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 (2 March 2018):

Q1 is off to a weak start at the consumer end:

U.S. Light Vehicle Sales Ease Further

Total sales of light vehicles during February slipped 0.5% (-2.2% y/y) to 17.08 million units (SAAR), following a 3.9% January fall to 17.16 million units, according to the Autodata Corporation. Last month’s sales compared to an 18.57 million September high and were at the lowest level in six months.

Light truck sales eased 0.4% (+3.9% y/y) to 11.35 million units after a 3.1% January drop. Sales of domestically made light trucks fell 1.6% (-0.9% y/y) to 9.08 million units after a 4.0% January decline. Imported light truck sales rose 4.6% (28.7% y/y) to a record high 2.27 million units.

Trucks’ share of the U.S. vehicle market rose slightly to a record 66.5% in February, up from 63.2% during all of last year and from 47.3% in 2009. (…)

Imports’ share of the U.S. vehicle market rose to 22.6% last month from a 19.9% low during all of 2015. (…)

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Powell Bullish on Economy, but Sees No Signs of Overheating

(…) “Nothing in that suggests to me that wage inflation is at a point of acceleration,” he said. Mr. Powell said the Fed sees the potential for positive and negative economic surprises as roughly balanced. (…)

Mr. Dudley said tariffs could boost domestic inflation, forcing the Fed to re-evaluate its interest-rate forecasts, though he declined to comment specifically on any current White House plans.

While increased global trade since the turn of the century took a sharper toll on certain U.S. communities than economists had anticipated, Mr. Powell said there were better ways to support those hurt by competition from imports than to impose tariffs that could impose costs more broadly across the economy.

“The tariff approach is not the best approach,” he said, while declining to comment specifically on Mr. Trump’s plans.

Tariffs Could Ripple Through U.S. Economy Plans for steep tariffs on imported steel and aluminum raise concern among American industries about higher costs and retaliation

(…) The impact on metals-consuming industries will also hinge on whether the administration grants exemptions to some exporting nations.

Some industries are already lining up for those exemptions. The Beer Institute, a trade group, called for “cansheet” aluminum to be excluded from any new trade barriers. “Imported aluminum used to make beer cans is not a threat to national security,” said Jim McGreevy, the group’s president. (…)

Remy Nathan, vice president for international affairs at the Aerospace Industries Association, said higher costs and retaliatory measures could disrupt global supply chains and hit exports, denting the aerospace and defense industries’ $86 billion trade surplus last year. (…)

Caterpillar executives have said tariffs could drive up prices for domestic steel and make it costlier for it to produce mining trucks, bulldozers and other equipment.

Steel is the largest input cost for big machinery producers, accounting for around 65% of raw material expenses at Caterpillar, with aluminum adding another 10%, according to JPMorgan analyst Ann Duignan. She estimates agricultural equipment makers such as Deere are even more exposed to raw material inflation, unless they can claw back costs through higher sale prices. (…)

Some auto makers and parts suppliers reacted to Thursday’s announcement with alarm. The Motor Equipment Manufacturers Association, the chief automotive components supplier trade group, said the new tariffs would endanger jobs and raise costs. (…)

Meanwhile, farm groups feared Mr. Trump’s move would invite retaliation against U.S. crop exports, after China recently raised the prospect of tariffs on sorghum, a grain used in livestock feed. (…)

“The agriculture sector knows from experience that our ag exports are the first to be hit by retaliation,” Mr. Kuehl said.

(…)“More workers in the U.S. make products that are made from steel, than make steel itself.” (…) “A trade deficit doesn’t subtract from growth — only a growing trade deficit subtracts from growth, and our trade deficit is about where it was over a decade ago,” Zandi said. “It could be disastrous if it our trading partners decide to respond in kind or worse.” (…)

(…) “When a country (USA) is losing many billions of dollars on trade with virtually every country it does business with, trade wars are good, and easy to win,” Trump said in an early morning tweet on Friday. (…)
 

With Lumber in Short Supply, Record Costs Set to Juice Home Prices

Lumber prices started rising last year after fires destroyed prime forests and a trade dispute between the U.S. and Canada restricted supplies. Now a shortage of railcars and trucks is forcing builders to pay even more. (…)

Marc Towne of Classic Homes, which builds midrange to high-end houses in Colorado Springs, Colo., said he is spending $8,500 more on lumber for a typical home than a year ago, an increase of almost 40%. The company’s passing on about half the cost to buyers for now while it waits to see if lumber prices fall. (…)

Material prices now rival labor shortages as builders’ main concerns, a National Association of Home Builders survey showed in January. Prices for common building varieties like spruce and southern pine are at or near records, according to price-tracking publication Random Lengths. March-dated lumber futures at the Chicago Mercantile Exchange hit a record of $532.60 per 1,000 board feet last week after climbing more than 50% in 14 months.

That run-up began with a trade dispute between the U.S. and Canada, which provides about a third of U.S. timber, leaving many dealers hesitant to restock at elevated prices. The Trump administration eventually instituted tariffs of 20% or more on Canadian sawmills. (…)

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Meanwhile, food costs are rising. Last 2 months:

Japan’s Jobless Rate at Quarter-Century Low
P&G Contends Too Much Digital Ad Spending Is a Waste World’s biggest advertiser slashed digital ad spending by $200 million last year

(…) Once armed with more measurement data, P&G discovered that the average view time for a mobile ad appearing in a news feed, on platforms such as Facebook , was only 1.7 seconds. The Cincinnati-based company also realized some people were seeing P&G ads far too many times. (…)

The company said it hasn’t reduced its overall advertising spending and has shifted those digital dollars into other areas including TV, streaming services such as Pandora MediaInc., and e-commerce giants such as Amazon.com Inc. and China’s Alibaba. (…)

Xi’s Warning to Investors: Any Chinese Billionaire Could Fall

THE DAILY EDGE (1 March 2018): PMIs still inflationay

U.S. After-Tax Incomes Rise Due to Tax-Code Changes, Spending Slows Americans’ after-tax incomes jumped in the first month the new tax law took effect, but U.S. consumer spending slowed in January.

Personal income—reflecting Americans’ pretax earnings from salaries, investments and other sources—rose 0.4% in January from December, matching the prior month’s gain, the Commerce Department said Thursday.

But after-tax income rose 0.9%, matching the largest monthly gain since December 2012, another month when tax-law changes caused earnings to shift. The Commerce Department estimated that the changes to the tax code reduced personal taxes paid at a $115.5 billion annual rate in January.

The department also increased its estimate of earnings by $30 billion, based on companies announcing bonuses early this year. The department said the estimates could be revised later this year.

Despite the income increase, household outlays rose at a slower pace.

Personal consumption expenditures, a measure of household spending on everything from doctor visits to groceries, increased a seasonally adjusted 0.2% in January from the prior month, the Commerce Department said Thursday. It matched the smallest monthly increase since June. (…)

When factoring in stronger inflation, consumer spending fell 0.1% in January, the first decline in a year.

The personal-saving rate was 3.2% in January, up significantly from 2.5% in December.

The price index for personal consumption expenditures, the Federal Reserve’s preferred inflation measure, advanced 0.4% in January from a month earlier. From a year earlier, the price index advanced 1.7%. The annual gain was the same as recorded in December and November.

Prices excluding the often-volatile food and energy categories rose a seasonally adjusted 0.3% in January. That matched January 2017 and several other months as the strongest one-month increase since January 2007.

From a year earlier, so-called core prices advanced 1.5%. Core prices have advanced at that same annual rate since October. (…)

Pretax income is growing at a solid and sustained 4%+ rate and is now getting the tax reform boost. Core PCE inflation looks stable at +1.5% YoY but the monthly trend is up at a 2.4-3.0% annualized clip. Two more 0.2% monthly gains and the YoY change will reach 2.0% in March.image

Meanwhile, PMI surveys continue to point to increased pricing power, need and willingness to raise prices by manufacturers.

The PMIs:

February survey data signalled one of the strongest improvements in the health of the U.S. manufacturing sector seen over the past three years, led by a sharp expansion in new orders. Meanwhile, inflationary pressures intensified with rates of both input and output price inflation reaching multi-year highs. At the same time, business confidence towards output in the year-ahead improved, which supported further widespread job creation.

The seasonally adjusted IHS Markit final U.S. Manufacturing Purchasing Managers’ Index™ (PMI™) registered 55.3 in February, down slightly from 55.5 in January. Although below January’s 34-month high, the overall improvement in operating conditions across the manufacturing sector was one of the strongest recorded since late-2014.

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Growth of manufacturing output remained solid in February, despite easing slightly to a three-month low. The sustained upturn in production was widely linked to greater client demand and increased order book volumes.

New business received by manufacturers expanded at a faster pace in February, with growth reaching a 13-month high. The steep upturn was commonly attributed to the acquisition of new clients and successful marketing strategies. New business from abroad also rose further in February, albeit at a slightly slower pace than January.

Input prices increased at the fastest pace since December 2012, reportedly driven by supplier shortages and greater global demand for inputs. Supply chain delays were among the highest seen over the past three years. Where possible, panellists reported that costs were passed onto clients through higher charges. Factory gate price inflation accelerated to the fastest for over four years. (…)

The survey’s output index readings for the first two months of 2018 are indicative of the sector growing at an annualised rate of just under 3%. (…)

The final IHS Markit Eurozone Manufacturing PMI® eased to a four-month low of 58.6 in February, down from 59.6 in January, better than the earlier flash estimate of 58.5 and well above its long-run average of 51.8. (…)

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The upturn remained broad-based by sector, with growth seen across the consumer, intermediate and investment goods industries. The strongest rate of increase was signalled by the PMI for the investment goods category, followed by intermediate goods and then consumer products. However, rates of increase eased across all three sectors.

National PMI data also highlighted the broad-base of the upturn, with expansions seen in all of the countries covered. (…)

New orders and new export business both rose at weaker (albeit still solid) rates. The latter reflected, at least in part, the impact of the recent appreciation in the euro exchange rate. (…)

Input price inflation across the eurozone manufacturing sector eased from January’s 81-month high in February, but remained marked overall. In contrast, average output charges rose at the quickest pace in almost seven years. Rates of increase in both price measures were higher in the intermediate and investment goods sectors compared to consumer goods producers. (…)

Business conditions continued to improve across China’s manufacturing sector in February. Although growth in production softened from that seen in January, total new work expanded at a slightly faster pace. Meanwhile, companies continued to shed staff as part of efforts to reduce costs, which contributed to a further rise in the level of outstanding work.

Although the rate of input price inflation eased further in February, it remained sharp overall and remained much stronger than that seen for output charges. Business sentiment remained strongly positive in February, with the degree of optimism reaching an 11-month high.

Adjusted for seasonal factors, including the Chinese New Year, the headline Purchasing Managers’ Index™ (PMI™) edged up to 51.6 in February, from 51.5 in January, to signal a further improvement in the health of the sector. Though only modest, the latest reading signalled the strongest improvement in operating conditions for six months. (…)

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The health of the Japanese manufacturing sector continued to improve during February, sustaining an upward trend that has been apparent for the past 18 months. A broad-based rise in new orders underpinned a solid upturn in production and an 11-year high in the rate of job creation. However, firms noted difficulties in acquiring additional raw materials due to shortages and delayed deliveries.

In turn, backlogs of work increased, prompting firms to use inventories to meet demand. Input costs rose sharply in February, encouraging firms to raise selling charges to a relatively marked extent.

The headline Nikkei Japan Manufacturing Purchasing Managers’ IndexTM (PMI)® edged slightly lower to 54.1 in February, from 54.8 in January. This was consistent with a solid, albeit weaker, rate of improvement in business conditions for Japanese manufacturers. (…)

Average lead times lengthened markedly in February and to the sharpest extent in 81 months, signalling intensified pressures on supply chains. Robust demand conditions also forced firms to use post-production inventories to fulfil incoming orders. (…)

Consequently, firms raised selling prices in an effort to pass part of the higher cost burden onto their customers. The rate of output price inflation, albeit weaker, remained relatively strong.

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Jobless Claims in U.S. Drop to Lowest in Almost Five Decades
U.S. Pending Home Sales Cool

The National Association of Realtors (NAR) reported that pending home sales fell 4.7% (-3.8% y/y) in January to an index level of 104.6 (2001=100). This is the lowest level since October 2014 and is down 7.5% from its current-cycle peak in April 2016. However, over the last year pending home sales have been bouncing between roughly 110 and 105. The National Association of Realtors noted that January’s weakness was hampered by “woefully low supply levels and the sudden increase in mortgage rates”.

Pending sales were down in all regions led by a 9.0% (-12.1% y/y) drop in the Northeast. Sales in the Midwest fell 6.6% (-4.1% y/y), while sales in the South and West were down 3.9% (-1.1% y/y) and 1.2% (-2.5% y/y) respectively. Sales in the Northeast and Midwest hit multiyear lows, suggesting weather affects. January’s U.S. population weighted heating degree days was at its highest level since January 2014.

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Year-End Growth Revised Down; First Quarter Looks Set to Slow Even More U.S. economic growth was slightly weaker than initially thought during the fourth quarter, and is on track to slow in the beginning of 2018.

Gross domestic product, a broad measure of the goods and services produced across the U.S., rose at a 2.5% seasonally and inflation-adjusted annual rate in the fourth quarter, the Commerce Department said Wednesday. The agency in January estimated last quarter’s growth rate at 2.6%.

The government’s estimate of output was reduced because companies drew more from their inventories than previously estimated, meaning they had less to produce. Business investment also was slightly weaker than initially reported, growing at a 6.6% rate last quarter versus an originally reported 6.8%. (…)

Another measure of GDP that some economists think better reflects underlying demand in the economy—real final sales—was raised to show a 3.3% gain in the fourth quarter from a previously reported 3.2% increase, the strongest rate since mid-2015. (…)

U.S.Set to Impose Stiff Steel, Aluminum Tariffs
SENTIMENT WATCH
Why an Unpleasant Inflation Surprise Could Be Coming There is a plausible, if unlikely, scenario in which inflation marks a new, dangerous trend
Investors Bet Against Treasurys as Bond Market Anxiety Intensifies Bond investors remain on edge after last month’s big price swings across financial markets, with bearish bets on U.S. Treasury futures prices reaching new highs.

(…) Such pressures include the prospect of future interest rate increases, concerns about accelerating inflation—which chips away at the purchasing power of bonds’ fixed payments—and a widening federal budget deficit pushing the Treasury Department to boost debt sales, increasing the supply of bonds. (…)

Those nerves are evident in recent data on Treasury futures, which showed investors recently accumulated the biggest wager that yields on 10-year Treasurys will rise since 2003, when the government began tracking the data, according to a JPMorgan Chase report parsing data across different Treasury maturities from the Commodity Futures Trading Commission. (…)

Another Big Hitter Joins Dalio, Gross in Calling Bond Bear Market

Hedge-fund veteran Paul Tudor Jones has joined the growing chorus of big hitters in the fixed-income world warning that bonds are well and truly in a bear market.

He sees 10-year U.S. Treasury yields rising to 3.75 percent by year-end as a “conservative” target given that supply outweighs demand, economic momentum is outpacing the monetary policy response, and that bond valuations are “glaring.” (…)

Let me describe to you where I think Jerome Powell is right now as he takes the reins at the Fed. I would liken Powell to General George Custer before the Battle of the Little Bighorn, looking down at an array of menacing warriors.

On the left side of the battlefield are the Stocks—the S&P 500s, the Russells, and the NASDAQs—which have grown, relative to the economy, to their largest point not just in US history, but in world history. They have generally been held at bay and well-behaved, but they are just spoiling to show their true color: two-way volatility. They gave you a taste of that in early February.

Look to the middle and there waits the army of Corporate Credit, which is also larger than ever relative to the economy, as ultra-low rates have encouraged it to gain in size, stature, and strength. This army is a little more docile right now, but we know its history, and it can be deadly when stressed.

And then on the right are the Foreign Currency Fighters, along with the Crypto Tribe, an alternative store of value that only exists because of the games central banks are playing; the opportunity cost of Crypto is so low, why not own some? The Foreign Currency Fighters have strengthened by 10% over the past year. Compounding the problem, they have a powerful, ascending leader, the renminbi, to challenge the US dollar’s hegemony as the reserve currency. All of these forces have been drawn to the battlefield because of our policy experiment with sustained negative real rates.

So Powell looks behind him to retreat. But standing there is none other than Inflation Nation, led by the fiercest warmongers of them all: the Commodities. He might take comfort that he is not alone on the battlefield. But then he looks over at the Washington, DC, fiscal battalion and realizes they are drunk on 5% deficit beer. That’s what Powell is facing, whether he recognizes it or not. And how he navigates this is going to be fascinating to watch.

Dividends Climb, as Does Competition From Bond Yields More than a fifth of the S&P 500 have boosted their payouts this year, but higher bond yields threaten to diminish the allure of high-dividend stocks

(…) The yield on the two-year U.S. Treasury note surpassed the income investors could earn from dividends on the S&P 500 in December for the first time since the throes of the financial crisis in September 2008. The spread between the two has continued to widen this year with two-year bonds touching a high of 2.27% in February, nearly half a percentage point greater than what the S&P 500 had been yielding. (…)

Surge in Buybacks Renews Debate Over Tax-Cut Benefits U.S. companies are buying back their shares at an aggressive pace, stirring debates in Washington and on Wall Street about how savings from corporate tax cuts are being used and who benefits most.

Share buybacks announced by large U.S. companies have exceeded $200 billion in the past three months, more than double the prior year, according to a Wall Street Journal analysis of data for S&P 500 companies. (…)

Of the companies in the S&P 500, about 44% have said they plan to reinvest some portion of their tax gains into capital expenditures or wages, while 28% said they would use them to increase shareholder returns, Morgan Stanleyfound in an analysis of earnings transcripts. Its own analysts expect companies to spend about 43% of their savings on buybacks and dividends, and 30% on capital expenditures and labor. (…)