Edge and Odds

The enemy of knowledge is not ignorance, it’s the illusion of knowledge (Stephen Hawking)

It ain’t what you don’t know that gets you into trouble. It’s what you know for sure that just ain’t so (Mark Twain)

Edge and Odds

Invest with smart knowledge and objective odds

Month: August 2016

NEW$ & VIEW$ (31 August 2016): Name Change!

Pointing up Bearnobull Becomes “Edge and Odds”

Tomorrow Sept. 1, 2016, Bearnobull will become Edge and Odds. The name change will take effect immediately and, barring unforeseen difficulties, everything else will easily follow with the possible exception of email delivery which should be effective soon after.

For now this only involves a name change with little or no cosmetic changes although some will likely be made during September. You should be able to reach Edge and Odds at https://www.edgeandodds.com/ for a few more days. If not, try www.edgeandodds.com. Sorry for the inconvenience. The team (me, myself and I) is trying to make this as smooth as possible.

Why the change? The name Bearnobull was mainly a reflection of my personal character as an investor, being neither a permabear or a permabull, simply an investor seeking “the truth” and trying to be right most of the time without losing his shirt when he is wrong. I am also a grey-hair (or is it all white now?) investor who does not bear bull from the media and other “pundits”, especially when it impacts ordinary people’s hard earned savings. Finally, my reporting and analysis bear no bull, as far as I know…

But this blog is not really about me, rather about the two essential ingredients in investing: finding an edge and understand the odds.

The Edge comes from seeking and objectively analysing timely and pertinent information to get better insights. The Odds are the probabilistic relationship between risk and reward at any given moment in time. Combining a good edge with the right odds is the winning formula. This is what this blog and its predecessors since 2009, New$-To-Use and Bearnobull, are all about.

Edge and Odds will remain open and free.

So, please bear with me for a week or so as I complete the transition.

Workers All Over America Are Getting a Raise

The median U.S. worker benefited from a 3.4 percent year-on-year increase in wages in July, only marginally lower than the bumper 3.6 percent the previous month, which was the fastest pace of wage growth since January 2009, according to the Federal Reserve Bank of Atlanta’s wage growth tracker. (…)

In a research report published on Monday, equity analysts at Macquarie Capital Markets highlight the broad-based nature of U.S. wage gains. They demonstrate how the drag on national wage growth from weak labor markets in the oil states — Alaska, Louisiana, Montana, New Mexico, North Dakota, Oklahoma, Texas, West Virginia, and Wyoming — has loosened in recent months, citing Bureau of Labor Statistics’ average hourly earnings data. (…)For businesses, there’s a medium-term risk here: an increase in real hourly pay, in the absence of productivity and volume growth, will eat into profit margins. Still, there’s some evidence that a tightening labor market could, in theory, drive productivity higher.

Bespoke Investment had a good post yesterday:

Since January 2015, our monthly Bespoke Consumer Pulse Report has shown that the share of consumers that expect a deteriorating labor market in the US is trending higher.  Interestingly, at the same time we haven’t seen an increase in the percentage of consumers concerned about losing their own job.  This divergence is fascinating and an excellent indicator that the economy and labor market is much stronger than its popular perceptions.

DisconnectMicroMacroJobs

(…) consumers should be feeling good for a number of other reasons.  First, gas prices tend to be a great predictor of overall sentiment and with cheaper gas, consumer sentiment has recently picked up with regards to the economy.

ConfidenceGasPrice

But the trend has changed since mid-August as this gasbuddy.com chart shows:

U.S. Home Prices Continued Strong Gains in June Home prices continued to make strong gains in June, as continued price run ups put a damper on demand.

The S&P CoreLogic Case-Shiller Indices, covering the entire nation, rose 5.1% in the 12 months ended in June, identical to the increase reported in May.

Price growth did show some sign of slowing in the country’s largest cities. The 10-city index, which includes some of the country’s largest cities, gained 4.3% from a year earlier, down slightly from 4.4% last month. The 20-city index gained 5.1% year-over-year, down from a 5.3% increase in May. (…)

Some of the hottest markets in the country, primarily on the West Coast, continued to show double-digit price gains, with Portland reporting a 12.6% year-over-year gain, Seattle showing an 11% gain, and Denver with a 9.2% increase.

But California, which for months led the country in price growth, has been cooling. Home prices in San Francisco increased 6.4% in June, the smallest annual gain since August 2012, Mr. McLaughlin said.

Month-over-month prices in the U.S. index rose 1% in June before seasonal adjustment, while the 10- and 20-city indices both increased 0.8% from May to June.

After seasonal adjustment, the national index rose 0.2% month-over-month, and both the 10- and 20-city indexes reported 0.1% month-over-month decreases. (…)

Hmmm…Here’s how Bespoke Investment looks at the same data:

Sample

Curious to know where you stand? Bespoke has the tables and the charts:

U.K. House Prices Defy Brexit Vote

Prices rose by 0.6% in August compared with the previous month, Nationwide Building Society said, a slight increase from July’s monthly growth rate. Compared with August last year, house prices grew by 5.6%.

But this chart from The Daily Shot suggests there may be a lag effect here:

Eurozone Inflation Flat in August as ECB Meeting Looms
    Consumer-price inflation in the eurozone was unchanged in August, as a weak economic recovery left the European Central Bank no nearer to meeting its inflation target than when it launched the first of a series of stimulus measures more than two years ago.The European Union’s statistics agency Wednesday said consumer prices were 0.2% higher in August than during the same month a year earlier. That was a surprise, since economists surveyed by The Wall Street Journal last week had estimated that prices rose by 0.3%. (…
    Germany’s statistics agency reported Wednesday that retail sales were up 1.7% in July from June, the largest increase since January 201
    However, French consumer spending dropped unexpectedly in the same month as households cut back on cars and home furnishing, statistics agency Insee said. Consumer spending fell 0.2% in July from June.
ROBERT BRUSCA: Euro Area and EU Indices Fall; No Longer Firm Readings- Be Afraid?

The EU Commission indices for the EU and EMU fell hard in August. Their slippages have been ongoing. There are no more truly `strong sectors’ in the EU, but the EMU is faring slightly better on that front. The strength in services and in retail has evaporated. The Big Four economics have very middling rankings in their historic queues of data. There is no `strong’ economy anymore. And do not -NOT- blame it on Brexit. The slippage dates from a peak reading in December 2015 of 108.5 for the EU and a peak reading of 106.6 for the EMU at the same time. Europe is eight months into this new cycle of slippage. And these recent cycle `peaks’ compare to pre-recession and pre-financial crisis readings of 114.5 for the EU and 113.2 for the EMU (both May 2007). (…)

There is a lot of weakness in the EU area in August. Both the EU and EMU are showing withering readings and losing momentum on a broad-based front. Indications of a more synchronized cycle raise a warning flag of sorts, but the individual country measures are still clustering above their respective medians. There is no disaster, but there is fellowship in mediocrity and slippage. That is worrisome enough, especially with ECB policy showing no signs of generating traction.

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Deutsche Bank chief calls for mergers in Europe

The head of Deutsche Bank made a rare public call on Wednesday for cross-border mergers in Europe, weeks after Germany’s flagship lender scraped through regional stress tests.

John Cryan’s remarks will likely spur further discussion about the future of the struggling bank, although he was quick to throw cold water on reports that Deutsche examined a merger with Commerzbank – which is partly owned by the German state.

Criticising what he called the “scattered regionalism among banks”, Cryan said: “We need more mergers, at a national level, but even also across national borders.” (…)

Copper flashing red signals on China

Copper prices are signalling that demand may be weakening in China, the world’s largest consumer, as stocks of the metal flow out of the country to warehouses elsewhere in Asia.

The red metal, which is often seen as a gauge of global economic activity due to its ubiquitous use in wiring, has relinquished its gains for the year, falling 2 per cent. That is in contrast to other metals also heavily tied to Chinese demand such as zinc, tin and nickel, which have all staged rallies.

The drop in price to a 10-week low on Tuesday comes after imports of the metal into China fell in July, and stocks have built up on London Metal Exchange warehouses in South Korea and Singapore.

Global stocks of copper are now at their highest levels since October 2015, according to data from broker Marex Spectron. (…)

Moody’s warns China’s smaller lenders are a systemic risk to bank sector

China’s banking system faces a systemic risk from a significantly increased reliance by small and mid-tier lenders on interbank funding, top credit rating agency Moody’s Investors Service warned on Monday.

The most liquid assets of these banks are held largely as interbank assets, so they would need to withdraw funds from other banks to meet their own funding needs, which could in turn cause contagion, Moody’s said in a report.

“With an increasingly larger number of banks now more actively engaged in the interbank financial product business, the banks are becoming more sensitive to the risk of potential counterparty failure, which could magnify any collective reaction to negative news and trigger a sharp tightening in system liquidity,” said Christine Kuo, a Moody’s senior vice-president.

In contrast, China’s big four banks are not dependent on the interbank market and are mostly fund suppliers, reflecting their strong deposit base and more prudent growth strategy, the credit rater said. (…)

Japan’s in a Bind as Total Debt Tops 600% of GDP, Pimco’s Baz Says
THE HUNT FOR YIELD

From Casey Research (tks Freddie)

(…) According to The Wall Street Journal, dividends have become a driving force of the stock market:

The five-year rolling correlation between S&P 500 companies’ dividend yield and the index’s performance has been at 0.80 or above for the five quarters through June, according to S&P Global Market Intelligence. That is the highest since 1993 and up from an average of minus-0.1 dating back to 1941.

Keep in mind, the correlation between earnings and stocks has plunged to -0.2. This means dividends have more impact on stocks right now than earnings. This is almost unprecedented.

Since 1941, the correlation between stocks and dividends has been -0.1, meaning they’ve had almost no impact on the performance of the S&P 500 for the past 75 years. (…)

Devil Beware of companies that promise fat dividends.

Today’s chart compares forecasted with realized dividend yields for companies in the S&P 500.

You can see most companies over-promise and under-deliver when it comes to dividends. In fact, based on data going back to 1996, you’re likely to earn a bigger dividend by investing in a company that projects to pay a 3%–4% dividend versus one that projects a double-digit yield.

So, if a company’s dividend yield sounds too good to be true, it probably is. This is another reason why we like to invest in companies with proven dividend track records.

All related:

Federal Reserve Vice Chairman Stanley Fischer said negative interest rates seem to be working in other countries, while reinforcing that they aren’t on the table in the U.S.

While the Fed isn’t “planning to do anything in that direction,” the central banks using them “basically think they’re quite successful,” Fischer said Tuesday on Bloomberg Television with Tom Keene in Washington. (…)

“We’re in a world where they seem to work,” Fischer said, noting that while negative rates are “difficult to deal with” for savers, they typically “go along with quite decent equity prices.”

Fischer’s assessment compares with the views of Mark Carney, the governor of the Bank of England, who earlier this month rejected the idea of negative rates as an effective option. “What we’ve seen in other countries is, to be honest, they’ve got this a bit wrong,” Carney said in a radio interview in early August.

Swiss National Bank President Thomas Jordan has said that negative rates are “absolutely necessary” in his country. (…)

That could be because “time is money” Winking smile

But there’s also this:

(…) the Swiss National Bank has become a multi-billion-dollar equity investor due to its campaign to hold down the Swiss franc.

It is now the world’s eighth-biggest public investor, data from the Official Monetary and Financial Institutions Forum show. While most analysts think the strategy is sound, this does expose the SNB to stock market risks that the likes of the European Central Bank and U.S. Federal Reserve avoid.

“The SNB is in a bit of a corner, they have acquired a lot of foreign currency as part of their efforts to weaken the franc and they have to invest it somewhere,” said Alessandro Bee, an economist at UBS. “The bond market is drying up and so they are going increasingly for equities.” (…)

The SNB’s balance sheet is now proportionately the biggest of any leading central bank. On top of that, its stock portfolio has risen at roughly twice the rate of the overall balance sheet as it diversifies its holdings.

In the last 12 months the SNB’s equity holdings have surged 41 percent to around 127 billion francs, according to Reuters calculations. (…)

The United States is its favoured location, with its holdings on Wall Street jumping to nearly $62 billion at the end of June from $38.6 billion a year earlier, according to a Securities and Exchange Commission filing. (…)

The SNB does not comment on the details of its strategy, but says it does not pick stocks, investing instead in companies according to their weight in various indices. (…)

Around 20 percent of the SNB’s foreign currency reserves are now in equities, up from 17 percent last year and 10 percent in 2010. (…)

“The SNB creates Swiss francs out of thin Alpine air,” said James Grant, publisher of Grant’s Interest Rate Observer, a U.S. financial markets journal.

“Then they go and call their broker and go on a tour of the U.S. stock exchange,” he told Finanz und Wirtschaft newspaper. “They get involved in important companies from the S&P which create real profits, and they do that with money which has been created out of nothing.”

The BOJ is another big equity investor these days (The Daily Shot):

NEW$ & VIEW$ (30 August 2016)

U.S. Consumer Spending Rose in July Consumer spending rose for the fourth straight month in July, a sign domestic consumption could continue to drive U.S. economic growth over the second half of the year.

Personal consumption, which measures how much Americans spent on everything from hotel stays to hamburgers, rose a seasonally adjusted 0.3% in July from a month earlier, the Commerce Department said Monday. Incomes rose 0.4%, a pickup from growth in the prior two months. Both measures matched consensus expectations from economists surveyed by The Wall Street Journal. (…)

July’s rise was led by an uptick in real spending on motor vehicles and services, which offset lower spending on nondurable goods, or items not intended to last more than three years, the report said.

Consumer spending had climbed 0.5% in June, 0.3% in May and 1.1% in April. Each of those gains matched or outpaced the month’s income growth, suggesting consumers felt comfortable splashing out a little following two straight quarters in which the personal saving rate was 6% or higher. Consumers upped their savings slightly in July, as the personal saving rate rose to 5.7% from an upwardly revised 5.5% in June. (…)

The personal-consumption expenditures price index, the Federal Reserve’s preferred inflation measure, was flat in July from the prior month. From a year earlier, the index was up 0.8%, its smallest annual increase since March. (…)

So-called core prices, which exclude the volatile categories of food and energy, rose 0.1% from the prior month and were up 1.6% from a year earlier. The annual core reading has been consistent since March. (…)

When adjusting for inflation, Monday’s report showed consumer spending rose 0.3% in July from the prior month. Inflation-adjusted disposable personal income—income after taxes—rose 0.4%.

As Food Prices Fall, Economic Pain Hits More Businesses Consumers’ glee at the supermarket checkout over lower food prices isn’t shared by all: Farmers, grocers and restaurateurs are feeling the pinch of cheap milk, beef and corn prices on their incomes.

The U.S. is on track this year to post the longest stretch of falling food prices in more than 50 years, a streak that is cheering shoppers at the checkout line but putting a financial strain on farmers and grocery stores.

The trend is being fueled by an excess supply of dairy products, meat, grains and other staples and less demand for many of those same products from China and elsewhere due to the strong dollar. Lower energy costs for transportation and refrigeration also are contributing to sagging food prices, say economists. (…)

Those great bargains at the grocery store are spreading pain across the Farm Belt. Farmers and ranchers are getting less money for raw milk, cheese and cattle, forcing them to slash spending. Tractor suppliers like Deere & Co. are cutting production due to the farming slump.

Economists and food analysts say the supermarket price declines could last at least through year-end. (…)

The price of food at home is down 1.6% on a seasonally unadjusted basis in the 12 months through July, says the BLS. (…)

Ben Moore, a sixth-generation farmer who grows corn and soybeans on some 5,000 acres in Indiana and Ohio, said 2016 is shaping up to be his least profitable year in 20 years. Facing weak crop prices, he is making do with his current tractors and combines rather than upgrading his equipment, and is pushing for lower prices on pesticides, seeds and fertilizer. (…)

At least six national food retailers, including Costco Wholesale Corp. and Whole Foods Market Inc., and four of the five largest publicly traded food distributors, including Sysco Corp. and US Foods Holding Corp., have reported that their margins suffered in the last quarter because of food deflation, the first time analysts can recall so many grocers singling out deflation as a big problem.

Food deflation is a rare phenomenon and rarely lasts for very long. Restaurants seem to be enjoying fatter margins, however.

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The price of wheat has crashed to the lowest level in a decade as huge harvests pile up in big growers from Russia to the US, cutting the cost of staple foods around the world.

Extensive planting and benign weather have forced analysts to repeatedly raise crop outlooks. The International Grains Council last week increased its global wheat production forecast to a record 743m tonnes, up 1 per cent from last year. (…)

The recent US winter wheat harvest was 45m tonnes, up 21 per cent from 2015, according to the US Department of Agriculture. Merchants who have run out of room in silos are piling wheat outdoors.

Storage concerns are also growing in Russia, which is this year set to become the largest wheat exporter after hauling in more than 70m tonnes. In Canada, the government anticipates the second-largest wheat crop in 25 years, of 30.5m tonnes. Australia’s imminent wheat harvest is forecast at 26.5m tonnes, the most in five years. (…)

US Wheat Associates, a Washington-based export promotion body, argued that supplies of high-quality wheat were less than met the eye.

“While total supply gets the most attention, wheat’s real value is as a functional food ingredient, not as a bulk commodity,” it said in a newsletter. “When you dig a bit deeper, the total supply of milling quality wheat is much different — and it is tightening.”

 

Fed’s Fischer says U.S. job market ‘very close’ to full strength

David Rosenberg is “baffled” by Fischer’s comments””:

Can Fischer be serious about being close to full employment when the U6 rate has flat-lined around 9.7% since February? The employment-to-population ratio is at a level more consistent with an 8% jobless rate than 5%.

The chart plots the U6 rate which troughed at the 8% level in 2007 and the gap between U6 and the official unemployment rate. This gap is currently 4.8%  compared to its 2007 average low of 3.5%.

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Eurozone business confidence drops to lowest since Oct ’13

(…) Confidence in the industrial sector suffered the sharpest reversal as surveyed manufacturers reported their worst deterioration in current orders since the depths of the financial crisis in 2009.

The glum prospects were shared across other major sectors of the eurozone economy. Services confidence declined by 1.2 points on the back of lower demand expectations, with retail trade falling 2.7 points.

Four of the five largest eurozone members also saw economic confidence slide, according to the European Commission, helping push the overall index to a four-month low, down by 1 point to 103.5 – steeper than the 104.1 forecast by economists.

The Netherlands, whose open trading economy has been cited as one of the most vulnerable to the UK’s EU exit, saw the worst August drop at -3.6 points, followed by Italy (-2.1), Spain (-1.5) and Germany (-1.1).

However, economic confidence in the UK managed to rise by 1.4 points to 104, helped along by buoyancy in the services sector.

image

Also losing confidence:

OIL
Pointing up Oil Discoveries at 70-Year Low Signal Supply Shortfall Ahead

Explorers in 2015 discovered only about a tenth as much oil as they have annually on average since 1960. This year, they’ll probably find even less, spurring new fears about their ability to meet future demand.

With oil prices down by more than half since the price collapse two years ago, drillers have cut their exploration budgets to the bone. The result: Just 2.7 billion barrels of new supply was discovered in 2015, the smallest amount since 1947, according to figures from Edinburgh-based consulting firm Wood Mackenzie Ltd. This year, drillers found just 736 million barrels of conventional crude as of the end of last month. (…)

New discoveries from conventional drilling, meanwhile, are “at rock bottom,” said Nils-Henrik Bjurstroem, a senior project manager at Oslo-based consultants Rystad Energy AS. “There will definitely be a strong impact on oil and gas supply, and especially oil.” (…)

Global spending on exploration, from seismic studies to actual drilling, has been cut to $40 billion this year from about $100 billion in 2014, said Andrew Latham, Wood Mackenzie’s vice president for global exploration. Moving ahead, spending is likely to remain at the same level through 2018, he said. (…)

Ten years down the line, when the low exploration data being seen now begins to hinder production, it will have a “significant potential to push oil prices up,” Bjurstroem said. (…)

Overall, the proportion of new oil that the industry has added to offset the amount it pumps has dropped from 30 percent in 2013 to a reserve-replacement ratio of just 6 percent this year in terms of conventional resources, which excludes shale oil and gas, Bjurstroem predicted. Exxon Mobil Corp. said in February that it failed to replace at least 100 percent of its production by adding resources with new finds or acquisitions for the first time in 22 years. (…)

SENTIMENT WATCH
David R Kotok: Yellen. LIBOR, Markets

(…) LIBOR represents hundreds of trillions of dollars in loans and financings that are not directly tied to riskless T-bill interest rates. LIBOR is a real-world commercial, institutional, and personal financial reference.

Yellen never mentioned LIBOR in her speech.

Following Yellen’s speech, 3-month LIBOR was 0.83%, 6-month LIBOR was 1.22%, and 1-year LIBOR was 1.53%. Let’s do the forward rates. Three-month LIBOR, three months from now, is estimated at 1.61%. Six-month LIBOR, six months from now, is estimated at 1.84%. One can extend and project that the LIBOR yield curve will climb to over 2% within a year.

Some detractors say that this is due only to the major shift underway in money market fund characteristics. Maybe. But note that the money market rule changes take effect in about six weeks. We have purposefully extended this forward rate analysis to beyond the mid-October rule change date in order to avoid that October time frame. Our view is that other things are happening, too.

Look at the forward rate spreads. The 3-month spread between LIBOR forward and T-bill forward is projected to be over 100 basis points. The 6-month spread half a year from now is projected to be over 110 basis points. Note that this is now bumping up against the estimates of a 118–120 basis point rate that would be charged to activate swap lines between central banks in multiple currencies if there were an emergency need for liquidity in dollars or elsewhere. Note that the GSE debt tied to 1-year LIBOR exceeds $100 billion. It will reset up over $1 billion at an annual rate. Note that all this is happening while the market is pricing about a 50–50 chance of a single Fed hike in December.

At Cumberland, we have raised cash in our US stock market ETF accounts. (…)

Contact: edgeandodds [at] gmail.com