Charles Payne CEO

Charles Payne’s Common Sense Observations

Death be not proud, though some have called thee

Mighty and dreadful, for thou art not so,

For those whom thou think’st thou dost overthrow,

Die not, poor death, nor yet canst thou kill me,

From rest and sleep, which but thy pictures be,

Much pleasure, then from thee much more must flow,

And soonest our best men with thee do go,

Rest of their bones and soul’s delivery

John Donne

Is the economy evading the grim reaper or was the foregone conclusion and conventional wisdom about recession- or worse – just the kind of hype that is too easy to spread?  There is no doubt the backdrop was perfect for any kind of pessimistic talk as the nation has been in a funk since the US death toll in Iraq eclipsed 2,000.  But there is more to it than just general souring public opinion about the war.  In so many ways the nation has been a victim of its own success.  Record home ownership, the stock market rocketing off the post-Internet bubble-bursting lows and watching the rise of the rest of the world made for a witches brew that germinated the seed of doubt and angst which comes with success.  Be that as it may the overwhelming majority of economists have been calling for a recess with most saying the recession has already begun.  (By the way has anyone noticed how many of those economists that said the recession began during interviews last year are adjusting their timelines and saying it began this year or its right around the corner?)

We begin the month of May bracing for a wave of data that should finally prove the recession is here and that it’s a serious one-to boot.  The thing is a funny thing happened on the way to doing the tango with the grim reaper.  Maybe the nation dodged a recession.  Maybe the experts were wrong.  Make no mistake the economy slowed and the record run in monthly job gains came to a halt.  Business fortunes move in cycles and the last cycle was no different except that it lasted longer than normal.  So the month of May could be the moment (stretched out of course) of truth.  And, the truth is the economy has stumbled but that isn’t the same as saying it fell into recession and it sure isn’t the same as saying the economy is dead.  Death be not proud, yet these days so many people seem to be so embarrassed by inevitable economic slowdowns which is unfortunate.  Economic lulls aren’t fun but they have always provided the groundswell for amazing recoveries, they open the human imagination and they create opportunities.

 In the end it really doesn’t matter if there was or is a recession as much as it matters that people aren’t browbeaten into not seeing the opportunities for themselves and the nation.  Of course it’s painful to lose your home or watch a neighbor lose a home.  But if the nation spends too much time pointing fingers and wallowing then it is possible for a typical slowdown to become much worse.  Yet I’m not beginning to think that maybe I’m listening too much to the news and politicians.  Perhaps my concern about the psyche of my fellow man and disappointment with the deliberate attempts to make folks feel worse than they should has made led me to incorrect assumptions.  Maybe the plan isn’t working.  Maybe people are spending money.  Maybe people are enjoying their lives.  Maybe we’re going to be okay after all.  For sure it’s not an easy battle; one has to battle self doubt and man-made doubt as well. 

I was surprised by all the anecdotal evidence that the economy may be going downhill but it isn’t falling off a cliff.

The optimist proclaims that we live in the best of all possible worlds;

And the pessimist fears this is true

James Branch Cabell

The month of May sees the end of first quarter earnings reports and there were two that really stood out for me.  Believe it or not they weren’t the great numbers of the likes of Chevron (CVX) and big time surprises from the likes General Motors (GM) but results from a couple of companies you probably never heard of. 

Silverleaf Resorts (stock symbol SVLF)

The Dallas based company owns and operates timeshare resorts with country-club amenities like golf, clubhouses, swimming, tennis, and boating.  This is just the kind of business that should be dying in a recession.  Yet the company posted earnigs on May 1^st that came in well above the consensus estimates and sparked a revival in the share price that lifted the price 50% in just two sessions. To be fair the stock had declined from a high near $7.00 last year but the rebound was amazing considering nobody is supposed to have money for things like timeshares.

In the press release the company’s president made positive comments.

Sharon K. Brayfield, President, commented, “Our product remains well received despite the slowdown in the economy. The growth in net income for the quarter translates into a business that is fundamentally healthy. We will continue our focus on improving the credit quality of our sales while prudently managing our liquidity during these difficult times.”

The company’s vacation interval sales increased 22% and net income 13.4% year over year.

Town Sports International (CLUB)

The company operates a string of health clubs across the country primarily in the northeast.  If it is true that folks have no money after pumping gas then where did they get all money to pump weights.  Heck this earnings report belies two mega-myths: the nation has succumbed to a sinkhole and Americans aren’t concerned with their health.  The company posted earnings of $0.18 for the quarter which bested the street by $0.03 and also announced a $25.0 million share buy back program.  Revenues were up 9% while personal training revenue climbed 15.9%.  EBITDA increased by 13.6%, too, and same club sales increased 4.5%.    Just like Silverleaf (SLVF) the company’s share price has been hammered over the past year but was able to rebound by more than 50%.

Comments from the press release:

Alex Alimanestianu, Chief Executive Officer of TSI, commented: “We are very pleased with our first quarter performance as the key metrics that drive our business continue to be positive. We are particularly pleased with our comparable club revenue growth, attrition rate, and new club performance. Our portfolio of new clubs continues to demonstrate strong performance and we expect these clubs to achieve internal rates of return of 20%. Looking ahead, we are reaffirming the outlook for 2008, as we believe that our core customer base in major northeastern metropolitan areas will remain committed to their health and fitness goals despite any additional economic strains that may arise.

For some folks these two examples represent anomalies (of course two or more anomalies belie the notion something is rare) but for me they represent the beauty of free markets and the ability of businesses to adjust and not only survive but also thrive.  Moreover, these examples tell me that the economy isn’t falling off a cliff even with soaring gas prices and soaring negative opinion.  It’s a challenging period to be sure but we’ve seen this movie before and if the script is followed it will actually mean the economy will rebound and in the process the system will get better and smarter.

Economic Data

The last week of April, first few days of May were nail biters.  It was clear the market wanted to move higher and it was also clear anxiety was rising and investors, while sensing renewed opportunities, were also spying the exits.  There were a lot of minor positive surprises but the one that sent the market higher was the latest reading on personal income and spending.  To be sure this report was released the day after the conclusion of the FOMC, which saw the Fed cut rates by only 25 basis points and attempt to telegraph to investors that its work is done- for now.  Of course if the economy is slowing down the epicenter for decline would have to be the consumer.  With that in mind there was greater than average anticipation.  As it turns out the results were better than expected.  The pace of personal income did decline month over month to an increase of 0.3 from 0.5 but spending leaped 0.4 from 0.1 and the PCE edged higher to 0.2 from 0.1. Essentially the report painted a picture of an economy that’s moving sideways but moving nonetheless.

For sure the results were not consistent with the kind of news that one would expect in a recession. 

Jobs Report

The official consensus was for a loss of 75,000 jobs in the month of April but the whisper numbers were twice that amount, so when the actual number was only a loss of 20,000, the street wasn’t sure how to react.  The knee jerk reaction in the equity futures market was the Dow climbing slightly north of 100 points.  Yet that move didn’t feel right and sure enough after the open stocks were higher but not to the degree one would have assumed.  In fact the session was a struggle in part because gold and oil were higher, which is diametrically opposite to what should have happened considering the dollar is going to get stronger, right?  Still the news itself was fantastic.  Sure, jobs were lost and we never want to get used to that happening but the amount of jobs lost was encouraging as is the fact the unemployment rate dipped to 5.0%.  Construction and manufacturing were hammered.

By the way more than a few expert economist and market watchers felt the -20,000 number is bogus and anticipate a gigantic upward revision.  Many point to the fact that the financial sector didn’t reflect the kind of job losses expected in light of the disaster of Wall Street.  That skepticism was a dark cloud over the entire session.  The day before the jobs data was released investors got a glimpse of the latest initial jobless claims.  In the previous week there was a major positive surprise and many (including me) were hoping lightening would strike twice. Well the skies were cloudy but only because initial jobless claims increased, again.  There was a silver lining.  During recessions initial jobless claims routinely come in north of 400,000 and that’s only happen in one week this year.  The increase last week is enough to continue to make this an influence data point, in the past this number came and went with anonymity. 

Oil Market & Gasoline

“Oil that is, black gold, Texas tea…”

Earl Scruggs and Lester Flatt

Those lyrics from one of my all-time favorite television shows, “The Beverly Hillbillies”, could have added descriptive “economic cyanide” tossed in these days.  That’s the way crude oil is being portrayed these days as the ultimate economy killer.  Yet the reality is the price of crude and gasoline is a reflection of success.  Obviously there is a point where high input cost lead to diminishing returns.  But just think about this the only way we are going to see gas at the pumps under $2.00 a gallon is if our economy and the world’s economies run aground.  Because the topic is so explosive nobody has the nerve to say: “Hey, high gas prices are good news”.  There are some environmentalists that say high prices are good as a deterrent but I say they’re good in the sense that we can afford them.  Some folks are in pain to be sure but if the nation couldn’t afford gas there would be a drastic decline in demand.

What most people don’t realize is the fate of the stocks market has been tied to the fate of the stock market.  Not, as one would imagine, in fact totally contradictory to common perception. One of the most fascinating things about the oil price breakout, which began with crude reaching a nadir in 2002, is that corporate profits and the stock market have also gone on a similar move higher.  So the correct correlation is that higher gas prices reflect of prosperity not the headwind so many fears.  Interestingly, when gasoline prices and were declining at the start of the decade, so too, was the stock market.

This brings me to my greatest fear.  Attacking oil companies because they make too much money is all the rage in the media and politics.  In a capitalistic society this is preposterous.  The notion a company or industry should be punished for making money for its shareholders in a fair business environment should scare everyone.  I wonder if every person that believes oil companies should be punished would be willing to decline the next raise offered to them at work or to take a pay cut for the greater good of the companies they work for or society at large.  Where do the earnings cut off come for any company competing in a global market?  Most proponents of attacking oil companies use the word: “fair”.  Yet they ignore the fact that these aren’t the most profitable companies with respect profit margins.  In fact oil companies are far from the most profitable publicly traded companies. 

Exxon Mobile (XOM) isn’t an empty building with a handful of fat cats sitting around smoking cigars.  It’s a company made up of over 82,000 employees, people with mortgages, people that want to send their children to college, people that buy goods and services.  In the first quarter Exxon Mobile posted earnings that were disappointment on Wall Street in part because the company had to pay 49% in taxes on profits.  That is shocking and sad.  In the meantime Google, the cool company, enjoyed net profit margins of 25% in part because the company only had to pay taxes of less than 24%. 

By the way another thing that is really alarming in addition to being unfair with respect to attack the oil companies is that the rest of the world is embracing capitalism just as America is embracing a form of socialism.  The notion that Exxon controls the price of gas is farfetched and unfounded. There is demand, which is growing by leaps and bounds around the world (you know, those companies that are embracing capitalism) and there are taxes (G7 nations made $460.0 billion annually from tax while OPEC made $410.0 billion in revenue) and there is also speculation.  More than anything else is the fact that Exxon Mobile isn’t the 800 pound gorilla that many people believe it is.   

In terms of oil equivalent reserves Exxon Mobile ranks 17 in the world, well behind government controlled entities, including: National Iranian Oil Co, Saudi Arabian Oil Co, Iraq national Oil Co, Qatar General Petroleum Corp, Abu Dhabi National Oil Co, Kuwait Petroleum Corp, Petroleos Venezulea SA, Nigerian National Petroleum Corp, National Oil Co, Sonatrach, Gazprom, PetroChina Co, OAO Rosneft, Petronas, OAO Lukoil, Petroleos Mexicanos, then Exxon Mobile.

I think Americans need to think twice about tearing down our largest business and most successful people.  I think it’s unfair that people that create jobs should be vilified by people that simply draw paychecks but have never created opportunities.  This is a scary time.  Fairness works in so many ways and it’s dangerous for jealousy and envy to get its hooks into capitalism. 

By the way Americans are using gasoline and the price will probably go higher even if the Department of Energy is correct and demand over the so-called summer driving season declines from the year ago period for the first time in two decades.  Crude oil inventories have been building but gas inventories are decreasing rapidly.

Technical View

The S&P 500 broke out through its 200-day moving average.  This is the biggest news coming into May and the only thing lacking at this time is volume.  I don’t say that in a flippant manner, it is the only thing that makes the takes away the credibility of this rally, but it’s a mistake not to pay attention.  

Long Ideas

Ariba Networks (stock symbol ARBA) Closed $11.80 our 12 month target is $16.00. 

The company supplies an Internet scalable network that provides infrastructure that connects buyers with sellers.  This business model was all the rage in the late 1990s and while it didn’t live up to the hype we believe the initial enthusiasm was valid, the rally in the stocks wasn’t.  This stock has been gaining traction of late but is still a million miles below levels it changed hands back in 2000.  We believe the company will post earnings that beat the consensus for this fiscal year and we think the street will begin to ratchet up expectations.