Financial Review

De Facto Fail

Sinclair Noe — August 29, 2016

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DOW + 107 = 18,502
SPX + 11 = 2180
NAS + 13 = 5232
10 Y – .07 = 1.57%
OIL – .69 = 46.95
GOLD + 2.70 = 1324.20

Federal Reserve Chair Janet Yellen, in a speech Friday, said the case for a rate hike had strengthened, but left open the timing. Fed Vice-chair Stanley Fischer followed up by saying a September hike was a possibility. The Fed will have plenty of economic data in the next few days culminating in Friday’s Jobs Report for August.

The market is pricing in a 42% chance of a September interest-rate hike and a 64.7% probability of a rate hike by the end of the year. Over the weekend and today, I read several articles that seemed to relay the basic idea that the Fed is confused and the outlook for rate hikes is muddied. Probably not. I don’t think it’s a done deal but Yellen was pretty straightforward. They haven’t made a decision yet.

If Yellen really wanted to say something straightforward, I think the best thing would be to say the Fed won’t be doing anything right now; they’ve done all they can, and now the politicians in Washington need to do something for the economy.

Americans increased spending by 0.3% in July, buying more new cars and trucks and devoting more money to utilities such as cooling their homes. What’s helped consumers has been a gradual increase in incomes and lower gasoline prices. Personal income rose 0.4% last month. Since incomes rose faster than spending, the personal savings rate climbed to 5.7% from 5.5%.

Inflation as measured by the PCE index was unchanged in July. The core rate of inflation that strips out the volatile food and energy categories rose 0.1%. The PCE index, the Federal Reserve’s preferred inflation barometer, increased 0.8% in the 12 months ended in July, a tick lower than in June. The annual rate of core inflation was flat at 1.6%.

Japan’s Nikkei climbed 2.3% overnight as the yen weakened against the resurgent dollar following Yellen’s comments. Adding to pressure on the currency, BOJ Governor Haruhiko Kuroda said at Jackson Hole on Saturday that there was ample space for further easing of monetary policy via QE or by cutting interest rates deeper into negative territory.

Hackers have breached databases for election systems in Illinois and Arizona. The FBI has been investigating. In late May, Arizona officials took the statewide voting registration system offline after the FBI alerted the Arizona Department of Administration that there was a credible cyber threat to the voter registration system. When they took the system offline to review any vulnerabilities, they discovered that a county election official’s username and password had been posted online publicly.

It’s believed that a worker may have inadvertently downloaded a virus which exposed the username and password. In this instance, the username and password information posted would only give individuals access to a localized, county version of the voting registration system, and not the entire state-wide system. There is no evidence that any data within the system was compromised and there was no evidence of malware present in the database.

The Illinois database included voters’ names, addresses, sex and birthdays in addition to other information. Some of the records include either last four digits of a voter’s social security number or drivers’ license numbers. Illinois officials say they are confident the hackers did not change the data, although the investigation is still underway.

Brazil’s suspended President Dilma Rousseff testified in her impeachment trial this morning.  Rousseff urged senators to vote against her impeachment, saying it would put at risk the country’s democracy. In a speech during her trial in the Senate, Rousseff recalled her fight against dictatorship, highlighted her social welfare policies, and said the charges against her were manufactured by the country’s elite to take power after losing the 2014 presidential election.

She warned of more inequality and poverty if her successor, Michel Temer, were to be confirmed in office. Rousseff again denied any wrongdoing and accused the opposition of sabotaging her administration to gain power, without consideration to the collateral damage the political maneuvering has caused the Brazilian people.

Turkish forces are intensifying their military campaign in Syria, seizing territory held by ISIS and Kurdish militants. The clashes underscore the complexity of the U.S.-led coalition against Islamic State. American special operations forces are embedded with Kurdish rebels, but also have close contact with their Turkish counterparts and rely on the country for their rear supply lines.

Free trade talks between the European Union and the United States have failed, at least according to Germany’s economy minister, Sigmar Gabriel, citing a lack of progress on any of the major sections of the long-running negotiations. Both Washington and Brussels have pushed for a deal by the end of the year, despite strong misgivings among some EU member states over the Trans-Atlantic Trade and Investment Partnership, or TTIP. Over the weekend, Gabriel, who is also Germany’s vice chancellor, said: “In my opinion, the negotiations with the United States have de facto failed, even though nobody is really admitting it.”

Apple has sent out invitations for September 7^th. A big deal, likely the unveiling of the new iPhone 7, which will look a lot like the iPhone 6. Apple also likely has marked tomorrow for a big event in Europe.

The European Commission started to look into Apple’s Irish tax rate in 2014, and tomorrow they will issue a ruling on the three-year investigation. Today, the EU’s competition commissioner published a 130-page judgement which says that Apple received “illegal state aid” from Ireland – essentially a sweetheart deal that allowed the computer maker to unfairly reduce its tax bill in a way not available to other companies.

The commission focused on how and where Apple lists its intellectual property for tax purposes, which is one of the major loopholes that critics claim tech companies use to funnel assets to low-tax countries. The decision does not have a specific fine attached, but it is expected to be Europe’s largest tax penalty ever, according to the Financial Times, which pegs the amount at “billions of euro.” We’ll learn more tomorrow.

GCL-Poly Energy Holdings, the world’s biggest maker of polysilicon for solar cells, has agreed to purchase the solar-material business of SunEdison for $150 million. SunEdison filed for Chapter 11 bankruptcy protection in April with $16 billion in liabilities.

Separately, D.E. Shaw & Co is weighing a bid for SunEdison’s controlling stake in TerraForm Power, the bankrupt renewable energy producer’s most valuable asset. The hedge fund and its affiliates already own some TerraForm Power common shares after receiving them in an agreement announced last year upon forgiving debt owed by SunEdison. Appaloosa Management and Brookfield Asset Management have also announced plans to jointly bid on “Class B” shares of TerraForm Power.

The saga over the control of the Viacom media empire may finally be completely done. Keryn Redstone, granddaughter of Sumner Redstone, has agreed not to oppose her grandfather’s decision to resolve lawsuits over the removal of Viacom CEO Philippe Dauman, removing a key obstacle to a settlement. In return, Redstone said he will meet with his granddaughter, who has challenged his competency in a Massachusetts court fight.

The FDA has issued an Emergency Use Authorization for Roche’s “Lightmix Zika” test, a quick diagnostic check that allows healthcare professionals to quickly detect the virus. Zika has been associated with microcephaly, a birth defect characterized by an unusually small head and potential developmental problems.

Amid a wave of criticism over the rapid escalation in EpiPen costs, Mylan said it would launch a generic alternative to its allergy auto-injector at a discount of more than 50% to the branded product’s list price. Mylan expects to release the $300 two-pack carton in several weeks, pending completion of labeling revisions. That would still represent about a 300% increase over the past 9 years; and the actual drugs used only cost a few cents per dose. So, it still looks like price gouging.  The House Oversight and Reform Committee has decided to look into the matter.

New rules by the FAA go into effect today, clarifying what is acceptable commercial usage of small unmanned aerial vehicles. Drones must weigh less than 55 pounds, fly up to a maximum of 400 feet in altitude, at a speed of no more than 100 miles per hour, only operated within line of sight and can only be operated during the day (although there are some exemptions for night flights).

According to industry estimates, the rules could generate more than $82 billion for the U.S. economy and create more than 100,000 new jobs over the next decade. The Federal Aviation Administration says there will be 600,000 commercial drone aircraft operating in the US within the year as a result of the new safety rules.

We’ve all heard about the problems with Takata airbags; the air bags have been linked to the deaths of at least 14 people and more than 100 million vehicles worldwide have been slated for recall to replace the inflators. The company is looking for a financial sponsor to help overhaul its business. Now comes word a truck transporting Takata air bag inflators and propellants exploded in Texas earlier this month, resulting in one death and four injuries, and incinerating a nearby home.

Financial Review

ECB Day

Sinclair Noe — April 21, 2016

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

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DOW – 113 = 17,982
SPX – 10 = 2091
NAS – 2 = 4954
10 Y + .02 = 1.87%
OIL – .71 = 43.47
GOLD + 3.70 = 1249.00

The European Central Bank held its key interest rate at 0% and its deposit rate at negative -0.40%. European Central Bank President Mario Draghi brushed off German criticism of his ultra-loose monetary policy and vowed to use all the tools at his disposal for “as long as needed”.

He said the ECB’s policy was working, which helped boost the euro. Draghi also stepped up his calls on euro zone governments to help get the region’s economy on a more solid footing through fiscal policy and more ambitious reforms.

According to a poll of over 1,000 American adults, even with the Dow Jones industrial average near its record high, only slightly more than half of Americans (52%) say they currently have money in the stock market, matching the lowest ownership rate in Gallup’s 19-year trend. Although Americans in all income groups are less likely to have stock investments now than before the Great Recession, middle-class Americans have been the most likely to flee the market.

Nearly three in four middle-class Americans, with annual household incomes ranging from $30,000 to $74,999, said they invested money in the stock market in 2007. Today, only half report having stock investments. This 22-percentage-point drop is more than double the changes seen in stock investing among higher and lower income groups.

Regulators released long-awaited proposed rules that would restrict how big financial institutions can pay their top executives. The new rules would make bankers wait at least four years to receive portions of their bonuses and force banks to find ways to claw back bonuses from bankers if their behavior leads to big financial losses. The new rules would apply only to incentive-based compensation, generally bonuses.

The structure of executive pay packages before the financial crisis was blamed for encouraging bankers to take unnecessary risks. The 2010 Dodd-Frank legislation required the major financial regulators to collaborate on rules aimed at encouraging a longer-term approach to compensation at big financial institutions. The regulators were supposed to propose the rules within 90 days of the law’s passage; and now, more than 5 years later, we have a proposal.

Commodities were booming in early trading today, with crude oil hitting a new 2016 high of $44.49 today. However, Kuwait said it boosted oil output, and Libya said it could soon do the same. Iran also reiterated that it will not be part of any oil production freeze. Ahead of this past weekend’s Doha meeting, a key Saudi prince said his country had the capacity to unleash a million barrels of oil a day on the market, while reiterating a “we won’t freeze if everyone else doesn’t” stance.

One of the more interesting moves has been in the grains market. Soybeans blew through the big $10.00 resistance level, with very little resistance. Corn got a good pop above $4.00 and wheat traded above $5.00. The grains and beans have been on a two-week run. You might suspect there is bad weather, horrible growing conditions, but there is no news. Maybe the markets are factoring in some kind of risk premium and we just don’t know what it is yet, or maybe this market just got a little carried away, and is way overbought at these levels. Beats me.

The number of Americans filing for unemployment benefits fell last week, hitting its lowest level since 1973. Initial claims for state unemployment benefits declined 6,000 to a seasonally adjusted 247,000 for the week ended April 16. The labor market is strengthening despite signs that economic growth slowed sharply in the first quarter. Employers are holding onto their employees in convincing confirmation of the strength of the nation’s labor market.

The Conference Board’s index of leading indicators rose 0.2 percent in March to 123.4, snapping a three-month streak of declines. The index’s six-month growth rate points to “slow, although not slowing, growth in the coming quarters,” said the group in a release. “Financial conditions, as well as expected improvements in manufacturing, should support a modest growth environment in 2016.”

Solar energy company SunEdison filed for Chapter 11 bankruptcy protection this morning, becoming one of the largest non-financial companies to do so in the past 10 years. Once the fastest-growing U.S. renewable energy developer, SunEdison embarked on an aggressive acquisition strategy that left it struggling with $12 billion in debt.

In its bankruptcy filing, the company said it had assets of $20.7 billion and liabilities of $16.1 billion as of Sept. 30. And if you are wondering what the bankruptcy of SunEdison says about the prospects for renewable energy, the answer is: not much. The failure of SunEd is the story of a company that took on too much debt and charted an overly aggressive growth strategy.

Volkswagen has reached a settlement in principle with the Environmental Protection Agency, California officials and consumers over a plan to fix or buy back nearly half a million vehicles that violated emissions standards. The deal includes “substantial compensation” for owners of cars powered by 2.0-liter diesel engines that were fitted with software to cheat emissions tests. Consumers will be allowed to sell their vehicles back to Volkswagen or get repairs. But financial details of the offer, which is still being finalized, were not disclosed.

The cost to buy back all of the cars affected by the scandal would be more than $7 billion. Volkswagen will also be required to invest funds to “promote green automotive” initiatives and establish an environmental remediation fund after years of cars spewing nitrogen oxide emissions at harmful levels. A US district judge in San Francisco set June 21 as a deadline for the parties to file preliminary proposals on the settlement, after which the public will have a chance to comment before he signs off.

General Motors’ first-quarter earnings and sales beat analysts’ estimates by a wide margin as it posted record results in North America and stepped toward a 15-year goal of ending losses in Europe. Net income more than doubled to $2 billion and adjusted profit rose to $1.26 a share, easily topping estimates of $.99-cents per share.

Verizon Communications said profit in the first quarter met expectations as strong tablet sales helped it add new subscribers, though an ongoing strike by its wireline workers was expected to hurt earnings in the current quarter. Still, the No. 1 U.S. wireless carrier stood by its full-year profit forecast.

Southwest Airlines reported a quarterly profit above analysts’ estimates and said it expected unit revenue to rise “modestly” in the second quarter. Southwest said it earned $511 million in the first quarter, up from $453 million a year earlier.

Under Armour reported earnings of 4-cents per share, beating estimates of 2 cents; and revenue rose 30% to $1.05 billion versus estimates of $1.04 billion. But if you listening to the earnings call, you might have missed the numbers. CEO Kevin Plank mainly raved about basketball player Stephen Curry.

After the closing bell, Google parent Alphabet reported first-quarter earnings that fell short of analyst expectations as growing losses from the tech giant’s investments in speculative new businesses overshadowed Google’s booming advertising business. Alphabet reported earnings per share excluding certain items of $7.50. Analysts had expected $7.96, according to S&P Global Market Intelligence.

Alphabet reported $17.26 billion in revenue. It was the second time that Alphabet reported financial results after restructuring as Alphabet. Now Google’s core business is separate from its “other bets” or so-called “moonshots,” many of which lose money such as smart gadget maker Nest and experimental lab X.

Microsoft’s quarterly adjusted profit missed analysts’ estimates as a continued slump in personal computer sales hurt the company’s core Windows business. Microsoft earned 62 cents per share. Analysts on average had expected a profit of 64 cents per share. Worldwide PC shipments fell 11.5 percent in the first quarter, according to research firm IDC.

Starbucks reported a 16% increase in second quarter earnings.  Sales were the best of any non-holiday quarter ever, jumping 9.4% to $4.99 billion, from $4.56 billion in the year-ago quarter. That came in slightly below what analysts expected. Earnings per share came to 39 cents, in line with analyst expectations. Same store sales increased 6% globally.

Amazon has won a deal worth about $30 million to provide e-books to New York City, the nation’s largest school district. The city’s Panel for Educational Policy voted in favor of the three-year contract for the Department of Education, which will take effect in the coming school year. For New York, there may be savings in buying more digital books, as well as the prospect of saving storage space for printed texts.

The Federal Aviation Administration has issued the first approval for flights of small commercial drones at night, in the latest sign of how quickly U.S. regulators are moving to authorize expanded uses of unmanned aircraft. The clearance comes weeks before the FAA is expected to issue long-awaited rules for widespread commercial operations of small drones. So far, such unmanned vehicles have been conducting commercial flights based on thousands of individual exemptions previously permitted by the agency.

Financial Review

Falling Knives

Sinclair Noe — March 8, 2016

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

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DOW – 109 = 16,964
SPX – 22 = 1979
NAS -59 = 4648
10 Y – .07 = 1.83%
OIL – 1.67 = 36.23
GOLD – 6.50 = 1261.50

Small business confidence declined further in February as lingering concerns about sales growth and profits hurt capital spending and hiring plans. The National Federation of Independent Business (NFIB) said its small business optimism index dropped one point to a reading of 92.9 last month, with none of the index’s components showing an increase. The index decreased 1.3 percentage points in January.

Spending and hiring plans weakened a bit as expectations for growth in real sales volumes fell. Earnings trends worsened a bit as owners continued to report widespread gains in worker compensation while holding the line on price increases.

China’s February trade performance was far worse than economists had expected, days after top leaders at the National People’s Congress sought to reassure investors. Exports fell 25% from a year earlier, the biggest drop since May 2009, while imports slumped 13%, leaving a trade surplus of $32 billion. It’s easy to blame Chinese New Year distortions, but the numbers point to bigger economic problems.

Japan’s 10-year yield extended its push into negative territory, dropping to an all-time low of minus 0.12 percent, meaning almost three-quarters of Japanese government bonds currently offer yields at or below, zero percent. By far the biggest move in trading overnight was the Japanese 30-year, which saw its yield plunge 22 basis points to a record low 0.468 percent. Japan’s 40-year yield is now lower than the U.S. 12-month yield.

After a long wait for inflation to accelerate, Fed officials face a complex and possibly divisive debate over whether recent evidence of rising prices is strong enough to move ahead with planned rate hikes.

In separate statements on Monday, policymakers at the core of that debate staked out starkly different views, with Fed Vice Chairman Stanley Fischer saying economic data now points to the “first stirrings” of inflation, while Fed Governor Lael Brainard countered that the evidence was not yet clear, and it would be much safer to wait. The Fed is not expected to raise interest rates next week, but they might signal they are looking at a rate increase in April or June.

Mario Draghi, the President of the European Central Bank, who is widely expected to tinker with the Eurozone’s financial plumbing this week in the face of weaker-than-expected inflation and six weeks of volatility weighing on business sentiment. Once again, with the market already pricing aggressive action, there’s a risk of disappointment when the ECB meets Thursday. If the ECB takes action, it sets up a divergence in monetary policy between the Eurozone and the US.

Yesterday we told you that the big jump in iron ore prices was short covering and not based on fundamentals. We have also said that trading in the energy markets has been driven by speculation more than fundamentals. Goldman Sachs tells investors the current commodity rally will fade as higher prices prompt more supply to enter the market. Yesterday, iron ore prices jumped 19%; despite the move, Citigroup says it is still bearish as supply and demand fundamentals remain firmly in place; while Axiom Capital Management said the price jump was probably just a “blip.”

Now normally, when Goldman makes a recommendation, we need to consider the possibility that it is a contrarian indicator, but in this case, they might be right. The commodity markets, especially energy, is a supply driven market, and when prices go higher, supply floods back into the market. But the current oil market is still oversupplied and prices have to remain lower for supplies to meaningfully shrink and re-balancing to take place.

The oil market has been especially volatile. Oil’s 2016 roundtrip is nearly complete. WTI crude started the year at about $40 per barrel, and bottomed around $28.75 a barrel – a double bottom actually in late January and early February. That represents more than a 34% swing.  After a 5.5% gain on Monday, the price returned to just a few pennies shy of $38. Brent crude touched $40 per barrel yesterday for the first time in 2016, and moved up to a three month high today before sliding. Now that is nothing but speculative trading.

When prices move higher it is likely a short squeeze because the fundamentals have not changed; there is still an oil glut; OPEC can’t be trusted to freeze production; and it will take time to winnow the producers and eliminate the weak players.

 Meanwhile, China is looking at extra stimulus, Japan has gone to negative interest rates, and the ECB meets Thursday to consider adding even more monetary stimulus. The net effect should be that all these countries weaken their own currency, and the dollar should strengthen. And commodities are priced in dollars, which should lead to lower prices. Just a reminder, stocks have been trading close to commodities for at least the past few months.

Oil and natural gas producer Chevron will cut its budget by at least 17 percent for the next two years as it finishes construction on major expansion projects and works to save cash. The company said it plans to spend between $17 billion to $22 billion annually in 2017 and 2018. For 2016, the company has already announced it would spend $26 billion. Executives reiterated the company’s commitment to pay its $1.07 quarterly dividend.

Goodrich Petroleum, an oil & gas exploration company said it will not make interest payments due March 15 and April 1 on some of its bonds, and will instead opt to use the 30-day grace period it is allowed before being officially in default. Goodrich said it has already launched an offer to exchange all of its outstanding unsecured notes and preferred stock for its common stock. If the exchange offers are not taken up, the company said it would likely file for Chapter 11 bankruptcy protection.

It can be tempting to look for bargains in the oil patch but some folks think it is tempting to catch a falling knife. I wonder how long it will take before Houston turns into Detroit.

Rooftop solar panel installer Vivint Solar terminated an agreement under which it would have been taken over by solar energy company SunEdison after SunEdison failed to “consummate” the $2.2 billion deal. Vivint said it intended to “seek all legal remedies available” as a result of the “willful breach” of the merger agreement by SunEdison.

SolarCity’s shares popped today after announcing a deal to install solar panel systems in Whole Foods Market stores across the U.S. The plan aims to increase the production of solar power and offset the need for a traditional grid power while helping the organic food store save money. In total, the energy firm will retrofit up to 100 Whole Foods stores with rooftop solar panels.

The U.S. Air Force has selected Pratt & Whitney to build the engines for Northrop Grumman’s new $80 billion long-range strike bomber program. Analysts had expected Pratt to be chosen as the supplier since the company already builds engines for Lockheed Martin’s F-35 combat jet. Other key suppliers for “airframe or mission systems” include BAE Systems, GKN, Spirit AeroSystems, Orbital ATK, Rockwell Collins and Janicki Industries.

Cyprus has become the fourth Eurozone nation to exit an EU-IMF bailout, as finance ministers gave the green light to leave its program without a follow-up fund. Cyprus was forced into a €10-billion-euro bailout in March 2013, due to a toxic combination of broken banks, a soaring deficit and an inability to access market financing. By contrast with Cyprus, Greece (the only Eurozone country left in a rescue program) was caught yesterday in a new disagreement between the EU and IMF regarding the strength of its bailout reform commitments.

In the latest volley in its high-profile fight with Apple, the Justice Department has appealed a decision that protects the company from unlocking an iPhone in a New York drug case. Prosecutors, who say Apple has unlocked at least 70 iPhones in the past, are relying on the same “All Writs Act” in a California court, where a judge ordered the company to unlock a device belonging to one of the San Bernardino shooters. The clash has intensified a long-running debate over how much law enforcement and intelligence officials should be able to monitor digital communications.

The Arizona Regional Multiple Listing Service reports overall sales in February were down 2.6% year-over-year. Cash Sales (frequently investors) were down to 29.0% of total sales. Active inventory is now down 0.7% year-over-year, and inventory is down for the fifteenth consecutive month.

Sportswear giant Nike, Swiss watch brand Tag Heuer and German luxury car company Porsche will end their endorsement deals with tennis star Maria Sharapova after she tested positive for an illegal heart drug at the Australian Open. Sharapova brings in, or brought in, a reported $30 million per year in endorsements.

Sharapova said she’s taken the drug, meldonium for over a decade, long before a 2016 ban by the World Anti-Doping Agency, which outlawed the substance as a performance-enhancer. So you might be wondering why there is a problem with a heart drug. Meldonium delivers oxygen through the blood. This can save lives when poor circulation reduces blood supply and oxygen to tissues. For the same reason, reducing the need for oxygen can enhance athletic performance.

Over the course of a workout, as our bodies use oxygen, our blood becomes oxygen deficient—because we’re using up oxygen at a faster rate than our lungs can replace it. Not so if you’re Maria Sharapova on meldonium. Her blood stays oxygen-rich longer, allowing her to perform longer in practice and in matches. And because the drug changes the actual substance that is metabolized in the body, it changes the way Sharapova feels after a workout, too.

This winter was the warmest on record for the contiguous U.S., according to the National Oceanic and Atmospheric Administration. The average temperature across the lower 48 states was 36.8 degrees Fahrenheit, breaking the mark set in 1999-2000. It was 4 degrees higher than the 20th-century average.