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Tuesday, March 08, 2016

Falling Knives

Financial Review

Falling Knives

DOW – 109 = 16,964
SPX – 22 = 1979
NAS -59 = 4648
10 Y – .07 = 1.83%
OIL – 1.67 = 36.23
GOLD – 6.50 = 1261.50

Small business confidence declined further in February as lingering concerns about sales growth and profits hurt capital spending and hiring plans. The National Federation of Independent Business (NFIB) said its small business optimism index dropped one point to a reading of 92.9 last month, with none of the index’s components showing an increase. The index decreased 1.3 percentage points in January.

Spending and hiring plans weakened a bit as expectations for growth in real sales volumes fell. Earnings trends worsened a bit as owners continued to report widespread gains in worker compensation while holding the line on price increases.

China’s February trade performance was far worse than economists had expected, days after top leaders at the National People’s Congress sought to reassure investors. Exports fell 25% from a year earlier, the biggest drop since May 2009, while imports slumped 13%, leaving a trade surplus of $32 billion. It’s easy to blame Chinese New Year distortions, but the numbers point to bigger economic problems.

Japan’s 10-year yield extended its push into negative territory, dropping to an all-time low of minus 0.12 percent, meaning almost three-quarters of Japanese government bonds currently offer yields at or below, zero percent. By far the biggest move in trading overnight was the Japanese 30-year, which saw its yield plunge 22 basis points to a record low 0.468 percent. Japan’s 40-year yield is now lower than the U.S. 12-month yield.

After a long wait for inflation to accelerate, Fed officials face a complex and possibly divisive debate over whether recent evidence of rising prices is strong enough to move ahead with planned rate hikes.

In separate statements on Monday, policymakers at the core of that debate staked out starkly different views, with Fed Vice Chairman Stanley Fischer saying economic data now points to the “first stirrings” of inflation, while Fed Governor Lael Brainard countered that the evidence was not yet clear, and it would be much safer to wait. The Fed is not expected to raise interest rates next week, but they might signal they are looking at a rate increase in April or June.

Mario Draghi, the President of the European Central Bank, who is widely expected to tinker with the Eurozone’s financial plumbing this week in the face of weaker-than-expected inflation and six weeks of volatility weighing on business sentiment. Once again, with the market already pricing aggressive action, there’s a risk of disappointment when the ECB meets Thursday. If the ECB takes action, it sets up a divergence in monetary policy between the Eurozone and the US.

Yesterday we told you that the big jump in iron ore prices was short covering and not based on fundamentals. We have also said that trading in the energy markets has been driven by speculation more than fundamentals. Goldman Sachs tells investors the current commodity rally will fade as higher prices prompt more supply to enter the market. Yesterday, iron ore prices jumped 19%; despite the move, Citigroup says it is still bearish as supply and demand fundamentals remain firmly in place; while Axiom Capital Management said the price jump was probably just a “blip.”

Now normally, when Goldman makes a recommendation, we need to consider the possibility that it is a contrarian indicator, but in this case, they might be right. The commodity markets, especially energy, is a supply driven market, and when prices go higher, supply floods back into the market. But the current oil market is still oversupplied and prices have to remain lower for supplies to meaningfully shrink and re-balancing to take place.

The oil market has been especially volatile. Oil’s 2016 roundtrip is nearly complete. WTI crude started the year at about $40 per barrel, and bottomed around $28.75 a barrel – a double bottom actually in late January and early February. That represents more than a 34% swing.  After a 5.5% gain on Monday, the price returned to just a few pennies shy of $38. Brent crude touched $40 per barrel yesterday for the first time in 2016, and moved up to a three month high today before sliding. Now that is nothing but speculative trading.

When prices move higher it is likely a short squeeze because the fundamentals have not changed; there is still an oil glut; OPEC can’t be trusted to freeze production; and it will take time to winnow the producers and eliminate the weak players.

 Meanwhile, China is looking at extra stimulus, Japan has gone to negative interest rates, and the ECB meets Thursday to consider adding even more monetary stimulus. The net effect should be that all these countries weaken their own currency, and the dollar should strengthen. And commodities are priced in dollars, which should lead to lower prices. Just a reminder, stocks have been trading close to commodities for at least the past few months.

Oil and natural gas producer Chevron will cut its budget by at least 17 percent for the next two years as it finishes construction on major expansion projects and works to save cash. The company said it plans to spend between $17 billion to $22 billion annually in 2017 and 2018. For 2016, the company has already announced it would spend $26 billion. Executives reiterated the company’s commitment to pay its $1.07 quarterly dividend.

Goodrich Petroleum, an oil & gas exploration company said it will not make interest payments due March 15 and April 1 on some of its bonds, and will instead opt to use the 30-day grace period it is allowed before being officially in default. Goodrich said it has already launched an offer to exchange all of its outstanding unsecured notes and preferred stock for its common stock. If the exchange offers are not taken up, the company said it would likely file for Chapter 11 bankruptcy protection.

It can be tempting to look for bargains in the oil patch but some folks think it is tempting to catch a falling knife. I wonder how long it will take before Houston turns into Detroit.

Rooftop solar panel installer Vivint Solar terminated an agreement under which it would have been taken over by solar energy company SunEdison after SunEdison failed to “consummate” the $2.2 billion deal. Vivint said it intended to “seek all legal remedies available” as a result of the “willful breach” of the merger agreement by SunEdison.

SolarCity’s shares popped today after announcing a deal to install solar panel systems in Whole Foods Market stores across the U.S. The plan aims to increase the production of solar power and offset the need for a traditional grid power while helping the organic food store save money. In total, the energy firm will retrofit up to 100 Whole Foods stores with rooftop solar panels.

The U.S. Air Force has selected Pratt & Whitney to build the engines for Northrop Grumman’s new $80 billion long-range strike bomber program. Analysts had expected Pratt to be chosen as the supplier since the company already builds engines for Lockheed Martin’s F-35 combat jet. Other key suppliers for “airframe or mission systems” include BAE Systems, GKN, Spirit AeroSystems, Orbital ATK, Rockwell Collins and Janicki Industries.

Cyprus has become the fourth Eurozone nation to exit an EU-IMF bailout, as finance ministers gave the green light to leave its program without a follow-up fund. Cyprus was forced into a €10-billion-euro bailout in March 2013, due to a toxic combination of broken banks, a soaring deficit and an inability to access market financing. By contrast with Cyprus, Greece (the only Eurozone country left in a rescue program) was caught yesterday in a new disagreement between the EU and IMF regarding the strength of its bailout reform commitments.

In the latest volley in its high-profile fight with Apple, the Justice Department has appealed a decision that protects the company from unlocking an iPhone in a New York drug case. Prosecutors, who say Apple has unlocked at least 70 iPhones in the past, are relying on the same “All Writs Act” in a California court, where a judge ordered the company to unlock a device belonging to one of the San Bernardino shooters. The clash has intensified a long-running debate over how much law enforcement and intelligence officials should be able to monitor digital communications.

The Arizona Regional Multiple Listing Service reports overall sales in February were down 2.6% year-over-year. Cash Sales (frequently investors) were down to 29.0% of total sales. Active inventory is now down 0.7% year-over-year, and inventory is down for the fifteenth consecutive month.

Sportswear giant Nike, Swiss watch brand Tag Heuer and German luxury car company Porsche will end their endorsement deals with tennis star Maria Sharapova after she tested positive for an illegal heart drug at the Australian Open. Sharapova brings in, or brought in, a reported $30 million per year in endorsements.

Sharapova said she’s taken the drug, meldonium for over a decade, long before a 2016 ban by the World Anti-Doping Agency, which outlawed the substance as a performance-enhancer. So you might be wondering why there is a problem with a heart drug. Meldonium delivers oxygen through the blood. This can save lives when poor circulation reduces blood supply and oxygen to tissues. For the same reason, reducing the need for oxygen can enhance athletic performance.

Over the course of a workout, as our bodies use oxygen, our blood becomes oxygen deficient—because we’re using up oxygen at a faster rate than our lungs can replace it. Not so if you’re Maria Sharapova on meldonium. Her blood stays oxygen-rich longer, allowing her to perform longer in practice and in matches. And because the drug changes the actual substance that is metabolized in the body, it changes the way Sharapova feels after a workout, too.

This winter was the warmest on record for the contiguous U.S., according to the National Oceanic and Atmospheric Administration. The average temperature across the lower 48 states was 36.8 degrees Fahrenheit, breaking the mark set in 1999-2000. It was 4 degrees higher than the 20th-century average.

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