CWS Market Review – November 20, 2015
Posted by Eddy Elfenbein on November 20th, 2015 at 7:08 am
“Stock market: a place where events with a <1% probability are discussed >90% of the time.” – Urban Carmel
“Wall Street hates uncertainty”: so goes the old saying. Until recently, investors feared an interest-rate hike. Now that a December rate hike seems quite probable, investors may fear that it won’t happen.
After the awful events in Paris, there was some concern that the Federal Reserve could delay an interest-rate hike. Now that some time has passed, that doesn’t appear to be the case. This week, the Fed released the minutes of its last meeting, and all the signs are in place for a rate hike. We also got an inflation report this week which suggests that deflation has run its course.
According to the latest futures prices, there’s a 71.7% chance that the Fed will raise interest rates at its December meeting. We’ve had false alarms before, but the Fed seems quite serious this time. This would be the Fed’s first interest-rate hike in nearly a decade. The financial world is finally getting back to normal.
In this week’s CWS Market Review, we’ll take a closer look at the recent economic data. Corporate earnings pulled back again during Q3, but there are signs of improvement for Q4. Initial jobless claims have been under 300,000 for the last 39 weeks in a row. That’s the longest streak in more than 40 years.
We just had a nice earnings report from Ross Stores (ROST). The deep discounter had given us tepid guidance, so it’s good to see it beat expectations. Later on, I’ll preview next week’s earnings report from Hormel Foods (HRL). The Spam company just hit a new high—it’s a 32.1% YTD winner for us. I’m also expecting Hormel to raise its dividend next week, which would be its 50th straight annual dividend increase. I’ll also update some of our Buy List stocks. But first, let’s take a closer look at the economy and stock market at the midway point of Q4.
The Global Economy Is out of Sync
We’re heading into the final stretch of the calendar, and in recent years, that’s been a good time for stocks. The S&P 500 has been positive over the final 30 trading days of the year for the last 12 years. Santa is clearly a bull.
What’s interesting is that over the last month, the stock market has developed an unusual pattern. Each day, the market either falls or it rises by a lot. There haven’t been many modestly positive days.
Here are the numbers: In the last 23 trading sessions, the S&P 500 has fallen 15 times and rallied eight tines. But of those eight positive days, six have been greater than 1.1%. Just two of the last 23 days have seen either a loss less than 0.1% or a gain less than 1.1%. In other words, there’s no more middle ground. To borrow from Yeats, “Things fall apart; the center cannot hold; mean reversion is loosed upon the world.”
What does this mean? Hard to say, but I suspect that the market now assumes each day to be a negative until it’s proven bullish. Obviously, the Paris attack rattled nerves, especially in European markets, but that’s past us, and terrorism’s track record of disrupting financial markets has been a big fat zero. On Wednesday, the S&P 500 rallied over its 200-day moving average, and the French market is positive for the week.
So what’s the economic outlook for the U.S.? On Wednesday, the Federal Reserve released the minutes from its October meeting. I’m afraid these minutes always make for pretty dry reading, even for academics. Yet one part stood out. After the Fed laid out what would have to happen for rates to go higher, “most participants anticipated that…these conditions could well be met by the time of the next meeting.”
Whoa, that’s a big deal. I have to explain that the Fed’s minutes are a case study in the use of indefinite pronouns (“some” said this, “many” said that, “others” felt this). So when they say “most,” they mean it.
Pardon me for a brief nerdy digression, but the Fed is in the midst of a very wonky debate over the “natural interest rate.” This refers to the rate at which everything comes into balance. So when the Fed goes below the natural rate, it’s stepping on the gas. When it goes above it, it’s stepping on the brakes.
But here’s the tricky thing about the natural rate—no one knows what it is. In fact, there are some economists who think the whole idea is bogus. So the idea is that there’s this weird conceptual interest rate that’s floating around somewhere out in the ether, yet we can’t see it or hear it. But it drives everything. And here’s where it gets truly weird: the natural rate has likely gone down. Way down. The staff at the Fed thinks the natural rate went negative during the financial crisis, and it’s probably hanging just above 0% right now. (If you’re curious, here’s a post I did last year about the natural rate and gold.)
I think that’s right. It probably explains why gold and silver have taken such a beating even though rates are still so low. If your currency’s interest rate is above the natural rate, then, all things being equal, commodities will fall. Silver just snapped its 15-day losing streak. U.S. crude inventories are the highest they’ve been at this time of year since 1930.
Fortunately for the Fed, the vagaries of the natural rate aren’t quite so vital at the moment, but it’s a very big deal to Mr. Draghi and his friends at the ECB. Bond yields in Europe are getting absurdly low. Germany just sold off some two-year bonds at -0.38%. In other words, investors are paying the government to borrow money from them. Stay tuned. I think the ECB will take further steps to get the European economy back on its feet. The euro may soon reach parity against the dollar.
Here’s what investors need to understand: the driving force in world economics at the moment is that the U.S. and the rest of the world are out of sync. We’re heating up while they’re still trying to get started. That’s what’s been driving the dollar higher.
On Tuesday, the U.S. government reported that inflation rose by 0.2% last month. That may not sound like much, but in seasonally adjusted terms, it was the most inflation since June. The “core rate,” which excludes food and energy, rose by 0.2%. In the last year, the core rate is up by 1.9%. Officially, the Fed’s inflation target is 2%. The sudden deflation that we saw late last year clearly made the Fed rethink any rate-hike plans. That’s no longer an issue. The next test for the Fed will be the November jobs report which comes out on December 4. Now let’s take a look at our Buy List earnings report from this week.
Ross Stores Earns 53 Cents per Share
Last week, I told you that I was a bit puzzled by the weak guidance from Ross Stores (ROST). The numbers they gave us simply didn’t add up. Were they low-balling us (as they like to do), or are they seeing real problems ahead?
We’ve also seen a lot of weakness across the retail sector. Macy’s (M), for example, got clobbered after a lousy report. Last week, the Census Bureau said that retail sales were sluggish in October.
In August, Ross said they saw Q3 coming in between 48 and 50 cents per share. After the closing bell on Thursday, they reported Q3 results of 53 cents per share. So maybe they were being extra conservative.
Ross said that Q3 sales rose 7% to 2.783 billion. The key metric, comp-store sales, rose 3%. They had been expecting a gain of 1% to 2%.
Last week, I told you I expected Ross to raise their estimates for Q4. No such luck.
Looking ahead, Ms. Rentler said, “In the upcoming fourth quarter, we face challenging prior-year comparisons, ongoing uncertainty in the macro-economic environment, and a holiday season that will be highly promotional. Therefore, while we hope to do better, we believe it is prudent to maintain our prior guidance for this period. For the 13 weeks ending January 30, 2016, we continue to project same-store sales to be flat to up 1%, versus a strong 6% gain in the prior year, with earnings per share of $.60 to $.63 compared to $.60 in last year’s fourth quarter. For fiscal 2015, earnings per share are now forecast to be in the range of $2.45 to $2.48, up 11% to 12% from $2.21 in fiscal 2014.”
The shares rose about 6% in after-hours trading. Ross Stores remains a good buy whenever you see it below $54 per share.
Expect a 50th-Straight Dividend Increase from Hormel
Hormel Foods (HRL) has been one of the best new additions to this year’s Buy List. On Thursday, the shares hit another 52-week high. We now have a 32.1% gain in Hormel, making it our second-best performer YTD.
The Spam company is due to report its fiscal Q4 earnings on Tuesday, November 24. For Q3, the company beat earnings and raised guidance for the full year. That was actually the second time it had raised their guidance. Hormel now sees full-year earnings coming in between $2.57 and $2.63 per share. That implies earnings growth of 15% to 18% over 2014, which itself was a record year.
But what I’m really looking forward to is the dividend announcement. Hormel usually raises its dividend with its Q4 earnings report. The company has increased its dividend for the last 49 years in a row, and the healthy profit increase tells us to expect #50 on Tuesday.
Hormel currently pays out 25 cents per share each quarter or $1 per share for the whole year. I think it can easily be bumped up to 29 or 30 cents per share. Hormel Foods is a very solid company.
Buy List Updates
On Thursday, shares of AFLAC (AFL) touched a new 52-week high. The stock got as high as $65.42. You may recall how hard the stock was hit during August. But the worriers were wrong. Last month, the duck stock not only beat earnings but gave investors their 33rd dividend increase in a row. AFLAC remains a good buy up to $67 per share.
Shares of Bed Bath & Beyond (BBBY) got caught up in the retail storm. The stock finished Thursday below $54 per share which seems quite cheap to me. Let’s look at the numbers. Last fiscal year (ending in February), the home-furnishings store made $5.03 per share. They said they expect to increase that by 0% to 5% this year. At the halfway mark, EPS is up 2.1%. Note that a lot of that is driven by share buybacks. I’m lowering our Buy Below on BBBY to $58 per share.
This week, Fiserv (FISV) announced a 15 million-share repurchase program. That’s about 7% of the company’s outstanding shares. All things being equal, I’d rather have the company pay shareholders in dividends, but this announcement is a reflection of how strong Fiserv is. Last month, the company beat earnings and raised guidance. Fiserv expects full-year earnings of $3.84 to $3.87 per share. This is another very good stock.
Every time I think the news can’t get worse for Qualcomm (QCOM), the news gets worse for Qualcomm. This week, the company said the South Korean government is investigating it for anti-trust violations. The stock dropped 9.4% and hit a four-year low. Qualcomm denies any charges, but I doubt that will get it far, especially in a country where Samsung, one of its top competitors, is based. I think we’ll soon hear more news about Qualcomm breaking itself up.
That’s all for now. Next week is Thanksgiving, so there will be no issue of CWS Market Review. The stock market will be closed next Thursday for Thanksgiving. The market will close at 1 pm on Friday. This is usually the slowest trading day of the year. There’s not much reason for the market to be open, but the NYSE hates to have the exchange closed for four days in a row. The only interesting economic report will come on Tuesday when we get the first revision to Q3 GDP. The initial report said that the economy grew by 1.5% for Q3. Be sure to keep checking the blog for daily updates. I’ll have more market analysis for you in the next issue of CWS Market Review!
Morning News: November 20, 2015
Posted by Eddy Elfenbein on November 20th, 2015 at 6:28 am
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Morning News: November 19, 2015
Posted by Eddy Elfenbein on November 19th, 2015 at 6:11 am
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Our Buy List Through November 18
Posted by Eddy Elfenbein on November 18th, 2015 at 5:43 pm
Through today’s trading, our Buy List is up 4.09% for the year while the S&P 500 is up 1.20%. Those numbers don’t include dividends but I will calculate those in our final performance numbers. Very roughly, dividends will add about 2% to the full-year return for the S&P 500, and about 1% for our Buy List.
I’m pleased that our Buy List is beating the market this year, but I wanted to point out that our lead has eroded since the summer. On August 20, our Buy List was up 5.21% on the year while the S&P 500 was down by 1.13%.
Since August 20, the S&P 500 is up 2.35% while we’re down 1.07%. Again, sans dividends. That’s hardly earth-shattering underperformance, but I always want to present the complete picture of our performance.
So what’s been dragging us down? It’s pretty easy to identify because four stocks stand out. Since August 20, Bed Bath & Beyond is down 13.84%, Ross Stores is off by 15.98%, Wabtec is down 19.76% and Qualcomm is down 20.20%. Ouch! Outside those four, the rest of the portfolio has been doing well.
I’m confident that we’ll beat the market again this year, but we’ve lagged a bit over the last three months.
The Fed Minutes Are Out
Posted by Eddy Elfenbein on November 18th, 2015 at 2:52 pm
The Fed just released the minutes from their October meeting. Here’s the important part:
During their discussion of economic conditions and monetary policy, participants focused on a number of issues associated with the timing and pace of policy normalization. Some participants thought that the conditions for beginning the policy normalization process had already been met. Most participants anticipated that, based on their assessment of the current economic situation and their outlook for economic activity, the labor market, and inflation, these conditions could well be met by the time of the next meeting. Nonetheless, they emphasized that the actual decision would depend on the implications for the medium-term economic outlook of the data received over the upcoming intermeeting period. Some others, however, judged it unlikely that the information available by the December meeting would warrant raising the target range for the federal funds rate at that meeting.
A number of participants pointed to various reasons why the Committee should avoid a delay in policy firming. One concern was that such a delay, if the reasons were not well understood by market participants, could increase uncertainty in financial markets and unduly magnify the perceived importance of the beginning of the policy normalization process (I’m sorry but that’s just silly – Eddy). Another concern mentioned was the increasing risk of a buildup of financial imbalances after a prolonged period of very low interest rates. It was also noted that a decision to defer policy firming could be interpreted as signaling lack of confidence in the strength of the U.S. economy or erode the Committee’s credibility (Oh, please – Eddy). Some participants emphasized that progress toward the Committee’s objectives should be assessed in light of the cumulative gains made to date without placing excessive weight on month-to-month changes in incoming data.
Several participants indicated that, despite lessening concerns about the implications of recent global economic and financial developments for domestic economic activity and inflation, appreciable downside risks to the outlook remained. They were concerned about a potential loss of momentum in the economy and the associated possibility that inflation might fail to increase as expected. Such concerns might suggest that the initiation of the normalization process may not yet be warranted. They also noted uncertainty about whether economic growth was robust enough to withstand potential adverse shocks, given the limited ability of monetary policy to offset such shocks when the federal funds rate is near its effective lower bound, and concern that the beginning of policy normalization might be associated with an unwarranted tightening of financial conditions. They believed that in these circumstances, risk-management considerations called for a cautious approach. They judged it appropriate to wait for additional information providing evidence of further improvement in the labor market and increasing their confidence that inflation was on a path to return to 2 percent over the medium term before raising the target range for the federal funds rate. In addition, a couple of participants cited concerns that a premature tightening might damage the credibility of the Committee’s inflation objective if inflation stayed below 2 percent for a prolonged period.
Several participants indicated that, in the current low interest rate environment, it would be prudent for the Committee to consider options for providing additional monetary policy accommodation if the outlook for economic activity were to weaken to a degree that seemed likely to undermine continued progress in labor market conditions and impede the movement of inflation back to the Committee’s 2 percent objective over the medium term. It was also noted that the Committee would need to reformulate its communications regarding the near-term outlook for monetary policy if the economic outlook weakened significantly.
During their discussion of the likely path for the federal funds rate after the time of the first increase in the target range, participants generally agreed that it would probably be appropriate to remove policy accommodation gradually. Participants also indicated that the expected path of policy, rather than the timing of the initial increase, would be the more important influence on financial conditions and thus on the outlook for the economy and inflation, and they noted the importance of underscoring this view at the time of liftoff. It was noted that beginning the normalization process relatively soon would make it more likely that the policy trajectory after liftoff could be shallow. It was also emphasized that, while participants’ most recent economic projections suggested that a gradual increase in the target range for the federal funds rate will likely be appropriate to support progress toward the Committee’s dual objectives, monetary policy adjustments ultimately would be dependent on economic and financial developments. These adjustments thus could be either more or less gradual than the Committee currently anticipates, responding to the Committee’s assessment of the implications of incoming information for the medium-run outlook.
South Korea Looks to Fine Qualcomm
Posted by Eddy Elfenbein on November 18th, 2015 at 1:01 pm
Qualcomm Inc. said the staff of South Korea’s antitrust agency has alleged that some of the U.S. chip maker’s patent-licensing practices are illegal and recommended that the company be fined.
The company, which has battled antitrust cases in multiple countries, said a case examiner’s report generated by the staff of the Korea Fair Trade Commission, known as the KFTC, also recommended modifications to its business practices. A Qualcomm spokeswoman said the company hasn’t been informed of the size of any potential fine
The shares, which were already down 29% going into today, are down another 8.5% today. What a mess!
The Plunge in Silver
Posted by Eddy Elfenbein on November 18th, 2015 at 12:47 pm
The decline in silver has managed to do something impressive — it’s gotten even worse. The price of silver has fallen for the last 15 days in a row, and it looks to make it #16 today.
I once heard that slot machines are specifically designed to fall in the psychological sweet spot for the human brain. You win just often enough to keep playing but lose just enough to make the game a loser for you. I think commodity investing works the same way. Commodity investing seems to be defined by very large spikes followed by long, slow declines.
Check out the silver chart going back to 1970:
Thirty-five years after the Hunt brothers tried to corner the world silver market, the metal is still going for much less than it did at its peak in 1980.
Morning News: November 18, 2015
Posted by Eddy Elfenbein on November 18th, 2015 at 7:06 am
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Will Utility Stocks Rebound?
Posted by Eddy Elfenbein on November 17th, 2015 at 9:13 pm
Utilities have not been doing well this quarter nor this year. Part of the reason is that investors have factored in an interest rate increase from the Federal Reserve. Investors flock to utility stocks for their generous dividends, but with higher rates, utes will be somewhat less attractive.
Many utilities have also had to spend a large amount of money upgrading their systems. That ain’t cheap. The problem is that the utes have faced a lot of pushback from regulators when they’ve attempted to pass those costs on to their customers. In a low inflation environment, it’s hard to justify those higher costs. Today’s industrial production report showed a 2.5% drop for utility production.
If that’s not enough, utilities are starting to face real competition from solar. Some utilities are trying to diversify and many are moving into solar as well. Whenever a sector has pricing difficulty, you often see the push for mergers. A few weeks ago, Duke Energy (DUK) said it’s going to buy Piedmont Natural Gas for $4.9 billion in cash.
I was on CNBC earlier today to discuss the outlook for utility sector.
October IP = -0.2%
Posted by Eddy Elfenbein on November 17th, 2015 at 11:09 am
One negative report this morning came from the Federal Reserve. Industrial production for October dropped by 0.2%. Wall Street had been expecting an increase of 0.1%. On the plus side, the numbers for August and September were revised higher.
The stock market is largely unchanged today. We’re seeing some strength in homebuilding-related areas. Home Deport and Lowe’s, for example, are solid gainers today. Walmart is also up. The giant retailer beat estimates by five cents per share.
Interestingly, the Walmart earnings report might as well be a quarterly government report on consumer spending and inflation.
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