Financial Review

Hat Trick

Sinclair Noe — February 9, 2017

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DOW + 118 = 20,172
SPX + 13 = 2307
NAS + 32 = 5715
RUT + 19 = 1378
10 Y + .05 = 2.40%
OIL + .71 = 53.05
GOLD – 12.40 = 1229.60

We have new record high closes for the Dow, S&P, and Nasdaq. It’s a hat trick.

The chief executives of several airlines, as well as executives from air cargo companies, were invited to a breakfast meeting at the White House this morning. Trump called the air-traffic control system “outdated” and he told the execs: “We have an obsolete plane system, we have obsolete trains, we have obsolete airports, we have bad roads. And we’re going to change all that.”

Trump also said: “We’re going to be announcing something I would say over the two or three weeks that will be phenomenal in terms of tax and developing our aviation infrastructure.” He gave no indication of what the announcement might entail. Presumably the “phenomenal” tax and infrastructure plan does not apply solely to the airline industry, and Wall Street lapped it up. He went on to say: “Lowering the overall tax burden on American business is big league.”

The rally had stagnated in recent days as investors sought details about Trump’s policy agenda. Financials, which have soared since the election, were the best-performing group, up 1.4 percent after three sessions of declines, while energy shares gained 0.9 percent. Those sectors stand to benefit should lower taxes spur economic activity as interest rates and the demand for energy would presumably rise.

After 18 months of courtship and court cases, two massive deals that would have reshaped the U.S. health insurance industry have both been declared dead. Anthem’s $48 billion deal to buy Cigna was blocked by a federal judge late Wednesday, weeks after another judge halted Aetna’s bid for Humana. Reasons given: The mergers would have led to less competition and higher prices for Americans.

Applications for unemployment benefits in the U.S. unexpectedly declined last week to an almost three-month low. Jobless claims fell by 12,000 to 234,000 in the week ended Feb. 4. The latest results extend a trend of historically low claims, with applications staying below 300,000 in the longest streak since 1970. A shortage of skilled workers is prompting companies to hold on to existing employees while continuing to add more workers to help fulfill demand.

The Senate has confirmed Jeff Sessions as attorney general largely along party lines. The 52-47 vote capped weeks of divisive battles over Sessions, an early supporter of President Trump. Next up is Representative Tom Price, Trump’s pick for health secretary and a staunch advocate of repealing Obamacare. A vote come could come later tonight.

Secretary of State Rex Tillerson met his Canadian counterpart for the first time on Wednesday for talks that touched on NAFTA, the trade agreement President Trump has pledged to renegotiate. The top US diplomat also met with Mexico’s foreign minister to discuss collaboration on law enforcement, migration and security, and agreed to visit the country in the coming weeks.

A US court of appeals is reviewing arguments on whether to reinstate the Trump administration’s temporary ban on immigration, with the outcome likely to be appealed to the Supreme Court.

Meanwhile, Trump’s first executive order, signed January 25, entitled: “Border Security and Immigration Enforcement Improvements” resurrects some of the most controversial immigration enforcement programs of recent years, seeks to deputize state and local law enforcement as immigration officials across the country, and threatens major cuts to federal funding for cities that fail to fall in line with the administration’s vision.

Trump has called for the construction of new immigrant detention facilities along the U.S. border with Mexico – including through private contracts – as quickly as possible, and there have been requests for additional asylum officers at 2 for-profit Detention Centers in Arizona.

A Dallas federal judge has upheld the Labor Department’s fiduciary rule, dealing a setback to the financial industry’s attempts to kill the measure. But the legal move may not mean much for the regulation’s fate. Last Friday, President Trump issued a memorandum to study the rule’s impact and rescind or revise it if it isn’t consistent with his administration’s regulatory principles. A status report will be published on March 10.

Boeing won orders for 39 wide-body aircraft from Singapore Airlines; a deal worth about $14 billion, as Southeast Asia’s biggest long-distance carrier upgrades its fleet over the next decade with more fuel-efficient models to cut costs.  The airline agreed to buy 20 777-9s, which are set to debut at the decade’s end, and 19 787-10s, the longest Dreamliner model.

There’s a good chance you can’t get there from here. More than 2,700 flights were canceled and all public schools in New York City, Boston and Philadelphia will be closed today as the region braced for a winter storm that could dump a foot of snow or more.

President Trump has written a letter to China’s President Xi Jinping in his first direct communication with the leader of the world’s second-biggest economy since he took office. With currency wars threatening to raise their head again, China has managed to get the yuan exactly where it wants it.

The nation’s authorities have let the currency rise against the dollar, making it harder for the U.S. administration to accuse it of undervaluing the exchange rate, while at the same letting the yuan weaken against a trade-weighted basket of currencies.

Greece’s two-year bond yield climbed above 10 percent as negotiations to release further IMF funds remained deadlocked. The International Monetary Fund weighed in this week, publishing a long-awaited analysis of the challenges the Greek economy still faces. The report has been the focal point of heated disagreement between the fund and Europe in terms of what Greece needs to do to get back on track.

The fund has argued that, in addition to needed reforms, European governments must provide debt relief to Greece for the country’s economy to recover fully. Meanwhile, Astellon Capital, a hedge fund based in London, published analysis saying that some form of restructuring is essential for Italy, given the inability of the country’s economy to grow.

The Astellon report also notes that the E.C.B. and sickly Italian banks have been the main buyers of Italian government bonds over the past three years. Also, Mediobanca, the Italian investment bank published a report which highlights just how little Italy has benefited from being in the euro: Growth has been literally zero, and the economy’s competitiveness as an exporter has deteriorated.

Twitter reported fourth-quarter revenue was $717 million, missing the $740 million average analyst estimate. Sales growth of 1 percent slowed dramatically in the period from the 48 percent gain a year earlier. Twitter added 2 million new users, bringing the total number of people who log in monthly to 319 million. Twitter has had trouble persuading advertisers to spend more money on its social-media platform as fewer people join.

Coca-Cola offered up a flat earnings report. Excluding items, the company earned 37 cents per share, in line with estimates. Net operating revenue fell about 6 percent to $9.41 billion, the seventh straight drop, but slightly ahead of estimates. The company forecast 2017 adjusted earnings to fall 1-4 percent from 2016. Coca-Cola has been offloading much of its bottling business to cope with falling demand for carbonated beverages in North America. Coke said it was on track to complete re-franchising of its US bottling operations by the end of this year.

Whole Foods is shrinking its store count for the first time since the recession. After reporting disappointing earnings, the upscale grocer says it will close 9 stores; including one in Prescott.

With about 70 percent of the S&P 500 having reported results, fourth-quarter earnings are on track to have climbed 8.5 percent, which would be the best performance since the third quarter of 2014, according to Thomson Reuters.

Alphabet Inc. Will Replace Google

Financial Review

Half True

Sinclair Noe — August 10, 2015

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DOW + 241 = 17,615
SPX + 26 = 2104
NAS + 58 = 5101
10 YR YLD + .06 = 2.24%
OIL + .95 = 44.82
GOLD + 10.30 = 1105.10
SILV + .41 = 15.33

Berkshire Hathaway is buying Precision Castparts for $235 per share in cash in a deal worth about $37 billion. On Friday, Precision Castparts closed at $193.94, meaning Berkshire is paying a 21% premium to own the company. Berkshire originally began investing in Precision Castparts in 2012 and had already acquired a 3% stake before today’s announcement. Berkshire Hathaway posted disappointing earnings on Friday. Revenue for the second quarter came in at $54 billion.

Precision Castparts makes parts for the aerospace industry, and also the energy industry; their major customers are Boeing, General Electric, and Airbus. This is a company with a large moat; there is a big barrier for new competition; GE isn’t going to outsource parts inside a jet engine for a couple of dollars savings. And there is a good chance that PCP can make some decent sized acquisitions to consolidate its industry, or what Buffett calls “bolt-on’ acquisitions.

When you consider some of the recent acquisitions by Warren Buffett, it becomes clear that Berkshire Hathaway is no longer a pseudo-hedge fund or quasi-mutual fund. It is a diversified conglomerate with interests in heavy industry, transportation, consumer staples, and much more. On the industrial side, consider the acquisitions of Iscar Metalworking in 2006 and Lubrizol in 2011, plus industrial component producer Marmon, and US Chemical; or what Warren calls the Powerhouse Five. You could also include in that list, the $27 billion deal for Burlington Northern in 2009.

In 2013 Buffet teamed with 3G Capital to purchase Heinz Foods, and last year Heinz merged with Kraft Foods in a deal backed by Berkshire. And in 1998, Buffett purchased General Re, a global reinsurance company for a little over $16 billion; the $5.6 billion deal for NV Energy in 2013; and the $4 billion purchase Van Tuyl Auto Group last year. Today’s purchase of Precision Castparts is the biggest deal ever for Buffett.

Stanley Fischer, the Federal Reserve’s vice chairman, says inflation in the US is “very low” due in part to commodity prices. Fisher says: “A large part of the current inflation is temporary. It has to do with the decline in the price of oil; it has to do with the decline in the price of raw materials,” but he expects prices will stabilize at some point. Fisher’s statements cast doubt on quick action from the Fed to raise interest rates; the statements also suggested low energy prices won’t last.

A rebound in U.S. drilling signaled production is withstanding the slump in prices; after data from Baker Hughes showed that drillers added rigs for the fifth weekly gain in six. Meanwhile, OPEC’s largest members have sustained record output, while U.S. stockpiles remain almost 100 million barrels above the five-year seasonal average. The average price of gasoline has dropped 11 cents over the past two weeks to $2.71 a gallon-about 81 cents below the year-ago. Oil prices bounced higher today, but they are coming off a 5-month low.

The dollar traded at a 2-week low, which helped commodity prices across the board. And that might be the most important consideration in the commodities markets. If the dollar continues to show strength, commodities will remain under pressure.

Of course many bullish investors have tried to call a bottom in oil and commodities; it has been a painful exercise. The S&P GSCI Commodity Index is down 17% in the past 3 months, and down 42% in the past 2 years.

It’s not just an energy issue, either; copper, platinum, lumber, coffee, sugar, wheat, oats and lean hogs are all down double-digit percentages this year. While each specific commodity obviously responds to its own distinct supply-and-demand dynamics, the biggest fundamental factor weighing on commodities appears to be a strong dollar.

Stocks in China rallied with the Shanghai Composite Index closing 4.9 percent higher, its biggest gain in a month. The rise comes after the nation’s cabinet approved plans to overhaul state-owned enterprises to boost the economy. Disappointing economic data released over the weekend which showed exports declining more than expected in July did little to dent equity market optimism; Shenzhen +4.3%; Chinext +5%.

The Greek government is seeking to conclude talks on a new rescue program by tomorrow to allow national parliaments to pass the deal and give Greece access to funds ahead of a payment due to the European Central Bank on August 20. If agreed to, the plan would make as much as $93 billion available to Greece.

Ukraine and international creditors will also seek to hammer out a debt deal this week, in what many see as the last opportunity for an agreement before a $500 million bond matures next month. The country has been looking to reduce its debt burden as part of the $40 billion IMF rescue plan aimed at stabilizing its economy. If a restructuring deal is not reached, Ukraine has threatened to impose a debt moratorium in September.

These are tough times for high-yield bond investors. For the third week in a row mutual funds and ETFs reported outflows from risky asset classes, including stocks and high-yield bonds. This week, outflows from high-yield bond funds totaled $820 million after $1.3 billion in the prior week.  The commodity rout has pushed bond yields in the energy sector higher since mid-July. That suggests that investors are worried about risk, and are demanding to be better compensated for it. Meanwhile, the stress has seeped from the energy and materials sector into the broader high-yield market.

After the close of trade, Google announced a big restructuring of its business. CEO Larry Page will take the reins of a new publicly traded company called Alphabet, which counts Google, among other companies, as a subsidiary. Alphabet Inc will replace Google as the publicly-traded entity and all shares of Google will automatically convert into the same number of shares of Alphabet, with all of the same rights.

The Department of Labor will hold four days of public hearings this week to discuss its proposed fiduciary rule, which is aimed at requiring brokers to put client interests ahead of their own when handling retirement money. The DOL asserts that the lack of consumer protection costs investors as much as $17 billion annually, or 1% of their assets, but the industry says it’s too expansive and would significantly increase liability risk and regulatory costs.

Coca-Cola, the world’s largest producer of sugary beverages, is backing what they are calling a new “science-based” solution to the obesity crisis: To maintain a healthy weight, get more exercise and worry less about cutting calories. Which is about half true. The beverage giant has teamed up with scientists who are advancing this message in medical journals, at conferences and through social media. To help the scientists get the word out, Coke has provided financial and logistical support to a new nonprofit organization called the Global Energy Balance Network, which promotes the argument that weight-conscious Americans are overly fixated on how much they eat and drink while not paying enough attention to exercise. Which is about half true. And of course the other name for a half  truth is….

Last week a team from the Environmental Protection Agency was investigating an abandoned mine near Durango, Colorado. The Gold King mine was last active in the 1920s, but it had been leaking toxic water at a rate of 50 to 250 gallons a minute for years. It is owned by a group called the San Juan Corporation. But last week something went wrong; the EPA team made a mistake and a bright yellow toxic sludge spilled from the old mine into the Cement Creek; from there it flowed to the Animas River. The river has literally turned a bright mustard yellow color.

At first the EPA thought the spill was about 1 million gallons; they hoped they could contain the mess. Now, they say the spill is more like 3 million gallons, and they are not sure what is spilling into the water but it is suspected to contain arsenic, lead, copper, zinc, aluminum and cadmium. Residents along the contaminated rivers are being advised to have their water tested before drinking, cooking or bathing. The toxic brew is now flowing through the San Juan River near Farmington, New Mexico; has moved into Utah and is expected to flow into Lake Powell on the Colorado sometime Wednesday.

The chemical spill is now making its way through the Navajo nation. The infiltration of toxic material is a haunting memory for the Navajos. In 1979, a dam failed in a uranium waste pond spilling 1,100 tons of solid radioactive mill waste and approximately 93 million gallons of acidic and radioactive tailings solution into a nearby river tributary. There have been claims the amount of radiation released in the Churchrock incident exceeded Three Mile Island. Navajo Nation President Russell Begaye announced that he intends to take legal action against the EPA for last week’s chemical spill.

Until the late 1970s there were no regulations on mining in most of the region, meaning anyone could dig a hole where they liked and search for gold, silver, copper or zinc. Abandoned mines fill up with groundwater and snowmelt that becomes tainted with acids and heavy metals from mining veins which can trickle into the region’s waterways. The federal government says 40 percent of the headwaters of Western waterways have been contaminated from mine runoff.

Financial Review

The Dog Ate the Greek Proposal

Sinclair Noe — February 23, 2015       

 

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DOW – 23 = 18,116
SPX – 0.64 = 2109
NAS + 5 = 4960
10 YR YLD – .07 = 2.06%
OIL – 1.36 = 49.45
GOLD – 2.10 = 1202.80
SILV + .05 = 16.42
 
The S&P 500 climbed 0.6 percent last week to finish at record highs, the third record high of the year. The Dow rose to its first record of the year and the Nasdaq Composite closed at its highest level since March 2000, closing in on 5000. The Russell 2000 Index advanced 0.7 percent, also ending at a record Friday.

Much of the stock market action has followed news of a compromise with Greece. At last week’s meeting, Greece signed up to all the conditions of its current bailout package and to continued international oversight, provided the Greeks come up with a list of reforms. Easier said than done; any reforms have to be acceptable to the Troika (the IMF, the ECB, and the EU, and subject to approval by all EU members) and at the same time it will have to be acceptable to Greeks who voted against the austerity plans of the Troika. The plan was supposed to be presented today, but that didn’t happen. Now the Greeks say they will present the reforms tomorrow. Given that Monday night was treated as a hard deadline for getting the Greek proposals in, Finance Minister Yanis Varoufakis prudently turned in a draft a day early. Apparently that early draft did not satisfy the Troika or the ECB.

Nearly a week after a ceasefire was supposed to have gone into effect in Ukraine, Secretary of State John Kerry said on Saturday that he and his British counterpart, Philip Hammond, would discuss additional sanctions in response to Russia’s “brazen” violations of the agreement. Russia’s credit rating was cut to below investment grade by Moody’s Investors Service on Friday, joining Standard & Poor’s in ranking the country’s debt as junk.

Federal Reserve Chairwoman Janet Yellen will testify before Congress on Tuesday and Wednesday; the semi-annual trek to Capitol Hill for the Humphrey Hawkins testimony. Yellen will likely have to deal with questions on the timing of possible interest rate hikes, the strength of the dollar, and the overall strength of the economy; and also efforts to audit the Fed. The minutes from the Fed’s FOMC meeting in January indicated that there was no rush to raise rates, but don’t be surprised if Yellen floats a trial balloon with the politicians and talks up the strengths of the economy, pointing the way to higher rates.

Any hawkish sentiment from Yellen would likely lead to a stronger dollar but the bigger question is how it might affect the stock and bond markets. If the reaction is negative, it should be fairly easy for the Fed to walk back any particular statement from Yellen; certainly easier than walking back an official Fed statement.

The National Association of Realtors reports existing home sales declined 4.9% in January to an annual rate of 4.82 million units, the lowest level in 9 months. Sales fell in all four regions. Tight inventories are hurting sales by limiting the selection of houses available to potential buyers. The lack of supply is also keeping house prices elevated, helping to sideline first-time buyers from the market. Last month, the inventory of unsold homes on the market slipped 0.5 percent from a year ago to 1.87 million. It was the second straight year-on-year decline. Shrinking supply pushed the median price up by 6.2% in January to $199,600 from a year ago.

This week brings a lot for investors to chew on, including several retailer earnings that should provide some clues about consumer spending, including Home Depot and Lowe’s, as well as Target, Gap Stores, Kohl’s and Dollar Tree. This group will close out the earnings season. Presently, PE ratios are exhibiting levels not seen since 2004. The forward P/E ratio for the S&P 500 is 17.1, well above 5, 10, and 15-year averages, according to Reuters. At the same time, more than 80% of profit forecasts from the S&P 500 fall below the Wall Street consensus and earnings are expected to see their first quarterly YOY decline since the end of the recession.

Falling energy prices continue to weigh on inflation. The Labor Department releases its consumer price index report Thursday. Economists expect a steep 0.7% drop in the January CPI. If that’s the case, yearly inflation could turn into deflation, with the CPI down about 0.2% from a year ago. The core CPI, which excludes food and energy, is expected to be up slightly in January over December and higher than a year ago.

The Commerce Department releases its second reading of the fourth quarter’s gross domestic product Friday. Economists expect the growth rate to be revised down to an annual rate of 2.1%, from the current estimate of 2.6%.  One source of the downward revision will be inventories. Monthly data on inventory gains have come in weaker than Commerce estimated. That’s a mixed reading for the outlook. Businesses aren’t dealing with an overhang of too much merchandise, but low inventories are the result of West Coast port troubles.

West Coast ports are working at full speed again after operations resumed Saturday evening. The International Longshore and Warehouse Union and the Pacific Maritime Association, which represents employers, came to a tentative agreement on a new five-year labor contract late on Friday, but the contract still must be ratified by members, and it will still take some time, maybe a couple of months, to work through the backlog.

The largest U.S. refinery strike in 35 years entered its fourth week as workers at 12 refineries accounting for one-fifth of national production capacity were walking picket lines over the weekend. A total of 6,550 members of the United Steelworkers union (USW) at 15 plants, including the 12 refineries, are involved in the work stoppage that began on Feb. 1 when talks for a new three-year contract between the USW and lead oil company negotiator Shell Oil Co stopped. Talks were resumed but have halted again after nearly reaching an agreement on Friday.

Meanwhile, the price of oil was down again, and OPEC is worried. Today there were rumors floating that OPEC would call an emergency session to deal with low prices. For now, nothing is scheduled, but OPEC says a meeting is possible in the next month or so.

Funding for the Department of Homeland Security is likely to lapse because of a failure of Congress to pass new funding for the agency by a looming deadline on Friday. White House spokesman Josh Earnest said there is still hope for a last minute deal. Funding for the agency is embroiled in a fight with the Republican-controlled Congress over President Obama’s executive orders on immigration.

At the same time, and I’m sure it is purely coincidental, a video has surfaced from a Somali based terrorist group basically threatening shopping malls in the US, such as the Mall of America in Minnesota. Secretary of Homeland Security Jeh Johnson said security at the mall would be enhanced in ways that were both visible and not visible to the public, and called for shoppers to be vigilant.

So what happens if DHS actually shuts down after midnight on Friday? Most employees stay on the job, without pay: The department has about 230,000 employees, most of whom would be deemed essential and would keep working, without pay. Members of the Coast Guard, like Border Patrol agents, would be required to report to work. But, the DHS says, certain patrols and facility inspections would need to be cut back; nearly $1 billion in acquisition and maintenance contracts would be deferred; and 6,000 civilians who work for the Coast Guard would be furloughed. Neither enlisted men and women nor civilians would be paid. E-Verify, which allows employers to check immigration status of their employees, would not be availbale for the duration of a shutdown.

HSBC reporting that profits fell 17% to $18.7B in 2014, down from $22.6B the year before and below the average analyst forecast of $21B. The bank, which faced a significant number of fines and settlements last year, also cut its target for RoE to “more than 10%” from a previous target of more than 12%. HSBC responded to a report that CEO Stuart Gulliver held a Swiss bank account, saying he declared all his earnings to UK tax authorities.

Valeant made its biggest acquisition yet. The Canadian pharmaceuticals giant will pay $10.1 billion in cash for Salix Pharmaceuticals, best known for making a drug to treat irritable bowel syndrome. Valeant, which tried to buy the maker of Botox last year, recently said it would slow down its acquisition spree and pay down debt.

Apple has announced its largest European investment ever – a €1.7B plan to build and operate two data centers in Ireland and Denmark that will power its online services for customers across the continent. Like all Apple data centers, the two 166,000 sq. meter facilities will run entirely on clean, renewable energy sources, and are expected to begin operations in 2017.

Investment advisers should act in their customers’ best interests. Right now, only some advisers are fiduciaries, required to put their clients’ needs first, while many brokers and advisers need only to recommend “suitable” financial products. The White House has introduced a plan to change that and you should not be surprised that the financial industry is fighting the plan. The Labor Department planned to send the proposal on Monday to the Office of Management and Budget for review and the details of the proposal probably won’t be finalized for a few months. At the heart of the proposal is an effort to tighten the legal standard for brokers handling retirement funds in individual retirement accounts and 401(k)s, which now hold more than $11 trillion. It’s estimated that investors lose more than $17 billion a year to hidden fees, high commissions and conflicted advice.

Birdman won the Academy Award for Best Picture and Best Director. Eddie Redmayne captured the best actor award for his portrayal of Stephen Hawking in “The Theory of Everything.” Julianne Moore won the award for best actress for her role in “Still Alice.” If you aren’t familiar with the winners, don’t feel bad; 7 of the 8 best picture nominees were produced independently. Birdman has only pulled in $74 million in worldwide box office. The good news is that Hollywood is still making films that are not based on comic book characters.