Financial Review

Thankyou

Sinclair Noe — June 13, 2016

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DOW – 132 = 17,732
SPX – 17 = 2079
NAS – 46 = 4848
10 Y – .02 = 1.62%
OIL – .53 = 48.54
GOLD + 10.50 = 1284.80

Equities across the globe drifted into the red ahead of a data heavy week in the U.S. that will include retail sales, inflation and other economic figures. Reasons for the declines: Brexit woes, weak Chinese investment growth, fresh strength in the yen, and lower oil prices. Traders are also anticipating a busy week for central banks with policy meetings for the Fed, Bank of Japan, Swiss National Bank, and Bank of England.

The safe-haven yen strengthened across the board overnight, hitting a three-year high against both the euro and sterling on Brexit worries and reaching a six-week high vs. the greenback. Japan faces a credit rating downgrade after the government delayed a planned second sales tax hike.

With ten days to go until a Brexit vote, the “Leave” campaign has taken a lead over “Remain” in the latest YouGov poll, reversing the one-point lead held by the pro-EU camp in the last survey taken on June 6. Another poll from research firm ORB showed that 55% of British citizens feel they should leave the EU, versus 45% who favor remaining. Sterling moved lower against the dollar this morning.

The Federal Reserve FOMC meets tomorrow and then publishes a statement on Wednesday at 11 AM Pacific, followed by a Janet Yellen press conference. Here’s what we might reasonably expect: no rate increase from the Fed. The May jobs report was an abysmal 38,000 new jobs; so there is just too much slack in the labor market right now.

Also, the meeting is one week ahead of the Brexit referendum in the UK, which could go either way. So, don’t count on the Fed surprising the markets on Wednesday. Then the question is whether the Fed will be dovish or hawkish about a July rate hike. They will probably try to strike a balance. There is still time to telegraph a hike, if conditions improve substantially.

The Supreme Court has struck down a Puerto Rican law that would have allowed the U.S. territory’s public utilities to restructure their debt. The Bankruptcy Code requires municipalities to seek their state’s permission before they can declare bankruptcy, but Puerto Rico does not count as a “State” for purposes of this provision. The island’s utilities are effectively locked out of the protections afforded to similar debtors in the 50 states.

To compensate for this problem, Puerto Rico enacted the Puerto Rico Corporation Debt Enforcement and Recovery Act, which effectively creates a special bankruptcy code under the island’s own law that fills the gap in federal law. Today the Supreme Court ruled that the new law won’t fly.  Puerto Rico cannot file for bankruptcy. The 5-2 ruling leaves management of the island’s fiscal crisis to Congress. The House of Representatives passed a bill last week to help Puerto Rico manage its debt crisis. The Senate has not yet acted.

The Puerto Rico case today concerns about $20 billion in debt owed by the island’s public utilities companies. Absent a quick decision by Congress (not likely), power, water, sewer, and transportation are at risk of being shut down or turned off. The lost services are likely to exacerbate Puerto Rico’s debt problems as more people flee the island, depressing Puerto Rico’s tax base even further, potentially forcing deeper cuts, which will lead even more residents to flee. It is a slow motion debt spiral and there is no relief in sight.

Oil futures moved lower today, after dropping 4.2% in the previous two sessions as drilling rigs targeting crude in the U.S. rose by three to 328 last week, a second weekly gain which is a record since last August. The data from Baker Hughes suggests companies that were sidelined by low oil prices are starting to produce at $50 a barrel, and there are certainly many companies that didn’t halt production but just slowed production at lower prices. So, the $50 to $60 per barrel price range seems like the sweet spot where production returns. Now we know where the ceiling is.

Microsoft is acquiring the professional social network LinkedIn Corp. for $26.2 billion. Microsoft will pay $196 per share in an all-cash transaction, inclusive of LinkedIn’s net cash, a 49.5 percent premium to LinkedIn’s closing price Friday. The deal is the biggest ever for Microsoft. LinkedIn has long been valued for having the potential viral growth of a social network with the recurring revenues of a software-as-a-service business.

Symantec is buying privately held cyber security company Blue Coat for $4.6 billion, with Blue Coat chief Greg Clark becoming the company’s CEO once the deal closes. Symantec, which makes the Norton antivirus software, has been undergoing a transformation over the past year, selling its data storage unit, Veritas, for $7.4 billion to gain the cash necessary for turning around its core security software business.

Apple started its annual Worldwide Developers Conference in San Francisco today. Here’s what came out of Day One:

They announced Apple Pay and Siri for desktop Macs; a new Apple Watch app called Breathe, which is designed to help people control their mood; a big update to the Remote app for the Apple TV; a major update to iOS, the app that runs on iPhones, including fun new messaging options, emoji features, and lock screen and notification menus; programmers can also build apps specifically for iMessage; iOS also has additional new artificial-intelligence features, like a keyboard that can predict what you want to type and updates to the Photos app that can use facial recognition to sort photos by person; the ability for developers to build their apps into Siri and Maps; a  revamp to Apple Music; and an app for controlling automated smart homes called “Home”.

 Most of these new features will hit Apple devices in the fall.

Walgreens has terminated its relationship with Theranos. A statement posted on Walgreens’ website says the pharmacy chain is shutting down all 40 Theranos’ wellness centers at Walgreens stores in Arizona. The decision by Walgreens is a huge blow to Theranos, as the wellness centers were the company’s primary source of revenue. Theranos still operates five centers (four in Arizona and one in California).

The company once touted its Edison device as a ground-breaking technology able to test blood from just a pinprick. In October, The Wall Street Journal reported that the company’s tests weren’t producing accurate results and that the company was trying to cover it up. The Justice Department and SEC are investigating Theranos and its founder Elizabeth Holmes. Now comes word that Jennifer Lawrence will portray Elizabeth Holmes in an upcoming movie. I can’t make this stuff up.

Wal-Mart will stop accepting Visa cards in Canadian stores after failing to agree on terms with the credit card provider – the latest in a years-long battle between the two companies over fees and the right to steer customers to certain types of payments. Visa is the largest payments network in Canada, with 50.6M cards in circulation and $232.6B worth of transactions last year.

The Libyan Investment Authority, the country’s sovereign wealth fund, will go head-to-head with Goldman Sachs in a London court today in a case accusing Goldman of bribery to influence fund executives to make risky trades that led to a $1.2 billion loss. Now you might imagine that a sovereign wealth fund takes its chances and they might win some investment bets and lose some, but apparently Goldman execs knew they were pitching complex and unsuitable derivatives.

In documents provided to the court by the LIA cited Goldman Sachs describing the sovereign wealth fund as having “zero-level” financial sophistication and one individual having “delivered a pitch on structured leveraged loans to someone who lives in the middle of the desert with his camels”. One Goldman executive is quoted as saying: “They are very unsophisticated and anyone could rape them.”

Beyond the question of suitability is the question of bribery, including travel and dining at five-star hotels, prostitutes in Dubai, while an internship at Goldman was also arranged for an official’s brother. The Libyans said the trades were made under “undue influence”. Goldman said the claims were without merit and it would fight them vigorously. And then there is the question of fees charged. While the Libyan Investment Authority was losing $1.2 billion, Goldman was collecting possibly as much as $350 million in fees.

Meanwhile, Goldman Sachs is under investigation by the Justice Department, Federal Reserve, SEC, and New York’s Department of Financial Services for its part in bond sales for 1MDB, Malaysia’s sovereign fund, which is at the center of several international investigations into alleged corruption and money laundering by public officials. Goldman arranged for about $6.5 billion in bond sales. Goldman allegedly took a very large commission in the neighborhood of $600 million.

Another problem is $3 billion Goldman raised via a bond issue; days after Goldman sent the proceeds into a Swiss bank account controlled by the fund, half of the money disappeared offshore, with almost $700 million apparently later ending up in the prime minister’s bank account. The case is being investigated in 10 countries. New York’s banking regulator has told Goldman to submit details of its internal review by Tuesday.

On June 2, AT&T launched a customer loyalty program called “AT&T thanks,” trademarking the name in connection with loyalty incentives. Citigroup, meanwhile, has been using the term “thankyou” (all one word) since 2004 to promote its own customer loyalty and rewards programs, and they trademarked it as well.

Citigroup is now suing AT&T for thanking its customers, claiming the phrase “AT&T thanks” is confusingly similar. Of course the words “thanks” and “thank you” are some of the most common words in the English language. Thankfully, Citigroup and AT&T do not own those words.

FINANCIAL REVIEW

ECB QE

Sinclair Noe — January 22, 2015

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

DOW + 259 = 17,813
SPX + 31 = 2063
NAS + 82 = 4750
10 YR YLD + .04 = 1.90%
OIL – 1.24 = 46.54
GOLD + 9.20 = 1303.10
SILV + .20 = 18.41

The European Central Bank has launched a quantitative easing program, which together with existing programs, will pump €60 billion per month into the Eurozone economies through the purchase of public and private securities, mainly government bonds. The QE program will run through September 2016 with a total price tag of €1 trillion (or $1.3 trillion dollars).

So, it’s a big money printing, QE party for the Eurozone, except for Greece. The central bank effectively shut Greece out of the bond buying until July, and only then if Greece passes a review of its current bailout program. That program is heavy on debt reduction and austerity. The country’s existing program of financial support expires at the end of February. The government will run out of money by June without further aid.

Greece holds elections on Sunday. The Syriza party is expected to win the election. Syriza would like to default on existing debt and scrap the current bailout program; essentially challenging the status quo of fiscal austerity policy. What happens if Syriza wins the election on Sunday? Well, they will probably claim that fiscal austerity has contributed to the despair and poverty of Greece and created a humanitarian crisis in the country, deserving of special assistance.

Greece is an extreme case, as its output has fallen 30 percent since 2008, but not a unique case, as peripheral Europe has suffered disproportionately in the post-global financial crisis era. Syriza has already called for a “European debt conference” to renegotiate the current loan debt. No telling what could happen with such a conference; they might find a sympathetic ear or not; they might repudiate their debt, or not. Greece is unlikely to exit the Eurozone, but the Eurozone might try to kick them out, or not. The real risk for the EU is not a Syriza win, nor a Greek exit, but that EU policy fails to evolve and adjust to the shifting political will of its citizens, particularly now that populist and anti-establishment parties are finding their political voice on national and EU levels of representation. It’s not just Greece that has suffered under austerity.

Is Euro QE bearish for the US? It is widely expected that Euro QE will push down the value of the euro currency, which means European exports would be cheaper for US buyers, and in turn could negatively impact US exports which are already feeling the sting of a strong dollar. Further, cheaper euro exports might have a deflationary or disinflationary impact on the US.

Or, is Euro QE bullish for US? When central banks print money, it inevitably sloshes outside of its own borders, and Britain and America are far more attractive homes for that cash right now than Greece or Italy. There are not many investment opportunities in Italy or Greece or Portugal right now. The US has the best prospects of any of the developed nations right now. The economy is expanding at a healthy rate and jobs are being created. The yield on US Treasuries is higher than the yield on sovereign bonds from Germany, France, or Italy – plus the dollar is moving higher. The S&P 500 moved to its highest level since December 30, and above its 50 day moving average. Wall Street loves free money and they don’t particularly care where it comes from.

And then the big question is will ECB QE work? Probably not. The ECB and the Euro Union have been really bad at handling fiscal and monetary policy. What has evolved in the EU region is a crisis between divergent economies, between stronger and weaker member states, roughly divided between core and periphery, resulting in a two-tiered European Union composed of creditors and debtors. Weaker countries are now locked-in to a subjugated relationship with the core. The core continues to demand more austerity, even though it has been a horrible failure, and the periphery is finally realizing that the rent is just too damn high. The current manifestation of this inequity sees Germany keeping a tight rein on ECB policy by pressing Greek debt service beyond the limits of social tolerance.

In 2011, the ECB raised interest rates; compare that to the US Fed starting another round of QE. And then they waited, probably for far too long, to do anything at all. Euro monetary and fiscal policy has been out of step and off base; treating debt and the possibility of inflation as the overwhelming risks, and whistling past the graveyard of deflation and unrelenting weakness and lack of demand.

Today, Societe Generale issued a report saying that the QE plan would likely only add about 0.2% to 0.8% to inflation and overall GDP over the next 2 years; for Eurozone inflation to get anywhere close to a 2% target, the QE would need to be 2 or 3 times bigger. Of course, if the ECB tried to expand the bond buying program to €3 trillion, they would run out of sovereign bonds to buy. And that gets back to the whole problem of QE in the first place; it pumps a whole lot of money into the wrong places. Rather than investing in things like infrastructure or new technology, it pumps money into the financial market casinos.

Of course, most problems seem to be resolved in the richness of time. Deflation and inflation ebb and flow, and eventually the Eurozone will do the right thing, or at least something that resembles the right thing. Expect a lot of volatility before that time. For now the European Central Bank’s QE scheme might be the best hope to return growth to the Eurozone.

Let’s check today’s economic data. US house prices rose a seasonally adjusted 0.8% in November, according to the Federal Housing Finance Agency house price index. October’s gain was revised to 0.4% from 0.6%. Compared to November 2013, prices were up 5.3%, or 4.5% below the April 2007 peak.

The number of people who sought new unemployment benefits in mid-January fell by 10,000, but the level of applicants remained above 300,000 for the third straight week for the first time since July in what’s likely a reflection of post-holiday layoffs. Initial jobless claims declined to 307,000 in the week ended Jan. 10.

The World Bank has issued a forecast on commodity prices; they say all 9 commodity price indices will be down, across the board. We already know that oil prices are down about 55%. The steep decline in oil and related energy products is driving down the cost to extract other commodities. Also a drop in biofuel production is weighing on agriculture prices.

ConvergEx Group polled 306 investment professionals asking, among other things, what oil price would show that a global recession was inevitable; in other words, how low can we go without hurting the economy. The most common answer was $30 a barrel, from 26% of respondents, with $35 a barrel being the second most common answer (16% of respondents). About 68% of the respondents said oil hasn’t reached a bottom yet, and only 20% think it already has. About 66% said current prices are a positive to the US economy.

The US Energy Information Administration said crude inventories rose by 10.1 million barrels on the week ended Jan. 16. Moreover, at 388 million barrels, US crude oil inventories are at the highest level for this time of the year in at least the last 80 years. The oversupply in oil markets is expected to persist through at least the first half of the year, and there’s no indication OPEC or producers outside the cartel would move to cut down on output. Several energy companies have announced capital-budget cuts for this year and some have announced layoffs due to the lower prices, but not significant production cutbacks, at least not yet.

In other news, after almost eight months of constant fighting between Ukrainian troops and Russian-backed separatists, the Ukrainian military lost control of the Donetsk Airport.

Fighters loyal to a renegade general in Libya just seized a Central Bank facility in the coastal city of Benghazi that houses a reported $100 billion in cash and gold.

The president of Yemen quit today, under pressure from rebels holding him captive in his home, severely complicating American efforts to combat al-Qaida’s powerful local franchise and raising fears that the Arab world’s poorest country will fracture into mini-states.

Meanwhile, about 2,500 mainly rich people have gone to Davos Switzerland to attend the World Economic Forum. A bunch of not so rich journalists have followed them. Maybe you’ve seen the pictures and interviews on CNBC or some other network. The interviews take place on a patio with snowy hills in the background; everyone is bundled up in big jackets; it looks cold. For some reason they couldn’t find an indoor location with a picture window.

One of the attendees is Jeff Greene; he’s a billionaire money manager from Florida, and he said, “America’s lifestyle expectations are far too high and need to be adjusted so we have less things and a smaller, better existence. We need to reinvent our whole system of life. Our economy is in deep trouble. We need to be honest with ourselves. We’ve had a realistic level of job destruction, and those jobs aren’t coming back.”

Greene flew to Davos on a private jet with his wife and kids and 2 nannies.

Time for today’s edition of “Banks Behaving Badly”. US and state regulators ordered Wells Fargo and JPMorgan Chase to collectively pay $35 million to settle charges that they participated in an illegal marketing kickback scheme with a now-defunct title company. The CFPB said the former title company, Genuine Title, would give the banks’ loan officers cash, marketing materials and other consumer information in exchange for business referrals; essentially the bank loan officers were trying to make a quick buck rather than treating customers fairly.

The Barclays dark pool drama continues after NY AG Eric Schneiderman accused the British bank of defying subpoenas seeking the testimony of two executives. Previously, the AG accused the bank of false representation and favoring high frequency traders over other investors in its dark pool. Barclays says Schneiderman is overreaching, but it will “continue to seek to cooperate” with the lawsuit.

Monday, July 28, 2014 - You Might Not Like the Solution

Financial Review with Sinclair Noe

DOW + 22 = 16,982
SPX + 0.57 = 1978
NAS – 4 = 4444
10 YR YLD + .02 = 2.47%
OIL - .52 = 101.57
GOLD – 4.80 = 1304.50
SILV - .18 = 20.67

This will be a busy week for economic reports. Today’s reports included the National Association of Realtors’ index of pending home sales for June; it dropped 1.1%. This index looks at contracts signed, and usually about 80% of signed contracts result in a sale within 2 months. The pending home sales index is up 9% from February, but it is down 7.3% compared to June a year ago. The blame can be placed at the usual suspects: tough credit requirements, rising home prices, and weak wage growth.

In a separate report, the market preliminary services Purchasing Managers Index for July was 61, unchanged for June; a reading above 50 indicates expansion. The services sector continued to add employees, though at a slower pace. The employment index fell from 56.1, the fastest rate on record, to 52.8 in July.

Wednesday morning brings the first estimate of second quarter gross domestic product. It is widely anticipated the economy grew at about a 3% pace in the second quarter, following a 2.9% contraction in the first quarter, largely blamed on bad winter weather combined with the expiration of long-term unemployment benefits and working through excess inventory accumulation. So, the first quarter and second quarter will kind of cancel each other out and result in a flat first half. If the economy can maintain 3% growth for the next couple of quarters, it will result in annualized growth a little below 2%. Wednesday’s GDP report will include revisions to output for the past 3 years.

A few hours after the GDP report, the Federal Reserve FOMC will wrap up a 2-day meeting on monetary policy, and issue a statement. However, the Fed will not update its economic forecast, nor will they hold a press conference until the September 17 FOMC meeting; so don’t expect any major changes to Fed policy this week. Still, Fed watchers will look for nuances to the Fed statement for any hint of policy changes, specifically when the Fed will start to raise interest rates.

Friday brings the non-farm payroll report for July. It is expected the economy added about 235,000 net new jobs in July; anything close is in the ballpark; anything under 200,000 or over 300,000 would shock the markets. The unemployment rate is expected to drop to 6%, but the unemployment rate has quite a few variables to consider, including the participation rate – the percentage of the population still looking for work or working. The participation rate has dropped from 65.8% in 2007 to 62.8% last month. This means that a lot of people have dropped out of the labor market. If some of those people re-enter the labor market and start looking for jobs, the unemployment rate could move higher, even if the economy adds a bunch of new jobs.

We kick off the week with a Merger Monday. Zillow will buy Trulia for $3.5 billion. Zillow and Trulia are No. 1 and 2 in the online real estate market, followed by No. 3 Move Inc. Zillow reported nearly 83 million monthly unique visitors in June. Trulia reported 54 million. The combination would create something like a monopoly in the online home hunting market.

Dollar Tree has agreed to buy Family Dollar Stores for $8.5 billion. The deal was pushed forward by investor Carl Icahn, who had built up a 9.5% stake in Family Dollar, and with the bump up in price from the merger, Icahn pockets a cool $150 million increase this weekend. The new Dollar Tree, or maybe Dollar Family Tree, would keep operating separate chains, but would have about 13,000 locations across the US and Canada, with 145,000 employees and about  $18 billion in revenue.

Tesla and Panasonic have reached a deal for Panasonic to invest in Tesla’s gigafactory. The initial Panasonic investment will be about $200 to $300 million, but could grow to $5 billion. The gigafactory would make battery packs for cars. Panasonic is the main supplier of battery cells for Tesla. Tesla has said it is evaluating sites in Arizona, California, Nevada, New Mexico, and Texas to place its massive battery factory. The electric car maker would break ground on the gigafactory later this year. Tesla is scheduled to report earnings on Thursday.

Lloyds Banking Group has agreed to pay $370 million to US and British regulators to resolve investigations into manipulating interest rates or Libor rate rigging. There were two main issues with Lloyds: rigging Libor, for which seven other institutions have already been punished; and for the first time, manipulating another rate, known as the repo rate. This repo rate was used to calculate the scale of the fees paid to the Bank of England for its special liquidity scheme (SLS), which was created in April 2008 to cheapen the prices at which money could be obtained by banks as the credit crisis unfolded; in other words, Lloyds manipulated their own bailout. The British lender is the latest big bank to admit criminal wrongdoing, and they entered into a deferred prosecution agreement. Under that agreement, Lloyds will avoid criminal charges if it stays out of trouble for the next two years.

Plenty of banks have entered into deferred prosecution agreements but I have never heard of one that violated a deferred prosecution agreement; and it isn’t because the banksters keep their nose clean; it’s because the regulators never apply the DPA.

Taking a look at geopolitical hotspots. Israel had agreed to a 12-hour ceasefire, but Hamas continued to fire rockets into Israel, so the ceasefire is off. Palestinian fighters launched a cross-border raid. Israeli Prime Minister Netanyahu is now warning of a protracted war in Gaza.

The Ukrainian government said today its troops had taken more territory from the rebels and were moving towards the site of the Malaysian airlines crash, which international investigators said they could not reach because of the fighting. Meanwhile, European leaders and the US agreed to impose wider sanctions on Russia's financial, defense and energy sectors.

Separately, an international arbitration court at The Hague ruled that Russia must pay $50 billion for expropriating the assets of Yukos, the former oil giant. Finding that Russian authorities had subjected Yukos to politically motivated attacks, the panel made an award to a group of former Yukos shareholders that equates to more than half the entire fund Moscow has set aside to cover budget holes. The ruling hit back at decisions made under President Vladimir Putin's rule during his first term as president to nationalize Yukos and jail Mikhail Khodorkovsky, who had criticized him. The hardline approach was seen by Kremlin critics at the time as a stark message to oligarchs to stay out of politics. Khodorkovsky, who used to be Russia's richest man, was arrested at gunpoint in 2003 and convicted of theft and tax evasion in 2005. Yukos, once worth $40 billion, was broken up and nationalized, with most assets handed to Rosneft, an energy company run by an ally of Putin.

And don’t forget Libya. Two rival brigades of former rebels fighting for control of Tripoli International Airport have been throwing bombs at each other’s positions; then somebody bombed a huge nearby fuel depot, and that is now burning out of control. The conflict has forced Tripoli International Airport to shut down. Airliners were reduced to smoldering hulks on the tarmac and the aviation control center was knocked out. Libya's government has asked for international help to try to contain the disaster at the fuel depot on the airport road, close to other tanks holding gas and diesel. With Libyan security deteriorating, the United States evacuated its embassy in Tripoli on Saturday; British, Italian, Philippine, and Australian embassies have followed suit.

The typical American household has been losing ground. According to a new study by the Russell Sage Foundation the inflation-adjusted net worth for the typical household was $87,992 in 2003. Ten years later, it was only $56,335, or a 36% decline. Even as the average American household’s wealth declined, the net worth of wealthy households increased substantially. The average wealth of the American household in the 95th percentile was $1,192,639 in 2003, and $1,364,834 ten years later, an increase of 14%.

The authors of the study said the reason for the disparity was that affluent households were able to ride the success of the surging stock market after the 2008 crash, while middle class families were severely impacted by the decreasing value of their homes. Wealth declined for everyone in the aftermath of the Great Recession, but better-off families were able to rebound. Households at the bottom of the wealth distribution, on the other hand, lost the largest share of their wealth.

So, as we look at the economic news this week, the GDP estimate and the jobs report, it’s a little hard to imagine sustainable economic growth without a strong middle class. The lesson of the past 10 years, and we might even say the past 30 years, is that pumping up the upper echelons of the economy and hoping it trickles down to the rest, doesn’t work. The middle class gets clobbered, small businesses are being knocked out of the competition; in the early 1980s small business startups accounted for 50% of all business growth, but that dropped to 35% by 2010, and more small businesses are closing than are being created; and yes, that equates to fewer jobs being created by small businesses.

Back in 1929, the top 10% earned nearly 50% of the income. Today, income inequality is even wider. In 2012, the top 10% surpassed 50% of the total US income for the first time, and the problem has only grown in the past 2 years. Wealth disparity alarms often coincide with major financial peaks, such as 1929, 1999, 2007, and today; that’s because wealth disparity and income inequality are not sustainable. And there are only 2 solutions: the first is to grow the middle class, encourage small business, lift people out of long term unemployment; the second solution, is that the wealth distribution problem tends to be solved by falling markets.