Financial Review

Double Dog Dare

Sinclair Noe — August 10, 2017

Podcast: Play in new window | Download (Duration: 13:16 — 7.6MB)

Subscribe: iTunes | Android | RSS

DOW – 204 = 21,844
SPX – 35 = 2438
NAS – 135 = 6216
RUT – 24 = 1372
10 Y – .03 = 2.21%
OIL – 1.00 = 48.56
GOLD + 8.90 = 1286.80
BITCOIN – 0.11% = 3441.49 USD
ETHEREUM + 0.43% = 301.57

The S&P 500 declined 1.45 percent, the worst decline since May. The Nasdaq composite dropped 2.1 percent, with Apple, Alphabet, Amazon and Netflix all trading lower. It was a broad-based decline on Wall Street. The CBOE Volatility Index (VIX), a gauge of fear in the market, soared more than 40 percent to trade at 15.98. It also hit its highest level since May.

President Trump said North Korea would face “fire and fury” if it threatened the United States. North Korea dismissed the warnings as a “load of nonsense”, and outlined plans for a missile strike near the Pacific territory of Guam.

And today, Trump ratcheted up his rhetoric, saying his “fire and fury” comments may not have been tough enough, and North Korea should be “very, very nervous”. China is the largest trading partner with North Korea and China has called for dialogue to end the crisis but has otherwise been quiet.

China’s interests do not include a unified Korean Peninsula.  When it comes to assessing global geopolitics like the situation with North Korea, we don’t know how this will play out. It could be a brilliant bluff or it could be very dangerous bravado.

Here’s what we might see in the marketplace: stocks tend to react badly to the prospect of war but the exact reaction varies significantly, Treasuries generally move higher – pushing yields lower (The yield on the benchmark 10-year note touched 2.20 percent Thursday, its lowest level since June, although it is worth noting that junk bonds have taken a hit recently – and that may be separate from concerns about war; the cost of protecting high-yield bonds against default in the credit-default swap market has climbed to the highest since mid-July), oil and other commodities tend to jump ahead of a geopolitical event and sell off afterwards.

And of course, gold has started to shine again.

Pimco told investors to pare U.S. equities and junk bonds, but keep exposure to real assets, such as inflation-linked debt, commodities and gold. T. Rowe Price cut its stock allocation to the lowest level since 2000. Morgan Stanley strategists said investors should consider betting against U.S. junk-bonds as recent price weakness may be the beginning of a correction.

Geopolitical turmoil tends to drive volatility but not necessarily trends. In other words, the contrarian play usually works. Warren Buffett has described the strategy as “stay calm when all hell breaks loose.”

Meanwhile, it is a big distraction from other issues such as tax reform, the debt ceiling and healthcare – which you probably thought was a moot point by now. Senate Majority Leader Mitch McConnell is refusing to sign-up for an ambitious White House timeline on tax reform that calls for legislation to sail through by fall.

And he’s now engaged in an extraordinary war of words with the Trump White House. McConnell said he thought Trump “had excessive expectations about how quickly things happen in the democratic process …” This drew a sharp rebuke from Trump and his senior aide Dan Scavino.

The White House is going to need good will from McConnell on tax reform. And they’ve already blown through the initial, absurd, August deadline. Increasing pressure and publicly ripping McConnell is going to make tax reform and the rest of Trump’s agenda even harder to pass.

Meanwhile, there is a very real deadline for a deal on the debt ceiling. Mark your calendar. You can see this one coming: The government will run out of cash on Sept. 29 and cannot borrow more money unless Congress raises the debt ceiling.

This is a perennial crisis, and markets have a well-rehearsed pattern of worry followed by relief. Lawmakers are on recess until Sept. 5, and they plan to take a week off in September. So that leaves 12 working days for Congress to raise the borrowing limit. It’s difficult to give Congress the benefit of the doubt on getting this done.

The White House is usually focused on this priority, but in the wake of the health-care defeat in the Senate, White House budget director Mick Mulvaney initially said that Congress should hold off on all other issues, including the debt ceiling, until it went back to health care. He later changed his position and said Congress should raise the debt ceiling.

McConnell and House Speaker Paul Ryan will push for a clean debt ceiling increase, but some number of more conservative members will vote against that, meaning Democrats will need to provide votes to ensure a successful vote. But it’s not clear what conditions Democrats will demand in exchange for their votes.

Senate Minority Leader Chuck Schumer said earlier this summer that Democratic votes may be hard to come by if Republicans insist on passing a large tax cut for the wealthy. And the White House is pushing for funding for a border wall with Mexico to be included in a debt bill, in exchange for lifting spending caps.

PredictIt has become the go-to prediction market for observing U.S. political events. PredictIt offers weekly debt ceiling markets through the end of October, and at the time of this writing, its participants give less than a 5 percent chance of the debt ceiling being raised by Sept. 15, and less than a 15 percent chance of it being raised by Sept. 22.

If the Trump administration’s Sept. 29 estimate is right, then we could be looking at another tense period for markets like we had in the summer of 2011, when the debt ceiling standoff caused Standard and Poor’s to lower the U.S. credit rating.

Of course, it’s possible the real deadline will be a week earlier or a couple weeks later, given volatility in tax receipts. So, if you mark your calendar, be sure to use a pencil.

Also, today, Trump declared the opioid epidemic a national emergency and said his administration was drafting papers to make it official – this comes about a week after a White House commission on the opioid crisis led by New Jersey Governor Chris Christie recommended the president declare it a national emergency.

The declaration could help unlock more support and resources to address the drug overdose epidemic, such as additional funding and expanded access to various forms of treatment, and it gives the government more flexibility in waiving rules and restrictions to expedite action.

National emergencies are typically declared for short-term crises, such as the Zika virus outbreak or a natural disaster. It is unclear what Trump’s declaration will mean for a complex, long-term public health problem.

Producer prices fell in July, recording their biggest drop in nearly a year and pointing to a further moderation in inflation that could delay a Federal Reserve interest rate hike. The Labor Department said its producer price index for final demand slipped 0.1 percent last month, weighed by decreasing costs for services. That was the largest decline since August 2016 and reversed June’s 0.1 percent gain.

In the 12 months through July, the PPI increased 1.9 percent after rising 2.0 percent in the year through June. Core PPI, which excludes food, energy and trade services was unchanged last month. The core PPI increased 1.9 percent in the 12 months through July.

Shares of retailers Macy’s and Kohl’s declined after quarterly results failed to assure investors that a comeback was taking hold. Same-store sales dropped 2.5 percent at Macy’s and 0.4 percent at Kohl’s. Dillard’s sank as much as 16 percent to $61.50 after posting a surprise loss in its second quarter.

Lots of people like to talk these days about how the retail industry is undergoing a structural shift due to changes in how consumers like to shop. But weakness in the retail sector is probably being impacted by consumer debt as well.

Household debt outstanding — everything from mortgages to credit cards to car loans — reached $12.7 trillion in the first quarter. Household net worth stands at a record $94.8 trillion, thanks to rebounding home values and soaring stock portfolios. But that increase has primarily benefited the nation’s wealthiest.

For most Americans, whose median household income, adjusted for inflation, is lower than it was at its peak in 1999, borrowing has been the answer to maintaining their standard of living. The average family of four is living paycheck to paycheck.

And just when you think you’ve got it all figured out. Nordstrom reported second-quarter earnings and sales that topped analysts’ expectations, sending shares of the stock higher after market close. Same-store sales were also positive, a rare outcome among department stores of late. Nordstrom said its results this period was fueled by more customers ringing up purchases online.

Nordstrom’s stock was last climbing more than 3 percent higher in after-hours trading on the news.

Graphics chipmaker Nvidia saw its stock fall more than 7 percent after it reported stronger-than-expected earnings for the second quarter. Earnings came in at $1.01 per share, topping estimates of 70 cents. Revenue was up 56 percent year over year and beat estimates. They raised guidance slightly.

A new international report has confirmed that 2016 was the hottest year for the planet in 137 years of record keeping. It was the third year in a row to break the record. The report was released by the American Meteorological Society.

Almost 500 scientists from more than 60 countries participated in the project. Global sea surface temperatures reached a new record high, and Arctic sea ice extent at the end of its annual growth season was at its lowest maximum level in the nearly 40 years of satellite records.

Every month, at least 12 percent of land surfaces were in severe drought conditions or worse — a record long stretch.

Financial Review

More Shoes

Sinclair Noe — May 11, 2017

Podcast: Play in new window | Download (Duration: 13:16 — 7.6MB)

Subscribe: iTunes | Android | RSS

DOW – 23 = 20,919
SPX – 5 = 2394
NAS – 13 = 6115
RUT – 9 = 1390
10 Y – .01 = 2.40%
OIL + .46 = 47.79
GOLD + 6.00 = 1225.80

This morning, we got two pieces of economic data that show the U.S. economy remains strong, with producer prices — a measure of inflation — rising 0.5% over the prior month, more than the 0.2% that was expected.

With last month’s jump in prices, the PPI shot up 2.5% in the 12 months through April. That was the biggest gain since February 2012.  Core PPI, which excludes food, energy prices and trade, rose 0.7% in April after a 0.1% gain in March. Core PPI increased 2.1% in the 12 months through April.

Additionally, initial jobless claims also topped expectations, totaling just 236,000 last week, with continuing filings for unemployment insurance hitting the lowest in 28 years. The Bank of England on Thursday left its key interest rate at 0.25%, meeting widely held expectations.

 It was an ugly day for retail stocks. Macy’s reported earnings per share of $0.24, less than the $0.35 expected by analysts, on same-store sales that dropped 4.6%. Macy’s shares were slammed for a 17% loss today.

Also in retail earnings, Kohl’s reported earnings per share that topped estimates though same-store sales declined more than expected during the quarter. Kohl’s reported adjusted earnings per share of $0.39, topping estimates for $0.29, while same-store sales fell 2.7%, more than the 1.1% expected by analysts. Kohl’s dropped almost 8% today.

Nordstrom reported better-than-expected quarterly earnings and quarterly revenue in line with expectations but it didn’t escape the pall over department stores in general. Nordstrom said it earned $63 million, or 37 cents a share, in the first quarter, compared with $46 million, or 26 cents a share, in the year-ago period. Net sales reached $3.3 billion, compared with net sales of $3.2 billion a year ago. Comparable-store sales for the first quarter decreased 0.8%. Shares dropped 4.5%.

In an interview today with NBC’s Lester Holt, President Trump called fired FBI chief James Comey a “showboat” and “grandstander”. Trump said he would have fired Comey even without a recommendation to do so by the two top Justice Department officials. That ran counter to previous administration explanations from White House aides and Vice President Pence of Comey’s dismissal.

Trump also gave further details of his account that Comey informed him three times that he was not under investigation. That interview airs tonight.

Meanwhile, on Capitol Hill, acting FBI Director Andrew McCabe directly contradicted the White House on two points related to Comey’s firing and the law enforcement agency’s investigation into Russia’s meddling in the presidential election.

McCabe said there is an investigation, it is significant and it is underway and will continue but he sidestepped the question of whether Comey directly told Trump on 3 occasions that there was no investigation. A day after the White House said Comey had “lost the confidence” of his employees, McCabe said Comey had a strong and positive relationship with the clear majority of FBI employees.

Senator John McCain, who heads the Armed Services Committee, and is no admirer of Vladimir Putin, defended Comey as an honorable man and called the firing “unprecedented,” which is true. 

Republican Richard Burr of North Carolina, who heads the Senate Intelligence Committee said today: “I am troubled by the timing and reasoning of Director Comey’s termination. I have found Director Comey to be a public servant of the highest order, and his dismissal further confuses an already difficult investigation by the Committee.”

Trump has been in office 110 days, and he’s already fired his acting attorney general, his national security adviser, and now the head of the FBI, all of whom have played key roles in the Russia investigation. What does it all mean? Well, at this point, not much. These people served at the pleasure of the president. Trump certainly has the authority to fire them.

Trump’s Director of National Intelligence Dan Coats and CIA chief Mike Pompeo, testified to a senate committee today that they agreed with a finding that Russian president Putin had directed an effort to hack and disrupt the US election, but we do not know what, if anything has turned up in the investigation into possible collusion between the Russians and Trump and/or his campaign.

If there is a connection, it would be very bad for Trump. If there is no connection, that fact will only be established after much hand wringing and gnashing of teeth. Right now, we just don’t know how this will play out.

At a security conference in Munich, Senator McCain said, “This scandal is going to go on. I’ve seen it before. I guarantee you there will be more shoes to drop, I can just guarantee it. There’s just too much information that we don’t have that will be coming out.”

Yesterday, I said the firing of Comey will consume all the oxygen in Washington. Today there was no talk of the American Health Care Act, no talk of tax reform, no talk of infrastructure stimulus. Well, maybe someone was talking about it but all eyes and ears were on the Comey situation. For today, the Trump agenda was stalled, probably tomorrow as well – possibly into the near future.

Halfway around the world, in a speech at the Bombay Stock Exchange, William Dudley, head of the New York Federal Reserve gave a full-throated economic and even political argument for resisting trade barriers that he said would hurt growth and living standards in both the United States and around the world.

“Protectionism can have a siren-like appeal,” said Dudley. “Viewed narrowly, it may be potentially rewarding to particular segments of the economy in the short term. Viewed more broadly, it would almost certainly be destructive to the economy overall in the long term.”

Dudley said he was speaking out because “we are at a particularly important juncture” in which trade issues could imperil the long-term health and productivity of the economy and “the economic opportunities available to our people.”

Barriers to trade are very costly, he said, because they blunt export opportunities, make everyday goods more expensive, and they can often “backfire” by harming workers who can no longer compete in a global economy.

Don’t look now, but banks are failing again in America. The past several years has been relatively placid for the banking industry. After the wholesale failure of the system during the financial crisis, banks gradually recovered their footing. Aided by essentially free money from the Federal Reserve, bailouts, and widespread federal and central bank guarantees, banks once again became rock-solid American institutions.

As the expansion rolled on, companies and individuals did a much better job keeping up with their financial obligations. The result: record profits for banks and an extremely low rate of bank failure. In 2016, banks covered by the Federal Deposit Insurance Corporation reported $171.3 billion in profits.

Only five banks failed last year, and they were small, a total of just 18 branches and a mere $277 million in assets between them. In 2015, seven banks in the continental U.S. failed; they had combined assets of $826 million.

So far, this year, five banks have already failed—as many as in all of 2016. More important, the banks that are failing are significantly larger. Last week, Guaranty Bank of Milwaukee ($1 billion in assets and 118 branches) bit the dust. The week before, it was First NBC Bank of New Orleans ($4.7 billion in assets and 29 branches).

The U.S. economy is, by most accounts, rolling along. The current expansion is now in its 95^th month. The economy has added payroll jobs for a record 79 months, and the unemployment rate is at 4.4 percent. When expansions get longer, a few things happen. Banks, consumers, and companies all get more confident about their ability to handle debt, which leads to more credit being extended.

At the same time, lenders seeking growth start to become more aggressive about putting money in the hands of people. Once all the people who can easily afford to purchase cars have taken car loans or mortgages, banks must seek out more marginal borrowers to keep boosting their profits.

And once credit gets distributed a little too widely, borrowers begin to default—even if nothing else changes in the economy or the climate for credit.

For the first time in a decade, the Federal Reserve is raising interest rates—thus increasing the cost of borrowing and servicing debt. Before December 2015, when the Fed boosted the federal funds rate from zero to 0.25 percent, it had been 9.5 years since the Fed last raised the interest rates it controls.

Janet Yellen has since raised rates in 0.25 percent increments twice. Yes, interest rates are still remarkably low, and the moves have been small. But it’s the direction that matters. For a decade, people in the economy had been conditioned to think that interest rates don’t really go up—and they borrowed and planned accordingly.

After hitting the lowest level since 2006 in the third quarter of 2016, mortgage delinquency rates rose in the fourth quarter to 4.8 percent. The delinquency rate on credit card loans, while still at a very low level, rose for three straight quarters in 2016. The volume of auto loans that are delinquent is rising rapidly.

All these metrics will likely continue to rise. This doesn’t mean we’re headed for another financial meltdown, merely that the business cycle has not been repealed and this cycle is in the late stages.

Financial Review

Immovable v. Unstoppable

Sinclair Noe — January 4, 2017

Podcast: Play in new window | Download (Duration: 13:16 — 6.1MB)

Subscribe: iTunes | Android | RSS

DOW + 60 = 19,942
SPX + 12 = 2270
NAS + 47 = 5477
RUT + 30 = 1387
10 Y un = 2.45%
OIL + 1.02 = 54.31
GOLD + 4.80 = 1164.10

What happens when an unstoppable force meets an immovable object? The Federal Reserve released the minutes from its December meeting; that’s the meeting where the Fed raised interest rates for only the second time in a decade.

Almost all Federal Reserve policymakers thought the economy could grow more quickly because of fiscal stimulus under the Trump administration and many were eyeing faster interest rate increases to counteract.

Trump’s promises of tax cuts, infrastructure spending and deregulation could boost inflation and might set the stage for a confrontation between a president seeking to boost economic growth and the Fed, which is tasked with keeping the economy from overheating. The minutes showed policymakers might signal an even more aggressive path of rate increases if inflationary pressures rose.

At the same time, Fed policymakers “emphasized their considerable uncertainty” about future economic policy changes. The Fed expects Trump’s election might result in slightly faster economic growth over the next several years, but it won’t happen right away and they see little chance of the boom times Trump has promised – so business as usual; which is a trajectory of 3 rates hikes in 2017, perhaps the most hawkish FOMC minutes in the past few years.

As for the unstoppable force versus immovable object debate, relativity proves there is no such thing as an immovable object and since we do not have a source of infinite energy to stop an object, there are no unstoppable objects. So, what happens when two massively infinite unacceleratable objects approach each other on a collision course and neither changes its velocity? They must pass right through each other with no effect on each other at all.

Short-term interest rate futures rose slightly after the release of the minutes but not enough to suggest altered expectations for the central bank’s rate hike path this year. The dollar backed off 14-year highs.

The rate banks charge each other to borrow dollars for three months rose above 1 percent on Wednesday for the first time since May 2009. The London interbank offered rate, or LIBOR, is a global rate benchmark for $350 trillion worth of financial products worldwide.

Mortgage interest rates came down slightly to end the year, but not enough. Mortgage application volume plunged 12 percent for last week, seasonally adjusted, from two weeks earlier. The Mortgage Bankers Association said mortgage application volume typically drops sharply over the holidays.

However, this year, as mortgage rates continued their upward climb reaching the highest levels in more than two years, overall application volume fell even more than the holiday slowdown would suggest. The average interest rate for conforming 30-year fixed-rate mortgages decreased to 4.39 percent from 4.45 percent, plus points.

Meanwhile, President Obama exhorted fellow Democrats to preserve Obamacare, as Republicans launched their bid to scrap it in what Vice President-elect Mike Pence called the “first order of business” of Donald Trump’s administration.

Actually, it would be the second order of business for the 115^th Congress, following a failed attempt to gut the ethics office. Pence met Republican lawmakers to plot the path forward on scuttling the law. Pence said Trump will work in concert with congressional leaders for a “smooth transition to a market-based healthcare reform system” through legislative and executive action.

During two news conferences, Pence, Speaker of the House Paul Ryan and Senate Majority Leader Mitch McConnell offered few details on what a Republican-backed replacement for Obamacare would look like. And there’s the rub. Any attempt to repeal Obamacare will need a replacement stapled to that bill.

Auto sales for December trickled in through the trading day. US auto sales rose for an unprecedented seventh straight year in 2016, topping the record set in 2015. In December, sales rose at a seasonally adjusted annual rate of 18.4 million according to Autodata.

But the auto sales boom could be leveling off. Some automakers are trimming production because excess cars and trucks are sitting on dealer lots. Car prices are already at record levels. That is partly because buyers are shifting from less expensive cars to crossovers, SUVs and trucks, and partly because of demand for the latest safety and tech features, such as automatic braking and internet.

There is also growing concern about rising default rates on car loans, particularly among less creditworthy buyers. If lenders pull back, that will hurt car sales.

GM led year-on-year growth in December with an increase by 10%. GM said the average transaction price for its vehicles rose $740 from November to $36,386 in December, reflecting in part strong sales of large SUVs.

Ford said it sold 87,512 F-Series pickups in December, the lineup’s best overall sales month in 11 years. The F-series was the best-selling model line in the United States last year, for the 40th year in a row. Ford sales overall were up just 0.1% in December.

Fiat Chrysler sales slid 10%. Nissan sales rose 10%. Honda sales were up 6.4%. Toyota up 2%. Volkswagen posted a 20% gain in sales.

Tesla fell short of its goal for 80,000 auto deliveries in 2016. The electric car manufacturer delivered 76,230 cars in 2016. That’s still far more than the roughly 50,000 cars it delivered a year earlier. Tesla may face fresh competition; Faraday Future unveiled its “FF 91”, which it describes as the most technologically advanced luxury electric SUV. The car is expected to retail for $180,000 and you can reserve one with a $5,000 down payment.

Can you name the best-selling car in Sweden? (Volvo?) Wrong! For the first time in 54 years, the best-selling car in Sweden is not a Volvo. The Volkswagen Golf knocked Volvo’s most popular luxury models off the throne in 2016. Three of the top five models on the sales ranking were from Volvo, and the brand accounted for around one fifth of all vehicles sold in Sweden last year. Sweden is Volvo’s second biggest market after China.

Amazon.com delivered a record more than 2 billion items for sellers worldwide in 2016. Items shipped by Fulfillment by Amazon rose 50% in the holiday season, while deliveries to prime members numbered in the millions. The online retailer said active sellers using the Fulfillment by Amazon service increased more than 70% in 2016, and units shipped grew more than 80% outside the U.S. The number of sellers that reached $100,000 in sales rose by 30%. The company estimates that sellers have created more than 600,000 new jobs outside of Amazon.

Last week we reported that Sears had told employees to expect more store closures. Today Sears went public with the details. The company will shut down a total of 108 Kmart stores and 42 Sears stores by April – 150 stores total, although apparently, none in Arizona.

In the most recent quarter, Sears’ revenue fell 13%, to $5 billion, and its losses widened to $748 million from $454 million in the period last year. Same-store sales dropped 7.4%, including a 10% decrease at Sears stores and a 4.4% decrease at Kmart stores.

Both Kohl’s and Macy’s reported lower sales during November and December 2016 than the year before. Both retailers announced sales declines of 2.1% from the same two months in 2015. Additionally, both Kohl’s and Macy’s said that sales at owned and operated stores were down by 2.7% this holiday season. Following the news, Kohl’s was down over 10.5%, while Macy’s was down 5.5%.

A District judge in Texas almost halved the award in a December jury verdict that ordered Johnson & Johnson and its DePuy Orthopaedics unit to pay more than $1 billion to plaintiffs in six lawsuits who said they were injured by DePuy’s Pinnacle hip implants.

Around $500 million of punitive damages would be cut from the more than $1 billion awarded to the plaintiffs who are California residents that were implanted with the hip devices and experienced tissue death, bone erosion and other injuries they attributed to design flaws.

DCP Midstream Partners said it had acquired the assets of a joint venture between Phillips 66 and Spectra Energy, to create the largest natural gas liquids producer and gas processor in the United States. The combined company, which has an enterprise value of $11 billion, will be renamed DCP Midstream LP and will trade with the ticker symbol “DCP”.

A former Barclays trader pleaded guilty to US charges arising from a global investigation into the manipulation of foreign-exchange prices at major banks. Jason Katz’ plea came after Barclays and three other banks last year pleaded guilty to conspiring to manipulate currency prices. Barclays agreed to pay $2.4 billion to resolve various related U.S. and UK probes. Katz is the first person to admit criminal wrongdoing about the Forex rigging case.

According to a report quietly released by the U.S. Treasury’s Office of Financial Research “U.S. global systemically important banks (G-SIBs) have more than $2 trillion in total exposures to Europe. Roughly half of those exposures are off-balance-sheet…U.S. G-SIBs have sold more than $800 billion notional in credit derivatives referencing entities domiciled in the EU.”

When a Wall Street bank buys a credit derivative, it is buying protection against a default on its debts by the referenced entity like a European bank or European corporation. But when a Wall Street bank sells credit derivative protection, it is on the hook for the losses if the referenced entity defaults.

Regulators will not release to the public the specifics on which Wall Street banks are selling protection on which European banks. The OFR report also indicates that regulators still do not have access to adequate data from the biggest banks and insurers to assess the dangers in real time.