 500 is down 1.7% as of Friday, November 13th.  For those who prefer the Blue Chips, alas, you are still down even more.  I would rather see it up 2000 but, regrettably, facts are facts.

This same “recency versus primacy” bias prevails in looking at individual companies’ shares, abetted by Wall Street’s desire to paint a rosy picture on the most ugly of earnings reports. They do this in two ways; first, by constantly lowering their “estimates” of earnings growth until they are certain that most companies will easily surpass  expectations, and second, by ignoring massive losses as long as they are “non-recurring.”

As to the first, suffice it to say that, if at the beginning of the quarter, success is measured as a 6-foot high-jump, but that is consistently lowered to a 5, then, a 4, then a 2-foot high jump, it is hardly exceptional  to call it a high-jump when it requires only a simple step-over.         

The less transparent but equally deceptive practice is to say, “After non-recurring items, the company made a profit of x.”  If the company, say, sells a money-losing division or abandons a major project, the losses incurred in so doing are considered “non-recurring” and therefore not germane to future earnings flow.  Two brief examples:

Johnson & Johnson (JNJ) is a longtime favorite of ours (we currently own it via our Tekla Healthcare fund). The company released earnings for the 3rd quarter that most analysts gushed were a continuation of JNJ’s 4 consecutive quarters of “positive earnings surprises.” I have a problem with considering this the end-point of analyzing JNJ’s numbers.

First, they once again showed less revenue this quarter. Earnings can easily be manipulated; revenue not so much. A company is either selling more of its products and services or they are not. One of the more popular ways to manipulate earnings is to buy back shares of your own stock rather than invest in R&D or customer acquisition. JNJ just announced another stock buyback going forward of up to $10 billion. This when its share price is within 10% of the highest it has ever been since the company’s founding in 1886.