Financial Review

Month End Review

Sinclair Noe — April 30, 2015

 

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DOW – 195 = 17,840
SPX – 21 = 2085
NAS – 82 = 4941
10 YR YLD + .01 = 2.05%
OIL + 1.19 = 59.77
GOLD – 20.60 = 1185.00
SILV – .44 = 16.20

For the month, the Dow was up 0.4 percent, the S&P 500 gained 0.9 percent and the Nasdaq rose 0.8 percent. For the month of April, the dollar index fell about 3.7 percent. Some month end portfolio buying pushed yields on ten year notes to 2.05% after hitting a 7 week high of 2.11% earlier in the session. The big mover in April was in the energy market, where crude oil jumped more than 21%. S&P 500 earnings for the first quarter now are forecast to have increased 1.1 percent from a year ago, Thomson Reuters data showed, while revenue is forecast to be down 3.2 percent.

The Commerce Department reports consumer spending rose 0.4% in March as households stepped up purchases of big-ticket items like automobiles; that follows a 0.2% gain in February. The savings rate fell for the first time in four months to 5.3% from 5.7%. A year earlier, Americans were saving at a 4.8% rate. Consumer spending rose 1.9% in the first quarter, down from 4.4% and 3.2% in the prior two quarters. That might indicate there is pent-up demand, but a rebound in economic activity could be crimped by an inventory overhang.

The Employment Cost Index, which measures the cost of employing the average US worker climbed 0.7% in the first quarter, compared to a 0.5% increase in the fourth quarter. And while there has been a lot of attention to low paying jobs in retail and restaurants, and talk about raising the minimum wage, the job gains last month came in higher paying professions. Professional, scientific and technical services workers saw a 2.1% gain, and the real estate, rental and leasing business saw a 1.5% advance. While retail employee pay rose 0.5% in the first quarter. In the 12 months through March, labor costs jumped 2.6 percent, the largest rise since the fourth quarter of 2008. They are approaching the 3 percent threshold that economists say is needed to bring inflation closer to the Fed’s 2 percent target.

Meanwhile, inflation as gauged by the PCE price index rose 0.2% in March. The core rate that excludes food and energy edged up a smaller 0.1%. The PCE inflation index has climbed just 0.3% over the past 12 months, though the core rate is up 1.3% in the same span.

The number of Americans filing first-time claims for unemployment benefits fell 34,000 to a seasonally adjusted 262,000 from a revised 296,000 in the prior week; that’s a 15 year low. This report from the Labor Department covered the period from April 19 to April 25, which included the Easter holiday, so the numbers should be taken with a grain of salt.

Another report showed that factory activity in the Midwest accelerated in April, after hitting a 5-1/2-year low hit in February. The Institute for Supply Management-Chicago’s business barometer rose to 52.3 from a March reading of 46.3. A reading above 50 indicates an expansion in the region’s factory sector.

The Dollar Index was lower, for its eighth consecutive day of declines, the longest losing streak since April 2011. The losses cap the dollar’s first monthly decline since June. When you get to where sentiment is all one way in one trade, the trade gets very crowded. According to Commodity Futures Trading Commission speculative traders cut net bullish bets on the greenback to a six-month low of 324,940 contracts last week. While the FOMC called anemic first-quarter growth, in part, “transitory” in its statement, the absence of a stronger signal for higher rates prompted dollar bulls to begin to doubt their conviction.

Yesterday, the FOMC brushed off a first quarter slowdown as weather-related and transitory; more consumer spending and fewer claims for unemployment would support the Fed’s outlook, and of course, the financial markets have been hooked on cheap money and accommodative policy from the Fed. Just a reminder that the first quarter of 2014 showed negative GDP, and then the economy came roaring back in the second and third quarters. The Fed seems to think we might see a repeat this year. Yesterday, the Commerce Department reported first quarter GDP growth of 0.2%, and if the economy comes roaring back, it’s a good bet the Fed will hike rates later this year. But there are no guarantees the economy will bounce back this year.

The Atlanta Federal Reserve Bank’s “GDP Now” forecast predicted first quarter GDP growth of 0.1% – pretty close to the reported number – and they predict second quarter GDP growth of 0.9%. And while that represents economic growth, consider that the strong dollar cut one percentage point from first quarter GDP; now the strength of the dollar is moderating, which should help exports and boost second quarter GDP. Also, bad winter weather lopped off one percentage point from the first quarter GDP number; nobody is predicting crippling snow storms hurting second quarter growth.

So, the big question is whether the Fed will raise interest rates, and the answer seems to be that they will be data dependent, as they continually repeat in their FOMC statements. Weighing in on the matter today is former Fed Chairman Ben Bernanke, who has become much more provocative since he left the Fed. Bernanke now writes a blog for the Brookings Institute. In his first blog he took on Larry Summers’ ideas about secular stagnation. In today’s blog he takes on the Wall Street Journal editors, specifically an editorial entitled “The Slow Growth Fed”, which argued that the Fed’s economic growth  projections have been too high since the financial crisis (which Bernanke concedes is true). The WSJ then argues that monetary policy is not working and should be discontinued.

Bernanke responds: “It’s generous of the WSJ writers to note, as they do, that “economic forecasting isn’t easy.” They should know, since the Journal has been forecasting a breakout in inflation and a collapse in the dollar at least since 2006, when the FOMC decided not to raise the federal funds rate above 5-1/4 percent.”

Bernanke has a very good point. Plenty of people have been forecasting hyper-inflation and a dollar collapse. It hasn’t happened. They were wrong. Economic forecasting isn’t easy. But instead of looking at the data, some people, including the WSJ editors, insist that their version of reality must be correct and the data must be wrong.

Indeed, there is good reason to credit monetary policy with providing a boost to the labor market. Just look at the unemployment rate of 5.5% in the US compared to 11.3% unemployment in the Eurozone, where the ECB was slow to implement accommodative policy. Bernanke admits that monetary policy is not a panacea, and he said that several times when he was Fed chairman. Bernanke then writes:  “I am waiting for the WSJ to argue for a well-structured program of public infrastructure development, which would support growth in the near term by creating jobs and in the longer term by making our economy more productive. We shouldn’t be giving up on monetary policy, which for the past few years has been pretty much the only game in town as far as economic policy goes. Instead, we should be looking for a better balance between monetary and other growth-promoting policies, including fiscal policy.”

Again, Bernanke has a great point; fiscal policy has been missing in action in the recovery. It is estimated that rebuilding the crumbling US infrastructure would create 13 million jobs. That is something that the Federal Reserve doesn’t control. The American Society of Engineers gives the US a “D+” for the state of its infrastructure, and estimated in 2013 that it will cost $3.6 trillion to bring America’s public infrastructure to an acceptable level by 2020. Chronic underinvestment in the nation’s essential infrastructure will ultimately require a national investment plan unseen since Europe’s post-war reconstruction.

According to the World Economic Forum’s Global Competitiveness Report for 2013, the US ranks 25th in the world in terms of overall infrastructure, behind such nations as Barbados and Oman, and only one spot ahead of Qatar. The quality of America’s air transport infrastructure is ranked 30th in the world, while quality of the electricity supply ranks 33rd. So, the business case for investment in infrastructure is strong, and even though the Federal Reserve is far from perfect, Dr. Bernanke is correct.

Later this evening, Elon Musk, the CEO of Tesla Motors will make a big announcement. He is expected to introduce a home battery product, which people can use to store energy from their solar panels or to backstop their homes against blackouts, and also a “very large utility-scale” battery product, which may do the same for large companies or even parts of the grid. Tesla’s $5 billion Nevada “Gigafactory” will likely provide most of the muscle behind this bid for a non-automotive product line. The factory will be the largest producer of lithium-ion cells in the world, and Tesla hopes economy of scale will drive prices down.

Tesla is already supplying batteries to homes and businesses like Wal-Mart through a pilot program and a supply agreement with another Elon Musk property, SolarCity. The storage batteries can absorb energy during peak production times, and discharge it later. This eliminates concerns about lack of wind or sun, and ensures that these resources don’t go to waste when they’re available.

Tesla isn’t the only company in the battery game, and whatever happens with Tesla, this market is expected to grow. A study by GTM Research and the Energy Storage Association earlier this year found that while storage remains relatively niche, the market was sized at just $128 million in 2014, it also grew 40 percent last year, and three times as many installations are expected this year.

There are still plenty of questions, including how much it will cost to drop off the grid. Stay tuned for the answers tomorrow.

Financial Review

Holy Grail

Sinclair Noe — March 2, 2015

 

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DOW + 155 = 18,288
SPX + 12 = 2117
NAS + 44 = 5008
10 YR YLD + .08 = 2.08%
OIL + .06 = 49.82
GOLD – 7.80 = 1206.90
SILV – .22 = 16.46

February was the best month for stocks since October 2011. The S&P 500 gained 5.5% in February. March is off to a fine start. The Dow Industrial Average closed at a record high. The S&P 500 closed at a record. The Nasdaq Composite hit 5000 for the first time in 15 years. And if you wonder why we celebrate when the indices hit records, it is because 15 years ago we didn’t know it would take 15 years to get back to these levels.

Earnings season is pretty much over and it wasn’t all that pretty. With 485 of 500 S&P 500 companies reporting, FactSet says the blended growth rate is only 3.7%. Without Apple that number shrinks to only 2% but then again if you take out energy, it balloons to nearly 7%. Estimates have been revised lower, which is typical; companies try to ratchet down expectations, but this is different. All sectors are showing expectation deterioration, not just energy.

Earnings growth has slowed, and valuations are a little on the pricey side, and expectations are down. So, why are stocks at record highs? Well, start with the idea that the Fed has not yet shifted from dove to hawk, rates are still low, the economy is growing, slowly but surely, and then the idea that we all have to be somewhere and stocks are as good a place as anything else. Add in a strong dollar, and the rest of the world wants to be in the US stock market. This is an important point.

Looking back, corporate earnings peaked in the second quarter of 1997, and stocks just continued going higher for about 3 years. Earnings momentum may be slowing and valuations may be a little out of kilter, but the market can be wacky longer than you can be solvent. Stocks don’t roll over just because the P/E gets a little high. There is no trigger being pulled on the markets right now; just the opposite, the global flow of funds makes stocks look good.

Any reversal in Fed policy, an upward drift to higher interest rates, a modestly weaker dollar, or further erosion in earnings, and equities could feel the pinch. What we are starting to see already is that a rising tide is not lifting all boats. Even though the market is at highs, it is just a few winners lifting fewer and fewer boats. This bodes well for good stock pickers, not so much for the indexed approach.
 
Consumer purchases adjusted for inflation rose in January. The best job market since 1999, low borrowing costs and cheaper fuel bills are driving household spending. The 0.3 percent increase followed a 0.1 percent drop the prior month. Nominal spending, which doesn’t take into account changes in price, declined 0.2 percent, more than estimated, while incomes grew 0.3 percent for a second month. Disposable income, or the money left over after taxes, climbed 0.9 percent after adjusting for inflation. The saving rate increased to 5.5 percent from 5 percent.

Now Americans are known for spending not saving, so it seems a bit strange that we suddenly start saving. But the increase in real disposable income did not come from big increases in paychecks; rather it was more buying power, mainly from lower prices for fuel. So the only way to realize the increase in income is not to spend it. Also, most people don’t expect low energy prices to last. Most people are not yet convince the economy has truly improved, and for most households, things are still a little rough.

Despite that, the Misery Index is at its lowest level since 1959. The Misery Index was proposed by the economist Arthur Okun in the 1970s; it basically looks at the unemployment rate and the inflation rate; that’s it. The Misery Index captured the angst of the 70’s much better than it recognizes the problems of today. Maybe these aren’t the best of times, but consumers and the Misery Index agree: they are far from the worst of times.

Inflation, as expected, continued to decelerate owing to the widespread effects on the economy of lower energy prices. The PCE inflation index fell 0.5% in January, lowering the increase over the past 12 months to a meager 0.2%. The PCE or personal consumption expenditures index is the Fed’s preferred gauge of inflation. Just eight months ago, the rate of PCE inflation was running at a much higher 1.7%, though that was still below the Federal Reserve’s preferred 2% target. The core rate of inflation that excludes volatile food and energy costs rose 0.1% in January, however. The core rate has risen at a mild 1.3% in the past 12 months.

Construction spending dropped 1.1% in January to a seasonally adjusted $971 billion. The Commerce Department says private-construction spending fell 0.5% in January, despite a 0.6% increase for residential projects. There was a 1.6% decline for nonresidential projects. Meanwhile, public-construction spending dropped 2.6% in January.

The Institute for Supply Management’s manufacturing index edged down to a reading of 52.9% from 53.5% in January. We’ll have more on that in a few minutes.

Asian stocks rose on Monday after China cut interest rates by a quarter percentage point over the weekend, while a survey showed HSBC’s PMI climbing from 49.7 to 50.7 in February, the strongest level since July. The Chinese central bank said: “Deflationary risk and the property market slowdown are two main reasons for the rate cut this time.”  In the last few months, China has been showing further signs of flagging economic growth, with GDP dipping to 7.3% in Q4 – its slowest rate in over two decades.

Euro zone deflation and unemployment eased. Prices fell less quickly in February than feared, and unemployment dropped in January for the third month in a row.

Citigroup will replace American Express as the exclusive issuer for Costco’s credit cards in the U.S. and Puerto Rico. Transactions will be processed by Visa beginning April 1, 2016. Costco business accounts for about 20% of AmEx’s loans and 10% of its cards.

Samsung Electronics has unveiled the Galaxy S6 in a bid to reclaim its throne as the global smartphone leader. The S6’s frame is made completely out of aluminum and uses Corning’s Gorilla Glass 4 for front and back glass panels. Other features: Wireless charging support, a 16MP rear camera, and a mobile payment system which will use the technology of recently acquired startup LoopPay.

NXP Semiconductors has agreed to buy Freescale Semiconductor, in an $11.8 billion deal that would create the eighth largest chip maker. The new company will make chips for various industries, including automobiles and mobile payments. The companies expect the deal to close in the second half this year.

Hewlett-Packard said it would buy Wi-Fi gear maker Aruba Networks for about $2.7 billion, the biggest deal for the world’s No. 2 PC maker since 2011.

“60 Minutes” reported that Lumber Liquidators  sold flooring containing levels of formaldehyde higher than California health and safety standards. The flooring comes from mills in China. The investigation used undercover reporters and hidden cameras to show that managers at three factories admitted to using false labeling that made it look like flooring produced for Lumber Liquidators met regulations when it didn’t. (LL) down 22% today.

In his annual letter to shareholders, Warren Buffett wrote: “Both the board and I believe we now have the right person to succeed me as CEO.”  In a separate letter from Charlie Munger, Berkshire’s vice chairman, suggests reinsurance head Ajit Jain or energy boss Greg Abel as worthy replacements. Berkshire posted a 16.7% decline in Q4 net profit over the weekend, dipping to $4.1 billion from $4.9 billion a year earlier. That’s actually pretty lousy performance for the fourth quarter.

Still, people want to invest like Warren; but you are not Warren. And some of the things that set Warren apart are that he is a value investor; so it makes sense that his style of investing didn’t work in the fourth quarter when the markets were hitting record highs. Warren has an extremely long time frame for investments; which means he has more patience than you or me. Warren also has more discipline than you or me. And discipline is the closest thing there is to the Holy Grail when it comes to investing; it doesn’t matter whether you are a day trader or a value investor.

FINANCIAL REVIEW

Time For Pie

Sinclair Noe — November 26, 2014

 

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DOW + 12 = 17,827
SPX + 5 = 2072
NAS + 29 = 4787
10 YR YLD – .03 = 2.23%
OIL – .35 = 73.75
GOLD – 3.20 = 1199.00
SILV – .13 = 16.64

Another record high close for the Dow Industrial Average and the S&P 500 index. That’s the 47th record high for the S&P this year. Volume was light, heading into the holiday. The markets will be open for a half day on Friday, but volume will be incredibly light.

Yesterday we told you about the New York Fed report that consumers were taking on more debt; household debt increased $78 billion in the third quarter, and the NY Fed thought that meant the end of deleveraging. It was the end of an era. Good news for the economy as well. American households have been cleaning up their finances during the painful post-crisis era, with less debt and lower financing costs for the debts they still owe. They are now in a better position to spend in the years ahead, good for the economy and their own sense of well-being.

I said “not so fast”, let’s wait and see if a trend develops. Today, the Commerce Department reports consumer spending increased 0.2 percent last month after being flat in September. Maybe Americans have cleaned up their debt problems, or not, but we aren’t yet in a spending mood. The amount of money individuals save was flat at 5%, but the saving rate was revised down sharply to 5% in September from a first read of 5.6%.

Meanwhile, inflation as gauged by the PCE price index rose 0.1% last month, while the core rate excluding food and energy climbed 0.2%. And over the past 12 months this gauge of inflation is up just 1.4%, well below the Fed’s target of 2%. Annual price gains have undershot that target since April 2012. The Fed, in its Oct. 29 policy statement, said that “inflation in the near term will likely be held down by lower energy prices and other factors,” though it’s expected to move back toward 2% over time as the economy heals.

Low gasoline prices are lifting confidence; the Thomson Reuters/University of Michigan’s consumer sentiment index was revise down from 89.4 to 88.9 in November, that is still the highest level since July 2007, but that increase in confidence is not resulting in more spending, at least not now.

And just as consumers are holding onto their dollars, businesses are holding back on purchases. Aside from a huge bump in military aircraft contracts, orders for durable goods were surprisingly weak in October for the second straight month. Orders for durable goods rose a seasonally adjusted 0.4% last month, but that includes a huge 45% spike in orders for military aircraft. We’re still fighting a few wars. Excluding defense, orders fell 0.6%. They fell an even sharper 0.9% if the large and volatile auto and commercial aircraft sectors are stripped out.

Outside the defense sector, orders were weak. Bookings for primary metals used in the production of many industrial goods fell 2.4%, the biggest drop since December. Orders also declined 1.2% for heavy machinery and 3.1% for electrical equipment. A broad measure of business investment known as core capital orders sank by 1.3% for the second month in a row. That’s the biggest two-month decline since the beginning of the year and perhaps a sign that companies might be paring back. Shipments of core capital goods, a category used to calculate quarterly economic growth, also fell 0.4% in October.

The number of people who applied for new unemployment benefits in the week before Thanksgiving jumped to an 11-week high and topped the 300,000 mark for the first time since early September. This is just one week, and does not indicate a trend, but it is a move in the wrong direction.

Also today, the Commerce Department reported that sales of new single-family homes ticked up 0.7% in October to a seasonally adjusted annual rate of 458,000, the fastest pace in five months. For October the sales pace rose 15.8% in the Midwest and 7.1% in the Northeast, but fell 2.7% in the West and 1.9% in the South. The median price of new homes sold rose to a record high of $305,000 in October.

The National Association of Realtors says pending home sales fell 1.1% in October. The index of pending home sales hit a seasonally adjusted 104.1 in October, compared with 105.3 in September.

So, we’ve had a lot of economic data crammed into just a holiday shortened week, and most of the data was not strong; the exception was the third quarter GDP, revised from 3.5% growth to 3.9% growth, but as we are in the fourth quarter, it looks more like the global slowdown is starting to affect the US economy and the indications are that fourth quarter GDP will be about half the third quarter number.

If you are driving for the holiday, you might be thankful for lower gas prices; the flip side is that more people will be driving this holiday, so the traffic might be problematic. Earlier, the Energy Information Administration said U.S. crude inventories rose by 1.9 million barrels last week, defying forecasts for a 100,000 barrel drop. Nymex crude has dropped nearly 3.7% since the beginning of the week. Oil futures are down more than 30% from their midyear high. The Organization of the Petroleum Exporting Countries will meet on Thursday to decide whether to lower oil production levels to alleviate the current glut in global markets, and, more importantly, whether to boost oil production prices. Saudi Arabia’s oil minister indicated that he wouldn’t push for a cut in production targets, but we’ll have to wait and see.

If you’re flying somewhere for the holiday, good luck. The east coast is getting pounded with another storm, and even though the weather in the southwest is fantastic, the flight cancellations tend to ripple across the country. So far today there have been a little over 600 flight cancellations. If you are calling on family or friends back east, just a reminder that it is not polite to gloat.

When the weather gets bad enough, not only does it ruin travel plans, it starts ruining economic data and forecasts. So far, there’s no reason to believe this winter’s storms will wreak exceptional havoc on the data. Because most winters feature some disruption, seasonally adjusting economic reports helps prevent every winter from reducing our visibility into the economy’s strength. But it’s worth remembering that unusually bad weather is not always an “excuse” for bad data, sometimes it really is just the weather.

And neither rain nor snow nor sleet nor dark of night shall keep shoppers from their holiday rounds. Over the next few weeks, and especially this weekend, we will hear stories about the importance of holiday shopping on the economy. And it is important, but most of the stories are hyped up. The National Retail Federation forecasts that holiday sales this year will total $616.9 billion, which is a lot of money but it is not the amount of holiday sales. You see, we spend money in other months, not just November and December. You buy gas in October, just like you do in December and just because you fill up the tank in December, it doesn’t make that gas a “holiday purchase”. There’s no question that December is the strongest month for retail sales. From 1992 to 2013, December retail sales averaged 23 percent higher than the rate from January through October. November was also a good month, averaging 4 percent higher than January through October. So, to get a realistic idea on holiday sales we should compare the difference between sales in November and December with the rest of the year. Using this measure, if retail sales in November and December of this year exceed normal months this year by the long-term averages, a reasonable forecast for holiday shopping in 2014 would be $16 billion in November and $90 billion in December.

In other words, holiday sales should be about $106 billion this year. Maybe more, maybe less; could be as much as $150 billion; could be as little as $80 billion. It is a lot of money, but the difference between a good holiday spending season and a bad holiday spending season is about 0.4% of the economy. And it isn’t enough to make the economy take off like a rocket or fall like a rock.

Anyway, I hope you have things you are thankful for. I hope you have family or friends that you will be around this weekend. And I am thankful that we get together on a regular basis right here.
Happy Thanksgiving.