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

THE DAILY EDGE (11 September 2017)

How transitory is this?

Target Corp (TGT.N) said on Friday that it lowered prices on thousands of items, from cereal to baby formula, further hurting retail stocks already pressured by Kroger Co’s (KR.N) disappointing quarterly results spurred by price cuts. (…)

Canada Wages Speed Up as Jobs Gain for Ninth Month
  • The country added 22.2k jobs in August, the ninth straight monthly gain, versus market expectations for a 15k gain
  • Annual average hourly wage gains hit 1.8%, the highest since October 2016
  • The jobless rate fell to 6.2%, the lowest since 2008
Strong Summer for China Auto Sales, but Fall Could be Chilly China’s car market sustained its recent run of growth in August, continuing to expand after a weak start to the year brought about by a rise in the country’s auto-sales tax.

Total vehicle sales increased 5.3% compared with August 2016 to 2.19 million, the government-backed China Association of Automobile Manufacturers said Monday. That is consistent with the 6.2% expansion recorded in July, and with June’s 4.5% growth.

Even so, the manufacturers’ association struck a bearish tone, warning for the first time that the Chinese auto sector would likely fall short of the 5% growth forecast it made in January, saying the increasing maturity of the Chinese market all but rules out anything beyond modest single-digit growth. (…)

The Chinese auto market grew 4.3% in the first eight months of the year—a jarring slowdown for a market that grew 13.7% last year, buoyed by strong passenger-car sales, which were up 15.9%.

This year, in contrast, passenger-car sales have dragged back the sector’s expansion. They increased only 2.2% during the January to August period, although August sales of 1.88 million, up 4.1%, beat this year’s average.

Sales of commercial vehicles, up 16.9% so far this year and up 12.8% in August, improved the overall picture. (…)

Chinese Exports Grow Again China’s economy got another boost from foreign trade last month, with exports posting modest growth, though the recent surge in the yuan’s value is starting to weigh on Chinese exporters.

China’s exports increased 5.5% from a year earlier in August, according to customs data released Friday. Some economists said the pace, while lower than July’s 7.2% rise and the 6.0% forecast in a poll of economists, is steady enough to help prop up growth in the world’s second-largest economy. (…)

Imports expanded 13.3% in August from a year earlier, more robust than the 11.0% gain in July or the 10.0% gain expected in the poll. (…)

Shipments to the U.S., China’s biggest export market, held steady at 8.45% in August, according to the customs data. Exports to Southeast Asian countries accelerated to 6%, while shipments to the European Union dropped to 5.2% last month, official data showed. (…)

  
Global economy grows at fastest rate for over two years, inflationary pressures rise

Global economic growth rose to its highest for over two years in August, according to PMI data. The headline JPMorgan Global PMIâ„¢, compiled by IHS Markit, rose from 53.6 in July to 53.9, its highest since April 2015. Historical comparisons suggest that the latest PMI indicates that global GDP (at market prices) is rising at a solid annual rate of just over 2.5%.

Global PMI* & economic growth

Even more marked improvements were seen in order book and employment trends. Inflows of new business showed the largest rise for almost three years, and August saw one of the quickest increases in backlogs of uncompleted orders recorded over the past four years. Employment growth edged up to its best for over six years as companies’ expectations of future output levels also revived, with optimism approaching the recent high seen back in June.

EARNINGS WATCH

With only Oracle left to report, 499 S&P 500 companies have reported Q2 results. Thomson Reuters calculates that EPS rose 12.4% overall (5.%% above estimates), +9.7% ex-Energy. Revenues are up 5.3% overall (1.1% above estimates), +4.3% ex-Energy. Margins keep rising.

Credit Suisse shows the drivers for the earnings beats: mainly revenues and SG&A cost management.

Latest revised data reveal the boost from declining real compensation costs:

Trailing 12-m EPS are now $125.94 per TR and could reach $131.61 for the calendar year if current estimates of +6.1% in Q3 and +12.1% in Q4 are met.

The estimated earnings growth rate for the S&P 500 for Q3 2017 is 6.5%, ex-energy +4.6%.

There have been 68 negative EPS preannouncements issued by corporations for Q3 2017 compared to 46 positive EPS preannouncements. By dividing 68 by 46 one arrives at an N/P ratio of 1.5 for the S&P 500 Index. This 1.5 ratio is below the N/P ratio at the same point in time in Q3 2016 (1.9), and below the long-term aggregate (since 1995) N/P ratio for the S&P 500 (2.8).

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The LPL Research Corporate Beige Book Barometer — a measure of corporate sentiment that reflects an analysis of earnings conference call transcripts — shows that companies remained generally upbeat during the second quarter earnings season.

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SENTIMENT WATCH

A new surge of optimism among U.S. investors has pushed the Wells Fargo/Gallup Investor and Retirement Optimism Index to its highest level since September 2000. The index, after rising in every quarter since the start of 2016, leveled off in the second quarter at +124 before rising to its current +138 in the third quarter. (…)

U.S. Investor Optimism, 1996-2017

The 98-point hike over the past 18 months is the largest increase in the 20-year history of the index that is not a rebound immediately after a major drop in optimism.

One of the key factors in the robust third-quarter index is investors’ growing confidence in the stock market.

  • Sixty-eight percent now say they are optimistic about the stock market’s performance during the next year, matching the record high for the question from December 1999 and January 2000.
  • At least 61% have expressed optimism about the stock market in each of the three surveys this year, a percentage matched or exceeded only four other times in the 132 times the question has been asked since April 2000.
  • Twenty-five percent say they are “very optimistic,” topping the previous record high of 24% from the first quarter of this year. Only 11% were very optimistic a year ago.

Sixty-one percent of investors now say it is a good time to invest in the stock market, up from 53% two years ago. Among those saying it’s a good time to invest, the main reason is their belief that the market will continue to increase, mentioned by 47%. Eighteen percent say stocks are a better investment than the alternatives, and 17% see stock market volatility as a buying opportunity.

Among the 37% who do not think it is a good time to put money into stocks, 52% say the main reason is worry about a market correction. (…)

The II survey is also very low on bears (next 2 charts courtesy of Ed Yardeni):

INVESTORS INTELLIGENCEimage

But the AAII survey reveals greater cautiousness:

AAIMimage

Confusing, isn’t it? But here’s the most significant chart from David Rosenberg:

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(…) The rise in stake sales comes as private-equity firms are paying higher prices than ever for companies and raising record-breaking funds. Private-equity firms delivered double-digit returns in 12 of the past 14 years and only lost money once in that time, according to Preqin Ltd. data.

This makes them attractive targets for asset managers seeking more profitable alternatives to offering cheap and popular passive investments such as exchange-traded funds.

BlackRock Inc., Neuberger Berman Group, Schroders PLC and Aberdeen Standard Investments are all buying. Private-equity funds charge an annual fee of 1.5% and keep 20% of the profits from asset sales. An ETF typically charges a 0.26% fee. (…)

Prices for U.S. and European leveraged buyouts were at or near record highs above 10 times earnings in the first half of 2017, according to Fitch Ratings. (…)

Trump’s Surprise Deal With Democrats Sets Up Christmas Showdown

THE DAILY EDGE (7 September 2017)

DC politics getting murkier:

Trump Stuns GOP by Dealing With Democrats on Debt, Harvey Aid President Trump stunned fellow Republicans, as he sided with Democrats on a proposal to attach emergency aid for Hurricane Harvey victims to measures to keep the government funded and its borrowing limit suspended until mid-December.

(…) If approved by Congress, the agreement would defer the threat of a partial government shutdown and a default on the country’s debt until Dec. 15 and dispatch the first $7.85 billion installment of Harvey relief, clearing the three most pressing items from the crowded September legislative agenda. (…)

Just hours earlier, House Speaker Paul Ryan (R., Wis.) had called Democrats’ proposal to combine Harvey aid and a three-month debt limit increase “ridiculous” and “unworkable.”

(…) The Republican president’s move Wednesday raised questions about whether he will now turn to Democrats to reach deals on tax reform and immigration. (…)

Although Mr. McConnell said he would vote for the combined package, other GOP senators said Wednesday they weren’t sure whether they would support it, even after Vice President Mike Pence and Budget Director Mick Mulvaney explained the deal to Senate Republicans at their weekly closed-door lunch. Mr. Mnuchin fully supported the president’s decision once it was made, a senior Treasury official said. (…)

The deal will be a tough sell among House Republicans. House Rules Committee Chairman Pete Sessions (R., Texas) said it was going to take work for the GOP leadership to sell the deal to rank and file. (…)

Today’s WSJ editorial:

(…) What really happened is that Mr. Trump overruled his Treasury Secretary and GOP leaders who wanted a debt-ceiling increase to run past the 2018 election. Mr. Trump instead gave Democrats exactly what they want, which is to set up an even steeper fiscal cliff on debt and spending in December when Republicans hope to be focusing on tax reform.

Republicans will now have to take at least two difficult votes to raise the debt ceiling, while Democratic leverage will increase when the day of reckoning comes. The chances of a government shutdown in December have now risen sharply, or at least they have if Mr. Trump wants to pass something with more than a few Republican votes.

Mr. Trump may not like GOP leaders Paul Ryan and Mitch McConnell, but is he trying to elect Speaker Pelosi? As Nebraska Sen. Ben Sasse put it in a press release: “The Pelosi-Schumer-Trump deal is bad.”

Part of the problem is that Congressional Republicans once again helped put themselves in this box. Congress can’t let the U.S. default on its debt, so the majority party has to raise the debt ceiling whether it likes it or not. The smart GOP play was to attach a long-term debt increase to some other must-pass legislation and get it over with. One and done.

In familiar self-defeating fashion, the usual House suspects refused, insisting that the debt ceiling get a stand-alone vote. House Freedom Caucus Chairman Mark Meadows and Republican Study Committee leader Mark Walker also claim to be miffed that the debt-limit increase won’t include spending cuts.

Yet most of these same Members won’t vote to raise the borrowing limit no matter what they’re offered. They find the actual work of governance beneath their dignity. Their mutiny means that Mr. Ryan lacked a GOP majority to raise the debt ceiling, which meant he had to go hat in hand to Mrs. Pelosi for Democratic votes. She and Mr. Schumer came up with their three-month gambit, which Mr. Ryan immediately labeled “ridiculous” and “unworkable,” only to be sandbagged by Mr. Trump.

This may all sound like inside baseball, but it’s politically relevant because it illustrates the Republican inability to govern. The Senate killed health-care reform. The House can’t pass a budget resolution that is essential for tax reform. Mr. Trump is sore that Republican leaders failed on health care, so he now undermines their fiscal strategy and all but hands the gavels to Democrats. Readers might take note and hold off on spending that tax cut.

Fed’s analysis getting murkier:

  • Hurricanes Push Fed off Course Economic slowdown caused by Hurricanes Harvey and Irma will be enough to keep central bank from raising rates as expected in December
  • From the Beige Book:

Employment growth slowed some on balance, ranging from a slight to a modest rate in most Districts. Labor markets were widely characterized as tight. There were reports of worker shortages in numerous industries, most notably in manufacturing and construction. Firms in the Atlanta, St. Louis, and Minneapolis Districts said that they had turned down business because they could not find the necessary workers. Many Districts indicated that businesses were having difficulty filling openings at all skill levels. In spite of the tight labor market, the majority of Districts reported limited wage pressures and modest to moderate wage growth. That said, there were reports from firms in the Dallas and San Francisco Districts that labor shortages were pushing up wages.

A number of Districts indicated that pass-through to downstream prices was limited, with increases in input prices exceeding gains in selling prices.

From July 20 Daily Edge:

An estimated 2.7 million adults over the age of 26 were misusing painkillers as of 2015, while another 236,000 currently used heroin, based on test Substance Abuse and Mental Health Administration data. While opioid abusers account for a tiny sliver in a workforce of 160 million, they probably make up a great share of the 7 million who are unemployed.

Meanwhile:

Bank of Canada Surprises With Another Rate Rise The Bank of Canada raised its benchmark interest rate by a quarter-percentage point to 1%, saying stronger-than-anticipated growth—highlighted by a blockbuster performance in the second quarter—warrants the removal of “considerable” stimulus from the economy.

(…) Recent indicators, such as a report showing economic growth surged by a strong 4.5% annualized rate in second quarter, support “the bank’s view that growth in Canada is becoming more broadly based and self-sustaining,” the Bank of Canada said in a statement explaining its decision. “Given the stronger-than-expected economic performance, [the bank] judges that the removal of some of the considerable monetary policy stimulus is warranted.”

(…) the central bank said it would pay “close attention” to how the economy responds to higher borrowing costs, given households have accumulated record levels of debt. (…)

In its statement, the Bank of Canada said there had been “widespread strength” in exports and business investment. (…)

Yuan’s Sharp Rise Muddles China’s Growth Picture A recent surge in the value of the yuan has blindsided Wall Street and stands to complicate China’s efforts to simultaneously manage a slowdown in growth while deepening its ties to global markets.

CETERIS NON PARIBUS:

Western multinationals are fighting harder to hold on to their margins in China because of overcapacity and an improvement in the quality of Chinese-made products.

Companies including Merck MKKGY 1.52% KGaA, United Technologies Corp. UTX -1.44%and Honeywell International Inc. HON 0.03% are responding in myriad ways, from slashing costs to improving customer service. Still, several companies concede margins will stall long-term due to local competition.

“Our margins have been on a downward trend for over five years now,” said Philipp Baechtold, general manager at Eftec China Ltd., a Swiss chemicals company that produces glues and coatings for the car industry. (…)

Honeywell International, an industrials firm, in recent years also noticed a change in the quality of Chinese products. “Chinese companies are becoming more savvy,” said Shane Tedjarati, president of Honeywell’s high growth regions unit. “We cannot become complacent. We are benchmarking ourselves against Chinese companies,” Mr. Tedjarati said.

Chinese firms have always used price as a lever, said Joe Ngai, managing partner at McKinsey & Co.’s Greater China practice. (…)

According to a recent report by the American Chamber of Commerce in Shanghai, slightly more than 80% of U.S. companies said competition from Chinese firms is one of their most pressing issues. Even more, 93%, cited rising costs—which adversely affects margins—as a challenge. (…)

“When you have to match a price level that is much lower than yours, you need to scrutinize your specs,” said Jean-Michel Vallin, president at Faurecia China. “Chasing costs is part of our daily work,” he added. (…)