Financial Review

Split

Sinclair Noe — February 7, 2017

Podcast: Play in new window | Download (Duration: 13:16 — 7.6MB)

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DOW + 37 = 20,090
SPX + 0.52 = 2293
NAS + 10 = 5674 (record high close)
RUT – 5 = 1361
10 Y – .02 = 2.39%
OIL – .75 = 52.88
GOLD – 1.80 = 1234.40

The dollar, recovering from its worst start to a year in three decades, gained against a basket of other currencies. The euro is on the defensive, with markets nervous about elections in the Netherlands, Germany and possibly Italy, plus more wrangling over Greece’s bailout and an upcoming reduction in the European Central Bank’s monthly bond-buying.

The head of the German Bundesbank responded to accusations from the Trump administration that Germany was manipulating the euro lower. Jens Wiedmann said the dollar strength was “triggered by the political announcement s of the new government.” The pound was among the biggest losers today, falling to a two-week low as Brexit and economic growth concerns return to put pressure on sterling.

Yields on two-year Greek bonds are up 9 basis points and are at their highest level since the middle of last year, as a rare split at the International Monetary Fund puts the country’s bailout at risk. The IMF says that Greece won’t meet targets set by Europe for the country to run a budget surplus. The fund also reiterated its view that Greece’s debt levels are unsustainable.

The fund’s annual review of the Greek economy showed they disagree over the austerity measures imposed on Athens and the need for further economic reforms. The split decision fueled fears the fund might pull out of the rescue plan for the country.

China’s foreign exchange reserves have dropped below the $3-trillion level for the first time since 2011, marking the seventh straight monthly decline as capital continues to flow out of the world’s second-largest economy. Data from the People’s Bank of China showed reserves falling by over $12 billion in January, despite government efforts to tighten capital movement controls and stabilize the yuan’s exchange rate.

The US trade deficit rose slightly in 2016 to $502.3 billion, marking the highest level in four years. The trade gap widened last year because exports fell faster than imports, the result of a weak global economy and a stronger dollar that made American products more expensive to foreign buyers. The gap with China is by far the largest among the major U.S. trading partners.

Although the deficit dropped 5.5% in 2016, it still totaled $347 billion. That’s more than three-fifths of the overall U.S. trade deficit. The deficit with Mexico rose 4.2% to $63.2 billion in 2016 to mark a five-year high. Exports rose 2.7% $190.7 billion, led by higher shipments of passenger planes and parts.

Imports increased a smaller 1.5% to $235 billion as demand for pharmaceutical drugs, cell phones and televisions declined.

The Federal Reserve reports total consumer credit increased $14.2 billion in December to a seasonally adjusted $3.76 trillion, posting an annual growth rate of 4.5%, The increase was below estimates for a $20 billion gain. Revolving credit, which is mostly made up of credit card loans, slowed to a gain of $2.3 billion or an annual rate of 2.9%.

Non-revolving credit, which covers loans for education and cars, increased $11.8 billion in December, or at a 5.1% annual rate. For all of 2016, total consumer credit rose at a 6.4% rate, down from a 7% rate in the prior year.

Data provider CoreLogic said its home price index was up 0.8% during December, and 7.2% compared to a year ago. That’s the fifth straight month in which the yearly price increase was higher, including during months that saw mortgage rates jump nearly a full percentage point.

Low supply is boosting home prices higher and higher, and CoreLogic expects that prices will rise 4.7% during 2017. That would take its national index – now 3.9% below the high last set in 2006 – to a fresh high sometime this year. Arizona prices were up 0.6% for the month and 6.8% for the past year. Home prices in Arizona are still 21.4% below the peak.

The Labor Department’s JOLT survey, or Job Openings and Labor Turnover, shows there were 5.5 million job openings on the last day of December. That was essentially flat compared to November. But 5.3 million people were hired during the month, up from 5.2 million in November. Fewer people quit jobs voluntarily in December: 3 million compared to 3.1 million in November. “Quits” are tracked as a signal of how confident workers are in their ability to secure another job elsewhere.

Philadelphia Fed President Patrick Harker said he could support raising interest rates at the central bank’s March meeting if job market momentum holds up, growth continues and wages rise. John Williams, President of the San Francisco Fed, said last week that he sees the March policy meeting as a possible rate-hike candidate.

And on the flip side, Minneapolis Fed President Neel Kashkari published a blog post today stating the economy has not reached the point in terms of inflation and employment that would necessitate aggressive monetary policy. Kashkari wrote: “From a risk management perspective, we have stronger tools to deal with high inflation than low inflation.” Investors give roughly a one in four chance of a quarter-point increase in March, per federal fund futures.

Betsy DeVos was confirmed by the U.S. Senate to be education secretary, but only after Vice President Mike Pence was called in to break a tie that threatened to defeat her. It’s the first time in US history that a vice president has needed to intervene in a cabinet nominee’s confirmation.

The Department of the Army announced today that it has completed a presidential-directed review of the remaining easement request for the Dakota Access pipeline, and has notified Congress that it intends to grant an easement. Thousands of predominately Native Americans protesters boycotted the $3.8 billion pipeline’s construction in the state of North Dakota last year. The Standing Rock Tribe have said that they will fight the decision in court.

Last week President Trump signed an executive order to roll back the Dodd-Frank Act – the 2010 legislation meant to help protect taxpayers from another financial crisis. And Congress has acted, by getting rid of the Dodd-Frank rule that forces huge oil and gas companies to disclose how much they pay foreign governments while they’re doing business abroad.

Three federal judges on the Ninth Circuit Court of Appeals are set to hear oral arguments this evening on whether Trump’s travel ban will remain suspended for now; the court is not expected to decide on the constitutionality of the ban. The central question for the appellate court is whether US District Judge Robart abused his discretion by putting a temporary hold on the travel ban.

Oil prices slipped as lower production by OPEC and other exporters was undermined by growing evidence of a revival in U.S. shale production and sluggish demand. Prices have been supported over the last two months by efforts by the Organization of the Petroleum Exporting Countries and other exporters to cut output by almost 1.8 million barrels per day in the first half of 2017.

But while OPEC and Russia have together cut at least 1.1 million barrels per day so far, rising U.S. production is compensating for the shortfall. After the close, the American Petroleum Institute estimated that U.S. crude stockpiles had surged 14.2 million barrels last week.

BP’s fourth quarter earnings came in below analyst expectations, with the company saying that its cash flow won’t cover spending and dividends until Brent crude rises above $60 a barrel.

Statoil, Norway’s biggest oil company, said that it is targeting another $1 billion in cost savings after reporting an unexpected loss in the fourth quarter.

General Motors said fourth-quarter net income fell partly because of $500 million in foreign exchange losses, while the automaker forecast 2017 profit per share would be flat to slightly up from 2016. Excluding one-time items, GM earned $2.4 billion, or $1.28 a share, in the latest quarter, down 14 percent from a year earlier. The adjusted result beat analysts’ expectations of $1.17 per share.

Hourly workers for General Motors will get record bonus checks of up to $12,000 after the company reported booming sales in North America. The profit-sharing checks owed to GM’s 52,000 United Auto Workers-represented workers are based on a simple formula. They get about $1,000 for every $1 billion in annual pre-tax North American profit, according to a formula adopted as part of contract negotiations in 2011. Record U.S. industry vehicle sales powered GM to a $12 billion North American profit in 2016, up from $11 billion a year earlier.

After the closing bell, Disney reported quarterly earnings that beat expectations, but revenue fell short of estimates. The company posted first-quarter earnings per share of $1.55 on $14.78 billion in revenue.

Michael Kors Holdings reported a bigger-than-expected drop in comparable sales for the holiday quarter and forecast current-quarter profit well below estimates. Sales at stores open for more than a year fell 6.9 percent in the quarter ended Dec. 31, falling for the seventh time in eight quarters. Kors is trying to regain its brand value by reducing supplies to department stores, which have been heavily discounting its products to drive traffic.

Gap raised its profit outlook for the fourth quarter after reporting better-than-expected sales for the holiday shopping period; sales improved at its Gap and Old Navy stores.

21st Century Fox reported adjusted quarterly profit of 53 cents per share, 4 cents a share above estimates. Revenue was just slightly below estimates. Profit was up 27 percent over a year earlier, as ad sales and affiliate fees increased.

Apple pulled ahead of Samsung in smartphone shipments. Apple shipped 78.3 million units in the fourth quarter, surpassing Samsung for the first time in five years. Samsung shipped 77.5 million units, a number that was affected by its exploding-battery problem, which cost it $3 billion in lost sales.

Financial Review

A Far, Far Better Thing

Sinclair Noe — December 3, 2015

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

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DOW – 252 = 17,477
SPX – 29 = 2049
NAS – 85 = 5037
10 YR YLD + .15 = 2.33%
OIL + 1.33 = 41.27
GOLD + 8.40 = 1062.60

The S&P 500 suffered its biggest drop since late September.

The European Central Bank cut its deposit rate commercial banks must pay to store money overnight to minus 0.3% from minus 0.2%. The ECB left its key lending rate unchanged at 0.05% and the rate on its marginal lending facility at 0.3%. They also announced they will extend their bond buying program until March 2017. But the central bank did not increase the monthly spending on bonds beyond the current monthly level of 60 billion euros, or $63 billion.

With inflation at just 0.1%, unemployment still over 10% and bank lending disappointing, many analysts were expecting more aggressive moves. Now, here’s where it got interesting; the dollar index dropped over 2%, at one point the euro was up about 3% but finished trade with modest gains. Early this morning the Financial Times tweeted and reported the ECB was leaving rates unchanged. Oops. But even after the correction, the euro held on to some of the gains.

Even as the ECB announced fresh stimulus, the Federal Reserve is considering tightening monetary policy. Actually, it is more than just a consideration – the Fed has now done everything they can to communicate that a rate hike is coming on December 16^th. Fed Chair Janet Yellen said yesterday she was “looking forward” to a US interest rate increase.

This morning Yellen spoke to the Joint Economic Council in Washington and repeated the idea that it is a far, far better thing to raise rates. Yellen said that a Fed move to start raising rates will be a sign of “how far our economy has come in recovering from the effects of the financial crisis and the Great Recession. In that sense, it is a day that I expect we all are looking forward to.”

More Americans applied for unemployment benefits in the last week of November. Initial jobless claims rose 9,000 to a seasonally adjusted 269,000 in the period from Nov. 22 to Nov. 28. Weekly claims dipped below the 300,000 mark in February and are now at the lowest levels in years. The government will issue the monthly employment report for November. Economists expect a gain of about 200,000 new jobs.

Global outplacement firm Challenger, Gray & Christmas reports layoffs fell to a 14-month low in November, but total job cuts for 2015 were on track to hit a six-year high. November payroll reductions fell 39 percent from the previous month to 30,953, the lowest level since September 2014. Still, the report brings year-to-date layoffs to 574,888, setting up 2015 to be the worst year for job cuts since 2009.  Reductions in the energy sector, the hardest hit industry in terms of layoffs this year, fell to a 5-month low of 1,355, so maybe the worst of the bloodletting has passed.

The Institute for Supply Management (ISM) said its index of non-manufacturing activity fell to 55.9 from 59.1 the month before. Any reading above 50 indicates expansion in the service side of the economy. Last month’s reading was extraordinarily strong, but this month’s drop was disappointing. New export orders, new orders, business activity, and employment all showed a big slowdown.

The Commerce Department said new orders for manufactured goods increased 1.5 percent on rising demand for transportation equipment and a range of other goods. Orders in September were revised to show them falling 0.8 percent instead of the previously reported 1.0 percent drop. Despite the increase in orders last month, manufacturing looks weak.

The Obama administration expects to start lifting sanctions on Iran as early as January, after the United Nations’ nuclear watchdog found no credible evidence that Tehran recently engaged in atomic-weapons activity. However, the International Atomic Energy Agency did find that the country had pursued a program in secret until 2009, longer than previously believed. The first batch of sanctions relief would end most U.S., European and U.N. financial and energy curbs and free up around $100 billion in Iranian oil revenue that’s being held overseas.

OPEC meets tomorrow in Vienna. Saudi Arabia has reportedly challenged the oil cartel to cut production by 1 million barrels per day, saying it would back output cuts as long as they were supported by countries both inside and outside the cartel. That will be tricky. Iran has already said it plans to hike its production next year, apparently they like the idea of getting paid for the oil they pump.  Iraq’s oil minister said nothing is decided. And remember that OPEC already has a production target of 30 million barrels a day but they have been pumping 32.2 million barrels a day. Oil prices dipped below $40 a barrel yesterday, but moved higher this morning.

Google is nearly doubling the amount of renewable energy used to power its massive data centers. The long-term commitments cover up to 842 megawatts of power that will flow from six different wind and solar power projects scheduled to be finished within the next two years in the U.S., Chile and Sweden. Google has now signed contracts covering 2 gigawatts of renewable energy, enough to power about 2 million homes; putting the company closer to its goal of having 3.6 gigawatts lined up by 2025. Google timed its announcement to coincide with the U.N. conference in Paris that is exploring ways to reduce the volume of carbon emissions.

Yea, that Paris conference is still going on. COP21, the 21^st conference of parties to the UN’s climate treaty-making body, the Framework Convention on Climate Change (FCCC) is still meeting in Paris, trying to save the world from global warming. One of the more interesting things revealed at the conference involves the role of energy in the inequality equation. The report, released yesterday, found that “the richest 1 per cent of the world’s population produces 175 times as much CO2 per person as the bottom 10 per cent” and the richest 10 per cent produce fully half of all carbon emissions.

The conference will produce some progress, but not enough. Nations are making pledges to reduce emissions but even the most ambitious emission pledges on the table would still result in catastrophic climate change, even assuming that all these pledges are fully implemented. Even best-case scenarios seem to point to an agreement that falls short of an action plan to keep the world under 2 C of warming, the threshold scientists overwhelmingly agree can’t be breached in order to avert catastrophic climate change. What’s more, individual countries’ emissions targets won’t be legally binding.

Eight of the biggest U.S. banks have been downgraded by Standard & Poor’s, following a rule approved by the Fed that will require large institutions to hold a stockpile of debt that can be converted into equity if they falter. The credit rating agency said they “now consider the likelihood that the U.S. government would provide extraordinary support to its banking system to be uncertain.” Firms affected include JPMorgan, BofA, Citigroup, Wells Fargo, Goldman Sachs, Morgan Stanley, BNY Mellon and State Street.

Target has agreed to reimburse MasterCard and other U.S. financial institutions a total of about $39 million to settle claims in connection with its massive data breach – which exposed 40 million payment cards to fraud – during the 2013 holiday season. The settlement follows a $67 million agreement Target struck with Visa in August on behalf of banks and other firms that issue credit and debit cards.

Chipotle is tightening its supplier standards in the wake of an E. coli outbreak last month, putting its longstanding promise to buy food locally in jeopardy. The company has now updated its website by taking down that description and replacing it with a message on long-term supplier relationships. Chipotle began the prior program in 2008 in a bid to support local farms and sustainable agriculture.

European Union regulators confirmed they have opened a full-blown probe into McDonald’s tax affairs in Luxembourg. At the center of the dispute is McDonald’s Luxembourg franchise company, which the EU says has not paid tax since 2009. Yet the company receives hundreds of millions in royalty payments from across Europe and Russia for the right to use the brand and associated service. And it’s not just McDonald’s, other corporate giants figured out the tax dodge as well, including Starbucks, Fiat Chrysler, Amazon, Apple, Valeant, and of course Pfizer. And it’s not just Luxembourg, it is also Ireland and a few islands between France and Great Britain. At the core it is nothing but a tax dodge, a big scam.

Brazil, the largest economy in South America, and the seventh largest economy in the world is in complete disarray. A bid to impeach Brazilian President Dilma Rousseff has been launched by the Speaker of the country’s lower house of Congress, Eduardo Cunha. Despite her re-election last year, Rousseff’s second term has been marred by a corruption scandal involving her own Workers’ Party that has sent her approval rating plummeting and provoked mass protests.

A sweeping corruption investigation into a multimillion-dollar kickback scheme at the state-run oil company Petrobras has embroiled dozens of the country’s leading businessmen and politicians. The President was the chairwoman of Petrobras during many of the years that the alleged corruption took place. And the economy is falling apart: 3 quarters of negative GDP, a collapse of the currency, huge loses in stocks – with some of the biggest loses coming from the economic powerhouse of Brazil – Petrobras.

FINANCIAL REVIEW

So Disappointing

Sinclair Noe — January 20, 2015

Podcast: Play in new window | Download (Duration: 13:15 — 6.1MB)

DOW + 3= 17,515
SPX + 3 = 2022
NAS + 20 = 4654
10 YR YLD un = 1.81%
OIL – 2.30 = 46.39
GOLD + 13.90 = 1295.20
SILV + .19 = 18.08

Wall Street loves free money; they love free money from the Federal Reserve and for the past 5 years Wall Street has rallied on bailouts, QE, and ZIRP. The bailouts are over and the government promises they will never give away your money to the big banks again; QE, or quantitative easing is also finished and the Fed says they are out of the bond buying business for now; and ZIRP, or Zero Interest Rate Policy will patiently be replaced by slightly higher interest rates.

Remember, Wall Street loves free money, so you might expect Wall Street might throw a tantrum at the prospect of no more QE and higher interest rates; we’ve seen taper tantrums in the not-so-distant past; and that might be what we’ve been experiencing to start the New Year. But the Federal Reserve is not the only central bank with a stimulus scheme. The Bank of Japan has its own QE program called Abenomics. And the European Central Bank is finally expected to launch its own QE program on Thursday. ECB President Mario Draghi has been saying he would do “whatever it takes” for the past 2 years. Now, the markets expect him to act.

In a Bloomberg survey from Monday, 93% of economists polled think Draghi and the gang will announce at least a 550 billion-euro ($640 billion) bond-buying program this week. Draghi is on the hook to deliver, and expectations are high. And it is fairly certain that there will be disappointments. First, if the plan is not clear and precise and clearly explained, everyone will be disappointed. If the bond buying program is less than €550 billion, expect a tantrum; if the scheme is significantly more, then you can expect fear that the economic problems were greater than anyone imagined.

If the bond buying program is delegated to national central banks, rather than sitting on the ECB’s balance sheets it might send an unsettling message that QE might not be shared among member states. Germany will be disappointed in Greece. Greece will be disappointed in Germany. The Germans hate the idea because they hate the notion of the ECB printing money and they think every other country should focus on cutting debt. Don’t forget that the Germans have the largest economy in the Eurozone. The Greeks hate the idea of being forced to cut their debt because cost cutting has only made the Greek economy slow while increasing the debt. There will be an election in Greece on Sunday and the Greeks may vote for a political party that wants to have debt forgiven.

The whole idea of a European Union might work against anything any central bank might do. The euro zone is a badly constructed amalgamation of countries with disparate economies that probably shouldn’t have the same currency in the first place. Does it make sense for Germany to be using the same currency as Cyprus, and to have the same central bank? Not really.

One of the goals of QE is to drive the euro currency lower and drive risky assets like stocks higher; many bond investors choose to sell notes as soon as their yields turn negative, opting to buy riskier securities instead. That’s exactly what the European Central Bank wants as it considers asset purchases. If the market rally is not big, it will disappoint.

Beyond a quick rally there is the question of how QE will impact the economy. All these years of QE in the US have fueled a bull market, but haven’t produced wage growth, and consumers don’t appear ready to drive revenue growth for companies. And there might be a disappointment for the US because overseas capital has been flowing to Wall Street, and if some of that decides to reallocate to a market with QE, it may be difficult for US markets to maintain gains. And while QE will to a certain extent help corporations to borrow by making bond markets more generous, it does nothing to rebuild capital in the banking sector, upon which Eurozone economic growth remains highly dependent.

Another way of describing all the potential disappointments is that the success or failure of QE rests largely with the financial markets, putting the ECB in a position no sensible central bank ever wants to find itself. In theory, the money that the ECB pumps into the system will work its way into the real economy. In practice, it might not. Maybe people will just sit on their cash. Or maybe they’ll use their cash to invest in Germany. Or they’ll use it to buy US government debt, which currently pays a greater yield than euro zone debt. Or maybe the euro banks will make bad loans or gamble the money in the markets. Nobody seems all that optimistic that the plan will give the economy a huge boost.

And if the plan doesn’t work, then that will be bad news for the other central bankers because it would send a message that QE is not an effective monetary tool, and the next time a central bank tries to use QE to stimulate their economy, it will likely have less impact.

Earlier today the International Monetary Fund reduced its growth forecasts for 2015 and 2016. The IMF cut its forecasts for both years by 0.3 percentage points; it now expects the world economy to expand 3.5% this year and 3.7% in 2016. The IMF raised its outlook for the US economy this year by half a percentage point to 3.6% as falling fuel prices at the pump helped juice the American recovery. The IMF advised advanced economies to maintain accommodative monetary policies to avoid increases in real interest rates as cheaper oil increases deflation risk. For China the news was worse; the IMF cut China’s growth forecast to 6.8%, which would be the slowest year-over-year expansion since 1990; claiming China’s housing-market problems are more serious than the fund originally expected.

Lower oil prices are helping drag down inflation and could mean that even faster-growth economies experience a period of falling prices. If this is allowed to continue unchecked, the IMF warns, it risks becoming a self-feeding deflationary spiral. With central bank interest rates already around zero, the ability of monetary policy to offset these price falls and help bring inflation back toward the 2% target is limited. The IMF recommends accommodative monetary policy, and also suggests that there is a strong case for increasing infrastructure investment.

That is, the IMF is encouraging central banks to undertake precautionary easing and, where that is unavailable because of existing low interest rates, to use government spending on infrastructure to increase economic activity and push up the rate of price increases. Low government borrowing costs across much of the developed world mean in effect that states have room to do this at very limited (or even negative in the case of Germany and Switzerland) cost to taxpayers, despite heavy debt burdens following the financial crisis.

Oil moved lower on word of the IMF’s forecast. Last week, WTI crude posted its first weekly gain in almost 2 months. It appears there is some support around the $45 a barrel level, but the nearly unrelenting price declines might just plow right through support. We are starting to see service providers cutting back. Today Baker Hughes said it expects the number of oil rigs in US to continue falling in the first quarter. The company also said it expects to cut 7,000 jobs.

It is earnings reporting season. All of the big banks have already reported, and it was ugly. The headline was that trading revenue was down, and down big. Citi’s trading revenue dropped 14%. Bond trading revenue at JPMorgan dropped 23% and Goldman Sachs was down 29%. Dig deeper and there were more problems with the big banks: legal expenses, and not just leftover legal expenses from the financial crisis. Many of the legal costs are more recent, meaning that even after the near financial meltdown and bailout, the big banks just couldn’t get their act together. It’s enough to make you think that breaking the law is their business model, to the tune of several billion dollars per quarter, and it isn’t going away. And when you combine ongoing, multi-billion dollar legal expenses with a very weak quarter for trading revenue, the results are very ugly.

IBM reported earnings today. Revenue fell 12% in the fourth quarter. This marks the 11th consecutive quarter IBM has failed to generate a year-over-year revenue increase. Overall, IBM reported earnings of $5.4 billion, or $5.51 a share, down from $6.1 billion, or $5.73 a share, a year earlier. Excluding acquisition- and retirement-related costs, profit from continuing operations was $5.54 a share. Analysts had expected $5.41 a share on $24.7 billion in revenue.

AMD, the chip maker reported a breakeven fourth quarter on revenue of $1.24 billion. Analysts had estimated earnings of 1 cent a share on revenue of $1.24 billion. AMD said it expects revenue to decrease by 12% to 18% sequentially in the first quarter. AMD was trending lower in after-hours trade.

Netflix reported fourth quarter earnings of .72 cents per share, beating estimates of .44 cents. Revenue was $1.48 billion versus expectations of $1.49 billion. They added paid subscribers. Netflix says it plans to launch in Australia and New Zealand this quarter and plans to complete its global expansion within two years.

President Obama will deliver the State of the Union address tonight at 9PM (Eastern). Obama will certainly mention specific policies. Among them will be free community college for all students, executive actions on immigration reform, re-establishing diplomatic ties with Cuba, and reforms to the tax code. Probable changes to taxes include eliminating the stepped up tax basis on some inherited assets; also, a plan to increase taxes on capital gains directly to 28% from 20%. Most of the policies Obama might mention tonight on dead on arrival.

The State of the Union address is one off the most important political speeches of this or any given year, but if you have other plans and can’t watch, I’ll summarize succinctly. The state of the Union remains polarized.

FINANCIAL REVIEW

Say Cheese

Sinclair Noe — January 15, 2015

Podcast: Play in new window | Download (Duration: 13:17 — 6.1MB)

DOW – 106 = 17,320
SPX – 18 = 1992
NAS – 68 = 4570
10 YR YLD – .06 = 1.77%
OIL – 2.28 = 46.20
GOLD + 33.50 = 1263.60
SILV + .11 = 17.06

After going through all of 2014 without a losing streak of more than three days, the S&P 500 today completed its second slide of five straight days. The benchmark gauge is down 3.4 percent over the past five days.

For the past 3 years the Swiss have kept their currency, the Swiss franc, from getting too strong; they imposed a cap to keep the euro from trading below 1.20 francs. In early 2010 one franc was less than 0.7 euro. By the middle of 2011 the franc was nearly at parity against the euro, a massive move in a very short period. As the Eurozone experienced economic strife, Switzerland was calm and offered a safe haven. As money poured in, the franc became more and more expensive; which means that things made in Switzerland became more expensive when the Swiss exported. So, they capped the franc. That basically involved printing more francs and buying more euros.

Fast forward to 2015, and the Eurozone is once again experiencing economic strife; money is once again pouring into Switzerland as a safe haven, and after 3 years the Swiss just threw up their hands and said they had enough; it didn’t make sense for the Swiss National Bank to keep on an endless path of buying more and more euros just to keep the currency down, and there was probably some concern that they had too many euros, which might be a liability. So, they removed the cap, without warning. It was quite the surprise.

What does it mean? Well the Swiss franc spiked a whopping 30 percent against the euro. So, it you were planning a vacation to Zurich, it just got more expensive; for many people in Europe who have mortgages with Swiss banks, their mortgage payments just went up; if you were planning to buy a Swiss watch it just got more expensive; same for Swiss chocolates; and if you need a corkscrew that can also work as a screwdriver, pliers, wrench, and knife – that will cost you more. The Swiss stock market fell about 11%. And if you were invested in a company such as Swatch, Nestle, Novartis, or Roche – you just got hammered. Sorry. And if you were trading in the currency markets and you were short the franc and long the euro – please step away from the ledge.

Thursday’s decision to call time on its efforts to keep the euro from trading below 1.20 francs came amid mounting speculation that the European Central Bank will next week back a big government bond-buying program that will put more euros in circulation, diluting their value. That expectation has seen the euro face intense selling pressure in currency markets, particularly against the dollar. The euro has fallen to nine-year lows against the dollar and below its launch rate in 1999. As a result, the cost for the Swiss central bank of constantly defending the peg by buying euros or selling francs has been rising.

The SNB clearly expected to see a huge surge of inflows in the week ahead and saw little reason to provide these buyers of francs with an artificially cheap rate. Switzerland’s immediate neighbors are countries in the Eurozone. The franc’s contiguous boundaries are with the euro. Switzerland’s central bank worried about inflows of hot money from Russia, either directly or via the euro. Think of it this way: yesterday a Moscow-based oligarch could move money from ruble to euro. Then he could move it from euro to Swiss franc, and the Swiss government and Swiss National Bank would maintain a 1.2 currency peg. That is now over.

In addition to making Swiss exports more expensive, a stronger currency makes imports into Switzerland cheaper, further dampening prices already-subdued by big drops in oil prices and other commodities.

In an effort to contain the franc’s appreciation and limit any damage to the Swiss economy, the central bank on Thursday also lowered a key interest rate — what it charges commercial banks to deposit at the bank — to minus 0.75 percent from minus 0.25 percent. That’s right, banks have to pay the Swiss central bank to park reserves. The hope is that it dissuades banks from parking their cash at the national bank and instead possibly invest it. That might not work; the Swiss franc is still considered a safe haven for investors. The franc’s value will remain sensitive to developments around the world, including the crisis in Russia and the oil market slump.

Switzerland is a small country. For most people, the Swiss surprise really is not a huge event, but today’s move confirms that deflation is a clear and present threat to the global economy.

If you were planning a trip to Davos Switzerland for the World Economic Forum, we can save you some money. The WEF 2015 Global Risks Report was published today; geopolitical issues are considered to be the biggest threat to global stability over the coming decade. According to the WEF’s lead economist, “Twenty-five years after the fall of the Berlin Wall, the world again faces the risk of major conflict between states,” and the means to wage such conflict are broader than ever, whether through cyberattack, competition for resources or sanctions and other economic tools. “Addressing all these possible triggers and seeking to return the world to a path of partnership, rather than competition, should be a priority for leaders as we enter 2015.” When asked to assess risks in terms of their potential impact, the nearly 900 experts surveyed by WEF found water crises as the greatest threat to the world.

US producer prices in December recorded their biggest fall in more than three years on tumbling energy costs while underlying inflation pressures were muted. The Labor Department said its producer price index for final demand declined 0.3 percent, the biggest drop since October 2011, after falling 0.2 percent in November. A sustained plunge in energy prices is keeping a lid on inflation throughout the pipeline, from bills for businesses to the consumer’s cost of living.

The number of Americans filing claims for unemployment benefits increased to a four-month high last week.

Consumer confidence increased last week to the highest level since mid-2007 as steady declines in gasoline prices and more hiring boosted Americans’ attitudes about the economy. The Bloomberg Consumer Comfort Index rose to 45.4 in the period ended January 11, from 43.6 the week before.

Bank of America, the second-largest US bank by assets, reported a 14 percent fall in quarterly profit as a decline in sales and trading revenue more than offset a big drop in operating expenses. Revenue from bond trading, which is part of the bank’s sales and trading business, plunged 30 percent to $1.46 billion.

Citigroup reported its fourth-quarter profit plunged as the bank was hit by large legal charges. The bank reported a profit of $350 million–which includes $3.5 billion in previously disclosed legal and repositioning charges–compared with a year-earlier profit of $2.46 billion. On a per-share basis, Citigroup reported a profit of six cents. Analysts had expected earnings of nine cents a share including the charges. On Wednesday, a provision — drafted by Citigroup — to repeal part of the Dodd-Frank financial reforms (Section 716) was added by House Republicans to their spending bill. On Thursday, Citigroup led the charge to persuade enough Democrats to vote for that bill. The repeal of Section 716 stayed in the spending bill only because Wall Street brought so much pressure and influence to bear. Apparently buying politicians is cheaper than paying fines and settlements for violating the law. Of course, I still maintain that not breaking the law is the best solution, but clearly that is not under consideration.

Bank of America slipped 5.2 percent to the lowest since August and Citigroup dropped 3.7 percent.

After the close, Intel reported fourth quarter net income rose to $3.66 billion, or 74 cents per share, for the quarter ended Dec. 27, from $2.6 billion, or 51 cents per share, a year earlier. Revenue rose to $14.7 billion from $13.8 billion. Intel forecast first-quarter sales that may fall short of analysts’ estimates because PC sales are down.
We’re starting to see some oil companies respond to lower oil prices. Schlumberger, the oilfield services provider, announced it will cut 9,000 jobs, even as they reported a 6 percent rise in quarterly revenue. Revenue rose to $12.64 billion from $11.91 billion. Net income attributable to the Houston, Texas-based company fell to $302 million, or 23 cents per share, in the fourth quarter ended Dec. 31, from $1.66 billion, or $1.26 per share, a year earlier.

Apache says it will also lay off several hundred employees, cutting 5% of its workforce this week. The move signals one of the first major workforce cuts at an American oil producer after the recent drop in crude prices. Apache had been profitable until the third quarter of last year, when it reported a $1.2 billion loss.

BP is planning to cut 300 jobs from its 4,000-strong North Sea business following a review of its operations. The U.K.-based oil major, which has been downsizing since the Deepwater Horizon oil spill in 2010, said it had long planned the cuts, but was speeding up the process due to falling oil prices.

This afternoon, there was more news on BP. A US District judge has ruled that the company dumped 3.19 million barrels of oil into the Gulf of Mexico in 2010. Today’s ruling on the spill’s size sets the stage for a trial next week at which the judge will determine the amount of the fines, based on the law’s provision for as much as $4,300 per barrel released and factors such as what BP did to minimize or mitigate the effects of the disaster. The court rejected the government’s 4.2 million barrel estimate of the spill size, decreasing the potential maximum fine from $18 billion to a maximum fine of $13.7 billion.

FINANCIAL REVIEW

King Dollar and the Eurozone

Sinclair Noe — October 10, 2014

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Financial Review

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

DOW – 115 = 16,544
SPX – 22 = 1906
NAS – 102 = 4276
10 YR YLD – .02 = 2.30%
OIL – .25 = 85.52
GOLD – .60 = 1224.00
SILV + .05 = 17.50

The 10 year German bund has a yield that is 141 basis points lower than the US 10 year Treasury note. The yield on German debt will get you 0.89%. Standard & Poor’s lowered France’s credit outlook today, and you can still get a 10 year French note with a yield of 1.25%. A 10 year note from Spain will only get you 2.06%. Is this because the US debt is riskier than the Spanish debt? No, just the opposite.

The problem in the Eurozone is deflation, and it threatens to bring the economy to a grinding halt, and send the EU into a triple dip recession. The president of the European Central Bank, Mario Draghi, gave no indication of any further monetary stimulus beyond what was announced this summer, suggesting in a speech in Washington that governments needed to do more on the fiscal side. Draghi said in effect that Eurozone countries that have enough money should spend it, a clear reference to Germany. His comments echoed remarks this week from Christine Lagarde, the head of the International Monetary Fund.

Today, German Chancellor Angela Merkel said her government was examining how to encourage investment, particularly in the “digital sphere” and the energy sector. Merkel did not elaborate, but the hint was that Germany might use government spending to stimulate growth, a possible shift in position that could ripple across the entire Eurozone. Merkel’s remarks may have been less a declaration of policy change than a signal that her thinking on stimulus was evolving.

On Wednesday, the Federal Reserve released minutes from the September FOMC meeting, and they expressed concern about the global economy and the dollar. In the past 4 months the dollar has jumped about 8% versus the euro; that kind of swing can prove a threat to trade and to financial markets. The Fed normally focuses on the US economy, unless there are global developments that are important enough that they could intrude. Fed officials pointed with concern to the slowdown in China, Europe and Japan. They also worried that the concurrent strengthening of the dollar would add to the risk of price deflation.

We know that a strong dollar could weaken US export performance and hold back growth, but the recent global slowdown represents a more ominous problem. Global economic weakness would undermine the ability of the Fed to maintain financial asset prices well above the levels strictly warranted by the fundamentals. Of course this has been how the Fed has addressed the crisis and the recovery for the past 6 years, they pumped up Wall Street with easy money. A global slowdown threatens that tactic.

The events of the past week indicate the Eurozone and especially Germany might be closer to a move away from the single minded focus on budget austerity that has, to date been an absolute failure. The bigger question is whether the Eurozone countries and the ECB will take action, and if they can actually do anything before the continent slips into full-fledged deflation; and further, what role that might mean for the Federal Reserve.

Finance ministers and central bankers gathered in Washington for the annual meetings of the World Bank and International Monetary Fund and today, Treasury Secretary Jack Lew urged the Group of 20 major economies to refrain from competitive currency devaluations. Federal Reserve officials are hunting for new tactics to raise price increases to their target as slowing global growth, cheaper commodities and flat wages sound warnings that inflation is descending toward the danger zone.

With inflation at 1.5% according to the Fed’s preferred index, low-flation is getting to be a real issue again. We know a stronger dollar makes US exports overseas less affordable, but a strong dollar makes it cheaper for Americans to pay for imported goods. A 10% increase in the dollar versus currencies of major trading partners could trim inflation by a quarter percentage point, and the Fed has not yet communicated a plan for how they will lift inflation to their desired target of 2%.

An inflation rate approaching zero is bad for the economy because of its impact on behavior by businesses and consumers. Companies’ inability to raise prices hurts profits, and they rarely compensate by cutting wages, so they fire workers instead. Consumers anticipating falling prices may postpone discretionary purchases. This can combine to create a vicious circle of less spending and further downward pressure on prices. Think about your own situation; in the past couple of weeks you’ve seen prices at the pump drop. Were you tempted to drive another day or two before you fill up the tank in the hope that you might save a few pennies per gallon?

And what we are seeing in the Eurozone is that once low-flation becomes deflation, the central bankers don’t really have the tools to deal with the problem. It is known as pushing on a string. They can flood the markets with easy money, but they can’t create demand, because, you know, prices will be lower next week. As we are seeing in the Eurozone, and as we saw in Japan, if you let it go on for too long it becomes a lock-in, it reinforces a bad outcome.

Substantial rallies in the dollar have the power to slam the brakes on GDP growth in a way that Fed tightening even doesn’t. GDP growth could decline by a percentage point if the rapid move in the dollar continues through early 2015. That fall in GDP is even larger than what would occur as a result of a 50-basis-point rise in long-term interest rates, and it works with a lag, too. Even when the dollar rally tapers off, it would be expected to constrain GDP through early 2016.

And for now at least, you might reasonably expect the dollar rally to continue; there is a trend in place. The long dollar bets mean money is being parked in the US, and that means continued downward pressure on long-term interest rates, at least for now. And another thing, when there are very rapid and pronounced changes in the exchange rate there is a tendency for investors to lock in gains from previously accumulated US assets. In other words, there is a tendency to sell stocks, and companies with overseas exposure are more likely to experience a greater decline. And the selloff in stocks is yet another hit to US GDP. It’s a nasty cycle.

On Wall Street, stocks closed out a volatile week with another triple digit loss for the Dow, giving the market the worst week since May 2012. The Dow industrials have now turned negative year to date. Yes, that was fast. The Dow lost 2.7% for the week. The S&P 500 dropped 3.1% on the week. The VIX, the volatility index jumped 45% for the week. The Stoxx Europe 600, Europe’s benchmark stock index posted its biggest slide in 2 years, down 4.1% for the week. The S&P 500 is sitting right at its 200 day moving average. The Dow Industrial dropped below the 200 day moving average, about 40 points lower.

A moving average is simply an average of a certain number of data points. The 200-day moving average is calculated by summing the past 200 days and dividing the result by 200. The 200-day moving average represents the average price over the past 40 weeks. This helps to smooth out day to day volatility and give a longer-term look at the overall trend. The 200 day moving average is considered a very important level of resistance or support; in this case, support. When a stock or an index breaks down below this key level of support you sometimes see a bounce, because there will be some investors who think they are now able to buy stocks cheap. But the bounce can sometimes be misleading; that’s known as a dead cat bounce. If dropped from high enough, even a dead cat will bounce. So the next few days will be critical to see if the markets can bounce, and if they can bounce, will they rally, or will prices just keep falling from here. If we don’t see a turnaround, it would confirm a downward trend.

This week the Nobel Committee handed out prizes for a better lightbulb, the LED; a better microscope, that sees nanoparticles; and a French author that I had never heard of. Today, Malala Yousafzai and Kailash Satyarthi have won the Nobel Peace prize. If you have not heard the story of Malala or heard her speak, you should; she will inspire you. She is the daughter of a teacher, and she grew up in and around schools, at least until 2008, when the Taliban took control of the Swat region of Pakistan, where she lived. The Taliban tried to close down schools for girls. That year, her father took her to Peshawar where she made a speech in front of national press titled “How Dare the Taliban Take Away My Basic Right to Education?” She was only 11 years old. In early 2009, Malala started blogging anonymously for the BBC about what it was like to live under the Taliban.

Two years ago, armed men boarded the converted truck that Malala and her classmates used as a makeshift school bus and they shot Malala in the head. She survived. Nine months after she was shot, Malala gave a now famous speech at the UN, where she said: “They thought that bullets would silence us. But they failed.” She’s continued her high-profile campaign for girls’ education with The Malala Fund, which raises money to promote girls’ education.

At 17, Malala is the youngest winner of the Nobel Peace prize, which she will share with 60 year old Kailash Sayarthi. In 1980 Satyarthi founded the Save the Childhood Movement, and he has helped rescue more than 80,000 children from bondage, trafficking and exploitative labor in the past three decades; he also spearheaded a movement to make free and compulsory education a constitutional right for children in India in 2009.

The Nobel committee said it “regards it as an important point for a Hindu and a Muslim, an Indian and a Pakistani, to join in a common struggle for education and against extremism”.