As the bull market passed its ninth birthday in March, it became the longest and greatest in terms of percentage gains for the Dow Jones Industrial Average since World War II, according the Leuthold Group.
It’s also the second-longest and second-largest bull run for the S&P 500 Index, with only the 1990s technology bubble beating it. Since business cycles end and bull markets turn into bears, where do we stand now? Is there more room to grow?
“I think the Dow is going to 30,000 in the next 18 months,” said Jon Ball, chief investment officer of the Intrinsic Asset Fund, a West Palm Beach, Fla., hedge fund. “What drives the market is earnings, and corporate earnings are growing. And as earnings go up the market will follow. Wall Street projects the economy will grow 4% in the second quarter. ”
Last year, the Intrinsic Asset Fund posted a return of 25.6% compared to the 21.8% return of the S&P 500 Index. The Barclay Hedge Fund Index posted a return of 10.4%. Through May 31, the fund is up 6.8% vs. the S&P’s 2% return, and the Barclay Hedge Fund Index’s 1.26% rise.
Ball said a lot of earnings growth is because of cloud computing and artificial intelligence. He said it shows no signs of abating and will continue growing at a double-digit rate for the next five years, which should benefit companies like Apple and Microsoft.
The hedge fund’s growth strategy follows the philosophy of William O’Neil, founder of the Investor’s Business Daily newspaper. O’Neil also authored many books on investing, including How to Make Money in Stocks, in which he first outlined his CAN SLIM investment strategy.
The seven themes of CAN SLIM:
- Current accelerating quarterly earnings.
- Annual earnings increase.
- New services/products, new management, new highs off of properly formed chart bases.
- Supply and demand of the float. The less stock that is available, the more that buying will drive up the price
- Leaders and Laggards – relative strength ratings.
- Institutional Ownership.
- Market Direction, how to determine it using a trailing indicator.
Ball first uses fundamental analysis to find companies with either a new product, new management, new service, or new way of doing something. Out of that group he looks for companies with a return on equity (ROE) greater than 10%.
Depending on the industry it might be higher. For instance, financials, such as MasterCard, which the fund holds, has a ROE of 88%. Visa has a return on equity of 25% He also looks for earnings increases of 20% or higher and wants cash flow running higher than earnings per share.
After fundamental analysis, he decides if a company can trade at a higher valuation. He looks at the stock chart to examine its trading history, then looks for specific technical break-out patterns to determine buy and sell signals. His favorite is one of O’Neil’s favorites, the cup-and-handle. After the stock trades above all prior resistance it becomes a technical buy.
“Typically they break out and run up a minimum of 25% in an eight- to 12-week period,” he said.
Ball likes Microsoft, the world’s largest independent maker of software, because its chief executive officer, Satya Nadella, is one of the most dynamic executives in the world today. The Seattle company’s hardware products include the Xbox video game console and the Surface tablet. Last year, intelligent cloud made up 28% of the company’s sales. The rest of the revenue breakdown was personal computing at 40%, productivity and business processes at 32% and research and development at 13.5%, according to The Value Line Investment Survey.
“Everyone is moving to the cloud and the company is getting data analysis that wasn’t previously available,” said Ball. “As that happens, revenues keep going up by double-digits every year. And as technology becomes more of the fabric of society, the need for more cloud computing becomes apparent and Microsoft is in a sweet spot to capitalize on it.”
According to Value Line, Microsoft’s Azure cloud computing business is growing by double-digits and it trajectory is up 98%. In the March quarter, Azure grew 93%, twice as fast as Amazon Web Services
Microsoft’s stock climbed 40% over the past year to $101. “I think it could easily get up to $130 in the next 18 months,” said Ball
Apple is a cash flow story because of the halo ecosystem effect, said Ball.
When consumers buy one product, they’re more likely to buy additional products in the Apple universe, so that it all connects. Then they use the iTunes store. The whole ecosystem is a cash cow.
In 2013, the iTunes Store had 575 million active user accounts serving 315 million mobile devices, according to Apple. Last year, that number more than doubled to 1.2 billion, according to Value Line. Now there’s a lot of momentum with Apple Pay and iCloud storage. The average amount spent on the iTunes stores was $58 a year last year, according to TechCrunch. Currently, the Cupertino, CA., technology giant has $267 billion in cash and marketable securities.