The following is a transcript from the Radio Show "Decker Talk Radio - Protect Your Retirement. The following comments are of the opinion of Brian Decker and Mike Decker.
Good morning and thank you for listening to Decker talk radio’s Protect Your Retirement, a radio program brought to you by Decker Retirement Planning. Today we will be discussing the red flags that you may find in your portfolio; also we will be talking about how to spot the smoke and mirrors many companies use to appear as a better investment than they are. The comments on Decker Talk Radio are the opinion of Brian Decker and Mike Decker.
MIKE: Good morning, happy Sunday everyone. This is Mike Decker and Brian Decker and we are so excited for you to join us at KVI570, this is Decker Talk Radio on the program Protect Your Retirement. We have some incredible content for you all and are very excited and we’re going to dive right into it, we’ve got a lot to cover and this is a great moment. So, Brian, let’s get right to it today.
BRIAN: Right, this is Decker Retirement Planning our office is in Kirkland and we are going to use this radio show to cover financial planning and money-management topics, and today since Apple Computer just came out with blow-away earnings we’re going to dive into those earnings, by the way we taped the show on Wednesday, even though it’s a show on Sunday. We’re letting you know that Apple’s earnings came out and they came in better than expected. And I wanted to talk to you about this because many times you think that they earn better than expected earnings. I want to go behind the scenes and tell you about what actually happened with Apple Computer.
MIKE: So it’s not just a product, right?
BRIAN: Right. So, Wall Street came out with an earnings report $1.42 a share, 6 cents better than expected than the $1.36 consensus forecast. So Apple shares are up and closed up 7 points, I think it closed around 106.
MIKE: ‘Kay.
BRIAN: But there’s enough warnings signs buried in the numbers that I thought it would be interesting to go through some warning signs of that “better than expected earnings”. And by the way, this is fundamental analysis. Technical analysis is when you go through the charts, Mike, the ups and downs, the range, the resistance levels—
MIKE: So you’re kind of reading graphs and trying to figure that out? That makes sense.
BRIAN: Right. Charts and graphs. That’s technical analysis. We’re going to go into the fundamental analysis where we dive into the accounting of the stock.
MIKE: So fundamental analysis, diving into the accounts, is that the books or, or what kind of things are you pulling from to get this information?
BRIAN: Low debt, cash levels, earnings growth rates, price earning ratios, all of that is part of fundamental analysis. So warning sign number one—and by the way, before we even get into the stock, when you do your analysis on a company one of the things you should know is the capitalisation of the company because when you get—there’s three phases to a stock, a company’s growth. There’s the growth phase, the maturation phase, and the decline. No trees grow to the moon, all companies have those three phases: growth, maturation, and decline.
MIKE: Wait, maturation; can explain that one? I understand growth, that’s when they’re growing…
BRIAN: Maturation is an M-word and Microsoft is an M-word. Microsoft is the poster child of maturation. The stock capitalisation of Microsoft hit over 700 billion and at that point, for Microsoft to grow at 20% it has to hit a new Cisco every year, a new Oracle every year. You can’t do that.
MIKE: So it’s kind of like they’re cruising along.
BRIAN: Right, but it gets to a point where the shares times share-price, or the capitalisation is so big you can’t continue—you’d have to reintroduce a blow-product every year, and companies can’t do that. So they get into the maturation phase. Do you know if you invested $100,000 in November of 1999 when the share price was $140 split, your $100,000 would be worth—what would you guess?
MIKE: [laughs]
BRIAN: Now 16 ½ years later, what would you guess?
MIKE: Oh my gosh, I don’t even know where to begin. I really don’t.
BRIAN: It would be worth $95,000.
MIKE: [deflated] Okay…
BRIAN: You lost $5,000 in 16 ½ years. That’s the maturation phase. The growth phase, if you sold any Microsoft shares from the eighties through November 1, when the stock peaked. November of 1999, you were a fool. It was a growth phase, and the stock hit a point where it went into the maturation phase. We haven’t entered into the decline phase, but just like any company, like the oil companies, AT&T, there will be technology destruction where—by the way, because we’re talking about Apple, the big companies, we’re also going to talk about IBM. I find that fascinating, and I know I need to get a life, but let’s get into the warning signs of—
MIKE: Let’s can back to Apple.
BRIAN: Yeah, Apple Computer. So Apple came out with revenues of 42.2 billion, which was in line with expectations, but 14.5% less than the same period last year. The shrinking revenues are becoming a habit. Total revenue during the quarter, ended March, amounted to 50.5 billion, a 13% decline from the same quarter in 2015 and an indication that the slowdown is accelerating, not getting better. Now, you would never know that when the shares exploded to the up side. Why would the shares go up? So let’s continue, warning sign number two: the $1.42 in earnings was greatly helped by Apple’s aggressive stock buy-back program. What do you do—and by the way, $1.42 is a 23% year over decline in profits, but profits would have plunged 40% if Apple didn’t buy back a ton of their stock. So in the last year, Apple reduced the number of shares outstanding from 5,820,000 to 5,535,000 and that shrunk the decline in earnings by buying shares back. So this is not gap, generally accepted accounting principles, it’s not gap accounting. This is different smoke and mirrors accounting.
MIKE: What is this—we’re picking a little bit on Apple here, I don’t mean to pick on Apple too much, I’m a huge Apple fan. I’ve got an iPhone, iPad, I love Apple, but what does this mean for retirees?
BRIAN: You want to own stocks in the growth phase.
MIKE: Exactly.
BRIAN: You don’t want to own stocks in the maturation phase. And, by the way, when we continue to talk about Apple here, there’s a lot of stocks in the maturation phase and you’ve got to know about it.
BRIAN: Right. Okay. So, let’s continue: warning sign number one was the shrinking revenues of Apple. Warning sign number two was coming out with earnings where there was a 23% year-over-year decline, but it was actually a 40% decline, it was sheltered by a huge buy-back of shares and so the shrinking profits were covered up a little bit. So let’s talk about warning sign number three of Apple. Apple generates nearly 65%, almost 2/3 of their revenue, from the iPhone segment. So the success, or lack thereof, is just about the only thing that matters. As the profits of iPhone sales go, so go the profits. Apple sold 40.4 million iPhones in the second quarter, which is a 14.9% year-over-year decline from last year. A big part of the problem is that the smaller, cheaper iPhone SE is proving to be popular, so it’s dragging down the average price of iPhones. The average price of iPhones fell from--Wall Street was expecting $606, it was $595.26. So the average price of their leading product, which is responsible for 2/3 of their profits revenues is declining.
MIKE: So, that’s like $11. That little amount for something that the common person might not realise is such a difference, is that really going to make a huge difference with company stock and portfolios?
BRIAN: Yeah. Because, Mike, if your major product is declining in price and volume that’s strike one and two.
MIKE: Wow, that’s something that I never would have looked for. This is amazing.
BRIAN: So let’s go to warning sign number 4: the Apple Watch was a flop.
MIKE: [wry chuckle] Well…
BRIAN: Do you know why?
MIKE: Because, so I’m a huge Apple person, I don’t have an Apple Watch because I wait for the second or third generation before they figure it out, just like the iPad and everything else, but that’s just me. Some guy who likes technology is probably completely different.
BRIAN: Mike, you have to plug it in. People don’t like to plug in their watch.
MIKE: That’s true.
BRIAN: The Apple Watch was a flop, the AppleTV was also a flop, and everything else Apple has put out with the exception of the iPhone, the iPad, and the Mac computers. So Apple has not been able to come up with a new homerun product since the iPad. Warning sign number five—there’s only six of these, Mike—China is supposed to be the big growth drive, but the business there is shrinking. Apple reported a 26% decline in revenue from the Greater China Region last quarter. On the other hand, it really isn’t fair to single out China because Apple has been doing worse all over the world. In every country.
MIKE: Is this something to be concerned about, company-to-company? Or, do you think that overall we have too much technology? I mean, is this something you’re also seeing with Androids and other phones, or is that maybe irrelevant to all of this and we’re just looking at individual performance?
BRIAN: So let’s talk about analogy—that’s a good point—when I started in the business 30 years ago there was a grandmother’s stock—is what we called it—called AT&T. We always had telephones, we always will have telephones, why in the world could we not see continued dividend increases forever? Because they’ve been going on for over 30 years before that, and stock keeps just trending higher, no homeruns, it just is a steady dividend player, we called it grandmother’s stock.
MIKE: Makes sense.
BRIAN: AT&T. And then creative destruction: cell phones. Cell phones came out. Do you know what—the 16—we did this to Microsoft, do you know what the 16 ½ year return for AT&T stock is?
MIKE: What is it?
BRIAN: It’s a -75%.
MIKE: Oh my goodness….
BRIAN: People have been crushed. Do you know why? I already told you.
MIKE: Well, cell phones, yeah. I was talking to someone the other day, you know just a kid, right? And they didn’t even know phones were ever corded, they just had no idea they existed. It’s just everything changed in the world.
BRIAN: So Mike, here’s a very important point: KVI listeners, you people—and you know who you are—who buy your stocks, you’re married to them, and you think that Apple is going come out with all kinds of stuff, probably number one is the capitalisation. When you get up to 600 or 700 billion dollars in cap, if they come out and own the car interior where you go a plug in your iPhone, and you have Nav, and you have your music, you have your phone, that might work. But the profits of the car interior have to be $120 billion for it to, as a new product, to keep the stock where it is, to maintain the stock. I want this to sink in. So KVI listeners, the reason I’m picking on Apple—and by the way I’m going to tear into IBM in a second—is if you’re not doing fundamental analysis, if you’re not diving in, if you think your stock is going to stay in the growth phase—and by the way if you’ve owned Microsoft stock for the last 20, I’m sorry Mike, not Microsoft. If you’ve owned Apple stock for the last 20 years, you were a fool to sell. I get that. But there was a point, like with Microsoft, where it switched from growth to maturation. And anyone who owned Microsoft stock in the last 16 ½ years hasn’t made a dime. So that’s what we’re talking about, and looking through your portfolio, you’ve got to stay with stock in growth phase because if you don’t you can really get hammered.
MIKE: That’s just amazing.
Brian: Yeah. Okay, I want to finish up Apple. We talked about how Apple came out with spectacular earnings, and the reason they came out with better-than-expected earnings is because they bought back a ton of shares. If they hadn’t bought any shares back, that would have been not a better-than-expected earnings announcement, 6 cents better than expected, it would have been 40—four zero—40% drop in profits. So, earnings, revenues have been dropping, earnings have been dropping, the iPhone is the reason, I’m just reviewing here real quick, the Apple Watch was a flop, the Apple TV was a flop, in these days the iPhone, iPad, and Mac have to maintain the revenues, and yet the growth from China and the other world regions have been declining. So the expectation for the growth engine of China didn’t come through. Here’s the last point I want to talk about when it comes to Apple, number six: the warning sign isn’t from Apple, but from one of the most important suppliers. The name of the supplier that we want to talk about is Skyworks Solutions. Skyworks reported better-than-expected earnings—$1.24—but lower-than-expected revenues of 751 million. 751 million translates to a 7% decline year-over-year if it weren’t for “headwinds from a large customer”—Mike, one guess, who’s the large customer?
MIKE: Apple.
BRIAN: Apple. Skyworks claimed its revenues would have actually increased by more than 10%. Who’s the large customer? It’s Apple. Who is the largest Skyworks client and generates roughly 40% of their revenues? Because of those slumping orders from Apple, Skyworks saw a gigantic increase in their inventories. Those headwinds translated into lower sales and higher inventory. Inventory ballooned to 438 million, 35% quarter-over-quarter increase.
MIKE: What you’re saying here is that the big guys affect the little guys significantly, as well, and even the big guys.
BRIAN: That’s right. It’s just another way to find out, Mike, if the company, you check it’s suppliers, if the company is doing better than expected, really, or not. Last comment I want to make: what all this suggests is that Apple itself does not expect iPhone 7 sales will Wall Street hype, and that the stock should be headed for a tumble. The reason I picked on Apple, before we switch to IBM, is because this is a key time to go through your portfolio, check out and weed out what you should keep and what you shouldn’t, because what I’m going to tell you now I hope that you listen very carefully, too. And that is that there is a cycle in the market that has been going on for decades, for over 80 years, every 7 years the market gets creamed. So let’s review: 7 years ago, the last big drop was 2008. The market bottomed March of 2009; 7 years before that was 2001 and 2002, there was a 50% decline—by the way, October of 2007 to March of 2009, that was 55% decline, huge hit; 7 years before 2008 was 2001, that was the middle of a three-year bear market, 50% came off, twin towers came down. 7 years before that was 1994, that was when interest rates spiked up, we had a small recession, and stocks came down. 7 years before that was 1987. Black Monday, October 19, 30% in one day. 7 years before that was 1980, that was the middle of a two-year recession, 1980-1982, interest rates were sky-high, that was the Carter-Reagan transition, and stocks were down over 40% during those two years. 7 years before that was 1973/1974, and the market seven years before that was 1966/1967, recession. And it keeps going…So, 7 plus March of 2009 is…?
MIKE: Very soon is what it sounds like.
BRIAN: Okay, so let’s continue. We talked about Apple and how their earnings that came out this week better than expected, how there’s a lot of smoke and mirrors; we talked about the seven-year cycle, how the markets crater 30+% every seven years like clockwork, we are due now and we want to go through your portfolio, particularly if you’re within five years of retirement or are in retirement because you can’t take those hits anymore! KVI listeners, you can’t take a 30% hit when you’re retired. You can in your 20s, 30s, 40s because you’re getting a pay check, this is common sense, you don’t need a finance or marketing or Wall Street degree at all, this is common sense. Once you take that last pay check you’re ever going to take and you’re retired, you can’t take that kind of a hit and then take five years to get back to even. Those days are over. What you have is an accumulation plan, what you should have is a distribution plan, and that’s what we do.
MIKE: Absolutely, and we’ll get into that in a moment here, but let’s get to the IBM. You’ve got some great content here to kind of wrap up what we’re talking about. Not wrap up, but continue what we’re talking about with the portfolio and individual investments here.
BRIAN: So we talked about how Apple covered up, or put lipstick on the pig, by buying back their shares and making a 40% earnings drop appear okay with only a 23% earnings drop. Second way to cover up with non-gap earnings, generally accepted accounting principal, is smoke and mirrors and it’s through acquisitions. IBM is the poster child of losing money, but using smoke and mirrors to make their earnings better than expected by acquisition. So, hear me out on this, Mike, IBM has reported falling revenues for 17 consecutive quarters. Let that sink in. How many years is that?
MIKE: Oh my goodness.
BRIAN: That’s four years and a quarter, that’s over four years. So, let me say this again: IBM has had falling revenues—top line—for four years straight.
MIKE: So this doesn’t sound like it’s on the increase, obviously, with their declining, but it also sounds like they’re leaving the M-word, the M-phase there, are they on the decline?
BRIAN: So we’re going to talk about this. Let’s bring this again: there’s a growth phase for stocks, all stocks; there’s a maturation phase for all stocks; and there is a decline phase for all stocks. You, KVI listeners, you know who you are, who are married to your stocks and think that you’re smart to buy-and-hold, will ride that horse up and ride it down.
MIKE: Sounds like a bad relationship.
BRIAN: It’s called a round trip: you ride it up, and you ride it all the way down. Think of this: if you held AT&T stock for forty years, you would have had a fortune going into January 1, 2000. Then in 15 years you saw 75% of that forty-year gain wiped. IBM is on the verge of creative destruction. Now here, so Mike, here’s how it works: IBM has had 17 consecutive quarters of falling top line revenue. IBM pulled in sales of $20 billion last quarter, but that’s 2.7% less than a year ago, and 25% lower than in 2011. Here is how wide-spread the weakness is, here’s their different divisions: global business service revenues down 2%, 4.3 billion; technology services and cloud platforms, sales of 8.9 billion, down—just a smidge—down half a percent; save the best for last, global financing had sales of 424 million, down 11.3%. Their core sales business, Mike, is systems. That’s what IBM does, systems, that includes hardware and operating software, operating system software, they had sales of 2 billion, down 23%--23%--
MIKE: That’s huge!
BRIAN: With all that red ink, only way you can look good is by acquisition and buying up companies. IBM has bought eleven companies worth 5 billion just so far this year, in six months.
MIKE: So let’s talk about that real quick, because I’ve got a question. I mean, for my personal finances, if I’m not earning money and I’m spending a lot of money, that doesn’t seem right. When you acquire a company, you’re buying a company, I mean how, how are they trying to do smoke and mirrors here, buying a company to show that they are good?
BRIAN: So I’m going to go into that. Perfect question, I couldn’t have paid you for that one.
MIKE: [endearing chuckle] It’s just a genuine question.
BRIAN: Okay, so for with all that red ink, the one way, actually, even share buy-backs—it’s tough—the only way you can make yourself look good is by acquisition and by buying other companies. IBM has bought eleven companies so far this year worth 5 billion dollars, in fact it’s spent more on acquisitions in the last 12 months than ever before in the history of IBM. Let that sink in. In the last 12 months IBM has paid more in acquisition this year, in the trailing 12, than it has in it’s history. Did you know IBM goes back 80-plus years?
MIKE: Have computer chips been around that long?
BRIAN: IBM, as a company, has been going around for a long time. So 20 billion of Q2 revenues was boosted by around 400 million from the acquisitions. So these results would have been uglier without them. Instead of 2.7% decline in revenues, it would have been a considerable 5%--twice that, what was reported. Here’s the profit magic, here’s the smoke and mirrors: first of all, IBM reports it’s earnings on a pro-forma basis. So KVI listeners, when you hear pro-forma, I want you to think smoke and mirrors. GAAP (generally accepted accounting principles), you can’t do share buy-backs and acquisitions to bolster earnings. But pro-forma, you can. The main reason because it props up profits. On the profits side, IBM did better than expected. Pro-forma profits of $2.95, which was above the average forecast of $2.88. On a GAAP basis it should have been $2.61. So even using phony pro-forma calculations, the company’s profits are 25% lower than they were, Mike, a year ago. But, IBM says ‘Don’t look over here on the profits side, look at how much cash we have.’ And there’s another trick that we want KVI listeners to know about when you look at your stock. ‘Look at all the cash we have!’ IBM is proud to point out that it has a cash horde of 7.6 billion in the second quarter of 2015 and 10.6 billion today. However, they failed to tell you where that cash came from. It didn’t come from operating profits, it came from borrowing money. The interest rates so low, that they’re smart to put out IBM bonds and borrow money at 2 or 3%. However, there’s something called a burn rate: how quickly they’re burning through their cash. A year ago IBM had 33 billion in debt, it took on an addition 11.5 and now it’s a staggering 44.5 billion in debt.
MIKE: Hey Brian, have you ever seen that Steve Martin SNL thing? ‘If you don’t have money don’t spend it’?
BRIAN: Yeah, it’s pretty funny.
MIKE: IBM is not sticking to that at all.
BRIAN: No.
MIKE: And so, it looks like they’re just trying to have the appearance looking good, but really they’re very poor. I mean, I think there’s a huge lesson there, not just for companies, but for personal finance and everything. It just, it does—I mean, isn’t that just a financial truth? You don’t spend money you don’t have?
BRIAN: Right. Right. Right.
MIKE: Wow. It’s just amazing all the stuff you’re telling me, because it’s not just something that’s like on the news. It’s just—well, maybe it is—it’s not—it’s smoke and mirrors here.
BRIAN: It’s sad that the smoke and mirrors accounting is common now on Wall Street. So, again, KVIL listeners, the reason that we’re diving in and nailing IBM and Apple stock is because their better-than-expected stocks, their better-than-expected announcement this week, are not better than expected. There’s so much behind this, and we are on the verge, we’ve had seven years of incredible growth in the stock markets, we’re all feeling very good about our gains in the last seven years, but now’s the time to go through and prune the garden and to take a hard look at your portfolio because every seven years for the last eight decades there’s a cycle in the market where things go down hard.
MIKE: That’s a great point. For those who are just tuning in, what we’re doing is we’re talking about Apple, we’re talking about IBM, talking about how to protect your retirement as best as you can. This is just the overall portfolios that you currently have and it’s kind of a check that you’ve got the right investments. I like that: pruning, making it look nice and cutting off the fat of whatever it might be.
BRIAN: So I want to finish this up. So, they had 10.6 billion in cash with the burn-rate in Q2, the quarter, and Q2 the company had 3.4 billion in operating cash flow—let this sink in—but spent 5.9 billion on: 1 billion on capital expenditures; 2.8 on acquisitions; 1.3 on dividends; 100 million on share repurchasing. They spent 5.9 billion; they had 3.4 billion in operating cash flow. So it’s negative burn in a quarter of about 2.5 billion. That’s 2.5 billion of negative operating cash flow, and it’s only possible because IBM’s debt-binge and big warning sign of a company in trouble. By the way, competitor info says Brexit could hurt its business, but IBM is adopting a see-no-evil defence. They said, quote, this is the CFO, the Chief Financial Officer, Martin Schroeder, he said, “Brexit didn’t help, but from everything we’ve seen, we haven’t changed our outlook.” So we’ve gone in—one of the things that we pride ourselves, Mike, on this radio show is we are very sceptical cynics. We go in and we hammer the banks and brokers for their non-fiduciary sales practises. We’re going to spend a lot of time throwing back the curtain on the practises of the bankers and brokers, as fiduciaries, warning KVI listeners and we also want to warn you on these deceptive earnings announcements such as the ones that have come from IBM and Apple this week.
MIKE: And there’s a lot more that you’re saying.
BRIAN: Alright. Now, Mike, I wanna—I don’t want you to think I’m just picking on IBM or I’m—
MIKE: Or on Apple.
BRIAN: Or on Apple. Now we’re going to step back and look at the S&P 500 earnings. How healthy is this market? How much is it growing?
MIKE: Now, real quick, S&P, that’s just a lot of stock in one thing, right?
BRIAN: 500.
MIKE: It’s 500 stocks that are picked to show, to show what? What is the S&P trying to show?
BRIAN: S&P 500 is a very diverse group of companies that represent, as an index, the earnings growth or earnings decline of those 500 companies as a composite. Okay?
MIKE: Perfect.
BRIAN: Alright. So, Mike, the first quarter of 2016 ended March 31. I’m going to talk about the first quarter before we go into the second quarter. For the first quarter of 2016 marks the fourth consecutive quarter of earnings decline for the S&P 500. By the way, four quarters is one year.
MIKE: That makes sense.
BRIAN: Earnings estimates as of June 10 of this year, 2016, are calling for second quarter of 2016 to make it five in a row. This is very important what I’m going to read, KVI listeners, if you’re in traffic turn up the volume—well, it’s 9 am on Sunday, nobody’s in traffic.
MIKE: I certainly hope not. Unless there’s a Seahawks game or something.
BRIAN: So, if you’re at home and someone’s talking to you tell them to be quiet because you want to listen to this: ‘Since 1937 there have been 17 instances. Since 1937 there have been 17 instances when the S&P 500 earnings declined for at least three consecutive quarters.’ Remember, I just told you that it’s been four quarters in a row. ‘14 of those 17 streaks were followed by a bear market within three months.’ I’m going to read that again—bear market, by the way, is defined as at least a 20% drop, peak to trough, in stock prices, so we’re at 18.5% right now, that would be almost a 4,000 point drop in—that would take us back from Dow 18,500, Dow 14,000 and change if we had a bear market, okay?
MIKE: So that’s a big change.
BRIAN: And by the way, if the S&P loses 20%, typically you’re going to lose more than that. I’ll get more into that in a second. I want to read this again, KVI listeners, because this is very important: ‘In the first quarter of 2016, that marked the fourth quarter of sequential earnings declines for the S&P 500, and earnings estimates of June 10th are calling for second quarter 2016 to make it five in a row. Since 1937 there have been 17 instances where the S&P 500 earnings declined for at least three consecutive quarters. 14 of those streaks were followed by a bear market within three months.’ So, what are some other warning signs? The second quarter ended June 30th, industrial production in the United States declined 1% annual rate, that’s the third decline in industrial production. The only thing keeping manufacturing afloat in the United States is the automobile manufacturing industry. Outside of autos, Mike, every other major category—I’m saying this slowly—of durable materials recorded decreasing production. Industrial production is a leading indicator of market direction. When industrial productions starts to decline, guess what happens to the S&P?
MIKE: It declines as well.
BRIAN: It goes down.
MIKE: What you’re saying, essentially, is times don’t look promising ahead. They don’t look very good. Storm is coming, or choppy waters, however you want to put it.
BRIAN: Yeah, if you’re in a boat and you see storm clouds coming, by the way Mike, this is a funny aside: I was in Costa Rica diving—I’m a scuba diver, we’re as a family scuba divers.
MIKE: We all scuba dive, yeah.
BRIAN: I was in Costa Rica, diving, we were—gosh, I gotta think when this was. This was in August of last year, I think it was. I’m pretty sure it was, yeah, August of last year and we just missed the last year. And we just missed the whales, the whales come in in September, we were one month early, I was bummed out. But it was beautiful being in Costa Rica. By the way, this does have application to the S&P 500.
MIKE: It’s not just a fun story?
BRIAN: We went out diving with this German dive master, we were in an all-metal boat with metal and aluminium frame everywhere, we had just finished an incredible morning dive, we had lunch and were waiting to go down for an afternoon dive and I watched a storm blowing in. Thunder, lightening, we’re anchored—anchored—
MIKE: That’s a bad thing.
BRIAN: Anchored in 40 feet of water and I looked at the German guy and I said ‘Are we going to stay here? And he says ‘Eh, looks good to me’. And the reason he said that is because if he decides to take us in, he has to give us part of our money back. If we tell him we want to go in, then there’s no refund. So the thunder and lightening was less than three or four miles away when I said ‘ Hey are you waiting for me to tell you to pull anchor?’ He nodded, he was visibly nervous now, and we pulled anchor and motored in. What I’m describing—
MIKE: Wait, so did he say it, or you—?
BRIAN: I said it. I tried asking leading questions, I said ‘Hey what happens if lightening strikes the boat?’ He said ‘Oh that would be a bad thing.’ And I said ‘What if we’re in the water and lightening strikes the boat?’ He said ‘Well it will fry everyone within probably 30 or 40 metres.’ Metres.
MIKE: That’s not inches or feet.
BRIAN: He said ‘It’s a bad thing.’ I said ‘Why aren’t we pulling up the anchor?’ He said—he shrugged his shoulders! ‘Well, let’s get out of here.’
MIKE: There’s a huge parallel here, it’s not just the S&P, I mean, what if your current guys, banker, broker, whoever you’re working with, I mean, they’re going to just—are they going to say ‘invest in IBM and Apple’ and these other investments that they know have smoke and mirrors? Or, I mean—
BRIAN: Okay, we talked about declining earnings. Top line and bottom line revenue, top line and bottom line earnings in IBM and Apple. Now, we’re going to talk about industrial—well we just did—industrial production being a leading indicator, and how that’s gone down in the last year. Every category of manufacturing is down except for automobiles. I’m going to keep going: second quarter earnings have started more than 90 of the biggest US companies will report results this week, giving a clear picture of what’s expected. The fourth quarter of declining profits based on analysts forecasts for companies in the S&P 500, Reuters predicts that adjusted earnings-per-share will be around 4.7% from a year earlier, following a 5% year-over-year drop in Q1. David Costin, the head equity strategist of Goldman-Sachs, Mike, had this to say about simultaneously stock and bond market rallies. This is fascinating, KVI listeners, when you—we’ve never had this before—you stock market historians, when have you ever had an all-time high in the stock market and an all-time high in the bond market at the same time? The answer is never.
MIKE: Is that a perfect storm?
BRIAN: It’s never happened before. You have the bond market telling you to run for the hills because there’s a flight to safety, and you have the stock market at all time highs. How do you explain that? There is an explanation.
MIKE: I’d love to hear it.
BRIAN: Okay, you have earnings-per-share of global industries going down and with our interest rate still positive, there is a flight of capital flying to the United States, buying stocks—number one—at any price because it’s better than what they had at home. Let me say it differently: United States is the least worst country, financially, than any other country in the world. Capitol is coming here—number one. Number two, Mike, it’s an election year. I’m cynical, I admit it, but this happens every election year. The Fed pumps it’s monetary policy, they keep the stock market up, going into the election year to make the in-coming, or the—well I don’t want to say it—anyway, it’s artificially pumped up, and by the way, usually this artificial pumping of, artificially propping up of the stocks usually happens until September/October and then, usually, the fix is in for whoever is going in and then things change. I’ve got more to talk about this, but Mike you’ve got to chime in.
MIKE: Well, yeah, you’re talking about this. Is it, do you think it’s maybe going to be like the—oh who was it—like the Reagan thing? Is it going to be like that? Or is this kind of an every, Reagan transition where the market crashed, or is this kind of going to be something else?
BRIAN: No, this doesn’t depend on the party. Markets crash every seven or eight years and have for decades, so whatever you do, it doesn’t matter Trump or Hillary, it doesn’t matter. Markets cycle, we are right now in the second-longest bull market that has run ever in the history, and we are due for a decline. 20-plus per cent.
MIKE: We have seven minutes left in this show.
BRIAN: Okay, I want to continue because David Costin, head equity strategist at Goldman-Sachs had this to say about simultaneously stock and bond market rallies. He said ‘I am struggling to reconcile how extreme valuations in both assets can coexist. How extreme are the valuations? The trailing price/earnings ratio for the S&P, the 12-month trailing PE for the S&P is now at 19.4, based on Friday’s closing price. That’s the highest trailing 12-month price/earnings ration since—’
MIKE: Since when?
BRIAN: Since February 2010. The more telling is 19.4 price/earnings ratio is way above historic norms in the last 5, 10, 15 years. The average price for the last 5, or any 5-year period, is 15.8 price/earnings ratio. Ten years is 15.9, 15 is 17.6 We are 19.4. I should define what a price/earnings ratio is for anyone who doesn’t know.
MIKE: That was my next question, actually, because you’re throwing a lot of numbers around, but how do we know how significant these numbers are?
BRIAN: Price divided by earnings, like Mike, for example, you could ask me if XYZ stock is a good buy, and I would say ‘Well, what’s the price?’ and you would say—let’s say the price of XYZ is $20. Is it a good buy or not? Well, it depends. If the price/earnings ratio—price divided by earnings—is, there’s two components if you should buy a stock.
MIKE: What’s the earnings? You’ve defined price, but what are the earnings?
BRIAN: Let’s say the price of $20 divided by the earnings of $1 a share. Price/earnings ratio is $20.
MIKE: So dividends, are we talking about?
BRIAN: Forget about dividends. The price/earnings ratio of XYZ stock is $20. That doesn’t tell you anything. You need to know the growth-rate of the company. So the price/earnings ratio of $20—this is called the PEG ratio, or price earnings to growth—so, you have a XYZ stock that’s $20 a share and it’s created $1 in earnings for the trailing 12 months, and it’s growth rate is 10%, then price earnings to growth is 2.
MIKE: Okay, I follow you so far.
BRIAN: And the stock is over-valued because you should have the growth-rate equal to the earnings, the price/earnings ratio. So for a stock to be expensive, it would have a growth-rate of less than 20. For a stock to be cheap, and a good buy, the price/earnings ratio of 20 would be a screaming buy if the growth-rate of the company was at 40%, or 50%, or higher. Does this make sense?
MIKE: Makes sense, it’s just a rule of measurement, really, to see where you’re gauged and where it’s a good buy.
BRIAN: Right. Microsoft stock had price/earnings ratios in the nineties of 30 to 40-times earnings, but it was growing faster than that so it just kept going and going. When the stock, at a stock/earnings ratio of 30 or 40 matures, guess what happens to it’s stock? It goes down. So the price/earnings ratio should be pretty close to the growth-rate. Make sense?
MIKE: Makes sense, yeah, that’s a great explanation.
BRIAN: Okay, I’ve got more than what we can fit in to the last four minutes, Mike, so why don’t you say what you want to say and I’ll wrap it up?
MIKE: Sounds good. I mean, just to recap real quick, this is Decker Talk radio with our show Protect Your Retirement, the whole purpose of the show, really, is we’re trying to enable people to protect your retirement. It’s a very simple show, but we don’t just talk about the surface things, we really dive into the details here and if you’ve been listening for the full time here you can understand that. This is not light content, but we do try and communicate that.
BRIAN: You won’t find a show like this. You won’t find a show that hammers the banks and brokers like we plan to. And you won’t find a show that exposes the very deceptive sales practises that we will expose. You will not see a show go into the detail that we went into, so any student of the market, and you won’t see a show that offers to the callers the kind of values that we have. Do you have one last offer?
MIKE: A couple more things here before the last offer is going to go there. We’d love to hear from you: feedback, questions, things you might want to hear on the show. You can always do that, it’s questions@deckertalk.com, that will come straight to me and Brian and I will be reviewing those and Brian and I are from Decker Retirement Planning.
BRIAN: Okay, so I want to end with—dang! I only have one minute.
MIKE: Well, tune in next week.
BRIAN: Okay, I want to talk about dividends—write that down—we’ll talk about dividends start of the show next week. Dividends, a lot of retirees, they count on those dividends as income. So a lot of people fail to look at how safe their dividends are and I want to talk about that. So, Mike, just as a teaser for next week, would you be more excited about a dividend stock XYZ at 2%, or a dividend-paying stock ABC at 7%?
MIKE: I want more money. I don’t care about the stock, I just want to get as much as I can out of it.
BRIAN: Okay, so we’re going to talk in detail why 7,8, 9% or higher dividends are a huge red flag when the ten-year treasury is below 2%.
MIKE: So you’re saying I shouldn’t be suckered in there.
BRIAN: Yes. So we have ten seconds to sign off. This is Brian Decker—
MIKE: And Mike Decker.
BRIAN: For Decker Retirement Planning, Decker Talk Radio, go to our website www.deckerretirementplanning.com and we will talk to you next week.
MIKE: Sunday at 9 am. Talk to you then.