Financial Review

That’s a Print

Sinclair Noe — July 21, 2016

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DOW – 77 = 18,517
SPX – 7 = 2165
NAS – 16 = 5073
10 Y – .01 = 1.56%
OIL – 1.19 = 44.56
GOLD + 15.40 = 1331.70

The stock market was probably a little tired. After 9 straight sessions with gains that pushed the Dow Industrials and the S&P 500 to record highs, the market takes a pause; and at this point that’s all we can say with certainty. Markets do not go up in a straight line, and it is very rare to see 9 consecutive up days. Remember that this market has been remarkably resilient.

The European Central Bank kept its interest rates and policy plans unchanged and said the immediate stress caused to markets by Britain’s shock vote to leave the European Union had been contained. ECB President Mario Draghi said it was too early to ascertain the full impact of Brexit, but he said the ECB was prepared to take more actions to lift inflation and economic growth if necessary. The bank kept its deposit rate at minus 0.4 percent and the main refinancing rate at 0.00 percent, both record lows.

The Federal Reserve will wait until the fourth quarter before raising interest rates, likely in December after the presidential election, according to a Reuters poll. Just over half the economists surveyed over the past week expect the Fed to raise its federal funds rate in the fourth quarter to 0.50-0.75 percent from 0.25-0.50 percent currently. The move is most likely to come in December as the November policy meeting is only days ahead of the Nov. 8 election.

Initial claims for state unemployment benefits slipped 1,000 to a seasonally adjusted 253,000 for the week ended July 16, the lowest reading since April.  Claims have now been below 300,000, a threshold associated with a healthy labor market, for 72 straight weeks, the longest stretch since 1973.

A couple of weeks after the nationwide jobs report we get updates on the individual states. Arizona lost 39,700 jobs in June, and the unemployment rate went up two-tenths of a percent to 5.6%. That compares to a 6.0% unemployment rate a year ago, but Arizona still lags the national average of 4.9% unemployment. In June, 40,700 government jobs were cut from Arizona’s payrolls, resulting in a net loss of 39.700 jobs in the state.

The National Association of Realtors says existing home sales increased 1.1 percent to an annual rate of 5.57 million units last month, the highest level since February 2007. Mortgage rates fell in June to their lowest levels since 2013 on bets the Federal Reserve would be cautious about raising short-term rates. First-time buyers made up 33 percent of sales in June, the biggest share in nearly four years.

The leading economic index for the U.S. rose 0.3% in June after declining in the prior month. A measure of current conditions increased 0.3%. A “lagging” index fell 0.1%. The LEI is a weighted gauge of 10 indicators designed to signal business-cycle peaks and valleys.

The Justice Department filed an antitrust lawsuit against Anthem and Cigna in federal court in Washington. The government will sue to block a pair of proposed deals that would consolidate the nation’s five biggest health insurers into just three: Anthem’s $48 billion takeover of rival health insurer Cigna and Aetna’s $37 billion bid for Humana. Three of the companies said they would fight the lawsuits, which could tie them up in months of litigation, dragging out deals that were announced about a year ago. Aetna did present two divestiture plans to the Justice Department in an effort to resolve the government’s concerns and allow the Humana deal to go forward.

Turkey’s President Erdogan declared a three-month state of emergency Wednesday night, allowing him to sidestep parliament in passing new laws against supporters of Friday’s coup. The Istanbul stock index is down 9.5% so far this week. Standard & Poor’s downgraded Turkey’s sovereign credit rating and lowered its outlook to “negative.”

General Motors reported second-quarter net income rose to $2.87 billion, or $1.81 a share, from $1.1 billion, or 67 cents a share, a year ago. GM also raised its forecast for full-year profits. Meanwhile, GM said it is recalling nearly 290,000 older Chevrolet Impala cars in the United States because the air bag may not deploy in the event of the crash. GM also said it may be forced by U.S. regulators to recall another 4.3 million vehicles for potentially defective Takata air bag inflators, a call-back that would cost it $550 million; this in addition to a 2,5 million vehicle recall announced in May and June.

Southwest Airlines experienced a tech outage, affecting multiple technology systems and grounding some planes. The airline said it expects to continue to move toward normal operations but that it will take time. Record revenue and cheaper fuel pushed Southwest Airlines’ second-quarter profit up by 35 percent, but that missed analysts’ expectations. However, investors are more concerned with the airline’s warning that it is expecting unit revenue to fall as much as 4% next quarter due to lower ticket prices and greater levels of competition.

Union Pacific dropped 2.8 percent after the No. 1 U.S. railroad posted a lower quarterly net profit, hurt by slumping freight volumes.

Southwest and Union Pacific dragged down the Dow Jones Transport index.

Unilever posted earnings results for the first half of fiscal 2016. The headline numbers met management’s forecast, but they were still marked by weak profit growth as demand for consumer products slowed across many key markets.

Swatch expects a recovery in the second half after net profit plunged 52% in the first half.

Roche confirmed its outlook for 2016 and reported results that exceeded expectations.

Lufthansa cut its full-year profit target, saying “terrorist attacks in Europe” weighed on its bookings.

The fears also hit Easyjet, with shares under pressure after weak third quarter revenues. Easyjet said the Brexit vote has already cost it $53 million, mainly from the drop in the value of the pound.

SABMiller’s net producer revenue grew 2% in the quarter. Meanwhile the Justice Department has approved the $107 billion merger with Anheuser-Busch InBev.

AT&T reported a 22 percent increase in quarterly operating revenue as it added television subscribers, helped by its acquisition of DirecTV. The company’s adjusted profit, however, was in line with the average analyst estimate.

Starbucks said global sales at company-owned cafes open at least 13 months rose 4 percent in the fiscal third quarter ended June 26 from the year-ago period. That was well short of the 5.6 percent gain analysts had expected.

Chipotle reported net income slumped to $25.6 million, or 87 cents per share, in the second quarter ended June 30, from $140.2 million, or $4.45 per share, a year earlier. Sales at restaurants open at least 13 months fell 23 percent. Revenue fell 16.6 percent. Which all sounds terrible, but they have been giving away free burritos and the loyalty program is working; sales inched higher in July. Still, that’s a lot of problems to overcome.

Roger Ailes has resigned as chairman and chief executive Fox News Channel following allegations of sexual harassment. The terms of Ailes’ exit package were not released. Former Fox News anchor Gretchen Carlson sued Ailes earlier this month, claiming sexual harassment. Ailes has denied the charges. Fox hired a law firm to conduct an internal investigation.

Paypal and Visa have announced a partnership which will allow Visa debit customers to move money instantly on Paypal and Venmo accounts. The agreement gives PayPal incentives for increased Visa card spending volumes from merchants and consumers. PayPal will join the Visa Digital Enablement Program to expand point-of-sale acceptance.

Tesla Motors unveiled its Secret Master Plan Part 2 in a blog post overnight. Highlights include an all-in bet on autonomous driving, ride sharing initiatives, urban transport concepts, and new models including pickups and heavy-duty trucks which are already in early development. The first order of business is solar power, that’s where the energy comes from. The pieces are already in place, almost: The Powerwall battery and Gigafactory battery plant, the pending acquisition of solar panel installation and financing firm SolarCity, and a fleet of Tesla vehicles with mobile batteries.

Selfie-fumblers rejoice: Corning just unveiled its newest version of Gorilla Glass, the chemically strengthened super glass that dozens of consumer electronics makers use in their devices. The new glass was formulated to improve drop performance from gadgets that fall onto rough surfaces from certain heights, and survives up to 80% of the time when dropped from 1.6 meters.

Space travel is unpredictable. We’re all familiar with the phrase, “Houston, we have a problem.” So much can go wrong, and it’s impossible to plan for and respond quickly to all of it. The International Space Station has its first 3D printer. If emergencies occur, astronauts can simply print the parts they need. Putting a 3D printer in orbit has huge implications for short- and long-term space travel. Until now, anything astronauts wanted either had to be sent up with them at launch, or delivered later during a resupply mission. Both options are expensive and can take days or weeks. In a dire situation, that’s not good enough. Now, instead of having to wait for a resupply or hack a tool from scraps, the crew can press a button and make one in a matter of hours.

Financial Review

Mind the Gap

Sinclair Noe — June 22, 2016

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DOW – 48 = 17,780
SPX – 3 = 2085
NAS – 10 = 4833
10 Y – .01 = 1.69%
OIL – .82 = 49.03
GOLD – 1.70 = 1267.00

Tomorrow, UK citizens will vote on whether or not they want the UK to remain a part of the European Union. This is the referendum, also known as the “Brexit” vote. While opinion polls suggested the vote was too close to call, betting parlors in the UK put the odds of a vote to remain in the EU at 76 percent. Nevertheless, the whole process has been a source of great uncertainty.

The euro currency hit its lowest level vs. the dollar in 12 years. Politicians on both sides of the debate will be making their last arguments today ahead of polling stations opening tomorrow at 7:00 AM London time. We probably won’t know the final vote count until Friday morning, although there might be a decision based on exit polls and early voting trends.

The major issues for Britons who want to leave: sovereignty, regulation, and migration. The major issues for Britons who want to remain in the EU: free trade, investment, unity, and peace. And while the greatest impact will be felt in the UK and the Euro Union, the vote will impact the US as well. The UK is a major trading partner with the US, our seventh largest trading partner last year.

Beyond economic ties, the US government is most concerned about the political instability a Brexit could portend for Europe on the whole. There has been tremendous speculation about how the vote will affect financial markets; everything from a complete crash, to a minor blip, to a big rally. The truth is we don’t know. No states have ever left the EU before, so this is uncharted territory.

Fed chair Janet Yellen was back on Capitol Hill this morning. Yesterday, Yellen delivered her semi-annual Humphrey-Hawkins testimony before the Senate Banking Committee; today she testified before the House Financial Services Committee and she repeated her dovish outlook for the economy. Yellen cited “considerable uncertainty” about the economic outlook, and the potential for a Brexit vote to shake up the markets, she said the employment picture should improve, but she basically took a July rate hike off the table.

Yellen once again stressed the word “patience.” The Q&A session following the prepared remarks revealed a few interesting points: Yellen opposes legislation that would force the Fed to reveal the design of its stress tests, she does not think Fed regulations pose much a headwind for business, the Fed plans a conference on student debt, and she said it is not the Fed’s job to boost the stock market. Yellen did ask Congress for help to boost productivity but she wasn’t very forceful; as if she knew there was no chance of Congress doing anything worthwhile.

Sales of previously owned homes increased in May to the highest level in nearly a decade. The National Association of Realtors said existing-home sales rose 1.8% to a seasonally adjusted annual rate of 5.53 million, the fastest pace since February 2007. Constrained inventory continues to dog the market, pushing prices higher. The median price in May was $239,700, 4.7% higher than a year ago.

In a separate report, the Federal Housing Finance Agency said home prices rose 0.2 percent on a seasonally adjusted basis from March, and 5.9 percent in April from a year earlier. Prices rose from a year earlier in all regions, led by the Pacific — including California, Washington and Oregon — with an 8.6 percent gain. The FHFA says the national median price of an existing single-family home was $233,700 in April.

The rent is too high. A new report from Zillow shows that rents across the U.S. are increasing, and not just in the expected regions of New York City, San Francisco and Boston. Overall, rents increased 3.3% year-over-year as of January. In Phoenix, rents are up 5.3% year-over-year.

Puerto Rico is being sued in New York by a group of hedge funds claiming it’s illegally using an emergency fiscal-crisis law to dodge payments that are supposed to be guaranteed by the island’s constitution. While Governor Alejandro Garcia Padilla has not yet implemented a temporary debt moratorium, many speculate he will soon because the territory is expected to default on a payment of nearly $2 billion on July 1.

Elon Musk’s Tesla is buying Solar City from…, Elon Musk. Tesla Motors, made an offer to buy his solar installation firm SolarCity in a stock deal worth as much as $2.8 billion. Tesla shares plunged more than 13 percent in extended trading – amounting to a loss in value of about $4.3 billion, or more than the value of the offer for the other company. Shares of SolarCity rose about 18 percent.

After the volatility caused by the news settles down, we’ll be able to see how investors really feel about it. But the move is classic Musk; the chairman of SolarCity, CEO of Tesla and the largest shareholder of both companies, described the deal as a “no brainer”; the company could sell customers an electric car, a home battery and a solar system all at once.

But talk about synergies is just short-term. In the long-term, Musk is trying to build a fully vertically integrated energy company, from energy installation to storage to application. It would be a company that generates power from the sun, stores energy in batteries, and uses those batteries to power cars and buildings. On a conference call this morning, Musk said that the cost of sales for SolarCity and Tesla could drop by potentially half, or perhaps by 30% to 40%. On the solar and battery installation set up side, there would be one crew instead of two to three visits. For ongoing maintenance, there would be one point of contact instead of two to three. The cost of hardware would also be lower.

The plan is not without risk. SolarCity is building a massive solar panel factory in upstate New York; this at a time when energy prices have dropped substantially. Tesla has brought many of its development needs in house, moving away from suppliers as much as possible. With the Gigafactory, its massive battery factory under construction outside of Reno, Nev., Tesla will soon be making its own batteries, too, by bringing that core technology in house.

Tesla has taken reservations and deposits for nearly 400,000 Model 3 electric vehicles and now they need to figure out how to manufacture all those cars. And in his spare time, Musk launches rockets into space and plans a mission to Mars. Musk said the deal doesn’t really add debt because SolarCity should be cash flow positive before the end of the year. Still, SolarCity comes with massive debt burdens, and Tesla itself is not cash flow positive.

The SolarCity deal, and for that matter everything about Elon Musk, is risky. Many Wall Street veterans and hedge fund activists seem to hate Musk. At the same time, many Wall Street veterans think the best way for companies to create shareholder value is to scrap spending on research and development and innovation, borrow money on the cheap and buyback their own shares; an obsession with delivering short-term returns to shareholders while ignoring the future of the business.

From 2009 to the end of 2013, corporate investments rose by $400 billion. But those investments were dwarfed by shareholder payouts, which increased by $740 billion. During that same period, companies borrowed $900 billion. The financial system is no longer an instrument for getting money into productive businesses and then increasing profits through growth, but has instead become an instrument for getting money out of them.

Consider the differences between two well-known companies, Apple and Amazon. Apple’s stock has lost about a quarter of its value over the last year, despite a bunch of stock buybacks at the urging of former shareholder and billionaire investor Carl Icahn. Apple needs another billion-dollar product, and no one sees one coming down the pipeline.

Apple spends 3.5% of its revenue on R&D; Google spends 15% of revenue on R&D; Facebook spends 21% on R&D; Amazon consistently denied shareholder profits in order to reinvest in the business. Now, through that constant reinvestment, Amazon has found itself on the cutting edge of not just e-commerce, but also the cloud computing it developed.

Consider Michael Pearson, the former CEO of Valeant Pharmaceuticals; he cut R&D to single digits. He once said that the unfortunate thing about curing cancer was that there was no money in it. And his philosophy on drug pricing was to charge as much as the market could bear. As a result, he drove the price of two lifesaving heart medications up hundreds of percentage points. In 2014 Pearson said, “there’s only one metric that really counts, and its total return to shareholders.” Valeant shares lost 90% of their value. Pearson was fired.

Now consider Elon Musk; he dreams big, he makes the most innovative cars we have seen since the Model T, his products are environmentally friendly, and massive disruptors across several industry sectors (auto, energy, space); and now he faces one of his biggest challenges.

Institutional investors own more than 63% of Tesla shares. Tesla is not following standard procedures on this deal. Musk owns 21% of Tesla and 22% of SolarCity; his cousin, Lyndon Rive, is a founder and the CEO of SolarCity. There are already charges of a potential conflict of interests. It does not appear that Tesla or SolarCity truly formed an independent committee or hired independent counsel. It is a good bet that shareholder lawsuits will be forthcoming.

Whether the deal falls apart or not, you should appreciate that we are watching one of the most compelling characters and one of the most remarkable business stories. Musk, Tesla, SolarCity, and the deal could be the next great thing, or it could all come crashing down harder than a SpaceX Falcon rocket, but it is hard to take your eyes off whatever unfolds.

FINANCIAL REVIEW

Keep Your Eye On The Ball

Sinclair Noe — September 22, 2014

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Financial Review

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

DOW – 107 = 17,172
SPX – 16 = 1994
NAS – 52 = 4527
10 YR YLD – .02 = 2.57%
OIL – .91 = 91.50
GOLD – 1.40 = 1215.80
SILV – .06 = 17.83

It’s not a huge week for reports, but we do get a couple worth keeping an eye out for. On Thursday, we’ll get the durable goods report for August; and on Friday, we’ll get the third and final revision to second-quarter Gross Domestic Product. This morning we saw the report on existing home sales.

The National Association of Realtors said existing home sales dropped 1.8 percent to an annual rate of 5.05 million units. The decrease was the first in four months, although the sales pace was still the second highest for the year. Investors had propped up the market by snapping up distressed properties and converting them into rental units, but last month they accounted for only 12 percent of transactions, which was the smallest share since November 2009; all cash sales made up 23 percent of transactions in August. First-time buyers accounted for 29 percent of sales, well below the 40% to 45% considered normal. The inventory of unsold homes on the market increased 4.5 percent from a year-ago to 2.31 million in August. At August’s sales pace, it would take 5.5 months to clear houses from the market, unchanged from July.

A new survey from CNBC called the Corporate Perception Indicator takes a look how individuals and business executives view corporations around the globe. Emerging markets tend to look at corporations more favorably than developed nations; 72 percent of the public in emerging economies saw corporations as a “source of hope, rather than fear”, compared with 52 percent in developed economies.

The survey also found that 57 percent of the general population and 53 percent of executives believed that corporations take advantage of tax loopholes to avoid paying their fair share of tax, including 70 percent of the general population and 67 percent of business leaders in the United States, agreed that it was important for corporations to pay their fair share of taxes.

Another survey, this one from Rutgers University, finds more than 20% of workers laid off in the last five years haven’t found new jobs. Among laid-off Americans who say they’ve found a new job, 46% said it came with a pay cut and 44% reported a drop in status. The survey also found increasing pessimism among the unemployed; 36% said the economy will never fully recover from the recession, up from 29% last January, when they were asked the same question. Likewise, 40% said that the availability of good jobs for those who want to work will never return to pre-recession levels, up from 34%.

This week’s economic calendar also includes a couple of high level conferences. The G20, or Group of 20 industrialized and developed countries just wrapped up a meeting in Australia, a test run for the November G20 leaders’ forum that will include Russia. The assorted and sundry finance ministers and central bankers at the weekend meeting think they’ve figured out a set of policies and initiatives to add an additional 1.8% economic growth, but they also issued a warning about a build-up of excessive risk in the financial markets.

It’s unusual for government finance ministers to comment on the direction of financial markets, but you would have to be blind to miss the fact that the S&P 500 has risen by about 200%, while overall US economic output has only risen by about 20%. Stock prices relative to earnings are above historical averages. Europe faces the risk of deflation; while the Federal Reserve is easing off the stimulus; Brazil is in a recession; Russia is mired in economic sanctions over Ukraine; and even China is projecting slower growth. The G20 also talked about the Ebola crisis in Africa, corporate tax evasion, and climate change.

In New York the climate change issue spilled into the streets yesterday and today. Yesterday, between 300,000 and 400,000 people turned out for the Climate March, ahead of the United Nations Climate Summit, which starts tomorrow. Organizers hailed the turnout as the largest climate change march in history. The organized Sunday march included celebrities and political figures including the Mayor of New York. Also, today, a much smaller group of protesters took their message to Wall Street; today’s protest did not have permits and ended with crowds being pepper-sprayed. By conducting a sit-in on the steps of the New York Stock Exchange, organizers say they are confronting “the system that both causes and profits from the crisis that is threatening humanity.”

Maybe they have a point; at least the Rockefellers seem to think so. In recent years, 180 institutions — including philanthropies, religious organizations, pension funds and local governments — as well as hundreds of wealthy individual investors have pledged to sell assets tied to fossil fuel companies from their portfolios and to invest in cleaner alternatives. In all, the groups have pledged to divest assets worth more than $50 billion from portfolios, and the individuals more than $1 billion. Today, the New York Times reports the $860 million philanthropic organization, the Rockefeller Brothers Fund, is joining the divestment movement.

Not everyone will divest completely or right away and some are divesting just from specific sectors of the fossil fuel industry, such as coal. Just how transparent the various funds and institutions will be about the progress of their asset sales is uncertain. The Rockefeller Brothers Fund has already eliminated investments involved in coal and tar sands entirely while increasing its investment in alternate energy sources.

The Rockefellers are especially noteworthy given their family history. Patriarchs John D. Rockefeller and William Rockefeller amassed their fortunes while working in the oil industry. The Rockefeller brothers were co-founders of the Standard Oil Company, the world’s largest oil refiner at the time.

The divestment movement began on college campuses, where it has met with mixed results. Harvard has refused to divest; Stanford has agreed to divest its holdings in the coal industry; Yale University is still studying the matter.

Divestment is not an easy thing to accomplish, especially for individual investors. Some of the biggest oil companies, such as ExxonMobil, Chevron, and ConocoPhillips are listed on the S&P 500 index. Many mutual funds and exchange traded funds mimic the S&P 500 by buying all the stocks in it or else use the index as a benchmark. That means anyone who has a stock mutual fund in their retirement portfolio probably owns some Big Oil.

And then there is a question of the impact of divestment, and whether that is the way to go, as opposed to shareholder activism. For the Rockefeller Brothers Fund, they tried activism with ExxonMobil, and say they were largely ignored, and they tried direct investment back in the 80’s without much success; so divestment is what remains. But divestment is just a small part of what is happening.

According to the Columbia Journalism Review, the debate has shifted from a science story to a business story. The thinking here is that all credible science has accepted manmade climate change, and now the question is how to apply a risk management approach to climate change. Risk-management analysis identifies likely financial losses due to things like legal liabilities, uncertainties in credit markets, and the probability of infrastructure failure.

The climate story has largely been locked in the story of rising sea levels and polar bears. That’s compelling but for most people it doesn’t address their bottom line. Sea levels are going to rise but at the edge of the water is someone’s home or business. Temperatures are rising but what impact does that have on the price and availability of the food you buy and eat? What does it mean for the construction industry and how we build buildings? What does it mean for the insurance industry and how we insure property? And insurance companies aren’t just evaluating coastal and flood prone areas; farmers in the heartland benefit from crop insurance and federal disaster relief when their fields wither under extended droughts and heat waves.

Extreme weather can also affect health. JAMA has just released a study showing the many ways climate change can make us sick; from heat related health problems to respiratory illness, to infectious diseases like West Nile and dengue fever, to waterborne diseases. As extreme weather events become more frequent and intense, there’s a growing understanding that the costs could be catastrophic.

So, for many in business, the question of climate change is coming down to understanding not only risk but pricing. Last week, more than 340 global institutional investors with at least $24 trillion in assets — including Swiss Re and the Unitarian Universalist Association — called on government leaders to adopt carbon pricing. The World Bank says 73 countries and more than 1,000 companies and investors support a price on carbon; that is, a carbon tax or buying permits to emit carbon. The list includes countries like No. 1 polluter China, and companies including Cisco Systems, IKEA Group and the Dow Chemical Company. Investors include BNP Paribas Investment Partners, the Illinois State Board of Investment and Rockefeller Asset Management. Absent from the list, however, are the world’s second- and third-largest polluting countries, the US and India.

Dozens of climate-related events will take place this week in the New York, but the summit itself starts tomorrow at UN headquarters. President Obama and leaders from more than 120 countries are likely to announce climate initiatives, and company CEOs will participate in talks or make their own commitments.

So, the UN Climate Summit kicks off tomorrow; it is expected to endorse a new international plan to cut deforestation in the world’s tropical forests – with conservation plans to be paid for by developed counties – and to underscore global efforts to share green technologies with the world’s poorer countries. Ideas for “pricing carbon” and financing efforts to reduce emissions – for example, by taxing internationally traded goods based on the carbon emissions those goods produce.

And today, just before the summit, one final report from the Global Carbon Project shows the world pumped an estimated 36 billion tons of carbon dioxide into the air last year; which is 706 million tons, or 2.3% more than the previous year.

And all of this means that there will be massive investments in developing technologies to deal with the issue of climate change. From a business and investment standpoint, it pays to keep your eye on the ball.

Tuesday, July 22, 2014 - Curb Your Enthusiasm

Financial Review with Sinclair Noe

DOW + 61 = 17,113
SPX + 9 = 1983
NAS + 31 = 4456
10 YR YLD - .01 = 2.46%
OIL - .17 = 104.42
GOLD – 4.70 = 1308.50
SILV + .04 = 21.07

We start with a couple of economic reports. The National Association of Realtors reports existing home sales were up 2.6% in June to a seasonally adjusted rate of 5.04 million, compared to 4.91 million in May. Sales in June were 2.6% higher than last month, but were 2.3% below the June 2013 rate. Total inventory rose 2.2% in June to 2.3 million existing homes for sale; unsold inventory is up 6.5% from a year ago.

At June’s pace of sales, there was a 5.5-month supply of homes for sale. The Realtors’ group considers a 6-month supply to be a balanced market. Higher supplies favor buyers and lower supplies favor sellers. The Federal Housing Finance Agency says home prices in May rose 0.4% from the prior month and were 5.5% above their level of May 2013. Distressed sales accounted for just 11% of sales in June, down from 15% last year, 25% in 2012, and 30% in 2011. Fewer distressed sales probably explain why there were fewer sales than June of last year.

The Consumer Price Index, or CPI, measures inflation at the retail level; the CPI increased 0.3% in June. The core CPI looks at prices excluding food and energy, which is important for people who don’t eat food or drive cars or use electricity; core CPI was up 0.1% in June. On a year over year basis, CPI is up 2.1%, and the core CPI is up 1.9%. The big driver for the increase in June was higher prices for gasoline.

In earnings reports:

Quarterly profit at McDonald's fell more than expected. Second quarter net income fell almost 1% to $1.3 billion, or $1.40 per share. Sales at McDonald’s restaurants in the US dropped for a third straight quarter.

Coca Cola’s 2Q net income dropped to $2.6 billion from $2.68 billion a year earlier.

Verizon reported second quarter earnings nearly doubled, but it was a confusing report because Verizon paid for Vodaphone shareholders in the quarter, plus they sold some of their wireless spectrum to T-Mobile; cutting through the clutter, Verizon added 1.4 million devices; Verizon added three tablets for every new smartphone. Earnings were just a smidge above expectations.

Comcast reported net income of almost $2 billion for the second quarter, with total revenue of $16.8 billion, up 3.5% from the same period last year. The revenue increase came from high-speed internet service. Comcast lost cable video customers, as more people bypass cable and satellite subscriptions in favor of cheaper streaming alternatives.

Credit Suisse reported a second quarter loss of $779 million, the largest loss since 2008; reflecting the charge of $2.6 billion related to the settlement with US law enforcement for a guilty plea to conspiring to aid tax evasion in helping American customers hide money in Swiss accounts. On the other hand, another way to look at it, they were one criminal conviction away from a $1 billion quarterly profit. Credit Suisse also announced it would exit the commodities trading business.

Meanwhile, it looks like bond traders are exiting the bond trading business. Trading in US government bonds has dropped 25% in the past few weeks compared to the same period a year ago. Since the end of the second quarter, trading in investment grade bonds has dropped 17% and trading in junk bonds has dropped 8%.

Last week, Fed Chair Janet Yellen talked about overvaluation in the biotech and social media sectors. One of the most common measures of value is the P/E, or price to earnings ratio; there are certainly other measures of value, but PE is common. Generally, a low PE can point toward value, while a high PE might indicate overvaluation, or even an unprofitable company. Currently the S&P 500 trades at 16.1 times forward 12-month consensus earnings per share. Therefore, you might think a PE of 165 would mean a stock was extremely overvalued, ready to crash; or not. In September 2003, Apple had a PE of 165; since then it has gained about 6,000%.

After the close of trade today, Apple posted fiscal third quarter results. Revenue came in at $37.4 billion versus $38 billion expected; EPS was $1.28 versus $1.23 expected; iPhone sales were on track; iPad sales were a little weak; Mac sales were a little better than expected. Apple posted profit of $7.75 billion, up from $6.9 billion in the year-ago period. Apple announced a new iPhone 6, not yet available, but ready to swamp stores before the end of the year; it will have a bigger screen. Curb your enthusiasm.

Also after the close, Microsoft posted profit of $4.6 billion, or 55 cents a share, on revenue of $23.4 billion. During the year-ago period, the world's largest software company earned $4.97 billion, or 59 cents a share, on $19.9 billion in sales. So, sales were up, profit was a slight miss, due to the Nokia acquisition. Bing search ad revenue is up 40%, and Bing now has about 20% of the market share for search engines. Microsoft is big in the cloud, where revenue is up almost 150%, topping 4 billion.

Hedge fund manager Bill Ackman went on CNBC yesterday and promised he would deliver the deathblow against Herbalife. Ackman has been shorting the stock for about a year; a $1 billion bet the company would crash. Then he delivered a 3-hour diatribe with 250 slides in his PowerPoint presentation, alleging that Herbalife is not just a multi-level marketing nutritional club, it is a pyramid scheme preying on minorities, and the biggest fraud since Enron. Ackman did not present a great deal of evidence. Today the stock was up 15%, for no apparent reason, other than surviving an Ackman deathblow.

There were two rulings from two federal appeals court panels on Obamacare today. The question was whether the government could subsidize health insurance premiums for people in states that use the federal insurance exchange; 36 states use the federal exchange, while the other states set up their own state exchanges. This goes back to wording in the original law that says subsidies can be applied to state exchanges.

 The United States Court of Appeals for the District of Columbia Circuit said that the government could not subsidize insurance for people in states that use the federal exchange. That decision could potentially cut off financial assistance for more than 4.5 million people who were found eligible for subsidized insurance in the federal exchange, or marketplace.

A couple of hours later, the United States Court of Appeals for the Fourth Circuit, in Richmond, upheld the subsidies, saying that a rule issued by the Internal Revenue Service was “a permissible exercise of the agency’s discretion.”

For now, nothing changes, with the exception that there will be many more billable hours for the attorneys.

Bloomberg reports that regulators are ready to label MetLife a potential threat to the financial system, subjecting the insurer to oversight by the Federal Reserve. MetLife, the biggest US life insurer, could be subjected to stricter capital, leverage and liquidity requirements as a result of Fed supervision. A decision by the Financial Stability Oversight Council may come as early as July 31, and MetLife would have 30 days to request a hearing before the FSOC to contest the decision.

The Dodd-Frank Wall Street Reform and Consumer Protection Act is now 4 years old, even though it isn’t really in effect; just 52% of the rules mandated under Dodd-Frank have been finalized by regulators; Another 23% have been proposed but they’re still working out details, and regulators haven’t even gotten around to 24% of the rules. A recent report by consumer watchdog Public Citizen called out the Securities and Exchange Commission as a particularly egregious delayer, noting that it had pushed back the deadlines for 13 of the 23 rules it was supposed to finalize this year.

City workers and retired city workers in Detroit have agreed to pension cuts to help bailout the city from bankruptcy. General retirees would get a 4.5% pension cut and lose annual inflation adjustments. They accepted the changes with 73% of ballots in favor. Support for the pension changes triggers an extraordinary $816 million bailout from the state of Michigan, foundations and the Detroit Institute of Arts. The money would prevent the sale of city-owned art and avoid deeper pension cuts.

Most people travel to or from Israel by air, and the major airport, really the only airport is Ben Gurion in Tel Aviv; last year, 14 million people went through Ben Gurion Airport, in a country with a population of 8 million.  Yesterday a rocket from Gaza landed about one mile from the airport; we don’t have further details on that rocket; it did not hit the airport; it was a mile away. When news spread, Delta diverted a flight to Paris. United airlines cancelled flights. The Federal Aviation Administration banned all US passenger and cargo flights to and from Tel Aviv for at least the next 24 hours. European airlines cancelled flight to Israel. The possibility of a passenger jet being shot down over a war zone is a very realistic and fresh memory.

US and United Nations diplomats are in Israel, trying to broker a ceasefire of some sort. Israel continues to pound targets across the Gaza Strip. It does not appear a ceasefire is near. If there is any light at the end of the tunnel, the tunnel will be destroyed.

The European Union today threatened Russia with harsher sanctions if Russia does not cooperate in the investigation of the downing of the Malaysian flight 17 and if Russia does not stop sending weapons to Russian backed separatists in Ukraine. However, it was just a threat, and they will get together later in the week to draft proposals for sanctions.

Monday, June 23, 2014 - Calm Before the Storm

Financial Review with Sinclair Noe

DOW – 9 = 16,937
SPX – 0.26 = 1962
NAS + 0.64 = 4368
10 YR YLD un = 2.62%
OIL  - .13 = 106.04
GOLD + 3.60 = 1319.30
SILV + .02 = 21.00

The economic data today from the National Association of Realtors shows existing home sales picked up in May. Total sales rose 4.9% to 4.89 million units from an upwardly revised 4.66 million in April. While that marks a month to month increase, sales are down from the 5.15 million level of May one year ago.  Total housing inventory increased 2.2% in May. Unsold inventory is 6% higher than a year ago.

Meanwhile, Markit's US Flash manufacturing PMI report for June, increased to 57.5 from 56.4 in May.

The stock market has drifted slightly higher over the past couple of months. Yes we hit record highs last week, but the movement has been very slow, volume has been light, and volatility is almost non-existent. Volume is down about 50% since 2008. The VIX, or volatility index, sometimes known as the fear index, is down below 12, which means that the only people in the options market are all maxxed out on Ambien, or Valium. The S&P 500 hasn’t had a daily move of 1% in more than 2 months. Russia invades Ukraine – wake me when it’s over. Radical militants threaten to tear apart Iraq – we’ve seen this story before. The US economy is weak right now but growth is right around the corner – rinse, lather, repeat. The US plays Portugal in the World Cup and it’s a tie, of course.

The Federal Reserve looked at monetary policy and cranked up the old Xerox to publish their statement. Maybe this is the result of all that Federal Reserve fiddling; maybe they have created the boring stock market, which lulls everyone into a false sense of complacency. Of course, that’s not how markets work, no matter how much central bank finesse is applied. Markets are risky, always have been, always will be. I think it’s safe to say this is the calm before the storm, because there is always a storm in the markets.

There was some merger activity today. General Electric struck a deal to acquire France-based Alstom's power business for $16.9 billion after a lengthy pursuit. There was another utility deal, Wisconsin Energy announced a deal to acquire Integrys Energy for $9.1 billion. Oracle also announced a deal to acquire MICROS Systems for $4.6 billion.

The price of oil has been one of the few markets to show movement, which is not good news for drivers. Rising oil prices translate to rising gasoline prices, but there is lag of several weeks. Given the recent jump in oil prices, gasoline prices are poised to increase in coming weeks. Higher prices at the pump serve as a tax on consumers, whose purchasing power is still questionable. It’s estimated that an increase of $10 a barrel subtracts 0.4% from real GDP growth. Of course, for that to apply, the price increase has to stick.

The Supreme Court is in session and today they ruled on limiting the Environmental Protection Agency’s power to regulate facilities that emit carbon dioxide. The decision would reduce the number of carbon-emitting facilities the EPA can regulate, but it is a limited ruling, and even Justice Scalia said: "It bears mention that EPA is getting almost everything it wanted in this case."

Meanwhile a statement from the EPA claims victory, "The Supreme Court’s decision is a win for our efforts to reduce carbon pollution because it allows EPA, states and other permitting authorities to continue to require carbon pollution limits in permits for the largest pollution sources." Industry groups, such as the American Petroleum Institute, also claimed victory. The group said in a statement that the decision was a "stark reminder that the EPA's power is not unlimited."

The decision won't have a huge impact on US climate policy, as the decision only modestly changed the number of large facilities subject to certain permitting requirements. It also won't affect the Obama administration’s proposal to reduce emissions from power plants, which is a separate program.

When the EPA classifies something (like carbon dioxide) as a harmful pollutant, it triggers a number of legal requirements under the Clean Air Act. One of them, known as a "prevention of significant deterioration" (PSD) rule, requires factories, power plants, and other large facilities to get the EPA's approval before they make changes that would lead to higher pollution. These facilities also must use the "best available control technology" to reduce the effects of pollution they emit. Another provision requires any facility that is a "major source" of pollution to get a permit from the EPA.

Under the Clean Air Act, facilities become subject to these regulations if they emit more than 250 tons (or in some cases as little as 100 tons) of pollution per year. Traditional pollutants such as sulfur dioxide or lead can be harmful even if they are only emitted in trace amounts, so a relatively low threshold makes sense. Only large factories and power plants emit that much of these conventional pollutants.

But carbon dioxide is different. Factories produce vastly more carbon dioxide than other pollutants regulated by the EPA. Under existing rules, about 15,000 facilities are required to get permits under the Clean Air Act based on their emissions of non-carbon pollutants. If the EPA had used the same 250-ton threshold for carbon dioxide emissions, 6.1 million facilities would suddenly have needed permits. The agency estimated it would cost $21 billion per year just to process all that paperwork.

So the agency effectively re-wrote the law, exempting facilities that emitted less than 100,000 tons of carbon dioxide from getting a permit. Several states and business groups challenged this decision, arguing that the EPA had no authority to unilaterally re-write the law.

Almost everyone agrees that a literal reading of the Clean Air Act would lead to madness. The EPA has warned that "decade-long delays in issuing permits would become common, causing construction projects to grind to a halt nationwide." The Supreme Court didn't want that to happen.

But a majority of the court, led by Justice Scalia, also didn't like the EPA's approach. The court said that if Congress set a threshold of 250 tons, the EPA can't just unilaterally change it to 100,000 tons. Instead, the court's majority held that the term "air pollutant" can have different meanings in different parts of the Clean Air Act. While the "Act-wide definition" of air pollutant includes carbon dioxide, Scalia wrote, "EPA has routinely given it a narrower, context-appropriate meaning" in certain parts of the Clean Air Act. Scalia used the same trick to avoid subjecting millions of facilities to burdensome permitting requirements. He held that the definition of "air pollutant" didn't include carbon dioxide in sections of the Clean Air Act where including it would lead to a vast expansion in regulation.

The court's four liberals, led by Justice Stephen Breyer, preferred a different approach. Rather than selectively interpreting "any air pollutant" to exclude carbon dioxide, Breyer would instead have interpreted another phrase in the same section of the law, "any source" to exclude power plants that produce only modest amounts of carbon dioxide.

Two of the court's conservatives, Samuel Alito and Clarence Thomas, wrote a separate opinion arguing that the Supreme Court had been wrong to push the EPA into regulating carbon dioxide in the first place in 2007.

While the EPA can't impose regulations on new power plants based on their carbon dioxide emissions, the court ruled that the courts can regulate the carbon dioxide emissions of facilities that are already subject to regulations based on their emissions of conventional pollutants. So the EPA will still do what the EPA does; it’s estimated that 83% of greenhouse gas emissions that could potentially be regulated under the Environmental Protection Agency's interpretation of the law would still be covered as a result of the ruling, compared with the 86% of emissions that the EPA says it wants to regulate.

What today’s ruling really shows is that Congress has been out of touch and dysfunctional in dealing with pollution and climate change; rather than deal with issues, they stick their heads in the sand and hope the problem goes away, but it doesn’t; it simply shifts to another part of government that may or may not manage to resolve the problem, but in either case, is not held accountable to the voters; and then finally, if the problem persists, it goes to the courts. It’s a bad way to make and enforce laws.

A couple of other cases today: in Loughrin v. US; the court declined to reduce the scope of a federal criminal law against bank fraud, ruling that prosecutors do not need to prove that defendants intended to defraud a bank. The decision came in an appeal brought by Kevin Loughrin, who was convicted of six counts of bank fraud for stealing checks that he then altered so he could buy merchandise at Target stores.

Loughrin told police he meant to buy the items using the checks, then return the items for cash refunds. He was charged with using altered checks totaling $1,184.  Loughrin appealed his conviction. He argued that the bank fraud statute required prosecutors to prove that he intended to defraud the banks on which the checks were drawn. He said his intent was only to deceive Target. In other words, this was run of the mill fraud, and the use of a check was incidental. Loughrin did not appeal his related convictions for identity theft and possession of stolen mail. Between 2006 and 2010, the government sought to prosecute nearly 3,000 cases using the statute. Meanwhile, no major bankers have gone to jail for the crimes associated with the financial crisis; I’m just saying.

One more decision today: New Jersey wanted to institute legalized gambling on football, passing a law that the NFL and other sports leagues quickly fought in court.  The NFL won (as it often seems to do in court) at the federal appellate level, forcing New Jersey to take the case to the Supreme Court. The Supremes declined to review the case, so if you are in New Jersey, or any other state except Nevada, you’ll have to continue to call your bookie, or you can play fantasy football in a league set up through the NFL’s website.