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

NEW$ & VIEW$ (6 JANUARY 2016): Autos; Oil; China; Earnings

U.S. Light Vehicle Sales Set New Record in 2015

Rising to 17.42 million units, they just beat the old record of 17.40 million reached in 2000, as gasoline prices and interest rates fell. The feat occurred despite a 4.6% m/m decline in December sales to 17.34 million (SAAR) from 18.19 million during November. It was the lowest level in six months. Nevertheless, sales rose 2.5% versus December 2014, pulling the full-year average up 5.4% against 2014. These gains were, however, the smallest of the economic expansion.

Sales of light trucks set the pace in 2015 with a 12.7% full-year increase to a record 9.69 million units. Their 55.7% share of total vehicle purchases also was a new record. The gain was led by a 25.3% surge in imported light truck sales to 1.37 million units, just off the 2007 record of 1.47 million. Not to be outdone, the 10.8% increase in sales of domestically produced light trucks pulled them to a record 8.33 million. During December, sales of imported light trucks fell 3.2% to 1.59 million. Nevertheless, they were 45.9% higher than December 2014. Sales of domestically produced light trucks fell 4.4% last month to 8.34 million (+8.1% y/y).

Passenger car sales during all of 2015 declined 2.5% to 7.72 million units, leaving them well below the 1990 high of 9.30 million. Sales of U.S. made cars eased 0.8% to 5.63 million while sales of imports fell 6.7% to 2.09 million. For December, passenger car sales declined 5.2% from November to 7.40 million (-8.7% y/y). Sales of domestically made cars fell 3.4% to 5.51 million (-5.5% y/y) while sales of imported cars were off 10.1% to 1.89 million (-17.0% y/y).

(…) In 2010, as the industry was rebounding from one of the worst years in the postwar era, J.D. Power estimates those born between 1977 and 1994 (the firm considers them Gen Y) made up only 17% of sales, or 1.6 million vehicles. Five years later, that number has grown to 28% of sales, or 3.3 million vehicles. The impact of baby boomers and Gen Xers on industry volume has flat lined or fallen back during that same period.

The average age of a new car owner fell in 2015, J.D. Power said, to 48 years old from 49. (…)

High five But December sales were not great:

And the cyclical breakout remains elusive (charts from CalculatedRisk):

But per capita sales are back in the 30-year channel as Doug Short illustrates:

Vehicle Sales Per Capita

We like to track sales of pickup trucks as they are often a sign of strength or weakness in the small business and construction sectors.  Based on this idea, both appear to be doing well.  In the latest release for December, Ford announced that sales of F-Series trucks totaled 85.2K, which represented an increase of 14.6% from last December’s total and the largest December y/y increase since 2011.  This month’s sales total also makes this December the best month for Ford truck sales since 2005 and the third best December on record.  To put this into perspective, sales in December 2015 were more than double the total of December 2008.

Ford Truck Sales 123115 Dec

For all of 2015, sales of Ford F-Series totaled 780K, which is the strongest year for sales since 2005.  In the year, sales of F-series trucks grew 3.5%, rebounding from 2014’s decline of 1.3% when sales were hampered by delays due to the redesign of the new F-150.

Ford Truck Sales 123115 YTD

large image

U.S. Apartment Vacancies Climb as New Buildings Crowd the Market

The national vacancy rate averaged 4.4 percent in the three months through December, up from 4.3 percent a year earlier and in the third quarter, the New York-based research company said Tuesday. Vacancies rose from the previous three months for a second straight quarter — the first time that’s happened since 2009.

Vacancies remain close to their lowest in more than a decade, with rising demand for older apartments in suburban locations keeping the national rate down. The surge in apartment construction since the recession has been largely confined to Class A properties, typically buildings close to city centers aimed at high-income professionals.

“It’s taking a lot longer for new projects to lease up,” Ryan Severino, a senior economist at Reis, said in a phone interview. “Vacancies are rising predominantly because a lot of shiny, sexy new Class A projects are having a harder time leasing up relative to a few years ago.”

Reis has recorded zero completions of new Class B and C apartments since 2012, following the addition of about 44,000 units from 2007 to 2011. Developers have delivered almost 1 million new Class A units since the beginning of 2007, according to the firm. (…)

The share of U.S. households that rent rose to 37 percent, the highest level since the mid-1960s, from 31 percent a decade ago.

Apartment rents rose 0.8 percent in the fourth quarter from the third, with asking rents averaging $1,229 a month, and effective rents — payments after any discounts, such as a free month — averaging $1,179, Reis said. While the increase “was a bit slower than the scorching performance during the last two quarters,” it “still represents an annualized rate in excess of 3 percent, well ahead of even core inflation,” Severino said in the report.

OIL

For almost 30 years, the kingdom has held the riyal at a fixed exchange rate and that has brought stability to government finances. Ninety percent of the government’s revenue comes from oil, which is priced in dollars.

But fewer dollars are coming in now, straining a budget that is committed to generous subsidies and public-sector wages. Abandoning the peg would make those dollars stretch further when converted to a local riyal, because without the peg, the riyal would weaken.

What’s more, to hold the peg, Saudi Arabia spends billions of its dollars buying riyals in foreign-exchange markets. (…)

Those reserves fell to $635.2 billion at the end of November, down 15% from a peak of $746 billion in August last year, according to the latest central bank data. (…)

Many economists said the Saudi government will keep spending dollars to avoid devaluation, which would come with uncomfortable long-term consequences. Households and businesses have debt in foreign currencies, and payments costs would rise if the local currency falls. Consumers also would have to pay more for imports, from cars to luxury goods.

That could be a tough path for the government, local analysts said. Saudis already are angered by cuts to subsidies in the state budget. (…)

In recent months, two oil-rich nations also have abandoned their dollar pegs.

Azerbaijan scrapped its peg to the greenback in December and its currency quickly lost half its value. Kazakhstan, another economy dependent on natural resources, let its currency float freely in August and saw it lose more than a quarter of its value in one day.

China has also moved to devalue the yuan since the summer as it grapples with slowing economic growth.

“The last year has shown us that when economic fundamentals change, pegs break,” saidPeter Kinsella, an emerging-market strategist at Commerzbank in London.

Let’s also say that the current Saudi leadership has not demonstrated much judgement in some of its key decisions, be it on its oil strategy or on its relationships with its neighbours and allies.

  • Sliding scale: fallout in the Gulf

Senior figures in Riyadh are unrepentant about their breach of relations with Iran following the ransacking of the Saudi embassy in Tehran; it has fallen to them, they argue, to forestall imperialist Persian mischief-making. The row, prompted by the Saudi execution of a Shia cleric, does not appear to be escalating: Kuwait, the latest country to follow the Saudi lead, has merely withdrawn its ambassador from Tehran, not broken off ties. As for other Arab powers, the Omanis and Qataris will do nothing. The real price will be paid elsewhere: chiefly in efforts to end the Syrian conflict. Last year’s big breakthrough was getting Iranians and Saudis to sit at the same table. At talks expected next month, that looks unlikely. Enmeshed in tension and conflict (notably with a costly military campaign in Yemen) the Saudis argue that things could hardly be worse. But outsiders see plenty of scope. (The Economist)

OPEC oil output fell in December, a Reuters survey found on Tuesday, led by lower supply from Iraq following a record-breaking month in November and smaller declines elsewhere in the producer group. (…)

OPEC supply fell in December to 31.62 million barrels per day (bpd) from a revised 31.79 million in November, according to the survey, based on shipping data and information from sources at oil companies, OPEC and consultants. (…)

OPEC has boosted production by almost 1.40 million bpd since its November 2014 refusal to cut supply and prop up prices. Output is not far below July’s 31.88 million bpd, the highest since Reuters records began in 1997.

The biggest monthly decline in output came from Iraq, the world’s fastest growing source of supply growth last year.

Exports from Iraq’s main outlet, its southern terminals, have slipped from November’s record level which had been boosted by delayed October cargoes, but are likely to reach new highs in the coming months, industry sources said. (…)

Top exporter Saudi Arabia has kept output steady to slightly lower, sources in the survey said, due to less demand from outside the country and largely steady domestic use. (…)

CHINA

(…) Some bears in the currency markets believe that China could soon be suffering from a genuine exchange rate crisis, in which its enormous foreign exchange reserves could be quickly drained.

That would indeed be a severe shock to global markets, since it would effectively export the deflationary forces that are overpowering the Chinese manufacturing sector to the rest of the world, and would probably require direct measures to restore the health of the Chinese financial system. But it still seems unlikely to happen, for now at least.(…)

Admittedly, the PBoC did not give any formal commitment to keep the currency stable as part of the SDR talks and the IMF has explicitly argued that some flexibility in the medium term is desirable as the currency is increasingly determined by free market pressures.

However, many observers suspect that there was an informal “understanding” with the US (which, remember, still argues that the renminbi is undervalued) to eschew a sharp devaluation. China’s already strained economic relationship with the US would be ruined if it deliberately devalued so soon after its longstanding desire for SDR entry had been achieved.

What it does suggest, however, is that private sector capital outflows have been very large recently. Market sources reckon that private capital outflows may be running at $10bn a day, slightly more than occurred during the crisis last August. Official foreign exchange reserves have declined by $213bn, from $3,651bn last July to $3,438bn at the end of November, and will probably have dropped further when the December figures appear on Thursday.

In addition, China bears point out that the “errors and omissions” category in the official balance of payments data has risen by around $200bn since 2013, possibly indicating that the private capital outflow has been much larger than shown in the official data. These bears are beginning to convince themselves that the PBoC could soon run out of liquid foreign exchange reserves, making it impossible for them to continue supporting the currency.

But that seems rather fanciful. China’s foreign balance sheet remains extremely strong, and the central bank continues to have a huge foreign exchange war chest, should it choose to use it.

The big question, therefore, is whether the PBoC will in fact choose to keep the renminbi in its fairly stable band against the official basket. (…)

My expectation is that the Chinese authorities will seek to maintain their objective of broad stability against the basket. Recent Chinese activity data have been fairly encouraging (see the “nowcast” graph below), the current account of the balance of payments is in large and rising surplus, and a devaluation would undermine the key objective of rebalancing the economy away from moribund manufacturing sectors. It would also require a recapitalisation of the Chinese financial system, which has direct and indirect exposure to China’s $900bn foreign debt mountain. Finally, it would certainly inflame the Republicans, as well as some Democrats, in a US election year.

If this expectation is correct, then the PBoC will soon need to intervene on a large scale to reverse part of the recent depreciation — not to defend a particular exchange rate floor, but to prevent extrapolative expectations of devaluation from becoming self-fulfilling. If the central bank passively permits the renminbi to continue its downward drift, the situation could rapidly get out of its control.

This chart seems to confirm CEBM Research survey I mentioned yesterday:

image
Call me Apple Suppliers Drop in Asia After IPhone Output Cut Report

Apple Inc. suppliers led by Sharp Corp. and Pegatron Corp. fell after Nikkei Asian Review reported the U.S. company would reduce the first quarter output of its latest iPhones by about 30 percent. (…)

Inventories of the new iPhones, which debuted in September, have piled up at retailers in China and Europe amid lackluster sales as an increase in the dollar against emerging markets currencies makes the device more expensive in those countries, Nikkei reported. Apple had initially told suppliers to keep production of the iPhone 6s and 6s Plus models for the January-March period at the same level as for their predecessors, the publication said. (…)

“With poor end demand for iPhone 6s in developed markets, we estimate that the supply chain has accumulated 20 million units of iPhone inventory including finished goods and components,” Ken Hui, an analyst at Jefferies Group LLC in Hong Kong, wrote in a report.

SENTIMENT WATCH

After a weak start to 2016, the Standard & Poor’s 500 Index will reach a top in the second quarter, before falling as much as 30 percent later in the year or early in 2017, according to UBS technical strategists led by Michael Riesner. The Dow Jones Transportation Average has already entered a bear market, and the Russell 2000 Index of smaller companies has fallen 14 percent from its high last year.

“We are definitely more in the late stages of a bull market instead of being at the beginning of a new major breakout,” the strategists wrote in a note dated Jan. 5. “Our key message for 2016 is that even if we were to see another extension in price and time, we see the 2009 bull cycle in a mature stage, which suggests the risk of seeing a significant bear cycle event in one to two years.” (…)

The strategists note that the S&P 500 and Dow Jones Industrial Average are in the advanced stage of a so-called Elliott Wave pattern, indicating that after a final rally driven by mega-caps that could send the S&P 500 to 2,300, equities will fall. However, they forecast that the underlying bull market will then resume and last until the end of the decade. Confused smile

Sarcastic smile David Rosenberg:

  • At no time in the post-WWII era did the S&P 500 and the TSE decline in back-to-back years absent a U.S. recession – and a U.S. recession is still a very low-odds scenario (10% max).
  • (…) the most important development in 2015 was that Consumer Discretionary stocks were the S&P 500 leader. This is a group after all that represents 70% of GDP. There have only been three times in the past where consumer cyclicals led the stock market – 1975, 1988 and 2001. In the subsequent year, real GDP growth nearly doubled to 3.6% from 1.7% on average.
EARNINGS WATCH

The Q4 earnings season officially launches next week but we already have 17 S&P 500 companies having reported: 76% beat with a +3.6% surprise factor. Six Consumer Discretionary companies have reported and 83# beat with a +7.0% surprise factor.

CHINESE LAISSEZ-FAIRE

From Alberto Gallo at RBS (via FT Alphaville):

(…) The real question is: will Gallo have to change the scales on that chart soon to generate more space?

You’d bet yes. As Balding said earlier today, “As with virtually all Beijing economic and financial policy, they are content to let the market play the dominant role if, and this is a big if, if the market does what Beijing wants it to do.”

El Nino Is So Last Year, Here Comes La Nina to Wreak More Havoc

As the effects of the most severe El Nino in almost 20 years still reverberate around the world, preparations are already under way for La Nina. (…)

El Nino is a warming in the equatorial Pacific Ocean, while La Nina is a cooling of the waters. Each can impact agricultural markets as farmers contend with too much or too little rain. A large part of the agricultural U.S. tends to dry out during La Nina events, while parts of Australia can be wetter than normal.

The previous La Nina began in 2010 and endured into 2012. Conditions typically last between 9 months and 12 months, while some episodes may persist for as long as two years, according to the National Oceanic and Atmospheric Administration. Both La Nina and El Nino tend to peak during the Northern Hemisphere winter.

North Korea’s Hydrogen Bomb Claim Disputed by Weapons Experts

South Korea’s spy agency said the test may not have been of a hydrogen device, according to Lim Dae Sung, an aide to lawmaker Lee Cheol Woo who was briefed by the National Intelligence Service. The yield and the seismic wave from the earthquake triggered by the explosion Wednesday were lower than in the reclusive nation’s previous test in 2013, Lim said. (…)

The test likely had a yield of between 1,000 and 30,000 tons of TNT — a similar level to its last test in 2013, according to Li Bin, a senior associate focused on nuclear policy at the Carnegie Endowment for International Peace. The yield — comparable to that of the atomic bomb dropped on Hiroshima — fell well short of the destructive power of a hydrogen bomb, which would equal at least a 50,000 tons of TNT, Li said.

“It’s more like an ordinary atomic bomb test, not a hydrogen bomb,” he said. (…)

Disappointed smile Guns and glory: Oregon’s stand-off

The hoverboard-riding, craft-beer-sipping urbanites of the Beaver State’s largest city, Portland, have shaped its public image. But 300 miles (480km) to the south-east, something still more exotic is on display. An armed band, calling itself Citizens for Constitutional Freedom, has occupied the local headquarters of the Malheur National Wildlife Refuge, demanding clemency for two people convicted of arson on federal land, and an end to government control of the area. The ringleader, Ammon Bundy, is the son of Cliven Bundy, a Nevada rancher who rallied hundreds of armed supporters in 2014 in a dispute about payment for grazing rights. In 2015 a group of Oath Keepers (retired law-enforcement officials claiming to defend the constitution) took on the federal authorities over an Oregon mining claim. The feds usually wait for heavy rain to disperse such folk. Under a stout roof paid for by federal taxes, the Citizens may take longer to dislodge. (The Economist)

NEW$ & VIEW$ (5 JANUARY 2016): China; Oil; Commodities; Earnings

The U.S. Economy’s Latest Growth Is Looking Increasingly Frail The first week of 2016 has brought sinking temperatures and stocks–and now weaker estimates of economic growth for the fourth quarter.

The Federal Reserve Bank of Atlanta said Monday it now believes fourth-quarter GDP grew at just a 0.7% pace, down from a prior estimate of 1.3% growth. J.P. Morgan Chase cut its estimate in half to 1% growth from 2%. Forecasting firm Macroeconomic Advisers lowered its estimate by three-tenths of a percentage point to 1.1%.

If those estimates pan out, it would mean the economy ended 2015 in roughly the same precarious state in which it began the year. GDP grew 0.6% in the first quarter of 2015 before rebounding in the spring and summer.

Evolution of Atlanta Fed GDPNow real GDP forecast

The forecast for the contribution of net exports to fourth-quarter real GDP growth fell 0.1 percentage points to -0.4 percentage points on December 29 after the U.S. Census Bureau’s advance report on international trade in goods. The nowcast for real GDP growth fell 0.5 percentage points this morning following the Census Bureau’s release on construction spending and the Institute for Supply Management’s Manufacturing ISM Report On Business.

U.S. Construction Activity Eased in November

The value of construction put-in-place declined 0.4% (+9.7% y/y) during November following a 0.3% October rise, revised from 1.0%. Three-month growth of 0.2% (AR) compared to 29.2% during Q2.

Public sector building fell 1.0% (+6.0% y/y), the fourth decline in the last five months.

image

CHINA
Beijing Muddles Markets With Mixed Signals

China scrambled to stabilize its stock markets and calm jittery investors, pumping nearly $20 billion into the country’s financial system and intervening to prop up the yuan. (…)

Investors had been spooked by a series of actions taken by Chinese policy makers early in the week—including the central bank’s guiding the yuan to a psychologically important level against the dollar, and the finance minister’s and the Communist Party’s mouthpiece newspaper’s damping hopes for aggressive measures to spur growth. Chinese equities responded with their worst-ever start to a year, setting off a world-wide selloff.

Another policy step that riled the market, according to people familiar with the matter, was the People’s Bank of China’s unexpected decision Monday not to roll over a 130 billion yuan ($19.9 billion) credit line to China Development Bank, a major policy bank tasked with financing many of the country’s low-income housing and infrastructure projects.

The decision was based on the belief that market liquidity had remained ample, the people said. But combined with the other actions, it made investors think Beijing intends to dial back on stimulus and monetary easing as it carries a painful economic overhaul. (…)

Early Tuesday, it pumped 130 billion yuan in short-term funds into the financial system—demonstrating it hasn’t changed its easing bias, the people said. In a sign that the move was aimed at quelling fears of monetary tightening, the latest injection involved the exact same amount of funds the central bank didn’t extend to China Development Bank. Chinese stocks rebounded in early mainland trading but retreated again later and ended the day lower. (…)

“Given our views on credit contraction in Asia, and in China in particular, let’s say they are going to go through a banking loss cycle like we went through during the Great Financial Crisis, there’s one thing that is going to happen: China is going to have to dramatically devalue its currency.”

“China many years ago attached its currency to the dollar: they hitched their wagon to our star very smartly because back then our goal was to depreciate our dollar through inflation. So we issued debt to the rest of the world to depreciate the dollar. And so now the real problem is China has hitched their wagon to our star, and their currency has effectively appreciated about 60% versus the rest of the world since 2005 and it’s killing them… China’s effective exchange rate moving up versus the rest of the world made their goods and services a little bit more expensive each year and now that labor arbitrage is gone. And if that labor arbitrage is gone, and the banking system has expanded 400% in 7 years without a nonperforming loan cycle, my view is we are going to see a non-performing loan cycle.”

If one very conservatively assumes that loans are about half of the total asset base (realistically 60-70%), and applies an 20% NPL to this number instead of the official 1.5% NPL estimate, the capital shortfall is a staggering $3 trillion.That, as we suggested three weeks ago, may help to explain why round after round of liquidity injections (via RRR cuts, LTROs, and various short- and medium-term financing ops) haven’t done much to boost the credit impulse. In short, banks may be quietly soaking up the funds not to lend them out, but to plug a giant, $3 trillion, solvency shortfall.

Incidentally, this is precisely what Bank of America just said overnight:

When debt problem gets too severe, a country can only solve it by devaluation (via the export channel), inflation (to make local currency debt worth less in real terms), writeoff/re-cap or default. We judge that China’s debt situation has probably passed the point of no-return and it will be difficult to grow out of the problem, particularly if the growth continues to be driven by debt-fueled investment in a weak-demand environment. We consider the most likely forms of financial instability that China may experience will be a combination of RMB devaluation, debt write-off and banking sector re-cap and possibly high inflation. Given the sizeable and unstable shadow banking sector in China and the potential of capital flight, we also think the risk of a credit crunch developing in China is high. In our mind, the only uncertainty is timing and potential triggers of such instabilities.

The full Kyle Bass interview is here, and the part discussing the best investment opportunity begins 10:40 in.

Fingers crossed The latest CEBM Research survey gives hope:

The CEBM Composite Sales vs. Expectations Index rose from 1.3% in December to 35.4% in January. December sales targets were reached in most industries and January forecasts are expected to further rally from the previous month. Industries expecting sustained growth include: real estate, autos, and shipping. Respondents were less cheery in consumer retail, steel, and cement.

Seasonal improvement in housing sales but no change in investment: Developer feedback indicates speculation driven buying in 1st tier and certain 2nd tier markets, which is expected to continue through the next quarter. Though the sales environment continues to improve, the investment outlook remains subdued due to inventory overhang.

Auto sales exceed expectations again: Sales have been robust since October, with December growth figures 10-15% higher M/M. Survey respondents expect 8-10% growth for next year.

Bank lending contracts M/M on further tightening of underwriting requirements: A subdued economic outlook and a rising overdue loan rate resulted in further tightening of loan underwriting requirements in December. In order to reduce loan portfolio risk, commercial lenders have reduced willingness to lend to borrowers in sectors of the economy facing excess capacity pressures (e.g., small-scale property developers and steel producers) unless sufficient collateral is provided.

Looking forward to January, the CEBM Composite Sales Expectations Index rose from -9.5% in December to 24% in January. The change in this month’s Expectations Index reading largely reflects an expected rally in industrial sector sales activity in January.

Emerging-Market Currencies Tumble With Global Stock Markets Emerging-market currencies dropped against the U.S. dollar Monday, reflecting renewed fears that an economic slowdown in China will further depress struggling developing economies.

(…) In addition to the sector’s weak growth outlook, many believe that years of heavy investor flows into emerging markets have left these nations awash in debt—much of it denominated in dollars—that borrowers will struggle to repay as U.S. interest rates rise. (…)

More money left emerging markets in 2015 than entered them for the first time in decades, according to a capital-flows forecast from the Institute for International Finance, which represents more than 500 of the world’s biggest banks, hedge funds, insurers and other financial firms. The group projects outflows from emerging markets hit a net $540 billion in 2015. (…)

Global manufacturing subdued by steepest emerging-Asia downturn on record

The JPMorgan Global Manufacturing PMI™, compiled by Markit, fell from 51.2 in November to 50.9 in December, its lowest reading for three months. The survey data are consistent with global manufacturing output expanding at a modest annual pace of just over 1%.

At 51.2, the average PMI reading for 2015 is down from 52.3 in 2014 and the lowest – albeit by a small margin – since 2012, a year in which global manufacturing suffered a slight decline. (…)

Nine of the 14 expanding manufacturing economies were found in Europe, joined by the US and Mexico, with the latter’s exporters benefitting from the ongoing US expansion. (…)

Of the 11 countries that saw a worsening of their manufacturing economies in 2015, nine were emerging market economies. (…)

Asia ex-Japan suffered a fourth consecutive annual decline, registering the steepest downturn in the history of data collection that began in 2004. (…)

With an average PMI reading of 48.7, China’s manufacturers also reported their steepest downturn since data were first available in 2004. Both Taiwan and South Korea endured the largest downturns in manufacturing activity since 2008.

Only three of the 14 expanding manufacturing economies were found in Asia (Japan, India and Vietnam), though each saw only modest expansions. (…)

Not lost to the Chinese: the Eurozone and Japan, which both engineered a sharp devaluation of their respective currency, saw a sharp increase in their manufacturing PMI during 2015.

Euro area annual inflation stable at 0.2%

image

Spain Jobless Claims Decline in December of Christmas Hiring
German Unemployment Falls in Sign Domestic Demand to Stay
EARNINGS WATCH

This was on heavy watch given the importance of retail sales at the end of 2015 given the bloated inventories.

For the fourth quarter to date, 85 companies in the S&P 500 have issued negative EPS guidance and 26 companies have issued positive EPS guidance. At the sector level, the Consumer Discretionary and Information Technology sectors have the highest number of companies issuing negative EPS guidance for the fourth quarter. This is not surprising, as these two sectors have historically had the highest number of companies providing quarterly EPS guidance on average.

What is surprising, however, is the unusually high number of companies in the Consumer Discretionary sector issuing negative EPS guidance for Q4. While the number of companies issuing negative EPS guidance in the Information Technology sector (22) is slightly below the five-year average (23.5) for the sector, the number of companies issuing negative EPS guidance in the Consumer Discretionary sector (25) is well above the five-year average for the sector (15.9).

If the final number of companies in the Consumer Discretionary sector issuing negative EPS guidance is 25, it will be the highest number for this sector since FactSet began tracking guidance in 2006. The current record high is 22, which occurred in both Q1 2014 and Q2 2014.

In addition, the number of companies in the Consumer Discretionary sector issuing positive EPS guidance is zero. If this is the final number of companies issuing positive EPS guidance in this sector, it will be the lowest number since FactSet began tracking guidance in 2006. The current record low is three, which occurred in Q1 2006.

At the industry level, 13 of the 25 companies that have issued negative EPS guidance are in retail industries: Specialty Retail (eight), Multiline Retail (three), and Internet & Catalog Retail (two).

Pointing up The surprise, however, is that weak revenues do not seem to be the culprit:

The chart below highlights factors that companies in this sector specifically cited when issuing negative EPS guidance for Q4. The numbers do not add to 25, as some companies cited more than one of the factors listed below, while others did not highlight any specific factors.

image

Which means that most of the negative pre-announcements are from large multinational consumer companies. In turn meaning that end-of-year sales were ok. In fact, David Rosenberg says that holiday sales from Black Friday to Christmas Eve are up 7.9% YoY! But this does not jibe with Gallup’s survey which suggest a pretty weak gain YoY for December.

Monthly Averages of Reported Amount Americans Spent

Overall, earnings estimates are not falling apart, just yet anyway. Based on Factset’s numbers, the number of negative pre-announcements has gone up vs Q3 but is in line with the last 4 quarters:

image

Thomson Reuters keeps a daily tab of pre-announcements and the numbers have not deteriorated in recent days.

OIL
Saudi Feud With Iran Stirs Up an Explosive Mix for Middle East

How the Saudi-Iranian spat could roil the oil market

(…) There are several scenarios in which these tensions could escalate in a way that would affect global oil markets more seriously.

  • Iran could significantly try to stir up trouble in Saudi Arabia’s oil-rich province of Hasa. In the past, Iran has done so periodically, particularly in 1979, when there were giant Shia demonstrations against the House of Saud. Tehran might also try to subvert the Saudi rulers more directly and discredit their leadership more overtly and heatedly.
  • We can’t rule out some type of military brinkmanship. The two countries almost clashed in 1984 and 1987, during the Iran-Iraq war. They could have a real or threatened air or naval engagement.
  • Both countries could ratchet up tensions in other regions of the Middle East, such as Yemen. Even though this would not really affect oil supplies, markets might misread it as such.
  • The Saudis might well decide to continue their strategy of maintaining oil production to squeeze out higher-cost producers for a longer period than they otherwise would have done, even though that approach runs counter to their historical role in cutting production to boost oil prices. The row with Iran may incline the Saudis to try to punish the country even longer with lower oil prices. Even though Iran’s economy is used to economic pain, this prospect certainly will hurt Tehran.

Of all these scenarios, the most likely is the fourth – that the Saudis extend their strategy of maintaining current production levels in order to punish Iran. This is the easiest, lowest-risk form of rivalry. (…)

Strategically, neither country wants a military engagement. Historically, Iran and Saudi Arabia have clashed in many ways but not in a military manner, except for two minor incidents. (…)

Over all, then, the Saudi-Iranian row will probably simmer, assume a slow burn and complicate bilateral relations – a type of Cold War will become further entrenched. But the tensions are unlikely to escalate enough to cause a major spike in oil prices, unless leaders in both capitals truly believe that they need to boost their political position at home with a foreign adventure.

Of course, when tensions run high on emotive religious issues, one needs to make predictions with caution.

Saudi Nuclear Option in Iran Oil War Is Getting Rusty (Bloomberg)

(…) With Tehran likely to meet the conditions needed to lift those sanctions as soon as next week, that’s set to change. The government is promising to bring an extra million barrels of daily oil production into the market by mid-year, more than a third of its current output.

Saudi Arabia is unlikely to take that challenge lying down. (…) The problem in the current situation is that its rival across the Persian Gulf has already been toiling through four years of sanctions. Combine that with a far more diversified economy, and Iran has much less to lose from low oil prices than it had in the past.

Were both countries’ oil production to stop overnight, Saudi Arabia would find itself with a 57 percent budget deficit. Iran’s would be just 7.5 percent, not much worse than many Western countries. Diminished exposure to weak oil prices is helping protect Iranian government spending in the current downturn: Government net debt in Riyadh will rise to 44 percent of GDP by 2020, when Tehran will be holding a net asset position, according to the International Monetary Fund. While Iran needs an unlikely crude price of $70.40 a barrel to balance its budget this year, Saudi Arabia need an extraordinary $95.80, according to the fund:

The kingdom still has some trump cards up its sleeve. Its $642 billion in foreign-exchange reserves are enough to cover three years of imports, according to the IMF, while Iran’s would run dry after about 20 months. Low prices will also further discourage investment from international oil companies such as Total and Lukoil which Tehran  desperately needs to rebuild its domestic industry. Iran’s oil infrastructure is in such a poor state that about half of analysts in a survey by Bloomberg Intelligence last August thought it wouldn’t be able to ramp up production until the second half of this year.

(…) Both countries are pumping into an Asian market that already appears satiated: The discount for the Oman-Dubai oil benchmark used in Asia compared to Brent contracts rose to the highest level since October 2008 last week, according to data compiled by Bloomberg.

After four years of sanctions, Iran is now likely to take whatever price it can get to bring in more cash. In those circumstances, Saudi Arabia’s nuclear deterrent looks more like a promise of mutually assured destruction.

FT View: The folly of Saudi Arabia’s battle with Iran

(…) Saudi Arabia’s precise motivation for the execution of the Shia cleric Sheikh Nimr-al-Nimr is unclear. The authorities in Riyadh executed 43 Sunni jihadis convicted of terrorism offences at the weekend and may have wanted to demonstrate even-handedness by executing a few Shia. The Sheikh was not a terrorist. He was a radical dissident who spoke out against the kingdom’s discrimination towards its Shia minority and the royal family. His death has rightly received worldwide condemnation. (…)

The death of Sheikh Nimr plays into the hands of Iranian hardliners determined to undermine President Hassan Rouhani’s international outreach. Their invasion of the Saudi mission in Tehran at the weekend was calculated to harden Iranian foreign and domestic policy. They may have succeeded.

Since coming to power one year ago, King Salman bin Abdulaziz has taken a more belligerent approach to international affairs than his brother Abdullah who preceded him. Riyadh has long seen Iran’s malevolent hand in a host of conflicts, including Syria, Iraq, Yemen and Bahrain. Last year’s US deal with Iran over its nuclear programme marked a turning point, however, encouraging the kingdom to believe it must act more forcefully in its own defence. Far from consolidating their position, the Saudis’ actions — notably launching a war against Iranian backed Houthi rebels in Yemen — has only deepened the chaos. (…)

But as the killing of Sheikh Nimr suggests, the Saudi leadership seems to lurch from one decision to another without contemplating the strategic consequences. (…)

Reconciling Riyadh and Tehran is essential if there is to be any hope of a resolution to the civil war in Syria. And for all the gloom, there is scope for US President Barack Obama to nudge both sides towards dialogue. Much of Iran’s leadership wants to come in from the cold. The Saudis, for their part, need US military and diplomatic cover. If dialogue is to happen, however, Washington will first have to deliver some tough messages to the Saudis and Iranians. This is a time for reason and containment, not recklessness.

Bond Market’s Wrath Awaits Gulf Exporters Stung by Crude’s Slump

It’s about to get a lot more expensive for Gulf region borrowers to fill the holes in their budgets caused by slumping oil prices.

Issuers in the six-nation Gulf Cooperation Council, including the governments of Saudi Arabia and Qatar, will probably find themselves paying 50 to 100 basis points more than current yields to sell bonds on global markets in 2016, according to Mashreq Capital DIFC Ltd., which manages the Middle East’s best-performing Islamic fixed-income fund. Oil’s 35 percent drop last year pushed yields to the highestin more than four years. (…)

Venezuela fuels fears over hyperinflation Maduro decree essentially abolishes central bank independence
Supermines Feed Vicious Metals Circle Giant mines, begun when prices were high, are adding to the oversupply of copper, iron ore and other metals, compounding the woes of the depressed mining sector.

(…) The big mines cost so much to build and extract minerals so efficiently that mothballing them is unthinkable—running them generates cash to pay down debts, and huge mines are expensive to simply maintain while idle. But as a result, their scale means they are helping miners dig themselves even deeper into the price trough by adding to a glut. (…)

When Freeport’s Cerro Verde mine’s production is fully ramped up this year, it will hit a billion pounds of copper a year—3% of the world’s production, even as copper prices sink to six-year lows.

The impact of mines like Cerro Verde is sweeping, including downward pressure on commodity prices until the end of the decade, when supply is expected to slip as some older mines finally dry up. Companies’ profit margins are shrinking, many are writing down assets and more smaller players are likely to go belly-up, according to ratings firms and analysts. (…)

“After nearly three decades of having to beg for capital, suddenly bankers and investors were throwing money at miners and imploring them to invest in more and bigger projects,” said Dick Evans, a former board member of Rio Tinto, and now chairman of aluminum maker Constellium NV. “The miners were like kids in a candy store.”

At the same time, new mining technologies, like bigger haul trucks, shovels and other equipment, enabled the building of facilities that could produce two or three times the copper or iron ore of the previous generation of big mines. (…)

[Cerro Verde]’s huge scale keeps its operating costs down, at under $1.50 per pound. That means even with copper prices now just above $2 a pound, a six-year low, it will continue to make money on an operational basis. (…)

Byron Wien Announces Predictions for Ten Surprises for 2016

Byron R. Wien, Vice Chairman of Multi-Asset Investing at Blackstone, today issued his list of Ten Surprises for 2016. This is the 31st year Byron has given his views on a number of economic, financial market and political surprises for the coming year. Byron defines a “surprise” as an event that the average investor would only assign a one out of three chance of taking place but which Byron believes is “probable,” having a better than 50% likelihood of happening.

Byron started the tradition in 1986 when he was the Chief U.S. Investment Strategist at Morgan Stanley. Byron joined Blackstone in September 2009 as a senior advisor to both the firm and its clients in analyzing economic, political, market and social trends.

Byron’s Ten Surprises for 2016 are as follows:

    1. Riding on the coattails of Hillary Clinton, the winner of the presidential race against Ted Cruz, the Democrats gain control of the Senate in November.  The extreme positions of the Republican presidential candidate on key issues are cited as factors contributing to this outcome.  Turnout is below expectations for both political parties.
    2. The United States equity market has a down year.  Stocks suffer from weak earnings, margin pressure (higher wages and no pricing power) and a price- earnings ratio contraction.  Investors keeping large cash balances because of global instability is another reason for the disappointing performance.
    3. After the December rate increase, the Federal Reserve raises short-term interest rates by 25 basis points only once during 2016 in spite of having indicated on December 16 that they would do more.  A weak economy, poor corporate performance and struggling emerging markets are behind the cautious policy.  Reversing course and actually reducing rates is actively considered later in the year.  Real gross domestic product in the U.S. is below 2% for 2016.  
    4. The weak American economy and the soft equity market cause overseas investors to reduce their holdings of American stocks.  An uncertain policy agenda as a result of a heated presidential campaign further confuses the outlook.  The dollar declines to 1.20 against the euro.
    5. China barely avoids a hard landing and its soft economy fails to produce enough new jobs to satisfy its young people.  Chinese banks get in trouble because of non-performing loans.  Debt to GDP is now 250%.  Growth drops below 5% even though retail and auto sales are good and industrial production is up.  The yuan is adjusted to seven against the dollar to stimulate exports.
    6. The refugee crisis proves divisive for the European Union and breaking it up is again on the table.  The political shift toward the nationalist policies of the extreme right is behind the change in mood.  No decision is made, but the long-term outlook for the euro and its supporters darkens.
    7. Oil languishes in the $30s.  Slow growth around the world is the major factor, but additional production from Iran and the unwillingness of Saudi Arabia to limit shipments also play a role.  Diminished exploration and development may result in higher prices at some point, but supply/demand strains do not appear in 2016.
    8. High-end residential real estate in New York and London has a sharp downturn.  Russian and Chinese buyers disappear from the market in both places.  Low oil prices cause caution among Middle East buyers.  Many expensive condominiums remain unsold, putting developers under financial stress.
    9. The soft U.S. economy and the weakness in the equity market keep the yield on the 10-year U.S. Treasury below 2.5%.  Investors continue to show a preference for bonds as a safe haven.
    10. Burdened by heavy debt and weak demand, global growth falls to 2%.  Softer GNP in the United States as well as China and other emerging markets is behind the weaker than expected performance.