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 (15 August 2017)

CONSUMER WATCH

Sales at retailers and restaurants jumped 0.6% from a month earlier, the biggest increase since December, the Commerce Department said Tuesday. Excluding cars, sales rose 0.5%. (…)

Sales over the internet drove last month’s increase, with spending at nonstore retailers growing 1.3%, the most since December. One big factor: Amazon’s Prime Day, a popular day of discounts at the site.

Other retailers also posted strong gains. Car sales jumped 1.2%, as did spending on building materials and garden equipment. Sales at furniture outlets, grocery stores, restaurants and department stores all rose healthily.

Meanwhile, spending on gasoline, electronics and clothing fell. (…)

The May 2017 to June 2017 percent change was revised from down 0.2% to up 0.3%. 

Median household spending growth expectations decreased from 3.3% in June to 2.8%. This series has been volatile, but the current reading is below its average of 3.2% for the most recent 12 months. The decrease was driven mostly by less educated (high school or less) respondents.

Restaurant sales dropped again in July, dealing a blow to an industry that had shown modest signs of improvement in recent months. Same-store sales were down -2.8 percent, a sharp 1.8 percentage point decline from June. The drop was disappointing in light of the -1.3 percent average comp sales for the first six months of the year and -1.6 percent recorded in the last half of 2016.

Same-store traffic declined -4.7 percent in July, a 1.7 percentage point drop from June. (…)

Calculated on a two-year basis, sales in July 2017 were down -4.2 percent compared with July of 2015. Same-store traffic was -8.7 percent for that same period. These are the weakest two-year growth rates in over three years, additional evidence that the industry has not reversed the downward trend that began in early 2015.

The restaurant industry’s data are not as bad, as of June:

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  • The official stats to June:

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  • Part of the reason is that food-at-home prices have dropped significantly, widening the gap between eating at home or going out:
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Eurozone Factory Output Slides Activity at the eurozone’s factories, mines and utilities fell at its sharpest pace in 2017 during June, an indication that the economy may be settling down after an acceleration in growth during the first six months of the year.

The European Union’s statistics agency said Monday that industrial production was 0.6% lower in June than in May, while being 2.6% higher than in the same month last year. The decline in output was the largest since December 2016, and more than the 0.4% forecast by economists. (…)

Of the eurozone’s four large national economies, only Italy bucked the trend, recording a 1.1% rise in output, while Germany and France recorded declines of a similar magnitude and Spain was flat.

Across the eurozone, the June drop would have been larger if not for a 1.8% jump in energy output, as production of capital goods slumped by 1.9%, and of durable consumer goods by 1.2%.

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Whatever line we look at above, the overall trend is not particularly strong, is it? (Eurostat pdf). Haver Analytics is not too worried:

Output appears to be on a steady track with a minor setback this month. The country level data for the EMU also show somewhat widespread declines in June after seeing a solid slate of advances in May. June appears to be a month in which output has slowed to reduce the overall pace of growth to something that is more sustainable rather than signaling a slowdown of any sort.

  • Meanwhile in the USA and China:
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 U.S. Oil Drillers Keep Pressure on OPEC With Record Shale Output
Shadow Fed is Glum on Stock Market Camp Kotok’s fearless forecasters mainly see little change in economic and financial measures such as interest rates, GDP, bond yields and oil prices, but they are somewhat bearish on stocks.

(…) The predictions for core inflation, for example, averaged 1.9%, with a high of 3.2% and a low of 1%. In other words, the consensus expectation is for little change. Likewise, a marginal bond selloff will push yields on 10-year Treasurys to 2.57% and U.S. benchmark oil prices will be $50.20 a barrel or barely changed.

The one bold and surprising prediction is for a modest retreat in stocks over the next year. The forecasts for the S&P 500 were as low as 1800, a 27% drop from today’s levels, while the average was just 2416. (…)

John Mauldin gives more info from the camp here.

  • WTI crude oil: $50.20 (but the range was all over the place, from $30 to $76)
  • S&P 500: 1,340, with surprisingly few really bearish views
  • Gold: $1,340, and while there were a few outliers in both directions, people were generally looking for a strong movement upward.
  • Dollars per euro: $1.14
  • US GDP: 2.12%, again with a very wide range, but interestingly, nobody was predicting a negative GDP or an outright recession.

Takeaway 1: Almost everyone expects a serious market correction before the end of the year. Most of the people I talked to were concerned about market complacency; and even if they were bullish, which many of them were, they were surprised that we’ve gone this long without a correction.

Takeaway 2: In talks with people I seriously respect, I found more concern about valuations and spreads in the bond market than about valuations in the stock market. As I sat with a few people and “war-gamed” what the next recession will look like, a general agreement emerged that the credit markets will be far more volatile than they were last time, even though banks are better capitalized today than they were 10 years ago. The problem is simply that credit markets have no liquidity and valuations are extraordinarily stretched. And not just in the US.

U.S. Stock Buybacks Are Plunging

FULL CIRCLE: FROM BOOM TO BUST TO BOOM TO …
Miami Beach Faces 31-Month Supply Of Luxury Condos Listed For Sale

More than 675 luxury condo units are formally listed for sale at a minimum price of at least $1 million in the barrier island city of Miami Beach in the South Florida county of Miami-Dade, according to a new report from Condo Vultures® Realty LLC.

Based on luxury condo sales of nearly 22 units monthly in the first half of 2017, Miami Beach now has more than a 31-month supply of units available for purchase in the tricounty South Florida region of Miami-Dade, Broward and Palm Beach during this year’s Summer Buying Season, according to the report based on data from the Southeast Florida MLS Matrix v7.0.

A balanced market is generally considered to have about six months of supply. (…)

Surprised smile It is worth noting this report only tracks those Miami Beach luxury condos formally listed for sale. The report does not factor in the nearly 47,700 new condo units currently in the development pipeline east of Interstate 95 in the tricounty South Florida region. (…)

Currently, about 31 Miami Beach luxury condo units are under contract waiting to transact – or pending – at an average asking price of about $4.1 million each or $1,537 per square foot, according to the statistics. 

Between January and June of 2017, the average transaction price of a Miami Beach luxury condo was less than $2.5 million or $1,255 per square foot.

This means the current asking price of a Miami Beach luxury condo listed for sale is about 42 percent higher than the average transaction price achieved on a per-unit basis and nearly 22 percent higher than the average transaction price on a per-square-foot basis in the first six months of 2017.

In the first half of this year, the sellers who were able to unload their units needed about 180 days to transact a Miami Beach luxury condo listed for sale. The current Days-On-The-Market average for Miami Beach luxury condos listed for sale is about 226, according to the statistics.

Merck, Intel and Under Armour CEOs Quit Trump Advisory Council

(…) Mr. Frazier, who is African-American, and Mr. Krzanich and Mr. Plank, who are white, were three of the 28 business and union leaders the president named to the advisory council aimed at helping him boost U.S. manufacturing jobs. (…)

In June, Elon Musk of Tesla Inc. and Robert Iger of Walt Disney Co. resigned from advisory roles after Mr. Trump said the U.S. would withdraw from the Paris climate accord. (…)

Source: RealClear politics

Sun A glut of low-cost solar panels in the U.S. is triggering an unusual fight over tariffsand environmental policy. The U.S. International Trade Commission this week will hear arguments over calls by bankrupt solar-panel maker Suniva Inc. for new barriers on imported solar cells. The WSJ’s Erin Ailworth reports that Suniva’s demand for tariff and other restrictions on foreign manufacturers has united disparate forces, including green-energy advocates and conservative free-trade policy groups that oppose the tariffs. Suniva says it’s being crippled by cheap imports, mostly from Asia, that have pushed down prices. The imports have been a boon to U.S. solar installers, with the cheap prices spurring adoption of rooftop solar panels, but they’ve pushed Suniva to close factories in Michigan and Georgia and enter bankruptcy. A lawyer backing the petition says its “time to take a stand” against Chinese manufacturers on behalf of Suniva—which is majority owned by a company based in Hong Kong.

THE DAILY EDGE (14 August 2017)

U.S. Consumer Prices Rose Slightly in July Data shows an extension of this year’s inflation deceleration

The consumer-price index increased 0.1% in July from the prior month, the Labor Department said Friday. Excluding the often-volatile categories of food and energy, so-called core prices also rose 0.1%. From a year earlier, overall consumer prices climbed 1.7%, as did core prices, below the Fed’s 2% goal for inflation. (…)

Despite some upsides, overall prices have grown at a seasonally adjusted annual rate of 0.9%, while core prices have risen just 1.3% through the first seven months of this year. (…)

A separate Labor Department report showed average weekly earnings for private-sector workers, adjusted for inflation, increased 0.2% in July from the prior month. From a year earlier, inflation-adjusted weekly earnings were up 1.1%.

Inflation reading has become a pretty inexact science, scary when you know that monetary policy depends on it.

The Cleveland Fed has this table showing various ways to measure inflation trends:

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  • Headline inflation (CPI) is ZERO in the last 6 months, ZERO in the last 3.
  • Core CPI is stuck at +0.1% MoM, that is a 1.2% annualized rate. But if you go 3 decimals, the monthly changes average +0.45% over 6 months which is +0.54% annualized.
  • The 16% trimmed-mean CPI, which excludes the outliers, is rising at a 1.2-1.4% annualized rate.
  • The median CPI keeps rising 2.0% annualized.
  • Core goods prices keep deflating, now for 6 consecutive months.
  • Core services prices are also slowing rapidly from +3.1% YoY on February to +2.4% in July.

In all, it will be challenging for the FOMC members to see anything to fight in recent inflation numbers. Recent PMI surveys confirm that pricing trends remained soft at the end of July:

  • “Average prices charged by US manufacturing firms increased at a modest pace”.
  • “Average prices charged by service sector firms also increased at a weaker pace than the previous survey period.”
  • The PPI for final demand, finished goods was ZERO in the past 2 months, –0.7% in the past 3 and –0.1% in the past 6 months.

Clearly, there is little pricing power, wherever you look, hence weak demand, almost across the board.

Tough on the top line growth. Requires continued focused on costs.

The Atlanta Fed’s Wage Growth Tracker for continuously employed workers was 3.3 percent in July, up slightly from 3.2 percent in June, and close to the average for the last 12 months of 3.5 percent.

Atlanta Fed's Wage Growth Tracker Little Changed

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Despite very slow inflation trends, analysts are not cutting revenue estimates except in consumer sectors, telecom and energy related sectors. Industrials, IT, Financials and Health Care are all very positive (chart from Ed Yardeni).

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Dollar Weakness Could Be the Boost U.S. Economy Needs The slow-growing U.S. economy could use a tailwind and it’s getting one in the form of a weaker dollar.

The WSJ Dollar Index, which measures the dollar against the currencies of major trading partners, is down about 8% since the beginning of the year, including a more than 2% drop over the past month. Its decline has been especially pronounced against the euro, 15%, and the Mexican peso, 28%. (…)

In June, exports were up 7% from a year earlier. That’s a sharp reversal compared with the 9% drop from 2014 to 2016, when the dollar was climbing rapidly. (…)

A weaker currency also increases the value of profits that multinationals earn overseas in other currencies—such as euros, pesos or yen—boosting the bottom line for investors when those foreign currencies are converted back into dollars. Moreover, at a time when Federal Reserve officials find domestic inflation too low, it puts upward pressure on consumer prices. (…)

The stronger euro is not impacting foreign sales yet as Markit’s August Manufacturing PMI revealed:

Companies benefitted from solid gains in new business from both domestic and foreign clients. Although rates of expansion in output (six-month low), new orders (five-month low) and new export business (four-month low) all eased during the latest survey month, they nonetheless remained among the best registered since the first half of 2011.

China Data Shows a Slowdown as Beijing’s Debt Crackdown Takes Hold Beijing’s effort to curb property speculation and debt shows in latest economic data

(…) Value-added industrial output, a rough proxy for economic growth, rose by 6.4% in July from a year earlier, compared with a 7.6% increase in June, the National Bureau of Statistics said. July’s figure was the slowest pace in five months.

Fixed-asset investment, which includes expenditure on roads, new apartments and factories, grew 8.3% in the first seven months of 2017 from a year earlier, slowing from a pace of 8.6% over the January-June period.

Retail sales, meanwhile, increased 10.4% in July from a year earlier, slowing from an 11.0% gain in June.

Property investment, which slowed to 7.9% expansion in the January-July period from 8.5% in the first six months, was one of the major forces that weighed on growth in July, economists said. (…)

Japan Posts 4.0% GDP Growth in April-June Quarter Japan’s economy grew more quickly than expected in the April-June quarter, with strong household spending driving the sixth straight quarter of growth under Prime Minister Shinzo Abe.

(…) Unlike recent quarters, when foreign demand for items such as smartphone components and semiconductor equipment drove Japan’s economy, strong private spending was the key factor in the April-June period. Household spending grew at an annualized 3.7% pace. (…)

Spending by companies on new equipment and other capital expenditures rose an annualized 9.9% in the April-June quarter. Meanwhile, for the first time in four quarters, exports from Japan fell an annualized 1.9% in the April-June period from the previous three months. That was partly because of a slowdown in the global smartphone production cycle, although economists expect demand to pick up.

After two decades in which prices generally fell, Japan is finally seeing modest inflation, albeit far from the central bank‘s 2% target. In June, the core consumer-price index rose 0.4%, marking a six-month winning streak. (…)

Overall wages fell 0.4% in June compared with the year-earlier month as companies paid smaller summer bonuses. (…) (Chart from FT)

OPEC Swings to Panic Stations

(…) So the latest report from the Paris-based IEA, published on Friday, is a nasty shock. It has just found another 230 million barrels of oil in storage that will need to be drained before balance is restored.

That is a lot of oil. To put it in perspective, it increases the build-up in inventories since the beginning of 2014 by almost 25 percent. An output cut of 1 million barrels a day would take another six months to drain it. (…)

How do you suddenly find 230 million barrels of oil? By realizing that the countries who were driving demand growth over the past couple of years weren’t driving it as fast as you thought.

The IEA also cut its assessment of 2016 demand in non-OECD countries by 420,000 barrels a day, with China accounting for more than a quarter of that. With no similar reduction in its assessment of supply, all of the oil that was not consumed, around 157 million barrels, must have gone into storage. The rest comes from the smaller revisions that the IEA made to its 2015 demand numbers. (…)

The IEA’s revisions cut by 800,000 barrels a day the amount of oil the world may need from the group in the current quarter. That is almost as much as the combined production of OPEC’s three most recent joiners: Ecuador, Equatorial Guinea and Gabon. Inconveniently, this reduction coincides with a jump in the group’s production by 200,000 barrels a day in July, according to Bloomberg estimates.

Based on the latest figures, the IEA now expects global stockpiles to rise this quarter — not fall. A forecast for a small draw in the final quarter would leave global inventories unchanged over the second half of 2017.

And next year suddenly looks a lot worse than it did a month ago, too. If OPEC’s current aggregate production level is carried forward for the whole of 2018, global oil inventories would rise by around 170 million barrels. That’s about six times as big as the inventory drawdown for 2017. (…)

EARNINGS WATCH

Factset:

Overall, 91% of the companies in the S&P 500 have reported earnings to date for the second quarter. Of these companies, 73% have reported actual EPS above the mean EPS estimate, 9% have reported actual EPS equal to the mean EPS estimate, and 18% have reported actual EPS below the mean EPS estimate. The percentage of companies reporting EPS above the mean EPS estimate is above the 1-year (70%) average and above the 5-year (68%) average.

In aggregate, companies are reporting earnings that are 6.1% above expectations. This surprise percentage is above the 1-year (+4.7%) average and above the 5-year (+4.2%) average.

In terms of revenues, 69% of companies have reported actual sales above estimated sales and 31% have reported actual sales below estimated sales. The percentage of companies reporting sales above estimates is well above the 1-year average (56%) and well above the 5-year average (53%).

In aggregate, companies are reporting sales that are 0.7% above expectations. This surprise percentage is above the 1-year (+0.5%) average and above the 5-year (+0.5%) average.

The blended earnings growth rate for the S&P 500 for the second quarter is 10.2% today, which is slightly higher than the earnings growth rate of 10.1% last week. The blended sales growth rate for the S&P 500 for the second quarter is 5.1% today, which is equal to the sales growth rate of 5.1% last week.

If the Energy sector were excluded, the blended earnings growth rate for the remaining ten sectors would fall to 7.8% from 10.2% and the blended revenue growth rate for the index would fall to 4.3% from 5.1%.

At this point in time, 94 companies in the index have issued EPS guidance for Q3 2017. Of these 94 companies, 59 have issued negative EPS guidance and 35 have issued positive EPS guidance. The percentage of companies issuing negative EPS guidance is 63%, which is below the 5-year average of 75%.

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Another great quarter. Note that Thomson Reuters’ data show Q2 EPS up 12.0%. +9.3% ex-Energy. Every sector is recording margins higher than last year, except Consumers Discretionary where margins are down 0.2% to 7.1%. Several retailers will be reporting this week.

The blended earnings growth rate for the S&P 500 for Q2 2017 is 10.2%. For companies that generate more than 50% of sales inside the U.S., the blended earnings growth rate is 8.5%. For companies that generate less than 50% of sales inside the U.S., the blended earnings growth rate is 14.0%.

At the sector level, the Information Technology and Energy sectors were the largest contributors to earnings and revenue growth in Q2 for companies with less than 50% of sales inside the U.S.

The blended sales growth rate for the S&P 500 for Q2 2017 is 5.1%. For companies that generate more than 50% of sales inside the U.S., the blended sales growth rate is 4.7%. For companies that generate less than 50% of sales inside the U.S., the blended sales growth rate is 6.0%.

SPX Earnings and Revenue Growth Q2 2017 by GeoRev

Nerd smile Another interesting fact revealed by Capital IQ is that the percentage of S&P 500 companies reporting a share count reduction of 4% or more is 14.3% in the first half of 2017, down from an average of 23.3% in the previous 2 years. On the flip side, the percentage of companies reporting a share count increase of 4% or more is 11.1% in the first half of 2017, up from 9.2% in the previous 2 years. Share buybacks are not contributing as much to EPS growth. RBC calculates that buybacks are adding 1.4% to EPS growth in Q2.

Also, MarketWatch reports that companies in the S&P 500 generated a cash surplus of $60 billion during the second quarter, compared with a $22 billion deficit to investment spending over the last 12 months, according to data provided by J.P. Morgan.

FYI
  • The median S&P 500 stock is off 8.2% from its 52-week high and the average is off 11.7%.
  • 212 S&P 500 stocks are down more than 10% from their 52-week high. 84 stocks are down 20% +.
  • 39% of small-cap stocks are down 20% or more from their 52-week highs.
China a sweet spot for U.S. companies’ earnings in second-quarter

Whether they sell construction equipment, semiconductors or coffee, many major U.S. companies have reported stronger second-quarter earnings and revenue from their Chinese operations in recent weeks. (…)

Caterpillar Inc, a bellwether for industrial demand in China and beyond, reported its sales in Asia-Pacific rose 25 percent in the second quarter – thanks to China. Shipments of large excavators to Chinese customers more than doubled in the first half of the year.

“We now expect demand in China to remain strong through the rest of the year,” Brad Halverson, Caterpillar’s group president and chief financial officer, told investors.

Caterpillar’s Japanese rivals Komatsu and Hitachi Construction Machinery Co reported similar strength in demand for heavy machinery. Komatsu’s China sales almost doubled in the firm’s April-June quarter. (…)

In the chip industry, Skywork Solutions <SWKS.O), which according to Goldman Sachs gets about 85 percent of its sales from China, reported its fiscal third-quarter revenue rose 20 percent, thanks in part to demand from Chinese phone maker Huawei. And Qualcomm, which gets around two thirds of its revenue from China, said last month that China remained a strong growth story for the company.

And many other foreign companies are also doing well. The European liquor industry is benefiting from a resurgence in Chinese consumer demand. (…)

NOW, THIS IS SCARY!

Dear gods, when European junk bonds pay the same as US Treasurys do, there is really something out of whack in the world. Look at that spike in European junk in 2009 and the one back in 2002. European junk bond investors have never been more complacent. The reach for yield is staggering. The participants in that market think that Draghi and the European Central Bank have their backs. If the situation starts to get volatile, they expect the ECB to step in. But the ECB would have to change its mandate in order to buy junk bonds, and that means getting the more conservative members of the eurozone to agree. I hesitate to bet on that. This could be the European equivalent of the Big Short in the next global recession. (John Mauldin)