Weekly Market Commentary January 10, 2011

Investor Class vs. Working Class

The economy is expected to possibly grow at a rate of 3.5% in 2011. By comparison, to achieve stable employment, a GDP of 2.7% would probably be necessary. Clearly the estimates being put forward suggest a significant improvement in the employment picture.

As we enter earnings season this week we should see a flurry of strong earnings reports. There is no question that business profits are up. According to economists at Goldman Sachs, we could potentially see corporate profit gains of 20% - 25% this year and 15% - 20% in 2012 (http://t.co/0kZbuwb). We can also assume that corporate hiring will see consistent improvement with the increases in corporate profits.

We are also seeing a significant boost in both overtime hours and temporary help. These are two key precursors to firms adding permanent hires (http://bit.ly/gEd7bm).

So it seems that in a “not too distant future” we should begin to see real -not just mathematical- improvements in the U.S. employment situation. What I mean by ‘real’ is this: actual people getting back to work, not just shifting numbers in how we count the unemployed.

What About US (United States)

However a careful review of the profit situation may reveal a different type of recovery. When you break down the geographic sources of U.S. corporate profits from S&P 500 companies a simple truth is revealed. Approximately 40% of those profits are coming from foreign operations (http://wapo.st/elNMzy).

It’s not hard to imagine that U.S. corporations are finding large profits through foreign operations with:

• India having a population of 1.1 billion people
• China having a population of 1.3 billion people
• The United States only having a population of 307 million people

If that's the case than perhaps domestic hiring will take a bit longer. Why hire people here in the United States if you are manufacturing goods overseas and selling them overseas? We could have great profit recovery and foreign employment growth at the same time.

It doesn't take a rocket scientist to figure out that the investor class will run up stock prices based upon profits, indifferent to where those profits come from. What we could be left with is a profit recovery, stock market recovery and a long slow job recovery. This is good news for the investor class, good news for the emerging middle class in foreign markets but perhaps some pretty bad news for the working middle class here in the United States.

Make no mistake; the United States needs a vibrant, employed middle class. No one else will drive the consumption our economy needs to grow over the medium term (3-5 years).

While political and intellectual leaders struggle with this puzzle, we will continue to find segments and sectors that can benefit from this interesting trend.

My Current Investment Themes

• Consumer discretionary, specifically high end retailers
• Gas and Oil
• Business processing technology
• Media (Print that is adapting to on-line)
• Emerging Markets Debt and Equity that is driven by US dollars finding better investment environments
• Segmentation of emerging markets rather than broad based emerging markets exposure, specifically Brazil Energy and Telecom
• Mega Cap US companies that are finding great margins with little top line growth, especially exporters
• Germany

Tim Phillips, CEO