Financial Review

A Date That Will Live in Infamy

Sinclair Noe — December 7, 2016

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DOW + 297 = 19,549
SPX + 29 = 2241
NAS + 60 = 5393
RUT + 11 = 1364
10 Y – .05 = 2.35%
OIL – 1.04 = 49.89
GOLD + 4.00 = 1174.30

Another record high close for the Dow Industrial Average – 3 in a row. The Dow is up in 18 of 22 sessions, but today was the first triple-digit gain since Nov. 10. Plus, records for the S&P 500 index and the Russell 2000 index of small cap stocks. The Dow Transportation Average gained 231 to close at a record high of 9371, taking out the old record high of 9217 set December 19, 2014.

For Dow Theorists, this is confirmation of the bull. Dow Theory holds that strength in the shipping and rail stocks needed to transport goods — a sign of healthy demand and production — is a prerequisite to strength in the broader market.

The transportation average often is a leading indicator for the economy. If we get everything in gear, it suggests everything is in harmony to the upside. From a recent low of 7885 on October 26, the Transports have jumped about 19%, which is just freakish strength. If you caught the planes, trains and shipping containers early, congratulations. The Transports are pricing in a high success rate for infrastructure not only passing, but happening right away and that should give you pause.

A lot is at stake this today as  Time Warner chief executive, Jeff Bewkes, and his AT&T counterpart, Randall Stephenson, answered questions at the Senate antitrust committee hearing about conflicts that might arise from the merger of a major media producer and a major distributor.

AT&T’s $108 billion acquisition would join America’s largest pay TV provider with a media and entertainment company that has a massive catalog of movies and TV shows. Critics charge it could give the telecom giant a huge advantage in the marketplace.

At issue is something called “zero-rate.” That means the ISP, in this case AT&T, won’t count a customer’s viewing of AT&T-owned content against his or her data allowance. Currently, AT&T has such a promotion with DIRECTV. AT&T wireless customers who also subscribe to DIRECTV can watch that content on their mobile devices without it counting against their data allowance.

If you are both an AT&T and DIRECTV customer, that’s a great deal. But if you are a small ISP trying to compete against AT&T, you may think the playing field has suddenly become a lot less even. So far, AT&T is batting one for two on proposed mega-mergers. Last year its deal to acquire DIRECTV got a green light from regulators. Before that, its deal to acquire rival T-Mobile did not.

President-elect Donald Trump continued to show the power of his fully operational Twitter feed yesterday as one tweet brought an offer of talks from Boeing on the cost of a plane order, while another saw shares in SoftBank Group rally to their highest level since August 2015.

While there is disagreement over whether Trump’s tactics will prove effective over the long term, and even if the investments he flags are possible, this Twitter feed seems likely to continue to be one of the most important in markets.

Meanwhile, Trump has picked Scott Pruitt, the Oklahoma attorney general to run the Environmental Protection Agency. Pruitt has been a close ally of the fossil fuel industry and a staunch opponent to environmental regulations. So, it’s kind of like picking an atheist to be the next Pope.

Time magazine has named its Person of the Year – Donald Trump. Trump is the magazine’s 90th person of the year. The runner-up is Hillary Clinton. Trump, in an interview with the Time magazine, said he would bring down drug prices. The S&P 500 healthcare index swiftly lost 1.6 percent, while the Nasdaq Biotechnology index dropped 3.8 percent – set for its worst day in nearly two months.

Pfizer was hit with a $107 million fine by British officials for an epilepsy drug price increase of as much as 2,600 percent. In the UK, branded drug prices are regulated. Pfizer figured out a way to raise the price – sort of through the back door. Pfizer sold the UK distribution rights to Flynn Pharma, debranding the drug and making it generic.

Because generic drugs are generally available to customers at cheaper prices than branded products. The drug was no longer subject to price regulation, leaving Pfizer free to sharply increase the price it charged Flynn, which in turn further raised the price it charged the National Health System. Pfizer jacked up the price from £2.83 to £67.50. Pfizer says it will appeal the fine.

The European Commission has fined three banks for manipulating a key interest rate, known as the Euribor, or European Interbank Offered Rate. The commission levied $520 million in fines against JPMorgan, Credit Agricole, and HSBC. JPMorgan faced the largest fine at $360 million. Euribor is used to set rates on everything from home loans to complex derivatives. Major banks submitted information daily to set the rate. The regulator said the banks had acted as a “cartel.”

Citi is being investigated for its role in the pound’s “flash crash. “Citi’s Japanese trading operation is being investigated by the Bank of England for exacerbating the pound’s October flash crash by placing many sell orders after the initial fall began

Shares in Italian banks continued their recovery after falling sharply on Monday in response to Prime Minister Matteo Renzi’s referendum defeat. La Stampa newspaper had reported that Rome would be asking for €15-billion-euro from the European Stability Mechanism to help the Italian banking system.

At the same time, Reuters quoted unnamed sources as saying that the government would take a €2-billion-euro controlling stake in Monte dei Paschi. The Italian government plans to buy junior bonds to boost its stake to 40%, although there are concerns this might amount to state aid, in violation or Eurozone regulations.

Traffic at U.S. fast-food restaurants fell 1% in the third quarter to mark the sector’s first traffic decline in five years. The industry tracker NPD Group said total restaurant visits were also down 1%, hurt by the now familiar list of factors that have weighed this year, ranging from the higher costs of eating out, changing consumer behavior and higher bills for items such as rent and prescriptions.

Eating out has become more expensive even as the cost of at-home dining has fallen. The cost of food purchased for home use — that is, groceries — has fallen 2.4% in the past year, according to the October consumer price index. That’s the biggest decline over a 12-month period since the end of the Great Recession in 2009

Sometimes it seems there is a Starbucks on every corner, but not every intersection has been caffeinated. Starbucks hopes to change that. The coffee retailer plans to open 12,000 new stores in the next five years.  The company also said it would open an outlet of its high-end coffee chain, Reserve Roastery and Tasting Room – for the real coffee connoisseurs, or at least someone crazy enough to pay $10 for a cup of Joe, or should we say Josephus.

Today, is of course, December 7^th, a date which will live in infamy; 75 years ago, today the United States was suddenly and deliberately attacked by the naval and air forces of the Empire of Japan.

It is a hallowed site. About 15 minutes into the attack at Pearl Harbor, the Arizona was destroyed, killing 1,177 sailors and Marines on board. And there the Arizona remains to this day.  On December 6, 1941, Arizona took on a full load of fuel – nearly 1.5 million gallons – in preparation for its scheduled trip to the mainland later that month. The next day, much of it fed the explosion and subsequent fires that destroyed the ship following its attack by Japanese bombers.

However, despite the raging fire and ravages of time, some 500,000 gallons are still slowly seeping out of the ship’s submerged wreckage: 75 years after its demise, Arizona continues to spill up to 9 quarts of oil into the harbor each day. They call the leaking oil, the “tears of the Arizona.”

Some people believe the oil will continue to leak until the last Pearl Harbor survivor dies. We will know if that is true soon.

Financial Review

Dominoes on Edge

Sinclair Noe — December 6, 2016

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DOW + 35 = 19,251
SPX + 7 = 2212
NAS + 24 = 5333
RUT + 14 = 1352
10 Y + .01 = 2.40%
OIL – .95 = 51.88
GOLD – .80 = 1170.20

Another record high for the Dow industrial average. This is starting to be old hat. Also, a record high for the Russell 2000 –  close but no cigar for the S&P. Still, it looks like the stock market, at least the US stock market loves the idea of Trumponomics, at least for now.

The rest of the financial world – not so much.

The bond market certainly has not been happy. Government bond prices have unraveled. The yield on the benchmark 10-year Treasury note for example, surged from 1.6% at the end of September to 2.40% today. And there is the inverse relationship to price and yield; as yield moves higher prices moves lower, or in this case prices have cratered.

So, is the stock market or the bond market smarter when it comes to predicting what’s next for broader financial markets and the economy? Will inflation sour the growth outlook, and which market will reflect that sooner? Perhaps the biggest threat to financial markets right now is a sense of complacency.

The U.S. trade deficit jumped almost 18% in October as imports rose to the highest level in 14 months. The nation’s trade gap climbed to a four-month high of $42.6 billion. October imports increased 1.3% to $229 billion, marking the highest level since August 2015. The U.S. imported more drugs, computer accessories, cell phones and other consumer goods.

Exports, meanwhile, slipped 1.8% to $186.4 billion in October. That’s the smallest amount in three months. The decline in exports was largely related to fewer shipments of farm products such as soybeans and corn as well as petroleum and other industrial supplies.

Bankers are running out of private sector solutions for Banca Monte dei Paschi and have told the Italian lender to prepare for a state bailout this weekend after Matteo Renzi suffered a referendum defeat. Renzi will remain in his job as Prime Minister for at least a week; snap elections have not yet been called.

While financial markets responded relatively calmly, sources told the Financial Times that the political upheaval made it “more difficult” to secure a €1-billion-euro investment from Qatar on which Monte de Paschi’s €5-billion-euro capital-raising plan hinges. Shares in the bank have lost more than 85% in value this year. Plans by leading Italian banks to raise billions of euros from investors to boost their financial strength have been damaged by the outcome of Sunday’s referendum, a leading ratings agency said on Tuesday as it downgraded its outlook for the sector.

Fitch – which said it had a negative outlook on the Italian banking industry for 2017 – said profitability in the sector was already frail before the referendum. So, why no bank run in Rome? Well, Eurozone rules come into effect: first the shareholders lose, then bondholders get bailed in and their bonds are exchanged for stock, and then depositors above the deposit insurance level of €100,000 are forcibly converted to equity. Only then can the government step in with bailouts.

No idea who would buy all the newly converted stock, and without buyers, you have a bank run of sorts. And if you have a bank run of sorts in Italy, the German banks (specifically Deutsche Bank) start looking very, very dangerous. So, the idea that Italian banks are having a hard time finding private recapitalization brings up visions of dominoes on edge.

Despite approving a set of “short-term” debt relief measures, talks between Eurozone ministers and the IMF broke down on Monday with little headway having been made in resolving splits over Greece’s €86-billion-euro bailout. And it looks like the International Monetary Fund has abandoned the bailout program, at least until the Eurozone gives Athens more debt relief or Greece legislates more spending cuts.  The Greek government, facing a population worn down by years of austerity, has warned creditors not to push it too far.

Reaching a deal to cut production is one thing; getting an actual reduction in global output is another. Crude production from OPEC members is likely to have risen to a record 34.16 million barrels a day in November, with African members leading the gains.

Federal and Los Angeles officials said they had been alerted by authorities in another country to a “specific” threat against the city’s Red Line commuter rail system, prompting them to beef up security and alert the public. Los Angeles Police Chief Charlie Beck told a news conference, “This threat is imminent, … it is very specific, but the credibility still needs to be vetted.”

Amazon wants to automate grocery shopping. Amazon is testing a grocery store in downtown Seattle that lets customers walk in, grab food from the shelves and walk out again, without ever having to stand in a checkout line. Customers tap their cellphones on a turnstile as they walk into the store, which logs them into the store’s network and connects to their Amazon account through an app.

The service is called Amazon Go. It uses machine learning, sensors and artificial intelligence to track items customers pick up. These are then added to the virtual cart on their app. If they pick up an item they later decide they don’t want, putting it back on the shelf removes it from their cart. Amazon envisions opening more than 2,000 brick-and-mortar grocery stores under its name, depending on the success of the new test locations. Target and Walmart plan to expand a service that lets shoppers order online and pickup curbside to 1,000 stores by the end of next year.

The Supreme Court ruled that Samsung’s violation of Apple’s smartphone design patents may involve only a component, rather than the entire product – a decision that means Samsung might not have to pay penalties reaching into the hundreds of millions of dollars. The justices reasoned that the patent infringement could affect just a component of the phones, such as their appearance, rather than all their capabilities.

The legal battle between the two tech giants represented the first design patent case to reach the high court in more than a century. A jury in 2012 had ruled that because Samsung infringed on three of Apple’s iPhone design patents, it must fork over the entire profits from the phones in question. Now the case will return to the U.S. Court of Appeals for the Federal Circuit to determine what portion of its profits Samsung must pay – a process several justices predicted will be difficult.

In a separate case, the Supreme Court sought to crack down on insider trading, ruling unanimously that tips passed between relatives and friends are illegal even if the corporate insider receives no financial benefit.

The decision marked the first time the high court had clarified what constitutes insider trading in nearly two decades, and it upended a legal standard set by a New York-based federal appeals court in 2014 that had made prosecutions more difficult. The decision was written by Justice Samuel Alito, saying: “Giving a gift of trading information is the same thing as trading by the tipper followed by a gift of the proceeds.”

Wall Street has been watching the case carefully for a sign of where the justices stand on the issue. The earlier case, which the high court refused to hear, made it almost impossible to obtain convictions unless prosecutors presented evidence showing the tipster received a direct benefit. The high court called that decision “inconsistent” with its precedents.

Requiring that insiders get rewarded didn’t sit well with most of the justices during oral argument in October. In some instances, Justice Stephen Breyer said, “to help a close family member is like helping yourself.” Federal prosecutors have used a 1983 rule, like the one agreed upon by the justices, to convict both corporate insiders and the people they tip off. Maintaining such a rule, Justice Elena Kagan said last month, was important to maintain “the integrity of the markets.”

A group effort? YouTube, Facebook, Twitter and Microsoft are stepping up efforts to remove extremist content from their websites by creating a common database that will be up and running in early 2017. The web giants will share “hashes” – unique digital fingerprints they automatically assign to videos or photos – of terrorist material to enable their peers to identify the same content on their platforms.

5G and its multi-gigabit cellular speeds probably won’t hit the market until 2020, but AT&T has started testing the technology inside of one of Intel’s offices in Austin, TX. The company is particularly interested in how the new network will stand up to streaming 4K video, but will also test a wide variety of uses, including VPN, VoIP, “unified communications applications” and good old internet access.

Financial Review

How Low Can It Go?

Sinclair Noe — July 5, 2016

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DOW – 108 = 17,840
SPX – 14 = 2088
NAS – 39 = 4822
10 Y – .09 = 1.36
OIL – 2.39 = 46.60
GOLD + 5.70 = 1357.20

Longer-end Treasury yields traded near record lows, with the 30-year yield around 2.15 percent. The 10-year yield dropped to an all-time low of 1.367 percent.

The U.S. dollar index posted another gain to 96.28, with the euro around $1.11 and the pound sterling traded near $1.30, levels not seen in more than 30 years. European stocks were mostly lower, with the German DAX off more than 1.5 percent. The STOXX Europe 600 Banks index under-performed, trading about 2 percent lower.

Factory orders in the U.S. fell 1% in May after two straight gains. So far this year, orders for manufactured goods have dropped 1.9 percent to $2.2 trillion compared to the same period in 2015.

Demand in a category that serves as a proxy for business investment – non-military goods that exclude the volatile aircraft category – slipped 0.4 percent in May. The Commerce Department also reports durable goods orders declined 2.3%.

Demand for mining and energy-related equipment slid 5.8% following a 20.8% plunge in the prior month. Orders for computers were also weaker. Bookings for nondurable goods rose 0.3%.

Corelogic reports home prices nationwide, including distressed sales, increased year over year by 5.9 percent in May 2016 compared with May 2015 and increased month over month by 1.3 percent in May 2016 compared with April 2016.

The CoreLogic HPI Forecast indicates that home prices will increase by 5.3 percent on a year-over-year basis from May 2016 to May 2017 – so more of the same. Twenty-two states reached new highs for the month; Arizona was not one of them; we remain 23.9% below peak prices, but the state did record a 5.8% year-over-year price increase.

Tomorrow we get the minutes from the Fed’s June FOMC meeting. If the minutes show real concerns about the durability of the economy, it could be friendly to the dovish market, which now only has fully priced in the next rate hike in 2018. Alternatively, the minutes could suggest the Fed was fairly confident that the labor market would come back. This would be less friendly for the market.

Federal Reserve Bank of San Francisco President John Williams held a couple of interviews today and said Britain’s vote to exit the European Union probably won’t derail the U.S. economy, leaving the Fed scope to raise interest rates this year if his growth and inflation expectations are met.

The Bank of England takes action. The BOE’s Financial Policy Committee cut its counter-cyclical capital buffer for UK banks to zero from 0.50%, according to the latest Financial Stability Report. The committee says the buffer will remain in place for at least the next year as the UK economy deals with “uncertainty” following the vote for a British exit from the European Union, or Brexit.

Australia’s central bank held its cash rate today at a record low of 1.75%, a widely expected decision given political uncertainty and a lack of timely information on domestic inflation. The country still doesn’t know who won Saturday’s general election and final results may not be known for another week.

Euro zone business growth held steady in June, but the modest pace suggested economic growth in the second quarter was half the rate of January-March, even as a rebound in Italy and rapid acceleration in Spain brightened the outlook. In France, data showed both services and manufacturing contracting. The majority of the surveys were completed before Britain voted on June 23 to leave the European Union.

In the past 24 hours, three different UK property funds have frozen withdrawals, citing a rush by investors to pull out their money in the wake of the UK’s Brexit vote. In 2007, Bear Stearns banned withdrawals from one of its hedge funds after investors were spooked by rising defaults and bankruptcies. The British property funds are very different beasts from the exotic, derivative-laced vehicles that presaged the global financial meltdown. These funds are open to regular retail investors and invest in things like office parks and malls.

But forget about Brexit for a moment; the new worry of the day is Italian banks. A big feature from The Wall Street Journal  captures most of the concerns with Italy’s banking system and the political turmoil it appears liable to set off.

In short, Italian banks are loaded with bad debts; 17% of bank loans in Italy are “sour,” a level much greater even than that of the US banking system at the height of the financial crisis (5%).Of course, issues surrounding the Italian banking system are not strictly new, and in the past year shares of UniCredit — Italy’s only bank considered globally significant — and Banca Monte dei Paschi di Siena, the oldest bank in the world, are down over 60%.

Reports surfaced in April that the government could step in to shore up the banking system; days later the government got executives, insurers, and investors to put 5 billion euros into a rescue fund for Italy’s weakest banks. This morning, a report from Bloomberg said Italy was looking to inject up to 3 billion euros into Monte dei Paschi; this would be the bank’s third bailout since the financial crisis.

The U.S. holds more oil reserves (264 billion barrels) than Saudi Arabia (212 billion) and Russia (256 billion), the first time it has surpassed those held by the world’s biggest exporting nations, according to a new study by Rystad Energy.

The analysis of 60,000 fields worldwide, conducted over a three-year period, shows total global oil reserves at 2.1 trillion barrels. That is 70-times the current production rate of about 30 billion barrels of crude per year. For the U.S. more than 50 percent of the remaining oil reserves is in unconventional shale oil. Today, oil prices dropped nearly 5%.

NASA’s Juno spacecraft, built by Lockheed Martin, ended a five-year, 1.8 billion-mile journey to Jupiter, with a do-or-die engine burn to sling itself into the planet’s orbit. No small trick. At the time of its arrival, Juno was flying through the solar system at over 150,000 miles per hour—making it one of the fastest man-made objects ever.

Juno will spend the next 20 months studying what lies beneath the gas giant’s thick clouds and measure its gravity, magnetic fields and water content. Juno is the ninth spacecraft to see Jupiter up close, but only the second to ever go into orbit around it, and Juno promises to provide the most intimate peek into the far-off Jovian system yet.

Poland has made significant progress in its talks with Raytheon over a Patriot missile system valued at an estimated €5-billion-euro. According to the Polish Defense Ministry, the country is ready to move ahead with the plan because Raytheon pledged that 50% of the missile system spending would be “done in Poland by Polish arms firms.”

BlackBerry will stop making its Classic smartphone. The Classic was launched early last year, with a physical keyboard and powered by the company’s overhauled BlackBerry 10 operating system. BlackBerry has since launched a phone powered by Alphabet’s Android software and plans several more.

Google DeepMind, the London-based artificial intelligence unit owned by Alphabet, announced a research partnership today with the British National Health Service to gain access to a million anonymous eye scans. DeepMind specializes in machine learning, the increasingly important area of technology where algorithms allow computers to learn and figure things out on their own.

DeepMind will use the eye scan data to train its computers to identify eye defects. The aim is to give doctors a digital tool that can read an eye-scan test and recognize problems faster. Earlier detection of eye disorders related to diabetes and age-related macular degeneration could allow doctors to prevent loss of vision in many people

A bidding war with Salesforce.com forced Microsoft to pay nearly $6 billion extra last month to seal its planned takeover of LinkedIn. Details of the frenzied bidding were revealed in a filing with the SEC ahead of a shareholder vote to approve the transaction. A month-long back-and-forth between the two rivals pushed the value of the all-cash deal to $26.2 billion, making it the third-largest acquisition in the tech industry.

Three former Barclays traders have been found guilty of Libor manipulation almost four years after the bank paid out hundreds of millions of dollars in fines for fixing the key benchmark rate. Days after the British firm became the first to settle, its Chief Executive Officer, Bob Diamond, lost his job and regulators eventually imposed roughly $9 billion in penalties on the financial industry.

The convictions bring the total number of bankers Britain has convicted over the long-running Libor-rigging scandal to five. That is still a better fines to conviction ratio by far than the US had for mortgage abuses by big banks.

London Stock Exchange shareholders approved a $27 billion merger with Deutsche Boerse yesterday despite renewed uncertainty following the Brexit vote. The two exchanges insisted that their all-share merger to create the world’s biggest bourse by revenue was essentially “Brexit proof”.

Markets Pare Post-Brexit Rally

Charles Schwab: On the Market

Posted: 7/5/2016 4:15 PM ET

Markets Pare Post-Brexit Rally

U.S. equities finished the first session of a shortened week lower, as Brexit concerns resurfaced and anxiety over the Italian banking sector started to creep into investors' psyche. Treasuries moved higher amid a decline in factory orders, and crude oil prices were sharply lower, while the U.S. dollar and gold gained ground.

The Dow Jones Industrial Average (DJIA) fell 109 points (0.6%) to 17,841, the S&P 500 Index declined 15 points (0.7%) to 2,089, and the Nasdaq Composite lost 40 points (0.8%) to 4,823. In moderately-heavy volume, 969 million shares were traded on the NYSE and 1.7 billion shares changed hands on the Nasdaq. WTI crude oil dropped $2.39 to $46.60 per barrel and wholesale gasoline was $0.08 lower at $1.43 per gallon, while the Bloomberg gold spot price increased $5.31 to $1,356.10 per ounce. Elsewhere, the Dollar Index—a comparison of the U.S. dollar to six major world currencies—was 0.6% higher at 96.23.

Tesla Motors Inc. (TSLA $214) came under pressure after the electric car maker announced softer-than-expected 2Q deliveries. The company noted 2Q deliveries were lower than anticipated due to the extreme production ramp in the quarter and the high mix of customer-ordered vehicles still on trucks.

Insys Therapeutics Inc. (INSY $15) moved higher after announcing that the U.S. Food and Drug Administration (FDA) approved its treatment for anorexia, known as Syndros. INSY said Syndros is awaiting scheduling by the U.S. Drug Enforcement Administration.

Factory orders drop to begin shortened week

Factory orders (chart) fell 1.0% month-over-month (m/m) in May, versus the Bloomberg expectation of a 0.8% decline, while April was adjusted lower to a 1.8% gain. May durable goods orders—preliminarily reported two weeks ago—were revised lower to a 2.3% drop from the initial estimate of a 2.2% fall.

Treasuries were solidly higher, as the yield on the 2-year note dropped 4 basis points (bps) to 0.55%, while the yield on the 10-year note declined 8 bps to 1.37%, and the 30-year bond rate fell 9 bps to 2.14%. Bond yields have fallen back to record lows as the global markets continue to grapple with the impact of the U.K. Brexit vote and Schwab's Chief Fixed Income Strategist, Kathy Jones offers analysis in her recent article titled, Brexit: What Does It Mean for the Bond Market?, at www.schwab.com/marketinsight. Follow Kathy on Twitter: @kathyjones.

Today's report kicked off the holiday-shortened week and although the global markets will likely continue to grapple with the Brexit fallout, we will get a plethora of key reports. The docket will be headlined by tomorrow's minutes from the Federal Reserve's June meeting, culminating with Friday's June nonfarm payroll report. However, the data has the potential to be discounted somewhat as the impact of the Brexit vote is not likely to show in the data, and it has dampened expectations of a near-term Fed rate hike. As noted in the Schwab Market Perspective: British Shock—What's Next, the Fed is unlikely to raise rates in the foreseeable future, and could look to add some sort of support to the economy or financial institutions if needed. The next several weeks could be a tumultuous time in global markets, and investors need to keep a longer-term view in mind. Global stock markets have tended to ultimately rebound from other sharp declines—often fairly quickly. It can be tough to get back on track once things reverse, so we recommend investors use volatility to tactically keep allocations in line with their long-term strategic targets. Read more www.schwab.com/marketinsight.

Other notable releases slated for tomorrow include the ISM non-Manufacturing Index, forecasted to rise to a level of 53.9 for June from the 52.9 posted in May, as well as Market's final Services PMI, anticipated to tick lower to a level of 51.3 from the preliminary reading of 51.4, but up from May's 50.7 level. In addition, investors will get a look at the trade balance, with economists expecting the deficit widened to $40.0 billion in May from the $37.4 billion registered in April, as well MBA Mortgage Applications.

Europe and Asia lower as Brexit concerns flare up

European equities finished mostly lower, with financials seeing heavy pressure amid festering Italian banking concerns, and as worries about the impact of the U.K.'s recent vote to leave the European Union flared up. The British pound fell versus the U.S. dollar, though the U.K. markets reversed modestly to the upside as the Bank of England reduced capital requirements for banks after Governor Carney warned that "there is the prospect of a material slowing of the economy." For deeper analysis of the impact of the Brexit vote, see the Schwab Center for Financial Research's recent article, Brexit: What Investors Should Know, at www.schwab.com/marketinsight and be sure to check out the video from Schwab's Managing Director of Trading and Derivatives, Randy Frederick and Schwab's Chief Global Investment Strategist, Jeffrey Kleintop, CFA, titled Brexit Aftershock: When Will the Markets Calm Down?, at www.schwab.com/insights. Follow Schwab, Randy and Jeff on Twitter: @schwabresearch, @randyafrederick and @jeffreykleintop.

In economic news, the final Markit Eurozone Composite PMI Index—a gauge of business activity in both the services and manufacturing sectors—was revised higher to 53.1 in June, from the preliminary level of 52.8, where economists had expected it to remain. A reading above 50 denotes expansion and the index matched May's figure. Eurozone retail sales rose in line with expectations for May. The euro declined versus the U.S. dollar and bond yields in the region were mixed.

Stocks in Asia finished mostly to the downside with political uncertainty in Australia and flared-up Brexit concerns dampening global sentiment, though mainland Chinese stocks gained ground following an upbeat read on the nation's key services sector activity and hopes of further stimulus measures. Australian equities fell, led by financials, after the Reserve Bank of Australia held its monetary policy unchanged and as political uncertainty was fueled by federal elections over the weekend failing to deliver a clear winner. Schwab's Director of International Research, Michelle Gibley, CFA, offers a look at the global political landscape in her article, Performing Reformers: How Political Change Can Affect Stocks, at www.schwab.com/oninternational, and be sure to follow Schwab on Twitter: @schwabresearch. Finally, Japan's markets dropped, exacerbated by the yen rallying late in the session, while stocks traded in Hong Kong, South Korea and India all finished lower.

Tomorrow's international economic calendar will be fairly light, with manufacturing orders and construction PMI coming from Germany, while the Swiss National Bank will meet, with no change to its monetary policy stance expected.

Financial Review

Dead Cat Bounce

Sinclair Noe — June 28, 2016

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

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DOW + 269 = 17,409
SPX + 35 = 2036
NAS + 97 = 4691
10 Y un = 1.46%
OIL + 1.78 = 48.11
GOLD – 12.60 = 1312.50

Stocks bounced back across the globe after a record $3 trillion in market cap was wiped off the board in just two trading days and sterling fell to its lowest level in over 30 years. Hopes of a more coordinated central bank response to support the financial markets and firmer oil prices are helping stocks claw back some of their losses following the Brexit battering.

And after two days of brutal selling, traders are taking a breath and trying to figure out the best strategy moving forward. Even with the gains today, the Dow is down year to date, but the Dow did not take out the lows for the year, set back in February.

Same story with the S&P 500, which found some support yesterday at the 2000 level, after breaching major support around 2040 and then clawing its way above 200-day moving average resistance at 2021. And if you want to get clever, consider the Russell 2000 index of small cap stocks is also down year to date, did not take out the February lows, but did find some support at the May lows.

Now, you can easily understand that big, multi-national companies are affected by what happens in Europe, but why did the small caps take a hit? Do you buy the dips or sell the rallies?

Heads of government of the EU’s member countries are gathered for a two-day meeting of the European Council in Brussels. No country has ever left the bloc, so they are in uncharted territory as they try to figure out how to make Britain’s separation proceed as smoothly as possible. Pressure is also expected to be applied on the U.K. to trigger Article 50, which would actually start a 2 year exit process. The UK might opt for a much faster exit, or they might drag things out. Several Euro leaders have expressed the idea that the UK needs to explain what they are going to do because the uncertainty is not good.

German Chancellor Angela Merkel warned the U.K. to have no illusions about life outside the European Union. Merkel, in her toughest response yet to last week’s British vote, said that the U.K. can’t expect favored treatment once it leaves and that there will be no informal talks on a new relationship before the government in London files Article 50.

The Brits were hoping they could renegotiate trade treaties and just sort of cherry pick the best deal, while not paying into the EU or abiding by rules and regulations they don’t like. Yea, that’s not gonna happen. One of the leading campaigners for the exit side, Nigel Farage from the UK Independence Party, spoke before the European parliament; he was booed. EU Commission President Jean-Claude Juncker called Farage a liar. This is not going to be an amicable divorce.

The British government has abandoned plans to sell down its shareholdings in RBS and Lloyds in light of the Brexit referendum, leaving a multi-billion-pound hole in its finances. The Treasury had planned to cut its exposure to the domestic banks, raising £9-billion-pounds through stock sales, but the date has now been pushed back until at least 2017 given market volatility.

Moody’s will revise the outlook of “a number of big U.K. lenders” to negative from stable due to fallout from last week’s EU referendum. The plan comes just hours after rival Standard & Poor’s stripped the U.K. of its coveted triple-A rating and Fitch downgraded the sovereign debt.

The first bank casualties might be in Italy. Italy is preparing a €40-billion-euro rescue of its financial system as bank shares collapse on the Milan bourse. Italian officials are studying a direct state recapitalization of the banks, to be funded by a special bond issue. Unlike the Eurozone debt crisis in 2011-2012, there is no serious trouble yet in the sovereign debt markets. The ECB is effectively capping yields under quantitative easing. The Euro STOXX index of bank stocks has collapsed by half since last July. And Italian banks are the Achilles Heel of the Eurozone financial system. Non-performing loans have ratcheted up to 18% of total balance sheets.

The stock market sell-off did shake thing up; of course some stocks were hit harder than others.  Apple still has the largest market capitalization among US stocks, but here are some of the leadership changes. Verizon is now bigger than Walmart. Proctor and Gamble is bigger than JPMorgan. Coca-Cola and PepsiCo beat Chevron and Intel, respectively. And Home Depot is now bigger than Disney.

U.S. economic growth slowed in the first quarter but not as sharply as previously estimated. Gross domestic product was revised higher to show a 1.1 percent annual rate, rather than the 0.8 percent pace reported last month. Federal Reserve Chair Janet Yellen told lawmakers last week that data pointed to “a noticeable step-up” in GDP growth in the second quarter. The Atlanta Federal Reserve is currently estimating second-quarter GDP rising at a 2.6 percent rate. But uncertainty stoked by the Brexit vote poses a risk to growth for the rest of year.

U.S. house prices rose 1.1% in April. The S&P/Case-Shiller 20-City Index showed a stronger pace of growth in the three months ending in April. March’s reading was 0.9% higher. Compared to the same period a year ago, prices rose 5.4%, down from 5.5% in March. But there was a stark divide between cities, as usual. Super-hot metros like Portland, Seattle and Denver continue to see double-digit annual price gains, while home prices in older cities like New York and Washington rose only about 2% on an annual basis. Phoenix existing home prices rose 0.7% for April; up 5.5% for the past year.

U.S. consumer confidence moved higher in June. The Conference Board said its consumer confidence index rose to 98 from 92.4 in May. The present situations index rose to 118.3 from 113.2, while the expectations index rose to 84.5 from 78.5. However, the cutoff date was June 16, a week before the British referendum that has roiled financial markets.

Oil prices bounced about 2% today. Still, regular unleaded gasoline fell to $2.30 Monday (the nationwide average price), the cheapest price for this time of year since 2005, according to data from AAA. Consumers are reaping the benefits to the tune of $20 billion. That’s how much AAA estimates drivers have saved at the pump so far this year compared to the same period in 2015; with $5 billion of those savings were in the one-month period since Memorial Day alone.

And we are spending the savings at the pump. Americans spent 12.8 percent more on hotels and motels in the first quarter of 2016 than in the same period in 2014, while food and drink spending rose 16 percent, according to data from the U.S. Bureau of Economic Analysis. Consumers are also fueling their vices, including by spending more money on cigarettes. Not all of those gas savings are going up in smoke, however: Americans are also saving some of it for a rainy day. The average personal saving rate in the first four months of the year rose to 5.6 percent, up from 5.2 percent in the same period in 2015 and 5 percent in 2014.

Volkswagen’s price tag to settle lawsuits in the U.S. over its rigging of diesel emissions tests has jumped to more than $15 billion – $5 billion more than previously reported – with a settlement filed in a San Francisco court. VW’s deal includes $10 billion for buybacks of 475,000 polluting vehicles and nearly $5 billion for fines and funds to boost clean-emissions technology. If you own a VW affected by the emissions scandal you may be entitled to cash compensation plus a buyback of the vehicle, or you could wait for a modification to fix the problem. And if you leased an affected car you might also be entitled to cash compensation.

The U.S. Senate is set to launch a debate for establishing a federal oversight board that would be in charge of restructuring Puerto Rico’s debt where one out of every three dollars it earns in revenue is used to pay creditors. The measure is identical to the plan passed by the House earlier this month, as Congress tries to get something done by July 1, when $2 billion in debt payments come due.

A large “Four Points by Sheraton” sign has gone up outside the Havana hotel that this week becomes the first in Cuba to operate under an American brand since the 1959 revolution. The military-owned Gaviota 5th Avenue Hotel, close to the Caribbean seafront, is one of two hotels that Starwood Hotels & Resorts agreed to manage in a multi-million-dollar deal in March.

Airbnb sued San Francisco. The holiday-rental platform wants to block a law that would force it to remove listings from unregistered hosts or face hundreds of thousands of dollars in fines. It complained that the city is violating federal law by holding it accountable for unregistered apartments.

Biotech news roundup: Endo International has held discussions with Private Equity firms about potential asset sales to reduce its more than $8 billion debt pile. Pfizer is investing $350 million to build its first biotech center in China. Horizon Pharma has hired Bank of America to help it explore selling a significant equity stake that would bolster its balance sheet.

The EU is taking steps that could lead to a third antitrust complaint against Google, this time over its dominance in advertising.  Antitrust charges have been filed against Google for allegedly skewing its search results to favor its own shopping service, and more recently in April, over Google’s conduct with its Android mobile-operating system.