Financial Review

Go Figure

Sinclair Noe — May 24, 2016

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DOW + 213 = 17,706
SPX + 28 = 2076
NAS + 95 = 4861
10 Y + .02 = 1.86%
OIL + 1.02 = 49.10
GOLD – 21.30 = 1227.90

Yesterday, Wall Street couldn’t figure out which way to go; today stocks rallied for their best day since March 11. The S&P 500 rallied back above its 50 day moving average; we’ll have to see if it can hold on.

What was behind the rally? Who knows? Jeffrey Gundlach, CEO of DoubleLine Capital, said the rally feels like a short squeeze and characterized U.S. stocks as “dead money.” Gundlach says the market is not healthy and earnings have come in weak. On the Federal Reserve, Gundlach says the odds of a rate hike in June are 50-50, and it is Janet Yellen’s opinion that matters the most.

Expectations are rising for a rate hike next month after Philly Fed President Patrick Harker reinforced the central bank’s message that it’s getting ready to act now that the U.S. economy has recovered from a weak winter. Harker says he “can easily see the possibility of two or three rate hikes over the remainder of the year,” he told an audience in Philadelphia. “If the data comes in… I think a June rate increase is appropriate.” Markets are also awaiting this week’s main event – a speech from Janet Yellen on Friday.

The Census Bureau reports New Home Sales in April increased to a seasonally adjusted annual rate of 619,000 – an 8 year high; that’s an increase of 16.6% from March, and a 23.8% increase from April 2015. The median price also jumped, rising 9.7% from 12 months ago to $321,100. The big increase in sales took supply sharply lower. At the current pace, it would take 4.7 months to exhaust all inventory.

French investigators raided Google’s Paris headquarters this morning as part of a tax evasion inquiry. Google has based its regional headquarters in Dublin where corporate tax rates are lower than elsewhere in Europe. The company, now part of Alphabet, has been under pressure in recent years over its practice of channeling most profits from European clients through Ireland to Bermuda, where it pays no tax on them.

The raid was part of an investigation to determine if Google Ireland Ltd has a permanent base in France and if, by not declaring parts of its activities carried out in France, it failed its fiscal obligations, including on corporate tax and value added tax.  The raid was carried out as part of an investigation into aggravated tax fraud and the organized laundering of the proceeds of tax fraud. If Google is found guilty, it could face fines up to 10 million euros or a fine of half of the value of the laundered amount involved.

Separately, attorneys for Oracle and Google presented their closing arguments in a lawsuit over Google’s use of Java APIs owned by Oracle in Android. Oracle accused Google of stealing a collection of APIs, while Google suggested that Android transformed the smartphone market and Oracle sued out of desperation when its own smartphone attempts failed to launch. If the jury finds that Google did indeed steal code from Oracle, it could disturb the way engineers at small startups build their products and expose them to litigation from major companies whose programming languages they use.

By the way, API refers to application program interface, which is the set of tools for building software applications. Google has argued that Sun Microsystems, which created Java, always intended for its programming language and accompanying APIs to be used freely. Oracle purchased Sun in 2010 and claimed that Sun executives believed Google had infringed their intellectual property and simply hadn’t brought legal action.

An appeals court has already decided that the Java APIs in question are copyrightable. This case, which has stretched over two weeks in a district court in San Francisco, aims to determine whether Google’s implementation of the APIs can be considered fair use. Now we wait for the jury.

The head of SWIFT will present a plan today to fight back against a wave of recent cyber thefts at members of the world’s top payments network. The speech follows three high profile hacks since the beginning of last year: an $81 million heist at the Bangladesh central bank, a $12 million theft from Banco del Austro in Ecuador, and an attack on a Vietnamese lender that was unsuccessful.

Deutsche Bank was downgraded. Moody’s cut Deutsche Bank’s credit rating to “Baa2,” down from “Baa1.” The credit-rating agency said the downgrade was a result of the bank’s difficulty in stabilizing itself amid a world of low growth and low interest rates. Moody’s said, “Deutsche Bank’s performance over the last several quarters has been weak, and substantial operating headwinds, including continuing low interest rates and macroeconomic uncertainty, will challenge the firm.”

Monsanto has rejected Bayer’s $62 billion takeover offer as too low while saying it’s still open to further deal talks. Bayer will likely come back with a higher bid. Buying Monsanto would create the world’s biggest supplier of farm chemicals and seeds, so even if they can agree on a price, they face regulatory scrutiny and will likely have a hard time making the case that this deal will make for a more competitive market. The consolidation of two big industry players may also limit farmer choice and bargaining power, with increasing seed prices expected to be passed on to the grocery aisles.

There is also a question about biodiversity and the potential risks to food safety. As Monsanto rejected the Bayer bid, they left the door open, saying they “believe in the substantial benefits an integrated strategy could provide to growers and broader society, and we have long respected Bayer’s business.”

ExxonMobil will face a revolt from some of its biggest and most influential shareholders on Wednesday as they fight to force the world’s largest oil company to open up about the effect of climate change on its future profits. Investors, including pension funds of the governments of Norway, Canada, California, New York, and even the Church of England are expected to vote in favor of a resolution calling on Exxon to “publish an annual assessment of long term portfolio impacts of public climate change policies.” The resolution is also supported by ISS and Glass Lewis, the world’s leading proxy advice services which advise institutional investors how to vote on such issues.

The resolution states that the company “should analyze the impacts on ExxonMobil’s oil and gas reserves and resources under a scenario in which reduction in demand results from carbon restrictions and related rules or commitments adopted by governments consistent with the globally agreed upon 2-degree target”. ExxonMobil has tried to block the resolution.

Exxon is currently under investigation by New York’s attorney general over claims that it lied to the public and shareholders about the risks of climate change. It follows reports that internal company documents from the 1980s and 90s show Exxon’s in-house scientists were warning company executives about the dangers of climate change, while Exxon was publicly claiming that climate science was not proven.

The strongest El Nino in nearly 20 years has ended, according to the Australian Bureau of Meteorology, as sea surface temperatures across the Pacific Ocean cool to their neutral levels. El Niño led to damaged crop production (such as wheat, palm oil and rice) due to scorching weather across Asia and east Africa, and heavy rains and floods in South America. A majority of climate models suggest that the climate pattern La Niña will develop in the wake of El Niño, according to the Bureau of Meteorology. La Niña—a climate phenomenon characterized by significantly below-average temperatures in the Equatorial Pacific—brings dry and warm weather to the southern U.S. and Mexico, and wet weather throughout much of the Pacific.

Mandatory evacuation orders were lifted yesterday for the last of Alberta’s oil sands production sites endangered by wildfires, starting the process of inspections by forestry and health officials to make sure the facilities are safe for workers to return. Since late Friday, Alberta has removed orders that had prevented all but critical staff from remaining on sites.

Deere & Co. is tightening conditions for renting equipment as a slump in farming incomes has led customers to prefer leasing rather than buying its agricultural machinery. In the face of lower crop prices, farmers in the U.S., South America and elsewhere have cut back sharply on equipment spending despite planting big crops.

For nine straight quarters, the slump has eaten into Deere’s sales and profits, and it is now bleeding into the company’s customer-finance arm. Leases now account for about a quarter of Deere’s customer-financing deals, compared with about 15% in the past. But Deere’s finance unit and dealers have been burdened with used equipment as customers walk away when short-term leases expire. That has forced the company to tighten the terms for renting equipment that has rapidly depreciated in value.

Deere took a write-down on used equipment in the latest quarter. It is restructuring leases to share more of the risk of further declines with dealers and new leases will likely cost farmers more as the company lowers residual equipment values at the end of the leases to reflect the depressed prices for used equipment.

Toyota is recalling almost 1.6 million additional American vehicles for front passenger side Takata air bag inflators that could rupture. Toyota said the new recall includes some but not all Corolla, Matrix, Yaris, 4Runner, Sienna, Scion xB, Lexus ES, GX and IS vehicles built between 2006 and 2011. Other reports from 17 automakers recalling Takata’s faulty devices are also due this week.

Financial Review

Nice Little Planet

Sinclair Noe — November 18, 2015

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

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DOW + 247 = 17,737
SPX + 33 = 2083
NAS + 89 = 5075
10 YR YLD + .01 = 2.27%
OIL + .03 = 40.70
GOLD + .20 = 1071.00
SILV – .01 = 14.28

Stocks rallied the most in four weeks, while Treasuries pared losses. The dollar traded near a seven-month high against the euro. Oil was little changed near a two-month low after dropping below $40 a barrel in New York for the first time since August as producers’ output swelled global inventories to a record. U.S. supplies climbed to the highest for the season in more than 80 years.

A predawn police raid on an apartment building in a Paris suburb led to the deaths of two extremists, including the alleged ringleader of last weekend’s attacks – although there is no official confirmation; the raid also resulted in seven arrests. Police also found plans in the apartment for more attacks on Paris. French President Hollande renewed his case for an extension to a state of emergency decreed after the attacks and for changes to the constitution that he said would make France safer. Meanwhile, a French aircraft carrier headed to the eastern Mediterranean to intensify the bombardment of ISIS positions in Syria.

Hacking collective Anonymous accessed and took down more than 5,500 social media accounts associated with ISIS. As part of its efforts, Anonymous published a guide for supporters of how to identify and clean out ISIS-linked accounts.

While we have all been following the news about the attacks in Paris it is important to remember that ISIS is not going to win; they will not establish a caliphate in Paris, nor will they take over New York, or LA, or Kansas City. The point is not to minimize the horror. It is, instead, to emphasize that the biggest danger terrorism poses to our society comes not from the direct harm inflicted, but from the wrong-headed responses it can inspire. The goal of terrorists is to inspire terror, because that’s all they’re capable of. And the most important thing we can do in response is to refuse to give in to fear.

The Federal Reserve published the minutes of the last FOMC meeting and earlier today, 3 more Fed policymakers said they support a rate hike in December.  Atlanta Fed President Dennis Lockhart said Wednesday he is comfortable moving rates higher “soon”; Cleveland Fed President Loretta Mester repeated that she thinks the economy can handle a small rate hike; Richmond Fed President Jeffrey Lacker, remember he voted for raising rates in September and October, said he has his “fingers crossed” that conditions will finally be right for a rates liftoff in December.” And that is pretty much what the Fed minutes revealed – the Fed is ready to raise interest rates at the next FOMC meeting on December 16.

Sovereign debt spreads are widening as investors look to Fed tightening and ECB easing in December. The extra yield on two-year Treasury notes over their G7 peers has widened to 76 basis points, the most since 2007. In the euro-area, meanwhile, Germany this morning sold two-year notes at a record-low yield of minus 0.38 percent.

New home construction declined by 11% in October to an annual rate of 1.06 million, marking the lowest level since the early spring.  Housing starts in September were also revised down to a 1.19 million annual rate from 1.21 million. Permits for single-family homes, which account for about three-quarters of the housing market, rose 2.4% in October to an annual rate of 711,000. That’s the highest level since the end of 2007. The decrease in starts last month was primarily due to a 25.1 percent slump in work on multifamily homes.

BlackRock, the world’s largest asset manager, is winding down a global macro hedge fund after losses and investor redemptions eroded assets. BlackRock Global Ascent lost 9.4 percent this year, according to an October investor document, on track for its worst year since inception in 2003. The fund, which had $4.6 billion in assets just two years ago, has shrunk to less than $1 billion as of November 1.

Members of the Organization for Economic Cooperation and Development have agreed to scale back public financing for coal-fired power plants. The policy would cut off financing for 85 percent of coal projects going forward. The new policy, which will take effect in a year, would provide subsidies only for so-called “ultra-supercritical” coal-fired power plants — those built to the most stringent environmental standards.

Square is due to price its NYSE IPO later today in an offering that’s being closely watched for what it means for the potential listings of other “unicorn” tech companies – those worth over $1 billion – such as Airbnb and Dropbox. Amid a difficult market for tech IPOs, Square set its price range at $11-13 a share, valuing the company at up to $4.2 billion, or 30% below its worth in a private fundraising round a year ago. Trading in the firm’s stock is scheduled to start on Thursday.

Canadian Pacific has laid out its proposal to acquire Norfolk Southern. Norfolk Southern said will “carefully evaluate” Canadian Pacific Railway’s $28.4 billion acquisition offer, but has described the bid as “low-premium” and warned that it would face significant regulatory obstacles. Canadian Pacific is offering around $94.94 in cash and stock, or a 9% premium to Norfolk Southern’s closing price of $87 yesterday. The combined rail network would be worth about $47 billion.

Air Liquide has agreed to buy Airgas in the largest takeover in the industrial-gases sector in nine years. Air Liquide is offering $143 a share for an enterprise value of $13.4 billion. The deal will make Air Liquide the world’s biggest supplier of industrial gases and give it a dominant position in the U.S.

The Justice Department has unconditionally approved Schlumberger’s $12.7 billion proposed purchase of Cameron International, putting the companies on track to close the deal early next year.

Federal prosecutors are actively pursuing criminal cases against executives from Royal Bank of Scotland and JPMorgan Chase for allegedly selling flawed mortgage securities. The Wall Street Journal reports investigators are working to establish that the bankers ignored warnings from associates that they were packaging too many shaky mortgages into investment offerings and are weighing whether they can prove that constituted fraud.

At RBS, prosecutors are scrutinizing a $2.2 billion deal that repackaged home mortgages into bonds in 2007. In a 2013 civil settlement with RBS, the Securities and Exchange Commission described the lead banker on that deal, whom it didn’t name, as trying to push it through over concerns of the diligence department.

The JPMorgan probe has long been stalled because officials have been divided over whether they have sufficient evidence to charge anyone with a crime but it has recently picked up steam. While major banks have had to pay billions of dollars in settlements over the financial crisis, there has been a notable lack of criminal convictions.

So, after about 8 years, the Department of Justice isn’t actually announcing indictments, but they are picking up steam.

New York Attorney General Eric Schneiderman has subpoenaed Yahoo in his investigation into the multibillion-dollar daily fantasy sports industry. Yesterday, Schneiderman filed for a temporary injunction to shut down industry leaders DraftKings and FanDuel, arguing that they facilitate illegal gambling.

Target posted third-quarter results that matched analysts’ estimates and raised the low end of its annual profit forecast, citing strength in health products and children’s apparel.

Lowe’s, the second-largest home-improvement chain, reported a 5% rise in quarterly sales, thanks to a robust housing recovery. Net income climbed to $736 million, or 80 cents a share, from $585 million, or 59 cents a share.

Reuters has published an excellent examination of stock buybacks and the results are pretty incredible. In fiscal 2014, among the 3,297 US companies examined, spending on buybacks and dividends surpassed the companies’ combined net income. In the most recent reporting year, share purchases reached a record $520 billion. Throw in the most recent year’s $365 billion in dividends, and the total amount returned to shareholders reaches $885 billion, more than the companies’ combined net income of $847 billion.

The phenomenon is the result of several converging forces: pressure from activist shareholders; executive compensation programs that tie pay to per-share earnings and share prices that buybacks can boost; increased global competition; and fear of making long-term bets on products and services that may not pay off.

Because buybacks increase demand and reduce supply for a company’s shares, they tend to increase the share price, at least in the short-term. By decreasing the number of shares outstanding, they also increase earnings per share, even when total net income is flat. If those buybacks come at the expense of innovation, short-term gains in shareholder wealth could harm long-term competitiveness.

Share repurchases have helped the stock market climb to records from the depths of the financial crisis, but many argue that the records have come at the expense of workers by cutting into the capital spending that supports long-term growth – and jobs. Further, because most most U.S. stock is held by the wealthiest Americans, workers haven’t benefited equally from rising share prices. The U.S. economy is now twice as rich in real terms as it was 40 years ago, but most people feel poorer.

This has been by far the hottest year on record. Last month was the hottest October in 136 years of data, making it the eighth record-breaking month so far in this record-breaking year. This week the El Nino weather pattern started setting records of its own, with some of the warmest weekly temperatures ever seen across large parts of the equatorial Pacific.

Last month wasn’t just the hottest October on record, it was the biggest departure from normal for any month in the past 136 years, according to data from the National Oceanic and Atmospheric Administration. Nice little planet you have here. Shame if something happened to it.

Financial Review

Fired Up

Sinclair Noe — August 26, 2015

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DOW + 619 = 16,285
SPX + 72 = 1940
NAS + 191 = 4697
10 YR YLD + .04 = 2.17%
OIL – .44 = 38.87
GOLD – 15.00 = 1126.40
SILV – .58 = 14.21

Stocks finally snapped a week-long string of severe declines. The gain was the third-highest point gain in history for the Dow Jones Industrials but, on a percentage basis, the 4% gain was not even in the top 20 historically. The Dow opened with a 443-point surge, pulled back and then rallied again to finish near its highs of the day, unlike yesterday when stocks surrendered their entire early gains and turned negative in the final hour of trade.

In China, the Shanghai Composite Index fell 1.3%, despite a new $22 billion injection from Beijing to shore up growth. Chinese equities have now extended their steepest five-day drop since 1996, losing half their value, or $5 trillion, since mid-June. Shares elsewhere in Asia ended mixed; European stocks were deep in the red.

We started with some strong economic data. Durable-goods orders rose a seasonally adjusted 2% last month after a 4.1% gain in June. Bookings for new cars and trucks and military hardware led the way. Orders rose 4% for autos and 22.3% for large defense goods such as fighter jets, missiles and tanks. Orders for aircraft dropped 6%. Durable goods orders minus transportation rose 0.6%. Business investment outside the volatile defense and transportation industries rose for the second straight month. So-called core orders climbed 2.2%, the biggest gain since June 2014.

The Federal Reserve’s summer symposium in Jackson Hole, Wyo., often has provided a stage for central bank officials to signal an imminent policy change. Along with several other FOMC members, Fed Chair Janet Yellen is planning to skip the annual gathering of monetary policymakers in Jackson Hole this year, marking the second time in three years the Fed’s top official won’t be traveling to Wyoming. Yellen’s predecessor, Ben Bernanke, skipped the 2013 gathering.

The topic for the Aug. 27-29 conference will be inflation dynamics and monetary policy. In reality everyone will be looking for a hint about a possible rate hike in September, and even though Yellen isn’t speaking, Vice-Chairman Stanley Fischer will speak on Saturday.  Fischer is considered more hawkish than Yellen, so his statements or his silence will telegraph a message.

The truth is that a small interest rate hike doesn’t really change the economy in a major way for most Americans. It isn’t going to make much difference to mortgage rates, which are tied more to long-term bond yields. Nor will it mean much for rates on credit cards, auto loans and other consumer loans.

William Dudley, president of the Federal Reserve Bank of New York, told reporters that “from my perspective at this moment” raising rates now “seems less compelling to me than it was a few weeks ago.” But he quickly noted that that “could become more compelling by the time of the meeting as we get additional information on how the U.S. economy is performing.”

Dudley said economic reports this week “have actually been pretty positive.  Consumer confidence showed a good increase, new-home sales were solid, the durable-goods orders report was quite strong. But you also have to look at all the other things that potentially could affect the economic outlook.” That includes China and the markets’ volatility; “international developments and financial-market developments do have relevance because they can impinge and affect the economic outlook.”

South Korea is willing to discuss North Korea’s demand for an end to sanctions, and is preparing a new channel of dialogue with the North, just a day after the rivals struck a landmark pact that defused a standoff between their forces. Tuesday’s accord saw North Korea express regret over a landmine incident that wounded South Korean soldiers and the South agree to stop broadcasting anti-North propaganda over border loudspeakers. South Korea’s KOSPI Index closed up 2.6% on the news.

In the latest escalation of Yemen’s five-month war, Houthi rebels said they’ve fired a Scud missile into Saudi Arabia while a Saudi official acknowledged sending forces into northern Yemen in a bid to stop border attacks. A Saudi-led coalition recently stepped up its ground offensive after months of airstrikes against the Houthis.

Schlumberger is acquiring oilfield equipment maker Cameron International in a stock and cash transaction valued at $14.8 billion. Cameron shareholders will receive 0.71 shares of Schlumberger stock and a cash payment of $14.44 for each share held. The deal represents a 56% premium to Cameron’s closing stock price on Tuesday.

Despite Schlumberger’s new announcement, the recent market selloff and plunging oil prices are increasing concerns that some of this year’s largest takeover deals are at risk of falling apart, including Shell’s $70 billion offer for BG Group and Halliburton’s $35 billion bid for Baker Hughes. Over the past week, the gap between the agreed price of several takeovers and the market price of the target companies’ shares has widened, which usually is interpreted as a signal of declining confidence that the transaction will be completed as planned.

Microsoft’s Windows 10 has reached more than 75 million devices in almost a month since the operating system was released. Microsoft has promised shareholders that Windows 10 would reach 1 billion users within three years, which would be its fastest adoption rate ever. If you have installed Windows 10 you may have noticed a nasty tendency for notifications to upgrade Office. It’s an advertisement really, and it’s really annoying. And no, you do not have to upgrade. The culprit is the new Get Office app that comes preinstalled on Windows 10. Simply open the Start menu’s All Apps list, right-click on the Get Office app, and select Uninstall. You’ll be asked to confirm the deletion; do so. Boom. Done.

If all this market volatility has you feeling a bit overwhelmed, you can head over to gaming.youtube.com. That’s the new gaming site on YouTube. Announced in July, the streaming service will rival Amazon-owned Twitch, boasting more than 25,000 games and channels from various publishers and YouTube creators. The gaming site launches sometime today.

Amazon will begin delivering wine, beer and spirits to US customers for the first time through its Prime Now program; this follows a trial program in the Seattle area. The move will continue testing the online alcohol delivery market, which is estimated to increase to $1.4 billion in sales by 2020. Amazon already provides quick alcohol delivery in London and offers wine sales across the US.

Fiat Chrysler Chief Sergio Marchionne presented plans for new products to a gathering of auto dealers. The new lineup will include a plug-in minivan, an updated Dodge Charger and new Jeep SUVs with improved gas mileage.

Toyota is beginning trial production of cars at the China plants that were shut following the recent explosions in Tianjin, the first step in reopening the facilities following a two-week closure. The blasts killed at least 123 people and injured 67 Toyota workers living in the area.

The US Army and Marine Corps have chosen Oshkosh Defense for a $6.7 billion contract to start light production of a replacement for the aging Humvee. Oshkosh was considered the favorite for the pact vs. AM General, the privately held maker of the original Humvee, and Lockheed Martin, which has less experience building military ground transport. The contract covers 17,000 Joint Light Tactical Vehicles.

The City of Phoenix held an election yesterday. Phoenix Mayor Greg Stanton was re-elected along with four incumbent council members; all five ballot measures passed, including Prop 104, also known as the light rail expansion, which will impose a 0.7% sales tax until 2050 to fund 42 new miles of light-rail tracks, more bus routes, and street improvement.

Wildfires continue to ravage the West. California has been suffering through a long-running drought, now the state is on fire; there are 42 active fires in California; the largest scorched over 134,000 acres. Oregon has 19 ongoing wildfires; the largest is more than 105,000 acres and only 10% contained. Washington State has 27 active fires; the largest is over 240,000 acres and only 10% contained. At some points the Columbia River is about one-mile wide, and that has not been enough to serve as a firebreak; embers lifted on 40-mile-per-hour gusts of wind have jumped the river to ignite dried grass on the opposite shore.

Firefighters have been brought in from Canada, Australia, and New Zealand; National Guard troops have received quicky training and are sent out to battle blazes; active duty Army troops have been deployed; and 4,000 prisoners are being used in California; 32,000 firefighters in all – and it still isn’t enough. Three firefighters died fighting in Washington, thousands of residents have been displaced, hundreds of buildings have burned, and more than 7.5 million acres have burned nationwide this season.

Accounting for insurance costs, damages to businesses and infrastructure, this year’s fires will likely cost taxpayers $25 billion—and that’s if a whole town or city doesn’t burn, which is a distinct possibility. Some of the costs are hard to assess. Seattle City Light shut down power generation at 3 dams on the Skagit River because transmission lines were damaged. The utility is losing $100,000 in revenue each day that the lines are down. The smoke from wildfires creates a health hazard, and it is not confined to the immediate area. Hospitals across California are seeing an uptick in admissions for respiratory-related complaints, particularly asthma, which is exacerbated by exposure to smoke.

Beyond the fires, the southwest faces the prospect of El Niño in the next few months. A Niño generally produces heavy rains and higher temperatures. The rains will help ease drought conditions in California but not much; the higher temperatures mean there is a slim chance for snowpack, and snowpack is more important than rain. If this El Niño lives up to its potential, this thing can bring a lot of floods, and in areas burned bare by fire we can look for mudslides and mayhem.

Financial Review

Into the Ditch

Sinclair Noe — July 21, 2015

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

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DOW -181 = 17,919
SPX – 9 = 2119
NAS -10 = 5208
10 YR YLD – 3 = 2.34%
OIL + .21 = 50.36
GOLD + 3.30 = 1102.00
SILV + .18 = 14.95

Earnings reporting season continues with about one-quarter of S&P 500 companies scheduled to report this week. Among the gainers: Harley Davidson posted second quarter earnings and revenue that topped expectations, Travelers posted a second-quarter profit that was better than expected, due to fewer losses from catastrophes. Among the decliners: United Technologies issued a profit warning and announced that its aerospace and elevator units will be below expectations due to a strong dollar and China’s economic slump, IBM’s second quarter earnings fell 17% and revenue dropped 13%, Verizon posted better than expected earnings but revenue missed estimates, Lexmark swung to a loss and announced it will cut 500 jobs.

The big news in earnings came from some of the biggest names:
Apple and Microsoft. Apple sold 47.5 million iPhones, a 35 percent gain, in the period that ended in June. Analysts had anticipated 48.8 million shipments. Net income in the fiscal third quarter, which ended in June, was $10.7 billion, or $1.85 a share, while revenue rose 33 percent to $49.6 billion. Analysts on average had forecast third-quarter profit of $1.81 a share on sales of $49.4 billion. The gross margin was 39.7 percent, topping the company’s outlook for 38.5 percent to 39.5 percent. Apple shares down about 8 percent in after-hours trading. It probably won’t make a difference for Apple, but I hear Lindsey Graham is in the market for a new phone.

Even before the earnings report, Apple was having problems. Users experienced a problem with multiple iCloud services, including Apple Music, Beats 1 and the App Store, where outages knocked out service for up to 4 hours earlier today. Noe report on the cause of the outage.

Every day we hear about a new cyber-attack but this may be one of the scariest stories yet. Security experts are urging owners of Fiat Chrysler vehicles to update their onboard software after hackers took control of a Jeep over the internet and disabled the engine and brakes and crashed it into a ditch. A security hole in FCA’s Uconnect internet-enabled software allows hackers to remotely access the car’s systems and take control. Unlike some other cyberattacks on cars where only the entertainment system is vulnerable, the Uconnect hack affects driving systems from the GPS and windscreen wipers to the steering, brakes and engine control. The Uconnect system is installed in hundreds of thousands of cars made by the FCA group since late 2013.

Microsoft reported its largest-ever quarterly net loss, due a $7.5 billion writedown after the purchase of Nokia’s handset unit. Excluding the Nokia charge and costs related to job cuts, Microsoft said profit in the fourth quarter, which ended June 30, was 62 cents a share. Sales were $22.2 billion. Analysts on average projected profit of 58 cents on sales of $22 billion.

Yahoo reported second quarter revenue, excluding sales shared with partner websites, was little changed to $1.04 billion in the second quarter, the company said Tuesday in a statement. Profit, excluding items such as stock-based compensation, was 16 cents a share. Analysts projected, on average, sales of $1.03 billion and profit of 19 cents. And then Yahoo lowered third quarter revenue guidance.

The Federal Reserve has finalized the capital surcharge amounts for the nation’s largest financial firms, or systemically important financial institutions (SIFIs). For example, the surcharges range from 4.5% for JPMorgan to 1% for BNY Mellon. Taken together, the group’s capital cushion will be more than $200 billion larger than if the surcharge was not implemented. Note: The Fed offered a reprieve to GE Capital from more-intensive regulation, after the company promised to cut its assets by more than half.

The financial industry worries that when the Fed’s tightening plans take hold, a sell-off in the massive U.S. bond market could ensue, and be exacerbated by a lack of bank buyers willing to jump in. Banks, including primary dealers who act as market makers for US Treasuries, have cut their bond inventories in the past few years in response to tougher capital requirements, reducing a liquidity buffer for the fixed income market.

Private and public comments by Fed officials show that they do not share Wall Street’s degree of concern about liquidity, and do not believe that capital rules are solely to blame for the bond market’s growing tendency to seize up. Effectively, regulators are telling the industry it is the responsibility of banks, funds and other market players to protect themselves. The Fed’s assertive stance is setting the stage for more volatile fixed income markets, where liquidity droughts could be the price of doing business in bond markets. The message – in public addresses, reports to Congress, and even an investigation into market turmoil last October – is that less liquidity is a necessary consequence of regulatory reform and fitting for an economy that is getting ready for tighter monetary policy.

The Dodd Frank Act is 5 years old. Half a decade later, the debate around the law continues. Regulators are pushing to finalize still lingering projects. New government powers have yet to be tested. And lawmakers in both parties continue to question whether the law’s central goal, ensuring “too big to fail” is a thing of the past, was actually achieved. There are undoubtedly major parts of Dodd-Frank that are fully up and running. Perhaps most notable is the Consumer Financial Protection Bureau. Elsewhere, regulators have put in place new checks on financial derivatives, begun implementing new rules in the mortgage market and taken steps aimed at predicting and preventing broad new threats to the overall financial system. It is estimated that just 63 percent of Dodd-Frank rules have been finalized, with 21 percent of the required rules not yet even proposed. And the nation’s biggest banks still need to prove to regulators that they can safely be wound down in bankruptcy should disaster hit.

Citigroup’s consumer bank has been ordered to pay $700 million in relief to borrowers for illegal credit card practices. The Consumer Financial Protection Bureau said that about 7 million customer accounts were affected by Citibank’s “deceptive marketing” practices, which included misrepresenting costs and fees and charging customers for services they did not receive. Citibank told telemarketers to entice customers with a “free 30-day trial period,” but the bank would sometimes charge during the first 30 days anyway. Or customers were left with the impression that the “free” service would go away after 30 days if they did nothing. Instead, after a month, they started being charged regular fees. Citi charged some customers for services it wasn’t providing, such as credit monitoring. And while Citi was caught, that doesn’t mean they are the only company pulling these shenanigans on customers.

The Securities and Exchange Commission has opened an investigation into the companies with business links to FIFA. Reuters said that Nike is probably one of the companies being scrutinized by the SEC even though it has not been named or charged with any wrongdoing. That’s because the indictment of FIFA officials by U.S. prosecutors described a “$160 million, 10-year deal signed by “Sportswear Company A” that “matched exactly” the details of Nike’s 1996 deal in Brazil to become the footwear and apparel supplier and sponsor of the Brazilian national soccer team.

New York Department of Financial Services officials have subpoenaed several of the executives of Promontory Financial Group, a financial-services consultancy, including an executive who testified before Congress two years ago. It’s part of a long investigation into potential conflicts of interest at the firm related to its work for the British bank Standard Chartered, which was suspected of processing billions of dollars on behalf of Iran. The regulator is looking at whether Promontory, under pressure from the bank and its lawyers, sanitized a report to NYDFS to minimize the volume of allegedly illegal transactions.

Toshiba’s CEO is out after an accounting scandal. Toshiba’s president and CEO, Hisao Tanaka, has resigned after an internal investigation found the company has been cooking its books for several years. The company overstated its profit by $1.2 billion over several years, almost triple its initial profit.

Qualcomm is expected to conduct a strategic review that may result in the breakup of the company. The chipmaker is expected to announce plans to lay off more than 10% of its 30,000 employees. The expected layoffs are part of what is likely to be a strategic review of the company, which could lead to the eventual spin-off of its chip business from the highly profitable patent-licensing business

The National Oceanic and Atmospheric Administration (NOAA) reports global land and sea surface temperatures from January through June were 1.53 degrees Fahrenheit above the 20th century average, the highest since recordings started in 1880. June was the fourth month this year to break its monthly temperature record, along with February, March and May. And it marks the hottest six months on record. One side effect is that warming ocean waters are expected to result in a strong El Nino weather pattern in the second half of the year; this could bring some much needed rain to California and the southwest. While the state is in need of moisture, too much weather could lead to rain-related destruction. On Friday, heavy rains pounded the bone-dry Southern California region, washing out an elevated section of Interstate 10 near Desert Center, one of the major highways connecting California and Arizona. The Pacific is also expected to see more hurricanes and typhoons this season.  So far in 2015, there have been four hurricanes compared to just two by this time last year.

Financial Review

Sooner Rather Than Later

Sinclair Noe — June 18, 2015

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DOW + 180 = 18,115
SPX + 20 = 2121
NAS + 68 = 5132
10 YR YLD + .04 = 2.35%
OIL + .53 = 60.45
GOLD + 16.90 = 1203.00
SILV + .04 = 16.26

Three straight days of gains on Wall Street.  The Nasdaq finished up 68 points, or 1.3%, to 5132.95 and hit a new intraday record high of 5143.32. That tops its previous all-time intraday high of 5132.52, set back in March 10, 2000. The Nasdaq’s previous closing high of 5,106.59 was notched much more recently, on May 27. The rally was broad-based as all 10 S&P sectors rose with health care leading the way and all 30 stocks of the Dow posted gains.

We start with economic data. The consumer price index rose a seasonally adjusted 0.4% last month, almost entirely because of a surge in gasoline prices ahead of the summer driving season. Gas prices shot up 10.4% to mark the largest gain in six years. The overall cost of food, meanwhile, was unchanged for the second month in a row. Stripping out the volatile food and energy categories, so-called core consumer prices rose a much milder 0.1% in May. The cost of housing, airline tickets and medical care all rose while clothing prices declined.

The Conference Board’s leading economic index rose 0.7% in May for the second month in a row. The Board says the sharp increase confirms the outlook for more economic expansion in the second half of the year after what looks to be a much weaker first half.

The number of jobless workers seeking U.S. unemployment benefits fell again in mid-June and stood near a 15-year low. Initial jobless claims in the period running from June 7 to June 13 fell by 12,000 to a seasonally adjusted 267,000. New claims are 15% lower compared to one year ago.

The Philadelphia Fed’s manufacturing index increased to a reading of 15.2 in June, above the 6.7 in May. This is the highest reading since December; still, down from November’s reading of 40.2

Eurozone finance officials met in Luxembourg today. After 4 hours they did not come to an agreement about Greece, so they will hold an emergency meeting in Brussels on Monday. It is difficult to get a straight story on the Greek situation. Bloomberg ran a story today including a picture of protestors in Athens, it looked like a large crowd; the caption said the protestors were, “against the government and in support of the country’s membership in the euro area.” The Guardian ran a story showing protestors described as, “pro-government” and demanding an end to austerity measures.

Maybe it was two different rallies or maybe the protestors are just as confused as the negotiators. As best I can tell, Greece doesn’t have the money to pay the Troika at the end of the month; the negotiations are whether the Troika will lend Greece money to pay back to the Troika, along with another pound of flesh of course. Meanwhile, the German newspaper says Greek PM Alexis Tsipras and Finance Minister Yanis Varoufakis might not be radical hot-heads after all, rather the foot dragging and brinksmanship may turn out to be brilliant negotiating. Time will tell, and sooner rather than later.

Hong Kong’s legislature has vetoed a China-vetted electoral reform package that had been criticized by pro-democracy lawmakers as flawed and undemocratic. Although the new system would allow the next leader to be directly chosen by voters, Beijing would retain the right to choose the candidates on the ballot. Prior to the vote, Hong Kong’s government made it clear that if the package was defeated, the status quo would prevail and the chief executive would continue to be chosen by a committee of 1,200 members.

General Motors and Fiat Chrysler Automobiles have turned to investment banks for help to deal with a stand-off as Fiat-Chrysler seeks to force a merger with GM. Earlier this year, GM’s board rebuffed a merger proposal from the Italian-American carmaker and Chief Executive Mary Barra said last week she had no interest in a combination. Barra’s rejection has not stopped Fiat Chrysler’s boss Sergio Marchionne, who is lobbying GM investors to support his case.

AT&T Mobility has been fined $100 million for offering consumers “unlimited” data, but then slowing their Internet speeds after they reached a certain amount. The Federal Communications Commission said that the company misled consumers into buying plans they believed would give them unlimited ability to send and receive data, including Web browsing, GPS navigation and streaming videos. But once the consumer hit a certain level, the data on unlimited plans would be slowed down significantly. It’s not unusual for phone companies to slow, or “throttle,” speeds on a network as a way to manage congestion, but the FCC says AT&T was slowing speeds until the customer’s next billing cycle, even when there was no congestion.

Two new IPOs hit the New York Stock Exchange this morning. Fitbit priced 36-million shares at an offer price of $20 per share. At that level, the company will raise $732 million, at a valuation of $4.1 billion. Univar, a chemical distributor, priced at $22 per share, raising $770 million with a valuation of $3 billion.

FIT + 9.68 = 29.68
UNVR + 3.40 = 25.40

A driver for Uber is an employee, not an independent contractor; so says the California Labor Commission. And while the ruling applies only in California, it could have potential implications for other “crowdsourced” services such as Uber rival Lyft, chore service TaskRabbit, and cleaning service Homejoy. Classifying Uber drivers as employees could mean considerably higher costs for the company, including Social Security, workers’ compensation and unemployment insurance. That in turn could affect its valuation, currently above $40 billion, and the valuation of other companies that rely on large networks of individuals working as contractors.

A report from Americans for Tax Fairness claims that Walmart has $76 billion stashed away in foreign tax havens where they escape U.S. taxation. The report claims that Walmart operates 78 subsidiaries and branches in 15 tax haven countries, especially Luxembourg where the company has 22 subsidiaries but no retail stores.

Thomas Hayes, a former trader on trial over charges he manipulated benchmark interest rates, told prosecutors in 2013 that UBS Group distributed “an instruction manual on fixing Libor” to suit their trading positions. Hayes is the first person to stand trial for rigging Libor. Today, prosecutors showed jurors the instruction manual, entitled, “Guide to Publishing Libor Rates”. Hayes told prosecutors the document was evidence that Libor-rigging was standard operating procedure during his time at UBS.

Remember when banks engaged in fraud and deceptive lending and predatory lending practices? And then after the bailouts and the housing market collapse, the banks botched the foreclosures? And robo-signing? And losing paperwork? And it got so bad that in 2011 a dozen major mortgage companies struck a deal with the Office of the Comptroller of the Currency to bring in independent auditors to review foreclosures documents of aggrieved borrowers. And then that was scrapped because the bankers interfered with the auditors and there were cost overruns. Anyway, part of the 2011 deal was that the banks would clean up their mortgage and servicing departments. The OCC now says 6 banks did not live up to their end of the deal: HSBC, JPMorgan Chase, Santander, US Bank, and Wells Fargo. So, the OCC says it will impose new restrictions and pay closer attention.

The Securities and Exchange Commission charged 36 firms for violating federal securities laws by selling municipal bonds using offering documents that contained materially false statements or omissions about the bond issuers’ compliance with continuing disclosure obligations. The offending firms included familiar names such as Merrill Lynch, JPMorgan, Citigroup, and Goldman Sachs.

The UN has published a report on refugees, showing nearly 60 million people displaced from their homes, 14 million of them in 2014 alone, and half of them children; and more than 230 million children currently live in conflict-affected areas.  Not only is the number of refugees and asylum seekers today the largest since World War II, but the report also shows the fewest number are able to return home under current conditions. The largest toll stems from the four-year civil war in Syria: 7.6 million Syrians are internally displaced and 3.9 million are outside the country.

The National Oceanic and Atmospheric Administration reports that last month was the hottest May on record, and the past five months were the warmest start to a year on record. And that jibes with earlier reports that 2014 was the hottest year for the planet in records going back to 1880. The stifling start to 2015 may be just the beginning. The National Weather Service predicts that a pattern of unusually warm waters in the Pacific Ocean, known as El Nino, has an 85 percent chance of persisting through the 2015-2016 winter. And this El Nino could be a big one. A strong El Nino doesn’t guarantee record-breaking heat, but combined with the general trend of global warming, that possibility is looking increasingly likely.

In his much-awaited encyclical on the environment, Pope Francis offered a broad and uncompromising indictment of the global market economy, accusing it of plundering the earth at the expense of the poor and of future generations. The 183-page document, which Pope Francis addresses not only to Catholics but to “every person living on this planet,” includes pointed critiques of globalization and consumerism, which he says lead to environmental degradation. The pope lays out a moral case for supporting sustainable economic and population growth as part of the church’s mission and humanity’s responsibility to protect God’s creation for future generations.

The pope will visit the United States in late September, during which he’s scheduled to address a joint session of Congress and, separately, the United Nations General Assembly. The highlight of the pope’s trip will be the World Meeting of Families in Philadelphia, where the city is preparing for millions of pilgrims to visit. The letter’s release gives it several months of lead time on a major United Nations climate change conference that will take place in late November and early December in Paris.

Here is the link to read the encyclical.

Thursday, May 29, 2014 - First Quarter GDP and Extreme Weather

Financial Review with Sinclair Noe

DOW + 65 = 16,698
SPX + 10 = 1920
NAS + 22 = 4247
10 YR YLD + .01 = 2.44%
OIL + .79 = 103.51
GOLD – 2.70 = 1256.90
SILV + .02 = 19.14

The economy was worse than expected in the first quarter. The first estimate of first quarter gross domestic product showed 0.1% growth. Today, we got the second estimate and it showed 1.0% contraction. We figured the second estimate would show contraction but most estimates were calling for just 0.1% to 0.6% contraction. The newly revised estimate incorporates additional economic data released in recent weeks. Higher-than-expected imports and slower-than-expected inventory growth dragged the economy into negative territory.

US based corporations posted slightly lower, after tax, seasonally adjusted, first quarter profits of $1.88 trillion for the quarter, down from $1.905 trillion in the fourth quarter; but those numbers were not adjusted for inventory valuation and capital consumption adjustments; we know corporations are still holding bloated inventories. A big buildup in private inventories boosted economic growth in the third quarter of 2013, but left a hangover that weighed on growth in the first quarter of 2014. Inventories subtracted 1.62 percentage points from GDP growth, compared with an initial estimate of 0.57 percentage point subtracted from growth.

Business investment declined at a 1.6% pace, revised from an initially estimated decline at a 2.1% pace. Spending on structures fell at a 7.5% pace and spending on equipment fell at a 3.1% rate. Investments in intellectual property, like research and development, rose at a 5.1% pace.

Consumer spending grew at a 3.1% pace in the first quarter, revised up from an initial estimate of growth at a 3% pace. Spending on services, like health care and household heating, grew at a 4.3% pace while spending on physical goods rose at a more modest 0.7% pace.

The housing market was a drag in the first quarter and the revisions didn’t create much change; residential fixed investment contracted at a 5% pace, a little better than the original estimate of a 5.7% decline, and that subtracted 0.16% from GDP.

Exports fell at a 6% pace in the first three months of the year, not as bad as the initial estimate of 7.6%, but imports, which are subtracted from the GDP calculation, rose at a 0.7% pace, compared with the initial estimate that they declined at a 1.4% pace. Net exports subtracted 0.95 percentage point from GDP growth.

Total government spending subtracted 0.15 percentage point from GDP for the quarter, compared with an initial estimate of 0.09 percentage point subtracted from growth. Federal spending added to GDP, state and local government spending subtracted slightly from GDP.

So, it was a nasty GDP revision but don’t worry, be happy because it was weather related and the winter storms and polar vortexes have passed; gray skies have cleared up, put on a happy face. One headline today tries to tell us: “Why the GDP Drop Is Good for the US Economic Outlook”; the thinking is that there is pent-up demand; consumers and businesses will brush off their cabin fever and rush out to buy and sell. Another headline tries to maintain perspective by reminding us that: “The US Economy Had a Hiccup, Not a Heart Attack”; which is almost a valid point; this wasn’t a heart attack, but it wasn’t a hiccup either. That article says, “This isn’t a recession or even the beginning of a recession though.” True, but this is how recessions start, with economic contraction, but this isn’t a recession.

The economy changes slowly, even though economic numbers jump up and down, and the numbers can be tricky. For example, in October 2008, the numbers on the economy showed GDP had dropped 0.3%, not nearly as bad as today’s number. Back in 2008, Lehman Brothers collapsed and the politicians said we faced a global financial meltdown.

Back in May 2007, the markets looked a lot like they do today, very low volatility, troubling signs for housing stocks, and a stock sector rotation that suggested the bull market was long in the tooth. That bull market ran for 5 more months. Whether investors knew it or not, they were incurring a large risk for only a few percent reward.

The numbers don’t always reflect the scene on the street. Maybe they do, but more than likely, this is not the start of a new recession. This is how recessions start and the strange part is how most economists are just glossing over this as if it were nothing but a hiccup, when it actually represents billions of dollars; one percent of a $17 trillion dollar economy; some hiccup.

The blame is squarely placed on the weather without acknowledging that the weather is undergoing massive change, not just the polar vortex of winter, but let’s look at the wildfires of spring, and the drought of summer. The “weather effect” is not likely a one and done. The United States is currently engulfed in one of the worst droughts in recent memory. More than 30% of the country experienced at least moderate drought as of last week's data. In seven states drought conditions were so severe that each had more than half of its land area in severe drought. Severe drought is characterized by crop loss, frequent water shortages, and mandatory water use restrictions.

While large portions of the seven states suffer from severe drought, in some parts of these states drought conditions are even worse. In six of the seven states with the highest levels of drought, more than 30% of each state was in extreme drought as of last week, a more severe level of drought characterized by major crop and pasture losses, as well as widespread water shortages. Additionally, in California and Oklahoma, 25% and 30% of the states, respectively, suffered from exceptional drought, the highest severity classification. Under exceptional drought, crop and pasture loss is widespread, and shortages of well and reservoir water can lead to water emergencies.

Drought has had a major impact on important crops such as winter wheat. Just 29% of the entire US wheat crop is rated good to excellent; very poor to poor ratings are 78% in Oklahoma, 67% in Texas and 59% in Kansas. And even though much of Texas received rain in the past week, it may be a case of too little, too late. With the crop now heading out, there's not much hope for any recovery as we move deeper into the season. That likely means higher prices for your daily bread. Pasture land across the West is in generally poor shape; that likely means higher beef prices, which you’ve probably already noticed.

In the Southwest, concerns are less-focused on agriculture and more on reservoir levels. In Arizona, reservoir levels were just two-thirds of their usual average. In New Mexico, reservoir stores were only slightly more than half of their normal levels. And Nevada is the worst of all, with reservoir levels about one-third of normal.

The situation in California may well be the most problematic of any state. The entire state is suffering from severe drought, and 75% of all land area was under extreme drought. Restrictions on agricultural water use has forced many California farmers to leave fields fallow. At the current usage rate, California has less than two years of water remaining. And we know California is responsible for about half the nation’s fruit and vegetable supply.

This past February, US food prices jumped 0.4% — the largest one-month increase since September 2011. Then they jumped another 0.4% in March. Then another 0.4% in April. Fruit and vegetable prices rose even faster, at a 0.7% clip in April. The US Department of Agriculture says the California drought doesn’t seem to have affected vegetable prices so far this year and the agency isn’t predicting a catastrophic spike in food prices just yet. The USDA projects that food price inflation will be between 2.5% and 3.5% in 2014. That's higher than the rise last year, but it's in line with the long-term average of 2.8%.

There are a couple of reasons why we might not get hit in the wallet this year: farmers are shifting water use from some crops to others, cutting back on some crops, like corn and alfalfa that might be available from other places. This strategy is tricky; for example, California dairy farms depend on alfalfa for feed; if they have to import feed, it could increase dairy prices in the short term. Also, farmers are pumping groundwater. The problem is the aquifers are being depleted, even sinking in some cases, and losing their original capacity. In the short term, we adapt; but if the drought continues, next year could be a bear.

Commodity markets already have weathered record cold in the US that sent natural-gas futures to five-year highs and severe drought in Brazil that has nearly doubled coffee prices. Now meteorologists are predicting even more abnormal weather, thanks to the return of El Nino, a rapid and prolonged warming of the tropical Pacific Ocean, which disrupts normal weather patterns and would exacerbate the extreme climatic events already affecting many markets this year. Meteorological agencies say there is a 60% to 70% chance of El Nino occurring by the end of 2014, and a more than 50% chance it will arrive earlier, by this summer.

It's a significant event in commodities markets because El Nino affects weather patterns virtually everywhere. Past occurrences brought dry weather to West Africa, damaging the region's cocoa crop, and wet weather to Brazil, delaying the coffee and sugar harvests. India typically sees less rain in its monsoon during an El Nino year, which can mean smaller grain and cotton crops. In the US, El Niño could bring much needed rain to the southwest and California. If it comes.

But El Nino is not necessarily good news for commodity prices on a global scale; it tends to help soybean crops but harm corn, wheat and rice crops. And also remember that El Nino refers to an extreme weather event. When El Nino hit in 1997 it claimed an estimated 2,100 lives and caused $33 billion damage to properties.

No matter which way you look, the forecast calls for extreme weather, and that means the first quarter GDP wasn’t just a hiccup.