COW (part 2)

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P = E Times X
My continued analysis of COW (iShares Agriculture ETF) is long overdue.  Previously, I provided a list of the companies which comprise 80 percent of the makeup of COW.  I then mentioned the relationship between price and earnings, and how calculating the potential price of the companies in the ETF results in a price we can use for valuing the ETF, itself.  I had written that Price = Earnings per share Times X.

P/E Ratio
How do we determine a value for X?  Given the formula above, we can then restate it as X = Price divided by Earnings per share.  X is what is known as the Price to Earnings Ratio, or P/E Ratio (Price divided by Earnings).  I looked up each of the companies on the list, and determined what, historically, would, seem like a conservative P/E Ratio over the past number of years.  You can see my findings in the chart above.

Growth Rate
What we need to understand about the P/E Ratio is that it is directly correlated to the growth rate of the company.  The faster the company is growing, the more people are willing to pay to take advantage of that growth.  To a point.  I then compared my estimated P/E Ratio to the growth rate for each company.  The P/E Ratio should be anywhere from 1 to 2 times the company's growth rate.  What you see above are the adjusted numbers.  CF is the exception.  The historical growth rate for CF is greater than the P/E Ratio I am using, but I am more comfortable using the lower number in that case.

Target Price
The Earnings per share estimates I am using are the average consensus earnings for all the analysts who follow each company, which are closest to the end of the current year.  Multiplying the P/E Ratio by those Earnings numbers, we get a target price for each of the companies.

So, what price did I come up with for COW, for the end of the year?  I'll show you those calculations next time.  Still with me?  Questions?

September 2012 Returns

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September was not all that bad, this year, considering its history for being the worst month of the year.  It is a good illustration of how seasonality is based on probability, not certainty.  Having said that, I am still concerned about this market, particularly since we seem to be deviating from what I would consider to be normal seasonal patterns.  In itself, that wouldn't bother me so much, if it were not for the fact the major technical pattern called a head and shoulders, which I wrote about earlier this year, is still intact.  

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The momentum indicators I follow would indicate the market is heading lower.  If that turns out to be the case, the fact we did not make it above the previous high from last February is more bad news.  I would not be surprised to see the TSX drop below the 200-day moving average which is only some 150 points, or so, lower than the close of today's market.  We could get there in a single bad day!  

The returns shown above use the XIU ETF as a buy and sell signal.  The idea is to buy when XIU is above it's 200-day moving average, and sell when it is below.  Bad things can happen in the markets when they are below the 200-day moving average.  The real danger is, however, if we get down below the 11,000 mark.  A pattern such as this would indicate going back to the lows in the last Great Recession.  It will be interesting to watch - the markets normally finish the year stronger, but that was not the case is 2008, either.  If we do see these things begin to happen I will be looking for opportunities to short the market (using inverse ETF's) rather than looking for buying opportunities.

21 month return for TSX @ September 30, 2012 = -7.86 percent
Return for Basic Timing Model Using XIU =          11.97 percent
Return for Advanced Timing Model =                    -4.36 percent
Money for charity =                                            $0.00 

Are you expecting a year-end rally?

Buy Agriculture Now?

Yes, COW
I am not a financial professional, and cannot recommend equities for you to buy.  Having said that, I want to share my analysis with you.  I do this as a means of teaching others a (relatively) simple approach to arriving at price targets.  Why agriculture?  This is a seasonally strong period of the year for agriculture stocks.  Second, my calculations  indicate there is as much as a 24 percent upside to the Exchange Traded Fund (ETF) with the ticker symbol COW on the TSX as at Saturday, Sept. 22.  I will provide additional details of my calculations over the next few posts, but first, a little more about COW.

Diversification
iShares lists the top holdings in COW by weighting.  By adding the weightings, we can see the top 13 companies make up 81 percent of the fund.  These companies are headquartered in Canada, the U.S., Chile, Brazil, Japan, and Switzerland.  As in this case, ETF's give me the most diversification at the cheapest price.  I could go out and buy each of the 13 companies (or only the one's I like), but the cost of the commissions to do so quickly adds up.

Price
Prices of ETF's such as this one follow an index.  As such, there is no fund manager deciding which company to buy, and when.  iShares manages the fund so it reflects the holdings in the index it is tracking.  The price follows that of the index because institutional providers package up the stocks of companies in the index to sell to iShares when it is cheaper to do so, and buy them back again when they become cheaper than the stocks. As a result, the constant buying and selling of ETF units causes the price of the ETF to mirror the index of stocks.  Price is a function of earnings.  At any given point, we can show the price of a share of stock as being the amount of company earnings divided by the number of shares multiplied by some number.  In other words, Price = Earnings/Share Times X.  Calculate the future price based on future earnings for most of the companies in an ETF, and we can compute the target price of the ETF.

Technical Analysis
Technical Analysis only goes so far when it comes to individual stocks.  That is doubly true of stocks which have a limited trading volume.  A volatile market such as the one we find ourselves in currently compounds the problem even more.  A price of a widely held ETF of widely held stocks is much more predictable than a single company.  The fundamental analysis I am in the process of sharing with you shows me what to buy.  I then use technical analysis to determine when to buy what I have calculated as having a cheap valuation relative to the current price.

Questions?  Comments?


   

Don Vialoux On The TSX

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Don's research identifies the time period of Sept. 16 to Oct. 9 as a period of seasonal weakness.  He believes the technical indicators are now pointing to a correction.  This correction is, on average, 4.0 percent for the TSX index.  He expects markets to go higher after the U.S. election.  With the debate surrounding the fiscal cliff in the U.S., I expect volatility to be higher than usual, especially if trading volumes remain low.  I think they will get the job done to avoid the future tax increases from automatically kicking in, but it will come at a cost, further weakening people's faith in the system, and the markets.

Anyone have an opinion they wish to share?

Happy Birthday "Occupy"

Robert Johnson asserts that the system of money and politics in Washington is broken, and then they launch into a discussion about education being the real problem.  I am not saying there aren't problems in the education system in the U.S., but I think there is a state of denial which prevents them from seeing that the real issue is the hijacking of the political process by well-financed lobbyists.  While high unemployment may swell the ranks of the Occupy Movement, I sense it is the polarization of the rich looking out for the rich and the poor left to fend for themselves which is at the heart of the protest.  Being out of a job is one thing; losing faith in the ability of the system to bring a return to prosperity (except for the rich) is an entirely different (and more volatile) situation.

August 2012 Returns

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Seasonality at this time of year still favours Energy, Gold, Agriculture and Natural Gas. Natural Gas is the only sector not participating, possibly due to the run up in June and July. North American equity markets continue to trend higher.  My time horizon remains short as we enter into the worst seasonal period of the year based on historical trends.

I had made a choice not to play gold, even though seasonality favours it at this time of year.  First, I would rather invest in gold companies rather than bullion, and a big enough decline in the market causes everything to drop at the same time.  At such times, even gold offers little protection.  Second, I wasn't crazy about the idea of holding a more highly volatile ETF given the high market volatility.  I am now thinking that was the wrong decision, but take comfort in not, potentially, putting funds at risk.  I am all about risk vs. reward, although in this case I underestimated the reward potential  Still, a dollar saved is a dollar I can use later.
  
20 month return for TSX @ August 31, 2012 = -10.94 percent
Return for Basic Timing Model Using XIU =        9.59 percent
Return for Advanced Timing Model =                -4.36 percent
Money for charity =                                        $0.00

Comments? Suggestions?

September To Be "Nasty"?

If you are familiar with my blog, you probably know I advocate using the 200-day moving average as a buy/sell signal.  Bad things tend to happen when the market is below its 200-day moving average.  David Mcalvany compares today's markets to 1987 - low volume and high volatility.  The big drop in 1987 came just after the market had sunk below its 200-day moving average (in October).  Currently the markets are above their 200-day moving average, but I do not expect that to continue during September/October.  When that happens, it could be a good sign to take some money off the table, if you haven't done so, by that time.

What would it take for you to reduce your equity portfolio?