NEW$ & VIEW$ (4 FEBRUARY 2014)

THE BLAME GAME IS ON

The media and analysts are tripping over themselves to explain the recent setback:

  • Growth Fears Hit Stocks European and Asian stocks fell Tuesday, following a sharp selloff the previous day in the U.S., as jitters about global growth continued to weigh on investors.

European and Asian stocks fell Tuesday, following a sharp selloff the previous day in the U.S., as jitters about global growth continued to weigh on investors.

Signs of a sharp slowdown in U.S. manufacturing on Monday reignited concerns about the health of the world’s largest economy, a further worry for investors who have already been spooked by the turmoil in emerging markets over the past two weeks.

Sentiment worsened markedly in Asia, where the Nikkei Stock Average fell 4.2%, leaving it 14% lower in the year to date—currently the worst performer among major global markets. A strengthening of the yen against the dollar after the poor factory data weighed heavily on Japan’s exporters. (…)

Goldman’s Global Leading Indicator’s January reading and the latest revisions to previous months paint a significantly softer picture of global growth placing the global industrial cycle clearly in the ‘Slowdown’ phase. They add, rather ominously, While the initial shift into ‘Slowdown’ (which we first noted in October) had a fairly idiosyncratic flavor, the recent growth deceleration now looks more serious than in previous months. Of course, as we noted yesterday, Jan Hatzius is rapidly bringing his optimistic forecasts back to this slowdown reality.

Swirlogram solidly in “slowdown” phase…

Yesterday’s U.S. ISM shook edgy investors even though Friday’s Markit U.S. PMI was not bad at all. Ed Yardini agrees with me and shows some evidence:

Perplexing PMI

Yesterday’s report was unexpectedly weak, with the overall index plunging from 56.5 during December to 51.3 last month, led by even bigger dives in the production index (from 61.7 to 54.8) and the new orders index (from 64.4 to 51.2).

The chairman of the Institute for Supply Management, which conducts the survey, blamed the weather for some of the weakness in the results. The eastern half of the US is experiencing one of its 10 coldest winters on record, with thousands of local records for cold already tied or broken. So the M-PMI hit an ice patch rather than a soft patch.

I’m not sure that makes sense. Why would orders be down so much just because the weather was bad? More perplexing is that the average of six regional business surveys showed solid gains last month, although they too were mostly hit by the bad weather. Furthermore, Markit reported yesterday that its final M-PMI for the US dipped from 55.0 during December to 53.7 last month. No big deal.

ISI’s Ed Hyman keeps the faith:

We still remain constructive and think US GDP is on 3% trajectory, AND despite EM pass through fears, globally the synchronized expansion remains in place.

The soft patch theme remains quite possible, however. Housing is weaker, retail is slowing and car sales may have seen their best time this cycle.

U.S. Vehicle Sales Continue to Decline as Weather Turns Frigid

Temperatures below zero in some parts of the U.S., and just unseasonably cold elsewhere in the country, took their toll on light vehicle sales last month. Unit motor vehicle sales slipped 1.0% to 15.24 million (SAAR, +0.1% y/y) during January, according to the Autodata Corporation. Sales have fallen 7.1% from the recovery high of 16.41 million in November.

The decline in overall sales was a function of fewer auto purchases, off 4.6% to a 7.30 million annual rate (-6.0% y/y). Sales of imported autos declined 12.3% to 2.17 million (-2.8% y/y). Sales of domestics fell 2.4% to 5.12 million (-7.4% y/y).image

CalculatedRisk quotes WardsAuto’s slighly lower estimate:

Based on an estimate from WardsAuto, light vehicle sales were at a 15.14 million SAAR in January. That is down slightly from January 2013, and down 2.5% from the sales rate last month.

I have been warning that auto sales could well have reached a cyclical peak as we should not expect a repeat of the excesses of the early 2000s.

large imageU.S. Construction Spending Growth Moderates

The value of construction put-in-place ticked 0.1% higher in December (5.3% y/y) following a revised 0.8% November increase, initially reported as 1.0%. For all of last year, growth in construction activity moderated to 5.5% from 8.1% in 2012.

Private sector construction activity jumped 1.0% (8.0% y/y) in December following 1.7% growth in November. Residential building surged another 2.6% (18.3% y/y) as single-family home building activity jumped 3.4% (21.6% y/y). Spending on improvements gained 2.0% (12.0% y/y) while multi-family building rose 0.5%, up by roughly one-quarter y/y. Nonresidential building activity declined 0.7% (-1.7% y/y) following its 2.4% November jump.

Offsetting the private sector gains was a 2.3% decline (-0.7% y/y) in the value of public sector building activity. The shortfall reflected outsized declines in many components but spending on highways & streets surged 1.8% (11.3% y/y). Spending here accounts for 30% of total public sector construction activity.

The U.S. government’s spending on construction tumbled 14.2% to $23.49 billion in 2013, the Commerce Department said Monday. That was the sharpest decline in records dating back to 1993, enough to return spending to 2007 levels.

Washington’s clash over government spending took a bite out of federal expenditures last year. A series of cuts known as the sequester slashed spending by tens of billions of dollars early in the year, until a deal to restore some of the reductions this year.

Spending by state and local governments, which account for a much larger portion of total construction expenditures, fell by 1.6% to $247.69 billion last year. That was more than the 1.2% decline for the category in 2012, but less than the 6.6% drop in 2011.

 
Falling Prices Hurt Firms American companies are struggling with falling prices for some key products amid intense competition and pressure from cost-conscious customers.

Executives from companies as varied as General Electric Co. GE -3.10% , Kimberly-Clark Corp. KMB -3.55% and Royal Caribbean Cruises Ltd.RCL -3.23% said some prices slipped in the last three months of the year—sometimes significantly.

Falling prices for adhesives weighed on Eastman Chemical Co. EMN -2.37% , cheaper packaged coffee dragged on Starbucks Corp. SBUX -3.02%, and “value and discounts” hit McDonald’s Corp. in the fourth quarter in what the fast food chain called a “street fight” for market share. XeroxCorp. XRX -4.06% is eyeing acquisitions that can “help us be more competitive on price pressure. (…)

Not every company reported price drops. 3M Co. said prices increased 1.4% in the fourth quarter, attributing the gain to research gains and adjustments made in emerging markets designed to offset currency devaluation. Harley-Davidson Inc. HOG -0.75% said price increases helped boost motorcycle revenues by 1.4% in the quarter even as shipments fell 1%. Altria Group Inc. MO -3.15% said a 13.2% rise in income for cigarettes and cigars in 2013 came “primarily through higher pricing.”

But the trend is evident in government data. While economic growth in the fourth quarter came in strong, helped by expanding consumer spending, firms aren’t raising prices. For the last two years, the consumer-price index has increased less than 2%, the first time in 15 years it has been that low in consecutive years. And in the year since December 2012, the consumer-price index for goods, excluding food and energy, declined 0.1%. (…)

That said: Chief Executives in U.S. More Confident on Economy, Survey Shows

The Young Presidents’ Organization sentiment index climbed to 63.5 from 60.5 in the previous three months. Readings greater than 50 show the outlook was more positive than negative. (…)

Fifty-two percent of executives surveyed said the economy has improved from six months ago, up from 38 percent who said so in October. Nine percent said the economy will worsen, down from 20 percent last quarter. (…)

Fifty-eight percent of chief executives in the YPO survey expect conditions to improve in the next six months, up from 42 percent in the previous period.

The Dallas-based group’s outlooks for demand, hiring and capital investment also advanced. The gauge of sales expectations for the coming year rose by 2.9 points to 68.7. The employment index climbed to 59.9 from 58.9.

Globally, business confidence grew in most regions. The YPO’s Global Confidence Index also rose to the highest level since April 2012.

The nonprofit service organization’s findings for the U.S. are based on responses from 2,088 global chief executives, including 940 in the U.S., to an electronic survey conducted during the first two weeks of January.

G-20 Inflation Rate Falls The rise in consumer prices slowed across the world’s largest economies in December, fueling concerns that too little inflation, rather than too much, could threaten the global economy’s fragile recovery.

The Organization for Economic Cooperation and Development Tuesday said the annual rate of inflation in its 34 developed-country members rose to 1.6% from 1.5% in November, while in the Group of 20 leading industrial and developing nations it fell to 2.9% from 3.0%.(…)

The European Union’s statistics agency Tuesday said producer prices rose 0.2% from November, but were 0.8% lower than in December 2012. Prices had fallen in both October and November, by 0.5% and 0.1%, respectively. Excluding energy, producer prices were flat on the month and fell 0.3% when compared with December 2012. (…)

In addition to the euro zone, inflation rates fell sharply in two of the largest developing economies during December, to 2.5% from 3.0% in China, and to 9.1% from 11.5% in India.

However, inflation rates rose in the U.S., Japan and Brazil.

HOW ABOUT THE BAROMETER BAROMETER?

Winter Weather Worries

Winter weather can negatively impact economic activity and the labor markets as freezing temperatures and mounds of snow keep consumers at home and workers off the job.  But what sort of impact does the weather have on the markets?  Generally speaking, less economic activity and a softer labor market should hurt stocks.  But using data from the National Oceanographic and Atmospheric Administration’s National Temperature Index (NTI), we found that cold weather during the winter months (December, January and February) does not have a meaningful implication for stock market returns.  (…) As shown, that correlation isn’t very robust. 

In months that are abnormally cold, there is a small correlation between the NTI and the S&P 500, but it peaks in December…and December still has positive average returns in chilly months!  The second chart shows that cold weather is also a bad predictor of the next month’s returns.  The correlation between the NTI in a given winter month with cold weather and the month following is actually negative, but still very low.

Devil  I.BERNOBUL, a good friend and an all-star croquignole player, sees verbal inflation and self-serving complacency in this comment from John Mauldin in his Jan. 26 comment:

My friend, all-star analyst, and Business Insider Editor-In-Chief Henry Blodget makes a compelling point: Anyone who thinks we need a ‘catalyst’ for a market crash should brush up on their history… There was no ‘catalyst’ in 1929. Or 1966. Or 1987. Or 2000. Or 2008…”

Blodget’s point is as compelling as his investment recommendations as head of the global Internet research team at Merrill Lynch during the dot-com bubble. The reality is that when equity valuations get on the high side, nervous investors tend to hold on as long as they can, waiting for reasons to sell to show up. These reasons are often not what one would expect at the time but they are enough to shake investors confidence. Once markets begin to waver and the media amplify the fears, the negative momentum feeds on itself. This time, it was the EM problems that started the turn.

 

NEW$ & VIEW$ (31 JANUARY 2014)

U.S. Banks Loosen Loan Standards Big banks are beginning to loosen their tight grip on lending, creating a new opening for consumer and business borrowing that could underpin a brightening economic outlook.

(…) In both the U.S. and Europe, new reports released Thursday show banks are slowly starting to increase their appetite for risk. The U.S. Office of the Comptroller of the Currency said banks relaxed the criteria for businesses and consumers to obtain credit during the 18 months leading up to June 30, 2013, while the European Central Bank said fewer banks in the euro zone were reporting tightened lending standards to nonfinancial businesses in the fourth quarter of 2013.

(…)  The comptroller’s report said it would still classify most banks’ standards as “good or satisfactory” but did strike a cautionary tone. (…)

An upturn in bank lending, if taken too far, could also lead to inflation. The Fed has flooded banks with trillions of dollars in cash in its efforts to boost the economy. In theory, the printing of that money would cause consumer price inflation to take off, but it hasn’t, largely because banks haven’t aggressively lent out the money. (…)

John G. Stumpf, CEO of Wells Fargo & Co., said on a Jan. 14 conference call with analysts that he is “hearing more, when I talk with customers, about their interest in building something, adding something, investing in something.”

Kelly King, chief executive of BB&T Corp., told analysts two days later, “we really believe that we are at a pivotal point in the economy…admittedly that’s substantially intuitive.” (…)

The comptroller’s survey found more banks loosening standards than tightening. The regulator said that in the 18 months leading up to June 30, 2013, its examiners saw more banks offering more attractive loans.

The trend extended to credit-card, auto and large corporate loans but not to residential mortgages and home-equity loans. (…)

The OCC’s findings are consistent with more recent surveys: The Fed’s October survey of senior U.S. loan officers found a growing number loosening standards for commercial and industrial loans, often by narrowing the spread between the interest rate on the loan and the cost of funds to the bank.

The ECB’s quarterly survey, which covered 133 banks, showed that the net percentage of euro-zone banks reporting higher lending standards to nonfinancial businesses was 2% in the fourth quarter, compared with 5% in the third quarter. (…)

 

U.S. Starts to Hit Growth Stride

A potent mix of rising exports, consumer spending and business investment helped the U.S. economy end the year on solid footing.

Gross domestic product, the broadest measure of goods and services churned out by the economy, grew at a seasonally adjusted annual rate of 3.2% in the fourth quarter, the Commerce Department said. That was less than the third quarter’s 4.1% pace, but overall the final six months of the year delivered the strongest second half since 2003, when the economy was thriving.

Growth Story

A big driver of growth in the fourth quarter was a rise in consumer spending, which grew 3.3%, the fastest pace in three years. Consumer spending accounts for roughly two-thirds of economic activity.

The spike in Q4 consumer spending is very surprising, and suspicious. Let’s se how it gets revised.

Consider these nest 2 items:

(…) For the 14-week period ending Jan. 31, Wal-Mart expects both Wal-Mart U.S. and Sam’s Club same-store sales, without fuel, to be slightly negative, compared with prior guidance. It previously estimated Wal-Mart U.S. guidance for same-store sales to be relatively flat, and Sam’s expected same-store sales to be between flat and 2%.

A number of U.S. retail and restaurant companies have lamented poor winter weather and aggressive discounts, resulting in fewer store visits and lower sales. Many of those companies either lowered their full-year expectations or offered preliminary fourth-quarter targets that missed Wall Street’s expectations.

Wal-Mart warned the sales impact from the reduction in the U.S. government Supplemental Nutrition Assistance Program benefits that went into effect Nov. 1 was greater than expected. The retailer also said that eight named winter storms resulted in store closures that hurt traffic throughout the quarter.

Wal-Mart Stores Inc. warned that it expects fourth-quarter earnings to meet or fall below the low end of its prior forecast, citing government cuts to assistance programs and the harsh winter weather.

Amazon earned $239 million, or 51 cents a share, on sales that were up 20% at $25.59 billion. The 51 cents a share were far below Street consensus of 74 cents, and the $239 million profit on $25 billion in sales illustrates just how thin the company’s margins are.

A year ago, Amazon earned $97 million, or 21 cents a share, on sales of $21.29 billion.

The company also forecast first-quarter sales of $18.2-$19.9 billion; Street consensus was for $19.67 billion. In other words, most of that projection is below Street consensus.

It projected its net in a range of an operating loss of $200 million to an operating profit of $200 million.

Surprised smile AMZN earned $239M in 2013 and projects 2014 between –$200M and +$200M. You can drive a truck in that range. But how about the revenue range for Q1’14:

Net sales grew 20 percent to $25.6 billion in the fourth quarter, versus expectations for just above $26 billion and slowing from the 24 percent of the previous three months.

North American net sales in particular grew 26 percent to $15.3 billion, from 30 percent or more in the past two quarters.

Amazon also forecast revenue growth of between 13 and 24 per cent in the next quarter, compared to the first quarter 2013.

Notwithstanding what that means for AMZN investors, one must be concerned for what that means for U.S. consumer spending. Brick-and-mortar store sales have been pretty weak in Q4 and many thought that online sales would save the day for the economy. Amazon is the largest online retailer, by far, and its growth is slowing fast and its sales visibility is disappearing just as fast.

image

Back to AMZN itself, our own experience at Christmas revealed that Amazon prices were no longer systematically the lowest. We bought many items elsewhere last year, sometimes with a pretty large price gap with Amazon. Also, Amazon customers are now paying sales taxes in just about every states, closing the price gap further. And now this:

To cover rising fuel and transport costs, the company is considering a $20 to $40 increase in the annual $79 fee it charges users of its “Prime” two-day shipping and online media service, considered instrumental to driving online purchases of both goods and digital media.

“Customers like the service, they’re using it a lot more, and so that’s the reason why we’re looking at the increase.” Confused smile

U.S. Pending Home Sales Hit By Winter Storms

The National Association of Realtors (NAR) reported that December pending sales of single-family homes plunged 8.7% m/m following a 0.3% slip in November, revised from a 0.2 rise. It was the seventh consecutive month of decline.

Home sales fell hard across the country last month. In the Northeast a 10.3% decline (-5.5% y/y) was logged but strength earlier in the year lifted the full year average by 6.2%. Sales out West declined 9.8% (-16.0% y/y) and for the full year fell 4.1%. Sales down South posted an 8.8% (-6.9 y/y) falloff but for all of 2013 were up 5.4%. In the Midwest, December sales were off 6.8% (6.9% y/y) yet surged 10.4% for the year.

Punch Haver’s headline suggests that weather was the main factor but sales were weak across the U.S. and have been weak for since the May taper announcement.

Mortgage Volumes Hit Five Year Low The volume of home mortgages originated during the fourth quarter fell to its lowest level in five years, according to an analysis published Thursday by Inside Mortgage Finance, an industry newsletter.

(…) Volumes tumbled by 19% in the third quarter, fell by another 34% in the fourth quarter, according to the tally. (…)

Overall originations in 2013 stood at nearly $1.9 trillion, down nearly 11% from 2012 but still the second best year for the industry since the mortgage bust deepened in 2008. The Mortgage Bankers Association forecasts originations will fall to $1.1 trillion, the lowest level in 14 years.

The report also showed that the nation’s largest lenders continued to account for a shrinking share of mortgage originations, at around 65.3% of all loans, down from over 90% in 2008.

Euro-Zone Inflation Returns to Record Low

Annual inflation rate falls to a record low in January, a development that will increase pressure on the ECB to act more decisively to head off the threat of falling prices.

The European Union’s statistics agency said Friday consumer prices rose by just 0.7% in the 12 months to January, down from an 0.8% annual rate of inflation in December, and further below the ECB’s target of just under 2.0%.

Excluding energy, prices rose 1.0%, while prices of food, alcohol and tobacco increased 1.7% and prices of services were 1.1% higher.

image

Pointing up Figures also released Friday showed retail sales fell 2.5% in Germany during December. The result was far worse than the unchanged reading expected from a Wall Street Journal poll of experts. In annual terms, retail sales fell 2.4%, the data showed. It was the first annual decline in German sales since June.

Consumer spending also fell in France as households cut purchases of clothes and accessories, although by a more modest 0.1%.

Benchmark Japan inflation rate hits 1.3%
December figure brings Bank of Japan closer to 2% goal

Average core inflation for all of 2013, a measure that excludes the volatile price of fresh food, was 0.4 per cent, according to the interior ministry. (…)

Much of the inflation so far has been the result of the precipitous fall in the yen that took hold in late 2012, making imports more expensive. Energy prices, in particular, have risen sharply: Japan buys virtually all of its oil and gas abroad, and the post-Fukushima shutdown of the country’s nuclear industry has further increased the need for fossil fuels.

So-called “core-core” consumer prices, which strip out the cost of both food and energy, rose by 0.7 per cent in December.

SENTIMENT WATCH

Individual Investors Head For the Hills

(…) In this week’s poll, bullish sentiment declined from 38.12% down to 32.18%.  This represents the fourth weekly decline in the five weeks since bullish sentiment peaked on 12/26/13 at 55.06%.  While bullish sentiment declined, the bearish camp became more crowded rising from 23.76% to 32.76%.  

With this week’s increase, bearish sentiment is now greater than bullish sentiment for the first time since mid-August.  The most interesting aspect about these two periods is what provoked the increase in cautiousness.  Back then it was concerns over Syria that were weighing on investor sentiment.  Fast forwarding to today, the big issue weighing on investors’ minds is now centered on Syria’s neighbor to the North (Turkey).  For such a small area of the world, this region continues to garners a lot of attention.

THE JANUARY BAROMETER (Contn’d) Sleepy smile

January Slump Is Nothing to Fret Over

The old Wall Street adage — as January goes, so goes the rest of the year – needs to be put to rest.

Since 1950, there have been 24 years in which the S&P 500 fell in January, according to Jonathan Krinsky, chief market technician at MKM Partners. While the S&P 500 finished 14 of those years in the red, a look at the performance from February through the end of the year provides evidence to buoy investors. In 13 of those 24 years, stocks rose over the final 11 months.

“All else being equal, a down January is less than 50% predictive that the rest of the year will close lower than where it closed in January,” Mr. Krinsky said. (…)

Long time reader Don M. sent me even better stuff on the January Barometer. Hanlon Investment Management must have had many clients asking about that since they made a thorough analysis of the “phenomenon”. Here it is for your Super Bowl conversation:

(…) What was found is that from 1950 until 1984, years where the month of January saw a positive return were predictive of a positive return for the entire year with approximately 90% probability.  The years with a negative return in January were predictive of a negative return for the year approximately 70% of the time. 

In the intervening time since 1984, market action has caused the predictive power of negative returns in January to fall to around 50%, which is nothing more than chance.  However, positive returns in January have still retained their predictive power for positive returns for the year.

Yet still, there is another group of people who advocate that just the first five trading days of January are predictive of the rest of the year.  We took data from 1950 through 2013 for the S&P 500 Index and then calculated both positive and negative results on a weekly and monthly basis.

For the 64 years from 1950 through 2013, a positive return in January was predictive of a positive return for the year 92.5% of the time.  A positive return during the first five trading days of January was predictive of a positive return for the year 90.0% of the time.  A negative return in January was predictive of a negative return for the year 54.2% of the time-basically not predictive at all.  A negative return during the first five trading days of January was predictive only 50% of the time, amounting to nothing more than a flip of a coin.

But what if we filter the results by requiring both a positive return during the first five trading days of January and a positive return in January for a positive signal?  Conversely, we may require a negative return during the first five trading days of January and a negative return for January to generate a negative signal.   When the first week and the month of January both have positive returns, then the signal is predictive 93.5% of the time for a positive year: a slight improvement over 92.5%.

Even more interesting is that when you require both a negative return in the first week and a negative return in January to give a signal.  Though the number of signals is reduced from 24 to 15, the success ratio improves from 54.2% to 73.3%.  The median and average returns for predicted years are listed in the summary statistics table, along with their respective success percentages, on the following page.  This will give you a something to ponder as we begin 2014.

How about negative first week and positive month? And what’s wrong with the last five days of January? Then insert the result of the Super Bowl. There you go!

Thanks Don.

Investors pull billions from EM stocks Dedicated EM funds hit as equity outflows reach highest since 2011 (Via FT Alphaville)

SocGen’s cross-asset research team believes that when it comes to EM outflows they may have only just begun:

As the team notes on Friday, this is especially so given the Fed doesn’t appear to care about the EM sell-off:

Since cumulative inflows into EM equity funds reached a peak of $220bn in February last year, $60bn of funds have fled elsewhere. Given the exceptionally strong link between EM equity performance and flows, we think it plausible that funds are currently withdrawing double that from EM equity (see chart below). EM bond funds face a similar fate. For reasons discussed in our latest Multi Asset Snapshot (EM assets still at risk – don’t catch the falling knife), we see no early end to EM asset de-rating. Furthermore, the Fed remains assertive on execution of tapering despite recent turmoil within the EM world, which spells more turbulence ahead.

And if it keeps going, balance of payments issues could emerge as a result:

A close look at Global EM funds indicates that all EM markets are suffering outflows Mutual fund and ETF investors in EMs both favour global EM funds. Regional or country specialisation is less common (less than 47% of global EM assets). The implication is that all EM markets face outflows currently, with little discrimination between the countries that are most exposed and those which are more defensive. We think Balance of Payment issues may emerge as an important factor going forward.

Though, what is EM’s loss seems to be Europe’s gain at the moment:

Europe reaps the benefits While current EM volatility is impacting developed markets as well, some of the flows are being redirected toward Europe, notably into Italy, Spain and the UK.

The notable difference with taper tantrum V.2, of course, is that US yields are compressing:

Which might suggest that what the market got really wrong during taper tantrum V.1, was that a reduction in QE would cause a US bond apocalypse. This was a major misreading of the underlying fundamentals and tantamount to some in the market giving away top-quality yield to those who knew better.

Taper at its heart is disinflationary for the US economy, and any yield sell-off makes the relative real returns associated with US bonds more appealing.

That taper V.2 incentivises capital back into the US, at the cost of riskier EM yields, consequently makes a lot of sense.

Though, this will become a problem for the US if the disinflationary pressure gets too big.

 

NEW$ & VIEW$ (16 JANUARY 2014)

INFLATION WATCH

U.S. Consumer Prices Rise 0.3% in December

The consumer-price index rose a seasonally adjusted 0.3% in December from the prior month, the Labor Department said Thursday. Core prices, which strip out volatile food and energy costs, were up a mild 0.1%.

Compared with a year earlier, overall consumer prices increased 1.5% and core prices were up 1.7%. Energy prices led the monthly gain, with gasoline prices rising 3.1%. (…)

Pointing up A separate report Thursday showed inflation-adjusted average weekly earnings fell 0.5% in December from the prior month.

Real average weekly earnings are unchanged from a year earlier, giving many consumers little additional spending power.

U.S. Producer Prices Rise 0.4%

U.S. wholesale prices climbed in December after falling for most of the fall, but broader trends suggest inflation pressures remain subdued.

The producer-price index, reflecting how much firms pay for everything from paper to trucks, rose a seasonally adjusted 0.4% from November, led by a jump in energy costs, the Labor Department said Wednesday. That followed two consecutive months of declines and marked the biggest increase since June.

Core producer prices, which strip out volatile food and energy costs, increased 0.3%. But almost half of that rise was due to a surge in tobacco prices, which a Labor Department economist attributed to a routine price adjustment by manufacturers that occurs several times a year.

Fed’s Beige Book: Job Market Firming Up

Some regions of the U.S. are confronting labor shortages in construction and other high-skill fields, according to the Federal Reserve’s ‘beige book’ survey of economic conditions.

(…) The Dallas Fed district reported “acute labor shortages” for auditors, engineers, truck drivers and construction workers in late November and December.

The Cleveland Fed said hiring was “sluggish” for most industries, but construction firms were hiring. “Builders reported a scarcity of high-skilled trade workers,” according to the report. “As a result, there is upward pressure on wages, and subcontractors are demanding and getting higher rates.” (…)

“The labor markets showed signs of tightening,” the Minneapolis district reported, with 30% of businesses saying they expect to hire more full-time workers in 2014 versus 18% who expect to have fewer full-time employees.

In the Richmond district, there were “numerous reports of strong labor demand,” though the report also said few businesses offered permanent jobs to seasonal workers and there was high turnover among low-skill workers.

In all, two-thirds of districts reported “small to moderate” increases in hiring, according to the report, and many companies were optimistic as 2014 began. In the New York district, most companies said they kept staffing flat as 2013 came to a close, but “substantially more businesses plan to expand than reduce their workforces in 2014.” (…)

Most areas reported improving real-estate markets, with residential sales, prices and construction on the rise. Two-thirds of districts said commercial property sales and leasing were up, too.

Prices were described as “stable” in about half the districts and most of the rest reported “small increases,” with a couple exceptions. (…)

Eight of the 12 districts reported “small to moderate” increases in wages.

While spending on tourism and leisure was reportedly “mixed” across the country, the manufacturing sector saw “steady growth” and steady employment.

“A manufacturer in the Dallas district said that for the first time since before the recession, his firm had too many jobs to bid on,” according to the report.

No major changes in bank lending volume were reported, though six districts reported “slight to moderate growth,” three saw no change and one— New York—saw a “moderate decline in loan volume.” (…)

Robots vs humans (BAML)

Euro-Zone Inflation Weakens

Eurostat said consumer prices rose 0.3% from November, and were up 0.8% from December 2012. That marks a decline in the annual rate of inflation from 0.9% in November, and brings it further below the rate of close to 2.0% targeted by the ECB.

Eurostat also confirmed that the “core” rate of inflation—which strips out volatile items such as food and energy—fell to 0.7%, its lowest level since records began in 2001.

Lagarde warns of deflation danger IMF chief says ‘ogre’ of falling prices must be fought decisively

No reason for ‘irrational inflationary fears’ – ECB’s Weidmann

 

Europe Car Sales Fell in 2013

European car sales fell for the sixth straight year in 2013, despite a pickup in registrations in the final months of the year that sparked hope of a broader recovery in the region.

The European Automobile Manufacturers’ Association, known as ACEA, said Thursday that 11.9 million new cars were registered in the European Union last year, a decline of 1.7% compared with the previous year.

A moderate recovery of car sales in the second half of the year gathered pace in December, according to the ACEA data, but wasn’t strong enough to pull the industry into positive territory for the year. In December, new car registrations rose 13% to 906,294 vehicles—the strongest rate in the month of December since 2009 but still one of the lowest showings to date, ACEA said. Registrations also grew in the fourth quarter. (…)

Russia Faces Stagflation, Central Banker Warns

The emerging-market economy ‘can speak of stagflation,’ the Bank of Russia’s first deputy head tells an economic conference.

(…) Russia’s economic growth has been slowing amid dwindling investment, hefty capital outflows, and weak demand and low prices for its commodities exports. Officials repeatedly downgraded forecasts for economic growth last year to 1.4%, a far cry from the average annual pace of about 7% during the early 2000s and well below the medium-term target of 5% set by President Vladimir Putin. Consumer prices grew 6.5% last year, above the 5%-to-6% range the central bank was targeting.

The government acknowledged last year that the slowdown was a result of domestic economic vulnerabilities, such as low labor productivity, and not just a weak global economy, as it had earlier asserted. The economy ministry slashed its growth forecasts for the next two decades. It also warned that the oil-fueled growth that has been a foundation of Mr. Putin’s rule is over and that there is nothing ready to take its place, given the country’s poor investment climate and aging infrastructure.

In a sign of Russia’s waning appeal to foreign investors, the European Bank for Reconstruction and Development said Wednesday that its investments in Russia fell sharply last year to €1.8 billion ($2.5 billion) from €2.6 billion in 2012. (…)

Japan machinery orders hit five-year high
Data hint at greater corporate capital investment plans

(…) Orders of new machinery by businesses, considered a leading indicator of overall capital investment, surged to a five-year high in November, rising 9.3 per cent to Y882.6bn. The year-on-year increase, which handily beat analysts’ expectations, was the second in two months and the fifth biggest on record. (…)

Brazil raises benchmark rate to 10.5%
World’s most aggressive tightening cycle continues

The central bank raised the Selic rate by 50 basis points to 10.5 per cent on Wednesday, extending the world’s most aggressive tightening cycle. It has raised interest rates by 325 basis points over the past nine months. (…)

At Brazil’s previous interest rate meeting, the central bank changed its statement for the first time in months, signalling the tightening cycle would soon be over.

However, a surge in prices in December took the central bank by surprise, likely forcing a revision to the country’s monetary policy strategy, economists say.

Data from the national statistics agency last week showed consumer prices jumped 0.92 per cent in December, the most since April 2003.

The annual inflation rate for the month – 5.91 per cent – also came in above estimates from all analysts in a Bloomberg survey and far above the country’s official 4.5 per cent target. (…)

ITALY IN 3 CHARTS (From FT)

SENTIMENT WATCH 

Actually, the appropriate headline should be “The Bulls…ers Are Back” Crying face

Bulls Are Back

The stock market’s slow start to the year lasted all of two weeks, as back-to-back rallies pushed the S&P 500 back up to a record high.

(…) In a note to clients, Craig Johnson, Piper Jaffray’s technical strategist, said the market’s primary trend will remain higher in the coming months. He predicts the S&P 500 will jump another 8% and hit 2000 before suffering through a nasty correction around the middle of the year that could take the index back to the 1600-to-1650 range.

Such a drop from his projected peak would take the S&P 500 down as much as 20%, a drop that hasn’t occurred since the summer of 2011.

But have no fear, stock-market bulls. He then sees stocks staging a sharp rally through the end of the year, lifting the S&P 500 to 2100 and capping a 14% gain for the year. “A hop, a drop and a pop in 2014” is how Mr. Johnson predicts it will play out, as rising bond yields will prompt more cash to flow out of bonds and into stocks throughout the year.

“We believe that 2014 will be a good year, but not a great year like 2013,” he said. (…)

Choppy equities require investor focus
End of loose money spells change in market’s inner workings

(…) Whether 2014 is a profitable year will come down to investors relying less on endless liquidity from the Federal Reserve that, like a high tide, has floated all equity boats. Instead they must focus on specific sectors and opportunities such as likely merger and acquisition targets in the coming months. Sarcastic smile (…)

Yeah! Sure! Let’s all do that. Thank you FT.

 

NEW$ & VIEW$ (9 JANUARY 2014)

Yellen Eyes Turnover as U.S. Workers Leave Jobs

More Americans are voluntarily quitting their jobs as they become increasingly confident about business conditions — a trend that Janet Yellen, the next Federal Reserve chairman, is monitoring.

Almost 2.4 million U.S. workers resigned in October, a 15 percent increase from a year earlier, based on seasonally adjusted data from the Department of Labor. These employees represent 56 percent of total separations, the 13th consecutive month above 50 percent and highest since April 2008. November figures are scheduled to be released Jan. 17. (…)

The quits ratio is highly correlated with how Americans feel about the job market and is especially helpful because it separates behavior from intentions, showing “what people are doing, not what they say they’ll do,” Colas said. “Voluntarily leaving one’s position requires a fundamental level of confidence in the economy and in one’s own personal financial story.” The ratio in November 2006, about a year before the recession began, was 58 percent.

The share of Americans who say business conditions are “good” minus the share who say they are “bad” rose in December to the highest in almost six years: minus 3 percentage points, up from minus 4.2 points the prior month, based on data from the Conference Board, a New York research group.

Job seekers also are more optimistic about the hiring environment. Sixty-three percent of callers to a job-search-advice help line Dec. 26-27 said they believed they could find new employment in less than six months, up from 55 percent a year ago, according to Challenger, Gray & Christmas Inc., a human-resources consulting company. (…)

U.S. December planned layoffs plunge to lowest since 2000: Challenger

The number of planned layoffs at U.S. firms plunged by 32 percent in December to the lowest monthly total in more than 13 years, a report on Thursday showed.

Employers announced 30,623 layoffs last month, down from 45,314 in November, according to the report from consultants Challenger, Gray & Christmas, Inc.

The last time employers announced fewer job cuts was June of 2000, when 17,241 planned layoffs were recorded.

The figures come a day ahead of the closely-watched U.S. non-farm payrolls report, which is forecast to show the economy added 196,000 jobs in December. (…)

The December figure fell 6 percent from a year earlier, when planned layoffs totaled 32,556, and marked the third straight month that announced workforce reductions dropped year over year. (…)

U.S. Consumer Credit Growth Eases

The Federal Reserve Board reported that consumer credit outstanding increased by $12.3 billion (6.1% y/y) during November following an unrevised $18.2 billion October gain. The latest monthly gain was the weakest since April.

Usage of non-revolving credit increased $11.9 billion (8.2% y/y) in November. Revolving credit outstanding gained $4.3 billion (1.0% y/y) in November.

Auto Markit Eurozone Sector PMI: Automobiles & auto parts posts its best quarterly performance since Q1 2011

Despite recent growth being high in the context of historical survey data, automobiles & auto parts still maintains some forward momentum heading into the New Year. New orders increased sharply and to the greatest degree in three years in December, leading to a substantial build-up of outstanding business. Job creation, which has until now been muted relative to the trends in output and new business, therefore looks set to pick up.

image

 

German Industrial Output Rises First Time in Three Months

Output, adjusted for seasonal swings, increased 1.9 percent from October, when it fell 1.2 percent, the Economy Ministry in Berlin said today. Economists predicted a gain of 1.5 percent, according to the median of 32 estimates in a Bloomberg News survey. Production climbed 3.5 percent from a year earlier when adjusted for working days.

German Orders Surge Back But Domestic Orders Lag

German orders rose by 2.1% in November, rebounding from a 2.1% drop in October. The headline trend shows solid growth with three-month growth at a 12.7% annual rate, up from a 6.2% annual rate over six-months and a 6.8% annual rate over 12-months. The strength is led by foreign demand.

Foreign orders rose by 2.2% in November from a 2.2% drop in October but also logged a 6.3% increase in September. As a result, foreign orders are rising at a 27.1% annual rate over three-months, up from a 12.8% annual rate over six-months, and a 9% annual rate over 12-months.

In contrast, domestic orders rose by 1.9% in November, unwinding a 1.9% drop in October. However, domestic orders also fell by 0.9% in September. As a result, the trend for domestic orders is poor. It is not just weaker than foreign orders – it is poor. Domestic orders are falling at a 3.8% annual rate over three-months following a 1.9% annual rate drop over six-months and a 3.9% annual rate gain over 12-months. The domestic sector is in a clear deceleration and contraction.

China’s 2013 Vehicle Sales Rose 14%

The CAAM said sales of both passenger and commercial vehicles totaled a record 21.98 million units, up 14% from a year earlier, the fastest pace since 2010. Passenger vehicles led the way, with sales up 16% to 17.93 million units.

Sales gain in December quickened due in part to local consumers’ habit of spending ahead of the Lunar New Year, which falls in the end of January this year. Auto makers shipped 2.13 million vehicles to dealers, up 18% from a year earlier. Among the total, sales of passenger vehicles were 1.78 million units, up 22% on year.

Even as China’s economy displayed clear signs of a slowdown, consumers bought new vehicles, motivated by some cities’ pending restrictions on car purchases to alleviate traffic congestion and air pollution. Within hours after the northern city of Tianjin announced a cutback on new license plates last month, thousands of residents rushed to buy cars. Some used gold necklaces as collateral, said local media.

CAAM said it expects gains to continue this year, though at a slower pace. The association projected a rise of 8%-10% for the overall auto market, to about 24 million units, and as much as an 11% gain for passenger vehicles, to nearly 20 million units.

“China’s auto market is still at the period of rapid expansion and growth has gradually shifted to small-sized cities where demand is significant,” said Shi Jianhua, deputy secretary-general at the CAAM.

China Consumer Inflation Eases

The consumer-price index rose 2.5% in December from a year earlier, slower than the 3.0% year-over-year rise in November, the National Bureau of Statistics said Thursday.

In the December price data, food remained the key contributor to higher prices, rising 4.1% year on year in December. But that was down from the 5.9% rise the previous month. Nonfood prices were up 1.7% in December, compared with November’s 1.6% gain.

But in a continued sign of weak domestic demand, prices at the factory level fell once again, declining for the 22nd consecutive month. They were down 1.4% in December, falling at the same rate as in November.

Stripped of food prices, inflation edged up to 1.7% YoY from 1.6% in November.

OECD Inflation Rate Rises

The Organization for Economic Cooperation and Development said Thursday the annual rate of inflation in its 34 developed-country members rose to 1.5% from 1.3% in October, while in the Group of 20 leading industrial and developing nations it increased to 2.9% from 2.8%.

The November pickup followed three months of falling inflation rates, but there are indications that it will prove temporary. Figures already released for December showed a renewed drop in inflation in two of the world’s largest economies, with the euro zone recording a decline to 0.8% from 0.9%, and China recording a fall to 2.5% from 3.0%.

Key Passages in Fed Minutes: Consensus on QE, Focus on Bubbles

Federal Reserve officials were largely in agreement on the decision to begin winding down an $85 billion-per-month bond-buying program. As they looked to 2014, they began to focus more on the risk of bubbles and financial excess.

    • Some … expressed concern about the potential for an unintended tightening of financial conditions if a reduction in the pace of asset purchases was misinterpreted as signaling that the Committee was likely to withdraw policy accommodation more quickly than had been anticipated.
    • Several [Fed officials] commented on the rise in forward price-to-earnings ratios for some small cap stocks, the increased level of equity repurchases, or the rise in margin credit.

Pointing up Something the Fed might be facing sooner than later:

Bank dilemma Time for Carney to consider raising rates

When your predictions are confounded, do you carry on regardless? Or do you stop, think and consider changing course? Such is the remarkable recovery in the UK economy since the first quarter of last year that the Bank of England is now facing this acute dilemma.

Just five months ago, the bank’s new governor pledged that the BoE would not consider tightening monetary policy until unemployment fell to 7 per cent so long as inflationary pressures remained in check. (…)

The question is what the BoE should now do. Worst would be to show guidance was entirely a sham by redefining the unemployment threshold, reducing it to 6.5 per cent. Carrying on regardless of the data is no way to run monetary policy. Instead, the BoE should be true to its word and undertake a thorough consideration of a rate rise alongside its quarterly forecasts in its February inflation report. (…)

EARNINGS WATCH

I have been posting about swinging pension charges in recent months. Most companies determine their full year charge at year-end which impacts their Q4 results.

Pendulum Swings for Pension Charges

Rising interest rates and a banner year for stocks could lift reported earnings at some large companies that have made an arcane but significant change to the way their pension plans are valued.

Rising rates and a banner year for stocks could lift earnings at some large companies that have made an arcane but significant change to the way their pension plans are valued.

Companies including AT&T Inc. and Verizon Communications Inc. could show stronger results than some expect when they report fourth-quarter earnings in coming weeks. They and about 30 other companies in the past few years switched to “mark-to-market” pension accounting to make it easier for investors to gauge plan performance.

With the switch, pension gains and losses flow into earnings sooner than under the old rules, which are still in effect and allow companies to smooth out the impact over several years. Companies that switch to valuing assets at up-to-date market prices may incur more volatility in their earnings, but it offers a more current picture of a pension plan’s health and its contribution to the bottom line.

In 2011 and 2012, that change hurt the companies’ earnings, largely because interest rates were falling at the time. But for 2013, it may be a big help to them, accounting experts said, a factor of the year’s surge in interest rates and strong stock-market performance.

“It’s going to account for a huge rise in operating earnings” at the affected companies, said Dan Mahoney, director of research at accounting-research firm CFRA.

Wall Street analysts tend not to include pension results in their earnings estimates, focusing instead on a company’s underlying businesses. That makes it hard for investors to know what the impact of the change will be. Some companies may not see a big impact at all, because of variations from company to company in how they’ve applied mark-to-market changes. (…)

Some mark-to-market companies with fiscal years ended in September have reported pension gains. Chemical maker Ashland Inc. had a $498 million pretax mark-to-market pension gain in its September-end fourth quarter, versus a $493 million pension loss in its fiscal 2012 fourth quarter. That made up about 40% of the Covington, Ky., company’s $1.24 billion in operating income for fiscal 2013. (…)

Not all mark-to-market companies will see gains. Some such companies record adjustments only if their pension gains or losses exceed a minimum “corridor.” As a result, Honeywell International Inc. says it doesn’t foresee a significant mark-to-market adjustment for 2013, and United Parcel Service Inc. has made similar comments in the past.

Moody’s adds: US Corporate Pension Funded Ratios Post Massive Increase in 2013

At year-end 2013, we estimate pension funding levels for our 50 largest rated US corporate issuers increased by 19 percentage points to 94% of pension obligations, compared with a year earlier. In dollar terms, this equates to $250 billion of decreased underfundings for these same issuers. We expect this reduction to be replicated across our entire rated universe. These improved funding levels will result in lower calls on cash, a credit positive.

Big Six U.S. Banks’ 2013 Profit Thwarted by Legal Costs

Combined profit at the six largest U.S. banks jumped last year to the highest level since 2006, even as the firms allocated more than $18 billion to deal with claims they broke laws or cheated investors.

A stock-market rally, cost cuts and a decline in bad loans boosted the group’s net income 21 percent to $74.1 billion, according to analysts’ estimates compiled by Bloomberg. That’s second only to 2006, when the firms reaped $84.6 billion at the peak of the U.S. housing bubble. The record would have been topped were it not for litigation and other legal expenses. (…)

The six banks’ combined litigation and legal expenses in the nine months rose 76 percent from a year earlier to $18.7 billion, higher than any annual amount since at least 2008. The costs increased at all the firms except Wells Fargo, where they fell 1.2 percent to $413 million, and Morgan Stanley (MS), which reported a 14 percent decline to $211 million. (…)

Legal costs that averaged $500 million a quarter could be $1 billion to $2 billion for a few years, Dimon told analysts in an Oct. 11 conference call. The firm is spending also $2 billion to improve compliance by the end of 2014, he said last month. (…)

VALUATION EXPANSION?

This is one of the main narratives at present, now that earnings multiples have expanded so much. The other popular narrative is the acceleration of the U.S. economy which would result in accelerating earnings, etc., etc… Here’s Liz Ann Sonders, Senior Vice President, Chief Investment Strategist, Charles Schwab & Co., Inc.

It’s also possible valuations could continue to expand even if earnings growth doesn’t meet expectations. There is a direct link between valuation and the yield curve. A steep curve (long rates much higher than short rates); which we have at present and are likely to maintain; suggests better growth and easy monetary policy. This environment typically co-exists with rising valuation.

Low inflation is also supportive of higher multiples. Why? Earnings are simply more valuable when inflation is low; just like our earnings as workers are worth more when inflation is taking less of a bite out of them.

Lastly, as noted in BCA’s 2014 outlook report: In a liquidity trap, where interest rates reach the zero boundary, the linkage between monetary policy and the real economy is asset markets: zero short rates act to subsidize corporate profits, drive up asset prices and encourage risk-taking. Over time, higher asset values begin to stimulate stronger consumption and investment demand—the so-called “wealth effect.” We could be at the very early stages of a broad transition from strengthening asset values to better spending power by businesses and consumers. Global capital spending has begun to show signs of a rebound; while US consumers are beginning to borrow and spend again.

A few remarks on the above arguments:

imageThe yield curve can steepen if short-term rates decline or if long-term rates rise. The impact on equities can be very different. My sense is that the curve, which by the way is presently very steep by historical norms (chart from RBC Capital), could steepen some more for a short while but only through rising long-term yields. This is not conducive to much positive valuation expansion, especially if accompanied by rising inflation expectations which, normally, follow economic acceleration.

The next chart plots 10Y Treasury yields against the S&P 500 Index earnings yield (1/P/E). The relationship between the two is pretty obvious unless you only look at the last Fed-manipulated 5 years. Rising rates are not positive for P/E ratios.

image

Low inflation is indeed supportive of higher multiples as the Rule of 20 clearly shows. What is important for market dynamics is not the actual static level of inflation but the trend. Nirvana is when the economy (i.e. profits) accelerate while inflation remains stable or even declines. Can we reasonable expect nirvana in 2014?

The wealth effect was in fact Bernanke’s gambit all along. And it worked. But only for the top 20% of the U.S. population. What is needed now is employment growth. Can we get that without triggering higher inflation?

Miss Sonders reminds us that

This bull market is now the sixth longest in S&P 500 history (of 26 total bull markets). As of year end 2013, it’s run for 1,758 days, with the longest ending in 2000 at 4,494 days. It is the fourth strongest in history; up over 173% cumulatively as of year-end 2013.

Emerging Market Currencies Suffer as Dollar Rises

The South African rand sank to a fresh five-year low Thursday, as a rise in the dollar, fueled by strong U.S. jobs data, kept emerging market currencies under pressure.

The Turkish lira also suffered, closing in on its all-time low against the dollar reached earlier in the week. The rand and the lira are widely considered to be among the most vulnerable emerging market currencies, as both South Africa and Turkey are reliant on foreign investment flows to fund their wide current account deficits.

 

NEW$ & VIEW$ (7 JANUARY 2014)

Weaker Than Expected ISM Services

Monday’s ISM Services report for December came in weaker than expected.  While economists were expecting the headline reading to come in at a level of 54.5, the actual reading was a bit weaker at 53.0.  Taking both the ISM Manufacturing and Non Manufacturing reports and accounting for their size in the overall economy, the combined reading for December fell to 53.5.

Sad smile Slumping new orders and backlog! First contraction in new orders since July 2009.

U.S. Rents Rise as Market Tightens

Nationwide, landlords raised rents by an average of 0.8% to $1,083 a month in the quarter, according to a report to be released Tuesday by Reis Inc., a real-estate research firm. While that is below the previous quarter’s 1% increase, it is above the 0.6% gain seen in 2012’s final quarter. Rents climbed 3.2% for all of 2013.

The vacancy rate, meantime, fell to 4.1% in the fourth quarter from 4.6% in the year-earlier quarter, remaining well below the 8% peak at the end of 2009. (…)

Nearly 42,000 units were completed in the fourth quarter, the most since the fourth quarter of 2003, and about 127,000 for all of 2013, according to Reis. (…)

In 2014, completions should total more than 160,000 apartments, roughly one-third more than the long-term historical average, according to Reis. That could cause the national vacancy rate to rise slightly for the first time since 2009.

CoStar Group, another real-estate research firm, predicts new-apartment supply will peak this year at 220,000, but an additional 350,000 units will hit the nation’s 54 largest markets in 2015 and 2016 combined. (…)

Euro-Zone Inflation Rate Slips

The European Union’s statistics agency Tuesday said a preliminary reading showed consumer prices in the 17 countries that then shared the euro rose by just 0.8% over the 12 months to December, a decline in the annual rate of inflation from 0.9% in November.

After stripping out prices for food and energy, which tend to be more volatile, prices rose by just 0.7% in the 12 months to December—the lowest rate of “core” inflation since records began in January 2001. That suggests that weak domestic demand is becoming an increasingly significant source of disinflationary pressure, adding to the impact from falling world energy prices and the end of a period of administered price rises as governments sought to repair their finances by increasing revenue from sales taxes and charging more for services such as health care. (…)

Separate figures from Eurostat suggested consumer prices are unlikely to rise sharply in coming months. The agency said the price of goods leaving factory gates in November fell for the second straight month, although by just 0.1%.

Slump in Trading Threatens Profit Engine

The trading boom that helped reshape global investment banks over the past decade is sputtering, raising fears that one of Wall Street’s biggest profit engines is in peril.

(…) Executives have warned that lackluster markets could lead to year-over-year declines in fixed-income, commodities and currency trading revenue when banks begin reporting fourth-quarter results next week. That would mark the fourth consecutive drop and the 11th in the past 16 quarters.

Few corners of banks’ trading operations have escaped the slump. A 10-year commodities rally has fizzled, while foreign-exchange trading volume has fallen sharply from its 2008 peak. Since the financial crisis, investors have eschewed exotic fixed-income securities in favor of low-risk government bonds, which are less profitable for banks, and overall trading volumes have dipped.

A rash of new regulations, meanwhile, have prompted Wall Street firms to exit from once-lucrative businesses such as energy trading and storing and transporting physical commodities.

The slump has gone on so long that some observers are beginning to question whether it is part of an ordinary down cycle or a more permanent shift. (…)

FRENCH PMIS DISAPPOINT ONCE MORE

The French Manufacturing PMI fell for the third consecutive month in December to 47.0. It has been stuck below the neutral 50 level for almost two years. On this measure, the French manufacturing sector is the weakest in the Eurozone by some margin. Even the Greek manufacturing PMI improved slightly last month, from 49.2 to 49.6. Official surveys of the French economy paint a somewhat brighter picture. According to a survey by the French statistical agency, Insee, business manager’s perceptions of the overall business climate improved by 2 points to 100 in December, in line with the historic average.

France continues to suffer from declining competitiveness, both in absolute terms and relative to its Eurozone competitors. According to IMF estimates of the real effective exchange rate, the competitiveness of the French manufacturing sector has deteriorated by 12% against Germany since the debt crisis hit in 2010. Over the same period, it has fallen much further against those countries that have experienced deflation. For example, French competitiveness has declined by 28% against Ireland, and by 23% against Greece. Our central view is that France will continue to disappoint through 2014, with growth around zero – the Consensus is looking for something closer to 1%. Risks to our central view are to the downside.

COTW_0106

GOOD READ

Great dollar rally of 2014 as Fukuyama’s History returns in tooth and claw China and Japan are on a quasi-war footing, one misjudgement away from a chain of events that would shatter all economic assumptions (By Ambrose Evans-Pritchard  Tks Fred!)

We enter the year of the all-conquering US dollar. As the global security system unravels – with echoes of 1914 – the premium on the world’s safe-haven currency must rise.

The effect is doubly powerful since the US economy is simultaneously coming back to life. America has shaken off the most drastic fiscal tightening since the Korean War, thanks to quantitative easing. Growth is near “escape velocity” – at least for now – at a time when half of Europe is still trapped in semi-slump and China is trying to cool the world’s most dangerous credit boom.

As the Fed turns off the spigot of dollar liquidity, it will starve the world’s dysfunctional economy of $1 trillion a year of stimulus. This will occur through the quantity of money effect, hitting in a series of hammer blows, regardless of whether interest rates remain at zero. The Fed denies that this is “tightening”, and I have an ocean-front property to sell you in Sichuan.

It is hard to imagine a strategic and economic setting more conducive to a blistering dollar rally, a process that will pick up speed as yields on 10-year US Treasuries break through 3pc. (…)

In case you had forgotten, China has imposed an Air Defence Indentification Zone (ADIC) covering the Japanese-controlled Senkaku islands. The purpose of this escalation in the East China Sea is to test US willingness to back its military alliance with Japan, just as Kaiser Wilhelm provoked seemingly petty disputes with France to test Britain’s response before the First World War.

The ploy has been successful. The US has wobbled, wisely or not depending on your point of view. While American airlines comply, Japanese airlines fly through defiantly under orders from Japan’s leader Shinzo Abe. Mr Abe has upped the ante by visiting Tokyo’s Yasukuni Shrine – the burial place of war-time leader Tojo – in a gesture aimed at Beijing.

Asia’s two great powers are on a quasi-war footing already, one misjudgement away from a chain of events that would shatter all economic assumptions. It would leave America facing an invidious choice: either back Japan, or stand aloof and let the security structure of East Asia disintegrate. (…)

The US is stepping back from the Middle East, leaving the region to be engulfed by a Sunni-Shia conflict that resembles Europe’s Thirty Years War, when Lutherans and Catholics battled for supremacy. Sunni allies are being dropped, Shia Iran courted. Even Turkey risks succumbing, replicating Syria’s sectarian fault lines. (…)

In Europe, the EU Project has by now lost so much caste that Ukraine’s leaders dare to tear up an association accord, opting instead for a quick $15bn from Vladimir Putin’s Russia. (…)

So with that caveat let me try to make sense of global economic forces. Bearish as usual, I doubt that we are safely out of the woods, let alone on the start of a fresh boom. How can it be if the global savings rate is still rising, expected to hit a fresh record of 25.5pc this year? There is still a chronic lack of consumption.

As the Fed tightens under a hawkish Janet Yellen, a big chunk of the $4 trillion of foreign capital that has flowed into emerging markets since 2009 will come out again. It is fickle money, late to the party. (…)

Euroland will be hit on two fronts by Fed action. Bond yields will ratchet up, shackled to US Treasuries. Emerging market woes will ricochet into the eurozone. The benefits of US recovery will not leak out as generously as in past cycles. Dario Perkins from Lombard Street Research says the US is now more competitive than at any time since the Second World War. America is poised to meet its own consumption, its industries rebounding on cheap energy. Europe will have to generate its own stimulus this time. Don’t laugh. (…)

Credit to firms is still contracting at a rate of 3.7pc, or 5.2pc in Italy, 5.9pc in Portugal and 13.5pc in Spain. This is not deleveraging. The effects have been displaced onto public debt, made worse by near deflation across the South.

Italy’s debt has risen from 119pc to 133pc of GDP in three years despite a primary surplus, near the danger line for a country with no sovereign currency. For all the talk of reform – Orwellian EMU-speak for austerity – Italy is digging itself deeper into one hole even as it claws itself out of another, its industries relentlessly hollowed out. Much the same goes for Portugal and, increasingly, France. (…)

There is just enough growth on offer this year – the ECB says 1pc – to sustain the illusion of recovery. Those in control think they have licked the crisis, citing Club Med current account surpluses. Victims know this feat is mostly the result of crushing internal demand. They know too that job wastage is eroding skills (hysteresis) and blighting their future. Yet they dare not draw their swords.

It will take politics – not markets – to break this bad equilibrium, the moment when democracies cease to tolerate youth unemployment of 58pc in Greece, 57.4pc in Spain, 41.2pc in Italy and 36.5pc in Portugal.

Unemployment in the eurozone (yellow), US (red) and Japan (light blue)

The European elections in May will be an inflexion point. A eurosceptic landslide by Marine Le Pen’s Front National, Holland’s Freedom Party, Italy’s Cinque Stelle and Britain’s UKIP, among others, will puncture the sense of historic inevitability that drives the EU Project. (…)

Over all else hangs the fate of China. The sino-bubble is galactic. Credit has grown from $9 trillion to $24 trillion since late 2008, as if adding the US and Japanese banking systems combined. The pace of loan growth – 100pc of GDP over five years – is unprecedented in any major economy, eclipsing the great boom-bust dramas of the past century.

The central bank is struggling to deflate this gently, with two spasms of credit stress in the past six months. I doubt it will prove any more adept than the Bank of Japan in 1990, or the Fed in 1928, and again in 2007. This will be a bumpy descent.

China may try to cushion any hard-landing by driving down the yuan. The more that Mr Abe forces down the Japenese yen, the more likely that China will counter with its own devaluation to protect the margins of it manufacturing industry. We may be on the brink of another East Asian currency war, a replay of 1998 but this time on a much bigger scale and with China playing a full part.

If so, this will transmit an a further deflationary shock through the global system, catching the West sleeping with its defences against deflation already run down. The US may be strong enough to cope. For Europe it would be fatal. The denominator effect would push Club Med into a debt compound spiral. Let us give it a 30pc probability. Happy new year.

 

NEW$ & VIEW$ (17 DECEMBER 2013)

Industrial Output Hits a Milestone

Industrial production, which measures the output of U.S. manufacturers, utilities and mines, surged a seasonally adjusted 1.1% from the prior month, the Federal Reserve said Monday. That was the biggest jump in a year.

The ascent in part reflects big gains for volatile mining and utilities components, though underlying figures point to steadily rising demand for an array of industrial goods.

Manufacturing, the largest component of industrial production, remains below its prerecession peak. But the sector expanded 0.6% in November, the fourth straight month of gains. Overall factory output is up 2.9% from a year earlier.

Rising auto output led the increase, with motor-vehicle assemblies at the highest level in eight years. (Chart from Haver Analytics)

Strong report overall, indicating a rising momentum in most sectors. Capacity utilization keeps rising, a positive for profit margins.

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Here’s the LT Cap. Ute. chart from CalculatedRisk:

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Meanwhile, other costs are rising faster (Charts from Haver Analytics):

But not in manufacturing:

Auto  European Car Sales Rise for Third Month of Increased Demand

European new-car sales rose a third consecutive month in November, the longest period of gains in four years, as demand for autos from Volkswagen AG and Renault SA contributed to signs that an industrywide decline is ending.

Registrations in November increased 0.9 percent from a year earlier to 975,281 vehicles, the Brussels-based European Automobile Manufacturers Association, or ACEA, said today in a statement. The growth followed gains of 4.6 percent in October and 5.5 percent in September.

Among Europe’s five biggest car markets, demand increased 15 percent last month in Spain, which ranks fifth in the region, and 7 percent in the U.K., which places second. The Spanish government revived a cash-for-clunkers incentive program in October to boost car sales. Registrations dropped in Germany, France and Italy.

Asian, German Car Makers Seen Boosting Capacity in North America

Asian auto makers are expected to add the capability to build nearly one million more vehicles in North America over the next six years, and German auto makers could boost capacity by 700,000 in a challenge to the market stability that has helped boost profits for Detroit’s three big auto makers.

The new plants are aimed at supplying a projected growth in demand in the North American market, and could be used to ramp up exports, particularly to Europe and the Middle East and Africa, according to a new report by IHS Automotive—a division of business information firm IHS Inc.

Mike Jackson, a production forecaster with IHS Automotive, said that despite the two-million-unit increase forecast, overcapacity shouldn’t be a serious concern.

“We still anticipate a 90% to 95% utilization rate,” he said.

Mr. Jackson estimates that by 2020, two million vehicles will be exported from North America, a 60% increase over today. By then, 35% of exports will be going to Europe, 25% to South America and 22% to the Middle East and Africa, which is forecast to have strong growth. (…)

Global Car Sales Seen Rising to 85 Million in 2014

The global auto industry is expected to produce 85 million sales in 2014, up from an estimated 82 million this year, IHS Automotive said in a forecast Monday.

By 2018 sales are forecast to break 100 million, according to the unit of business-information provider IHS Inc.

This global growth is driven by rising wealth in emerging markets as well as relatively moderate gasoline prices. (…)

The U.S. market may rise 2.4% to 16.03 million from 15.65 million this year and to peak in 2017 at nearly 17 million before leveling off. (…)

Production in North America also is forecast to rise by 2.1 million vehicles between now and 2020, driven by new plants in the U.S. and Mexico. Asian auto makers are expected to add more than one million units of that capacity.

In a separate report, Deutsche Bank estimates global automobile sales will rise 4% in 2014, to 87.4 million light vehicles. That would be slightly ahead of the 3.5% growth the industry is on track to hit for this year, when global auto sales are expected to total 84 million vehicles. Total auto sales estimates can vary because of inconsistencies in reporting by different countries and whether heavier duty vehicles are included in the total.

The key drivers will be a return to growth in Europe and continued strong demand in the U.S. and China.

After six years of declines in new-car sales, Europe should see a rise of 3% in 2014, to about 14 million light vehicles, according to Deutsche Bank’s forecast. While that total would be an improvement from 2013, it would still be well below the 18 million new cars and light commercial vehicles that were sold in 2007. The bank says an aging fleet of cars on European roads, and a shortage of used cars, will prod more buyers to showrooms next year. (…)

The U.S. should also get a lift as consumers who signed three-year leases on new cars in 2011 look to trade in for new vehicles. Leasing plunged between 2008 and 2010, and the rebound in leasing since them should provide a steady stream of ready customers for 2014, 2015 and 2016, Deutsche Bank wrote.

The Chinese market for cars should grow 10% next year, to 23.8 million cars and light trucks. That is still a robust rate but down from the 13% increase the market will see for 2013. For this year auto sales are seen reaching 21.7 million vehicles.

Euro-Zone Prices Fall

Despite the decline in euro-zone prices during November, the European Union’s statistics agency said the annual rate of inflation rose to 0.9% from 0.7%, in line with its preliminary estimate. But even after that pickup, the rate of inflation was well below the European Central Bank’s target of just below 2.0%, and slowing labor costs suggest a significant increase is unlikely in the months to come.

According to Eurostat’s figures, energy prices fell by 0.8% during November, and were down 1.1% from the same month of 2012. But services prices also fell during the month, while prices of manufactured goods and food rose slightly.

Pointing up In a separate release, Eurostat said total labor costs in the three months to September were 1.0% higher than in the same period of 2012, while wages were 1.3% higher. In both cases, the rate of increase was the smallest since the third quarter of 2010. (…)

Wages fell in Ireland, Portugal, Cyprus and Slovenia, and were flat in Spain. That indicates that some rebalancing of the euro zone’s economy is under way.

But that relabancing would be aided by a more rapid rise in wages in stronger economies such as Germany. While the rate of wage growth there was higher than in the euro zone as a whole, it slowed significantly from the second quarter, to 1.7% from 2.2%.

OIL

US oil production to test record high
Shale boom sends output soaring

(…) The EIA said on Monday that it had revised sharply higher its estimates of future US crude output to about 9.5m barrels a day in 2016. That is very close to the previous peak in US production of 9.6m b/d in 1970 and almost double its low point of 5m b/d in 2008. (…)

A year ago, the EIA was predicting US crude production of about 7.5m b/d in the second half of this decade, a level that has already been surpassed this year. It has now revised sharply higher its estimates of future output in its central “reference case”, which assumes that current laws and regulations remain generally unchanged. (…)

The EIA now predicts that US crude output will begin to tail off slowly after 2020, but says there is still great uncertainty over the outlook. Adam Sieminski, the administrator of the EIA, said factors influencing the outlook for production would include future discoveries about the geology of US shale oilfields, regulatory requirements imposed on producers and investment in new pipelines.

Sustaining the surge in US oil production will require prices that are high by the standards of a decade ago. Mr Sieminski said US shale production would be profitable at prices above $90 a barrel, and possible at above $80-$85 a barrel. (…)

For natural gas, meanwhile, the EIA is predicting continued indefinite growth in production. Gas is easier to produce than oil from shale and other “tight” rocks, and by 2040 the EIA expects US production to be 56 per cent higher than in 2012. (…)

Oil Supply Surge Brings Calls to Ease U.S. Export Ban

The U.S. is meeting 86 percent of its own energy needs, the most since 1986, Energy Department data show.

A surplus of crude could overwhelm Gulf Coast and Canadian refineries that weren’t built for the type of oil now in abundance from new fields in North Dakota and Texas, forcing the issue, McKenna said.

U.S. refineries invested more than $100 billion in the past two decades on upgrades to handle heavy crudes from Mexico, Venezuela and the Middle East, according to Michael Wojciechowski, a Houston-based refining analyst at Wood Mackenzie, an industry research and consulting company.

“We’re going to have two choices, really — export production or shut-in production,” McKenna said. “That’s an ugly choice.”

Or build new refineries.

Once refined, oil may be exported as fuels, which aren’t restricted. The U.S. became a net exporter of petroleum products in June 2011 and shipped a record 3.37 million barrels a day for three weeks in October, Energy Department data show.

Profit Growth Outpaces Dividends at S&P 500 Firms

(…) Members of the S&P 500 index paid out just 33% of their reported earnings per share in the form of dividends during the third quarter. That’s down from the quarterly average of almost 45% since 1988 and an average of nearly 52% since 1936, according to Howard Silverblatt, senior index analyst for S&P Dow Jones Indices. (…)

Companies also are expected to pay out about 33% of profit in the fourth quarter, Mr. Silverblatt says, as profit growth outpaces dividend increases. (…)

Airplane  Boeing boosts dividend and buybacks
Jet maker voices confidence as it returns cash to shareholders

Boeing intends to increase its dividend by 50 per cent and ask investors to approve up to $10bn of share buybacks, the commercial jet maker said on Monday, calling the move a mark of confidence in its own future.

The quarterly dividend would increase from 48.5 cents to 73 cents, Boeing said. The new $10bn buyback programme would allow repurchases to continue once the company has exhausted the remaining $800m of an outstanding buyback authorisation granted in 2007.

Easy Money Delays Retail Shakeout

Investors are eagerly lending to risky retail borrowers like RadioShack, Sears Holdings and J.C. Penney, buying the chains time to try to turn around their businesses but delaying the overbuilt industry’s day of reckoning.

Thumbs down Loehmann’s Files for Bankruptcy

The discount retailer files for bankruptcy Sunday under the weight of more than $100 million of debt. The company employs 1,600 people at some 39 stores.

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NEW$ & VIEW$ (15 NOVEMBER 2013)

Empire State Manufacturing Contracts: General Business Conditions Lowest Since January

The general business conditions index fell four points to -2.2, its first negative reading since May. The new orders index also entered negative territory, falling thirteen points to -5.5, and the shipments index moved below zero with a fourteen-point drop to -0.5. The prices paid index fell five points to 17.1, indicating a slowing of input price increases. The prices received index fell to -4.0; the negative reading was a sign that selling prices had declined—their first retreat in two years. Labor market conditions were also weak, with the index for number of employees falling four points to 0.0, while the average workweek index dropped to -5.3.

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Shoppers Can’t Shake the Blues

 

Wal-Mart Stores Inc. offered little reason for holiday cheer, reporting its third straight quarter of poor sales in the U.S. and painting a gloomy picture for the economic recovery.

The downbeat outlook from the world’s largest retailer was a reminder that even as U.S. stock prices climb to record heights, many Americans remain caught between high joblessness and hits to their paychecks that are limiting their ability to spend, putting a further drag on an already sluggish economy.

Kohl’s Corp., a department-store chain that caters to middle-income customers, also reported weak results Thursday and said it scaled back its inventories ahead of the holidays, signaling a lack of confidence in its ability to boost sales. (…)

Wal-Mart lowered its full-year profit forecast on Thursday and warned sales would be flat through the end of January, after sales fell for a third straight quarter at U.S. stores open at least a year. (…)

Even higher-end retailers experienced softness in the third quarter. Nordstrom Inc. reported late Thursday that its profit fell to $137 million from $146 million a year earlier, as sales at stores open at least a year slipped 0.7%. The company attributed part of the decline to a shift in the timing of its big Anniversary Sale, but also saw some weakness.

“We’ve experienced softness in our full line store sales with third quarter results consistent with recent trends but lower than what we anticipated as we started the year,” Blake Nordstrom, the company’s president said on a conference call with analysts. (…)

On Wednesday, Macy’s Inc. delivered strong sales and an upbeat holiday outlook that sent its stock up more than 9%. But the department-store chain is boosting discounts to draw in shoppers even at the expense of profit margins.

Kohl’s said it plans to ratchet up holiday marketing and discounts to bring more people into its stores after it cut its full-year profit outlook Thursday. The department-store chain reported its third-quarter earnings fell 18% as comparable-store sales dropped 1.6%. (…)

The Bentonville, Ark., retailer could face additional pressure on sales from the expiration of a temporary boost in food-stamp benefits. The expiration on Nov. 1 is expected to leave nearly 48 million Americans with $5 billion less to spend this fiscal year, which ends in September, according to the Center on Budget and Policy Priorities. The hit follows the end of a payroll tax break that had saved 2% of consumers’ monthly paychecks.

Wal-Mart estimates it rakes in about 18% of total U.S. outlays on food stamps, or about $14 billion of the $80 billion the U.S. Department of Agriculture says was appropriated for food stamps in the year ended in September 2012. (…)

“A reduction in gas prices and grocery deflation will help customers stretch their budgets, but they’re still trying to absorb a 2% payroll tax cut, uncertainty over Washington, and a lack of clarity around personal health care costs that are all headwinds,” Mr. Simon said. (…)

U.S. Worker Productivity Climbs

More productive U.S. workers supported faster economic growth in the third quarter, but slower business investment might limit future gains.

Labor productivity, or output per hours worked, increased at a 1.9% annual rate from July through September, the Labor Department said Thursday.

Second-quarter productivity growth was revised down to a 1.8% pace from a previous reading of 2.3%. Productivity held flat from a year ago because the increase in output was matched by an increase in hours worked.

Meanwhile, unit labor costs, a key gauge of inflationary pressure, declined at a 0.6% annual pace last quarter. From a year earlier, unit labor costs are up 1.9%—running ahead of the increase in consumer prices.

Industrial Output Runs Hard to Stay in Place

Industrial production in September returned to where it was before the recession, based on a Fed index. But certain index components are way above or below that level, providing a telling set of statistics about today’s economy.

September’s industrial-production data, which cover the period just before the government shutdown, seemed encouraging at first glance. The index expanded 0.6% over the prior month, well ahead of predictions and the fastest pace in seven months. But the strength lay entirely in utilities output, which makes up a 10th of the index. The sixth-warmest September on record for the contiguous 48 states followed a summer that was milder than the year-ago period. Actual manufacturing production, which comprises three-quarters of the index, rose by just 0.1%.

U.S. Trade Gap Widens as Exports Slip

The U.S. trade deficit widened 8%, as a fall in U.S. exports in September suggests the global economy is struggling to gain traction quickly enough to offset tepid demand at home. (Chart from Haver Analytics)

Exports fell 0.2% while imports rose 1.2%, causing the trade gap to expand for the third-straight month.

The report suggests exports, after rising earlier in the year, slumped during the summer as demand weakened in Europe, Japan and developing economies. The three-month moving average of exports, a reading of the underlying trend, slipped for the first time since May. (…)

U.S. exports to the EU from January through September fell 2.7%, compared with the same period a year earlier. Exports to the U.K. were down 15.1%, and exports to Germany fell by 4.5%.

The European Union accounts for roughly 17% of the market for U.S. exports.

The U.S. is also seeing lower demand from Japan, whose export-driven economy is struggling amid weak overseas demand. U.S. exports to Japan this year through September were down 7.6% compared to a year earlier.

September’s drop in overall exports was broad-based, with falling demand for American industrial materials as well as consumer and capital goods.

U.S.: Downward revisions to Q3 GDP?

The US goods and services trade deficit widened unexpectedly in September to US$41.8 bn, the worst tally in four months. The deterioration was due to rising imports and declining exports, the latter falling for a third month in a row in real terms. The results are worse than what the BEA had anticipated when it estimated Q3 GDP last week.

As today’s Hot Charts show, the agency estimated a less brutal deterioration in net exports of goods than what actually transpired. And with real exports of goods growing in Q3 at about a third of the pace estimated by the BEA, and real imports of goods growing faster in the quarter than what the agency had anticipated, it seems that trade may
have been a drag on the economy in Q3 rather than a contributor as depicted in last week’s GDP report.

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We now expect a three-tick downgrade to Q3 US GDP growth from 2.8% to 2.5% annualized. Unfortunately, the bad news doesn’t end there. September’s weak trade results are also bad for the current quarter. The higher imports probably mean that the Q3 stock build-up was larger than first thought, meaning that there’s perhaps a higher likelihood of
an inventory drawdown (and hence a moderation in production) in the current quarter. If that’s the case, Q4 US GDP growth could be running only at around 1% annualized. (NBF)

Consumer Borrowing Picks Up

Americans stepped up their borrowing in the third quarter, a trend that could boost the economy—but, in a worrying sign, the nation’s student-loan tab also rose.

Household debt outstanding, which includes mortgages, credit cards, auto loans and student loans, rose $127 billion between July and September to $11.28 trillion, the first increase since late last year and the biggest in more than five years, Federal Reserve Bank of New York figures showed Thursday.

Taking on Debt Again

Mortgage balances, the biggest part of household debt, increased by $56 billion amid fewer foreclosures, while Americans bumped up their auto-loan balances by $31 billion.

At the same time, the amount of education loans outstanding, which has increased every quarter since the New York Fed began tracking these figures in 2003, rose $33 billion to surpass $1 trillion for the first time, according to this measure. The share of student-loan balances that were 90 or more days overdue rose to 11.8% from 10.9%, even as late payments on other debts dropped.

Yellen Defends Fed’s Role, Current Path

Federal Reserve Vice Chairwoman Janet Yellen signaled Thursday that no big changes would come to the central bank under her leadership if she becomes its next chief.

The nominee said at the hearing that the decision about winding down the program depended on how the economy performs. “We have seen meaningful progress in the labor market,” Ms. Yellen said. “What the [Fed] is looking for is signs that we will have growth that’s strong enough to promote continued progress.”

She also repeated the Fed’s message that even after the bond program ends, it will keep short-term interest rates near zero for a long time because the bank doesn’t want to remove its support too fast.

The Fed’s next meeting is Dec. 17-18.

Surprised smile  Cisco CEO: ‘Never Seen’ Such a Falloff in Orders

imageThe Silicon Valley network-equipment giant on Wednesday said revenue rose just 1.8% in its first fiscal quarter, compared with its projection of 3% to 5% growth. Cisco followed up by projecting a decline of 8% to 10% in the current period, an unusually grim forecast for a company seen as a bellwether for corporate technology spending.

John Chambers, Cisco’s chief executive, said orders the company expected to land in October never materialized, particularly in Brazil, Russia, Mexico, India and China. Orders for all emerging markets declined 21%.

“I’ve never seen this before,” Mr. Chambers said.

First-quarter orders in China declined 18%, the company said, with Mexico and India off by the same percentage. Orders were off 30% in Russia and 25% in Brazil.

Euro Zone’s Rebound Feels Like Recession

(…) Gross domestic product in the 17-country euro zone grew only 0.1% last quarter, or 0.4% at an annualized rate, data published on Thursday showed. The rate of growth was down sharply from the second quarter, when policy makers and economists began to hope that the clouds were clearing for the troubled currency bloc. (…)

Even Germany’s economy grew only 0.3% last quarter, or 1.3% annualized, as weak demand in Europe and patchy global growth hit its exports. (…) France and Italy, the bloc’s next-biggest economies after Germany, both suffered small contractions.

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Industrial production down by 0.5% in euro area

IP in the Euro 17 area was down 0.5% MoM in September and for Q3 as a whole. IP of durable consumer goods were –2.6% MoM in September and –4.1% QoQ in Q3.

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EU Inflation Slows to Four-Year Low

The EU’s official statistics agency said Friday consumer prices rose 0.9% in the 12 months to October, a lower annual rate of inflation than the 1.3% recorded in September, and the lowest since October 2009.

Eurostat also confirmed that the annual rate of inflation in the 17 countries that share the euro was 0.7% in October, the lowest level since November 2009.

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Core inflation was +0.8% in October, down from 1.0% in September.

 

Brussels warns Spain and Italy on budgets

France’s ‘limited progress’ on reforms also under spotlight

Brussels has warned Spain and Italy that their budget plans for 2014 may not comply with the EU’s tough new debt and deficit rules, a move that could force both countries to revise their tax and spending programmes before resubmitting them to national parliaments.

The verdicts, the first time the European Commission has issued detailed evaluations of eurozone government budgets, also include a warning to France that its economic reform plan constitutes only “limited progress” towards reforming its slow-growing economy.

Earnings Season Ends

The third quarter earnings season came to an end today now that Wal-Mart (WMT) has released its numbers.  Of the 2,268 companies that reported this season, which started in early October, 58.6% beat earnings estimates.  Below is a chart comparing this quarter’s beat rate to past quarters since 2001.  Since the bull market began in March 2009, this is the second worst earnings beat rate we’ve seen.  Only Q1 of this year was worse. 

(…) the 8-quarter streak of more companies lowering guidance than raising guidance was extended to nine quarters this season, as companies lowering guidance outnumbered companies raising guidance by 4.5 percentage points.  When will companies finally offer up positive outlooks on the future?

China to Ease One-Child Policy

Xinhua said authorities will now allow couples to have two children if one of the parents is an only child. Currently, couples are restricted to one child except in some areas.

Morning MoneyBeat: Nasdaq Nears 4000

The Nasdaq Composite is poised to cross 4000 for the first time in 13 years, an event that is sure to prompt comparisons to the dot-com bubble. It shouldn’t.

(…) The Nasdaq is now dominated by mostly profitable companies. Names such as Pets.com have come and gone, replaced by more mature companies, plenty of which sit on loads of cash and pay hefty dividends. Apple Inc,, Microsoft Corp. and Cisco Systems Inc. are bigger and return much more cash to shareholders now than they did during the go-go days. The index also trades at a far cheaper multiple than it did 14 years ago.

Light bulb  Berkshire Reports New Stake in Exxon Mobil

Warren Buffett’s Berkshire Hathaway disclosed it had picked up a $3.45 billion stake in Exxon Mobil, a sizable new addition to its roughly $107 billion portfolio of stocks.

The stock was likely picked by Mr. Buffett himself, given the size of the investment.

 

NEW$ & VIEW$ (1 NOVEMBER 2013)

Europe Sparks Growth Fears Euro Zone Faces Threat of Too Little Inflation

The latest numbers signal that dangerously low inflation—which Japan struggled with for two decades and the U.S. central bank has labored in recent years to avoid—is at Europe’s front door. (…)

Super-low inflation will persist in Europe, economists warn. Euro-zone unemployment in September matched a record-high 12.2%, which could exert downward pressure on wages and spending. Commercial banks are cutting credit to euro-area businesses, especially in the weaker southern rim. (…)

Deflation is less of a risk in the more prosperous north. Inflation is 1.3% in Germany and close to 2% in Austria and the Netherlands. (…)

In emerging markets the rate is closer to 5% to 6%. It is 2.7% in the U.K., whose central bank—like the Fed—bought large amounts of government bonds to keep borrowing costs low. (…)

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Euro Down as ECB Cut Eyed

The euro continued to weaken amid growing expectations that low inflation will push the European Central Bank to cut interest rates, possibly as early as next week.

The single currency dropped 1.1% against the dollar Thursday after data showed that inflation in the euro zone fell to a near four-year low in October. Early Friday, the euro dropped further, fetching $1.3532 from $1.3582 late Thursday in New York.

China Home Prices Jump by Most This Year as Demand Defies Curbs

The average price surged 10.7 percent last month from a year earlier to 10,685 yuan ($1,753) per square meter (10.76 square feet), SouFun Holdings Ltd. (SFUN), the nation’s biggest real estate website owner, said in a statement after a survey of 100 cities. Prices rose 1.24 percent from September, the 17th consecutive month of increases. (…)

Last month’s month-on-month increase widened from September’s 1.07 percent, though the number of cities with gains exceeding 1 percent dropped by five to 29, SouFun said. Housing sales in the first nine months surged 34.5 percent to 4.54 trillion yuan from a year earlier, according to government data released Oct. 18.

EARNINGS WATCH

Over 75% in the earnings season:

Zacks Research:

(…) when all is said done about the Q3 earnings season, we will have a new quarterly record for total earnings and the quarter’s earnings growth rate will likely be the best thus far this year.

Total earnings for the 355  S&P 500 companies that have reported results already, as of Thursday morning October 31st, are up +4.5% from the same period last year, with 67.3% beating earnings expectations with a median surprise of +2.6%. Total revenues for these companies are up +2.9%, with 49% beating revenue expectations with a median surprise of +0.1%.

The earnings beat ratio looks more normal now than was the case earlier in this reporting cycle. It didn’t make much sense for companies to be struggling to beat earnings expectations following the significant estimate cuts in the run up to the reporting season.

The composite earnings growth rate for Q3, combining the results from the 355 that have come out with the 145 still to come, currently remains at +4.2% on +2.4% higher revenues. It is perhaps reasonable to expect that the final Q3 earnings growth tally will likely be not much different from the +3.4% achieved in Q2.

We may not have had much growth in recent quarters, but the expectation is for strong growth resumption in Q4 and beyond. Estimates for Q4 have started coming down, with the current +8.4% growth pace down from last week’s +9.1%. But as the chart below shows, consensus estimates for Q4 and beyond represent a material acceleration in earnings growth.

Guidance has been overwhelmingly negative over the last few quarters and is not much different thus far in Q3 either, a few notable exceptions aside. (…) Given this backdrop, estimates for Q4 will most likely come down quite a bit in the coming weeks.

Moody’s:

Thus far, the third-quarter operating profits and sales of S&P 500 companies have topped expectations. As of September 2013, the consensus expected year-over-year increases of 2.3% and 2.8% for Q3-2013’s S&P 500 operating profits with and excluding the index’s financial company members, respectively. As of October 30, these forecasts had been raised to 4.3% and 3.7%.

Nevertheless, the consensus has pared its projections for each subsequent quarter through the second quarter of 2014. For example, the consensus pared its estimate of Q4-2013’s yearly growth by the operating income of the S&P 500’s nonfinancial companies from September’s 8.3% to a recent 5.9%.

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David Einhorn’s latest letter to investors warns:

The game of Earnings Expectation Conflation continues. It’s a bit like limbo – with a twist. Though the bar gets lowered every round, the goal is to make it over the bar, rather than go under it.

Here’s what the current round looks like: At the end of June, third quarter S&P 500 index earnings were expected to grow 6.5%. In July, as actual earnings started to come in and companies lowballed the next quarter’s guidance, index earnings expectations were likewise adjusted lower.

As more companies reported “beat and lower” earnings, market expectations continued to fall to the point where third quarter index earnings growth is now expected to be half of what was forecast in June. Of course, when earnings are announced in October and they “beat” the guidance set in July, everyone will celebrate with cake and ice cream. (Never mind that the earnings are actually in line with the original June predictions, or that they’ve lowballed guidance for next quarter – if anyone noticed that, they wouldn’t be able to move to the next round by lowering the December bar, which is currently set at 13% growth.) As the S&P 500 index has  advanced this year mostly through multiple expansion, the index is no longer cheap, particularly considering that we are now almost half a decade into an economic expansion and earnings growth is unexciting.

Pointing up There is evidence of much more (and increasingly creative) speculative behavior. Some companies have convinced the market to embrace earnings reports that ignore what they must pay employees to show up to work every day, provided the employees accept equity rather than cash. We don’t understand how some investors view this as economically different from the company selling shares into the market and using the proceeds to pay workers.

Then there’s the sizable group of companies (including a number of recent IPOs) that are apparently not subject to conventional valuation methods. Many have no profits and no real plan to make future profits. The market doesn’t seem to mind – in fact, it is hard to fall short of such modest expectations and the prices of these stocks have performed particularly well of late.

Finally, there are the market participants whose investment process appears to be “bet on whatever has made money most recently.” They’ve noticed that stocks with large short-interest ratios have materially outperformed over the last year and they continue to invest accordingly. When “high short interest” becomes a viable stock-picking strategy and conventional valuation methods no longer apply for many stocks, we can’t help but feel a sense of déjà vu. We never expected to find ourselves in an environment like this again, given the savings that were lost when the internet bubble popped.