Originally published by Anderson Griggs Investments on February 4th, 2013.

We believe that predicting short term swings in the market is an exercise in humility.  Longer-term market predictions have value, but they should be based on a form of valuation methodology of the underlying securities that make up the market of choice.  A consideration of the current mood of the market participants should also be included in that short term prices are driven by emotions.  

We don’t believe there are scientific factors which can be isolated and replicated to provide insight into short-term market predictions.  However, we do know that over longer periods of time, the price of a security (or the total market value of all the securities in a market) will approximate the underlying capital retained and available for earning future income for its owners.  This may not make much sense, so I’ll illustrate with an example. Wal-Mart is the world’s largest retailer.  Most of us know the story of Sam Walton and his creation, beginning with just a single Wal-Mart store in 1962.  In 1970, the company issued stock for the first time and raised $3,400,000.  If the market never recognized the value of capital growth over time, then Wal-Mart would only be valued for $3,400,000 instead of the $212 billion that it is today.

With that example in mind, it may be easier to understand that our approach in predicting market returns is based primarily on the analysis of current capital and the return potential of that capital, with a tentative prediction of the current mood of investors added on top.   

The tables in Appendix A and B may look confusing to you, but it gives us a basis for a projection of both the level of the market five years into the future, as well as expected returns in the form of dividends and growth of capital over time.  Beware of taking this at face value, however. Our methods are based on a mathematical model which does not take into consideration human emotions, the primary driver of short-term market prices, both at the market level and at the individual stock level.  These valuations will not mirror others because our calculation methods are based on a proprietary weighting method.  The tables do not factor in any changes yet to occur which may affect prices or emotions. 

Given these caveats our projections would indicate the following:

Our calculated return potential (Compounded Annual Growth Rate) for holding the S&P 500, S&P 400 and S&P 600 including dividends, ending five years from January 31, 2012 are:

S&P 500:  11.76%     S&P 400:  8.36%     S&P 600: 7.34%

Given the estimated returns as calculated, we are overweighting larger companies.

We update our projections weekly.  We not only complete this work for the S&P 500, S&P 400 and the S&P 600, but we also calculate an estimated return potential for each major industry sector.  The constituents of each sector are companies that are currently included in the S&P 500 and whose industry is assigned by Standard & Poor’s.

 

Our calculated return potential (Compounded Annual Growth Rate) of each sector, ending five years from 01-31-2011 are:

Consumer Discretion:                8.14%                            Industrials:             9.55%

Consumer Staples:                   10.68%                            Materials:             10.86%

Energy:                                        3.86%                            Technology:          13.05%

Financials:                                   9.36%                            Utilities:                13.30%

Health Care:                               13.85%

 

It is time consuming and takes both Justin and I together a full day simply to run the quantitative models.  But what is more important to you is that these models are used as a guide in the overall direction of your portfolio.  We use these numbers to compare one alternative to all other alternatives, and this is the real value of the work.  Every day the market offers us a choice of where we can invest.  By producing a quantitative study based on sound theory, a choice as to where to deploy our funds can be made on an apples-to-apples comparison.

What About Emotions?

Emotions are and will continue to be the drivers of short-term demand for stocks and bonds.  At the individual stock level, we believe we can isolate certain human traits which drive this demand.  However, at the broader market levels, we believe that the method to judge emotions is more intuitive than quantitative.  In other words, it pays to be somewhat of a contrarian and to try not to become a member of the Buy High/Sell Low Club.  History of markets can be a helpful guide to understanding the emotions that have driven previous investor buying decisions after major market declines.
 

Worst Periods of Market Declines in the Dow Jones Industrial Averages		Within 1 year	Within 3 Years	Within 5 Years
Sep. 1929 – Jul 1932	-89.5%	+172.2%	+212.8%	+381.8%
Mar. 1937 – Mar. 1938	-50.2%	+63.0%	+42.4%	+40.7%
Jan. 1973 – Dec. 1974	-46.6%	+56.0%	+80.0%	+59.3%
Sep. 1939 – Apr. 1942	-41.3%	+48.3%	+78.8%	+130.2%
Aug. 1987 – Oct. 1987	-41.2%	+35.8%	+87.1%	+112.5%
Jan. 2000 – Oct. 2002	-38.8%	+36.9%	+52.6%	+97.3%
Dec. 1968 – May 1970	-36.9%	+52.7%	+70.1%	+38.4%
Nov. 1961 – Jun. 1962	-29.2%	+39.7%	+80.1%	+90.8%
Sep. 1976 – Feb. 1978	-27.7%	+22.3%	+36.5%	+53.0%
Feb. 1966 – Oct. 1966	-26.5%	+29.4%	+35.2%	+30.2%
Oct. 2007 – March 2009	-56.78%	+61.36	+98.6*	?
Average	-44.06%	+56.15	+79.5	+103.4

 Courtesy of Zacks Research and DTN.IQ             *From March 6, 2009 through January 31, 2012

 

Since the March 2009 lows, the S&P 500 has gained 98% excluding dividends.  This three year recovery has been exceeded only once before in 1932-1933.  Does this mean that future advances are less likely to happen?  Not necessarily.  In fact, the gains over over the last three years took place without the benefit of individual investors.  We believe it is very possible that individuals will once again embrace the benefits of common stock ownership and drive the averages higher.  To reinforce this, the market’s recovery in the 1930s lasted until 1937.   Following the 25% decline in October 1987, the market entered one of the greatest bull markets in history, lasting thirteen years.  And as the above history shows, markets continued to produce solid returns for at least five years after a severe market decline.

Even though market averages have increased rapidly since the March 2009 low, corporate profits have kept pace raising the potential return over the next five years slightly above the average returns that US stock markets have experienced throughout history.

For most individual investors, the primary question is how much of my investable funds should I expose to common stocks (or some other form of equity ownership) versus lending my funds and being paid an interest payment for their use?  The Treasury yield curve is a helpful guide.

Daily Treasury Yield Curve Rates as provided by the U.S. Treasury on 01-31-2011

Maturity	1 mo	3 mo	6 mo	1 yr	2 yr	3 yr	5 yr	7 yr	10 yr	20 yr	30 yr
YTM	0.04	0.06	0.08	0.13	0.22	0.30	0.71	1.24	1.83	2.59	2.94

 

Given our quantitative work combined with history and the current level of interest rates, it would seem logical to maintain a commitment to common stocks.  For those of you who are number crunchers and would like to speak with us in more detail about our quantitative work, by all means, give us a call.

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Appendix A: 

S&P 500 – S&P 400 – S&P 600

1-31-2012 Anderson Griggs Investments

 

 

S&P 500

 

S&P 500 5-Year Estimated Earnings, Dividends and Projected Returns as of 1-31-2012

 

Current Est.	BV = $27.93	P/B = 3.36	P = $93.72	BVG = 11.47	ROE = 21.59
Year Ending	1-31-2013	1-31-2014	1-31-2015	1-31-2016	1-31-2017
EEPS	$6.72	$7.49	$8.35	$9.31	$10.38
EBV	$31.13	$34.70	$38.68	$43.12	$48.07
Prj %	7.17%	7.99%	8.91%	9.93%	11.07%
Div	2.2%	2.45%	2.73%	3.04%	3.39%
Prj% +_Div	9.37%	10.44%	11.64%	12.97%	14.46%

BV = Book Value  P/B = Price to Book  P = Current Price  BVG = Book Value Growth

ROE = Return on Equity  EEPS = Est. Earnings Per Share EBV = Est. Book Value

Prj% = Projected return as %  Div = Dividend Yield

Expected five year compounded return with dividends from 1-31-2012:  11.76%

S&P 500 Index level ending 1-31-2012:  1312.41                                                           

S&P 500 Projected Index level ending five years from 1-31-2012:  2019.79                                  

S&P 400

 

S&P 400 5-Year Estimated Earnings, Dividends and Projected Returns as of 1-31-2012

 

Current Est.	BV = $20.70	P/B = 3.04	P = $62.93	BVG = 10.25	ROE = 14.67
Year Ending	1-31-2013	1-31-2014	1-31-2015	1-31-2016	1-31-2017
EEPS	$3.35	$3.69	$4.07	$4.49	$4.95
EBV	$22.82	$25.16	$27.74	$30.58	$33.71
Prj %	5.32%	5.87%	6.47%	7.13%	7.86%
Div	1.50%	1.65%	1.82%	2.01%	2.22%
Prj% +_Div	6.82%	7.52%	8.29%	9.14%	10.08%

BV = Book Value  P/B = Price to Book  P = Current Price  BVG = Book Value Growth

ROE = Return on Equity  EEPS = Est. Earnings Per Share EBV = Est. Book Value

Prj% = Projected return as %  Div = Dividend Yield

Expected five year compounded return with dividends from 1-31-2012:  8.36%                          

S&P 400 Index level ending 1-31-2012:  936.51                                                                           

S&P 400 Projected Index level ending five years from 1-31-2012:  1284.68

                                                       

 

 

S&P 600

 

S&P 600 5-Year Estimated Earnings, Dividends and Projected Returns as of 1-31-2012

 

Current Est.	BV= $15.55	P/B = 2.57	P = $40.02	BVG = 8.63	ROE = 11.80
Year Ending	1-31-2013	1-31-2014	1-31-2015	1-31-2016	1-31-2017
EEPS	$1.99	$2.16	$2.35	$2.55	$2.77
EBV	$16.89	$18.35	$19.93	$21.65	$23.52
Prj %	4.98%	5.41%	5.88%	6.39%	6.94%
Div	1.20%	1.30%	1.41%	1.53%	1.66%
Prj% +_Div	6.18%	6.71%	7.29%	7.92%	8.60%

BV = Book Value  P/B = Price to Book  P = Current Price  BVG = Book Value Growth

ROE = Return on Equity  EEPS = Est. Earnings Per Share EBV = Est. Book Value

Prj% = Projected return as %  Div = Dividend Yield

Expected five year compounded return with dividends from 1-31-2012:  7.34%

S&P 600 Index level ending 1-31-2012:  442.12                                                                           

S&P 600 Projected Index level ending five years from 1-31-2012: 589.36

*Must be presented with Executive Summary that includes philosophy and methodology dated 1-31-12.

 

 

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Appendix B:  Sectors

1-31-2011 Anderson Griggs Investments

 

Consumer Discretionary

 

CD Sector 5-Year Estimated Earnings, Dividends and Projected Returns as of 1-31-2012

 

Current Est.	BV = $15.49	P/B = 4.72	P = $73.13	BVG = 11.80	ROE = 20.01
Year Ending	1-31-2013	1-31-2014	1-31-2015	1-31-2016	1-31-2017
EEPS	$3.47	$3.88	$4.34	$4.85	$5.42
EBV	$17.32	$19.36	$21.64	$24.19	$27.04
Prj %	4.74%	5.30%	5.93%	6.63%	7.41%
Div	1.70%	1.90%	2.12%	2.37%	2.65%
Prj% +_Div	6.44%	7.20%	8.05%	9.00%	10.06%

BV = Book Value  P/B = Price to Book  P = Current Price  BVG = Book Value Growth

ROE = Return on Equity  EEPS = Est. Earnings Per Share EBV = Est. Book Value

Prj% = Projected return as %  Div = Dividend Yield

An investor’s expected five year compounded return with dividends from 1-31-2012:  8.14%

Consumer Staples

 

CS Sector 5-Year Estimated Earnings, Dividends and Projected Returns as of 1-31-2012

 

Current Est.	BV = $14.45	P/B = 3.35	P = $48.40	BVG = 6.06	ROE = 20.42
Year Ending	1-31-2013	1-31-2014	1-31-2015	1-31-2016	1-31-2017
EEPS	$3.13	$3.32	$3.52	$3.73	$3.96
EBV	$15.32	$16.25	$17.23	$18.27	$19.38
Prj %	6.47%	6.86%	7.28%	7.72%	8.19%
Div	3.00%	3.18%	3.37%	3.57%	3.79%
Prj% +_Div	9.47%	10.04%	10.65%	11.29%	11.98%

BV = Book Value  P/B = Price to Book  P = Current Price  BVG = Book Value Growth

ROE = Return on Equity  EEPS = Est. Earnings Per Share EBV = Est. Book Value

Prj% = Projected return as %  Div = Dividend Yield

An investor’s expected five year compounded return with dividends from 1-31-2012:  10.68%                        

Energy

 

EN Sector 5-Year Estimated Earnings, Dividends and Projected Returns as of 1-31-2012

 

Current Est.	BV = $33.33	P/B = 2.22	P = $73.86	BVG = 12.20	ROE = 17.57
Year Ending	1-31-2013	1-31-2014	1-31-2015	1-31-2016	1-31-2017
EEPS	$6.57	$7.37	$8.27	$9.28	$10.41
EBV	$37.39	$41.95	$47.07	$52.81	$59.25
Prj %	8.89%	9.97%	11.19%	12.56%	14.09%
Div	2.00%	2.24%	2.51%	2.82%	3.16%
Prj% +_Div	10.89%	12.21%	13.70%	15.38%	17.25%

BV = Book Value  P/B = Price to Book  P = Current Price  BVG = Book Value Growth

ROE = Return on Equity  EEPS = Est. Earnings Per Share EBV = Est. Book Value

Prj% = Projected return as %  Div = Dividend Yield

An investor’s expected five year compounded return with dividends from 1-31-2012:  13.86%                        

 

 

Financial

 

FI Sector 5-Year Estimated Earnings, Dividends and Projected Returns as of 1-31-2012

 

Current Est.	BV = $42.85	P/B = 1.53	P = $65.37	BVG = 4.61	ROE = 9.83
Year Ending	1-31-2013	1-31-2014	1-31-2015	1-31-2016	1-31-2017
EEPS	$4.41	$4.61	$4.82	$5.04	$5.27
EBV	$44.83	$46.90	$49.06	$51.32	$53.69
Prj %	6.74%	7.05%	7.38%	7.72%	8.08%
Div	1.80%	1.88%	1.97%	2.06%	2.15%
Prj% +_Div	8.54%	8.93%	9.35%	9.78%	10.23%

BV = Book Value  P/B = Price to Book  P = Current Price  BVG = Book Value Growth

ROE = Return on Equity  EEPS = Est. Earnings Per Share EBV = Est. Book Value

Prj% = Projected return as %  Div = Dividend Yield

An investor’s expected five year compounded return with dividends from 1-31-2012:  9.36%                          

 

Health Care

 

HC Sector 5-Year Estimated Earnings, Dividends and Projected Returns as of 1-31-2012

 

Current Est.	BV = $18.56	P/B = 3.22	P = $59.80	BVG = 13.44	ROE = 23.60
Year Ending	1-31-2013	1-31-2014	1-31-2015	1-31-2016	1-31-2017
EEPS	$4.97	$5.64	$6.40	$7.26	$8.24
EBV	$21.06	$23.89	$27.10	$30.74	$34.87
Prj %	8.31%	9.43%	10.70%	12.14%	13.77%
Div	2.30%	2.61%	2.96%	3.36%	3.81%
Prj% +_Div	10.61%	12.04%	13.66%	15.50%	17.58%

BV = Book Value  P/B = Price to Book  P = Current Price  BVG = Book Value Growth

ROE = Return on Equity  EEPS = Est. Earnings Per Share EBV = Est. Book Value

Prj% = Projected return as %  Div = Dividend Yield

An investor’s expected five year compounded return with dividends from 1-31-2012:  13.85%          

 

Industrials

IN Sector 5-Year Estimated Earnings, Dividends and Projected Returns as of 1-31-2012

 

Current Est.	BV = $20.07	P/B = 4.12	P = $82.74	BVG = 9.31	ROE = 20.88
Year Ending	1-31-2013	1-31-2014	1-31-2015	1-31-2016	1-312017
EEPS	$4.58	$5.01	$5.48	$5.99	$6.55
EBV	$21.93	$23.97	$26.20	$28.64	$31.31
Prj %	5.54%	6.06%	6.62%	7.24%	7.91%
Div	2.40%	2.62%	2.86%	3.13%	3.42%
Prj% +_Div	7.94%	8.68%	9.48%	10.37%	11.33%

BV = Book Value  P/B = Price to Book  P = Current Price  BVG = Book Value Growth

ROE = Return on Equity  EEPS = Est. Earnings Per Share EBV = Est. Book Value

Prj% = Projected return as %  Div = Dividend Yield

An investor’s expected five year compounded return with dividends from 1-31-2012:  9.55%                          

 

Materials

 

MA Sector 5-Year Estimated Earnings, Dividends and Projected Returns as 1-31-2012

 

Current Est.	BV = $20.57	P/B = 3.30	P = $67.83	BVG = 8.53	ROE = 21.47
Year Ending	1-31-2013	1-31-2014	1-31-2015	1-31-2016	1-31-2017
EEPS	$4.79	$5.20	$5.64	$6.12	$6.64
EBV	$22.33	$24.23	$26.30	$28.54	$30.97
Prj %	7.07%	7.67%	8.32%	9.03%	9.80%
Div	2.10%	2.28%	2.47%	2.68%	2.91%
Prj% +_Div	9.17%	9.95%	10.79%	11.71%	12.71%

BV = Book Value  P/B = Price to Book  P = Current Price  BVG = Book Value Growth

ROE = Return on Equity  EEPS = Est. Earnings Per Share EBV = Est. Book Value

Prj% = Projected return as %  Div = Dividend Yield

An investor’s expected five year compounded return with dividends from 1-31-2012:  10.86%                        

 

Technology

TE Sector 5-Year Estimated Earnings, Dividends and Projected Returns as of 1-31-12

 

Current Est.	BV = 31.42	P/B = 4.17	P = $131.05	BVG = 17.57	ROE = 26.70
Year Ending	1-31-2013	1-31-2014	1-31-2015	1-31-2016	1-31-2017
EEPS	$9.86	$11.59	$13.63	$16.02	$18.83
EBV	$36.94	$43.43	$51.06	$60.03	$70.58
Prj %	7.53%	8.85%	10.40%	12.23%	14.38%
Div	1.70%	2.00%	2.35%	2.76%	3.24%
Prj% +_Div	9.23%	10.85%	12.75%	14.99%	17.62%

BV = Book Value  P/B = Price to Book  P = Current Price  BVG = Book Value Growth

ROE = Return on Equity  EEPS = Est. Earnings Per Share EBV = Est. Book Value

Prj% = Projected return as %  Div = Dividend Yield

An investor’s expected five year compounded return with dividends from 1-31-2012:  13.05%                        

 

Utilities

UT Sector 5-Year Estimated Earnings, Dividends and Projected Returns as of 1-31-2012

 

Current Est.	BV = $25.96	P/B = 1.62	P = $41.97	BVG = 6.23	ROE = 11.79
Year Ending	1-31-2013	1-31-2014	1-31-2015	1-31-2016	1-31-2017
EEPS	$3.25	$3.45	$3.66	$3.89	$4.13
EBV	$27.58	$29.30	$31.13	$15.07	$16.01
Prj %	7.75%	8.23%	8.74%	9.29%	9.87%
Div	4.00%	4.25%	4.51%	4.79%	5.09%
Prj% +_Div	11.75%	12.48%	13.25%	14.08%	14.96%

BV = Book Value  P/B = Price to Book  P = Current Price  BVG = Book Value Growth

ROE = Return on Equity  EEPS = Est. Earnings Per Share EBV = Est. Book Value

Prj% = Projected return as %  Div = Dividend Yield

An investor’s expected five year compounded return from with dividends 1-31-2012:  13.30%

*Must be presented with Executive Summary that includes philosophy and methodology dated 01-31-2012.

Anderson Griggs & Company, Inc., doing business as Anderson Griggs Investments, is a registered investment adviser with the US Securities & Exchange Commission.  Pursuant to laws and regulations Anderson Griggs also maintains notice filing with several individual state regulators including North and South Carolina.  Anderson Griggs only conducts business in states and locations where it is properly registered or meets state requirement for advisors.  This letter has been sent to you for information purposes only and is not an offer of investment advice.  The purpose of this letter is to provide information about us.  We will only render advice after we deliver our Form ADV Part II to a client in an authorized jurisdiction and receive a properly executed investment Management Agreement.  Any reference to performance is historical in nature and no assumption about future performance should be made based on the past performance of any Anderson Griggs Investment Objective, individual account, or index.  The authors of publications are expressing general opinions and commentary.  They are not attempting to provide legal, accounting, or specific advice to any individual concerning their personal situation.  Anderson Griggs Investments’ office is located at 113 E. Main St., Suite 310, Rock Hill, SC  29730.  The local phone number is 803-324-5044 and nationally can be reached via its toll-free number 800-254-0874.