Weekly Summary Notes Flashcards
8.11.2015
(Tech/industrials) Goldman is talking up buybacks today, saying it’s as much as 40% of today’s buy side flow. That’s partly due to a lower numerator with vacations taking place, but 40% is still a high fraction and it’s being driven by two companies - AAPL and an unknown second one. Other than that, there isn’t much else driving today’s market move. The big issues we’ve talked about are still present: 1) China took a step down in 2Q across the board 2) the energy drag is still present 3) the currency drag is still present and 4) companies are taking the corporate action route to grow their businesses instead of doing it by investing in projects that would help the overall environment. One thing I have been thinking about in China is what caused it to sound so negative in the second quarter. One potential explanation for China’s step down for companies that were already forecasting weak trends is that investments were being diverted from the real economy to the stock market when it got so frenzied to the upside in Q2. Then once stocks cratered, it scared investors and caused a shock that led to businesses pausing along with the wealth destruction that occurred from the sell-off. I wouldn’t be surprised if the economy ticked back up because the stock market shock factor has started to dissipate. The ISI autos analyst was here last week and even though he was negative overall, he pointed to data showing that it improved in the past two weeks. For the first part of July sales were down mid-teens and then recovered to positive by the last week of the month according to his industry data. Given these were YoY weekly numbers we need more data to see if it is a trend. But this would support the thesis that there is some recovery happening (this may all be made moot by today’s currency action though)
(financials) - with the backdrop of the market breaking down in industrials, China-driven commodities falling off, oil weakening, and the yield curve flattening, the question is whether the Fed can move in September. These factors point to a fear of a catastrophic outcome. I still think the base case is that they raise in September and it’s a cathartic event for the market. The indicators are all against that, but unless the US economy is really too weak to handle a 25bps move, I think it’s good to just get it out of the way. Hatzius said he doesn’t think the Fed will move on the first 25bps unless they are prepared to do it consecutively one or two more times. He thinks they don’t care about getting off the zero bound if the data can’t support it, but they want to be able to see a path from 25bps to 100bps. However, when pressed on the idea, he backed off. Tech disruption is increasingly entering market dialogue, and it’s affecting major market cap segments. 13D wrote about what a transition to a shared economy means for autos. Uber is huge in China and could be affecting auto sales there. I don’t think that’s right in the short-term but it could affect multiples because of worse long-term prospects. We saw media stocks get hit last week as worries about cord-cutting hurt them while NFLX makes new highs. There are only a few winners in the spaces being disputed while the losers are much bigger. The net/net is a small win for a few companies, a big loss for many companies, and a win for consumers. There is some concern about banking being disrupted, but its only in payments. MA/V can’t lose and the banks could be squeezed by some kind of mobile system, but its a distant asteroid. In China, we can’t dismiss the possibility of a shift toward more efficient uses of energy which is negative for oil. Nothing has changed within sectors in the US, but the market has been all about rotation which has been a combination of anxiety around disruption and a movement from the Fed. For the banks, equity issuances have been soft in July, but broadly a rate move is positive for earnings. Loan volumes have slowed sequentially but they are still running +7% which is good, and M&A is on fire. There has been a lot of deal activity, mostly coming from the Japanese buying US companies at 20-50% premiums. At the same time, M&A and buybacks always tend to happen at market tops, so that is worth keeping in the back of our minds.
(financials) - BAC had a technical issues in their 2Q numbers, which will cost them about 100bps of capital. They said the Fed just cares about the company getting to a 10.25% capital ratio and they think they see that path. As a result of better earnings and legacy costs coming down, they think they can make a larger CCAR ask this year. All of that is positive for BAC, but C is still 20% cheaper. Finally deteriorating credit quality facing the commodity complex and oil is being highlighted by many companies in the space globally
(Tech) - media got all the attention last week. In the 13 years I’ve followed the space, it was the biggest relative move I’ve seen. We’ve been concerned about advertising dollars moving from traditional to digital for a while, but most of these companies have a dual revenue stream - advertising plus the content revenues they receive from cable companies. The latest concern is that cord-cutting and slimmer bundles will lead to that second revenue stream being hit. This was all sparked by DIS saying ESPN will come in below expectations because more paid subs are leaving the system than previously anticipated.
9.21.2015
(trading) We’ll see a lot of deals come this week assuming there aren’t any major market-moving events. There will be IPOs, secondaries, and blocks. We’re also seeing more deals done as private placements such as an MLP last week and I expect these PIPEs and converts to continue. Japan Post Bank is doing meetings today, while Holdings and Insurance will be coming later. Those are very important deals for Asia, and all indications are that they should go very well. Bank and Insurance will list on the 19th while Holdings is the following week. In Europe, Italy Post is the one everyone is watching carefully. China is still confusing with deals in the pipeline but it’s hard for them to move forward.
(financials) It’s interesting that an event that had a 28% probability caught the subsectors so off-guard. Banks and REITs had bounced but the Fed didn’t raise rates and it killed the stocks. I don’t think the negative sentiment will last long as investors will look forward to December as the next move. From the Citi conference last week, the theme was that capital markets activity QTD is better than feared. Numbers will probably come in 1-2% below consensus but that is actually higher than where sentiment had moved to. Other areas for the banks are a little worse though. Consumer credit data in cards and autos is shockingly pristine in the US. The only negative area in the US economy is energy, while everything else sounds good. In China, consensus is broadly building that the PBOC will not devalue the currency anymore through year end. They have spent about $200B to devalue but haven’t actually accomplished anything. There is increasing hope or confidence that Chinese economic data will improve between now and the end of the year.
(financials) At the Citi conference last week, capital markets players were especially positive on equity volumes. But at dinner with Goldman, they said between the volatility in August and the Fed’s dovish punt, clients are not getting reengaged so that’s what they’re worried about between now and year end.
(energy) The House Energy and Commerce Committee voted 31-19 in favor of a bill to lift the export ban and the full House is expected to pass legislation in the next few weeks, though it will likely get hung up in Senate. The White House and Hillary have both come out against it. There are also complicated issues related to the Jones Act and the whole bill will probably be punted into 2016 and then again until after the election. Two E&Ps said the Fed is telling banks they can’t get waivers on redeterminations like they did last spring. Some of the borrowers have assets that are worth nothing so the Fed is cracking down, telling creditors to look at unsecured debt and not just secured debt. Those redeterminations are happening now, with ~70% in October and another 15-20% in November. Unfortunately, this is probably not the catalyst that drives the companies toward bankruptcy, but there will be forced asset sales. Samson, which is KKR-backed, just declared bankruptcy and Paragon Offshore is drawing down on its revolver and hiring advisors. Many E&Ps are in serious trouble with oil below $50. Last week’s conference was outright depressing, and one land driller seemed to be on the verge of tears. Offshore drilling is a total disaster as COP is saying they will greatly dial it back. Budgets are down 30-40% for next year, and there are layoffs at the corporate level with CVX cutting 1,500 jobs and COP cutting 1,200. Offers to college graduates are being rescinded as well. GS is making a call that there will be a puke shot to $20 oil, but I doubt it. I think $40 is the near-term downside. I also doubt we’ll end up with $45 next year unless there’s a global recession. Nat gas is a disaster that no one is even talking about, yet ECA says it is the best market to sell gas assets in five years which shows how much PE money is out there. Midstream stocks are down 26% since the beginning of May, and the stocks are now effectively pricing in zero growth so we could be making a bottom. There are a few deals likely being talked about. In refining, gas prices are at their lowest in many years. Gasoline demand is starting to roll on a four-week basis. Diesel and distillate will likely continue to be weak.
(tech) Semis still sound soft. The companies are cautious and I think numbers will come at the low end of expectations or slightly below. The big question is how they guide for 4Q. The companies will be cautious so headlines will probably be below the street, but that’s probably built into the stocks already. Everything sounds weak in the end markets except for autos. China is clearly weak for the whole industry and some companies are using it as an excuse, even if they have small exposure. Enterprise continues to be mixed. ORCL missed on its core legacy business as well as the cloud. They guided for weaker growth next quarter and their initial FY16 is below the street as well. In broad tech, business is moving to the cloud and ORCL is behind the curve. RHT reports tonight and ACN on Thursday morning, so both will give us further insight into how enterprise business is progressing. In media, there is more consolidation as Altice bought CVC and is talking about rolling up more cable assets beyond that. There aren’t many big ones left so they will have to look into smaller players as well as wireless where the options are Sprint and TMUS but Sprint is tied up with Softbank. The market is going to start thinking about a consolidation in content moving forward.
(tech) The enterprise space seems very company-specific. Many think that CSCO downticked at a conference last week and they are viewed as a good barometer of real-time business trends. DATA – a poster child for the hyper-growth companies – presented and the CFO sounded awful. Any companies in high growth spaces that start to talk down numbers and have tough comps approaching get investors to start spinning negative rhetoric. I agree with everything Thomas said on the semis. There is more M&A talk going on, as some are describing it as a market with five consolidators who are racing to see who will be first.
(industrials) The general theme at the three conferences last week was more of the same. Industrial demand sounds weak but it’s not falling into a recession. It is hard to figure out what the base will be for numbers as we head into 2016. When the cuts happen during earnings, that could present the buying opportunity. Companies are talking about pricing pressure right now. Foreign competitors are using FX as an opportunity to grab share. MMM, EMR, IR, and UTX all called it out and specifically cited EM. That is another sign of being late in the cycle as companies feel the need to defend share or competitors that have had FX devalue take it as a chance to step up and take share. Consumer-facing markets like HVAC continue to be the best sounding ones. There have already been a few negative preannouncements in the broader space though, with companies calling out weakness in EM and general industrial markets in North America and Europe. Differentiation within the sector comes from what companies are doing with their balance sheets, and it sounds like there is a lot to spend across the board.
(consumer) Huge M&A news happened last week as ABI approached SAB. There is still some uncertainty because the large holders and some hurdles in China still need to be addressed, but both stocks as well as TAP in the US reacted very positively. It will result in $150B of credit raised, and is bullish for global M&A as well because one of the smartest acquirers is choosing to do this. In housing, today’s existing home sales number was surprisingly weak, coming at +5% y/y after it had been running at +9% over the past six months. There are bullish data points from building products companies, though builders and companies like SHW are complaining about labor shortages. HD and LOW sales still look to be strong. Autos data looks good in both the US and Europe, while Chinese numbers have stabilized in the +/- low-single digits range. Volkswagen is facing up to $18B in fines after they admitted to fraud in emissions testing. Finally, the lodging space is generally weak and is usually viewed as a decent barometer for the overall economy.
(consumer/internet) Retail sales seemed to excite the macro crowd but it was just on the June and July revisions so it’s backward looking. Coming off of two conferences in the past two weeks, the consumer seems to be in a decent place. September sounds a little choppy which could be an issue for apparel because it’s still warm outside and people will delay winter purchases. There is some talk about a US recession which could cause a pause too, but it’s tough to see that happening other than the layoffs happening in energy. LQ reported a big miss and revised its RevPAR outlook to 0-2% from 2-4% which is strange because they indicated a month ago that expectations could be too low. This could be the Texas-specific weakness we have been waiting nine months for though. LQ has 20% of its units in Texas, and MFRM also blew up. (Matt said HAL used to rent out entire hotels for $300-400 per night, and hotels in North Dakota would be full for an entire year, but that’s obviously not happening now.) STAY reiterated its guidance today so although LQ is trying to blame the whole industry, it might just be company-specific. There are some large companies reporting this week – BBBY is expected to be soft but CCL, NKE, and AZO should all be solid. The consumer had a big benefit last year because of lower gas prices but that means a tougher comp this year into the holiday. Resale gas prices are still moving lower though, which should be a positive for companies like WMT and TGT. I’m neutral overall on the market. (Amit said the Asian port data has historically been an okay indicator of holiday sales. Neither pricing nor volumes is showing an acceleration so that would be a negative read on holiday sales.)
(generalist) The market didn’t move because of what the Fed did but how they did it. It seems like they are in attack mode by using the “close call” term to tell us not to read into the lack of a hike last week. Last week’s move lower has created some buying opportunities at good levels for idiosyncratic ideas though. I’d argue we’re closer to stabilization in the market. Technical signs feel decent. The bull/bear surveys point to upside, MS said Friday was the biggest notional selling day from hedge funds this year, and Citi’s Panic/Euphoria model is at a 96% positive predictive level over the next six months. All of these seem like healthier short-term signs, and all technicians are saying we’ll re-test the lows which tells me it won’t happen. Earnings revisions look to be down 5% from the beginning of June, so the bar could now be low enough to act as a catalyst.
(tech/industrials) I still think the second derivative inflection in the inventory destocking will help the market at some point soon. It might have to wait to be an early October catalyst though because buybacks are going into a blackout and earnings are still not good so that could keep a short-term lid on the market. It seems like 3Q will end up being like the last few quarters as we start with earnings estimates at -5% y/y and end up flat, but the forward number is revised down. I have a negative bias over the next few weeks because we have gotten rid of the oversold condition and now the buybacks will slow down.
9.28.2015
(trading) The environment hasn’t changed since two weeks ago. I’m surprised there hasn’t been more discussion about pushing major deals into January. As of now, I’d expect all the big ones – First Data, Pure Storage, Square, Univision – to come public as long as the market doesn’t implode. Europe is more complicated though, and Asia is a complete disaster. The three Japan Post issues should be fine, with $5B for Bank, $2B for Insurance and $5B for Holdings a week later.
(tech/industrials) Business feels like more of the same on the negative side. The quarter was just bad. It still makes sense that there can be an end to destocking and a possible restocking, but I was originally thinking it could come in early October but the demand data points continue to sound more negative. Until they show up, companies are going to sound bearish on trends. Some semiconductor companies have said the destocking is over for them but others are downticking now. One sign of stabilization in the market is that Chinese autos aren’t collapsing anymore but they have stabilized at a slower growth rate than earlier in the year. We looked at stock reactions to earnings in September and they were pretty bad. Companies with bad news have sold off hard and are not getting the bounces off the lows that we would expect in a healthier market. So for right now one has to assume that bad news will continue to get sold until something changes.
(financials) Capital markets activity continues to sound like it is not as bad as feared, while all other business lines in financials are a little softer but not terrible. C&I loans are slowing with tough comps, while credit spreads are widening which is bad for banks’ and brokers’ balance sheets. MS called around the street to say every line item of their P&L is under pressure. They are dealing with an evolving list of macro headwinds from VW in autos to Glencore in mining. Everything in the group with exposure to bad end markets is super cheap but with no good news on the horizon, while the secular winners such as V and MA still look expensive so a continued negative market means those stocks will probably have to come down as well. The worry in China is that housing improved but heading into Golden Week, the data looks like it’s slowing again as the second derivative is turning negative according to the CS analyst. In the US, housing had been strong and it hasn’t quite become soft, but it is still not as strong as we would have expected a few months ago. The industrial slowdown could hit the housing and autos groups that have been the last areas of strength in the US while everything else is bad.
(financials) There was an article in the FT about how sovereign money had been positive for the asset managers but it is now pulling out. It is hard to gauge how much went into each manager. Someone like Blackstone has historically been able to raise money for private equity very easily from sovereign funds so this is a headwind for them. It’s also a significant problem for companies like Franklin and Waddell & Reed. It means these managers will have negative organic growth and some haven’t seen their P/Es contract as assets have. The best way to track the effects are from the underlying performance at each individual fund.
(industrials) Nothing has changed underlying supply/demand fundamentals. Through conference season at the beginning of September, demand was still weak. We just didn’t know if we would get the message of 3Q being flat or up, but we heard that companies still have no visibility so the question is between flat and down. It still feels like more than just destocking – we’re seeing an actual leg down in demand. However, it also doesn’t feel like a deep recession and we don’t have levered balance sheets across the sector that would tend to accelerate that effect either. The demand drop-off is not good but it’s not a disaster. CAT, SWFT, MOS, and HUN all had negative preannouncements. They were viewed as cheap cyclical stocks but still got crushed. HUN is down 22% today after cutting 2H EBITDA guidance by 10-12%. The companies struggling the most are the ones with excess financial leverage, dependence on capital markets, or are tied to commodities.
(tech) Conferences contained mostly downticks and now earnings are in front of us. The market is clearly selling winners now which started Thursday with high growth software, then moved to biotechs and large cap internet on Friday. It might be a good sign that winners are finally being sold, but it could last a bit of time. This week is Ad Week which could lead to a lot of news for FB/Instagram and then re:Invent is AMZN’s conference next week which usually creates a lot of positive buzz for the cloud. News in semis is still bleak, while Asus is going to stop selling to Brazil which shows how bad EM and currency headwinds are.
(tech) Between last week and today, Samsung capitulated on their year. They fired a puke shot and said some businesses are okay but signaled to analysts they are gutting capex, down between 20% and 40%. If they had confidence in the business, they wouldn’t do this. It’s a decision through calendar 2016. The AAPL update today is noticeably lacking in the language it usually has about supply constraints so I think it’s a negative. In the rest of the supply chain, there is no dramatic change to order patterns in Asia. If something dramatic were to happen, it would be in the next two weeks or so. Everyone is saying Chinese autos are relatively stable right now. There were worries that Infineon was going to downtick last week because of its Chinese exposure, but that didn’t happen. In the mean time, US enterprise is steady. DB did a CIO survey this morning which said there are no budget changes. That would be the next shoe to drop from a macro standpoint.
(consumer) JPM is calling for a 17.8M auto SAAR in September in the US which would be a 10-year high. The European market is still running up high-single digits, while Brazil and Russia are disasters at -30% but they are relatively unimportant. China has stabilized at +/- low-single digits which is still weak. VW is a material negative for the whole group, and it’s shocking that there was true fraud of this magnitude. VW is 10% of sales for suppliers but lower when just considering diesel cars. They also have a huge corporate debt exposure of 165B EUR, and the ECB has suspended purchasing loans backed by VW assets. RevPAR slowed in August from a strong July, and it sounds like the slowdown has continued into September. It still sounds like 4Q will be better though. Housing is mixed, as we got ahead of ourselves in July with the 5.5M pace, but the current 5.3M seems right. Low-mid single digit growth is a fine pace. Data points from HD/LOW and building products are still good. We’ve heard negatives from consumer staples companies in China such as HSY, baby formula, and others. Contrary to that, NKE had great China forward orders, and the CEO of Uniqlo said this morning that they are not seeing any slowdown because if it happened it would only affect luxury while the middle class is still fine. Finally, the ABI/SAB deal will tap credit markets for ~$50B when the time comes.
(consumer/internet) Retail still feels choppy. Warmer weather means we could have issues for 3Q. It seems like the stock moves down are more exaggerated than the moves up. FINL reported a poor comp but reiterated earnings, and the stock was down 20% last week. The GS VIP basket has begun to roll so crowded hedge fund trades are likely going to be vulnerable. NKE was the one positive standout last week. The bar still seems very high for longs. We’ve been looking at the last two years for valuation ranges, but now stocks are going through 2011 levels so maybe that’s where we should be looking now. Golden Week in China could be bad because it has been driven my mainland visitors to Hong Kong but their spending has slowed down.
(energy) WMB-ETE was announced today, but with only a small bump to the previous price. Midstream is now down 34% since May, equal to 2008’s drawdown, including -11% since Monday. There is clearly lots of unwinding with major books coming down in the past few weeks. ETE is down 10% now, and trading at a higher yield than KMI which doesn’t make sense but is just a consequence of the unwind. Oil rigs are down to 640, and I think oil is going back to $40. The Fed has told E&P companies that they won’t get waivers on redeterminations like they did last spring. Some of the borrowers have assets that are worth nothing so the Fed is cracking down, telling creditors to look at unsecured debt and not just secured debt. It is not clear if this will drive bankruptcies or not, but it seems like there should be some coming. There are 17 E&Ps that are likely. Paragon Offshore drew down on its entire revolver, and Samson is a private company that has already filed. In services, budgets are down 30-40% for next year, and there are layoffs at the corporate level with CVX cutting 1,500 jobs and COP cutting 1,200. Offers to college graduates are being rescinded as well. Nat gas continues to trade lower as new Utica wells keep popping up and are huge – the US will never have a problem with supply again. Gasoline is at its lowest price in years yet demand is starting to roll. In power and utilities, those names are down big too because anything with leverage is getting hit.
(healthcare) Healthcare was the worst-performing sector last week. The biotech index is down 25% from the peak, including another 5% today. The clouds overhanging the space with potential to turn into negative surprises haven’t done so. It’s just a sentiment shift and not a change in fundamentals that has caused the stock move. We’ve seen stocks up 20% pre-market on positive data, only to close down on the day. All of the overhangs are still around – tough comps in 2H because of ACA last year, biosimilars, pricing scrutiny from Hillary, and the election as a whole. The chorus from the sell side is to buy the dips, but I don’t think that is a risk worth taking. Many point to consolidation as a savior for the group, but the stocks are not going up after announcing deals so that’s not a reason to be involved at this point.
(generalist) We used to talk about a stock getting to down 90% by going down 80% and then an additional 50%. That’s what makes it hard to pick bottoms. FB and AMZN are getting smacked, it’s a very unhealthy market, and forced liquidations are happening now. The only thing working is alpha shorts, but long/short as a whole is definitely vulnerable to what’s going on now. The only mild positive is that we’ve been in this situation a handful of times in the past few years. 4Q starts this week, with the street expecting 3Q earnings down 6.5% so the bar is clearly low. I don’t think the Chinese market needs to get better – it just needs to show any kind of stabilization.
(Fed) Dudley was hawkish this morning. The only thing notable is that both Yellen and Dudley brought up the notion of trying to let the economy run hot, with unemployment below NAIRU. That seems like dovish policy but the market doesn’t care. The biggest issue is the market’s skepticism of the Fed’s ability to execute on the back-end of this strategy. There are very high odds of a hike in December.
(kingpin) There is not much on the horizon in macro to save the market, so we need valuation support from equities. We saw what happens to the market when the Fed doesn’t move. It could be a buying opportunity when they do eventually move because the market is down so much, but I think it is a fantasy that it will be a macro positive. I could see the Europeans increasing QE if the economy really gets bad. The Japanese don’t sound like they see a need to pony up, but maybe they’ll change their tune by late October. They’re already doing so much though that it’s hard to come up with an incremental increase. Earnings will probably end up being better than street expectations in 3Q, but forward numbers will likely get cut and the delta is not enough to make up for a market that has been moving lower 2% per day. There is hope that China numbers will turn in 4Q, with some of the stimulus actions following through into the data. PMI will come out this week. We are in need of something to stabilize the macro backdrop. We need several data points to create a real bottom, not just one positive one. There is not a lot to look forward to – it seems like it is best to look for shorts in the groups we’ve talked about – leveraged, roll-up stories, and crowded hedge fund longs. Grosses were up last week which means long/short books are generally doing well, which is surprising.
10.5.2015
(tech/industrials) The steady stream of negative data points continues, but not a lot is new. An industrials analyst came back from China talking about how weak business is, but that’s just confirming what the market already knew. I think Friday’s reversal was driven by technicals. So far the rally has been led by garbage stocks and not good companies, though if the market carries everything will get dragged along with it. The biotechs are weak today, and this is the second day in a row that the long/short momentum pair has gotten killed. We all know that positioning is light and fundamentals are bad, and that combination means the creep up could continue for a bit. I’ll be watching the first earnings reports closely – if the bad ones get bought, that positive theme could last longer. Without that kind of action this rally will likely fail in short order.
(trading) Imax Holdings prices tonight, and will be the first Hong Kong deal to trade in a while so it will be closely watched. It priced at the low end of the range and was initially dominated by hedge funds but Goldman got others involved so it’s now 3x oversubscribed. In the US, First Data sounds like it will come under pressure from the specialists, but syndicate gives a different opinion. It’s a $3B deal backed by KKR and will be important as it’s the first IPO in this cycle. I get the sense it won’t come below the range. Albertson’s is a $2B deal also pricing next week, but has less clarity. Pure Storage is the only deal this week, and specialists don’t like it. We’ll also get a few blocks tonight and throughout the week.
(consumer/internet) There’s a continued feel that September was a poor month, but last year’s October was the warmest in a decade so all the retailers with October quarter-ends will have a chance to catch up on a y/y basis before reporting. Some companies were optimistic about what they were seeing into Labor Day a month ago, but trends seem to have weakened since then. Many are making the comparison between now and 2011 – GS said grosses are only 10% above where they were then, but we all know valuations are more elevated now. China is important to watch because it could be firming and that would be the time to step in though it is hard. September’s data could be weak but a strong October due to stimulus could lead to the 4Q rally some are waiting for. They have a number of stimulus initiatives – a reduction in the down payment required for first-time home buyers, a lower autos tax, and stabilization of the currency. We’ll get the Flash PMI in the third week of October and it could serve as the first sign of a pickup. It was interesting to see a group like China internet rallying so much on Friday. Many investors are not involved because they are fearful of anything in Chinese equities right now. The data will start to flow as Chinese companies report earnings. YUM reports this week and has 40% of its operating profits in China, but there are a lot of company-specific issues there too. The market overall has been driven by macro positioning. We’ve seen stocks at extreme highs on both multiple and absolute value continue to be bought like NKE and SBUX, yet BBBY, KSS, and others are on the complete opposite end of the spectrum. A lot of investors in consumer are positioned that way which is worrisome. We are seeing it today with NKE trading flat to down in a strong tape. Discretionary has held up the best vs. the rest of the consumer subsectors. I think 4Q growth will be slower because last year’s compares are tougher when we had lower gas prices, a less promotional holiday, and the significant shift in weather.
(consumer) In autos, we had an explosive US SAAR, printing above 18 million for the first time since 2005. September was up 10% y/y due to the beneficial Labor Day shift, but is still up 6% in the last three months. It shows big ticket is still very healthy and is drawing spending away from other consumer spending. China announced a large auto stimulus through October 2016, cutting the tax on smaller vehicles from 10% to 5%. Large caps like Great Wall traded up 35% in two days. Early expectations are that it could drive double digit sales increases when expectations had previously been flat to down. We are playing it through the US auto parts suppliers, but the theme could also play out in the large liquid names like BMW and Daimler. F/GM are largely viewed as funding shorts for the suppliers in the space. Nothing radical is really coming out of the UAW negotiations for those companies. In housing, Case-Shiller showed a healthy 5% y/y home price appreciation, and I think the builders will beat in 3Q. That is another group benefiting from consumer dollars being spent on large purchases and not at mall retailers. M&A is still healthy as Elmer’s Glue was taken out for $600M or 12x EBITDA, 50% higher than had been rumored. We are waiting for a formal offer from ABI for SAB. They think they will be able to price $50B of debt at very attractive rates. It’s encouraging that 3G wants to make deals like that right now.
(industrials) The fundamental setup hasn’t changed, but we’ll be watching 3Q earnings for the stock reactions. There has been a raft of negative preannouncements with negative reactions in the past few weeks, highlighted by CAT. ATU last week was the first example of a bad company exposed to bad end markets which rallied on bad news. It is now up 18% since reporting on Wednesday vs. XLI up 4.5%. Some on the street are trying to make value calls like Wolfe upgrading the rails, but Barclays downgraded some stocks in the space today saying they’re still not down enough. I think a wait-and-see approach is best for the quality industrials. The metrics we use for high-quality companies might not stack up well vs. other cyclical options because the industrials still have exposure to EM and other areas that haven’t shown signs of turning. They might be good relative longs vs. the lower quality companies in the same space, but they’re still not great compared to other sectors. Trian disclosed a 1% stake in GE, a $2.5B investment. Many investors say GE doesn’t have much downside here because of its 4% yield and corporate actions coming. They are doing an exchange offer to divest the remaining $22B of Synchrony Financial they still own, and that will result in about 8% of their 10B shares outstanding being retired. They will also lose the financial sector earnings that are generally valued at 11x while keeping the industrial earnings at 15x, plus the Fed will get out of their way so they can have more freedom to buy back stock. This is not true activism because the company was already going through the strategic process, so it’s more of a cooperative relationship with Trian. Beyond the Synchrony divestiture, they’ll have an additional $15-20B of cash available to retire stock, and then they’ll be able to lever the balance sheet once they lose their SIFI status which will result in another $25B. Their revenues will be 20-25% industrial after this divestiture, and would be at the high end of that range if they buy some HAL assets as has been speculated. As long as they don’t overpay, many argue it will be a good purchase because they will be the strongest bidder standing while traditional bidders will be in impaired positions.
(tech) A Chinese government-led buyout group bought 15% of WDC which set off a chain of reactions in old tech with the thinking that China will backdoor its way into acquiring other sources of IP in memory, disk drives, etc. That is a space with crowded shorts so there was a lot of carnage. It was also startling because they paid a 34% premium to the market price, though it’s tough to say if it will lead to another round of M&A. There are continued rumors about the AAPL supply chain being weak, with the latest one today being that the Japan iPhone launch didn’t go well. GS had a CIO survey last week and it was the second one recently which concluded there is no cut in enterprise spending. Even with those surveys, a small growth company, CUDA, blew up last week. Samsung will have their scheduled preannouncement Wednesday night, but they’ve already lowered numbers by 10% so it should be a non-event.
(tech) The CIO surveys all say there will be no cuts to spending in 2H15, and the MS one actually ticked up vs. three months ago with strength coming from the US. Those surveys are not necessarily great leading indicators, but it’s interesting to see the themes of enterprises spending on the cloud, security, and analytics. Legacy products like PCs are at the bottom of the pile. Investors are predominantly long the growth winners like FB/AMZN/NFLX/GOOGL vs. short the legacy losers like HPQ/NTAP/EMC. That makes the setup very had right now, as we’ll probably see the bad names outperform for a short time but it’s hard to pay more than 5-10% higher for them because the underlying fundamentals remain so poor. Altice, a big French cable company, is buying CVC but had to downsize the debt portion of the deal while upsizing the equity because the credit market wasn’t receptive. They are already very levered and trying to lever the CVC assets at 7x. There is a lot of concern about what is happening in media, and the fact that they are being forced to downsize the debt portion is another negative read.
(energy) Midstream continues to be the tip of the spear, as AMZ is up 20% in the last four days. I still think a lot of the sell-off was due to a complete unwind. There are 33 closed-end funds that can use up to a third leverage which represents $6B but they still have to meet SEC requirements at the end of the month. We could continue to see the group trade up now that September is over, but the last few days of coming months could have similar volatility. Kayne Anderson is a big player that has a November year-end which could be worth monitoring as well. The oil rig count dropped from 640 to 614 so crude squeezed through its 50-day. I think it will get back to $40 in the next few weeks. CXO priced a deal last week, but the Permian companies are the only ones able to raise equity right now. Suncor made an offer for Canadian Oil Sands, but it’s currently trading at a 5% premium because China and XOM are potential higher bidders. S&P downgraded a number of energy credits and lowered XOM and CVX to negative watch. XOM is just one of three companies with a AAA-rating and has had it since 1985, so this is a significant headline. Companies continue to chew up their own balance sheets. Spending levels will be down 30-40% in the E&P sector in 2016, yet the stocks are up 30-40% in the past few days. In nat gas, we had the strongest El Nino in twenty years, with more rain in California and across the whole US. Nat gas could be a complete disaster if this continues, and we could exit the winter with a price under $2.
(financials) Estimates have already come down ahead of earnings, and BKX is down 17% from its highs. Some of this is driven by oil and gas, while consumer markets are great. Lower rates are going to persist so banks are focusing on costs which was the theme at a conference a few weeks ago. I think we’ll see more M&A in bank land, and the Fed is willing to let that happen. Since BAC, C, and JPM came out with down mid-single digit market results, the environment has probably gotten a little worse. They have done their best to reset the bar lower. The storm last week did not hit so insurance is fine and companies will be free to do buybacks. The SIFI rules which came out over the weekend look benign which is good for AIG.
(generalist) Conditions for this rally have been building for a few weeks with sentiment and positioning data, and we just needed a catalyst which came Friday in the form of lower rates for longer. Many are chasing the rally now, and I think the market will shift from being macro-driven to micro-driven. The market has lost one of its leading sectors with healthcare falling off a cliff. That headwind will last for weeks if not months. We talked about the easy 4Q compares in consumer because of lower gas prices, but it’s also notable that we’re lapping the collapse in oil so energy has easy compares and the sector could have legs into 4Q.
(HEAD) I’m a bit confused right now because after the Fed passed on raising when it was conceivable for them to do so, it should have been a positive for the market. All else equal, an accommodative Fed is positive for growth. On Friday, we were clearly at the bottom of the trading range which is probably 1850-1870 to 2,000-2,020. That range seems more important than anything else at this point. On the next Fed date, there could be a 90% chance they don’t move, but it won’t change the rhetoric that it was a “close call”. They’re desperate to move so the more fleeting the opportunity becomes, the more desperate they become. Hatzius today is questioning their impotence and they do not want that to become a loud narrative. I don’t know if that’s positive or not for equities. We won’t really know what’s going on in China for a while, as there will be a round of September data this weekend but it won’t tell us much. If the currency reserve data is huge or small, it will matter but anything in between is largely irrelevant. Many are waiting for the SDR decision in November and China should get inclusion, but for now they are trying to contain the capital account, interest rates, and currency. Into earnings season, it seems reasonable to expect the average 4% higher EPS revision from start to finish that we are used to which would mean the negative 4% forecast right now would end up at flat YOY. But it would be interesting if that doesn’t happen. Gross exposure has moved higher but net has decreased as investors shorted more of the stocks they don’t like even as prices went higher.
10.19.2015
(tech/industrials) The bad news we have been anticipating is now spilling onto the tape during earnings. Some of the preannouncements have led to shocking selloffs like PWR, which does construction for pipelines, down almost 30%. Most of the companies that reported bad news have gone down so it hasn’t paid to start buying them even with expectations low. With these weak results, the market is still finding a way to go higher. I don’t think news has improved except a few areas in tech such as semis where inventories have been de-risked enough that guidance is now better than expected. As we get through earnings season the buybacks are coming back. Plus the bad news being on the tape is a plus. But it still seems unstable right now given the action of the companies that are missing earnings.
(tech) The theme in semis is definitely not good but it is better than feared. XLNX and LLTC guided above expectations, though LLTC has an extra week in the quarter so it’s harder to make an apples to apples comparison. On top of that, M&A speculation is picking up. SNDK and FCS hired bankers, ADI is buying MXIM, and other rumors are floating around. News flow is certainly more positive overall and fundamentals are better than feared. TXN’s guidance on Wednesday will be important for the next move in the group. Outside of semis, tech is more mixed. Dell buying EMC is a big deal, but EMC negatively preannounced with that news even on top of low expectations. The deal is very complicated with a lot of debt and use of VMW tracking stock. STX negatively preannounced and the stock was down 15%, also on low expectations. A large chunk of that miss is company-specific because of a product, but it’s still bad for the space. IBM is reporting after the close today and has low expectations. I wouldn’t expect major fireworks. In internet, NFLX missed domestic subs last week while beating international. There are a lot of company-specific nuances, but the stock is worth watching just because it’s a barometer for the high flyers. The company blamed new credit cards causing involuntary churn, but some have pushed back against this excuse. GOOGL and AMZN report Thursday after the close. GOOGL’s quarter won’t matter much because the real catalyst is next quarter when they break out their different businesses. AMZN has a tricky setup – I think numbers will be good but they could guide cautiously. The street is likely prepared for that but we won’t know for sure until the print.
(consumer/internet) August retail sales were a little light, as we have been talking about. The weakness likely continued into September and October. China has become more important over the past few weeks. LVMH is a best-in-class name but negatively preannounced, as sales decelerated from 10% to 3%. That equates to a 500bps slowdown on a two-year basis, and they blamed Chinese demand, saying that the stock market is affecting their customers. They did mention a bounce back in Golden Week to low double-digit growth though. Burberry followed with a slowdown from +4% to -4% comps, with China driving the weakness. Hugo Boss reported similar weakness, and YUM talked about Pizza Hut in China struggling as comps went from positive to down low double-digits. They have some other issues with competitors being promotional, but it’s still worth noting. MJN reports this week and could be viewed as another read on China. We’re all waiting for the Chinese data to improve. The weakness we’re hearing about is interesting because if the stock market really is to blame, the companies should have benefited when the market was up earlier in the year but that was not the case. We’ll get housing data in the US this week, and we’re expecting existing home sales to remain strong in the mid-high single digits range over the next several months. Retail earnings this week are set up to have a mixed bag of beats and misses with no real theme.
(consumer) WMT cut 2016 earnings by 12.5% and the stock was down 10% in two days, its biggest move in twenty years. This is not a sales issue at all – costs are higher because of labor and ecommerce investments. That news hurt others in retail, namely dollar stores, grocers, and TGT. An article is out saying they’re asking suppliers for better prices so the effects could be felt down the chain. FCA reached a resolution with UAW, and now F/GM are next. We’re expecting 3-8% wage increases depending on tenure for auto workers. The Ferrari IPO this week has drawn some attention. Autos as a whole still look good as each region is doing well and China stimulus should have a positive effect. ABI and SAB reached an agreement, and now ABI will raise $50B in the credit market at low rates. Staples companies are posting good results so far this earnings season. (Rami said the wage increases WMT is talking about should be good for revenues at low-end retailers, but bad on the cost side for the ones who have to pay those wages.)
(industrials) The chorus talking about an industrial recession is getting louder, while specialists have been saying it for a while now. The CEOs of two distributors, FAST and GWW, are calling it out explicitly. Both companies reported negative daily sales for the first time in two and half years, with a deceleration throughout the quarter. Broader data points certainly support the negativity, and 2016 estimates still need to come down for the group. We’re still searching for something to give us footing, but the floor seems more and more tilted down as trends are getting worse into 4Q. Pricing risk is showing up in short cycle, oil and gas, turbines, and ball bearings. So far I’ve recorded 34 preannouncements or earnings reports and broken them down as one positive, five neutral, and 28 negative. The stock reactions are generally in line with those stats and even though a few of the bad reports have seen the stocks go up, it’s not enough to call it a trend. This week is the first truly busy one. The GE/SYF exchange offer commenced this week, where GE holders can tender for SYF stock at a 7.5% dollar value premium. GE is disposing $21B of SYF stock, while the second biggest deal of this type was PFE/ZTS for $13B.
(financials) Major bank earnings are done and they were poor as expected. Stock reactions were in line with actual results. Most of the misses saw the stocks recover the next day though so there was no follow-through. The bank tape is still stuck in a battle between the macro and micro. Consumer businesses are holding up very well, while provision expenses were up for the second quarter in a row because of lower reserve releases. Energy was the only area of weakness within credit, but the magnitude of the weakness there was still surprising. Fee income has been pressured outside of investment banking and trading. Mortgage volumes are still good but pricing is under pressure. The QE phenomenon is making its way into cards as private label deals up for renewal are coming under pressure. The banks are competing higher margin businesses down to the cost of capital. The DAL CEO last week said that the widebody aircraft market is experiencing a bubble which hit BA and its supply chain. It’s also worth highlighting in autos, as I just heard an ad this morning for a five-year no interest loan, with cash back. Of course auto SAAR will be in the 18M range when financing is that good, but it’s worrisome going forward. It’s tough to put a finger on anything in particular but it seems like bubbles are coming up in everything and it’s related to long periods of free money. China October PMI comes on November 1. The September data spooked the market last week but we shouldn’t be too concerned – expectations that China is turning and improving are more concerning. The DB economist is saying that government land sales accelerated dramatically in September and into October. This fits into the idea that the data is going to be better in Q4.
(financials) Investors want to own the financials into year-end for the seasonal trade. Advisory is the bright spot for banks, but it seems we are late in the cycle for M&A. Everyone is still talking about how strong the flow and pipeline is though. In earnings so far, even the misses like JPM and GS have been bought.
(financials) In today’s MS report, they had an 8% increase in non-investment grade credit and a 50% increase in bridge loans extended so they are clearly moving out on the risk curve. Banks are doubling down their efforts in credit card rewards. That’s why DFS and COF have low multiples – their businesses will continue to be threatened. Canada is having an election today and there is an obvious lurch to the left. They elected a communist in Alberta and that trend could continue nationally. In insurance, losses for the quarter look to be a little higher than expected on the China explosion, but it’s being offset by benign weather. That sets up for big buybacks and more M&A in 4Q and into 2016.
(energy) Oil has gone from $38 to $50 and back to $47 mainly on macro flows and rig count data. The rig count has dropped to 595 from 640 a few weeks ago. There is no fundamental reason for oil to be at $47. Production has been stronger than expected, Saudi inventories are high, Iran is bringing production back to the market faster than expected, and Libya’s supply risk is being ignored. XOM is currently pricing in $90 oil and street estimates for 2016 are 30% too high. Stocks are 15% higher despite the price of oil declining. SLB and HAL both beat on EPS but gave terrible outlooks. SLB said the recovery will be a 2017 event but guided down 4Q and 2016. That is even after they tried to get the street to lower numbers enough to ensure a beat. HAL gave horrible commentary as well, saying they have less near-term visibility than ever before and budgets are drying up to nothing. In refining, the market isn’t appreciating the 65% fall in crack spreads as the refining stocks are at all-time highs. I think the stocks will get crushed. TSO should earn $6.50 in 3Q followed by $1.40 in 4Q, and that’s a $100 stock. All of this should be good for consumers. Nat gas is a disaster but we’re finally seeing winter weather show up and are headed toward the strongest El Nino on record. Midstream remains the most attractive sector. In utilities, the average RSI is 69 but it’s not clear why.
(generalist) The tone at this meeting shows the market is tentative, debating a looming recession. When we take a step back, we’ll realize that following a historically disastrous 3Q, we’ve returned to some stabilization with S&P back up 9%, VIX down 50%, and EEM/FXI bouncing back 15%. There has been a clear uptick in the past two weeks. The market was far too negative and caught offsides. Investors can now put more risk on with idiosyncratic trades. It’s hard to be negative with ten weeks left in the year, entering a seasonally strong period. There have been outstanding numbers in buybacks since 2004, and cash levels remain extremely high so there is more to come. A lot of risk gauges are still in panic territory. It’s worth noting that in a no growth world, ABI chose to acquire for earnings growth. The ability to raise $50B at low rates is a sign that M&A will remain strong. I’m not necessarily bullish overall, but it’s interesting to see the change in sentiment over the past and next few weeks.
10.27.2015
(tech/industrials) We’ve gotten through much of earnings season. The summary is that they were not better than expected, but we got to a point where positioning was too negative and bad news started to get bought. Investors rotated from healthcare to industrials, as many are looking at the easing of Y/Y comparisons for industrials in the beginning of 2016 and predicting that numbers have bottomed. It’s hard to chase the industrials on bad news though because they’ve already jammed so much. Retail still sounds bad but those stocks continue to go down on negative news – that could turn though and reactions could start to be similar to what industrials are going through. AAPL matters a lot for the market tomorrow. It’s a controversial print because there was negative sentiment going in but the analyst at Cleveland made a positive call last week and he is well-respected. It’s down today because one of their European suppliers blew up. I think FANG stocks will be bought either way because if AAPL’s print is positive, it will lead the market higher, and if it’s negative, money will flow out of AAPL and into FANG.
(industrials) Industrials led the market higher last week despite a mixed fundamental picture. We heard from companies across the space that October is trending even worse than 3Q which means organic growth is negative. There is a big divergence between consumer and industrial end-markets though. Companies like LII and SWK that serve consumers are doing well. CEOs of companies that face both consumer and industrial called out this divergence on their calls. Through all of earnings season, 73 companies reported – 27 beat (most this past week), 40 missed, and 6 were in line. 15 of the 73 had at least a 2% out/underperformance in the opposite direction of the quality of their earnings report which shows how much positioning matters. The CEO of CE, a midcap chemicals company, thinks that China has bottomed for his business which reaches both industrial and consumer markets. He thinks the worst is passing and is optimistic on 2016.
(healthcare) The pricing rhetoric has reached a point where it is starting to influence decisions. There hasn’t been any congressional action yet, but it might not be necessary to prevent companies from conducting their normal increases in January. The news is affecting strategy too as deals that were thought to be more pricing-oriented are now off the table. Fundamentally, this was the worst negative preannouncement season we’ve had. The group is now trading at a 4% discount to the S&P which is the lowest since 2012. The two new pieces of information impacting this valuation are that the market is realizing that Hillary will continue to be loud in her scrutiny of the industry and more focus is being placed on the use of specialty pharmacies to circumvent managed care. There could be major changes in this regard over the next couple years. Companies like VRX, regardless of the new fraud accusations, legally take advantage of a flawed system. HZNP, for example, packages two basic drugs that would cost $40 per month separately into one pill that costs $1,100. Doctors benefit by writing prescriptions like that because they don’t have to worry about insurance – they just write the script and the pharmacy takes care of it. This makes up about 80% of HZNP’s revenue but just under 10% of VRX’s. If VRX completely stopped this practice, it wouldn’t hit their current earnings much. The stock is now trading well under conservative DCF estimates after the Citron accusations. They have major businesses in areas such as contact lenses through Bausch and Lomb which are unaffected by spec pharma. AGN, VRX, and others have said that money will flow into more innovative products, which is why I’m looking at the SMid cap therapeutics right now.
(trading) Next week is when the news flow will kick off again. KMI announced a mandatory convert today that looks attractive. Japan Post and Holdings priced in Asia, and all three offerings will trade November 4th. In the gray market, the insurance company is up 5.5%, the bank is up 3%, and Holdings is unclear. China Reinsurance was an $800M IPO that priced last week, traded up 3% in the gray market, and closed flat after it was only up for the first twenty minutes of listing so that is not encouraging.
(tech) Two significant M&A deals were announced last week – SNDK/WDC and LRCX/KLAC. The massive consolidation theme continues to accelerate. The two components of FANG that reported last week, Amazon and Google, both did well, while TXN was also a big positive surprise after estimates got too low. On the other hand, growth was under pressure as FTNT, VMW, and QLIK all missed and had big moves down. On AAPL’s quarter, the two numbers that matter are 45M iPhone units in the September quarter and 72-75M in the December quarter. There is a push and pull into the print as Dialog Semi’s report today would suggest the number is no better than in line, while publicly available data from the carriers and a third-party source called GfK are similar, but the Cleveland analyst is very positive. I think an in line print would be a relatively positive outcome and then get faded throughout the quarter.
(tech) One more data point on AAPL is that there was an OTR report this morning that was negative on Europe. It feels like there are a lot more negative data points than positive ones but the one positive is from an analyst we all think is good. NFLX seems like it should be taken out of FANG now because it’s just dead money at best until we get through 4Q since the credit card excuse seems invalid. The other three stocks should continue to work, though there is some worry that they could fade like last quarter. AMZN had a very strong quarter and GOOGL was expected to be a non-event but was actually positive. Given how the rest of TMT sounds, I think investors will come back to these two stocks. During earnings, 58% of TMT companies have missed/cut while 42% have beat/raised so it’s definitely a poor earnings season overall. A lot of the weakness is coming from SMid caps with QLIK calling for a push out at the end of the quarter as a prime example. IBM also said that in Asia specifically, which hurts smaller companies more because they can miss estimates if they lose one or two deals in a quarter. Semis have been a rollercoaster as TXN gave a very positive guide, but MXIM, FSL, and CY all missed and pointed to a weak 4Q. Many investors want to short the recent bounce, but it’s hard when there is so much announced and rumored M&A.
(consumer/internet) VFC’s comments on Friday hit all of retail. That is a company with a great track record and guided revenues down, pointing to a weak 4Q. Their business is 80% wholesale so it’s an indication that orders from the channel should be weak. That is in line with what we’ve heard from the channel, but it still hit most of the group. CMG is another best-in-class company that reported last week and talked about a choppy October after the September quarter was a little light. EAT, which owns Chili’s, had negative comps and guided to more weakness. I think the VFC news puts a lid on retail and it will be hard for the stocks to work, but it is true that they are hated and underowned. They will move on positive news, but I don’t see that coming. MJN reported last week and gapped up on bad news as investors think the deck is finally cleared. On BABA’s report tomorrow, I think they talked down GMV enough that even though they could still miss, their efforts on improving take rates/monetization could be enough to get the stock up. The stock is still cheap for the kind of growth it has, and shorts would have to cover even with it 20-25% off the lows. Lodging has been a great short for most of the year, with general thinking that RevPAR peaks and starts to decelerate at the end of a cycle. The HLT and MAR CEOs stuck their necks out last quarter and talked about mid-single digit growth in 2016 – it would be big if they reiterated those outlooks this quarter. CTRP’s announcement this morning is probably the last big deal to happen in China. CTRP is taking shares of QUNR that BIDU owns so it now controls 45% of the #2 player, QUNR. It’s a merger in spirit which also gets by regulatory issues. The story on CTRP is now that it’s the fastest growing travel company in the world and margins should improve so it can grow earnings 50% for the next five years. The fact that these companies will stop competing with each other is huge, as they have been extremely promotional in the past few years which has led to a big decline in margins. CTRP’s operating margins have gone from 41-43% to 10%. It’s also interesting that employees of QUNR are allowed to swap their shares into CTRP but public shareholders do not get that option. That means the management team of QUNR can swap and put personal money into CTRP, taking away their motivation to improve the business they work for.
(consumer) Autos and housing are still strong. GM, ALV, and TEN all put up good quarters with North America and Europe beating while China was softer in 3Q but commentary points to an improvement going forward. The tax stimulus in China started on October 1st and in the two weeks since, sales have been up 3% and 23%, respectively. It is positive that the data stabilized even before the stimulus was implemented and now numbers are improving further. Week three should come out Wednesday or Thursday but there is not a set schedule. New home sales were surprisingly weak this morning but existing home sales were strong. FBHS called for a reacceleration and companies like HD and LOW look strong as well. Retail trends are company-specific but the bias is negative. There has been surprising strength from staples like KO, PEP, PM, etc. as investors are underweight and FX pressures are abating. At the same time, popular hedge fund names levered to M&A have had substantial underperformance. Martin Franklin gave a presentation on his company, JAH, earlier this year called “45x” which seems to have top ticked the stock. The company announced an acquisition a couple weeks ago and initially traded up but then priced an offering lower and traded down eight days in a row.
(financials) The big banks reported two weeks ago and were half beats, half misses. The results were generally less bad than feared. The stocks are underperforming but still grinding higher. With that backdrop, a drumbeat of better data and a Fed lift in December would lead to a catch-up trade for the group. MS, JPM, and GS said that October started softly when they reported, though NIM continues to be good particularly in consumer. Fee income was a little light with mortgages really weak. Those cheap stocks remain cheap, while V/MA make new highs. The FT broke the Visa Europe acquisition news last week – it would be a $25B deal, 2-10% accretive for V. ACE/CB is a deal that has been announced but not closed. CIT announced it is breaking itself up, and was a heavily shorted stock that was up 15% on that news. Sam Zell said he’s selling 23,000 suburban apartments to Starwood. He has been a big real estate bull and says he’s still positive, but that could still be an incremental change. Green Street Advisors says their models suggest US commercial real estate is overvalued – not a bubble bursting, but valuations topping.
(financials) Consumer businesses are competing away pricing power. Credit cards rewards costs are going through the roof. In mortgage insurance, FHA may cut prices, and Arch and NMI could lower prices or do more risk-based pricing. Good credit is being competed away. From the staffing companies, MAN showed an acceleration while RHI temporary staffing comped 14% y/y in 3Q but with September at 10% and October MTD just 3%. MAN is more industrial while RHI is clerical.
(financials) COF was up 8% last week after talking for the first time about getting costs in line. That company has never cared about costs before. V said over the weekend they won business from USAA which is a top ten credit and debit issuer. V has a good story with the Visa Europe deal, gas/FX headwinds lapping, and it’s the one name that has been forgotten. It sets up well into year-end and 2016. PYPL and FDC give their first earnings reports this week, and MA also reports. Storms keep threatening to hit but haven’t which means it will be a benign loss quarter for insurance leading to big buybacks in 4Q. ICE bought IDC for $5.2B this morning, paying 13x EBITDA for a 5.5x levered business.
(energy) HAL gave horrible commentary when they reported, saying they have less near-term visibility than ever before and budgets are drying up to nothing. At the same time, they somehow said 1Q will be the bottom. SLB guided down 4Q and 1Q while saying that recovery is a 2017 event. Oil is back toward $40 as the DOE builds data was a disaster and the rig count was only down one last week. In the absence of a geopolitical event, it’s hard to see how oil would rally. Services companies rallied big last week. Looking at XOM vs. Brent and crack spreads, they have only been this disconnected a few times in the last thirty years. XOM currently prices $95 Brent. KMI missed earnings last week and lowered their dividend growth rate as expected. They won’t access the equity markets anymore, and are using a mandatory convert with an attractive 9.75% yield instead. Nat gas is down 25 cents. Most are aware that this year is the strongest El Nino on record so we are set up for a warm winter. Fuel is near lows so consumers will have more money in their pockets. Cracks are down 65% so refiners will have their greatest quarters in history but then fall off a cliff in 4Q. DUK announced it is buying PNY at a 35% premium, following two other deals in regulated utilities at 35-50% premiums. They are using debt to finance, but it seems expensive for a regulated industry. Still, the theme of electric utilities buying gas ones should continue.
(generalist) The next 5% move in the market is tricky. All indicators that were showing extreme pessimism have moved back to neutral. Investors are in relief stage, bordering on optimism now. We have seasonality and the Fed as tailwinds, but earnings are weak. There is a general bifurcation in the market that gives definite opportunity to buy certain sectors and companies vs. short others.
(Overall) I’m surprised at what Draghi said, but now he has to do something in December. There is a wide-ranging assumption that the Fed isn’t going to move in December. Actually listening to them, which the market doesn’t seem to do anymore, it appears the bar not to tighten is somewhat high – higher than I would have thought given non-farm payrolls. They didn’t move in September but the reasons for passing have gone away, China being the primary one. It’s amazing to hear the amount of flack they’re getting for “whiffing” by not moving in September. Brainerd and Tarullo made public comments in the past week, but the major reason is that they are Clintonites and want to plant their stances squarely with Hillary possibly coming to office. Many investors think the Fed has already decided not to move in December and will wait until March. The more central members don’t give that sense though. Internally, we’re expecting strong employment data with big revisions and hourly wage data. ECI is a toss-up, but there is a lot of data between now and mid-December. I don’t know what it means for equities if they tighten though. This week, there is a near zero chance of a move. The other event to watch is the BOJ Thursday night. Foreigners are positioned for them to do something, but domestics are dismissive of the idea that Kuroda could move. It does seem like a good chance they don’t do anything which could be disappointing. If that comes after a hawkish Fed announcement, it could matter for the market. China PMI is Saturday. It doesn’t seem like shorts have been chased out of the market as much as they could have been. A lot of long/short hedge funds have had their shorts hurt them while their longs are not doing much other than FANG. I think the market is still leaking upwards but I guess one can be short more comfortably without worrying as much about a rip given the magnitude of the move we’ve already had.
4/18/2016
(tech/industrials) So far in earnings season, positive to negative earnings reactions are about 50/50, but the positives have outweighed the negatives in terms of importance led by the banks trading up. Also, the ones that traded down on the first day of earnings have bounced such as AA. We are now thinking of earnings season as a whole as a positive catalyst, but with bumps along the way, since you always get good and bad days. S&P P/E ex-energy is only 16.3x, and buybacks will come back shortly so there is no good reason for the market to sell off other than the fact that it has rallied so much. Brexit is the most obvious answer, but it’s not a near-term concern yet. The information we have gotten out of calls has not been surprising as a couple industrial companies talked about a slowdown in March but at this point the market is viewing that sort of commentary as something transitory.
(financials) Banks had fallen into their prints but the stock reactions have been good. Earnings were still miserable, just less miserable than expected. Investors are now trying to weigh how bad the banks’ businesses will be vs. how cheap they already are. For the group, investment banking results were poor, C&I was bad mostly due to energy but some weakness in non-energy as well, while consumer volumes were strong. BAC was the big winner last week because of its consumer book, while JPM was the only one to report positive operating leverage. Estimates aren’t changing at the moment but they still have a downward bias. MS reported a tough quarter today, while GS is tomorrow. EPS estimates there have fallen to 2.50 from 4.20 a month ago so while I wouldn’t be surprised if they report 2.75, it’s not much to get excited about. The bank trade continues to revolve around a cyclical trade that went down too far, but it’s not exciting from here.
(financials) Valuations roughly reflect what the banks are returning on equity right now. After earnings, the next important event is CCAR results coming in mid to late June. MS intimated they will have a much bigger capital return ask next year. They have over $40B of capital in the institutional business and there is no way they can make a return on that capital in the business today. That speaks to how institutional businesses are continuing to shrink. The revenue environment has improved from January/February, but it’s nowhere near where it needs to be. (Will said compliance has gotten out of control at the banks. Citi now has more employees in compliance than they had total employees when they failed.)
(Consumer/internet) The March retail sales number was better than expected but it’s tough to tell if that was driven by Easter. Retailers’ quarters will probably play out as a mixed bag. The department store channel continues to sound the worst, which the PVH CEO echoed on the road last week. Luxury names reported last week and were mostly negative. Hong Kong was down 20% for Burberry after it has already been weak, and we’ll get another read on luxury via Swiss watch data this week. I don’t think earnings season will be much different than we’ve already talked about as it will vary by subsector. NFLX reports tonight but has already ripped into the print. GOOGL will be important on Thursday and then the rest of internet is next week. The setups are clearly different than last quarter for the large caps as many investors are not carrying full positions and the DB analyst has been very vocal about how all the prints will be squishy. The China internets continue to act better, as CTRP’s management was marketing in the US last week with a positive tone and Tencent has sounded good too.
(industrials) The fundamental trends that are emerging have been pretty mixed. There are well-known bad pockets in industrials but they are not contaminating the stronger areas. Housing trends remain strong as can be seen in HVAC, lighting, coatings, and another positive survey from Cleveland research. Earnings reports from the companies that are poorly positioned called out negative trends but expectations for a bounceback in April. Taking a step back, that confirms the choppiness from month to month but we are probably bottoming. The only negatives are for companies that are secularly challenged with pricing pressures and weakening demand hurting their currently inflated gross margins. I wouldn’t extrapolate the negative March commentary to mean that short cycle is turning negative, but would just say it’s a slow bottoming process. The group feels rich on fundamentals but non-fundamentals are driving stock moves which makes it hard to call what fair values are. We should see more subsector divergence moving forward, but so far earnings reactions have been uniformly good, even on bad prints. One interesting comment came from a small European lighting company called Zumtobel which guided sales down 4% vs. its previous up 4%. They said UK revenues are down 20% after they had been up through mid-February, and blamed Brexit news for customer caution.
(TMT) In semis and hardware, TSMC reported a slightly weaker quarter and talked cautiously about next quarter and the full year. That was taken as a negative for AAPL though the correlation on a quarterly basis is not strong. The more important story was Nikkei writing about AAPL’s 2Q production levels being lowered. It was written in a very vague way and Nikkei is questionable on these kinds of stories, but it was still taken negatively by the street despite the numbers in the story already being where the street’s estimates are. The read from the stock trading off today is that it’s a more crowded long than we previously thought. INTC reports tomorrow where expectations are for an in line 1Q but a 2Q guide down. LLTC will be more important for semis as it will need an in line print and guide given where the group is trading. In enterprise, SAP, JNPR, and STX all preannounced negatively though the last one was mostly driven by PCs. I don’t think we’ve learned anything new about enterprise other than what we have talked about as the early Easter was possibly a headwind to close the quarter. Vista Equity Partners announced this morning that it is taking CVT private at a 65% premium or 5x 2017 EV/sales. No other company in the group trades at that valuation with many at 3x so this deal should help the midcap software names. In internet, I agree with Rami that the setup is very different than last quarter. It’s the first time in 6-7 quarters that there have been squishy checks on FB so it makes sense to take a more cautious approach. Media is still a hated group with a lot of secular headwinds, but from a sentiment standpoint, ad checks continue to sound good, especially in TV, and scatter is getting better in 2Q from 1Q. There was a WSJ article about TV spending in upfronts being up 3-5% in 2016, which would be the first growth in three years.
(Tech) In enterprise, there was one more negative preannouncement from SMCI based on weakness in data center and servers. The weak areas have been concentrated in financials and European telecom and that is continuing. Largan punted on giving a 2Q guide so that combined with TSMC has gotten investors worried about AAPL. AMZN has an AWS event today and tomorrow which could help the stock and could relate to GOOGL as well. (Will said the big financial companies are really starting to evaluate moves to the cloud which is freezing budgets now.) To tech investors, the financials seem like they’re gradually moving but it’s a slow process because they are hamstrung by compliance.
(Asia) Largan’s comments last week indicate that either iPhone 6S sell-through was not good or there are low expectations inside Apple for the iPhone 7. The earthquake in Japan impacts quite a few companies. It is most for Sony, though the company put out a release saying the impact to its factory does not touch smartphone sensors. This is a relief for the smart phone supply chain especially Apple. On China, we continue to see strong monthly numbers on power demand, up 5-6% y/y after it was approximately flat for the past few quarters. Cement prices were up 1% w/w which is positive because it’s a sign that demand remains strong for infrastructure and real estate projects. Another leading indicator, GFA starts, were up 26% y/y in March which is strong as well, so both one-month trailing and real-time indicators sound strong in China.
(Energy) No agreement was reached in Doha after a draft was circulated but pulled at 4:30am on Sunday. Deputy Prince Bin Salman stuck to his word from two weeks ago when he said that he wouldn’t agree to anything unless everyone was involved and since Iran didn’t show up, he wasn’t willing to freeze. This seems like a negative because we don’t know what Bin Salman will do but everyone sees the price action today with oil bouncing and many stocks up. I still think oil goes to $35, but I didn’t expect it to be so resilient today. It rained twenty inches in Houston this weekend, which is the third “100 year flood” in the past two years. In capital markets, ESV, an oilfield services driller, was able to get a deal done which is impressive considering the disastrous fundamentals for that group. KMI and SLB earnings will be important this week. Cracks continue to be weak, gas is strong, but distillate is still a disaster. CLMT, a small refiner in the US, cut its quarterly distribution from 68 cents to 0, causing a 50% drop in the stock today.
(European generalist) Europe continues to sound decent. Appliance suppliers have reported good order numbers. The European consumer seems stronger than it has been in the past few years. Even though the euro has been has been strong, exporters have had the solid results and I think autos had a good quarter as well. I was in China last week where things feel a bit better. It’s not like 2009 when it was clear something big was going on, but things have improved.
(Head) Not a lot has changed since a week ago. We will get into buyback season soon, and EPS estimates have been lowered enough. I didn’t know why oil rallied so much on a freeze and re-freeze story but today’s action indicates that we’re now some sort of short-term a supply/demand mismatch. Some of that comes down to OPEC production. Perhaps Kuwait’s strike is the tipping point. We are hypersensitive to the weekly 25k barrel reduction in the US, yet there are hundreds of thousands of barrels moving online and offline in other places. When the market starts following those larger supply/demand technicals, it will give us a better idea of where oil should be trading. As I mentioned last week, a company which runs a small B2B online marketplace for the drilling patch said once prices hit the $40s, they got a lot of activity on their platform. The kind of activity they saw was indicative of DUCs being brought online. That combined with the length we see from futures and ETFs makes it hard to see a big push higher from here for crude. I would think the BOJ meeting could be a positive. We’re hearing they’ll come through with some new and different measures. Kuroda will double down somehow but not on negative interest rates. The Fed has become so dovish while the economy, equity markets, and FX are doing better. It makes us wonder why they were so tone deaf to the anxiety in the market in the early part of the year. Perhaps the change was the BOJ and ECB’s negative interest rate experience. That may have led the Fed to the conclusion that there is nothing else in the toolkit. Seeing the experiment unfold in practice (as opposed to in an academic paper) may have led them to the conclusion that negative rates is not a viable option for the US. So, if they tighten too quickly and then have to ease again because they were wrong, the risks are higher since that tool is not there for them and going through the zero bound becomes Armageddon. That seems like the only thing that can explain their changed reaction function. They do not want to get into the same situation as the BOJ and ECB so they will find every excuse not to tighten until we see better, more sustainable growth.
5/2/2016
(Tech/industrials) Earnings season has been mixed without much of a bias in either direction. The normal revisions have taken place as 1Q aggregate earnings will end up being down 6% from the previously expected -9%, while 2Q has been revised down by about 2% (to -4%). Those changes might be a little more muted than historical magnitudes, but they’re close. Unless we fall into a recession, the easy call is that 1Q16 will end up being the trough in y/y earnings growth. While FB and AMZN may have changed the market narrative slightly with their strong prints, earnings have been mixed overall with the exception of industrials being a net small net positive and tech on the negative side.
(Trading) Capital markets continue to be a challenge. There are 10 to 15 IPOs in the pipeline to price between now and June if there is enough demand to get them out. On top of that, there are 30 to 40 names in play for blocks that will start tonight. In energy, E&Ps will slow down their issuance but midstream should pick up. There was an Asian deal that priced on Friday night through GS and MS. It was only a 6-7 hour process for buyers that were not already over the wall. It sounds like they did it that way so it could be marked on books at an 8% discount by the end of the month. Despite how it was rushed, it was still three times covered for a $1.2B block and since it worked well, there will probably be a few more to come.
(Financials) Banks’ earnings estimates are generally continuing to fall after reporting 1Q results. BKX is up 8% in the past month vs. a flat S&P, but the banks are coming off extremely oversold levels. The bank trade is still dependent on whether expectations can be set low enough for the companies to report upside surprises. CMA had its shareholder meeting last week and we found out that it’s somewhat in play for acquirers, the first bank that is sellable and being targeted by activists. It was surprising to hear how much vocal opposition management received from large, usually quiet, long onlies. The stock currently trades at 1.1x TBV and a takeout would have to happen at 1.5x. It is the most energy-exposed and most rate-levered of the regional banks. In a 10-Q released after the meeting, the company said it is not for sale, but I think there would be bids. MUFJ, for example, wants to make a significant acquisition in the US. The stock is at $44 and seems to have a $40 downside/$60 upside range. After 4Q results, we talked about weakness in commercial real estate, but coming out of 1Q it sounds like there was somewhat of a pickup later in the quarter. We’re in an economy that is fluctuating around a low growth trend line. There were strong multi-family housing reports last year but they ticked back down to show weakness in 1Q. A tower REIT last week was the first to call out a big benefit from the USD. There is also news that the REIT sector will become its own formal S&P GIC sector in August, coming out of financials. It’s too early to know how much buying that will create, but it could be significant.
(Financials) Insurance earnings have been a mixed bag, with talk about pricing pressure dominating the commentary. There is very little to be encouraged by into CB’s earnings Wednesday. In Australia, Westpac’s results last night were weak with pre-tax pre-provisions income down 10% sequentially and provisions coming in worse so pre-tax income was -15%, also sequentially. The margin benefit they should have seen from mortgage re-pricing is not evident. They have a worsening asset quality, an unsustainably high 80% dividend payout ratio, and a pro forma CET1 ratio of 9.2% after they had guided to 9.4%. There are more Aussie reports coming this week (ANZ tonight, NAB Wednesday night) and I expect more negatives to show through as we’ve seen a deterioration in the Aussie consumer. ANZ has the highest risk profile of the group.
(Tech) Excluding AMZN and FB, last week was pretty terrible, and it has followed into this week with a negative preannouncement from BRCD this morning. They are a legacy player but they had done a good job of setting a low bar historically and had not missed in several years. The AAPL negative case played out exactly as the bears imagined as gross margins missed, units came at the low end, and China is very bad for them. There is now a gap period until the iPhone 7 later in the year. INTC had a weak print despite walking down data center numbers into the event. The communications sector is weak across the board with T and VZ underspending in 1Q, and Liberty Global in Europe having a capital freeze that took most vendors by surprise. Legacy reports have been almost universally bad and the stocks have had a pronounced underperformance. Growth tech such as DWRE and FTNT was decent last week, but it feels like the tech normalization trade is getting tired now so it’s a good time to start picking out shorts from the stocks that have bounced with the group. I spent half a day with JPM’s IT team last week. I learned that 100% of their data is stored on premise now but it will move to 70% with 30% in the cloud in five years. That transition will start a year from now. They are pushing to make everything they do vendor agnostic, and bidding is done via reverse auction. That means vendors submit blind bids and bid down against each other. That represents a dramatic change in behavior and while JPM might be a bit of an outlier for now along with GS as the most sophisticated, the other banks will move toward this model. They are taking the economics out of the business for all IT suppliers.
(TMT) Almost 50% of tech has reported and it has been a poor earnings season overall. In semis, anyone exposed to industrials and autos had in line to slightly better results while anyone exposed to AAPL and PCs had terrible quarters and guided down. I don’t think those themes will change, but the companies exposed to the right end markets have their stocks at their highs while the struggling ones are sitting at their lows. There was a big move into large cap value over the last few months, but we’ve seen enough of large cap tech miss (MSFT, SAP, STX, IBM, WDC) while SMid caps have been decent so the rotation into growth software will probably pick up. In internet, there has been a lot of pain but overall there have been both hits and misses, just like any earnings season. NFLX will probably remain range bound and a source of funds. GOOGL’s miss was just against elevated expectations and not thesis-changing, but it will still probably be dead money in the near-term. FB and AMZN had great reports and I was actually surprised by the lack of reaction. Fundamentals are even better than when the stocks set highs a few months ago so it would seem there should be much more upside from here. This is a big week in media, a group which has outperformed YTD. The companies have already had positive revisions and expectations are high into their prints, so any hair on reports for the group will get sold.
(Asia) Most of the reports from companies with exposure to consumer electronics have been bad. The few bright spots have been Samsung benefiting from a weak iPhone, Chinese smartphones doing well because of carriers subsidizing 4G, and TV sales doing well because of pre-Olympics buying. All of those data points are sell-in. Commentary on margins is bad though, so there is pricing pressure that will likely continue for the rest of the year. It is very common to hear that companies have low visibility into the second half of the year. On China, cement and coal prices were stable this week. April and May is the rainy season in southeast China so it’s a decent sign that prices are holding up in this seasonally weak period.
(Industrials) In aggregate, earnings have tilted toward the positive side. Out of 174 companies reporting, 72 have been good and 54 bad, which is the best quarter on that ratio in a while. 18 of the 54 misses have traded up. 2Q guidance has generally been flat to a little below the street, but full year has been maintained so there is a lot of endorsement to the idea of a 2H pickup from easy comps and conservative FX assumptions. Those are not necessarily high quality reasons to be positive, but there are also some pockets of demand where a better second half of the year makes sense. Pricing is the biggest fundamental risk and that has gotten incrementally worse. Commodity-linked input costs are going up and demand is not good enough for producers to raise prices, while companies are still relying on better margins to beat EPS so that is a problem. In commercial aero aftermarket, BA, Airbus, and even airlines are being a lot more vocal in going after suppliers’ margins. I think that will play out in a slow bleed, but it’s definitely a long-term negative for suppliers. In petrochem, North American producers benefit from higher oil prices but new supply on the gulf coast and capacity coming in the second half of the year will dilute those benefits. Lastly on autos, many have been trying to call for a cycle peak for a year but there were two vocal cuts to 2H16 estimates last week – brokers are saying it’s possible that production cuts could come as early as tomorrow’s April releases.
(Consumer/internet) It is hard to determine a real trend through the mixed bag of earnings we have seen so far. The retail quarter is likely ending worse than we thought a month or two ago. The narrative on the consumer is tough – WMT is investing further on price which can have a big impact on major companies such as the dollar stores and KR. Rising crude will result in rising gas prices and could pose a 2H risk for the low end consumer although wages are rising as well. 4Q had such bad weather that many investors want to buy the ones with easy compares coming up. In internet, I agree that the moves in FB and AMZN don’t seem especially large compared to their strong reports. BABA reports this week and the company already previewed GMV positively.
(Energy) Now that the HAL-BHI deal has broken, HAL will wire $3.5B to BHI where the money will be used for both a stock and debt buyback. GS revised its production decline estimate from 725k barrels/day to 665k by the end of the year, now in line with my expectation of a higher exit rate for US production. That is a drop in the bucket compared to the global number, but still worth watching as producers are doing more with less capital. Reuters highlighted last week that the offshore field in the neutral zone is not any closer to restarting and that represents 300k barrels/day. In Iraq, despite an attack on the Green Zone, oil is still pumping at a steady rate. There have been notable stories in Venezuela about power outages, but the real problem is the currency – if companies aren’t getting paid, there could be risk to Venezuela’s current production of 2.4M barrels/day. Two companies, PTEN and RES, said they are not seeing DUC completions yet, but Statoil said it will start competing for DUCs at these prices so there are conflicting signals on DUCs. During earnings season, there were beats from every major except CVX, but the beats were on the chemicals and trading segments, not upstream. US producers beat across the board, many coming from just having better well productivity, particularly in the Permian and Bakken. HES, COP, and XOM will likely lower their budgets mid-year while keeping production forecasts constant. On nat gas, five Marcellus producers beat and raised on lower capital as the productivity of their wells is through the roof. For context, RRC has a well that will flow at 12.6mmcf/day for 500 days whereas that rate historically would have been great if it lasted for a month, and this isn’t even its most economic play. An explosion on the TETCO pipeline caused a spike in nat gas prices, but that capacity will come back shortly. UPL declared bankruptcy but that restructuring and turnaround should take place within three months. In the refiners, gasoline demand is okay but there is no bid for the group. PSX, a big Buffett holding, was down 6% on Friday on an EPS miss. Gasoline is in contango which is rare for this time of the year and shows that we have sufficient gas supplies. A WoodMac study states the top one hundred or so companies are breakeven or profitable with oil at $53. BP just took its breakeven Brent price down to $52.50 from $60. Some Permian names are profitable at $40 or even $35, but there is zero stress on calls now with oil above $40. At $55-60, everyone would be feeling great.
(Head) There is not a lot new in the market. The BOJ was obviously a big disappointment, which speaks to the end of the road for central bank policy effectiveness. It leaves the market without a babysitter if anything goes awry and is suggestive of the lack of tools in the toolkit for central banks. They don’t want to quickly deploy what’s left because one may not want to shoot their last arrow. The longer time goes on and we see less efficacy from negative rates, the market will realize we can’t use them anymore. The time is not now, but at some point we will be faced with a macro problem when we ask authorities for help and they may be willing but not able to provide it. The “sell in May and go away” theme is coming into focus now, but the question is when in May to sell. On Brexit, I thought the Obama bounce would be good for the “remain” camp but it hasn’t done anything. I’m surprised the bookies are still so different at 3:1 (25%) to leave vs the polls. It all depends on who goes out to vote, and we can be most confident that the partisan, older people will do so. All data points seem to be weakening on a macro basis except for employment in the US. It will be interesting to see if we get a weak employment number on Friday. It wouldn’t be terribly surprising given the other weakness we’ve seen. Warm weather has held employment numbers up so far this year which means seasonals could be off. If companies didn’t fire workers in the winter, they won’t have anyone to hire back now. This could change the way macro investors are thinking about the economic narrative. Against that, claims have been super strong.
5/11/2016
(Tech/industrials) Most of the new information that coming in over the last few weeks has been negative. The most prominent area is retail, where we have gotten plenty of data points on a turn to the downside. I know there is a macro call for April retail sales on Friday to be better than expected, but that’s not what we see from a bottom-up perspective. From lodging to airlines to rental cars, everything is weak, and it seems to have happened toward the end of the first calendar quarter and persisting into April. And there doesn’t seem to be a replacement like a stronger Auto SAAR or positive iphone sales to be sucking the dollars away. In fact the iphone supply chain sounds like it received another cut again last week even after cuts had the build plan at a really weak forecast. In tech, almost everything is terrible outside of FANG.
(Consumer/internet) I think the perceived strength in the consumer in February and March was a head fake owed to easy comparisons. 2015 had very poor weather and a port strike that caused problems, but this year had neither of these and the market got overexcited when y/y growth looked strong for a couple months. Now, people in my seat are trying to figure out what caused the slowdown at the end of March and into April, but the best explanation I can come up with is that we just had a period of false positives and have now returned to the normal weakness for a secularly challenged group. The stocks largely got killed in 2H15 on these kinds of results, and it now seems to be happening again. TGT’s CEO was on CNBC today saying that he thinks consumers are paying down debt instead of making discretionary purchases, but I saw data from Will’s team saying that the opposite is true on debt pay downs. That tells me that TGT’s report will be bad next week. Even high-quality companies are having problems – COST had been running 4-5% monthly traffic for a long time but it downticked in the last couple months with no excuse. LB had great trends for two years and is all of a sudden weak. CAR’s pricing was down 5% in 1Q in North America after all of last year was down modest low-single digits. SFM is a high-quality organic grocer which hadn’t missed the midpoint of its guidance in six quarters but did that in 1Q and guided forward poorly. NCLH guided 2Q way below the street, and said new demand trends are problematic in Europe and North America.. GPS had a terrible May, Macy’s was ugly this morning, and KSS and JWN will likely be bad later this week. Stocks with relatively high multiples like ROST and TJX are getting attacked now. I don’t think the consumer is in a good place right now. I had been looking at these events as a time to cover shorts, but now I’m asking myself what the positive turn would come from. The stocks are down but with nothing good on the horizon. Next week will be interesting because earnings will shift to HD and LOW which should have great numbers, plus ROST and TJX which should be good. In Chinese, all of the events are idiosyncratic. JD missed GMV for the first time in a long time and came within their revenue guidance range whereas they usually beat. It seems like company-specific issues as BABA posted a very good number. NTES reports tonight followed by Tencent and VIPS next week. (Tony said that historically when there has been such extreme consumer weakness, there has been something to point to that is taking wallet share such as a new iPhone launch or autos, but there is nothing that fits that category this time.)
(TMT) Tech earnings have been horrendous. We’ve talked about enterprise softness, while security added two misses last week from FEYE and IMPV. Those could be company-specific, but FTNT and CHKP were already negative so those just add to the theme. Semis are the only area that has sounded okay, but it’s still not great. The cloud names have been better than expected, but that’s coming from the mid-cap SaaS names that investors dumped in February such as CSOD, ZEN, and PAYC. When investors in the traditional tech space come back to buy stocks, I think they’ll gravitate toward those. In internet, every name is idiosyncratic but that has been the best subsector within tech for earnings season as a whole. It’s not just FB and AMZN, but also the SMid caps like MTCH, ETSY, ZG, etc. I don’t think there is much appetite to buy those names though, which means the two that stand out for attracting flows are FB and AMZN. Media is the best performing group in TMT YTD. The results last week were almost all beats on advertising, but when I take a step back, they were smaller magnitude beats than expected and meetings after earnings indicate that companies are trying to temper expectations for 2Q so it feels to me that the run is over in those names. DIS didn’t help last night with their first EPS miss in 21 quarters. Studio was the only area they beat on, so they missed on ESPN, consumer products, and parks while also talking up expenses on the Shanghai park launch coming in 2Q. They had some timing issues with college football bowl games moving to 4Q from 1Q, but the bigger negative getting attention is that they didn’t give a domestic affiliate number for the first time which means they aren’t giving as much detail on the area that is secularly challenged. The only reasons not to short now are that we have to go through the upfront in May and that seems like it will be a positive catalyst and then there will be tailwinds from the Olympics and an election year driving ad spending. When we get to the middle of the summer and investors are looking at 2017 numbers, we can short the whole group but it seems too early now.
(Tech) As we moved through the quarter, there was a trough in February and a hope that March picked up for enterprise and while it did for some, April sounds dicey. A month ago, CSCO was doing meetings where they said that February improved and March was better than that which made it sound like estimates would be easy to hit, but now analysts are cutting numbers into the report. For all of tech, it seems like unless a company is taking share, it has a headwind to growth expectations.
(Asia) Estimates on iPhone continue to be cut gradually. The 2Q build plan number was 45M but there is now talk below 40M while 3Q sounds like a 10% decline as opposed to the previous hope for flat. PC data continues to be weak with April below expectations even on an easier comparison. In Asia tech, the big growth driver is still smartphones which are only growing 6% so that means the rest of the market is poor. Chinese April data points are more mixed. Excavators were down 16% from March’s up 20%, while heavy duty trucks were up 14%. Utilized hours were up 1-2% from March’s +30%, implying that there are not a lot of incremental projects starting but demand is still at a high level.
(Financials) Rates remain subdued so the banks aren’t getting any help there. Consumer credit in cards and autos have been bright spots for growth, but the question remains on whether that means there will be deterioration down the road. Looking at banks’ 10-Qs, CS picked up that there was an increase in criticized assets ex-energy whereas company commentary said it was all due to energy. This week has been a debacle for LC, and it sounds like they were committing outright fraud. The company was built around having a lot of data to assign more accurate credit ratings to borrowers, but it always seemed to me like they were adding noise that was not useful. That is different than the business model for SQ which cuts the hassle for merchants by sending them a small device that attaches to a tablet so they can take credit card payments easily. Their fee is 2.75% per swipe, above AXP’s 2.3% but V and MA charge much less which is why AXP is losing share. SQ and PYPL are also getting into the business of lending money to merchants and history says that will grow quickly to start but it always slows. The Aussie banks had a poor set of reports but the market was too short. Dividends will be paid next week and that could lead to the dividend crowd leaving the stocks afterward. Canadian Western reported a big increase in oil and gas reserves because of a high cost to remediate dead or dying wells. I don’t know if the other banks will have to do this but they all have $15-20B of drawn exposure and more undrawn exposure. Their reserves are just 50bps vs. 5-10% for the US banks.
(Trading) The block market feels pretty tired. There are still over 100 names being actively tracked to come over the next month to month and a half. SQ has an unlock coming on May 17, but we are trying to get more details on how much that could be. There was an interesting situation today with HCA, as they went directly to KKR and bid for 9M of the 15M shares they had left to sell. That would usually be viewed positively but the stock is flat today. REITs are a space investors are interested in because of the yield chase so we’ll see more of those come to market. Any deal in energy is good, with the smaller and trashier companies being the best. Allocations are getting tighter which means long onlies are bidding for more and don’t care if it’s a low-quality company. Big IPOs are coming in the US – US Foods for $1.2B and Albertson’s, which failed last year, is trying again. China Post Office will try to list and if that works, a lot more deals will follow in China. They will probably allocate it such that there is not a lot of stock available outside of the local market which means international demand will appear strong and stock will be fought over.
(Head) The negative story for the market is pretty palpable, but there is a lot of money free on the sidelines which makes it tough for the market to go down. Marko at JPM said yesterday that he thinks volatility control funds are close to where they were at the end of December in terms of positioning and sizing, but he doesn’t think CTAs are long which was surprising. He’s not saying it’s going to happen, but he sees potential for liquidation coming from big players. The longer we stay in a compressed range, the more they’ll bulk up positions, and then when an event triggers volatility, VIX spikes and that is what their exposure is tied to so that will cause selling if/when it happens. On Brexit, the betting market is skewed heavily toward “Remain” but the polls are close to 50/50. The bookies are basing their though process on the fact that Brits are conservative which means voting for no change. However, this thinking may be incorrect because the idea of leaving could be interpreted as remaining as an independent country instead of becoming a European one, in which case the British preference for status quo would mean a vote for “Leave”. The polls are neck and neck right now depending on which medium is used. We’ll see what the macro data does over the next month, but if they vote to stay and there’s some bounce in US data, there will be a new expectation for a Fed hike. That means any equity move higher on those events will be short-lived. FOMC members will try to get the risk of a move priced into the market but that’s just aspirational, at least for June. In China I’m still confused about what came out over the last few days. Xi came out in the People’s Daily with a follow up republished speech from February that talked about more reform and too much leverage. The upper command must know this will all blow at some point and they’re trying to get out in front of it and try to lay the blame somewhere else. In the first article that kicked this off, nothing is being called for specifically, and the “authoritative figure” was just making observations. So maybe the stimulus that is still in the pipeline will keep things going a little longer even though they are pulling back some now. The calendar has a G7 Meeting in September, followed by SDR confirmation, and then November’s Party Congress. The following September contains the Plenary Session so it seems like they will want to stretch the current environment until then. Investors are all expecting the Chinese macro data to move toward the second derivative negative, but the question is how much economic activity is still in the pipeline and therefore how soon will numbers turn.
