Farr: Good Jobs Report — Is QE2 Working?

The ADP Employment report showed stronger than expected jobs gains for the month of December. Estimates called for the addition of 100,000 new jobs (which was in line with 2010’s average), but a gain of 297,000 was reported. This is very good news and extrapolated would indicate an additional 3.5 million jobs in 2011. That does not seem realistic, and we need to wait to see more corroborative data. Lest we not look a gift horse in the mouth, let’s be happy about this granule of good news.

Specific economic trends are improving. About a million new jobs were created in 2010. This kept up with population growth, didn’t do much to increase employment, but was helpful. Housing sales increased. The Producer Price Index and the Consumer Price Index both trended modestly higher following dangerously low levels in 2009. There is still no indication of run-away inflation. Moreover, corporations reestablished access to the capital markets both through debt and equity offerings. Consumer Confidence numbers were modestly stronger by year end, and vehicle sales were good.

It looks like GDP increased by about 3%, and with the extension of Bush era tax rates and an additional payroll tax reduction, economists are calling for about 3.5% GDP growth in 2011. Inflation should remain at bay for most, if not all, of the year. Unemployment figures should improve based on 3.5% GDP growth, but I don’t expect much movement from the 9.5% level.


Farr, Miller & Washington continues to believe that housing is the economy’s lynchpin.

As goes housing so goes the domestic economy. In spite of profound levels of government support, it is difficult to conceive of how home prices avoid further decline.

Furthermore, a consequence of so much government money has been an increase in US debt.

Harvard University’s Professors Reinhart and Rogoff produced an important study of multiple economies over hundreds of yearsthat found that whenever debt to GDP exceeds 90%, a full percentage point of future GDP growth will be lost due to increased interest payments. In the next few weeks the new Congress will have to vote to increase the debt limit above $14.3 trillion. That amount is roughly equal to US GDP. We believe that deficits and the metastasizing debt matter a great deal and may be ignored at our national peril.

Through all of this we expect the Fed to remain relatively quiet. If economic conditions strengthen, there will be calls for a renewed schedule to withdraw monetary accommodation. If things weaken further, we expect the Fed to perhaps initiative a third act of Quantitative Easing.


The S&P 500 is trading at around 15.2x trailing earnings and 13.7x this year’s estimates with a 1.85% dividend yield. Those are reasonable levels historically. Estimates for earnings for the S&P 500 are around $93. If we assume a constant multiple of 15.2x, share prices should increase about 11%. If we posit just half of that growth (5.5%) plus the additional 1.85% dividend, we come up with a highly unscientific forecasted return of 7.4%. All of this is to say that a positive year for stocks is not out of the question.

Farr, Miller & Washington finds value in big, solid companies with very strong balance sheets, experienced and tenacious managers, international diversification, and defensible market share. Our companies generally share low debt ratios, high returns on equity, attractive dividends, and bright prospects for increasing in value. Our team of analysts and managers is constantly watching, reviewing, and reassessing our capital commitments. Our defensive posture in 2010 was profitable but left some return on the table. Big, blue-chip companies lagged behind riskier shares.

We feel strongly that the prospects for precisely our investment discipline are exceedingly bright.

Michael K. Farr is President and majority owner of investment management firm Farr, Miller & Washington, LLC in Washington, D.C. Mr. Farr is a Contributor for CNBC television, and he is quoted regularly in the Wall Street Journal, Businessweek, USA Today, and many other publications. He has been in the investment business for over twenty years.