All Eyes On The September Jobs Report

All Eyes On The September Jobs Report

Today’s Big Picture

US market futures point to a modestly lower open Friday morning. After the disappointing manufacturing and services data this week, all eyes will be on today’s Nonfarm Payrolls report, which is expected to see 145,000 jobs added in September, up from 130,000 in August with the unemployment rate holding at 3.7% and wages gaining +0.2%. Keep in mind that the General Motors (GM) strike will add some confusion to the data as striking workers aren’t counted in payrolls.

We’ll also be looking for any updates on the previous downward revisions to payrolls. In August the BLS cut job gain estimates for 2018 and early 2019 by about 500,000, the largest such downward revision in the past decade. Overall we’ve seen downward revisions for around 17 months – a sure sign that labor market dynamics ...

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Apple’s negative pre-announcement serves as a reminder to the number of risks that have accumulated

Apple’s negative pre-announcement serves as a reminder to the number of risks that have accumulated

 

We are “breaking in” to share my thoughts with you on the implications of Apple’s (AAPL) downside December quarter earnings news last night. Quickly this is exactly of what I was concerned about in early December, but rather than take a victory lap, let’s discuss what it means and what we’re going to do. 

Last night we received a negative December quarter earnings preannouncement from Apple (AAPL), which is weighing on both AAPL shares as well as the overall market. It serves as a reminder to the number of risks that have accumulated during the December quarter – the slowing global economy, including here at home; the US-China trade war; Brexit and other geopolitical uncertainty in the eurozone; the strong dollar; shrinking liquidity and a Fed that looks to remain on its rate hike path while also unwinding its balance sheet. Lenore Hawkins and I talked about these at length on the Dec. 21 podcast, which you can listen to here.

In short, a growing list of worries that are fueling uncertainty in the market and in corporate boardrooms. When the outlook is less than clear, companies tend to issue conservative guidance which may conflict with Wall Street consensus expectations. In the past when that has happened, it’s led to a re-think in growth prospects for both the economy, corporate profits and earnings, the mother’s milk for stock prices.

These factors and what they are likely to mean when companies begin issuing their December quarter results and 2019 outlooks in the coming weeks, were one of the primary reasons we added the ProShares Short S&P 500 (SH) shares to our holdings in just under a month ago. While the market fell considerably during December, our SH shares rose 5% offering some respite from the market pain. As expectations get reset, and odds are they will, we will continue to focus on the thematic tailwinds and thematic signals that have been and will remain our North Star for the Thematic Leaders and the larger Select List.

 

What did Apple have to say?

In a letter to shareholders last night, Apple CEO Tim Cook shared that revenue for the quarter would come in near $84 billion for the quarter vs. the consensus estimate of $91.5 billion and $88.3 billion, primarily due to weaker than expected iPhone sales. In the letter, which can be read here, while Apple cited several known headwinds for the quarter that it baked into its forecast such as iPhone launch timing, the dollar, supply constraints, and growing global economic weakness, it fingered stronger than expected declines in the emerging markets and China in particular.

Per the letter, most of the “revenue shortfall to our guidance, and over 100 percent of our year-over-year worldwide revenue decline occurred in Greater China across iPhone, Mac, and iPad.”

Cook went on to acknowledge the slowing China economy, which we saw evidence of in yesterday’s December Markit data for China. Per that report,

“The Caixin China General Manufacturing PMI dipped to 49.7 in December, the first time since May 2017 that the reading has been below 50, the mark that separates expansion from contraction. The sub-index for new orders slid below the breakeven point of 50 for the first time since June 2016, reflecting decreasing demand in the manufacturing sector.”

In our view here at Tematica, that fall in orders likely means China’s economy will be starting off 2019 in contraction mode. This will weigh on corporate management teams as they formulate their formal guidance to be issued during the soon to be upon us December quarter earnings season.

Also, in his letter, Cook called out the “rising trade tensions with the United States”  and the impact on iPhone demand in particular.

In typical Apple fashion, it discussed the long-term opportunities, including those in China, and other positives, citing that Services, Mac, iPad, Wearables/Home/Accessories) combined to grow almost 19% year-over-year during the quarter with records being set in a number of other countries. While this along with the $130 billion in cash that Apple has on its balance sheet exiting the December quarter, bode well for the long-term as well as its burgeoning efforts in healthcare and streaming entertainment, Apple shares came under pressure last night and today.

 

Odds are there will more negative earnings report to come

In light of the widespread holding of Apple shares across investor portfolios, both institutional and individual, as well as its percentage in the major market indices, we’re in for some renewed market pressure. There is also the reality that Apple’s decision to call out the impact of U.S.-China trade will create a major ripple effect that will lead to investors’ renewed focus on the potential trade-related downside to many companies and on the negative effect of China’s slowing economy.

In recent months we’ve heard other companies ranging from General Motors (GM) to FedEx (FDX) express concerns over the trade impact, but Apple’s clearly calling out its impact will have reverberations on companies that serve markets tied to both the smartphone and China-related demand. Overnight we saw key smartphone suppliers ranging from Skyworks Solutions (SWKS) and Qorvo (QRVO) come under pressure, and the same can be said for luxury goods companies as well. We’d note that Skyworks and Qorvo are key customers for Select List resident AXT Inc (AXTI, which means if we follow the Apple revenue cut through the supply chain, it will land on AXT and its substrate business.

All of the issues discussed above more than likely mean Apple will not be the only company to issues conservative guidance. Buckle up, it’s going to be a volatile few weeks ahead.

 

Positives to watch for in the coming weeks and months

While the near-term earnings season will likely mean additional pain, there are drivers that could lift shares higher from current levels in the coming months. These include a trade deal with China that has boasts a headline win for the US, but more importantly contains positive progress on key issues such as R&D technology theft, cybercrimes and the like – in other words, some of the meaty issues. There is also the Federal Reserve and expected monetary policy path that currently calls for two rate hikes this year. If the Fed is data dependent, then it likely knows of the negative wealth effect to be had following the drop in the stock market over the last few months.

Per Moody’s economist Mark Zandi, if stocks remained where there were as of last night’s close, it would equate to a $6 trillion drop in household wealth over the last 12-15 months. Per Zani, that would trim roughly 0.5% to 2019 GDP – again if the stock market stayed at last night’s close for the coming weeks and months. As we’re seeing today, and given my comments about the upcoming earnings season, odds are that 2019 GDP cut will be somewhat larger. That would likely be an impetus for the Fed to “slow its roll” on interest rates or at least offer dovish comments when discussing the economy.

Complicating matters is the current government shutdown, which has both the Census Bureau and Bureau of Economic Analysis closed. Even though there will be some data to be had, such as tomorrow’s December 2018 Employment Report from the Labor Department, it means the usual steady flow of economic data will not be had until the government re-opens. No data makes it rather difficult to judge the speed of the economy from all of us, including the Fed.

Given all of the above, we’ll continue to keep our more defensive positions companies like McCormick & Co. (MKC), Costco Wholesale (COST), and the ProShares Short S&P 500 shares intact. We’ll continue to watch input costs and what they mean for corporate profits at the margin – case in point is Del Frisco’s (DFRG), which is benefitting from not only falling protein costs but has been approached by an activist investor that could put the company in play. With Apple, Dycom Industries (DY), and AXT, we will see 5G networks lit this year here in the US, which will soon be followed by other such networks across the globe in the coming years. Samsung, Lenovo/Motorola and others have announced 5G smartphones will be shipping by mid-2019, and we expect Apple to once again ride that tipping point in 2020. That along with its growing Services business and other efforts to increase the stickiness of iPhone (medical, health, streaming, payments services), keeps us long-term bulls on AAPL shares.

When not if but when, the stock market finds its footing, which likely won’t be until after the December quarter earnings season at the soonest, we will look to strategically scale into a number of positions for the Thematic Leaders and the Select List.

 

WEEKLY ISSUE: The Cherry on Top of Apple’s Quarter Earnings Beat

WEEKLY ISSUE: The Cherry on Top of Apple’s Quarter Earnings Beat

 

Key Points from this Alert:

  • After March quarter earnings that shut down the doomsayers, an upsized capital return program and ahead of the upcoming WWDC 2018 event in June, our price target on Apple (AAPL) shares remains $200.
  • What’s the Fed likely to say later today?
  • We are scaling into AXT (AXTI) shares on the Tematica Investing Select List at current levels and keeping our long-term $11 price target intact.
  • We are also adding to our position in LSI Industries (LYTS) shares at current levels, and our price target remains $11.

 

Apple delivers for the March quarter and upsizes its capital return program

Last night in aftermarket trading, Apple (AAPL) shares popped more than 3% after closing the day more than 2% higher as Apple delivered a March quarter that was a sigh of relief to many investors. More specifically Apple served up results on the top and bottom line that were ahead of expectations, guided current quarter revenue ahead of expectations and upsized not only its share repurchase program, but its dividend as well. Heading into the earnings report, investors had become increasingly concerned over iPhone shipments for the quarter, particularly for the iPhone X, following recent comments on high-end smartphone demand from Taiwan Semiconductor (TSM), Samsung and others. That set a low sentiment bar, which the company once again walked over.

What Apple delivered included iPhone shipments modestly ahead of expectations – 52.2 million vs. 52.0 million – and an average selling price that fell $70 to $729. Down but certainly not the disaster that many had fretted for the iPhone X. iPad shipments were also stronger than expected and Apple continued to grow its Services business with Mac sales in line with analyst forecasts. Looking at the Services business, Apple is well on track to deliver on its $50 billion revenue target by 2021 and that’s before we factor in what’s to come from its recent acquisitions of Shazam and Texture as well as its burgeoning original content moves. In my view, that original content move, which replicates a strategy employed by Netflix (NFLX) and Amazon (AMZN), will make Apple’s already incredibly sticky devices even more so.

Think of it as Tematica’s Content is King investing theme meets Connected Society and Cashless Consumption… and yes, I need a better name for that three-pronged tailwind combination.

On the guidance, Apple put revenue ahead of consensus expectations and signaled a modest dip in gross margins due to the memory pricing environment. Even so, the sequential comparison for revenue equates to a quarter over quarter drop of 12.5%-15.5%, which likely reflects a mix shift in iPhones toward non-iPhone models. Pretty much as expected and far better than the doomsayers were predicting.

The bottom line on the March quarter results and June quarter outlook was investors fretted about the iPhone X to an extreme degree… an overreactive degree… forgetting the company has a portfolio of iPhone products as well as other products and services. Some may see the report as giving investors a sigh of relief, but I see it more as a reminder that investors should not count Apple out as we move into an increasingly digital lifestyle.

Is the company still primarily tied to the iPhone? Yes, but it is more than just the iPhone and that is something that will become more apparent in the coming year. We’re apt to see more of that in a month’s time at the company’s annual World-Wide Developer Conference, which several months later will be followed by what continues to sound like an iPhone product line up with refresh with several models at favorable price points.

The added cherry on top of the company’s meet to beat quarter and outlook was the incremental $100 billion share repurchase program and the 16% increase in the dividend. That dividend boost brings the company’s annual dividend to $2.92 per share, which equates to a dividend yield of 1.7%. Looking at dividend yields over the last few years applied to the new dividend supports our $200 price target for Apple shares.

  • After March quarter earnings and ahead of the upcoming WWDC 2018 event in June, our price target on Apple (AAPL) shares remains $200.

 

What’s the Fed likely to say later today?

While many were focused on Apple’s earnings, others, like myself, were also getting ready for the Fed’s latest monetary- policy meeting, which concludes today. Market watchers expect the FOMC to leave interest rates unchanged, but recent data (as well as some comments that company executives have made this earnings season) suggest that we’re seeing a pickup in U.S. inflation.

For example, Caterpillar (CAT) last week shared that its margins likely peaked during the first quarter due to rising commodity prices, most notably steel. Meanwhile, the April IHS Markit Flash U.S. Composite Purchasing Managers Index report last week showed that average prices for goods and services “increased solidly. The rate of input price inflation was the quickest since July 2013.”

And on the manufacturing side, the report noted that “price pressures within the factory sector intensified, with the rate of input-cost inflation picking up to the fastest since June 2011.” Markit also wrote that the services sector “witnessed its average cost burdens climbing month over month as well.”

We also learned just this week that the U.S. Personal Consumption Expenditures Price Index (which happens to be the Fed’s preferred inflation metric) rose 2.4% year over year. While that’s down a few ticks from February’s 2.7%, the PCE came in well above the Fed’s 2% inflation target for the second month in a row.

And lastly, the April ISM Manufacturing Index’s price component edged up to 79.3 from 78.1 in March, easily marking 2018’s highest level so far.

All of these figures have likely caught the Fed’s eyes and ears. Make no mistake about it — the central bank will review them with a fine-toothed comb. The FOMC came out of its last policy meeting rather divided as to the number of rate hikes it expects for 2018. Some FOMC members preferring the three hikes that markets widely expect, but others on the committee increasingly leaned toward four.

In the grand scheme of things, four vs. three rate hikes isn’t a “yuge deal” (as President Donald Trump would say). In fact, more investors are likely expecting the higher numbers of hikes given the recent inflationary economic data. But that’s just the investor base. Odds are that any language in the FOMC’s post-meeting communique that points to an upsized pace of rate hikes is bound to catch the mainstream media and others off-guard.

And one way or another, the Fed’s comments are bound to make the wage data that we’ll be getting in this Friday’s U.S. April jobs report a key focus. A hotter-than- expected headline number will boost the odds that we’ll see a fourth rate hike this year.

But between now and then, expect to see lower-than-usual trading volumes as investors wait to see the latest economic figures while also digesting this week’s litany of earnings reports. Things could get a little wonky, as investors reset expectations for corporate earnings and FOMC hikes, but I’ll continue to let our thematic tailwinds be our guide.

 

Scaling into AXTI (AXTI) shares …

Last week was a challenging one for shares of AXT Inc. (AXTI) and LSI Industries (LYTS), and while that is painful and frustrating in the near-term, I view this as an opportunity to scale deeper into both positions at better prices. The silver lining is this will improve our cost basis for the longer term.

With regard to AXT, the smartphone industry has been currently transfixed on comments from Taiwan Semiconductor (TSM), Samsung and SK Hynix that all warned on demand for high-end smartphones. As we saw last night, those comments were not necessarily indicative of Apple’s iPhone shipments for the March quarter and as I pointed out above Apple has a portfolio of smartphones and a growing services business. Also, given comments from mobile infrastructure company Ericsson (ERIC) and chip-supplier Qualcomm (QCOM), 5G smartphones should be hitting in 2019, which we see fostering the beginning of a major upgrade cycle for the iPhone and other vendors.

This is a great example of focusing on the long-term drivers rather than short-term share-price movement. Later this week two of AXT’s customers — Skyworks Solutions (SWKS) and Qorvo (QRVO) — will report their quarterly results. I expect those reports to reflect the short-term concerns as well as the longer-term opportunity as wireless connectivity continues to move past smartphones. With AXT’s substrates an essential building block for the RF semiconductors, let’s remain patient as I keep our long-term price target at $11, following the company’s first-quarter 2018 results that beat expectations but also call for sequential improvement in both revenue and earnings per share.

  • We are scaling into AXT (AXTI) shares on the Tematica Investing Select List at current levels and keeping our long-term $11 price target intact.

 

… and buying more shares of LSI Industries (LYTS) as well

Now let’s turn to LSI Industries. Concerns about a sudden management change last week, just days ahead of the company’s quarterly earnings report, led LYTS shares to plummet 20% but rebound a bit later in the week even as LSI reported March-quarter results that missed both top-line and bottom-line expectations. While the search for a new CEO is underway, what was said during the earnings conference call was favorable, in my opinion, and supports my thesis on the shares.

First, let’s tackle the elephant in the room that is the sudden CEO departure. As one might expect, such a late in the quarterly reporting game resignation is bound to jar investors, but the near 29% move lower over the ensuing few days was more than extreme. That said, a sudden CEO departure raises many questions, and when it’s in a market that has been registering Fear on the CNNMoney Fear & Greed Index, investors tend to a shoot first and ask questions later mentality.

What I saw on the earnings conference call was a calm management team that is looking for a next-generation CEO. What I mean by that is one that understands the changes that are happening in the lighting market with increasing connectivity in lighting systems and signage. This to me says the desired CEO will be one with a technology background vs. one with a legacy lighting background. Much the way the lighting technology being used is being disrupted with LEDs and soon OLEDs, LSI needs a forward-thinking CEO, not one that only thinks of traditional light bulbs.

Second, the company’s lighting business is nearing the end of its transition to light- emitting diodes (LEDs) from traditional lighting solutions. During the March quarter, LSI’s LED business grew 14% year over year to account for 92% of the segment vs. roughly 80% in the year-ago quarter. Despite that success, the legacy lighting business continues to decline, with sales of those products falling by more than 55% year over year in the March quarter.

With one more quarter left in its transition to LEDs, the weight of the legacy lighting business likely won’t be a factor much longer, and that should allow the power of the LED business to benefit the bottom line. The LED business is riding the combined tailwinds of both environmentally friendly green technology as well as the improving nonresidential landscape.

Alongside its earnings report, LSI’s Board of Directors declared a regular quarterly cash dividend of $0.05 per share that is payable May 15 to shareholders of record as of May 7. The annualized dividend equates to LYTS shares offering a dividend yield of 3.4% at recent levels, well above its historical range of 1.5%-2.5% over the 2015-2017 period. Applying those historical dividend yields to the current annualized dividend yields a share price between $8-$13. The stock market liked this as LYTS shares rallied some 10% over the last several days, but we still have ample upside to my long-term $11 price target.

This tells me that there is much further to go fro LYTS shares in the coming months as LSI finds a CEO and gets its story back on track. Let’s remain patient with this one.Helping with that patient attitude was yesterday’s March Construction Spending Report, which revealed private nonresidential construction rose 3.8% year over year for the month on a non-seasonally adjusted basis.

  • We are adding to our position in LSI Industries (LYTS) shares at current levels, and our price target remains $11.

 

 

Apple: Don’t listen to the short-term chatter

Apple: Don’t listen to the short-term chatter

 

Over the last few days there has been a slew of headlines for Tematica Investing Select List holding Apple (AAPL), one of the core companies behind our Connected Society investing theme. There has been an upgrade of the shares as well as a downgrade, respectively, by investment firms Maxim and Longbow Research. That’s not the only push/pull that we’ve seen in the share price. The other has been favorable data vs. the historical seasonal downtick in smartphone volumes as we move from the December quarter into the March one.

The favorable data came in the form of the latest CIRP numbers, which indicate Apple increased its U.S. iPhone activations ten points in the final quarter of 2017, from a 29% share in the September quarter to 39% by December. More significantly, new phone activations were up five points year over year, from 34% in Q4 2016 to 39% in the same quarter last year.

Part of the downgrade at Longbow, which lowered its rating to Neutral from Buy, likely stems from the seasonal slowdown in smartphone sales we are once again hearing about from component suppliers. Given the magnitude of the iPhone on Apple’s overall business, it’s not surprising that this is once again coming into focus. Apple has previously warned that investors should avoid reading too much into supply chain speculation because of its size and complexity. With Apple having launched three new flagship products in 2017, including the higher-priced and higher-margin iPhone X, we’re not going to overthink this but we will be paying attention.

Apple is set to report its December quarter earnings on Feb. 1, which will give us all the key metrics for the quarter. Odds are Apple will offer some vague guidance on smartphone volumes, and the earnings conference call will likely be littered with folks trying to get Apple CEO Tim Cook and others to spill something. But Apple has been doing this a long time, and they are well rehearsed in not answering questions they don’t want to.

This means zeroing in on what is said by key suppliers in the Apple ecosystems both ahead of Apple’s reporting date and after. The day before Apple’s earnings, Qualcomm (QCOM) will issues it results. Soon after, we’ll hear from RF chip company Skyworks Solutions (SWKS) and chip company Cirrus Logic (CRUS), which focuses on audio and voice signal applications and reports on Feb. 5. Another company I’ll be listening to is Broadcom (AVGO), which supplies a variety of connectivity chips including Bluetooth and WiFi to the smartphone markets as well as others.

As we look to put these iPhone outlook puzzle pieces together, there are other moves afoot at Apple. Yesterday, as part of its tax repatriation moves, the company announced that over the next five years it expects to contribute $350 billion to the US economy, create 20,000 jobs in the process, and bump up its Advanced Manufacturing Fund to $5 billion from $1 billion. The stock market greeted that news with open arms as Apple shares moved higher. The real move to be had, however, will be when Apple shares its view on how tax reform will impact its 2018 EPS. Current estimates call for the company to earn $11.46 per share this fiscal year, up from $9.21 last year. We’re also be listening to see if Apple ups its quarterly dividend of $0.63 per share or authorizes another share repurchase program.

Understandably, that news took over the headlines, but there was other news to be had. According to a new report from Variety, following the pull out by HBO, Apple will take over the lease at a new Culver City, California 128,000-square-foot development. This adds to Apple’s Los Angeles area footprint in a meaningful way, seeing that Culver City is also the location where Beats is headquartered. The widespread belief is this will be the space where Apple houses its original content efforts. After sitting on the sidelines for a number of years, Apple is slowly dipping its toe into the content creation waters, moving past that silly Carpool Karaoke show with pending programs with Reese Witherspoon and Jennifer Aniston, Nichelle Tramble Spellman’s “Are You Sleeping,” and a 10-episode comedy sketch show starring Kristen Wiig.

Despite its reputation, Apple tends not to be a first mover, but rather one that makes its move at the tipping point of a technology or consumer behavior. We’ve seen this time and time again with new technologies and the iPhone, and we suspect we are seeing this with its push into original content. Given Apple’s array of connected devices and changing demands from viewers that increasingly opt to stream the content they want, when they want it, on the device they want it on without having to buy it, the direction makes perfect sense. From our perspective, here at Tematica, it was only a matter of time for Apple to make this move as it looks to follow the example set by Netflix – leverage original content to lure subscribers — to make its devices even stickier with consumers. Hopefully, Apple will have a stronger starting lineup than Amazon (AMZN) has with its original Prime Video offering.

Finally, it appears that we will soon see Apple’s virtual assistant in a smart speaker, better known as HomePod, hitting shelves. Reportedly, Apple supplier Inventec has started shipping the device, and expectations are that between Inventec and Hon-Hai Precison Industry, the other HomePod supplier, Apple will ship 10-12 million units in 2018. Much like other new non-iPhone products, including the Apple Watch, the HomePod probably won’t have a significant impact on Apple’s revenue and earnings during its first year, but it does help shore up Apple’s efforts in the Connected Home alongside Apple TV at a time when Amazon and Alphabet/Google are making inroads.

And here’s a wild thought, given all the digital assets at Apple’s disposal and its growing presence in the payments industry, how long until we hear rumors of an “AppleCoin”?

The bottom line on Apple is we continue to see the company as a core holding of our Connected Society and Cashless Consumption investing themes, and the added tailwind of our Content is King investing theme could improve its position in our increasingly digital lifestyle.

  • Our price target on Apple shares remains $200, and we are inclined to be buyers on weakness following the company’s December quarter earnings report on Feb. 1

 

Smartphone data usage to climb to 8.9 GB per month by 2021, driving demand for Connected Society companies

Smartphone data usage to climb to 8.9 GB per month by 2021, driving demand for Connected Society companies

No slowdown expected in mobile data consumption as more smartphones are sold and carriers deploy faster mobile networks globally. A rather compelling view for our Connected Society and its going global. Implication for smartphone vendors, RF chip companies, mobile infrastructure equipment and many more as newer mobile technologies are deployed.

According to the recently published Ericsson Mobility Report, the average smartphone user in 2021 is projected to churn through 8.9 GB of data every single month. In contrast, the average smartphone user today uses about 1.4 GB of data every month. This increase, the report notes, will result from an increase in the number of smartphones in use along with a broader 4G LTE coverage. Also worth noting is that some carriers will begin rolling out support for 5G speeds by 2020.

Source: Smartphone data usage to climb to 8.9 GB per month by 2021 | BGR