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$ (25 JUNE 2014)

New-Home Sales Soar in May New-home sales soared in May to their highest level in six years, the latest evidence that the U.S. housing recovery is regaining traction after an extended slowdown.

Sales of new single-family homes rose 18.6% from April to a seasonally adjusted annual rate of 504,000, a new post recession high, the Commerce Department said Tuesday. Economists surveyed by The Wall Street Journal had predicted a more modest rise of 0.5%. Sales in May were up 16.9% from a year earlier.

The eye-popping increase may reflect, at least in part, month-to-month volatility and the report’s small sample size. The 18.6% rise in Tuesday’s report—the steepest one-month jump in new-home sales since January 1992—came with a margin of error of plus or minus 17.3%.

Sales of newly built homes account for only about 10% of U.S. home-buying activity. But the upward trend in new-home sales over the past two months reinforces other evidence of growing strength in the housing market this spring. Sales of previously owned homes also rose the last two months and were up a seasonally adjusted 4.9% in May, the National Association of Realtors said Monday. (Chart from Haver Analytics)

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Housing was the only major ingredient missing for a complete economic lift off. Is it for real or just a statistical “noise”, one that also could well be revised given its high volatility? The sunnier side says that:

  • It jibes with ISI’s builders’ most recent surveys.
  • First-time homebuyer participation has grown for three months in a row this spring, according to the latest results from the monthly Campbell/Inside Mortgage Finance HousingPulse Tracking Survey. It may be only seasonal, however.
  • Permits to build single-family homes rebounded 3.7% (-5.3% y/y) to 619,000 in May, the highest level in six months.
  • It follows on the recent improvement in existing home sales.

Existing-home sales rose 4.9% in May to a seasonally-adjusted annual rate of 4.89 million, the National Association of Realtors said on Monday. That’s less than the 5.15 million pace in May 2013, but “the drop in distressed sales makes it harder to see the real trend,” says Jed Kolko, chief economist for Trulia.

Distressed sales accounted for 11% of all sales in May, down seven percentage points in the past year, according to the National Association of Realtors. Such sales peaked at 49% of all sales in March 2009, the association said. Excluding distressed properties, sales in May were 3% above the May 2013 level, says Kolko.

The cloudier side reminds us that sales were particularly weak during winter and this may just be a short-term catch up. And beware reading too much from consumer confidence…

Consumer Confidence Hits Best Levels Since 2008
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Break-Even Rate Near 13-Month High Before Inflation Data U.S. inflation expectations over five years touched the highest in 13 months before data tomorrow economists forecast will show the Federal Reserve’s preferred measure of price gains rose to the most since October 2012.
US and eurozone inflation expectations diverge

The divergence between US and eurozone market expectations of inflation has reached a new peak, with investors betting on sharply differing outlooks for consumer prices on both sides of the Atlantic.

US inflation expectations, also known as break-even rates, as measured by the difference between yields on 10-year nominal Treasury notes and Treasury inflation protected securities (Tips), are at about 2.27 per cent.

By contrast, German 10-year inflation expectations have eased to about 1.34 per cent, a difference of 0.93 percentage points between US and eurozone break-even rates.

CENTRAL BANKERS WATCH Confused smile

“I’m not worried about it in the short run,” Mr. Plosser told Fox Business in an interview. Key inflation indicators “have been drifting back up toward our target. We’re not there yet, but I think that’s encouraging that it’s stabilizing and moving back toward our target.” (…)

Mr. Plosser, a self-avowed inflation hawk, downplayed a recent rise in the country’s consumer-price index, saying it could be reversed. (…)

Let’s hope he’s right.

Richard Bernstein
Frothy IPOs do not spell stocks euphoria

(…) Credit Suisse data indicate US pension funds have among the lowest equity allocations in more than 30 years and remain focused on alternatives rather than conventional equities.

A Bank of America Merrill Lynch indicator shows Wall Street strategists are recommending an underweight of equities relative to the traditional 60/30/10 stocks/bond/cash benchmark. ISI’s hedge fund survey shows hedge funds are neutrally positioned. ICI data show net outflows from US equity funds for seven straight weeks. (…)

Investors rationalised lofty valuations during the technology bubble with theories regarding the “new economy”. “Disruptor” companies are today’s rationalisation. Investors seem willing to pay outrageous valuations for disruptor companies because the companies are supposedly changing the world and have no relationship to the economic cycle, to Washington or to geopolitical events. It seems hard to fathom how an auto company, an energy company, or a limousine service is not connected to the economy, but investors nonetheless appear giddy regarding disruptors’ potential returns. (…)

Whereas the disruptor stocks sell at huge premiums to the overall market because investors believe the stocks’ successes are assured, traditional high beta stocks within the S&P 500 are selling at the cheapest relative valuations in the almost 30-year history of our data. Judging by these data, investors are historically scared about traditional market risk.

High beta S&P 500 portfolios were historically dominated by technology shares, but that is no longer the case. Currently, the quintile of S&P 500 stocks with the highest betas is a mixture of many cyclical sectors. Technology comprises only 15 per cent of today’s high beta group. Financials are 23 per cent, consumer cyclicals are 24 per cent and industrials are 15 per cent.

(…) The IPO market seems very speculative, but one must take care in extrapolating those lofty valuations to the broader market. The enthusiasm for disruptor stocks seems manic, but the lack of enthusiasm for traditional equity risk presents opportunity.

Earnings Expectations Plummeting In Europe

Analysts’ consensus earnings expectations for the EMU continued to plummet through the week of June 19. The estimates for 2014 and 2015 are down 7.0% and 5.0% ytd. Forward earnings has been flat-lining for over a year and remains well below the 2007 record high and the last cyclical peak in early 2011. Forward earnings has been flat to down for all the major core and peripheral countries of the EMU since 2011.

The rebound in the EMU MSCI stock price index since the summer of 2011 has been all attributable to an 87% increase in the forward P/E from 7.6 to 14.2. The forward P/Es are especially elevated for the Eurozone’s peripheral countries. Here’s the latest forward P/E derby: Greece (32.4), Ireland (19.2), Portugal (19.1), Belgium (16.8), Finland (16.5), Spain (15.6), Netherlands (14.6), Italy (14.5), France (14.1), Germany (13.0), and Austria (11.6).

It’s the same story for the United Kingdom: Earnings estimates have been falling sharply for 2014 and 2015. Yet the UK MSCI stock index is back at its previous two cyclical peaks. The rally since the summer of 2011 was all led by a 68% increase in the forward P/E from 8.1 to 13.6.

Deals deals deals

Global M&A volume is $1.75tn so far this year, according to Dealogic’s preliminary assessment of the first half. That compares to $1.3tn a year ago, but the heady heights of 2007, when $2.6tn of deals were struck, remain distant.

U.S. Set to Export First Oil Since ’70s The Obama administration cleared the way for the first exports of unrefined American oil in nearly four decades, allowing companies to start chipping away at the longtime ban on selling U.S. oil abroad.

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Walgreen Considers Move Abroad to Cut Taxes

Walgreen Co. WAG -1.70% ‘s Chief Executive Greg Wasson on Tuesday said for the first time that the company is weighing moving outside of the U.S., as it considers buying the shares it doesn’t already own in European pharmacy Alliance Boots GmbH.

Under pressure from shareholders to use a merger with Alliance Boots to cut its tax bill through a so-called inversion, Mr. Wasson said the company is looking at how to structure its tax liabilities as part of its discussions over whether to buy the remaining 55% of Alliance Boots it doesn’t already own.

NEW$ & VIEW$ (24 JUNE 2014)

SHOWTIME UPDATE
  • The U.S. economy is showing clear signs of “lifting off”. The latest manufacturing flash PMI was very, very strong, there are more and more signs that capex are being raised, bank loans are accelerating (+9.2% a.r. in past 21 weeks), unemployment claims near a 7-year low.
  • Chain store sales jumped 2% last week, bringing the 4-wk moving average up 3.3% Y/Y, its best gain since January 2013.

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There is clearly no summer swoon in the U.S. this year. The Eurozone seems to maintain its slow recovery while China’s recent flash PMI was more encouraging.

  • First Call’s earnings revisions index surged to 57.5 last week.
U.S. Existing Home Sales Improve to Seven-Month High

Sales of existing single-family homes in May jumped 4.9% (-5.0% y/y) to 4.890 million (AR) from 4.660 million in April, earlier reported as 4.650 million. Despite the increase, however, sales remained 9.1% below the peak reached last July.

Distressed homes – foreclosures and short sales – accounted for 11 percent of May sales, down from 18 percent in May 2013. Eight percent of May sales were foreclosures and three percent were short sales. Foreclosures sold for an average discount of 18 percent below market value in May, while short sales were discounted 11 percent.

The percent share of first-time buyers represented 27% of all buyers in May, down from 29% in April (same as in April 2013).

The inventory of unsold homes rose 2.2% last month (6.0% y/y) to 2.280 million but remained 43.6% below the 2007 peak.

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The WSJ adds this interesting info:

Sales of homes priced above $1 million, an admittedly small and thus volatile cohort, was the only segment of the market to see year-over-year increases in existing home sales in May.

And Zerohedge provides the last bit of info:

(…) In fact, on a price bucket basis, the May data was uniformly worse than April (chart below)!

The logical follow up question: what is the total percentage of sales by given price bucket? The answer, once again, below.

Fingers crossed Ray of hope for housing: ISI’s homebuilders survey has bounced back significantly.

Meteorologists shift tone on El Niño Commodity investors hold breath over global weather conditions

In its latest bulletin the Australian Bureau of Meteorology maintained the strong likelihood of El Niño – the warming of parts of the Pacific Ocean – developing this year, but it noted that “in the absence of the necessary atmospheric response, warming has levelled off in recent weeks”.

The bureau added that the areas of warm water in the Pacific were counter to typical patterns for the weather phenomenon.

The International Research Institute for Climate and Society at Columbia University has also said that although during May through to mid-June conditions were near the borderline of a weak El Niño condition in the ocean, the necessary changes in the atmosphere had yet to occur.

Traders are still considering what this actually means for the weather later in the year, but they are also likely to become more cautious as the gains over the past six months in some commodities, such as cocoa, have been driven by the El Niño outlook.

Another weather event closely linked to El Niño which will be crucial to several commodities is the Indian monsoon.

El Niño tends to lead to a weaker monsoon, and accordingly India’s Meteorological Department has predicted below average rainfall.

But a closer look at the data shows that the two weather events may not necessarily be so closely correlated. (…)

Bets Rise on Stock Bumps Ahead A gauge of expected market volatility last week hit its lowest level since 2007, adding to losses for investors wagering on swings. Yet many traders are sticking to their bets that the placid stretch is ending.
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The Dow Jones Industrial Average has gone 32 months without a 10% decline, the fifth-longest run on record. The S&P 500 hasn’t closed up or down 1% in 46 days, the longest stretch since 1995.

Yet the number of outstanding options contracts that profit from a rise in VIX futures ended Wednesday at its highest level since January’s all-time high, at 8.1 million, according to Trade Alert. Many traders are betting the market has become too calm and that volatility is overdue for a spike. (…)

Energy Sector Goes Wild

Big Investors Missed Stock Rally Corporate pension funds and university endowments have missed out on much of the rally for stocks since 2009, following a push to diversify into other investments that have had disappointing performances.

The institutions, ranging from large corporations such as General Motors Co.GM +1.24% to big universities such as Harvard, have been shifting to hedge funds, private equity and venture capital. But while these alternative investments outpaced stocks during 2008’s market meltdown and are seen as potentially less volatile, they have badly lagged behind the S&P 500 since 2009, a period in which U.S. stock indexes have more than doubled. (…)

The recent poor showing has put a spotlight on pension funds and endowments that have turned away from stocks for more than a decade, including the period after the market’s plunge, when stocks became inexpensive relative to their earnings. (…)

The average college endowment had 16% of its investment portfolio in U.S. stocks as of the end of June 2013, the most recent academic year, according to a poll of 835 schools conducted by Commonfund, an organization that helps invest money for colleges. That is down from 23% in 2008 and 32% a decade ago. The 18% allocation to foreign stocks didn’t change in that period. Schools in the poll, which collectively manage nearly $450 billion, had 53% of their funds in alternative strategies, up from 33% in 2003.

The average allocation of corporate pension funds to stocks was 43% at the end of last year, down from 61% at the end of 2003, according to J.P. Morgan Chase JPM +1.11%& Co. The average public pension fund had 52% of its portfolio in stocks at the end of 2013, down from 61% at the end of 2003, J.P. Morgan said.

While stockholdings have shrunk, alternative investments made up 25% of the portfolios of public pension funds, up from 10% a decade ago. Corporate funds had 21% of their money in alternative investments, up from 11% at the end of 2003, J.P. Morgan said. Hedge funds and private-equity firms can use a range of strategies, including betting against stocks and buying and selling companies.

The shifts haven’t worked out lately. Since the start of 2009, when the market began rallying, the S&P 500 has climbed 137%, including dividends, to record levels. By contrast, the average hedge fund is up 48%, according to research firm HFR Inc., while the average hedge fund that is focused on stocks has risen 57%. Over that same time, private-equity funds have climbed 109% on average, while venture-capital funds rose 81%, according to Cambridge Associates. (…)

Placing money with hedge funds once was viewed as risky; today, a mix of stocks, bonds and cash is seen as more dangerous, industry members said, partly because alternative investments held up better during the financial crisis and are seen as more dependable investments. (…)