Financial Review

Merger Monday

Sinclair Noe — October 24, 2016

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DOW + 77 = 18,223
SPX + 10 = 2151
NAS + 52 = 5309
10 Y + .02 = 1.76%
OIL – .36 = 50.49
GOLD – 1.30 = 1265.40

Merger Monday is alive and well. AT&T announced it will acquire Time Warner for $85 billion; or at least it will try. The biggest deal in the world this year will give AT&T control of cable TV channels HBO and CNN, film studio Warner Bros and other media assets.

The deal is subject to regulatory approval, and right now it looks like it will face opposition. The Justice Department has the power to reject such a deal if it violates antitrust laws. AT&T said it is unclear if the Federal Communications Commission will also have jurisdiction to review the deal. Remember that regulators blocked Comcast’s planned acquisition of Time Warner.

AT&T has described the deal as a “vertical merger” because there is no overlap between the two companies and hopes that such a tie-up will get the regulatory green light by the end of 2017. The reason we are seeing this deal now is because in the next couple of years, wireless will be changing over to 5G, the next generation technology which will provide high-speed broadband and television service and allow wireless companies to compete with cable companies.

Toronto-Dominion Bank and TD Ameritrade are buying Scottrade Financial Services for $4 billion in a deal that would combine two of the biggest U.S. discount brokerages. TD Ameritrade, the largest U.S. discount brokerage by trade executions, said it would pay $2.7 billion for Scottrade’s brokerage business. Toronto-Dominion Bank, TD’s largest shareholder, is acquiring Scottrade Bank for $1.3 billion.

Rockwell Collins has struck a deal to buy aircraft interior maker B/E Aerospace for $62 a share in cash and stock. The acquisition, valued at $6.4 billion plus the assumption of $1.9 billion in debt, expands the range of products Rockwell Collins supplies to major commercial and business aircraft and broadens its customer base internationally. The acquisition, which is expected to be completed next spring, allows both companies to sell to each other’s customers and to deploy Rockwell’s capability with on-board connectivity to make internet-enabled seats, galleys, lavatories and other cabin systems that B/E Aerospace provides.

Chinese aviation and shipping conglomerate HNA Group said it would buy a stake of about 25 percent in hotel operator and manager Hilton Worldwide Holdings from biggest shareholder Blackstone Group for $6.5 billion. HNA will buy the stake for $26.25 per share, representing a premium of 14.6 percent to Hilton’s closing price on Friday and valuing the hotel company at about $26 billion.

Genworth Financial, a dominant carrier in U.S. long-term-care insurance, agreed to sell itself for $2.7 billion, to a Chinese investment firm, China Oceanwide Holdings Group. The deal comes as China Oceanwide has been pouring hundreds of millions of dollars into U.S. commercial and residential properties in the past two years. Genworth has struggled since the financial crisis, one of the insurers hardest hit by the bursting of the real-estate bubble and later by ultra-low interest rates.

American Midstream Partners LP said it would buy JP Energy Partners LP in an all-stock deal, creating a $2 billion midstream master limited partnership. The combined company will own and operate more than 3,100 miles of gathering and transportation pipelines.

According to S&P Global Market Intelligence, October 2016 currently stands as the third-strongest month ever for US M&A announced deal value. To date, October has seen $279 billion in announced M&A involving US companies, the highest since July 2015. It’s good news for Wall Street banks, which could bring in up to $200 million in fees from advising on the mergers. You add in financing costs and just the AT&T- Time Warner deal could top $400 million.

Iraq doesn’t want to participate in the OPEC freeze. Iraq, OPEC’s second largest oil producer, says it wants to be exempt from the OPEC production freeze, which is expected to be decided at the November 30 meeting in Vienna, Austria. Comments from Iran’s deputy oil minister, however, helped to push prices higher earlier in the session. He said Tehran would encourage other OPEC members to join an output freeze, adding that $55-$60 a barrel is a fair price to bring stability to the market. All the talk of capping production has managed to push oil above $50 a barrel, but in the past, OPEC has not been able to deliver on holding firm to output cuts.

Credit card giant Visa said its fiscal fourth-quarter results rose 28 percent from a year earlier, as the company processed more payments. The company’s results were also lifted by the recent purchase of Visa Europe. Visa reported net income of $1.9 billion for the period ended Sept. 30, compared with $1.5 billion in the same period a year earlier.

T-Mobile reported a better-than-expected quarterly profit and raised its forecast for customer additions for the year as heavy discounting helped attract subscribers. T-Mobile said it benefited from the launch of the iPhone 7 in the quarter and an increase in branded prepaid customer migrations to postpaid plans.

Earnings season is in full swing with Apple, Alphabet, Amazon.com, Exxon Mobil and Caterpillar among big names scheduled to announce third quarter results this week.

Apple reports earnings on Tuesday and we’ll see if the new iPhone 7 sales live up to expectations; on Thursday, Apple will unveil a new line of Mac computers, which are long overdue for an update and have seen only sluggish sales in recent quarters. And just to drive home the importance of constant updating and reinvention – yesterday the iPod turned 15 years old.

Google has been given an extra week to respond to European antitrust charges that some of the company’s advertising products hampered consumer choice. Google denies any wrongdoing. But it represents the first of three separate responses that Google must give to European competition authorities by early November to allegations that some of its services and products, including the popular Android smartphone operating system, hindered rivals and limited competition in Europe. Alphabet reports quarterly earnings on Thursday.

Tesla reports third quarter earnings on Wednesday – more accurately, Tesla will report a loss. Tesla previously disclosed that deliveries rose 70 percent to 24,500 cars in the July-to-September period. But a loss is likely because the company is spending heavily to introduce a new car, the Model 3, and to start up its gigantic Gigafactory in Nevada, where it will produce batteries.

We’ll also hear from the major car-makers; GM, Ford, and Fiat Chrysler report this week. Today, Consumer Reports said General Motors’ Buick has become the first domestic car brand in more than 30 years to be among the top three most reliable brands; trailing Toyota and Lexus.

Goldman Sachs analysts have cut their outlook for S&P 500 earnings through 2018. They now see earnings per share climbing 5% to $105 (from $110) in 2016, 10% to $116 in 2017 (from $123), and 5% to $122 (from $130) in 2018. The analysts blame disappointing earnings growth from the financials and information technology sectors. Furthermore, they blame the impact of low interest rates on telecom sector pension liabilities.

This week we will also see third quarter reports from most of the major Euro-banks, including BNP Paribas, Santander, UBS, Barclays, Lloyd’s, the Royal Bank of Scotland, and Deutsche Bank. We’ll keep an eye on Deutsche Bank for any update on its negotiations with the Justice Department, which has proposed a $14 billion fine for the bank’s underwriting of mortgage backed securities during the financial crisis.

And as we work our way through earnings the market is holding up relatively well. We’ve talked about a strong level of support for the S&P 500 at the 2120 level, which represents both the highs from June and the lows from September. So far, 2120 is holding up quite well, and we are consolidating in October, a month that can be quite scary. Although right now, the scariest event on the horizon is the election in November.

This Friday we get the first estimate of third quarter GDP growth; look for 2.5% growth. Last month, the Commerce Department reported that GDP grew 1.4 percent in the second quarter of 2016, up from 0.8 percent in the first quarter of 2016.

James Bullard, president of the Federal Reserve Bank of St. Louis and a voting member of the Federal Open Market Committee says low interest rates will likely be the norm during the next two to three years. Bullard’s comments come one month after he voted against hiking the federal funds rate.

The Fed continues to grapple with deciding when it will increase rates from the current target range of 0.25 to 0.50 percent. The last time the Fed raised rates was in December 2015, when it did so for the first time in nine years. Fed watchers expect the next increase to come by year end. Fed fund futures show implied odds of nearly 70 percent for a December rate hike.

And while Bullard seems to indicate rates can be nudged slowly higher, Chicago Fed President Charles Evans said today that the Fed needs to “demonstrate commitment to achieving the inflation target sustainability, symmetrically, and sooner rather than later.” This might require undershooting the unemployment rate and overshooting the 2% inflation target. Even so, Evans expects 3 rate hikes by the end of 2017.

Financial Review

Groovin

Sinclair Noe — July 29, 2016

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

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DOW – 24 = 18,432
SPX + 3 = 2173
NAS + 7 = 5162
10 Y – .06 = 1.45%
OIL + .24 = 41.38
GOLD + 15.80 = 1351.40

The S&P 500 index hitting a record intraday high for the seventh time this month as gains in tech heavyweights Alphabet and Amazon more than made up for losses in energy shares. The S&P 500 index rose as much as 0.3 percent, touching an all-time high of 2,177.09, and completed its fifth straight month of gains. For the week, the Dow fell 0.75 percent, the S&P edged down 0.07 percent and the Nasdaq rose 1.2 percent. In July, the Dow rose 2.8 percent, the S&P climbed 3.6 percent and the Nasdaq gained 6.6 percent.

The U.S. economy grew far less than expected in the second quarter. Gross domestic product increased at a 1.2 percent annual rate after rising by a downwardly revised 0.8 percent pace in the first quarter. The economy was previously reported to have expanded at a 1.1 percent pace in the first quarter. This is the first estimate on second quarter GDP, but economists had forecast growth rising at a 2.6 percent rate.

Inventory investment fell for the first time in nearly five years. Once the impact of a downward inventory adjustment is considered, the underlying pace of growth looks healthier than the headline GDP number. Excluding inventories, the economy grew at a 2.4 percent rate. Consumer spending, which makes up more than two-thirds of U.S. economic activity, increased at a 4.2 percent rate – the fastest since the fourth quarter of 2014. In the second quarter, income at the disposal of households after adjusting for inflation increased to a $13.92 billion rate from a $13.81 billion pace early in the year.

An index that measures what it costs a business to employ a worker — how much Americans earn in wages and benefits — rose 0.6% in the second quarter. The ECI has risen 2.3% in the past 12 months, the fastest pace since early 2015. In the first quarter, wages increased 0.6%. Benefits increased 0.5%.

The Bank of Japan held interest rates steady and offered up only a mild dose of stimulus. The central bank announced it would purchase ¥6 trillion-yen ($57 billion) worth of exchange-traded stock funds annually, an increase from the prior amount ¥3.3 trillion-yen. The size of a key lending program was also doubled to $24 billion. But those moves were far less than expected. And the Bank of Japan left interest rates at 0.1%, which disappointed many investors.

After more than three years of pumping out wave after wave of cheap money that’s failed to secure its inflation target, the Bank of Japan policymakers declared it was time to assess the impact of their policies. Maybe that’s an admission that their policies aren’t working; maybe it is an acknowledgement that they are running out of tools. Or maybe it’s just uncertainty of diving into negative interest rates.

Or maybe this is the setup for an experiment in helicopter money, which is very different from quantitative easing. QE means new money is swapped for assets in the reserve accounts of banks, leaving liquidity trapped on bank balance sheets. This frees up new money for borrowing, which increases money circulating through the economy – at least in theory. QE still requires borrowing to take place, and if there is no demand for borrowing, QE won’t really work. Money is created when loans are made, and it is extinguished when they are paid off. When loan repayment exceeds borrowing, the money supply “deflates” or shrinks.

The alternative is to do what governments arguably should have been doing all along: issue the money directly to fund their budgets. Having exhausted other options, some central bankers are now calling for this form of helicopter money. The problem, at least one of the problems, is that helicopter money is illegal under Japanese law. That doesn’t mean it won’t happen. It just means they will need to devise creative ways to fly the helicopter.

The Nikkei Stock Index closed 0.6% higher after a volatile session. The yen jumped and Japanese government bond yields rose the most in eight years, lifting global sovereign borrowing costs. The dollar’s fall against the yen, its steepest in a month and fourth steepest this year, pulled it down against other currencies, putting the trade-weighted dollar exchange rate on course for its biggest weekly fall in two months.

The University of Michigan Index of Consumer Sentiment hit 90 in July, down from 93.5 in June’s final reading. The monthly survey of 500 consumers measures attitudes toward topics like personal finances, inflation, unemployment, government policies and interest rates.

Meanwhile of poll of British consumers saw the biggest drop in consumer confidence in 26 years in July, following the Brexit vote. A separate survey of manufacturing companies, also published on Friday, paints a similar picture. Manufacturers said that the sector’s recovery was under threat and business confidence had fallen in every region of England and Wales. The report on household reactions to the Brexit vote adds to evidence that consumers could rein in spending amid higher uncertainty about jobs, pay and the UK’s economic health.

Eurozone flash inflation increased to 0.2% in July to top the 0.1% pace seen in June and expected by economists. Eurozone flash GDP rose 0.3% in the second quarter to match estimates. The pace was only half of the growth rate from the first quarter. Inflation was at 0.2% for the quarter, and the unemployment rate was unchanged at 10.1%. European stocks were mixed across the continent after the data dump.

The European Banking Authority and the European Central Bank released the results of stress tests on the region’s major banks. The tests look at 51 major lenders, but they do not assign a pass or fail grade – rather they identify common equity tier 1 capital ratio, a measure of its resilience. The legal minimum for all banks is a CET1 ratio of 4.5 percent, plus 3.5 percent of risk-weighted assets in subordinated debt, as well as a series of buffers, which are made up of common equity. So, 8 percent is where they should be, but they are grading on a curve.

The European Central Bank, which supervises 37 of the lenders in the test, has said it will use a 5.5 percent ratio in the stressed scenario as an informal benchmark for lenders’ resilience. The final requirement set will move up or down from that level to take account of banks’ individual business models. The worst performer was Italy’s Banca Monte dei Paschi, with a negative 2.2 CET1 ratio. Monte Paschi Friday approved a plan to tap investors for the third time in two years by selling stock to replenish capital. While Monte Paschi is seeking to raise funds through private means, Italy has held talks with the European Commission seeking approval to back the bank’s recapitalization with state funds.

After the closing bell Thursday, Alphabet, the parent of Google posted earnings and revenue that beat estimates. Also, Amazon.com reported record profit for the third consecutive quarter- beating estimates – but a wave of spending could stop that streak. Amazon was long known for spending its way to a loss no matter how much revenue it brought in, but the second quarter was its fifth straight that showed a profit. Apple, Microsoft and Facebook, as well as Alphabet and Amazon, all blew past Wall Street expectations for both profit and revenue. As good as the quarter was for big tech, it was bad for big oil.

Exxon Mobil, the world’s largest publicly traded oil producer, posted a lower-than-expected quarterly profit due to weak crude prices and refining income. Net income slumped to $1.7 billion, or 41 cents per share, in the second quarter, from $4.19 billion, or $1 per share, in the year-ago period. Analysts expected earnings of 64 cents per share.

Chevron, the second largest U.S.-based oil producer, posted a second-quarter loss, its largest since 2001. It was Chevron’s third straight quarterly loss, the longest slump for the company since at least 1989. The company lost $1.47 billion, or $1.07 per share, in the quarter, compared with a net profit of $571 million, or 30 cents per share, in the year-ago period. Excluding one-time items, Chevron earned 35 cents per share. By that measure, analysts expected a profit of 32 cents per share.

Crude oil for September delivery dropped under $41 a barrel. Prices are down almost 8% for the week, and down 16% for the month. The U.S. oil benchmark is now down 20.6% from its recent high of $51.23 in June. That reflects a bear market, which is defined as a downturn of 20% or more.

NextEra Energy agreed to buy Energy Future Holdings’ Oncor Electric Delivery Co. LLC, adding the largest electric transmission operator in Texas in a deal valued at about $18.4 billion. The agreement is part of a reorganization plan designed to allow Energy Future to emerge from bankruptcy after restructuring $50 billion in debt. A takeover by Florida-based NextEra would require the approval from the court handling Energy Future’s Chapter 11 case and from Texas regulators.

SABMiller’s board unanimously recommended Anheuser-Busch InBev’s improved $104 billion takeover offer. Chinese regulators approved the merger, the last regulatory hurdle to the deal. The mega merger still requires shareholder approval. AB InBev gave in to some investors when it raised its bid once more this week to factor in the pound’s plunge in the wake of the U.K.’s Brexit vote that put minority and institutional shareholders at a disadvantage.

Financial Review

Brexit Breakdown Continues

Sinclair Noe — June 27, 2016

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

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DOW – 260 = 17,140
SPX – 36 = 2000
NAS – 113 = 4594
10 Y – .12 = 1.46%
OIL – 1.31 = 46.33
GOLD + 8.50 = 1325.10

The aftershocks of the U.K.’s vote to leave the European Union reverberated across financial markets again today. The victory for Brexit tore through world markets on Friday, pummeling the pound and high-yielding assets as more than $2.5 trillion was wiped from global equity values. Prime Minister David Cameron resigned without spelling out when the U.K. intends to leave the EU and at least 30 members of Labour Party leader Jeremy Corbyn’s team quit amid calls for his ouster.

On Wall Street, the Dow Industrial average dropped about 300 points and then bounced around, adding to the 610-point loss on Friday. Meanwhile, 10-year U.S. Treasury yields have extended their fall to 1.46.

The pound is getting slammed all over again. It extended its record decline against the dollar, falling 3.1% to as low as 1.315. Cable — as the dollar/pound currency pair is nicknamed — is one of the biggest casualties of the global-market rout triggered late last week by Britain’s vote to leave the European Union.

On Friday, the pound fell to a 30-year low versus the dollar in its biggest single-day collapse ever. UK 10-year Gilt yields have dropped below 1% for the first time to hit a new record low. The fall came after Moody’s downgraded its U.K. sovereign rating to negative from stable, citing diminished policy predictability and economic effectiveness. S&P Global Ratings cut the U.K.’s top credit grade by two levels, to AA from AAA.

British stocks were down 2.5% today. While the slide in Europe’s equity benchmark reached 11% over two days, the most since 2008. European bank stocks are still tumbling, too. Shares of RBS and Barclays were briefly halted for about five minutes in London as they plunged 10%. A gauge of European lenders headed for its biggest two-day drop ever.

Many banks may move huge numbers of workers from their UK operations to elsewhere on the continent as the City of London’s role as the region’s financial hub becomes uncertain; at the very least, the UK will have to negotiate new agreements for handling financial transactions with the rest of the world.

Barclays shares fell more than 17% for the second straight day, and the stock has now lost more than half its value in the last 12 months. RBS plummeted as much as 26% in London trading, reaching the lowest levels since January 2009. Lloyds fell 10% at 4 p.m. in London, while challenger banks Virgin Money Holdings, OneSavings Bank and Shawbrook Group all plunged more than 25%.

US bank shares have taken pretty big hits, down nearly 10% since the Brexit vote; but keep in mind US bank stocks have had an atrocious year to date. Since the start of the year, Citi is down 22%, BofA down 23%, JPMorgan down 10%, Goldman Sachs down 21%, and Morgan Stanley down 23%.

The next days and weeks will be key for central banks as they seek to limit volatility in financial markets. The European Central Bank was hosting a three-day meeting in Portugal that will include speeches from its president, Mario Draghi, and Federal Reserve Chair Janet Yellen, plus UK PM David Cameron, German Chancellor Angela Merkel and EU President Donald Tusk. The meeting was cancelled. They can’t even figure out if they want to talk to each other.

The Chinese yuan tumbled to a 6-year low against the dollar. This happened after the People’s Bank of China weakened the currency’s reference rate per dollar by 0.9%, the steepest devaluation since August. China weakened the yuan after Friday’s post-Brexit foreign-exchange action that sent the dollar flying. The Nikkei regained some lost ground overnight after Japanese Prime Minister Shinzo Abe instructed his finance minister to intervene in the currency markets if needed in the wake of Brexit.

The U.K. is ready to face the challenges thrown up by the vote to leave the EU, so said UK Chancellor George Osborne at a press conference today, but be cautioned it would not be “plain sailing” in the days ahead. “Our economy is about as strong as it could be to confront the challenge our country now faces,” he declared, adding that the result was not the one he “campaigned for” but the will of the people “had to be respected.”

Brexit comments from around the world… Boris Johnson: “I cannot stress too much that Britain is part of Europe, and always will be.” (Which is strange because Johnson was the leader behind the Leave movement), Nicola Sturgeon: “We will explore all possible options to protect Scotland’s place in the EU.” (And now we have leaders from Italy, France, Spain, and the Netherlands saying they want to explore their options), Francois Hollande: “What was once unthinkable has become irreversible.” (As in you Brexit, you bought it.) Angela Merkel: Exit talks “shouldn’t drag on forever.” (Meanwhile, Germany, France and Italy said the European Union won’t hold talks with the U.K. on its future relationship with the EU until the government in London formally asks to leave the bloc.)  Barack Obama: “One thing that will not change is the special relationship that exists between our two nations.” (A marked changed from the claim that the Brits would be at the back of the queue.)

More remarks… Jean-Claude Juncker: I would like Brexit proceedings “to get started immediately.” (As in, “you want a divorce? All right, get out of the house.”) Christine Lagarde: Brexit fallout hinges on what “policy makers do in coming days.” George Soros: The decision makes “the disintegration of the EU practically irreversible.” (As in, “I tried to warn you.”) Deutsche Bank: London’s role as a financial center will “weaken, but won’t die.” (As in, we are going to poach as many clients as possible.) Goldman Sachs: The U.K. is now likely to enter a “mild recession” by early 2017. (As in be scared, be very, very scared.)

Adding to political uncertainty in Europe, Spain’s weekend elections delivered a hung parliament for the second time in six months. Acting Prime Minister Mariano Rajoy’s People’s Party again emerged with the single biggest bloc of seats but fell short of a majority, leaving the Eurozone’s fourth-largest economy at risk of another lengthy political stalemate.

So, the question is, what does Brexit mean? The answer is, no one knows. It might be the end of the European Union and the beginning of years of financial and political chaos in Europe which would undoubtedly wreak havoc with global markets. Or it might be the event that forces the EU to reorganize itself and take serious measures to ensure fairness among its members. Again, the truth is that we simply don’t know yet.

What does it mean for you as an investor? It shouldn’t make much difference at all. You should already have a plan; that plan should guide you whether the markets are up or down or sideways. Whatever your plan indicates for you is what you should stick to doing.

If your plan calls for rebalancing, then rebalance; if your plan calls for no change, then do nothing; if your plan calls for buying or selling, then do it. If your plan calls for market timing, then pick some trades. If your plan calls for refinancing your mortgage, then refi. While market moves can be dramatic, there is no reason to get emotional about it. Stick to the plan, stick to your discipline. If you don’t have a plan, you shouldn’t be investing.

The Supreme Court struck down Texas abortion restrictions that had threatened to close three-quarters of the state’s clinics by putting new requirements on facilities and doctors. The 5-3 ruling is the court’s first abortion decision in almost a decade. It invalidates a law that required clinics to meet hospital-like surgical standards and forced abortion doctors to get admitting privileges at a local hospital.

Panama officially opened an addition to its legendary sea canal on Sunday, capping a nine-year, $5.4 billion expansion project that will double shipping capacity and affect global trade routes. A third lane has been added to the waterway that can accommodate a new generation of super cargo ships large enough to carry up to 14,000 containers, compared with around 5,000 currently.

Saudi Arabia has appointed JPMorgan, HSBC and Citi to arrange its debut international bond as the kingdom presses ahead with fundraising efforts amid an oil price slump. Lenders were summoned to Riyadh last month to submit proposals on how they would help the country to raise money internationally. At the time, bankers said that the kingdom was seeking to raise as much as $15 billion.

Research to be presented this week at a conference in San Antonio suggests that serious joint problems, seizures, vision impairment and other medical issues can be added to the list of risks from Zika exposure in the womb. The new findings also confirm that even when Zika-exposed babies are born without microcephaly, developmental delays may appear in the weeks or months following birth.

New York’s landmark Waldorf Astoria hotel plans to close for up to three years starting next spring so owner Anbang Insurance can begin converting most of its more than 1,400 rooms into luxury condominiums. Anbang and Hilton Worldwide, which will continue to manage the property when it reopens, are said to have reached severance agreements with hundreds of the hotel’s 1,500 employees at a cost of $100 million or more.