Stock Markets remain 'queasy'

Correction will coincide with six-month seasonal downswing

We're still tiptoeing through queasy stock markets. So, don't rest easy just yet.

A correction of some sort is under way - one that neatly coincides with the start of the markets' seasonal six months of underperformance, otherwise known as "sell in May and go away."

But some industry sectors are rallying, while some indicators suggest there's too much bearishness.

Bullish investors get powerful support from Sam Eisenstadt, retired research guru of Value Line Investment Survey in New York.

Mr. Eisenstadt figures the world's key index of stock prices, Standard & Poor's 500 Composite, will rise to 2,100 by September. Lately it has plunged to around 1,620-1,640.

Mr. Eisenstadt is a man worth heeding, given that for decades, Value Line's forecasts were often right on the money.

In the meantime, real estate stocks have rallied, led by real estate investment trusts, while utilities have suddenly come to life.

Keep in mind, though, that these are defensive stocks which investors buy when the market becomes uncertain.

South of the border, America's health-care sector continues to attract the so-called smart money, such as hedge funds, while airline stocks continue to gain altitude.

There's also life in the energy sector in both Canada and the U.S., although the industry has yet to signal a clear upside breakout.

Nonetheless, up here in the Great White North, small-cap gas plays are among the strongest stocks in the market.

By contrast, the long bull market in both biotech and high tech is now pawing the ground.

In addition, in the U.S., the shares of most retailers are struggling to keep up with the bulls, despite rising levels of consumer confidence, as well as a lift in consumer spending in March.

Underlying the rising tide of stock prices that began early in 2009 is the easy-money policy of the U.S. Federal Reserve Board.

The Fed's policy, known as quantitative easing, is being copied in Europe, reviving optimism in the European economy, as well as on European stock exchanges.

By distorting normal market functions, the Fed's policy has benefited U.S. banks, along with the U.S. investment industry.

Indeed, American industrial output has not only been slowly rising, but may be gaining speed.

In the interim, in both the U.S. and elsewhere, business plans to invest more this year.

So says Tom Stevenson, a money manager with Fidelity Personal Investing in London. Indeed, his analysts report decided optimism from the companies they monitor.

Still, stocks may first have to go through a couple of rough quarters - a logical assumption, given the market's usual underperformance through the summer.

So, if you're thinking of buying, you should think big, choosing large caps. After all, in a storm, you'd like to be on a big ship.

Investors down on Wall Street are obviously thinking this way, given that the big caps have been rising against the tide.

In fact, Investors Intelligence of New Rochelle, N.Y. has identified gainers among the 40 largest stocks traded on the Big Board.

Those stocks include IBM Corp. (IBM-NYSE, $197.02), Wal-Mart Stores Inc. (WMT-NYSE $76.88) and Microsoft Corp. (MSFT-NASDAQ $39.75).

All three pay dividends that should be regarded as secure, thanks to their size and balance sheet strength. Microsoft yields 2.9 per cent; Wal-Mart, 2.5 per cent and IBM, 1.9 per cent.

In addition, the three trade at relatively low price-to-earnings earnings multiples: 13 for both IBM and Wal-Mart, 15 for Microsoft.

By contrast, the S&P 500 Composite now trades at 18 times earnings.

Meanwhile, the shares of some of the big pharmaceutical plays are going up as well.

For example, Eli Lily & Co. (LLY-NYSE $59.42), whose P/E is 14, boasts a 3.4 per cent yield, while Johnson & Johnson (JNJ-NYSE $99.20), now trading at 21 times earnings, clocks in at 2.7 per cent.

For long-term growth, consider such big international oil plays as Exxon Mobil Corp. (XOM-NYSE $97.86) and Chevron Corp. (CVX-NYSE $120.30). Both continue to make gains.

Both companies also boast good numbers. For example, Exxon, with a 2.6 per cent yield, now trades at 13 times earnings, while Chevron, with a yield of 3.4 per cent, sports a P/E of just 11.

Not only is Chevron's dividend yield one of its best ever, says Quality Trends of Carlsbad, Calif., but the oil and gas giant itself is likely to be a superior market performer over the next five years.

In the interim, Exxon Mobil, along with Microsoft and Johnson & Johnson can take heart in their superior credit reputations.

With triple A credit ratings from Standard & Poor's, all three companies are now better investment bets than the U.S. government!

What about utilities? Well, in a trend that firmed up over the past two or three months, utility companies in both the U.S. and Canada are beating the market.

Of course, for sheer financial heft, Canadian utilities can't match their American counterparts.

But the Canadian outfits do offer dependable dividends. Among Canadian plays, consider Canadian Utilities Ltd. (CU.X-TSX $41.13), an early leader in the rally. Other good names are Fortis Inc. (FTS-TSX $32.16) and Capital Power Corp. (CPX-TSX $25.70).

Be cautious, though, with companies such as Just Energy Group Inc. (JE-TSX $8.64) and Superior Plus Corp. (SPB-TSX $13.66).

Although Just Energy's dividend yields 9.7 per cent, such a high number signifies significant risk.

By contrast, Superior Plus yields an appealing 4.4 per cent, although its shares now trade at 30 times earnings - a number that also betokens higher risk.

Sector edges higher

In the meantime, on both Wall Street and Bay Street, the energy sector continues to edge higher.

In Canada, five exploration and production mining stocks have been rising firmly. They've also been among the leaders. And their recent market action projects higher prices.

Sequence Energy Ltd. (CQE-TSX-$2.87), with a market cap of $600 million, is pulling up from a low; crossing above $4.50 a share would be an upside breakout.

Crocotta Energy Inc. (CTA-TSX $3.61) has risen so strongly that one technical indication is a rise to $8. Its market cap is $350 million.

Delphi Energy Corp. (DEE-TSX $3.10) sports a trading pattern than suggests a price near $7 a share. Its market cap is $480 million.

Perpetual Energy Inc. (PMT-TSX $1.77), which took two years to build a price base, appears headed toward its 2007-'08 low of $3.50 a share. This level will now offer upside resistance. Its market cap stands at $260 million.

Painted Pony Petroleum Ltd. (PPY-TSX $11.38), a big gainer from 2009 to 2011, has risen from a recent low of $6.50 a share.

But at the rate it's been going, one analysis suggests the share price could double. Painted Pony's market cap is $1 billion.

Now, let's once again take a look at gold and gold markets. Someone once joked that somebody else's mistake is unforgivable.

Well, I'm somebody else. And perhaps my failure to detect the collapse of gold prices a year ago was unforgivable.

It was another case of the investor's worst enemy - emotion - getting in the way of cool appraisal of a situation.

For a while this year it seemed that gold prices had bottomed out. But I'm beginning to doubt this. Gold prices have failed to respond to the crisis in the Ukraine. And the gold rally itself has stalled.

In the meantime, China continues to buy gold to build its currency reserve, without moving the price up.

There's another troubling indication, as evidenced by shares of Franco-Nevada Corp. (FNV-TSX, $51).

Franco-Nevada is the biggest gold royalty company, one founded by investor and money manager Seymour Schulich, who coincidentally also founded Investor's Digest.

In 2012, Franco-Nevada topped out twice at $59, dropped back to $33 last year, only to top out twice again at $59 in both February and March of 2014.

To technical analysts, this is a double top - more ominously, a negative signal that rises in importance with the time elapsed between the tops.

A year interval between tops is significant. Dropping to $40, Franco-Nevada might find support, though $33 is a more likely stopping point.

If gold falls below its July and December lows near US$1,200 an ounce, gold producers are going to face an even rougher year. Still, Franco-Nevada's stock action suggests such an outcome.

This will mean more mergers, as well as takeovers of those exploration and development companies that are short of cash.

Raising cash will become even tougher, even with Franco-Nevada and other royalty companies offering financing in exchange for production royalties.

This will also mean the stock market will ignore significant exploration discoveries, such as that made earlier this year by century-old Moneta Porcupine Mines Inc. (ME-TSX, $0.11) near Timmins, Ont.

News of the discovery lifted Moneta to $0.18 a share, before the nervous trend sent the stock back down.

As a resource industry, gold mining is a price-taker, not a price-setter. Gold mines are at the mercy of market forces in the near future, unless a major country miraculously sets a fixed price at which it will buy or sell.

The U.S.? Doubtful. China, perhaps. In the long run, inflation created by U.S. and European money-printing will lift gold out of its slump.

- by Carlyle Dunbar, a former editor of the Digest, is a long-time observer of the markets. He lives in Oakville, Ont.