As earnings move into the fast lane, things are likely to get bumpier

As earnings move into the fast lane, things are likely to get bumpier

Key Points from this Alert

  • With market volatility picking up as earnings velocity takes off, we are keeping our inverse ETF position intact.
  • Recent data confirms our short bias on General Motors (GM) and Simon Property Group (SPG).
  • Today we are using a lackluster developer conference to scale into Facebook (FB) May 2017 $150 calls (FB170519C00150000) as we drop our stop loss to $0.75 from $1.00.

Over the last two weeks, we’ve seen the stock market bounce up and down with both oil and gold prices doing the same. The latest blow in oil prices comes following a report on Tuesday that “U.S. crude stockpiles fell less than expected in the latest week while gasoline stockpiles grew unseasonably” — not exactly something we want to hear as economists and others trim back their GDP forecasts.

Peering below the headlines, we saw the first dip in the manufacturing component of the monthly Industrial Production report in March. Even if we exclude the step-down in the production of motor vehicles and parts, March manufacturing output still declined. Furthermore, revisions to January and February meant manufacturing activity was weaker than previously thought.

Yes, we realize that we have been talking about this for several weeks, and while we take solace in knowing that once again the herd is catching up to us, we’re not exactly thrilled the latest data suggests there is more revising to be done. As this is happening, we are also seeing a drop in Fed interest rate hike expectations. Just a few weeks ago, 57 percent of traders expected the Fed to boost interest rates two more times this year. As of last night, that expectation fell to 36 percent according to CME Group’s FedWatch program.

Tracing back the market’s up and downs over the past month or so tells us investors continue to look for some direction, and in our view, the coming days are likely to offer the road map. The issue is, the road ahead may not be the one that most are hoping to take and its guide will be the plethora of earnings reports we get not just this week, but increasing pace over the next two weeks. Compared to some 300 reports this week — the vast majority of which will hit after tonight’s market close — next week has more than 990 companies reporting followed by another 1,269 during the first week of May.

As this pace picks up, we’re seeing more political drama unfold in Washington, and when we put it all together it tells us there is more risk to be had in the near-term than reward. While we recognize we are likely preaching to the choir at this point, the simple truth is corporate expectations needs to be reset given the economic climate and as that happens we are likely to see more wind taken out of the stock market’s sales.

 


In looking at the recent move in the Volatility Index (VIX), which recently hit its highest level since before the November election, the market is on edge as earnings ramp up. Adding to this is some new findings from the Bank of America Merrill Lynch monthly fund manager survey that shows some 83 percent of fund managers believe U.S. stocks are overvalued. As always we try to put data like this into perspective, and in doing so we find that 83 percent is a record number for data that reach back to 1999.

Now that certainly tells several things, but the one we are zeroing in on is the simple fact that in a nervous market, investors are likely to shoot first and ask questions later when faced with a barrage of earnings reports.

  • For these reasons, we will continue to stick with all of our inverse stock market ETFs — the ProShares Short S&P500 (SH), ProShares Short Russell 2000 (RWM) and ProShares Short Dow30 (DOG), all of which climbed higher over the last two weeks — for at least the next several weeks. 

 


 

Turning to Our Short Positions in
General Motors (GM) and Simon Property Group (SPG)

The March Retail Sales report confirmed our concern over the consumer’s ability and willingness to spend. The fact that 1Q 2017 was the worst quarter for restaurant traffic in three years is yet another confirming sign of that fact. As earnings reports roll in, we’ll take stock in what Visa (V) and MasterCard (MA)have to say about consumer spending, but with more than $1 trillion in consumer credit card debt, we are inclined to keep our short position in GM and SPG shares intact.

  • We continue to have a Sell rating on GM shares with a price target of $30. 
  • Our buy stop order on GM remains at $40. As the shares continue to move lower, we’ll look to revisit our buy-stop loss further with a goal of using it to lock in position profits.
  • With retail pain likely to intensify, we continue to have a bearish view on SPG shares. Our price target on SPG remains $150 and our buy stop order remains at $190.
  • As SPG shares move lower, we’ll continue to ratchet down this buy stop order as well. 

 


 

That Brings Us to Our One Long Position — Facebook

The Facebook (FB) May 2017 $150 calls (FB170519C00150000), closed last night at $1.10, modestly above our $1.00 stop loss level. The calls have traded off over the last two days and we can understand why. We have to say we were somewhat underwhelmed by this year’s annual developer conference, better known as F8, that spanned the last two days. CEO Mark Zuckerberg has announced a series of new features covering augmented reality, artificial intelligence bots, and more far-fetched plans to close the gap between humans and machines. In particular, Zuckerberg wants Facebook users to be able to “type with their brains and hear with their skin.”

If you thought you heard our eyes roll, you were correct.

Each of these announced initiatives will take Facebook time to develop and then, in turn, it will be even more time for them to have a meaningful impact on the company’s business model — far more time than we have with our May calls.

That said, given Alphabet’s (GOOGL) recent snafu with YouTube and advertisers, we suspect Facebook saw a bump in advertising that should help it keep its earnings beating track record intact. With the company set to report its 1Q 2017 earnings on May 3, we’ll use the recent pullback in the calls to scale into the position, reducing our cost basis along the way. As we do this, we will drop our protective stop loss to $0.75 as well.

Markets Narrowing as Trump Trade Fades

Markets Narrowing as Trump Trade Fades

We are seeing the beginnings of de-risking as for the first time since the election as the S&P 500 has broken below its 50-day trendline, but is still just 3 percent shy of its all-time high, so let’s not get overly carried away here. Volatility, in the form of the CBOE’s volatility index (VIX), rose every day last week and has jumped 24 percent to be at its highest level since November. Meanwhile, those talking heads on mainstream financial media keep focusing on the same thing the herd does – which rarely results in successful investing.

Ten big stocks are exerting an unusually large influence on the S&P 500 in 2017, the latest sign that the herd instinct is alive and well on Wall Street. Those 10 large stocks have powered nearly 53% of the S&P 500’s 4.7% advance this year, according to Fundstrat Global Advisors’ data through the middle of last week. During an average year, the 10 stocks with the greatest impact typically account for only 45% of the market’s price moves, according to analysis of data from AQR Capital Management.

 

Looking at what has happened with core CPI and PPI rolling over as well as current GDP estimates for Q1, we think it is quite likely that non-financial corporate profits may have contracted in Q1 on a quarter-over-quarter basis while rising on a year-over-year basis thanks to the weakness in Q1 2016. Those CPI and PPI numbers tell us that corporate pricing power just isn’t there, a reality that does not support the narrative of “animal spirits” igniting post-election. Nor is the reality of declining productivity in the face of rising unit labor costs, which serve to squeeze margins.

As for that accelerating economy narrative, it is wholly inconsistent with the data coming out of bank earnings reports with commercial loan balances at J.P. Morgan Chase (JPM) and Wells Fargo (WFC) unchanged over Q1 while new auto loans fell 17 percent at JPM and 29 percent at Wells on a year-over-year basis. Citigroup’s (C) profit from consumer banking in North America dropped 25 percent thanks to credit losses on some credit cards while JPM and WFM consumer banking profits dropped 20 percent and 9 percent, respectively.

Treasury bonds benefited from Trump’s talk last week on preferring low-interest rates, despite his criticism of Fed Chair Yellen during his campaign, with the 10-year Treasury falling to levels last seen in November. We suspect there is more room for rates to fall here as all those sentiment surveys sync up with the much weaker hard data.

Rates aren’t just falling here though as the 10-year Japanese sovereign bond yield is now below zero again for the first time since November, with the German 10-year falling below 0.2 percent. With all the talk about the U.S. needing a weaker dollar, gold is moving up, well on its way to cracking $1,300.

The risk-off move is likely driven in large part by the geopolitical tensions ranging from the recent MOAB drop in Afghanistan to North Korea getting cranky again to the upcoming elections in France where a Marie Le Pen victory has become more of a possibility. If however, Macron wins in the second round, we wouldn’t be surprised to see a bit of a rally in those battered French bank stocks.

As the first 100 days of the Trump administration nears its end, we’ve gone from campaign of isolationism to a more aggressive military; the failed healthcare reform plan is returning to center stage while tax reform, deregulation, and infrastructure spending are pushed further back. Those who follow our analysis ought to be unsurprised that the Trump Trade is fading fast.

 

Source: Investors Follow the Herd as 10 Big Stocks Power Market’s Gains – WSJ

The Data Says Steady as She Goes

The Data Says Steady as She Goes

Key Points from this Alert

  • With market volatility expected to pick up as we head into earnings, we’re keeping our inverse ETF positions in tact.
  • March auto sales data, as well as the growing concern over the consumer, have us keeping our short positions on both General Motors (GM) and Simon Property Group (SPG) shares.
  • While the Facebook (FB) May 2017 $150 calls (FB170519C00150000) calls dipped week over week, the two major catalysts behind the trade remain ahead of us. We continue to rate the calls a Buy.

We’re slowing inching our way closer toward 1Q 2017 earnings season, which, as we shared earlier this week, we think could bring a return of volatility to the stock market. We’ve read a lot of bullish commentary, with many pointing to the robust inflow of funds into ETFs during 1Q 2017 — $134.7 billion vs. 29.6 billion in inflows in 1Q 2016 – but we have to remember individual investors tend to stay on sidelines only to return to the market near the top.

Part of what’s to blame is the overly bullish talking heads, and in my readings, I found a great example of this. Financial firm LPL published the following commentary about 1Q 2017:

Although the S&P 500 Index just missed out on a five-month winning streak in March with a 0.04% loss, the good news is it still gained 5.5% in the first quarter.|

“This came out to the best quarter overall since the fourth quarter of 2015, and it was the best first quarter gain since 2013! Going back to 1950, this was the 25th time the S&P 500 gained 5% or more during the first quarter. The good news for the bulls is the returns after a big first quarter have been broadly stronger across the board.”

Now let’s dig into this…. there have been 67 years between 1950 and 2017, and doing some basic math we find 25/67 equals 37 percent. This means the “good news” for the bulls happens a little more than one-third the time. This also means that nearly two-thirds of the time, it doesn’t happen.

Just another example that we need to really dig into the data with context and perspective to understand what is really going on vs. what is being said. In doing so with this LPL commentary, we’ll be generous and say it has an overly bullish slant given the data. With the herd taking a bullish view despite the hard data we’ve been getting that calls for a rest in expectations for both 2017 earnings and GDP forecasts, we’ll continue to keep all three of our inverse ETFs in the Pro Select List.


Housekeeping!

Before we get to recapping our existing positions, we have a quick housekeeping reminder. As we mentioned in yesterday’s Tematica Investing, we’ll be using the market holiday next week to take a breather to get ready for the explosion in earnings reports that will begin the day after Easter. As such, your next regular issue of Tematica Pro will be April 20.

Rest assured that is something important comes along, we’ll be sure to issue a special alert.

 


March Auto Sales Confirm our Bearish View on GM 

March was supposed to be the month US auto sales rebounded from decreases in January and February. Instead, ample discounts were unable to spur demand for at the biggest automakers such as Ford (F), Fiat, and Toyota (TMC), and Honda (HMC), which all posted year over year declines. Sales incentives rose 13.4 percent in March, compared to a year earlier, to an average of $3,511 per vehicle, according to ALG. Making matters even worse, production is outpacing sales, which means auto dealers getting stuck with too many vehicles. Inventory levels hit 4.1 million units entering the month, the highest level since June 2004, according to Edmunds analysis based on Ward’s Auto figures.

General Motors faired a little better, with its US sales rising 2 percent year over year in March, but that was well below the consensus forecast that called for a +9.6 percent increase year over year.

As we look around us and see consumers saving more while others are grappling with rising bank card and subprime auto loan delinquencies, we continue to question the degree of new car demand. Adding to our concern is a new report from the Mortgage Bankers Association that showed the average size of a home loan was the largest in the history of its survey, which dates back to 1990. Another data point that points to Cash-strapped Consumers at a time when auto loan costs are ticking higher following the Fed’s two recent interest rate hikes.

GM will report its 1Q 2017 earnings on Friday, April 28 and as important as the rear view mirror quarterly results are, it will be the guidance that sets the tone for GM shares in 2Q 2017.

  • We continue to have a Sell rating on GM shares with a price target of $30. 
  • Our buy stop order on GM remains at $40. As the shares continue to move lower, we’ll look to revisit our buy-stop loss further with a goal of using it to lock in position profits. 

 


More Retail Pain Adds to Bearish Resolve on Simon Properties 

Next week will bring the March Retail Sales report, and based on what we’ve heard from retailers over the last few weeks paired with the data we’ve been sharing of late that shows our Cash-Strapped Consumer theme remains in full force, odds are it won’t be a pretty report. With Payless (PSS) and Bebe (BEBE) filing for bankruptcy and hhgregg (HGG) likely headed for liquidation, these are just the latest retailers that are dying on the vine. As we have learned this week, others are wounded including Urban Outfitters (URBN), shared its quarter to date sales are down in the mid-single digits, and Saks owner Hudson Bay (TSE:HBC) reported a drop in overall consolidated sales.

While Simon Property Group (SPG) rose modestly over the last week, we continue to be concerned over the shrinking customer landscape. We are also mindful that we will soon begin to see store closings from anchor tenants like Macy’s (M), JC Penney (JCP) and others. As those closings progress, we suspect investor sentiment will weigh on SPG shares.

  • With retail pain likely to intensify, we continue to have a bearish view on SPG shares. Our price target on SPG remains $150 and our buy stop order remains at $190.
  • As SPG shares move lower, we’ll continue to ratchet down this buy stop order as well.

 


Facebook continues to expand its footprint;
All eyes on April 18-19

Shares of this Connected Society investment theme social media company that is morphing into much more dipped modestly over the last several days, which reflected a similar move in the Nasdaq Composite Index. While Facebook lost out on its bid to stream the NFL’s Thursday Night Football package, we continue to see it benefitting from YouTube’s recent advertising snafu as branded companies ranging from AT&T (T) to Johnson & Johnson (JNJ) pull advertising spend.

That’s a nice development for FB shares as well as our Facebook (FB) May 2017 $150 calls (FB170519C00150000) calls, but we still have the two major factors ahead of us that led to our adding the call position to the select list. First, on April 18-19 is Facebook’s annual F8 Developer Conference at which we expect a number of updates and announcements from new monetization strategies to its plans for virtual as well as augmented reality and now payments.

That’s right, we said payments. Through its WhatsApp business, Facebook is launching digital payments in India, which happens to be WhatsApp’s largest market with more than 200 million users. Given the November 2017 ban on high-value currency notes in India as well as the country’s push into digital payments, we see WhatsApp as extremely well positioned for this. Forecasts have mobile payments growing to $2.57 billion in India by 2021, up from just $79 million this year, which would be awesome if it happened. Even if it falls short of that target, there is still phenomenal growth ahead that bodes well for our Facebook shares as well as the Facebook (FB) May 2017 $150 calls (FB170519C00150000) calls.

The second date to watch will be Facebook’s 1Q 2017 quarterly earnings that will be reported on May 3. Given its focus on monetization and mobile, Facebook has been handily beating expectations, and given the growing adoption of its platforms across the globe we see the company continuing that trend once again.

Adding more protection, but also taking advantage of YouTube’s misfortune

Adding more protection, but also taking advantage of YouTube’s misfortune

Key Points from this Alert

  • We are adding ProShares Short Dow30 (DOG) shares to the Select List with a price target of $$20, and should the shares trade below their 52-week low of $17.69 in the next several days we’re likely to scale into the position.
  • We are also adding the Facebook (FB) May 2017 $150 calls (FB170519C00150000) that closed last night at 1.85 to the select list. As we do that we’ll set a protective stop loss at 1.00. We’d be buyers of the calls up to the $2.25 level.
  • We continue to have a negative bias on both General Motors (GM) as well as Simon Property Group (SPG) shares. 

With all of two days left in the month of March and 1Q 2017, it certainly looks like March has been a sobering month for the S&P 500 and Dow Jones Industrial Average as both indices have shed gains over the last few weeks. We tend not to pat ourselves on the back as we recognize that self-serving comments can be a little cheesy, but in this case, the concerns we laid out in February came home to roost in March. As we shared yesterday, the disconnect between stock prices, economic growth and earnings expectations remains and we think it’s going to be a very bumpy earnings season in just a few weeks.

 

As investors have come around to our view, we’ve seen a radical change in the CNN Money Fear & Greed Index, which closed last night at 34 (Fear) from 70 (Greed) just 30 days ago. Even though the Volatility Index has traded off the last few days, as you can see in the chart below it’s not too far off year to date lows.

 

Given the above, we’re going to hang on to our ProShares Short S&P500 (SH) and ProShares Short Russell 2000 (RWM) shares and add ProShares Short Dow30 (DOG) shares to the mix. DOG shares are an inverse ETF for the Dow Jones Industrial Average, and are coming off their 52-week low given the strong move in the Dow over the last several months. As we saw in recent earnings reports from Nike (NKE), Target (TGT), FedEx (FDX), and last night LuluLemon (LULU), if this is what we’re in for it makes sense to add another layer of protection to the Select List.

  • We are adding ProShares Short Dow30 (DOG) to the Tematica Pro Select List.
  • Our price target on DOG shares is $20, and should the shares trade below their 52-week lows of $17.69 in the next several days we’re likely to scale into the position.

 

 

Getting back into Facebook calls

As we wrote yesterday in Tematica Investing, we see Facebook (FB) as a natural beneficiary of Alphabet’s (GOOGL) current bout of problems that centers on questionable YouTube content that has led to advertisers ranging from AT&T (T) and Verizon (VZ) to Volkswagen, Honda (HMC) and McDondald’s (MCD) to pull their ads from YouTube. Estimates put the potential revenue loss between $750 million to $1.25 billion, but we don’t think we’ll have a clear sense of the magnitude until we see how long those companies hold back their advertising spend with YouTube.

With several platforms at Facebook, including Facebook, Instagram and Messenger, that it continues to add increased functionality and monetization efforts, we see it as the natural beneficiary. This is especially the case given continued struggles at Twitter and Facebook adding features at Instagram that take aim at Snapchat (SNAP). As a reminder, Facebook continues to target live sporting events and other streaming capabilities, which could lead it to pick off TV advertising dollars. Finally, in a few weeks, Facebook will be holding its annual developer conference dubbed F8, which tends to be a showcase for new initiatives. Soon after the company will report its quarterly earnings and that has us eyeing the Facebook (FB) May 2017 $150 calls (FB170519C00150000) that closed last night at 1.85.

  • We’re adding those Facebook (FB) May 2017 $150 calls (FB170519C00150000) calls to the Select Listand as we do that we’ll set a protective stop loss at 1.00. We’d be buyers of the calls up to the $2.25 level.
  • As we do that we’ll set a protective stop loss at 1.00. We’d be buyers of the calls up to the $2.25 level.
  • We’d be buyers of the calls up to the $2.25 level.

 

 

Still bearish on General Motors and Simon Property Group shares

While both General Motors (GM) and Simon Property Group (SPG) shares traded modestly higher over the last few days, we continue to be bearish on both. The latest data show auto incentives have soared, particularly at General Motors, which is likely to eat into profits. With Americans missing bank cards payments at the highest levels since July 2013, the delinquency rate for subprime auto loans hitting the highest level in at least seven years and real wage growth remaining elusive, the outlook for consumer spending looks questionable. This includes auto sales as well as brick & mortar retailers.

We’ve written about issues at a number of such retailers, but we continue to hear about more being in trouble. The latest additions include Gymboree, Claire’s Stores, Ascena (ASNA), and Bebe Store (BEBE). Factor in the yet to be felt pain of store closing from Macy’s (M), Sears (SHLD) and J.C. Penney (JCP), and we continue to see more downside than upside with SPG shares.

  • We’ll continue to keep our short position in General Motors (GM), with a price target of $30. 
  • Our buy stop order on GM remains at $40. As the shares continue to move lower, we’ll look to revisit our buy-stop loss further with a goal of using it to lock in position profits. 
  • With retail pain likely to intensify, we continue to have a bearish view on SPG shares. Our price target on SPG remains $150 and our buy stop order remains at $190.
  • As SPG shares move lower, we’ll continue to ratchet down this buy stop order as well. 

 

As the market mood turns sour, we continue to favor our short positions

As the market mood turns sour, we continue to favor our short positions

Key Points from this Alert

  • With investors questioning the moves that have led the market higher over the last few months and revisiting earnings expectations for the S&P 500, we are counting our losses and exiting the United Parcel Service (UPS) April 2017 $110 calls (UPS170421C00110000) on the Tematica Select List.
  • More data points this week have added to our bearish view on General Motors (GM) shares, which have already fallen more than 7 percent since being added to the Select List. 
  • Similarly, investment firms turning increasingly negative on retail and a warning in Sears’s 10-K filing have us even more confident in the Simon Property Group (SPG) short position on the Select List.
  • With the market looking to get bumpy, our inverse ETF positions that are on the Select List are coming into favor as planned.

As we shared in yesterday’s Tematica Investing, spring has brought a shifting wind into the marketplace that has brought investor mindsets more in tune with what we’ve been saying over the last few months. We’ve also gotten a number of warnings signs over earnings growth, and more confirmation that retailer pain is only getting worse. That’s rather good news for the Simon Property Group (SPG) short position on the Select List.

With the prospects of further earnings revisions to be had in the coming weeks, which in our view will likely pressure markets further, we’ll be holding off adding any new call positions near term as we continue to examine potential short positions like General Motors (GM) and Simon Property Group (SPG). We’ll also be eying potential put positions as well. It also means that we’ll keep our inverse ETF positions intact as well; subscribers that have held off in adding these should revise those at current levels.

Before review our existing positions, a quick housekeeping item. The shifting market mindset that led to the worst day in the market for several weeks this past Tuesday stopped our the PowerShares DB US Dollar Bullish ETF (UUP) June 2017 $27 calls (UUP170616C00027000) on the Select List.

 

Shedding UPS calls?

Our UPS April 2017 $110 calls (UPS170421C00110000) calls have been all over the map the last few days due primarily to the market movement. While we continue to see UPS’s business as the missing link for the accelerating shift to digital commerce that is part of our Connected Society investing theme, given prospects for the market to get even bumpier in the days ahead, we’re going to cut our losses and exit the position with a 55 percent loss. While tempting to scale into the position, the fact that earnings expectations for the S&P 500 are likely to come down in the coming weeks means we’d be fighting the tide on this one.

 

Still bearish on General Motors shares

Last week we added a short position on General Motors (GM) shares given rising concerns over consumer debt levels and a pick up in auto subprime loan defaults as the Fed inched up interest rates. Yesterday we were reminded of this when Fitch Rating published its new U.S. Auto Asset Quality Review report that showed its view that auto loan and lease credit performance will continue to deteriorate in 2017. The report goes on to note that in response to deteriorating asset quality banks are starting to tighten underwriting standards once again, which could either lead to fewer auto loans, which would be bad for auto sales, or the financing arms of car companies, like General Motors, taking on more speculative loans — not exactly a good thing for the company balance sheet given the data we are seeing.

Making matters a little worse, we’re seeing a glut of used cars come onto the market. That trend will intensify as Americans will return 3.36 million leased cars and trucks this year, another jump after a 33 percent surge in 2016, according to J.D. Power.

That combination led financing company Ally Financial (ALLY) to slash its 2017 earnings forecast earlier this week. Back in January, the company expected to deliver EPS growth near 15 percent this year. Now the company sees its earnings rising as little as 5 percent this year.

  • Against that backdrop, we’ll continue to keep our short position in General Motors (GM), with a price target of $30. 
  • The shares have already fallen more than 7 percent in the last week, which has us moving our buy stop order down to $40 from $42. 
  • As the shares continue to move lower, we’ll look to revisit our buy-stop loss further with a goal of using it to lock in position profits. 

 

Sears and Payless spell more pain for Simon Property Group

Thus far our short position in Simon Property Group (SPG) has returned more than 9 percent over the last few weeks. Over the last few days, a few new data points bolstered our confidence in the underlying thesis for this short position. First, Wells Fargo has turned bearish on retailer noting that, ““increasingly clear that retail is under significant pressure” adding that store traffic remains weak and is likely to get softer this quarter due to the timing of Easter this year. Worse yet, markdown rates are not only elevated on an annual basis, but also getting sequentially worse. Those remarks were followed by investment firm Cowen sharing its latest retail channel checks for March that came in worse than expected. Clearly more pressure ahead for brick & mortar retailers.

The real blow for SPG shares came in Sears’s (SHLD) 10-K filing in which the company said, “substantial doubt exists related to the company’s ability to continue as a going concern.” We’ve long known that Shield was a company struggling to identify what it was as our Connected Society investment theme has transformed where and how people shop. The issue for Simon Property Group is Sears is a key anchor tenant across a number of its properties. Paired with other store closings from Macy’s (M), JC Penney (JCP) and a growing list of others, we see more pressure ahead on SPG’s business model. By the way, this is a great reminder as to how useful company filings, like 10-Ks and 10-Qs, can be.

That pressure now includes prospects per Bloomberg that Payless (PSS) is likely to file for bankruptcy next week. As you’ll hear us talk on our Cocktail Investing Podcast coming out later today, given inroads by Amazon (AMZN) and Zappos in the shoe market, we’re somewhat surprised that Payless has lasted this long.

  • With retail pain likely to intensify, we continue to have a bearish view on SPG shares. Our price target remains $150. 
  • With shares moving lower in recent weeks, we are adjusting our buy stop order to $190 from $200. 
  • As the shares move lower, we’ll continue to ratchet down this buy stop order as well. 

 

The Fed Hikes Rates, But We’re Positioning for the Coming Fallout

The Fed Hikes Rates, But We’re Positioning for the Coming Fallout

Key Points from this Alert

The big question that’s been overhanging the market this week was cleared up yesterday when the Fed announced the next upward move in interest rates, something the stock market has been increasingly expecting over the last several weeks. In looking at the Fed’s new forecasts compared to those issued three months ago, there were no material changes in the outlook for GDP, the Unemployment Rate, or expected inflation.

We find the Fed’s action yesterday rather interesting against that backdrop, especially given its somewhat lousy track record when it comes to timing its rate increases —  more often than not, the Fed tends to raise interest rates at the wrong time. This time around, however, it seems the Fed is somewhat hellbent on getting interest rates back to normalized levels from the artificially low levels they’ve been at for nearly a decade. Even the language with which they announced the rate hike — “In view of realized and expected labor market conditions and inflation, the Committee decided to raise the target range for the federal funds rate to 3/4 to 1 percent” — makes one wonder exactly what data set they are using to base the decision.

The thing is, recent economic data hasn’t been all that robust. Yesterday morning, the Fed’s own Atlanta Fed once again slashed its GDPNow forecast for 1Q 2016 yesterday to 0.9 percent from 1.2 percent last week and more than 3.0 percent in January. That’s a big downtick from 1.9 percent GDP in 4Q 2016. Given the impact of winter storm Stella, particularly in the Northeast corridor, odds are GDP expectations will once again tick lower as consumer spending and brick & mortar retail sales were both disrupted. As Tematica’s Chief Macro Strategist Lenore Hawkins pointed out yesterday, real average hourly earnings decreased 0.3 percent, seasonally adjusted, year over year in February.

Despite that lack of wage growth, we have seen inflation pick up over the last several months inside the Purchasing Managers’ Indices published by Markit Economics and ISM for both the manufacturing and services economies as well as the Producer Price Index. Year over year in February, the Producer Price Index hit 2.2 percent, marking the largest 12-month increase since March 2012.

Turning to the Consumer Price Index, the headline figure rose 2.7 percent this past February compared to a year ago, making it the 15th consecutive month the 12-month change for core CPI was between 2.1 percent and 2.3 percent. We’ve all witnessed the rise in gas prices, up some 18 percent compared to this time last year, and while there are adjustments to strip out food and energy from these inflation metrics, the reality is food and energy are costs that both businesses and individuals must bear. Rising prices for those items impact the consumers’ ability to spend, especially if wages are not growing in tandem, and they also eat into the margins for a business — spending more money to light and heat facilities and gas up vehicles.

It would seem the Fed is caught once again between a rock and a hard place — the economy is slowing and inflation appears to be on the move. The economic term for such an environment is stagflation. In looking to get a handle on stagflation the Fed is walking a thin line between trying to get a handle on inflation, while not throwing cold water on the economy as it continues to target two more rate hikes this year.

Once again, we find ourselves rather relieved that we don’t have Fed Chairwoman Janet Yellen’s job. The renewed “commitment” by the Fed bodes well for interest rate sensitive companies such as banks like Wells Fargo (WFC), Citigroup (C) and Bank of America to name a handful, as well as Financial Select Sector SPDR Fund (XLF) shares.

 

Car Loan Pain Point Data Brings Us to Our Key Move for the Day

While higher interest rates might be a positive for financials, at the margin, however, it comes at a time when credit card debt levels are approaching 2007 levels as are adjusted rate mortgages and auto loans, particularly subprime auto loans. Even before the rate increase, data published by S&P Global Ratings shows US subprime auto lenders are losing money on car loans at the highest rate since the aftermath of the 2008 financial crisis as more borrowers fall behind on payments.

In 4Q 2016, the rate of car loan delinquencies rose to its highest level since 4Q 2009, according to credit analysis firm TransUnion (TRU). The auto delinquency rate — or the rate of car buyers who were unable make loan payments on time — rose 13.4 percent year over year to 1.44 percent in 4Q 2016 per TransUnion’s latest Industry Insights Report. That compares to 1.59 percent during the last three months of 2009 when the domestic economy was still feeling the hurt from the recession and financial crisis. And then in January, we saw auto sales from General Motors (GM), Ford (F) and Fiat Chrysler (FCAU) fall despite leaning substantially on incentives.

Over the last six months, shares of General Motors, Ford and Fiat Chrysler are up 19 percent, 4.5 percent and more than 70 percent, respectively. A rebound in European car sales, as well as share gains, help explain the strong rise in FCAU shares, but the latest data out this morning shows European auto sales growth cooled in February.

So what’s an investor in these auto shares to do, especially if you added GM or FCAU shares in early 2016? Do the prudent thing and take some profits and use the proceeds to invest in companies that are benefitting from multi-year tailwinds such as Applied Materials (AMAT), Dycom Industries (DY) or Universal Display (OLED) like we have on the Tematica Select List.

For more aggressive investors, like those of us here at Tematica Pro, we’re adding shares to General Motors (GM), which are currently trading at 6.1x 2017 earnings that are forecasted to fall to $6.02 per share from $6.12 per share in 2016, with a Sell rating and instilling a short position on the Tematica Pro Investment List.

While some may see that low P/E ratio, we’d point out that GM shares are trading near their 52-week high and peaked at 6.2x 2016 earnings and bottomed out at 4.6x 2016 earnings last year. Despite the soft economic data that shows enthusiasm and optimism for the economy, the harder data suggests we are more likely to see GM’s earnings expectations deteriorate further. And yes, winter storm Stella likely did a number of auto sales in March.

  • We are adding GM shares to the Tematica Pro Investment List with a Sell rating and a short position.
  • Our price target is $30, which offers a return of 19 percent from last night’s market closing price of $37.09. 
  • Because this is a short position we will be setting a protective buy stop order to limit potential capital losses in this position at $42
Closing out Trinity Calls

Given the data that points to a slowing economy this quarter, we are going to throw in the towel on the call position in Trinity Industries — the Trinity Industries (TRN) April 2017 $30 calls (TRN170421C00030000) this morning. Even though railcar traffic has been improving, the overall economic tone of the near-term is likely to be a headwind to new railcar orders and we think it’s best to cut our losses now at a 75 percent loss rather than see the calls fall even further.

We’ll continue to keep our eyes on both rail traffic as a barometer of the domestic economy, and a future position in Trinity shares and calls as well.

 

Feb Retail Sales Confirm our Short Position in Simon Properties Group…

In addition to the Fed Rate hike, yesterday also brought the February Retail Sales Report. We shared our view on that yesterday, but in a nutshell, it was more pain for department stores and clothing retailers as well as those for electronics & appliances as Nonstore retail continued to take consumer wallet share. No surprise, given the commentary from the likes of hhgregg (HGG) and JC Penney (JCP), both of which have announced store closings, joining the ranks of Sears (SHLD), Kohl’s (KSS), and Macy’s (M). Surely Stella is going to put a crimp in March brick & mortar sales for retailers with heavy exposure to the Northeast, including Lululemon (LULU), Abercrombie & Fitch (ANF), and Urban Outfitters (URBN). What those all have in common is they tend to be mall-based retailers.

Simply another set of woes for mall REITS like our Simon Property Group (SPG). Even ahead of this, Morningstar Credit Ratings analyzed the commercial mortgage-backed-securities (CMBS) debt load on malls with exposure to J.C. Penney, and found that as a collateral tenant, CMBS exposure to J.C. Penney totals $16.43 billion. Remember JC Penney is closing 140 plus stores and that CMBS debt load doesn’t take into account other anchor store closings from Macy’s, Sears or some other.

While we’re up 7 percent in our Simon Property Group (SPG) short position, we will remain patient with this short position as we see far more to be had with brick & mortar retail pain. 

  • We have a Sell recommendation on shares of Simon Properties Group (SPG) and a short position on the Tematica Select List.
  • Our price target on SPG shares is $150 and we have a protective buy stop order to limit potential capital losses in this position at $200.

 

Feb Retail Sales also confirms our bullish view on United Parcel Service calls.

As we mentioned above, Nonstore retail sales continued to climb year over year in February and we simply see no slowdown in this shift as Amazon (AMZN) and others continue to expand their offering while brick & mortar retailers from Wal-Mart (WMT) to Under Armour (UAA) look to catch up.

Tematica’s Take on the February Jobs Report, and What It Means for the Fed and Stocks

Tematica’s Take on the February Jobs Report, and What It Means for the Fed and Stocks

This morning the Bureau of Labor Statistics published the February Employment Report. One of the last few indicators economists, market watchers and the Fed will get ahead of next week’s Federal Open Market Committee meeting came in better than expected on several fronts. Over the last few week’s we’ve seen a rising expectation for a March rate hike, but more recently we’ve gotten conflicting signals in a variety of data points. While the February reports for the both the Producer and Consumer Price Indices and Retail Sales will be published early next week, barring any major snafus in those reports the February Employment Report clears the way for the Fed to nudge interest rates higher next week.

 

The details of the February Employment Report how it stacked up against expectations

 

 

Nonfarm payrolls came in at 235K besting expectations for 190K-200K depending on the source, and the Unemployment rate held steady at 4.7 percent.  A nice beat, but job growth slipped month over month compared to the 238K revised number of jobs created in January. Overall payrolls are up around 1.6 percent over the past year as we’ve seen the 12-month trend slowing over the past few years, which is to be expected in the later stages of this cycle. Job gains were reported in in construction, private educational services, manufacturing, health care, and mining, which was offset by job losses in retail.

 

 

In looking at several other metrics in the report, the Labor Force Participation Ratio edged up a tick month over month to hit 63.0 percent in February and we saw another sequential decline in the Not in Labor Force category. The percent of Americans actually working has reached 60 percent for the first time since 2009. In our view, those metrics are moving in the right direction.

 

We also like seeing the median duration of unemployment has been continually declining since its peak in 2010. Today that number has dropped to around 10 weeks.

 

 

Since the recovery, job growth has been concentrated primarily in lower-paying jobs in sectors such as retail, hospitality, education and food service. Recently we have seen higher-paying sectors such as manufacturing and construction posting material gains. While every sector outside of retail and utilities experienced gains, manufacturing grew 28,000, the largest increase in that sector since August 2013. Construction also surged by 58,000 jobs which was the biggest gain since March 2007 and has now added 177,000 to payroll in the past six months, a likely positive sign for housing.

If we were to pick one fly in the jobs report ointment it would be the sharp increase in the number of people with multiple jobs, which climbed to 5.3 percent of total employed, up from 5.0 percent a year ago. To us, this signals that more people are under the gun when it comes to helping make ends meet due to higher health care costs, soaring student debt levels or the need to boost savings levels, especially for retirement. From a thematic perspective, we see the pick up in multiple jobholders as a confirming data point for our Cash-strapped Consumer investing theme. More about that in a few paragraphs.

 

So what do all these employment “tea leaves” tell us about what the Fed might be thinking?

As Team Tematica discussed on this week’s Cocktail Investing Podcast, retail job losses were anticipated given the growing number of store closing announcements over the last several weeks from the likes of  Macy’s (M), Kohl’s (KSS), JC Penney (JCP), hhgregg (HGG), Crocs (CROX) and others. All of these companies are contending with the downside of our increasingly Connected Society that has consumers increasingly shifting toward digital shopping.  Given the relatively mild winter weather, the pick up in construction work likely bodes well for the housing market, which is one we keep tabs on as part of our Rise & Fall of the Middle Class investing theme. From an exchange traded fund perspective, the mix of jobs created in February likely means a higher share price for SPDR S&P Homebuilders ETF (XHB) and PowerShares Dynamic Building & Construction Portfolio ETF (PKB) are to be had while SPDR S&P Retail ETF (XRT) get left behind.

As Tematica’s Chief Investment Officer, Chris Versace, reminds his graduate students at the NJCU School of Business, the Fed has a dual mandate that focuses on the speed of the economy AND inflation. The one item that is bound to catch the Fed’s attention is wage growth, which rose even though hours worked remain unchanged in February vs. January. Per the report, “In February, average hourly earnings for all employees on private nonfarm payrolls increased by 6 cents to $26.09, following a 5-cent increase in January.”

While that wage growth likely reflects some impact from rising minimum wages, the mix shift in job creation toward higher paying jobs in mining, construction and manufacturing and away from lower-paying retail jobs was the primary driver. If we had to guess the one line item that could get some attention at the Fed, it would be the combined January-February wage growth, which equates to a 2.8 percent increase year over year – near the fastest pace of growth during the current expansion, and better than the expected 2.7 percent, but still well below the rate of growth prior to the financial crisis.

However, on a monthly basis, average hourly earnings for private-sector workers rose 0.2 percent during February, which was below expectations for 0.3 percent. If we dig a bit deeper, that 2.8 percent year-over-year growth is an overall number. Wages for nonsupervisory and production employees comprise about 80 percent of the workforce and that group saw their hourly and weekly wages rise by about 2.48 percent on a year over year basis – this group isn’t getting quite the gains that their supervisors are enjoying. Additionally, this metric is not adjusted for inflation and guess what….the most recent inflation rate as measured by the consumer price index was (drum roll) … 2.5 percent. So post-inflation, no real gains. Once we again, it pays to read more than just the headlines when deciphering a report like this.

That being said, in our view, this month Employment Report helps pave the way for the Fed to nudge interest rates higher next week. We expect financials, including shares of banks such as Wells Fargo (WFC), Bank of America (BAC) and Citigroup (C) to name a few to trade higher today and lead the market higher. It goes without saying that means Financial Select Sector SPDR Fund (XLF) shares are likely to trade higher.

As the likelihood of higher interest rates are upon us, we have to consider what the incrementally higher borrowing costs could mean to consumers that have taken on considerably more debt in 2016? Team Tematica touched on this and what it likely means in this week’s podcast. While we’ve seen decent wage growth thus far in 2017, a new study from WalletHub shows that “US consumers racked up $89.2 billion in credit card debt during 2016, pushing outstanding balances to $978.9 billion, which is roughly $3 billion below the all-time record set in 2007.” This would certainly help explain the year over year increase in multiple jobholders we talked about several paragraphs above.

For an economy whose growth is tied rather heavily to consumer spending, higher interest rates could crimp the health of that economic engine when consumers start to look at their credit card interest rates. Add in higher gas prices and odds are Cash-strapped Consumers will be with us once the euphoria of today’s February Employment Report dies down. We’ll be watching credit card transaction levels at Visa (V) and MasterCard (MA) to gauge consumer debt levels and whether average transaction sizes are shrinking.

— Tematica’s Chief Macro Strategist, Lenore Elle Hawkins contributed to this article.