Thursday, July 17, 2914 - Unleash the Hounds of War

Financial Review with Sinclair Noe

DOW – 161 = 16,976
SPX – 23 = 1958
NAS – 62 = 4363
10 YR YLD - .06 = 2.47
OIL + 2.55 = 103.75
GOLD + 18.40 = 1319.20
SILV + .37 = 21.26

A Malaysian Airlines passenger jet, Flight 17, a Boeing 777, has crashed near the Ukrainian-Russian border; all 295 passengers are dead. US intelligence officials say the jetliner was shot out of the sky by a surface to air missile; they could not confirm who fired on the plane but it is believed the missile was launched by separatists in Ukraine or by Russian forces positioned across the border from the crash site.

Yes, more than four months ago, another Malaysia Airlines plane, Flight 370 from Kuala Lumpur to Beijing, disappeared with 239 people on board, and that plane remains lost, despite ongoing searches in the Indian Ocean. Flight 17 is believed to have had 280 passengers and 15 crew. Early reports indicate the passengers included 55 Dutch, 23 Americans, and 9 Britons.

The crash today involved a flight from Amsterdam to Kuala Lampur, but the flight went down in the Donetsk region of eastern Ukraine where pro-Russian separatists have been fighting Ukrainian forces for several months. The separatists denied responsibility. The separatists were quoted by the Russian news agency Interfax as saying that they had found the “black box” flight recorder. Other Russian reports said the rebels planned to call a three-day cease-fire to allow for an investigation.

Aviation authorities knew this was a dangerous area prior to today’s crash. Three months ago, the FAA prohibited US airlines and US pilots from flying over parts of Ukraine. Today several airlines re-routed flights. Ukrainian military planes have been shot down in the conflict in eastern Ukraine, including earlier this week, but the crash Thursday was the first downing of a commercial airliner.

Ukraine’s recently elected president, Petro Poroshenko, called it an act of terrorism. Russian president Putin says Ukraine is responsible for the crash, apparently because they have not maintained peace in the area and have not been in control of their airspace. Shooting down a 777 at 33,000 feet would require fairly sophisticated military equipment.

Any sign or Ukrainian, Russian, or separatist involvement in the downing of a civilian airliner could lead to an escalation of tensions in the region. Already, there is a recording of an alleged phone conversation between a leader of the separatist movement in Donetsk and a Russian military intelligence officer, where the Russian officer says they have shot down a plane. No groups are claiming responsibility.

If it turns out that the separatists shot down the passenger jet, the incident almost certainly will become a tipping point in marking them as terrorists and not mere rebels. To the degree he continues to support them, Putin himself risks shifting to dangerous new diplomatic terrain and harsh new sanctions by a West united against him to a degree it has been at no time since the Cold War. He will be seen as backing an indefensible rogue element. This might convince doubters in the EU to move forward with tougher sanctions against Russia and it could lead to tougher US sanctions. Russia’s deniability of direct support for the rebels would be demolished, making Putin’s international position more difficult.

Just yesterday President Obama imposed a new round of sanctions against Russia, targeting some of the largest Russian companies in finance, energy, and the defense industries. The announcement reflected a decision by Obama to take more stringent steps than those taken by the United States’ European allies, which have far deeper economic ties to Russia. Meeting in Brussels, leaders of the European Union refused to match the American measures and instead adopted a more tempered plan that blocks new development loans to Russia and threatens to target more Russian individuals.

Washington imposed sanctions on Russia’s largest oil producer Rosneft, its second largest gas producer Novatek, its third largest bank Gazprombank, and also 8 arms manufacturers, and a few others. Yesterday, Moscow denounced the sanctions as primitive revenge for events in Ukraine and pledged to retaliate. Also yesterday, Ukraine officials accused Russian forces of shooting down a Ukrainian military jet in the Donetsk region. Obama said Wednesday that the new sanctions were largely aimed at punishing Russia for not preventing the flow of weapons into Ukraine to supply pro-Russia rebels seeking independence from Ukraine.

At this point, nobody really knows who did what and for what reason. Civilian planes have been shot down by various militaries in the past and it did not necessarily result in war, however, the conflict in Ukraine has just escalated significantly.

Meanwhile, Israel moved ground troops into Gaza today. The ground offensive includes heavy artillery and naval shelling and helicopter fire and tanks. For the past 10 days Gaza militants and Israel have been firing rockets at each other. The Gaza militants have reportedly fired more than 1,300 rockets into Israel, but Israel has a high tech defense system called the Iron Dome, and so the bombing has only resulted in one Israeli death. The Israeli rocket attack on Gaza has been much more precise, even to the point where the Israelis would phone ahead and tell civilians they had a minute or so to vacate a building before a bombing. Palestinian health officials say more than 230 Palestinians have been killed in Israeli air and naval strikes.

Before dawn on Thursday, about a dozen Palestinian fighters tunneled under the border, emerging near an Israeli community. At least one was killed when Israeli aircraft bombed the group. The United Nations said Thursday that it had discovered 20 rockets hidden in a vacant school in Gaza during a regular inspection on Wednesday. Earlier on Thursday, Palestinian, Egyptian, Israeli and American officials said intense discussions were underway on terms for a cease-fire. Israel had accepted an Egyptian proposal for a cease-fire that was rejected by Hamas, which continued to fire rockets at Israel.

Palestinian residents and journalists in Gaza reported heavy artillery fire from ground troops in the north and from Israeli naval gunboats stationed near Gaza’s port, as well as a continuing air assault. Residents in the northern Gaza Strip said tanks were moving in. The Israeli strikes hit a range of targets, including a rehabilitation hospital and earlier killed four young children as they played on a roof in eastern Gaza City. At the same time, scores of rockets from Gaza continued to stream into cities all over central and southern Israel.

On Wall Street, the geopolitical problems made folks jittery. The VIX was up 3.54 to 14.54, which represents a 32% increase. We saw oil and bonds and gold jump higher in what looks  like a safe haven move.

It is still earnings season, and let’s touch on a few of the big reports today. Google reported a second-quarter profit of $3.4 billion, or $4.99 a share, compared with a profit of $3.2 billion, or $4.77 a share, for the year-earlier period. Revenue was $12.6 billion, up from $11.1 billion in the year-earlier period. Google missed expectations on earnings but beat revenue projections. Shares were down in after-hours trade.

Just the opposite for Big Blue; IBM said its second-quarter earnings climbed 28%, helped by its restructuring moves, while IBM reported its ninth consecutive quarter of lower revenue.

As expected, Microsoft announce massive layoffs today, what was unexpected was just how massive, 18,000 jobs will be cut, 15% of the workforce; 12,500 coming from newly acquired Nokia. Just after Microsoft bought Nokia, Nokia started making Android-based phones. This was a surprise since Microsoft makes its own mobile operating system — Windows Phone. The new Microsoft CEO Satya Nadella had no desire to continue with Android. He wants Microsoft's operating system to be the company's only mobile operating system.

A threatened strike on New York's Long Island Rail Road was averted on Thursday when the transit authority and labor unions reached a tentative contract deal.

Truckers will be back on the job Monday at the ports of Los Angeles and Long Beach, ending a five-day strike that disrupted cargo flow. The truckers voted to end their work stoppage against three companies late Friday after the firms promised no retaliation. The truckers say they have been unfairly classified as independent contractors rather than employees, allowing the companies to avoid labor laws and charge the drivers for fuel, maintenance and other fees. The drivers walked off the job last Monday in the fourth such protest this year and dockworkers refused to cross the picket lines.

Coincident to the plane crash and the story of Russian sanctions, Bloomberg Businessweek reports today on a nearly 4 year old story dealing with a different type of attack by Russia.  Reportedly, the Russians hacked into the Nasdaq in October 2010. And this was not just some silly hackers putting a virus on your computer, this was an attack on the code of a major financial institution, a digitized weapon, orchestrated by the Russian government.

It isn’t the first time a country has launched a cyber-attack against another country. The US was probably the first, with deployment of the Stuxnet worm, which switched off the safety mechanisms at Iran’s uranium processing facility in 2010. The October alert prompted the involvement of the National Security Agency, and just into 2011, the NSA concluded there was a significant danger.

While the Nasdaq hack was successfully disrupted, it revealed how vulnerable financial exchanges are to digital assault; as well as banks, chemical refineries, water plants, and electric utilities. One official who experienced the event firsthand says he thought the attack would change everything, that it would force the US to get serious about preparing for a new era of conflict by computer. He was wrong.

In fact the investigation revealed that Nasdaq networks had been infected for quite some time, by a variety of sources. The rules of cyberwarfare are still being written, and it may be that the deployment of attack code is an act of war as destructive as the disabling of any real infrastructure. Just think of the possibilities if the Nasdaq were to really crash, completely and totally, and if everything run through the exchange was deleted.