Category Archives: Weekly Wrap

Weekly Wrap: Are Headwinds Mounting That Could Lead Investors to Question Growth Expectations?

Weekly Wrap: Are Headwinds Mounting That Could Lead Investors to Question Growth Expectations?

  • Rising oil price, rising interest rates, rising inflationary pressure with earnings growth expectations at the higher end of the historical spectrum.
  • US manufacturing remains strong but showing signs of slowing.
  • Increased political gridlock likely after the mid-term election.
  • Geopolitical risks are rising and remain underpriced by the markets.

There are days where you feel like the world is just slapping you in the face. This week some of those dealing with a Senate hearing you have may vaguely heard about (ugh) are likely feeling that way as are, I suspect, Elon Musk fans and I still cannot even think about my wounded 49ers, but I think this guy really gets the award for a rough one right in the face.

The Markets


Speaking of things not going as one might hope, as we close the books on the September quarter, the major market indices ended with a bit of a whimper as they mostly headed lower this week. Let’s review the blow by blow of the last few days.

Monday, the Dow Jones Industrial Average and the S&P 500 closed in the red and the Nasdaq closed flat on the news that China canceled the trade talks that were scheduled for this week. Given that China’s leader is not facing any election, ever, it stands to reason that the nation would do what it can to apply additional pressure to America’s leadership with an impending election that could alter the balance of power. This trade war/skirmish/campaign/scrimmage is unlikely to end anytime soon or easily given that both sides think they have the stronger hand.

Tuesday, was a repeat of Monday with the Dow & S&P 500 losing additional ground while the Nasdaq gained slightly, up +0.2%. Wednesday, the Federal Reserve raised rates as expected and removed a key phrase, “accommodative policy” from its traditional statement. Stocks had been higher prior to the announcement but dropped after its release with the S&P 500 closing down -0.3%, the Dow down -0.4% and the Nasdaq down -0.2%.

Thursday, the S&P 500 broke its 4-day losing streak, gaining +0.3%, the Dow up +0.2% and the Nasdaq up +0.7% as the usual tech titans roared back to life – Facebook (FB) up 1.1%, Apple (AAPL) gain 2.1%, Amazon (AMZN) 1.9%, and Alphabet (GOOGL) up 1.1%. President Trump suggested that he and China’s President Xi Jinping may not be friends anymore upon accusations that his country may be trying to meddle in the upcoming elections. Make no mistake, wars between major nations are no longer fought over physical territory, but rather in the virtual world of data where it costs a lot less to have a much bigger impact. You’ve probably heard this before – data is the new oil.

Thursday after the close was rough for Tesla (TSLA) shareholders on the news that the Securities and Exchange Commission is suing CEO and Chairman Elon Musk for fraud in that now infamous $420 secured tweet. The stock fell 10% in after-hours trading.

In May 2018 US equities began significantly outperforming the rest of the world, but in the past few weeks, that has changed.

The same has happened versus emerging market stocks.

The Nasdaq and US small caps are not validating the moves in the Dow. The Russell 2000 has fallen to new 6-month lows while the Dow has been reaching new highs. The Dow and the S&P 500 have much greater exposure to the rest of the world than small caps so their outperformance over small caps is contradictory to the prevailing narrative that the US has the strongest economy.

The market cap weighted S&P 500 has been materially outperforming the S&P 500 equal weighted index since early April with outperformance going near asymptotic recently. In fact, Amazon and Apple account for nearly 30% of the S&P 500’s gains this year and the six FAANGM stocks account for around 50%.

Bottom line for equity markets is we are seeing a lot of performance chasing. According to the latest Bank of America Merrill Lynch Portfolio Manager Survey, the pros continue to love domestic equities and dislike emerging markets with $14.5 billion net inflows into the US and $962 net outflows from EM just last week.


Oil has closed up in five of the past 6 weeks with Brent crude going over $80 a barrel for the first time since 2014. The last two times it hit this level, (red line in chart) in 2007 and 2010, prices went parabolic within a year. For the consumer, it means there could be more pain at the pump than the 7% year over year increase in average gas prices they are already paying.

Natural gas has also been rising, sitting near or at the year-to-date highs thanks to tight inventories that are at the lowest levels in 10 years excluding 2014. The current increase in inventories has been slower than typical and are currently 18% below the 2009 to 2017 average on top of demand that is 20% higher year-over-year on a rolling 1-month basis.


The bond market is struggling.

Monday the US Treasury 2-year auction saw a bid/cover ratio tied for the worst level in about 10-years. BBB rated bonds have an average yield of 4.43%, which is about 2x the S&P 500 dividend yield and the highest rate we’ve seen since February 2016. The US 10-year Treasury yield has reached over 3%, up 24 basis points in 5 weeks amidst growing fiscal deficits and China now absent at US Treasury auctions.

The latest Federal Reserve fund flows data show that non-financial corporate business debt to GDP is over 46% of GDP, a record high. Given that interest rates remain at historically low levels, the service on this debt is today around 20% of aggregate EBIT. The concern here is as rates rise and that debt needs to be rolled over, it will be at higher rates. Future earnings are facing higher interest expense, higher wage costs and higher energy costs, which means we are not likely to see earnings growth of the same magnitude, especially since higher debt costs will probably cut into share buyback volumes.

In recent months, the yield on the 3-month Treasury has risen about the S&P 500 dividend yield for the first time in 10 years. Market dynamics are changing. Bond yields were so low for so long that lower-risk bonds were not a viable alternative for investors – today investors have a very different set of options.

The bottom line is that when it comes to bonds, TINA (There IS No Alternative) has left the building. Investors can now get reasonable yields on safer assets and ought to be wary of all that QE, NIRP and ZIRP fueled corporate debt all-you-can-eat smorgasbord is going to have a come-to-Jesus moment. Rising rates are bringing that fates day closer. 

The Economy


The latest WSJ/NBC poll found that the Republicans at around 40% of the votes for mid-terms versus the Democrats at 52%, a 12-point spread compared to just 8 points a month ago. The House is a given to switch to the left, but the Senate is increasingly up for grabs as well, making this week’s confirmation drama all the more tense. This growing spread is clearly not lost on trading partners who are in negotiations over tariffs. Clearly, there will be more political gamesmanship in the coming weeks. Just what the market doesn’t need.


This week we received the last three final regional manufacturing reports, Richmond, Dallas and Kansas City. The Dallas Fed headline hit a 4-month low, but the Richmond headline index reached the highest level on record, with data going back to 1993. In the Dallas report the spread between Prices Paid and Prices Received was the largest in over 7 years. In the Richmond report, New orders and Shipments firmed while Capex plan fell. Price pressures were evident in Richmond as well with Wages at an all-time high, Prices Paid near a 6-year high and Prices Received also on the rise.

Putting all five regions together, the data has weakened noticeably. Only two of the current components, when aggregating the data, are up month-over-month (New Orders and Workweek) with the eight other components in decline. Four of the future looking outlook categories are stronger month-over-month (Unfilled Orders, Delivery Time, Prices Paid and Prices Received) with the other seven in decline. Every single component for the current and future conditions are in decline compared to June 2018 (3-month change).

Thursday’s Durable Goods orders for August beat expectations, up +4.5% versus +2.0% expected. New Orders for the US made non-defense capital goods fell -0.5% with shipments roughly flat. Motor vehicle orders were down month-over-month and July was revised slightly down. Core capital goods rose +0.1%. This adds to the growing view that the September quarter’s speed slowed compared to that for the June quarter and its 4.2% GDP.

The bottom line for manufacturing is that the numbers in absolute terms are still strong, with no impending signs of a recession. Production is not, however, accelerating. Business Roundtable found CEO confidence is falling from its recent historic highs and the escalating tariff battles are having an effect on investment plansin the coming months.

The Consumer

The biggest surprise of the week, aside from the fireworks coming out of the week’s Senate hearing, was the jump in US Consumer Confidence to the highest level in 18 years at 138.4 versus expectations for 132.1. Taking a look at the state of the consumer, we can see why folks may be feeling pretty good.

The Unemployment Rate is 3.85% and has been below the Federal Reserve’s NAIRU (Non-Accelerating Inflation Rate of Unemployment) for 17 months. There are more job openings than there are job-seekers. The quit rate is on the rise and is currently at the highest level since 2000, which means wage pressures as employers fight to keep their employees, knowing there are very few sitting on the benches these days. The measure of “jobs plentiful” going all the way back to 1967 has only been higher in late 1998 through January 2001.

The equity share of total household assets has reached 24.6%, a cycle high. The only time it was higher was during the dotcom boom. Financial assets as a percent of total household assets are over 70%, again near all-time highs. When folks look at their assets, they’re feeling pretty good even if wage growth has been weak since the financial crisis – that’s the good news. The bad news is the last time we were near these levels for financial assets was in the late 1960s and the 1990s. The real returns on the S&P 500 in the following ten years was negative, both times. With weak wage growth this cycle, the correlation between consumer confidence and the stock market has risen to 81% versus an average of 51% over the prior four decades.

Such high consumer confidence is a classic late-stage indicator – recall that it bottomed out in February in 2009 – a fantastic time to go all in with US equities. Today the bear camp is the lowest in 8 months with the bull-bear spread the widest since January. Remember what happened in February?

Finally, on Friday Personal Income disappointed, rising just +0.3% month-over-month in August versus expectations for a +0.4% increase. With the Fed poised to boost rates four more times in the next 15 months, gas prices at elevated levels and signs from economic data and company commentary that trade and tariffs are boosting input costs, I see more pressure than not on consumer spending. While that confirms the thoughts behind our Middle-class Squeeze investing theme, it’s not exactly what one wants to see heading into the holiday shopping season.

The bottom line for Consumer Confidence is that this tends to be at best a coincident indicator and at worst a trailing indicator. When confidence has been at such lofty levels in the past, a recession was at best a few years off and at worst less than a year.


As of Friday morning, the US and Canada had yet to come to an agreement on trade, despite the September 30thdeadline. On Wednesday President Trump claimed that he had rejected a meeting with Canada’s Prime Minister Justin Trudeau. Canada then announced that no such meeting had been requested – so this negotiation is going well.

Recently Italian equities had rallied, as had sovereign bonds, on word that the country’s coalition government would keep the fiscal deficit below 2% of GDP, which is below the 3% Eurozone threshold. For comparison, according to the most recent data from the Congressional Budget Office, the US is projected to have a 4.6% budget deficit in fiscal 2019. Italy’s current public debt to GDP is 132%, the largest percentage in the Eurozone after Greece and we remember what fun that was.

The fun part is Luigi Di Maio, the leader of the Five Star Movement, Deputy Prime Minister and Minister of Economic Development (what a business card!) has stated that he believes it would do no harm to go over the 3% threshold. His party is pushing for guaranteed basic income while the coalition partner, the League, is pushing for a flat income tax for both companies and individuals at 15% and 20% respectively. I think the showdown internally in Italy and with the Eurozone leadership is going to make this week’s Senate Supreme Court hearings seem calm and respectful in comparison.

The risk here is that the world’s second largest economy, the Eurozone, is potentially heading into political and economic chaos that may involve a default by the 8thlargest debtor nation in the world. That would be a financial crisis of rather epic proportions.

Friday we got a look at Italy’s budget and wouldn’t you just know, its deficit target is three times higher than the previous government had planned for the upcoming year. Luigi Di Maio said that with this budget, “We have abolished poverty.” I told you it was going to get fun! The Italian FTSE MIB index lost nearly 4.5% on the day.

The bottom line is the market is materially mispricing geopolitical risks. The disaster of the Brexit negotiations combined with the utter insanity (and I do not say that lightly) of the current Italian political leadership means that it is very unlikely that things are going to go smoothly in the future. At $2.5 trillion, Italy has the 8thlargest total external debt of any nation. It is heading into a battle with the Eurozone that has a material probability of ending with Italy’s exit from the Eurozone itself and a potential default of some sort. Greece’s total debt is less than one-fifth of Italy’s and remember the drama from that one? This is a debt load that Germany cannot shoulder and Germany’s leadership is already seriously weakened.


The Bottom Line for the Week

US equity markets had a tougher time this week ignoring the challenges out there while the spread between bond yields and dividend yields has materially changed. The strength in the Dow is contradicted by 6-month lows in small caps and weakness in financials. Manufacturing remains strong but shows signs of weakening. Consumer confidence knocked it out of the ballpark, but this metric has historically been a poor leading indicator of improving economic conditions. The trade wars show no signs of abating, pressures in the Eurozone has risen significantly and consumer spending faces a questionable outlook

Taken together, these factors could lead companies to be conservative in terms of guidance in the soon-to-arrive September quarter earnings season despite the year-over-year benefits of tax reform and continued stock buybacks. In other words, these mounting headwinds could weigh on stocks and lead investors to question growth expectations for the fourth quarter.

What’s more, even though S&P 500 EPS expectations still call for 22% EPS growth in 2018 vs. 2017, we’ve started to see some downward revisions in projections for the September and December quarters, which have softened 2018 EPS estimates to $162.01 from $162.60 several weeks ago. Not a huge drop, but when looking at the current stock market valuation of 18x expected 2018 EPS, remember that hinges on the S&P 500 group of companies growing their EPS more than 21% year over year in the second half of 2018. And then there is the realization hitting investors that even companies that are delivering better than expected September quarter results, such as Nike (NKE), Jabil (JBL) and KBHome (KBH), their stocks are getting hit as all of the above factors I’ve discussed weigh on corporate guidance. What this tells me is we could be in for a bumpy ride over the ensuing weeks as trade, tariffs, politics and economic data converge on corporate guidance and hit investor expectations.

Next week we’ll be looking for further insight into manufacturing in the US with the Markit manufacturing PMI and ISM manufacturing indices on Monday and Factory Orders on Thursday. We’ll be looking to get more on how the consumer is behaving as opposed to feeling with Tuesday’s Motor Vehicle Sales report and Consumer Credit on Friday. We’ll get the ISM and Markit Services PMI on Wednesday. As these and other September data points roll in, we will likely see GDP forecasts for the September quarter continue to firm much like we did this week when the Atlanta Fed cut its view to 3.8% from 4.4% following several pieces of housing data and the August contraction in core capital goods orders.

Have a great weekend!


Weekly Wrap: Market Isn’t Likely To Run Out Of Runway Anytime Soon

Weekly Wrap: Market Isn’t Likely To Run Out Of Runway Anytime Soon

The market continues to want to go up, even though we're faced with less than supportive economic data. But without any real imminent threats in front of us, it seems investors aren't pressing down on the brakes anytime soon.

  • Due to travel and conference schedules, this week’s weekly was completed as of mid-day Thursday.
  • Markets continue a slow slog higher as investors seem to agree with Jamie Dimon of J.P Morgan Chase (JPM) that this is “a skirmish and not a trade war.” Time will tell.
  • While major US indices are making new all-time highs, the international picture is much weaker this year as are some of the US market internals.
  • Economic data for the week was mixed, but we are seeing more evidence of rising costs that will compress margins if those costs can’t be passed on.

The Markets

This week I’m coming to you from the chilly city of Reykjavik, Iceland where I am meeting with some leading thinkers in the ETF world – sharp folks exchanging ideas is always a great way to spend one’s time. When that includes discussions over fantastic local cuisine, it’s nirvana. Getting here was a bit less thrilling with cancelled flights and 8+ hour flight delays – thank God for iPads. Enough of that, now let’s get down to the business at hand…

Monday the Dow Jones Industrial Average lost -0.4% and the S&P 500 dropped -0.6%, ending its 5-day winning streak, as the market got jitters over trade wars — again. The tech-heavy Nasdaq fared the worst, falling -1.4%. This left the FAANG stocks down an average of 15% from their 52-week highs. Monday night the Administration made it official that the tariffs were to go into effect on September 24 with a 10% tax that will rise to 25% by the end of the year/early next year. In response, the 2-year Treasury note yield rose to just shy of 2.8%, the highest level in over 10 years.

Tuesday the geopolitical tit-to-tat continued as China responded to the tariffs with 5-10% duties on $60 billion of US imports. The equity markets were unimpressed with either side of the battle as the Dow closed at its fifth-highest ever and the S&P gained 0.5%. Expectations had been that the US was going for more than 10% to start and China’s response was less dramatic than feared hence the meh response by the US stock market.

Wednesday the markets continued on their upward path, ignoring all the heated words coming out of the beltway, with the S&P 500, Dow Jones and NYSE Composite all closing in slightly positive territory while the Nasdaq closed just barely in the red.

Thursday the markets were again in positive territory, so much for the dangers of September! The Dow and the S&P 500 hit new all-time highs during the day.

While September has historically been the most volatile month in the markets and there is certainly enough going on geopolitically and domestically to warrant some nerves, the S&P 500 has been unusually relaxed so far this month. The average absolute daily change for the index during the multiple years that comprise this current bull market has been +/-0.7%. For 2017 that average was more than cut in half, dropping to +/-0.3%, one of the least volatile years ever. While 2018 started out more volatile than last, September so far has averaged a daily move of less than +/-0.24%.

What’s happening?

This lack of volatility isn’t because investors have become a mellowed out crowd, but rather because realized correlations between S&P 500 stocks have fallen significantly since the end of the financial crisis. The lower the correlation, the more the index volatility will decline as moves in one stock cancel the moves in another.

What we have seen is greater risk appetite as those companies that have higher leverage ratios have been outperforming. (h/t The WSJ Daily Shot)

I’ll also point out that this extended period of uber-low interest rates has led to companies issuing a record amount of debt with corporate debt as a percent of GDP near 30-year highs. The search for yield has led to greater demand for lower quality credit as well, resulting in over 50% of investment grade corporate credit rated BBB, rising from $700 billion to $3 trillion over the past eight years. The median debt-to-EBITDA ratio has increased from 2.1x to 3.2x. An average of $2 trillion of corporate debt will mature every year over the next five – at materially higher rates.

This week’s US Treasury international capital flow data revealed that over the past three months foreign investors have purchased a new $245 billion in US short-term debt, a historical record. On the other hand, the biggest decline has been selling a net $68 billion in US stocks over the past three months while buying a net $19 billion in Corporate Bonds. Thanks to the private purchases of short-term debt, agency debt and corporate bonds, capital inflows remain strong with the private net purchases of US financial assets at the highest level since 2011 on a rolling 12-month basis. But – the recent weakness in US equity purchases is worth noting.

The 10-year Treasury yield is back up above 3% again and the yield curve has steepened recently, with the spread between the 10-year and 2-year back up to 24 basis points from a low of 18 basis points in late August. Taking a step back, the 2-year Treasury rate has doubled over the past year from 1.4% to 2.8%, a magnitude of change that has occurred just three times in the past. Whenever this has happened before, it turned the investing landscape upside down, such as in 1993-94 (rising from under 4% to over 7.5%) which preceded the Mexican Peso Crisis, 1998-2000 (rising from less than 4% to nearly 7%) which preceded the Dotcom meltdown, and in 2004-2006 (rising from less than 2% to over 5%) which preceded the Financial Crisis.

Think things aren’t changing?

  • Last year global stocks ex-USA (Vanguard FTS All-Word ex-US ETF VEU) was up 24.0%, year-to-date it is down 4%.
  • Median S&P 500 sector was up 10% last year versus up 2% year-to-date.
  • There were 44 countries out of 47 MSCI All World Country Index that closed in the green in 2017. Year-to-date just 15 are in positive territory.

The headlines, major indices, and a domestic focus may make you think that the market dynamics of the last year have continued. They haven’t and the US is increasingly a global outlier.


The Economy

The economic data this week was mixed, with conflicting reports and warnings signs of rising costs.

  • NY Fed’s regional manufacturing index(Empire Manufacturing) came in at 19 versus expectations for 23 and the prior read of 25.6 in August. The report revealed that input costs continue to rise, but so far haven’t been passed on to customers which means margin pressures – perhaps a rethink on those earnings estimates!
  • The Empire Report’s Measures for New Orders today and in the future along with Current and Future number of Employees indices showed weakeningas did the outlook for Shipments, Delivery Time and Unfilled Orders.
  • In contrast, Philly Fed headline index reboundedfrom a 21-month low in August of 11.9 to 22.9 – the big question is which is directionally more correction? Philly or Empire?
  • Bank lending has also slowed down Core loan growth at 4.4% year-over-year, while not meager, is well below the rate for much of the post-crisis period. Commercial and Industrial loans have declined materially from July’s peak of 12% (annualized pace) to 7.7%. Still strong, but the change of vector and velocity are worth noting.
  • Housing starts were betterthan expected at 1.282 million versus estimates for 1.238 million housing permits were weakerat 1.299 million versus 1.310 million expected which means future starts will likely be weaker.
  • This week’s jobless claims were lower than expectedat 201k versus 210k expected. We have now seen claims at or below 225k for eleven consecutive weeks, the longest streak since 1969.
  • The Atlanta Fed’s Wage Growth Tracker found that the 3-month moving for the median wage is showing signs of upward pressure, however, growth remains well below historical norms. Rising wages mean pressure on margins.



The Bottom Line for the Week

This is a market that continues to want to go up with plenty of technical and fundamental indicators pointing to continued upward moves, even during this typically tenuous time of year. The economic data, however, is less supportive, but without any real imminent threats, the stock market isn’t likely to run out of runway anytime soon. There are still issues to watch such as the growing spending struggle for the coming Italian government budget, mid-term elections in the US, the US-China trade war and Brexit. Any and all of them could lead to a reversal in the CNN Money Fear & Greed Index, which has been hanging out in Greed territory for the last month.

Next week we’ll get the Chicago Fed national activity index, Case-Shiller home price index, consumer confidence, durable goods orders, core capex orders and most importantly, next Friday we review the latest on personal income and consumer consumption. Interspersed among that data flow we have the Fed’s next FOMC meeting at which it is widely expected to boost interest rates. With that known, the greater focus will likely be on the Fed’s updated economic projections, its latest view on inflation and any comments it makes on the speed of the economy and the current trade war. Should be one of the more fun FOMC press conferences, especially if Fed Chair Powell actually answers a question.


Weekly Wrap: As Investors Remain Complacent, Insiders are Cashing in Their Shares

Weekly Wrap: As Investors Remain Complacent, Insiders are Cashing in Their Shares

Historically volatile September is so far a Steady Eddie as markets regain optimism with calming trade wars. Insiders, however, are selling.

  • The yield curve continues to flatten.
  • Labor market is the tightest in history with 1.1 jobs openings for every job seeker.
  • Consumer credit as a percent of household income remains near record highs, making the economy more vulnerable in an economic downturn.

The Markets

Our heart and hopes go out to those affected by Hurricane Florence, which has forced nearly a million people to evacuate their homes. The fear of Flo has pushed shares of Home Depot (HD) and Lowe’s (LOW) up 1.7% and 3.1% respectively this week as of Thursday’s close. Outside of the obvious impact of the storm on home improvement stocks, shares of United Rentals (URI) gained 8.5%, Beacon Roofing Supply (BECN) rose 3.6%, while rental car companies Hertz Global Holdings (HTZ) and Avis Budget Group (CAR) gained 4.8% and 7.8% respectively.  On the other end of the spectrum, insurance companies are crying, “Please no Flo” as Allstate (ALL) and Travelers (TRV) fell 2.0% and 2.8% respectively. And as one might suspect, Flo led a number of airlines to preemptively cancel flights, which could weigh on their quarterly results.

For the week in full . . .

The markets closed mixed Monday with the Dow Jones down -0.2% after having gained ground earlier in the trading day while the S&P 500 and Russell 2000 enjoyed slight gains, closing up +0.2% and +0.3% respectively. Volume was particularly light, with the 13thfewest shares traded on Monday for 2018.

The combination of Tuesday’s strong NFIB report and the record-setting JOLTS report, more on them later, on top of last week’s report on rising wages pushed the probability of two Fed rate hikes this year up to nearly 80% on Tuesday, which made for markets that just managed to close in the green, mostly thanks to calming in the trade wars.

In contrast, the Shanghai Composite Index and the Hong Kong’s Hang Seng closed Tuesday at 52-week lows, solidly in bear territory, down -25.1% and -20.3% from their January highs respectively. The MSCI Emerging Market Index is in definite correction, closing down -13% from its January high.

Wednesday the markets were again relatively unchanged, trading in a narrow sideways range, as the trade war tensions eased on the news that the Trump administration is reaching out to China for another round of discussions. The more trade-sensitive shares outperformed such as Boeing (BA) up 2.0%, and Caterpillar (CAT) up 2.6% the overall market, that day.

The US Treasury curve flattened further as the 2-year rose to 2.74%, with the spread between the 10-year and 2-year narrowing to just 21 basis points, near the flattest we’ve seen since 2007.

Thursday the major indices gained ground on word that the Administration’s proposed new round of negotiations with the Chinese could prevent additional tariffs on $200 billion of Chinese imports. Also propping the market higher was the weaker than expected inflation reading in the August Consumer Price Index. That combination led the S&P 500 to gain +0.5% on the day, closing in the green for the fourth consecutive trading day and just one third of a percentage point below its all-time record close.

This week Brent Crude rose about $80 a barrel for the first time since May on news from the Department of Energy that the US experienced a 5.3 million barrel drawdown of crude oil inventories for the week, well above expectations for a 2 million decline. This coupled with Hurricane Florence on top of the sanctions on Iran helped push prices up.  OPEC is expected to meet in Algeria later this month with a press conference to follow on September 23rd.

Keep in mind that the US is now the largest crude oil producer globally, outpacing both Russia and Saudi Arabia.  Looking at the International Energy Agency’s reduced 2019 US production forecast and reports from Halliburton (HAL) that is it seeing a slower ramp up in capacity than previously expected, the bull market in oil and oil related stocks is likely to continue. However, we are keeping an eye on gasoline stockpiles, which are well above the 5-year range. Despite that stockpile, gas prices per data published by the US’s Energy Information Administration remain up $0.15 per gallon on average, leaving Middle-Class Squeeze consumers feeling a bit of a pinch.

Stock market complacency continue to reign in this market given week the CBOE S&P 500 Volatility Index (VIX) closed Thursday at 12.17, below its 50-day and 200-day moving averages. The S&P 500 has not moved over 1% in either direction in over 50-days now, the longest streak in about 18 months. One area that we are not seeing complacency in, however, is the “C” suite as executive sold over $10 billionof their own stocks holdings in August. Not exactly something that bolsters investor confidence in the stock market given that its valuation is stretched as it is once again dancing near record levels.


The Economy

Tuesday’s Job Openings and Labor Turnover Survey (JOLTS) from the Bureau of Labor Statistics revealed more job openings, 6.94 million, than the 6.68 expected, which sent the market into a tizzy (technical term) on fears that this would get the Federal Reserve even hotter for a rate hike. The current level of job openings is astounding with the number of unfilled positions relative to total employment in Manufacturing and Leisure/Hospitality at record highs, a fact that stands in utter contradiction to the political discussion around protecting American jobs. Of course, as we are seeing once again the administration has little problem playing a little fast and loose with reported figures. Manufacturing, Construction, Leisure/Hospitality have also seen the highest increases in job openings in recent months.

Back in March, the number of job openings was greater than the number of folks sitting on the sidelines for the first time since 2001 when the data started being collected. Through July there are now a record 11 job openings for every 10 job hunters. The number of voluntary quits continues to accelerate higher and is now at the highest rate since just before the 2001 recession. The lack of people available to fill jobs is a significant constraint to growth and a tailwind to wage growth. One area that continues at high levels is healthcare, which bodes well for shares of Aging of the Populationcompany AMN Healthcare (AMN) that reside on the Tematica Investing Select List.

On Tuesday the August NFIB Small Business Optimism report saw the index by the same name rise to the highest level in its 45-year history at 108.8, passing the prior September 1983 record of 108.0. The report confirmed the previous JOLTS report from the BLS with a whopping 89% of small business owners finding no or few qualified applicants for their open positions. A record high 25% of small businesses reported the Quality of Labor as their biggest problem. Things have certainly changed. A few years back Taxes and Red Tape were the biggest headaches, but today, combined, they are only slightly more challenging than the Labor situation. While this likely means companies will need to train workers to fill slots, something that can hit margins and productivity, it also means we are staring down a headwind for GDP.

Wednesday the markets got a reprieve from the over-heating data when the Producer Price Index (PPI) fell -0.1% in August versus expectations for a +0.2% gain after being flat in July. This was the first drop for the index in 18 months, dropping the year-over-year rate of increase to +2.8% from 3.3% in July and expectations for 3.2%. Core PPI year-over-year declined to +2.3% versus expectations for +2.7%.

Thursday the Consumer Price Index data was released which like the PPI, came in below expectations for 2.8% year-over-year at 2.7% with core CPI at 2.2% versus expectations for 2.4%. The slowdown may be transitory, but it reduced expectations around rate hikes which in turn weakened the dollar. Rent inflation, which is still near the higher end of the historical spectrum slowed, but new and used car inflation increased. Personal computer prices saw a record increase, a result of the tariffs on Chinese imports.

Friday’s report on August retail sales saw the smallest gain in six months, rising just +0.1% versus expectations for +0.4% and July was revised upwards to +0.7% from +0.5%. If it were for an increase in gas prices, which led to a +1.7% increase in purchases at gas stations, retail sales would have declined in August. The big hit came from car sales, which fell -0.8%. Sales at department stores and outlets also declined. Our Digital Lifestyleinvesting theme was on display again, with internet retail sales a standout of the report, rising +0.7%.

Friday we also learned that US import prices in August experienced their biggest decline since January 2016, falling -0.6%, versus expectations for a -0.2% drop, thanks to the strong dollar. July’s import prices were revised downward as well to -0.1% from unchanged.

The results from recent ZEW surveys of economist reveal they aren’t particularly enthused about the outlook for the global economy with growth expectations for regions at or near the lows. That said, their view of current conditions is pretty sunny, so more concerns that we are peaking. That seems to be the growing view everywhere, and even JPMorgan is now saying we could see the next financial crisis emerge in 2020. Not that I hang my hat as a Contrarian, but this is making me think I need to seriously revisit my analysis as there are entirely too many thinking this way, which usually means something else is likely to happen – as the saying goes the market likes to make fools of the greatest numbers of participants.

The euro area’s industrial production growth contracted year-over-year in August versus expectations for an increase of 1.0% with Italy’s down -1.3% versus expectations for an increase of +1.6%. In the United Kingdom, forward looking economic activity indicators are deteriorating, much around the continued uncertainty and lack of progress around Brexit.

The strength of the dollar continues to vex emerging markets with 28 different EM currencies making new 52-week lows in the past two weeks alone. The number of 52-week lows is around the highest since January of 2016, when there were 42 making new 52-week lows. In August of 2015, there were 70 making new 52-week lows, so there is still plenty of room to move, which means there is likely more pain to be had so we aren’t rushing in yet to find the fire sales. While equity valuations for EM have come down, most markets still remain pricey by historical averages.

As we look into the future at the inevitable downturn – the business cycle cannot be wished nor voted away – I was pleased to see that consumer credit as a percent of disposable personal income has been declining, although it remains near the highest levels on record.

Total consumer credit rose $16.6 billion in July versus expectations for just $13.9 billion, to a seasonally adjusted $3.91 trillion, a 5.1% annual growth rate. The major source of growth was in nonrevolving credit, which is mostly auto and student loans, (the report does not include mortgages) which rose 6.4% in July after rising 4.0% in June. Such high levels of debt make the household sector, which accounts for roughly 70% of GDP, more vulnerable in an economic downturn, which means GDP is likely to get hit harder thanks to a bigger contraction in consumer spending than would occur with less household debt.

The bad news for housing continues with student debt at a  record 30% of total consumer loans. Those student loans are a major headwind to first-time homebuyers. Without the first-time buyer, the trade-up buyer has no one to bid up the price of their first home.

The debt problem isn’t just at the household level as UBS estimates that lower-quality corporate loans and high-yield bonds have risen to a record high $4.3 trillion from $2.4 trillion in 2010. High-yield corporate bonds (aka junk) has risen from $781 billion in 2010 to $1.3 trillion.

But wait, there’s more. The federal deficit in the first 11 months of fiscal 2018 was 32% higher than in 2017 as revenues rose by 1% but spending increased by 7%. This was driven by a 30% decline in corporate income tax receipts and an increase of 4% in individual and payroll tax receipts. Overall the budget deficit increased to $898 billion putting the total debt load to $21.5 trillion. In Q1 total federal debt as a percent of GDP had hit 105%. For those of us who recall the furious debates over the balloon federal debt levels in the early 1980s when this ratio was less than 40%, the utter indifference these days is astounding.


The Bottom Line for the Week

So far September is not living up to its reputation, with steady markets thanks to toned down trade war rhetoric despite much of the economic data coming in weaker than expected. The labor market continues to tighten and elevated levels of consumer credit relative to disposable income remains a material vulnerability for the economy, particularly in light of the growing fiscal deficit and record levels of corporate debt.

Next week we’ll get updates on housing and construction with building permits, existing home sales and home builders index. We’ll also get Markit data on manufacturing and services PMI.

Weekly Wrap: September Living Up to Its Reputation as the Market Gets Punched This Week

Weekly Wrap: September Living Up to Its Reputation as the Market Gets Punched This Week

Lofty US Markets Facing Economic and Geopolitical Realities

  • Equity markets lost ground during the first week of the typically volatile month of September.
  • The once market-leading tech sector is taking a beating both in the markets and on Capitol Hill.
  • Wage growth is accelerating, which puts more pressure on the Fed to raise rates.
  • Italy is becoming more worrisome while little progress has been made on Brexit.
  • Trade wars continue with American companies asking the Administration to show some restraint.

The Markets

It was a short week for the markets due to the Labor Day holiday on Monday, thankfully, as the first four post-summer trading days have been fairly dour. I’m pretty sure that Tesla’s (TSLA) CEO, Elon Musk wished it were shorter.

Tuesday was the first day of trading in what is typically the most challenging month for U.S. equities, particularly in years with mid-term elections and prospects for a yet another escalation in the current trade war. Going back to 1950, the average return for the S&P 500 during this month is a loss of -0.5% and no other month has had as many 10%+ declines than September’s record of seven. Nasdaq and S&P 500 both lost -0.2% on the first trading day of September despite Amazon (AMZN) briefly reaching $1 trillion in market cap during trading.

Wednesday tech was in the hot seat as Facebook (FB) COO Sheryl Sandberg and Twitter (TWTR) CEO Jack Dorsey were grilled by Congress. Share price performance for the two, down -2.3% and -6.1% respectively, indicate that investors were not impressed by the day. But at least they showed up, while the expected folks from Alphabet were a no-show. The tech sector was the worst performer of the day, with Netflix (NFLX) leading the way, down -6.2%, the Technology Select Sector SPDR ETF (XLK) lost -1.4%, the Nasdaq Composite lost -1.2%, the S&P 500 fell -0.3% but the DJIA managed to squeak out a gain of +0.1%.

Thursday was yet another tough day for the tech sector as the Nasdaq Composite closed in the red for the third consecutive day. The S&P 500 and the NYSE Composite also lost ground.

Friday the markets opened in the red after strong payroll data, which was expected to be the big story of the day but instead, the fireworks began once again for Tesla. To recap the past few days, Tesla’s CEO Elon Musk is on videosmoking weed and sipping whiskey for Joe Rogan’s podcast. Friday morning, we learned that Tesla’s Chief Accounting Officer Dave Morton has left after all of one month on the job (gulp) and the Chief People Office Gaby Toledano is also leaving after having taken a leave of absence last month, (gulp, gulp). Sarah O’Brien, Tesla’s VP of Communications is also saying her adieu’s Friday, per a planned exit.

Even so, US equities continue to outperform the rest of the world, with the relative performance going nearly asymptotic since May. In our highly interconnected world in which supply chains tend to be multinational, this outperformance is unlikely to continue on its current path, so either the rest of the world has to start performing better or the US is headed for a downturn.


The Economy

Jobless claims this week were 203,000, the lowest level since December of 1969 as layoffs become the unicorn of human resources. Looking at that cycle, jobless claims bottomed at 162,000 on November 1968, then gradually increased until the recession started in the last quarter of 1969, at which point they spiked.



I share this because while everyone loves to see more people employed, when we get to such low levels of unemployment and new jobless claims, it means the labor market it extremely tight. That means that employers are having to employ folks that are not a good fit which reduces productivity and increases costs, putting pressure on margins. Looking at the trendline for jobless claims this cycle, it is hard to imagine how it can go a whole lot lower and we have no precedent for it staying at these low levels for any significant period of time. Could it? Well yes, anything is possible, but the likelihood is naturally rather low. Something to keep in mind when looking at valuations that remain elevated.

The ADT Private Nonfarm Payrolls report was lower than expected, meaning the expectation was for 200,000 new jobs, but the report showed only 163,000, down from the 217,000 in July. Hiring remains broad-based, with most sectors adding new positions.

Friday’s Nonfarm Payroll Report was expected to show an addition of 191,000 jobs but beat expectations, hitting 201,000. On the downside, the prior two months reports were reduced by 50,000. The labor force participation rate declined 0.2%. That’s not a good sign, but could be just a seasonal aberration, so we’ll hold judgement on this one. Much more important was the increase in pay, with average hourly earnings rising 2.9% on an annualized basis versus expectations for 2.7% – wage pressure is appearing. That is the highest wage growth since April 2009. That just may lock in a fourth rate hike from the Federal Reserve.

Citibank Economic Surprise Index (CESI) is at a year-low low and the Economic Cycle Research Institute’s (ECRI) U.S. Weekly Leading Index is sitting on the lows for 2018. That means the news coming in has been more often weaker than expected, which tells us that the outlook has been overly optimistic.

The end of last week saw inflation numbers come in roughly in line with expectations, which pretty much guarantees a rate hike by the Federal reserve this month, with the CME FedWatch Tool finding market pricing to indicate a 99.8% probability of the target rate increasing to 200-225 basis points from the current 175-200. The yield curve continues to flatten with the spread between the 10 and the 2-year shrinking.

Taking a look around the world:

  • Trade talks with Canada resumed on Wednesday. By Thursday’s close negotiations were reportedly down to three main issues. President Trump had set a deadline for this week, so the pressure is on.
  • Further signs of slowing growth around the world as Germany’s manufacturing PMI declined in August from July and orders for the euro area dropped to a 2-year low.
  • Dollar strength continues to be a problem for emerging markets who hold an astounding $3.7 trillion in dollar denominated debt. The majority of the EM currencies continue to lose ground against the greenback.
  • President Trump is looking to impose tariffs on $200 billion of Chinese imports as of midnight Friday. Some of the most prominent technology and retail companies in the States made last-minute pleas to the White House against implementing these tariffs.
  • Let’s not forget about Italy. In the coming months the nation’s leadership is going to have some very tough challenges and so far, the market is pricing in some concerns as the spread between the Italian and German bonds widens significantly.



On a side note, this past week I flew back into Genoa and saw that now famous bridge as we descended onto the runway. The plane became very quiet with a few scattered sniffles. It was a heartbreaking sight.

Italy is moving faster than in prior years towards an awful fiscal cliff that has the potential to threaten the very fabric of the European Union. In the coming months we could see some dramatic moves as the current leadership is very anti-eurozone and the citizens are utterly fed up with an economy that just can’t get moving. Then there is all that progress made on Brexit…

Back here in the US, FiveThirtyEight reports that there is a 77% chance the Democrats will gain control of the House. If that happens, the administration is going to have a lot bigger hill to climb to get legislation passed.

Despite all this, consensus estimates for the S&P 500 companies are for +20% year-over-year earnings growth in Q3 and +17% in Q4 – that is a whole lot of optimism in the face of economic data telling a more conservative tale.


The Bottom Line for the Week

Some air was let out of the lofty equity markets this week as concerns over rate hikes, the impact of the tariff wars and geopolitical risks welcomed investors back from the long Labor Day weekend. Accelerating wages and an unemployment rate at the lowest level in 49 years make two more rate hikes from the Fed this year likely. Signs of slowing global growth are rising yet expectations for earnings in the back half of 2018 remain aggressive. This Fall is going to be a bumpy one.

Next week we’ll be looking for updates on Wholesale Inventories, Business Inventories, Industrial Production, and Capacity Utilization. We’ll get more insight into how the consumer is spending with the Retail Sales report and further inflation indicators with the Producer Price Index and the Consumer Price Index. And of course, Apple’s event next Wednesday (Sept. 12) is likely to be a focus for investors and the talking heads as we finally get to see what Apple unveils and whether it’s as good as expected for Universal Display (OLED) shares, a Disruptive Innovator on the Tematica Investing Select List.


Weekly Wrap: Momentum is Going Up Up Up, Albeit With a Lot Less Conviction

Weekly Wrap: Momentum is Going Up Up Up, Albeit With a Lot Less Conviction

Due to travel logistics this week, we’re giving you a quick recap at the midweek before heading into the last hurrah of summer and the Labor Day holiday weekend in the United States.

  • Equity markets reaching new highs while economic data is mixed at best.
  • The market mistakes dialogue around trade negotiations for a fait accompli.
  • Ignoring the rising risks Italy presents isn’t making it go away.


You’ve heard this one before right? Equity markets making new highs while volatility continues to be exceedingly low. Here are a few thoughts as we exit the summer and head into the final months of the year.

  • The yield curve continues to flatten and yet few seem to care. This is nothing new as the same thing happened in 2000 and 2007. What’s old is once again new… again.
  • Market breadth is weakening. As I mentioned on this week’s Cocktail Investing podcast, only 2 of the 11 S&P 500 sectors are currently at new highs (Consumer Discretionary and Healthcare). Back in January, 7 sectors were at new highs. We also see fewer stocks making new highs than back in January.
  • Volume is also quite low at this time of year, so I would argue there isn’t a ton of conviction due to seasonality behind the recent new highs.
  • The Shiller PE ratio has risen to 32.2x. It has only been this high 3% of the time in the past 127 years. This metric has a terrible track record for timing, but has been quite good for forward overall market returns. If history is any guide, and it usually is, just buying the major indices and hoping for the best is likely going to disappoint at best. Specific security selection matters more now than at any time during this bull run, and we here at Tematica continue to favor our thematic approach. 
  • People keep talking about the forward PE being reasonable at 17x and 16x for all of 2019. Hold on a minute. That is dependent on 10% EPS growth in 2019, which seems unlikely because…
  • Corporate profits as a percent of GDP remain well above historical norms. In the first quarter, S&P 500 operating earnings rose 25% year-over-year versus 5.4% nominal GDP growth. Normally these two are within a few percentage points of each other – not 20% apart!
  • The S&P 500 dividend yield is now less than the 3-month Treasury. Recall that from 2010 to mid-2016 the dividend yield was on average, roughly 2% more. TINA (There Is No Alternative) has left the building.
  • The spread between the 10-year and the 2-year Treasury bond is below 0.2. Historically when this drops to zero, a recession isn’t too far away.

Narrowing breadth, profit levels elevated relative to historical norms and future growth expectations highly optimistic – the risk that the market will be disappointed in the coming months looks pretty high to me.


The Economy

The economic data continues to be a mixed bag, but more data is coming in weaker than expected than is coming in better than forecast. The Economic Research Institute’s Leading Economic Index has declined in 5 of the past 6 weeks and is not at its lowest point for the year. Market reaching new highs while the LEI hits a 2018 low – the markets and the economy often don’t accurately reflect one another.

One of the biggest geopolitical risks continues to be these ongoing trade wars. This week looks to have made progress with Mexico and maybe Canada, but, and for the life of me I don’t know why this isn’t discussed more, Congress still has to vote on these agreements and I wouldn’t exactly describe the relationships on Capitol Hill as warm and fuzzy. We’ve also got mid-term elections coming up with a decent probability that the Democrats are going to gain ground, which means inside the beltway would be even more cantankerous. 

As for those trade wars and revised terms with Mexico and Canada, they pretty much translate into higher prices for consumers. So, the big question is with consumer spending accounting for around 70% of GDP, will any gains in wages (which has so far been rather elusive) be sufficient to make up for rising prices thanks to new terms of trade and the overall rising costs we’ve been hearing about?

Then there is Italy. No one seems to be paying much attention to the fact that the third largest economy is Europe is having a political meltdown. I’d like to point out that more people died in Rome this year from accidents largely due to the utterly horrendous roads than died in the bridge collapse in Genoa. On a side note, I’ll be back in Genoa next week. I get a massive lump in my throat when I think what it will be like to drive past the collapsed bridge. Italy’s political leadership has been giving social media more mockery material than I would have ever dreamed, or perhaps that’s more of a nightmare. This situation is going to get much, much uglier and then there is that Brexit mess. But markets are making new highs so, it’s all good. 


The Bottom Line for the Week

It’s all about momentum and the momentum is going up, up, up, albeit with a lot less conviction than I’d like to see. The economic and geopolitical picture when one looks out beyond the next six months makes me want to distract myself by uncorking a nice Barolo. That said, Labor Day weekend is upon us so go enjoy the sun, your friends, your family, and think of all for which you can be grateful. Eat a bit too much. Laugh a bit too much. Life is sweet and all too short. Enjoy.

During next week’s four trading days, we’ll be looking for the ISM Manufacturing and non-Manufacturing Indices and motor vehicle sales as well as the productivity numbers for Q2 and July Factory Orders. We’ll also get August’s payroll reports and average hourly earnings.


Weekly Wrap: New Highs Remain Elusive as the Economic Data Comes Up Short

Weekly Wrap: New Highs Remain Elusive as the Economic Data Comes Up Short

Thus far in August, around two-thirds of the economic data has come in below expectations yet the longer-term earnings growth outlook for the S&P 500 is at the highest levels seen since the later stages of the dot-com bubble

  • Close, but no cigar as the S&P 500 just misses closing above its January 26, 2018 high while market breadth deteriorates amidst the lowest trading volumes of the year.
  • More fireworks in DC that didn’t appear to move markets much – investor headline fatigue?
  • The Federal Reserve is likely to raise rates at the next meeting but is increasingly concerned with the potential economic impact of the ongoing trade wars.
  • The soft data remains upbeat, but the hard data isn’t supporting that sentiment.


Monday, the major indices all closed in the green. Tuesday, the S&P 500 finally, after 142 trading days below the January 26th high, made a new all-time high but was unable to sustain that new high into the close. The Russell 2000 outperformed the S&P 500 to close at a record high as concerns around the continuing trade wars and strong dollar weigh on those companies that generate significant revenue internationally, favoring those (usually small cap) whose revenue is primarily domestic-driven. The Dow Jones Transportation Average also closed at a record high. After the market’s close politics took center stage with two former President Trump associates finding themselves facing felonies.

Wednesday the markets didn’t seem overly fussed about the drama in DC as the S&P 500 made, by some accounts, the record for the longest bull market in history. The Russell 2000 closed at a second consecutive all-time high but the Dow Jones Industrial Average and the S&P 500 lost ground, remaining below the January 26thhigh.

Thursday the major indices again closed in the red, but only slightly as we head to the close of the fifth consecutive week of the S&P 500 moving within 3% of its January peak without being able to break through to a new closing high. Meanwhile, the yield curve continues to flatten as the spread between the 10-year and the 2-year Treasury falls to a new post-crisis low of less than 20 basis points. This metric has a fairly solid track record of predicting recessions when it falls to zero.

Looking at the bigger picture of the market, we keep hearing from the mainstream financial media that this bull market run, despite its impressive duration, is unloved. Hard to reconcile those talking points with the reality that households have 32% of their assets in the equity market, a level that is well above the 29% peak in 2007 and is bested only by the period around the dot-com mania in the late 1990s. The pros also look to be fairly fond of this market, US equity portfolio managers sitting on (in aggregate) a liquid asset ratio at near record lows of just 2.7% — that’s not leaving a lot of dry powder sitting on the sidelines. According to Market Vane, bullish sentiment is at 61%.

That all looks to me like a whole lotta love, but I’m not too pleased when I look at what is happening with breadth. So far this year just four companies, Amazon (AMZN), Netflix (NFLX), Microsoft (MSFT), and Apple (APPL) have generated around 40% of the gains for the S&P 500 this year — that is the kind of concentration typically seen as markets are around their tops. When the S&P 500 reached its peak for the year on January 26th, 8 of 11 sectors were at new highs, while this week that number is down to 2. Back on January 26th, 22% of stocks were down 10% or more from their 52-week high. This week that is up to over 40%.


The Economy

It was a fairly quiet week on the economic front, with only a few reports coming out, but the week was in no way a snoozer with plenty of fireworks coming out of Washington, DC. The political tape-bombs had little visible impact on the markets, but they sure did light up social media like a cigarette in a helium factory. Meanwhile, the President and the Federal Reserve are not feeling the love for one another this week.

Wednesday the Federal Reserve released the minutes for the July 31st/August 1stmeeting of the Open Markets Committee whose statement had been more upbeat, using the word “strong” more often than in prior statements. The minutes revealed that the Fed sees greater pricing power, which means they see more inflationary pressures. There were also comments concerning the potential negative impact of declining fiscal stimulus, which has not been discussed much previously and of course, comments concerning the potential negative impact of trade wars. The White House looks to be potentially regretting its nominee for Fed Chair, as President Trump on Monday told Reuters that, “I’m not thrilled with his raising of interest rates, no. I’m not thrilled.

The Fed doesn’t sound like they are fans of the various trade wars, stating that if they continue.

“… there would likely be adverse effects on business sentiment, investment spending, and employment. Moreover, wide-ranging tariff increases would also reduce the purchasing power of U.S. households. Further negative effects in such a scenario could include reductions in productivity and disruptions of supply chains. Other downside risks cited included the possibility of a significant weakening in the housing sector, a sharp increase in oil prices…

Overall “trade” and “tariff” got a combined 26 mentions in the latest minutes, up from just 8 mentions earlier this summer.

The President has also not been thrilled with China as there has been no obvious progress made in the trade talks, but the markets don’t seem to be terribly nervous given the current levels of the VIX.


Thursday the US began collecting an additional 25% tariff duties on 279 Chinese imports which range from semiconductors various and chemicals to plastics and motorcycles. This comes after tariffs on $34 billion of Chinese imports implemented in July. Not to be outdone, China retaliated with its own tariffs on $16 billion of US imports ranging from fuel to steel products to medical equipment that took effect at the same time.

Rising interest rates have been another headwind to housing as existing-home sales fell to a 2 ½ year low. Not altogether surprising given that the Home-buyer Affordability Composite index has dropped to a 10-year low. This looks to be a problem more at the mid and lower-end at this week Toll Brothers shares rose as much as 16% after the luxury home-builder reported a 30% increase in profits.

Thursday’s Industrial Production data continued the meh tune with the Flash US Composite Output Index falling from the prior month to reach a 4-month low, with the services component also at a 4-month low while manufacturing hit a 9-month low. Output, new orders and employment growth all moderated month-over-month, with Chris Williamson, Chief Business Economist at IHS Markit reflecting that the Flash August PMI implies “annualized GDP near 2.5%, down from a 3.0% indication in July.” Williams went on to say, “… the survey found increased cases of companies reporting the need to cut costs, in part reflecting the recent steep rise in raw material prices, often linked to tariffs and shortage-related price hikes.

Across the pond saw a similar result with the August Flash Manufacturing PMI for the Eurozone, while still in expansion territory, at the weakest level in the past 18 months. New order growth was the third-weakest since December 2016 while input costs and selling price inflation rates continued to be among the highest seen over the past seven years but did fall to 3-month lows.

This week new unemployment claims continued to be quite low by historical standards but I doubt that the unemployment level will go much lower, sitting today at 3.9%, having dropped as low as 3.8% in May, the lowest level since 2000. This hyper-low level of unemployment has historically been a negative indicator for the stock market. The unemployment rate has been at or below 4% for an extended period of time just 3 times, going back to 1948. The first period was in the post-WWII explosive growth from 1948, off and on through much of the 1950s. Then again from 1966 to 1970 and then for 10 months in 2000. The first period, the post-WWII period saw incredible growth in the U.S. for a variety of reasons and stands as a truly exceptional period in the growth of the U.S. economy. During this time the unemployment rate meant something different than it does today because we saw the employment to population rate for women increasing substantially as the world recovered from the horrors of war and the U.S. economy benefited from the enormous rebuilding activities.

The next period of sub 4% unemployment saw the S&P 500 remain essentially flat and the dot-com bust was no friend to the S&P 500 either.



The Bottom Line for the Week

Thus far in August, around two-thirds of the economic data has come in below expectations yet the longer-term earnings growth outlook for the S&P 500 is at the highest levels seen since the later stages of the dot-com bubble. The soft (sentiment) data remains robust, but the hard (actual) data has been less rosy.

The earnings outlook is more in line with the soft data than the actual hard, which I suspect means downward revisions will be forthcoming.  Hat tip to for this chart:


As TopDown writes, “Back then it was all about ‘the new economy’ as dot-com companies were disrupting industries left, right and center and promising a tech revolution. Now it’s tax cut euphoria, and the hope of a shaking of the old ‘secular stagnation’ fear that took hold in 2015/16.


The Week of August 27-31 2018

We are entering what is easily one of the slowest weeks of the year as folks enjoy the last lazy days of summer before school starts and work kicks off again with a vengeance. This month has seen the lowest trading volumes of the year, which is typical, so the jury is somewhat out on just how things will continue to pan out once everyone is back at their desks and the political heat from the upcoming mid-term elections intensifies.

The last week of August we’ll get two more July data reports that tend to be sleepers for most – the Advance International Trade in Goods and Advance Wholesale Inventories reports – but given their nature and what we learned from the August Flash reading they will bear going over. Midweek we get the second estimate of 2Q 2018 GDP, and the question will be whether it’s revised to something with a 3-handle or not? Rounding out the week will be the July Personal Income & Spending Report, which given the pace of monthly retail sales we will be scrutinizing the income side of the report to determine if the sharp pace of consumer spend can continue as we gear into the holiday shopping filled last four months of the year. The last day of the month brings us the Chicago PMI and University of Michigan Consumer Sentiment Index, and in both, we’ll be looking for hard and soft fallout from the current trade situation.

Weekly Wrap: Markets Seesaw on the News of the Day

Weekly Wrap: Markets Seesaw on the News of the Day

The shift towards macro continues in the markets, while the record levels of corporate buybacks creates a major buyer for stocks.


  • Not so Turkish delight this week as the nation’s currency continued to plummet.
  • The major indices continued there up-a-day, down-a-day moves that end up going not much of anywhere in the end.
  • The importance of infrastructure investment made global headlines with the collapse of a major bridge in Genoa, Italy, killing at least 39 in a country that has the eighth largest economy in the world with government spending accounting for around 50% of GDP.
  • Tax cuts boost retail sales as average weekly earnings for most actually fell over the past year, despite how upbeat consumer sentiment may be.


Monday, the Dow Jones Industrial Average and the S&P 500 both experienced their fourth consecutive close in the red as the Turkish Lira hit a record low after having dropped more than 20% the prior Friday. Fears over the crisis in Turkey led to declines in emerging market shares with the iShares MSCI Emerging Market ETF (EEM) falling 1.6% for the day and 18.4% from its 52-week high. The Turkish lire dropped another 6.6% on the day and is now down 29% in August. Last week I mentioned the outperformance of the S&P 500 index versus the rest of the world, as of Monday, the S&P 500 was still up 6% in 2018 versus the 5.8% decline for the rest of the world (MSCI World Index excluding the US), which Bloomberg pointed out, is the biggest divergence in four  years.

Tuesday was much more upbeat with 425 of the companies in the S&P 500 closing in the day in positive territory. That upbeat tone didn’t last as Wednesday the S&P 500 had its worst day since late June, falling -0.8% and the Nasdaq Composite fell -1.2%. Retail sales may have been solid as was Macy’s (M) quarterly results yet shares fell 16% on numbers that beat and raised guidance, leaving it the worst performing US stock on Wednesday and marking the stock’s third worst day ever. To be fair, expectations had gotten way too high (how many times have you heard us say that!?) as shares were up 66% this year prior to today’s results. The positive retail numbers from July did nothing to help Nordstrom (JWN), Kohl’s (KSS) or J.C. Penny (JCP), which fell -5.5%, -5.8% and -8.7% respectively Wednesday. It’s been a rough time for many retailers. Even the omnipresent Kim Kardashian West recently announced the closing of the DASH stores, (oh the horror) and the President’s daughter closed down her Ivanka Trump brand.

Tencent (TCEHY), China’s online advertising and gaming giant, saw its shares take a nearly 4% hit as it reported its first quarterly profit decline in over 10 years with profits down 2% on a revenue increase of 30%. Shares of the company, which represents 4.9% of the iShares MSCI Emerging Market ETF (EEM), have lost 17% in 2018. That’s a warning sign that all is not so great over in China, which given the size of its economy, matters to investors.

Shares of Walmart Inc (WMT) closed up 9.3% Thursday after reporting a quarter that was a total success. I spoke with Neil Cavuto of Fox News, USB Senior VP Of Investments Jim Lacamp and Chris Bedford of the Daily Caller News Foundation on Thursday about Walmart’s results and what is says about the strength of the consumer in light of the lack of wage growth and  the ongoing trade war in the context of the upcoming mid-term elections which you can watch here, according to Neil we all brought our “A” game – must have been that 4th cup of coffee!

Thursday, the overall markets rebounded strongly with the S&P 500 closing up +0.8%, the Nasdaq up +0.4%, the Dow Jones Industrial Average up +1.6% (it’s best day since early April) and the NYSE Composite up +0.9%, driven in no small part by the news that China and the US are heading back to the negotiating table over tariffs. A total of 437 of the companies in the S&P 500 gained ground on the day. That leaves the S&P, Nasdaq, Dow and NYSE Composite down -0.5%, down -1.1%, up +0.2% and down -0.9% respectively over the past five days. All but the Nasdaq remain below the January 26th highs and the NYSE Composite, the broadest and weakest of the group, down -5.8% since then.


The Economy

Our Middle-Class Squeeze investment theme received further confirming data with the Real Earnings Summary for July from the Bureau of Labor Statistics. It reported that real average hourly earnings for all employees were unchanged from June to July, seasonally adjusted while real average weekly earnings decreased -0.2% over the month due to a decrease in the average workweek. For the more than 80% of the population in the Production and Nonsupervisory Employee category, real average hourly earnings decreased -0.1% from June to July. On a year-over-year basis, real average hourly earnings decreased -0.4%, which when combined with a +0.3% increase in the average workweek, results in a -0.1% decrease in real average weekly earnings for over 80% of the population. That means that the only gains in take-home pay for most have come from the tax cuts and given that we aren’t likely to get another round of those for individuals, unless wages finally do start moving up, our Middle-Class Squeeze isn’t likely to loosen up.

While weekly earnings failed to impress, retail sales for July did. US retail sales were stronger than expected in July rising +0.5%, versus expectations for +0.15, but June was revised lower to a +0.2% gain versus the previous estimate of +0.5%. Excluding auto, gas, building materials & food services, (core) retail sales rose +0.5% as well but June was revised to a dip of -0.1% versus prior estimates for 0%. Online sales likely enjoyed a boost from Amazon’s “Prime Day,” and given that this is a volatile indicator, I like to look at the 3-month moving average, which has been steadily moving up since March 2018. Good news for retailers, not so great if we continue to see stagnant wages. The current pickup in spending is likely because, although real weekly wages haven’t improved, those tax cuts have left more for take-home pay.



The New York Federal Reserve released its quarterly assessment of household debt this week and found that delinquencies eased across most types of consumer debt except for (shocker) student loans. This is a good sign for the health of the household. Interestingly the number of credit inquiries within the past six months is at multi-year lows, which is an indicator of weak consumer credit demand – that doesn’t jive all that much with the record levels of consumer confidence. Here sentiment isn’t aligning with behavior.

This week the NFIB (National Federation of Independent Businesses) released its Small Business Optimism index which in July rose 0.7 points to 107.9 points and is just 0.1 point away from the all-time record high of 108 reached in July 1983. Keep in mind that 60% of NFIB members are businesses with 1-5 employees, so this report is closer to consumer sentiment than other business sentiment studies. The tightness in the percent of companies with job openings they cannot fill reached yet another record high. In July, small business owners added the largest number of workers per firm, net 0.37, since 2006. Those reporting higher compensation costs also remains near the highs since the end of the recession with the Quality of Labor continuing to be the single most important problem facing the business. Overall the report was pretty rosy and that’s what made all the headlines, but (and you knew there would be a but as our job at Tematica is to always go deeper and find the risks) the Outlook for General Business Conditions which evaluates sentiment 6 months out, remains well below the November 2017 high of 48 at 35. That is still well above where it has been for much of this expansionary period, but we look for directional trends so that bears noting. The percent planning for higher prices three months out is at the highest level since the start of the recovery. Those reporting actual higher prices today versus three months prior remains near the highest level since the recovery began. Capital Expenditure plans continue to trend higher, but for context, remains below pre-recession levels.

Looking outside the US, the Eurozone economy was slightly stronger in the second quarter than initially estimated, with year-over-year GDP growth reaching 2.2% versus the prior 2.1% estimate. This improvement was driven primarily by better-than-expected growth in Germany. So that’s on the plus side, but in the rearview mirror while Eurostat reported this week that the bloc’s industrial output declined by -0.7% in June, significantly worse than the expected -0.4% decline. The loss was driven primarily by a -2.9% decline in the output of capital goods, such as machinery, which indicates that companies may be expected weaker growth in the coming quarters. Consumer and intermediate good output also declined.

Tematica’s Lenore Hawkins gives her insights about the bridge collapse in her second home of Genoa Italy and what it means for infrastructure spending worldwide.

Italy took over the headlines as a major bridge in my adopted hometown of Genoa collapsed. The ensuing finger-pointing, denials and accusations are not exactly improving investor confidence in a nation that is already struggling with a weak banking sector and a slow-to-no-growth economy. You can read more on the details here.

Earlier this week Turkey dominated the headlines, so we’ll quickly go over the what’s and why’s.

The US doubled tariffs on Turkish steel and aluminum imports last week after having late last month placed financial sanctions on two of the nation’s ministers in response to Turkey’s detainment of American pastor Andrew Brunson for nearly two years on espionage and terrorism charges tied to an attempted coup of President Erdogan in 2016. The Turkish Lira has fallen over 50% from its 1-year highs, Turkish bond yields have hit 10+ year highs and Turkish stocks are at 10+ year lows. The big question is contagion – clearly, Turkey is in crisis, but how much does it affect those outside?

The Turkey question comes down to primarily two impacts, consumption and debt. The world is awash in debt, with global debt-to-GDP having reached 244% versus all of 210% in 2007, which was back then considered an unsustainable level. An awful lot of that debt is US Dollar denominated thanks to the Federal Reserve’s post-crisis quantitative easing policies which made US debt relatively cheap – that was the whole point. Over 50% of Turkey’s borrowing is in a foreign currency, so as its currency tumbles, that debt becomes a lot more expensive, thus a lot riskier, thus the nation finds itself in a death spiral. Since most of the debt is corporate as opposed to sovereign debt, a bailout via the IMF is unlikely. For those who argue that Turkey isn’t all that big with the 17th largest economy in the world, I’ll point out that Thailand in 1997 had the 30th largest economy yet kicked off the Asian Financial Crisis which, for those of us who were around then, was no cake walk.

According to the most recent data from the Bank of International Settlements, Spanish banks hold about $83 billion worth of Turkish debt, France $38 billion and Italy $17 billion. On top of that, banks such as Unicredit (UNCFF) and BNP Paribas (BNPQF) has significant subsidiaries in Turkey that could end up, if this death spiral continues, seriously affect the banks’ balance sheets which would negatively impact their capital ratios.

Looking at the consumption side, Turkey is the European Union’s 5th largest trading partner which Russia the EU’s 4th largest. So their pain is pain for the EU, which is also facing the impact of US tariffs. According to the European Central Bank, “If all the threatened measures were to be implemented, the average US tariff rate would rise to levels not seen in the last 50 years.” We are in unchartered territory.


The Bottom Line for the Week

The shift towards macro continues in the markets, while the record levels of corporate buybacks — up 80% this year and Goldman Sachs (GS) is predicting $1 trillion next year, —creates a major buyer for stocks. The strength of the US Dollar continues, affecting emerging markets, which some fear could eventually affect developed markets. Consumer sentiment is high and we are seeing the impact of the tax cuts, without which the take-home page for the vast majority of Americans would have actually declined over the past year.

Next week we’ll be looking for the latest meeting minutes from the Federal Reserve to gain insights into upcoming rate hikes, data on existing and new home sales, durable goods orders Markit manufacturing and services flash PMIs and listening to the outlooks presented at this year’s Jackson Hole symposium.


Weekly Wrap: Markets Treading Water While Economic Data Sinks

Weekly Wrap: Markets Treading Water While Economic Data Sinks

High valuations go higher as growth resumes its lead in a slowing economy


  • Growth stocks back to trouncing value.
  • Trading volume remains light during the week and the major indices see little movement in any direction.
  • The tit-for-tat trade war escalates.
  • Amid a slow August week, Twitter and Tesla provide some excitement and feed a potential SEC investigation.


Monday, the markets were unsurprisingly quiet. With the bulk of earnings season in the rearview mirror, save for a few remaining big names, the summer doldrums and vacations led to the day having the third lowest trading volume of the year at just 2.6 billion shares, compared to the 3.5 billion daily average for all of 2018. The Nasdaq managed to hold onto its second-highest close in history, less than 1% away from its all-time closing high thanks to a 4.5% jump in Facebook (FB) shares on the news that the company is looking to work with banks to help facilitate transactions on its platform – while this meshes with our expanding Digital Lifestyle investment theme, it also cues up the nerves of having one’s social media presence now linked to one’s financials.

Tuesday, the market news was dominated by a tweet from Elon Musk concerning taking Telsa (TSLA) private at $420 a share. Yep, the CEO of a publicly traded company announced that he was mulling taking the company private at a specific share price and that funding was already locked up. First, I’m pretty sure that Twitter’s (TWTR) Sales Department regularly sends fruit baskets to Elon and Trump. Second, Tesla’s Investor Relations department and Corporate Council must have Xanax dispensers on their desks.


Shares were already on the move for the day after news that Saudi Arabia’s sovereign wealth fund had taken a $2 billion stake in the company, according to the Financial Times. The major news outlets all scrambled to get some clarification from Tesla’s Investor Relations department, who could only confirm that the tweets did in fact originate from Elon Musk himself.

Trading of shares of Tesla was halted until 3:45ET, during which time a Tesla blog post was released containing Elon’s email to employees in which he shared that, “”A final decision has not yet been made, but the reason for doing this is all about creating the environment for Tesla to operate best.” In his letter Elon Musk claimed that the wild swings in the share price “can be a major distraction,” the quarterly earnings cycle making the focus on the short-term rather than what is in the company’s long-term best interest and that the company is the target of short sellers. While true, I would raise the counter point that perhaps a CEO should not be so focused on the share price and instead focus on the long-term strategy driving the business.

It remains to be seen if any of the short-sellers that he mentioned decide to go after Elon for damages or if the SEC will find him guilty of attempting to manipulate the share price. Former SEC Chairman Harvey Pitt told CNBC that, “the use of a specific price for a potential going private transaction is highly unprecedented and therefore raises significant questions about what his intent was. So, that would have to be investigated.”

The fallout around Elon’s tweets have, I’m sure much to the chagrin of the 49ers new quarterback, replaced Mr. Garoppolo, (at least temporarily) with @matt_peach1 as the top candidate for the next Mr. Hawkins.


Who says the markets gets boring in August?

By Wednesday the Wall Street Journal had reported that the Securities and Exchange Commission had already made inquiries into the veracity of Elon’s tweets. The company had not revealed the source of the some $71 billion needed to take the company private at that share price. I’m starting to think Twitter needs a McDonald’s (MCD) coffee style warning,

“Caution – Tweets may be read by the public and you may be held responsible for what you tweet.”

Wednesday, the S&P 500 started the day just 14 points away from its all-time high, but couldn’t quite break through that level during another day in which trading volume was well below the average for the year. The index had closed higher four consecutive days, but Wednesday it closed basically flat, falling -0.03%.

Thursday, the major market indices all closed very slightly in the red as the S&P 500 continues to be unable to revisit it’s January 26th high. As of Thursday’s close the S&P sat 0.7% below that day’s high, the Nasdaq 5.1% above, the Dow Jones Industrial Average 4.2% below and the NYSE Composite Index -5.0% below. Any share price gains Tesla had enjoyed from the week’s leaks and tweets disappeared by Thursday’s close and reportedly the SEC is kicking its investigation into high gear. If Elon’s assertion that funding was already secured turns out to be inaccurate, it is going to be a very challenging time for Mr. Musk and his board. It isn’t as if the transaction would be a minor one.


On August 22nd, this will officially become the longest bull market in history – something very few would have anticipated back in the depths of the financial crisis. The current record holder ended with the dotcom bust. Speaking of which, this market has a few things in common with that one, such as the valuation with the S&P 500 market cap weighted price-to-sales ratio about equal to that at the height of the dotcom boom and the median price-to-sales materially outpacing the previous heights.


It isn’t just valuation that is reaching to the stars. The S&P 500 has also outperformed the rest of the world to a rather profound degree, which is clearly evident in the following chart which shows the performance of the SPDR S&P 500 ETF (SPY) against the Vanguard FTSE All-World ex-US ETF (VEU).




The Economy

So far, all nine economic major indicators in August (including payrolls, manufacturing and non-manufacturing ISM, construction spending, auto sales, consumer credit) have come in below expectations. Wholesale Trade Sales took a one-two punch with May being revised down to +2.1% gain from +2.5% previously and June came in at a -0.1% decline versus expectations for a +0.2% gain.

Yes, but you ask, “What about the 80% of companies that have beaten their profit estimates this earnings season?”

Glad you asked. First off, the denominator for EPS keeps getting more supportive for growth. Cut the number of shares outstanding and it gets a lot easier to show a rapidly rising EPS. For those let mathematically inclined –

$100 in net income divided by 100 shares is $1 EPS. Reducing shares outstanding by 10% over the quarter and the same $100 net income divided by 90 shares give you and 11% increase in EPS to $1.11.

The growth in share buybacks have grown at 3x the pace of capex growth according to data from Goldman Sachs.

Call me crazy, but that says an awful lot about what those in the C suite think will do the most for share prices. If we want to be cynical, execs may be choosing to inflate share price in the more near-term to boost their own compensation, (when tied to EPS growth) while reducing potential growth for longer-term shareholders. The other alternative is that execs see this as truly the best use of corporate capital, which means a much less optimistic view of the opportunities presented by the domestic and/or global economy.

One other item to consider when reviewing this quarter’s performance is the “base” effect of last year’s June quarter which declined at a 6.4% annual rate. The June quarter usually sees positive growth, so last year’s decline has helped to make this year’s results look particularly good on a year-over-year basis since the prior year was so comparatively weak.

Let’s not forget to thank the lowered tax rate as well, which will not continue to improve the growth in EPS in the coming years. The impact of this cut has been profound.

The 10% difference between after-tax and pre-tax profits is the smallest as far back as the data goes, all the way back to Q1 1947. To be clear, I’m not a fan of higher taxes as I think history has shown that the private sector generates more value for the economy than the public sector, but one cannot ignore the large one-off impact of the tax cut here.

The trade wars are still going strong.

The U.S. Trade Representative’s Office announced on Aug. 7th that the United States will impose a 25% tariff on $16 billion worth of Chinese imports. In a wholly unrelated event, August 8th the Chinese Ministry of Commerce announced a 25% tariff on $16 billion worth of 333 U.S. goods, including passenger cars, motorcycles, fiber optic cables and crude oil. This comes after the United States placed tariffs on $34 billion worth of Chinese goods July 6th, prompting a tit-for-tat response from China in the form of tariffs on $60 billion worth of U.S. goods. Good times.

While the Federal Reserve is tightening, lending standards at most US commercial banks have been loosening. Demand for loans has been tepid at best in recent years, but we have seen demand from smaller firms start to increase recently. We are seeing the inverse when it comes to the consumer with lending standards for credit card borrowers tightening as the default rate rises – standards are now the strictest since 2009. This week we learned that in July, revolving consumer loans outstanding contracted, (a rare event) by $185 million with the broader trend slowing down noticeably.

Employment Picture Not So Rosy

Digging into last week’s employment report, we’ve seen the biggest increases in employment in the retail and manufacturing sectors in 2018 versus the same period in 2017. Drilling down a bit further, that report wasn’t quite a rosy as the headlines would have indicated. The number of unincorporated self-employed rose nearly 200k in July after rising 177k in June. Not what you’d expect with a super tight job market? The percent of those employed holding down multiple jobs rose from 4.8% in May to 4.9% in June to 5.2% in July – a 16 month high. People tend to take on a second job when they are struggling, not when things are peachy keen. If we take inflation into account, weekly earnings actually contracted in July and the workweek declined 0.2%.

This week’s JOLTS (Job Opening and Labor Turnover Survey) showed that Job Openings rose 3k in June compared to the 181k decline in May with 6.662 million open positions versus expectations for 6.625 million. New hires fell 96k and are now down in 3 out of the past 5 months. The rate of voluntary quits was unchanged at 2.3%, which is tied for the highest since April 2001, when it reached 2.4%. The number of job openings remains greater than the number of unemployed – talk about a headwind to the growth of the economy! If companies hired every single person who was looking for work, regardless of the job requirements/skills match, there would still be positions that remained unfilled.

On the plus side, this week’s Jobless Claims report revealed that we are in the 44th straight week of readings at 250K or below. That is the longest streak since 1970, the 5th straight week of readings at or below 220K and longest streak since 1969.

The headline Producer Price Index (PPI) was flat between June and July while the core PPI (excluding food and energy) rose +0.3% from June versus expectations for a +0.2% gain in the headline and +0.3% in the core. Year-over-year headline rose +3.3% which is consistent with what we’ve been hearing from many companies concerning input costs during this earnings season. We’ll see today (Friday) if companies are able to push those cost increases along to the consumer when the Consumer Price Index is released.


The Bottom Line for the Week

The attempt by value stocks to take the lead from growth stocks was short-lived and we are back to the momentum is your friend trend. The economic data for the week points to an economy that is not as robust as the headlines would indicate once you look into the details. Despite all the talk of a bull market, the major indices, outside of the Nasdaq, have failed to recapture their January highs. Overall the markets were pretty quiet outside of the Tesla excitement.

Next week we’ll get a look at the National Association of Independent Business’s monthly index for insight into the goings on with small businesses and their outlook. We’ll get July’s retail sales numbers, second quarter productivity, July’s Industrial Production and Capacity Utilization as well as June’s Business Inventories. We’ll get more on the beleaguered housing sector with Housing Starts and Home Builder’s Index.

** Going forward the Weekly Wrap will be completed as of Thursday’s market close.

Weekly Wrap: Where Do We Go From Here?

Weekly Wrap: Where Do We Go From Here?

A Look Back at the Week of July 30 to August 3, 2018


  • FAANG+ loosening its bite as value shares try to rally against growth.
  • Apple (AAPL) becomes the first company to hit a market cap of $1 trillion.
  • Productivity growth slower than job growth in this increasingly tight labor market – margin compression is afoot.
  • Inflation weaker than expected.
  • Tariff concerns more frequently cited this earnings season than last.
  • Fed shifts from “solid” to a “strong” economy increasing the likelihood of two more hikes.
  • This week and next week’s wrap are as of market’s close on Thursday due to logistical complexities.


Monday was a rough one with only three sectors closing in positive territory – financials, healthcare and energy. Technology continued to be the weakest sector, thanks to Facebook’s (F) faceplant followed by Twitter’s (TWTR) flail, which left analysts scrambling to rethink their earnings estimates.

Tuesday, the last day of July, was a cheerier one for those sweating it out on Wall Street — holy cow what a summer we are having this year from Dublin to Dubai, Stockholm to Sacramento. The Russell 2000, which had been pretty weak throughout July doubled the performance of the other major indices for the day. For the month the S&P 500 gained 3.3%, the Russell 2000 1.0%, the Nasdaq 1.4%, the Russell 1000 3.0% and the Dow Jones Industrial Average finished with the gold, up 4.6%.  Year-to-date the indices were 5.8%, 8.7%, 12.0%, 5.2% and 2.5% respectively at the end of July.

Wednesday was all about Apple (AAPL), which delivered solid results in the June quarter and raised guidance. While energy was a star on Monday, it fell over 1% Wednesday, finishing in the red alongside Industrials and Materials as markets reacted to the news that the Trump administration may impose 25% tariffs instead of the earlier proposed 10% tariffs on $200 billion of Chinese imports. These tariff threats are starting to feel like a geopolitical version of whack-a-mole.

Thursday the Nasdaq and S&P 500 benefited from Apple’s rally of +2.9% to close the day as the first company ever to reach a $1 trillion market cap, $1.004 trillion to be more precise. The Nasdaq and the S&P rose +1.3% and +0.5% respectively while the Dow Jones Industrial Average closed roughly flat.

As we head into what is the seasonally most vulnerable part of the year for the markets we may be seeing a change in leadership. Since mid-2007, we’ve seen growth outperform value, as is illustrated in the chart below which shows the relative performance of the iShares S&P 500 Growth ETF (IVW) versus the iShares S&P 500 Value ETF (IVE).

When the line is trending down, Value is outperforming Growth. When trending up, Growth is outperforming Value. Growth has been absolutely trouncing Value since June 2007, with the exception of October 2016 – January 2017 when Value took the lead, albeit briefly. This trend accelerated significantly in 2017, as the chart below shows.

In 2018 the performance of the S&P 500 was driven primarily by the FAANG stocks – Facebook, Apple, Amazon (AMZN), Netflix (NFLX), Google (Alphabet – GOOG) – plus Microsoft (MSFT). At the end of June, when the market had fallen 5% below the January 26th high for 2018, those six stocks had contributed more than 100% of the then year-to-date gains – seriously narrow market leadership. Today they represent just over two-thirds as many of the more value-oriented stocks have shifted from a drag to a contributor. Further analysis (hat tip to Bespoke Investment Group) finds that the 50 stocks in the S&P 500 that had the highest returns in 2018 through July 25th have lost nearly 4% since then. Conversely, the 50 worst performers have declined over 1.5%. The best are now the worst and vice versa. This flip-flop in which performance through late July is inverted continues across the deciles of the S&P 500. This is by no means a trend yet, but worth watching.

This earnings season has also seen those that performed at or only slightly better than expected often getting their shares hit. Take a bow Caterpillar (CAT). This combo of strong earnings that haven’t been rewarded as well as in previous quarters has seen the S&P 500 trailing P/E ratio drop to the mid-20s from a post-recession high of 23.4 at the end of January – the largest such decline in trailing P/E in this cycle. Please excuse a slight pat on the back here as we’ve been warning that shares have been priced to ultra-perfection here, so just meeting expectations has been a disappointment in many cases.


The Economy

While we certainly love to see the economy doing well – it makes our jobs easier – last week’s Q2 GDP report had a decent share of factors that will not continue in the coming quarters, as we discussed here last week. Pantheon Macroeconomics did some great work breaking it down further. Excluding additional 2018 federal spending package, the 2017 tax reform, a few other minor legislative changes and the pull-forward in demand from China for soybeans, GDP would have been roughly just 2.7%.

The repeatable part of Q2 just wasn’t that spectacular and we are concerned that we see signs of slowing in the back-half of 2018.

Tariffs have become more and more of a topic, with references to tariff concerns all over the comments from respondents in the ISM Manufacturing report for July. On top of that, the word “tariff” was mentioned 290 times in S&P 500 conference calls in the first quarter. So far this quarter that number is up to 609, and we are just halfway through.

On the plus side:

  • Personal Consumption ended the second quarter at the fastest real pace since 2014 – that tax break finally kicked in and folks spent!
  • ISM Manufacturing report for July was weaker than expected, but still at a strong level, dropping to 58.1 from 60.2 versus expectations for a decline to 59.4. To put those numbers into context, anything over 50 is expanding and the index is today less than three points away from its February multi-year high of 60.8.
  • Home prices increased faster than expected in May, rising 6.5% versus the anticipated 6.4% with some markets starting to look overheated.
  • The Fed sounded impressed as the statement this week following their policy meeting saw a slight shift in tone from what was “…economic activity has been rising at a solid rate” to “…economic activity has been rising at a strong” (Emphasis mine). Overall the word “strong” appeared six times in this month’s statement versus four in the prior.
  • Unemployment claims for the week ending July 29th were less than the 220k coming in at only 180k. This comes after claims dropped to 208k the week ending July 14th, the lowest level since December 1969.
  • ADP’s private sector employment saw new jobs come in well above expectations at 219k versus the consensus forecast of 186k. This along with the uptick we saw in the ISM manufacturing suggests that Friday’s Non-Farm payroll report will be solid.
  • The AMEX Dollar Index (DXY) gained over +0.5% Monday through Thursday which is great for buying imports but…not so great for those companies selling outside the US.

On the not-so-great side:

  • Back to the ISM Manufacturing report for July, the New Orders component is clearly on a downtrend, sitting at a 14-month low. To be fair, it has been above 60 for 15 consecutive months, something that has only happened two other times going back to WWII. While the level is still in solid territory, the 2.1 point decline is the largest setback since August 2016 and the 6-month moving average for New Orders has been steadily falling since February.
  • The ISM Manufacturing report also showed that while production declined (-3.8 points), employment rose (+0.5 points) which means that productivity is declining – something I discussed Thursday morning on Cavuto Coast to Coast.
  • Pending home sales were down 4% from last year.
  • The Bureau of Labor Statistics Employment Cost Index for wages and salaries is now up 3.0% year-over-year, the fastest pace of the current expansion. Great for employees, not so great for investors because wages are rising faster than labor productivity plus inflation. Workers are taking home more, but businesses face margin pressures.
  • Core capex spending, which is non-defense capital goods (excluding aircraft), was revised down and is trending down.
  • Eurozone GDP was weaker than the expected 0.4% quarter-over-quarter increase, rising just 0.3%. That dropped the annual rate to 2.1% from the prior quarter’s 2.5%. While growth was weaker, inflation was higher at 2.1% versus expectations for 2.0%.
  • China’s Markit manufacturing PMI came in below expectations and hit a 5-month low of 51.2 versus the prior 51.5. Non-manufacturing PMI was the slowest in a year. The trade battles may be having an impact as well with new export orders and new imports in contraction.
  • The Markit Manufacturing PMI shows slowing growth in Japan, Taiwan and South Korean, (which is in contraction mode).
  • Japan’s industrial production contracted, down -1.2% versus expectations for a 0.6% increase. South Korean’s Industrial Production did the same, falling -0.4% versus expectations for a +0.7% increase.
  • Mexico’s GDP declined last quarter, falling -0.1% versus expectations for a +0.3%.

This week we saw indicators that inflation isn’t exactly taking off as many expected.

  • The Fed’s preferred inflation measure, the core PCE (Personal Consumption Expenditure) Price index, came in weaker than expected at 1.9% (year-over-year) versus expectations for 2.0% while the headline US PCE inflation measure was 2.2% versus expectations for 2.3%. Inflation expectations declined on the news.
  • The Employment Cost Index rose less than expected as well, up 0.6% (quarter-over-quarter) versus expectations for 0.7%.
  • The Fed did not raise rates this week, in line with expectations. The market is still pricing in a more than 80% probability of a rate hike in September.


The Bottom Line for the Week

The US continues to outperform many other regions and the dollar continues to strengthen making our domestic stock market relatively more attractive. Job gains continue to beat expectations while inflation isn’t quite as bad as one would expect, but we are wary of just how much stocks are priced for perfection as we see margin pressures coming courtesy of the lack of available labor.

Next week is a pretty light one on the economic data front. We’ll get data on Job Openings, Consumer Credit, Producer and Consumer Price Indices and Wholesale Inventories as well as the Federal Budget. That last one will likely require a solid pour of Bordeaux. Have a great weekend!

Weekly Wrap: The Tale of Two Cities between Facebook and Amazon Earnings

Weekly Wrap: The Tale of Two Cities between Facebook and Amazon Earnings

Facebook Faceplants, While Amazon Takes Off


  • This was the busiest week in earnings season thus far with more than 225 companies reporting including174 S&P 500 companies and 11 Dow Jones Industrial Average companies reporting. So far beats are exceeding long-term averages, but those that beat are getting rewarded less than usual and those that missed are getting hit hard… just ask Facebook.

  • Facebook’s earnings call was nothing less than a brutal faceplant, which led to shares losing the most of any company in US history in one day, while Amazon EPS was 2x estimates despite a modest revenue miss.

  • Housing data once again was brutally bad with every metric weaker than expected with the data over the past three months painting a clear picture of a sector that has rolled over.

  • The market’s tariff tremors were eased by the apparent progress to try and reach an agreement with the European Union, but no one seems to have noticed that French President Macron is not enthused.

  • The US has become a $20-trillion-dollar economy in the second quarter, the first for any nation, with Q2 growth at 4.1%. As expected, we saw a massive jump in the export of goods and in federal spending.


This week the Nasdaq broke out to new highs — that was before the Facebook (FB) faceplant. As the Nasdaq has gone on to make new highs, however, more and more stocks within the index have been falling below their 150-day moving averages, which shows this rise has been on poor breadth – meaning few stocks are pushing the index up.

The S&P 500 has yet to make a new high since its 2018 lows. There have been only three times during the current bull market where the S&P 500 did not make a new high in a 6+ month period. If it does not make a new high by August 10th, this will be the third-longest streak without a new high. The FAANG stocks [Facebook, Apple (AAPL), Netflix (NFLX), and Alphabet (GOOGL)] have been responsible for nearly half of the S&P 500’s gains in 2018, rising from 11.6% of market cap to 13.6% by Thursday’s close. We’re pretty sure that deadline will sail right on by given the market’s reaction to earnings from these folks last week and this week. Next week has Apple’s earnings report, but let’s remember the June quarter is the seasonally slowest one for the company.

Wednesday, equity markets accelerated up into the close on the news that the US and the European Union are working towards a series of agreements to avoid a trade war and reduce existing tariffs. So far this is great news, but the European Union is becoming an increasingly more complicated beast as the economic performance of the countries within it are diverging further. This likely means these agreements are unlikely to be achieved neither quickly nor smoothly.

Thursday we were once again reminded that Mr. Market hasn’t been acting terribly contemplative when French President Macron tossed out a, “Wait just one second there, buddy” on this grand sweeping tariff agreement proposed by President Trump and European Commission President Jean-Claude Juncker. Shut the front door! You mean sovereign nations may actually want to have a say in their own trade agreements? Like we said, great headlines, but implementation is going to be dicey and that European Union is dealing with some testy infighting these days, so the drama is just getting started.

As even a casual market watcher knows, trade has been a major topic so far this earnings season. Three major automakers saw their shares hit hard this week as Ford (F), General Motors (GM) and Fiat Chrysler (FCAU) scaled back their 2018 earnings forecasts in the face of rising raw material prices and unfavorable exchange rate moves. GM, the largest US automaker, said that rising commodity costs on top of moves in the Brazilian Real and Argentinian peso hit its bottom line to the tune of $1 billion. GM CFO Chuck Stevens told analysts on the earnings call that the company will pass along some of the increased costs due to the tariffs. Its shares lost over 8% despite having beat estimates.

Fiat Chrysler lost 16% thanks to a triple whammy of missing earnings, reducing guidance for the year and the tragic loss of legendary CEO Sergio Marchionne. June quarter earnings fell by almost 50%, and unsurprisingly after that hit, Fiat lowered its 2018 earnings projections, estimating that tariffs will reduce profits by about $600 million this year. Appliance maker Whirlpool (WHR) saw its shares fall by 14.5%, its worst one-day decline since 1987, after the company reported that higher steel costs under the new tariffs will materially impact its margins. Harley-Davidson (HOG), the company that kicked this all off several weeks ago, reported that yes, tariffs will cost the company between $45 and $55 million this year.

Regulatory changes took center stage when Facebook (FB) reported results that missed on revenue and global Daily Active Users (DAU) that led it to single dayadvise investors that its revenue growth rates will be slower than last year – particularly in the back half of 2018. Investors were clearly caught completely off-guard given the record high close just prior to reporting which highlighted the unreliable nature of partner checks. While overall DAUs were up 11% year-over-year, that was less than expected and growth was driven primarily from emerging markets as European DAUs declined, likely related to the General Data Protection Regulation (GPDR), and North American DAUs remained flat.

In after-hours trading on Wednesday shares of Facebook were down as much as 25% and closed Thursday down 19%, having experienced the single largest day loss in market capitalization of any company in US history. I’m thinking 2018 is not CEO Mark Zuckerberg’s favorite year no matter how much FB shares he’s sold in the last several months. Twitter’s (TWTR) results on Friday painted a picture of social media that is becoming less social as despite meeting earnings expectations, its number of monthly active users fell. Shares were down over 19% on the news.


The Economy

Friday, we learned that the first estimate for second quarter GDP is 4.1%. The chart below shows the rolling 4 quarter average GDP growth going back to 1990. Most recently, from the first quarter of 2015 through to the second quarter of 2016, GDP was slowing. Since the second quarter of 2016, it has been rising, but is still below the peaks of Q3 2019 and Q1 2015, sitting at 2.9% for Q2.

Looking at the historical trends in GDP by quarter, we can see that the second quarter typically is the strongest and that this quarter’s performance is just below the average for the 1990s but the strongest since Q3 2014.



Breaking down the component of GDP:

  • Personal Consumption Expenditures were the highest since 2014 and 1.3x the average over the prior 16 quarters. This looks like a lagged impact from the tax cuts as the first quarter saw an increase of just 0.5%. I wouldn’t expect this to increase again so dramatically in the back half of 2018, particularly since this was driven in part by a decline in the savings rate.
  • Gross Private Domestic Investment was actually a negative for GDP this quarter for the first time since 3Q 2016.
  • Business Capital Spending was weaker than had been expected, with equipment purchases less than half of Q1 and two-fifths of the average rate in 2017 – so much for the enhanced depreciation and repatriation allowances from the tax cut. This was actually the weakest level since Q4 2016.
  • The Non-Residential Structures component was the biggest contributor to GDP and was 12.4x the average of the prior 16 quarters.
  • Exports were the highest since Q4 2013 and were 4.4x greater than the quarterly average over the prior 16 quarters. This was driven by a pull forward in demand to load up on imports from the US prior to the implementation of tariffs, which means we are likely to see weakness in the back half of 2018, (e.g. China and soybeans).
  • Exports of Goods was the highest since Q4 2013 and were 5.5x the average over the prior 16 quarters.
  • Federal Spending was also the highest since (take a wild guess here) … Q4 2013 and was 6.7x the average over the prior 16 quarters.
  • Combining this data with what we are seeing from corporate earnings, and we see that earnings are rising at 4x the pace of GDP with corporate tax revenue the lowest share of GDP in 75 years.
  • Residential Fixed Investment continues to be a drag on GDP and has been negative in 4 of the past 5 quarters.

Digging more into the details on housing, there’s no way to sugar coat it – it doesn’t look to be improving. The National Association of Realtors (NAR) Existing Home Sales Report delivered the third consecutive month of declines with sales weaker than expected at 5.38 million (Seasonally Adjusted Annual Rate – SAAR) versus forecasts looking for 5.44 million, driven by (as has been the norm during this business cycle) supply shortages which have driven prices out of reach for many. The NAR media price for existing home sales reached a new record high of 276,900 in June while at the same time mortgage rates have risen significantly – the typical rate on a 30-year fixed rate conforming mortgage has ranged from 3.8% to 4.8% over the past year. Between supply shortages and higher mortgage rates, affordability has hit a 10-year low and likely spells fewer homes for consumers trapped in our Middle-Class Squeeze investing theme.

New Home Sales fell 5.3% in June, to an 8-month low, and the prior two months were revised down as well. The number of new homes sitting vacant while for sale has risen by over 10% on a year-over-year basis which has pushed the unsold inventory backlog up to 5.7 months’ supply from 5.3 months in May – the highest level since last August.

According to CoreLogic, sales of both new and existing houses and condos fell 11.8% in Southern California in June, falling to the lowest level for the month in four years – for those of you not living in the sunshine state, this matters because home sales in California have a long track record of being a leading indicator for the nation. Sales of newly built homes were particularly weak, sitting 47% below the June average, likely do to unaffordability as the median price paid for all Southern California homes in June rose 7.3% year-over-year to a record high of $536,250. Our Middle-Class Squeeze investing theme was evident in the sales mix, with sales of homes below $500,000 declining 21% year-over-year while sales of homes over $1 million rose just under 1% – something we have been seeing throughout the country where homes at the higher end are seeing different dynamics than those for the lower and middle-income families.

On a positive note for housing, Black Knight’s mortgage analytics report this week revealed that delinquency and foreclosure rates were at new lows in June, with fewer than 2.4 million homes nationally in distress. We are in no way seeing anything like what we saw in the later part of the last business cycle with regard to the housing sector.

Home builder shares have been hit hard by the data in recent months, pushing share prices to the lowest levels since October with valuations at or near multi-year lows. Perhaps because of this data?

  • Housing starts down – 39% annual rate
  • Building permits down — 23% annual rate
  • New home sales down — 22% annual rate with June the slowest pace in eight months
  • University of Michigan July survey found the lowest percentage of Americans since 2008 think it is a good time to buy a home

The Richmond Fed reported this week, giving us now 3 of the 5 major regional manufacturing indices. Most of the readings for the three have been declining, with shipments, backlogs and employment particularly weak in July with outlook numbers also negative. On the positive side, the numbers are still at strong levels, but we don’t like the direction we are seeing – more evidence that we are in the later stage of this business cycle. Some of this could be attributed to concerns over trade and tariffs, especially following what was likely some pull forward in the June data. That ties with our next piece of data…

The Business Roundtable’s CEO Economic Outlook survey found that CEO confidence is on the decline, with the survey index declining for the first time in almost two years in the second quarter with the largest quarter-to-quarter decline in three years. Of the CEOs questioned, 95% were concerned that foreign trade retaliation may lead to lower US exports and 91% worry about the impact of higher import costs on consumers. Within the index, sales expectations fell -11.6% and capital spending intentions fell -7.8%. Here we have a confirming data point to what we are seeing from the Fed regional manufacturing indices – concern that the coming months may not be a rosy as investors expect.


The Bottom Line for the Week

While GDP growth for the second quarter did come in strong, the major drivers of that growth are not likely to be repeated at those levels in the back half of 2018. The lack of business capital spending tells us that the C suite isn’t overly enthusiastic about their growth prospects, regardless of what any sentiment survey may indicate. The share price changes in response to earnings results attests to our assertion that stocks have been priced for perfection.

Next week we will be looking at data releases on Personal Income, Consumer Spending, ADP Employment, Nonfarm payrolls, Average Hourly Earnings and Consumer Confidence. On the housing side we’ll get the Case-Shiller home price index. For the corporate side of things, we’ll be looking at the Chicago PMI, Core Inflation, Markit Manufacturing PMI, ISM Manufacturing Index, Factory Orders and Motor Vehicle Sales. All that as well as earnings from Apple, Cummins (CMI), Honda Motor (HMC), Lumber Liquidators (LL), Square (SQ), Insulet (PODD) and several hundred others.