• CWS Market Review – October 20, 2017
    Posted by on October 20th, 2017 at 7:08 am

    “Intelligent investment is more a matter of mental approach than it is of technique.”
    – Ben Graham

    This week’s issue will be all about Buy List earnings reports. We had four this week, and we have eight more coming next week. Busy times! I’ll run down them all in just a bit.

    Before I get to that, though, I’ll briefly touch on some market news this week. On Tuesday, the Dow broke 23,000 for the first time ever. Then on Wednesday, it closed above 23,000. In the last 20 months, the Dow has added 7,000 points.

    The recent industrial production report showed an increase of 0.3%. Some of that was impacted by the hurricanes, but we now have strong evidence that the hurricanes didn’t cause as much economic damage as initially feared.

    Last Friday, we learned that consumer confidence rose to a 13-year high. Also, retail sales rose by 1.6%. That was the biggest jump in 2-1/2 years, but it was largely due to the hurricanes holding back the previous month’s report.

    On Thursday, the initial jobless claims report fell to a 44-1/2-year low. Reuters quoted an economist as saying, “It doesn’t take one hundred Ph.D economists at the Fed to figure out that the labor market is on the tight side of normal.” The odds for a December rate hike are now up to 88%.

    Now let’s look at our earnings.

    Four Earnings Reports on Thursday

    We had four Buy List earnings reports on Thursday morning, and all four beat Wall Street’s expectations.

    Let’s start with the best news. Danaher (DHR), the diversified manufacturer, reported Q3 earnings of $1.00 per share. That topped Wall Street’s forecast by five cents per share. Previously, the company told us to expect Q3 earnings to range between 92 and 96 cents per share.

    In July, Danaher raised its full-year guidance range to $3.85 to $3.95 per share. In last week’s issue I said, “there’s a decent chance they’ll revise that higher next week.” I was right. Danaher raised its full-year guidance to a range of $3.96 to $4.00. Working out the math, that means they expect $1.12 to $1.16 per share for Q4. I’m impressed by that guidance.

    This was another solid quarter for Danaher. The shares gained more than 4.7% on Thursday. Danaher remains a buy up to $90 per share.

    Three months ago, Alliance Data Systems (ADS) beat quarterly estimates but lowered its full-year guidance. Frankly, I was a little nervous about this week’s report. Fortunately, ADS reported Q3 earnings of $5.35 per share which easily beat Wall Street’s forecast of $5.04 per share.

    The loyalty-reward folks posted revenue of $1.91 billion which was below Wall Street’s consensus of $1.97 billion. I was pleased to see ADS reiterate its guidance of $18.10 per share for this year and $21.50 per share for 2018.

    In Thursday’s trading, shares of ADS dropped more than 5% at the open. As the day wore on, buyers came back and the stock closed up 1.9%. ADS remains a buy up to $252 per share.

    In recent issues, I’ve said that Signature Bank (SBNY) is one of the better bargains on our Buy List. On Thursday, the bank reported Q3 earnings of $2.29 per share. That was 10 cents better than Wall Street’s consensus.

    I think Wall Street is scared of the bath Signature took on its taxi-medallion loans. The truth is that it’s bad but manageable. For Q3, the increase in profits was helped by a big decrease in the provision for loan losses. A lot of that was due to Signature’s taxi-medallion business in Chicago. The medallion loans are painful, but SBNY is moving past them.

    For Q3, Signature’s net interest margin was 3.05%. Total assets rose 9.4% to $41.33 billion. Business is clearly getting better for Signature, but it will take time. The shares gained a little over 1% on Thursday. I’m keeping my Buy Below on SBNY at $130 per share.

    Wall Street wasn’t exactly thrilled with Snap-on’s (SNA) results for Q2, but Q3 was better. Snap-on made $2.45 per share for Q3 which was two cents better than estimates. There’s still some lingering weakness in their tool division. All told, organic sales rose 2.3%. Not much to say on this one. Business is good, but not great. Like ADS, Snap-on dropped in early trading on Thursday. At one point, SNA was down 3.2%. By the close of trading, it was up 1.74%. I’m keeping my Buy Below on Snap-on at $161 per share.

    Eight More Reports Next Week

    Next week is going to be a very busy week for Buy List earnings reports. We have two reports on Tuesday, another two on Wednesday and four more on Thursday.

    Let’s look at what’s in store.

    On Tuesday, Sherwin-Williams (SHW) is due to report Q3 earnings. The stock has quietly turned into a big winner for us. It’s up 44.2% YTD.

    Even though the stock has been rallying, the last earnings report was not very good. Sherwin badly missed analysts’ estimates, but that’s due to the costs associated with their merger with Valspar.

    For Q3, Sherwin said they see earnings coming in between $3.70 and $4.10 per share. But that includes $1.10 per share in costs related to the acquisition. Wall Street had been expecting $4.91 per share.

    For all of 2017, Sherwin now expects earnings to range between $12.30 and $12.70 per share. That will include $2.50 in charges related to the acquisition. Wall Street had been expecting $14.76 per share.

    In July, Wabtec (WAB) had a crummy earnings report. It was their fourth miss in the last five quarters. Wall Street had been expecting 94 cents per share but WAB made just 75 cents per share.

    That was just a bad report all around. For all of 2017, Wabtec now expects sales of $3.85 billion and EPS between $3.55 and $3.70. That’s a reduction from their April forecast of $3.95 to $4.15 per share. Wall Street expects Q3 earnings of 84 cents per share.

    So what went wrong? Basically, the environment for their business is pretty bad right now. Wabtec said there was $250 million in sales they had expected during Q2 that never showed up. Frankly, I’m not pleased with WAB’s performance this year. Over the summer, the shares were north of $93. Now, they’re near $75.

    I hope to see some improvement in this report.

    On Wednesday, AFLAC and Express Script are due to report. In July, AFLAC (AFL) said to expect Q3 earnings to range between $1.51 and $1.69 per share. That assumes the yen averages between 105 and 115. Just going by the chart, the yen seemed to average about 112 or so last quarter.

    For all of 2017, AFLAC expects earnings of $6.40 to $6.65 per share. That’s based on a yen of 108.7. I was a little surprised that the company didn’t raise its forecast. Maybe we’ll get it this time. On Thursday, shares of AFL closed at a new all-time high.

    Express Scripts (ESRX) has been a problem for us this year. Their topic client, Anthem, just announced that they’re going to take their pharmacy business in-house. I honestly didn’t think that was going to happen, but it was always a possibility. For their part, Express isn’t keeping still. They recently said they’re buying EviCore for $3.6 billion.

    This is an important earnings report for them. For Q3, Express said they expect total adjusted claims of 340 million to 350 million, and earnings of $1.88 to $1.92 per share.

    In July, Express raised its full-year earnings of $6.95 to $7.05 per share. That represents an increase of 10% over last year. Unfortunately, the shares took another hit after the latest Anthem report. As a result, on a strict valuation basis, Express is pretty cheap. It’s going for about eight times this year’s estimate. Still, I’d like to see better news from them.

    We have four more earnings reports next Thursday. Axalta Coating Systems (AXTA) will be interesting to watch because they bombed their last report. Some of that was due to the mess in Venezuela.

    Axalta doesn’t provide per-share guidance, but for 2017, they see adjusted EBITDA between $940 million and $970 million. They expect free cash between $440 million and $480 million. Since the last earnings report, the shares have mostly been stuck between $28 and $30 per share.

    Cerner (CERN) has turned into a home run for us this year. Through Thursday, Cerner is up 53.7% on the year for us. For Q3, the healthcare IT firm expects revenue between $1.265 billion and $1.325 billion and EPS between 61 cents and 63 cents. For all of 2017, Cerner sees revenue between $5.15 billion and $5.25 billion. In July, Cerner narrowed its full-year EPS guidance from $2.44 – $2.56 to $2.46 – $2.54.

    Microsoft (MSFT) also just closed at a new all-time high. The software giant has been banging out solid numbers in the last few quarters. For Q2, their Azure revenue rose by 97%, and Office 365 saw revenue increase by 43%. Although LinkedIn brought $1.07 billion in revenue, it had an operating loss of $361 million. The consensus on Wall Street is for Q2 earnings of 72 cents per share which is exactly what MSFT made for last year’s Q2.

    On Wednesday, shares of Stryker (SYK) briefly touched $150. For Q3 earnings, the orthopedics company sees a range of $1.50 to $1.55 per share. For full-year EPS, they expect $6.45 to $6.55.

    That’s all for now. The big story next week will be about earnings. There are, however, a few economic reports to look out for. On Wednesday, we’ll get the durable goods report along with the new-home sales report. But the biggest economic report will come on Friday when the government releases its first estimate for Q3 GDP growth. Most observers expect something around 2.5%. 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!

    – Eddy

  • Morning News: October 20, 2017
    Posted by on October 20th, 2017 at 6:49 am

    Trump’s Fed Finalists Should Clear Senate, With a Bit of Drama

    Senate Approves Budget Plan That Smoothes Path Toward Tax Cut

    Trading Firms Fear Mutiny on MiFID Rule Demanding Passport

    A Boom in Credit Cards: Great News for Banks, Less So Consumers

    United’s CEO Conducts a Master Class on Spooking Wall Street

    Walmart Looks to See If Virtual Shopping Is Better Than The Real Thing

    Slow Down, Superman Ghosn

    SoftBank Seen Climbing 36% as Son Clarifies Tech Vision

    Daimler Profits Hit by Costs of Diesel Emissions Recall

    Australia Mourns the End of Its Car Manufacturing Industry

    Tech Companies to Lobby For Immigrant ‘Dreamers’ to Remain In U.S.

    Wall Street’s Robots Still Have a Lot to Learn About Being a Human Trader

    Josh Brown: An Evening in Wonderland

    Mark Hines: Are Momentum Trades Better Than Dip Buying?

    Michael Batnick: They’re All Going to Leave

    Be sure to follow me on Twitter.

  • Jobless Claims Hit 44-1/2-Year Low
    Posted by on October 19th, 2017 at 4:01 pm

    From Reuters:

    The number of Americans filing for unemployment benefits dropped to its lowest level in more than 44-1/2 years last week, pointing to a rebound in job growth after a hurricane-related decline in employment in September.

    The labor market outlook was also bolstered by another report on Thursday showing a measure of factory employment in the mid-Atlantic region racing to a record high in October. The signs of labor market strength could cement expectations that the Federal Reserve will raise interest rates in December.

    “It doesn’t take one hundred PhD economists at the Fed to figure out that the labor market is on the tight side of normal,” said John Ryding, chief economist at RDQ Economics in New York. “At this point, we would expect a sharp bounce-back in employment growth in October.”

    Initial claims for state unemployment benefits fell 22,000 to a seasonally adjusted 222,000 for the week ended Oct. 14, the lowest level since March 1973, the Labor Department said. But the decrease in claims, which was the largest since April, was probably exaggerated by the Columbus Day holiday on Monday.

  • 30 Years Ago Today
    Posted by on October 19th, 2017 at 1:33 pm

    Thirty years ago today, shares of $AAPL plunged from $1.72 to $1.30 (adjusting for splits). Today, they’re at $155. Berkshire Hathaway fell from $3,890 to $3,170. Today, it’s at $280,000. The 30-year Treasury was yielding 10.25%. Now it’s at 2.83%.

    Here’s FNN from that day.

    Here’s that weekend’s Wall $treet Week.

  • Morning News: October 19, 2017
    Posted by on October 19th, 2017 at 7:05 am

    Could the 1987 Stock Market Crash Happen Again?

    Zhou Warns China Should Defend Against Threat of ‘Minsky Moment’

    Europe’s Fastest-Growing Economy Could Be Headed for Trouble

    British Retail Sales Slip Amid Household Income Squeeze

    Trump Selects Washington Lawyer Joe Simons to Head FTC

    Everyone’s Mad at Google and Sundar Pichai Has to Fix It

    F.D.A. Approves Second Gene-Altering Treatment for Cancer

    Want a Piece of Ford’s $28 Billion Hoard? Don’t Hold Your Breath

    Blue Apron Says It Cut 6% of Workforce for ‘Future Growth’

    Here’s the $30 Billion Startup You’ve Probably Never Heard Of

    Why Spam Is Now Under Lock-And-Key At Oahu Stores

    Nissan Suspends Local Car Production for Japan for Two Weeks

    Does Ken Chenault Deserve a Better Sendoff Than Jeff Immelt?

    Roger Nusbaum: Indexing: Valid But Flawed

    Jeff Carter: Coase Rules

    Cullen Roche: Cryptocurrencies Are Non-Financial Collective Equity, Financial Wisdom Part Deux – Factor Investing, Financial Wisdom Part Three – Funny Money

    Be sure to follow me on Twitter.

  • Finding an Undiscovered Factor
    Posted by on October 18th, 2017 at 1:24 pm

    Here’s the latest entry in Tadas Viskanta’s Blogger Wisdom:

    Question: Assume you have discovered an equity return factor that is both previously unknown and uncorrelated with other factors. What would you do to monetize that insight?

    Here’s a sampling of answers:

    Ben Carlson, A Wealth of Common Sense, @awealthofcs, author of Organizational Alpha: How to Add Value in Institutional Asset Management:

    Setting up a hedge fund and leveraging that factor would seem to make sense but that just opens you up to competition. I guess the best thing to do would be to set up an index and license it out to all of the smart beta ETF and mutual fund providers and be the gatekeeper on it.

    Eddy Elfenbein, Crossing Wall Street, @eddyelfenbein:
    Discovering the factor is just one step. That doesn’t mean it has a trend of any sort, either up or down. Plus, if it’s truly uncorrelated, then it’s only value is at the service of diversification. Personally, I would build an index or ETF to monetize it.

    Morgan Housel, Collaborative Fund, @morganhousel:
    First I’d double check my math. Then I’d give it to the 10 smartest people I know and ask them to rip it apart. Cherry picking is rife in the backtest world.

  • Anthem Goes It Alone
    Posted by on October 18th, 2017 at 1:19 pm

    It’s finally happened, and I didn’t think it would. Anthem has broken with Express Scripts decided to start its own drug plan.

    Health insurer Anthem Inc. plans to set up its own pharmacy benefits management unit, signaling a final break with Express Scripts Holding Co. after accusing it of overcharging by billions of dollars.

    The move means Express Scripts will not only lose its biggest client but also face a new rival. Anthem’s new unit, called IngenioRx, will grow its own business with a “full suite” of services, the insurer said in a statement on Wednesday.

    Anthem said it had also secured a five-year agreement with CVS Health Corp. — the operator of a pharmacy benefits manager that is Express Scripts’ biggest competitor — that goes into effect after its current contract with Express Scripts expires at the end of 2019.

    The pharmacy benefit management business has been under pressure from all sides. Lawmakers in Washington have been asking how PBMs — which act as middlemen administering complex drug contracts and negotiating prices — make their profits. Drugmakers have blamed PBMs for consumer outrage over the high cost of medicine in the U.S. And analysts have speculated that Amazon.com Inc. is eyeing the industry as ripe for disruption.

    Express Scripts said it has already been taking steps to mitigate the fallout from Anthem’s exit. The news is “not unexpected, but is disappointing,” said Brian Henry, an Express Scripts spokesman.

    Shares of ESRX are up about 2.5% today.

  • Morning News: October 18, 2017
    Posted by on October 18th, 2017 at 7:03 am

    EU Air Safety Body Urges Halt on Use of Kobe Steel Products

    Whatever the Rule, Investors See Taylor Turning Fed Hawkish

    White House Push to Help Workers Through Corporate Tax Cut Draws Skepticism

    US Authorities Charge Rio Tinto With Fraud & Rio Tinto’s Scramble for Africa

    Taiwan Ministry Expresses ‘Deep Concern’ About Qualcomm’s Antitrust Fine

    IBM Roars In Premarket Trading After Blowout Q3 Cloud Sales

    J.P. Morgan to Buy Payments Firm WePay in First Major Fintech Acquisition

    How the Frightful Five Put Start-Ups in a Lose-Lose Situation

    Self-Driving Cars Could Come to Manhattan

    Nordstrom Shelves Its Months-Long Plan to Go Private

    J&J Wins Reversal of First St. Louis Talc-Cancer Verdict

    George Soros Transfers Billions to Open Society Foundations

    Josh Brown: Just Own The Damn Robots.

    Ben Carlson: Risk Perception vs. Risk Profile

    Howard Lindzon: The Nikkei and The 1987 Crash – A Historical Market Week

    Be sure to follow me on Twitter.

  • September Industrial Production +0.3%
    Posted by on October 17th, 2017 at 2:24 pm

    This morning, the Fed reported that industrial production rose by 0.3% last month. They also revised August up to -0.7%. The Fed said that number for September was dinged by 0.25% due to the hurricanes.

  • What Caused the 1987 Crash?
    Posted by on October 17th, 2017 at 1:02 pm

    So what caused the big crash 30 years ago? The official answer was program trading. But Gary Alexander at Navellier Market Mail says it was political mistakes.

    On October 19, 1987, 30 years ago, the stock market fell 22.6% in one day – almost twice the decline of the previous worst day on Wall Street, which was Monday, October 28, 1929 – the now-forgotten Black Monday between Black Thursday (October 24) and Black Tuesday (October 29). What caused this crash?

    The answer seems like “settled science.” Investopedia says, “The cause of the stock market crash of 1987 was primarily program trading.” Barron’s (“Computers in Control,” October 16, 2017) says the culprit was “portfolio insurance, a quantitative tool designed to use futures contracts to protect against market losses.” This, they said, creates “a poisonous feedback loop as automated selling begat more of the same.”

    I beg to differ. Saying that a market crash is caused by computerized trading is like saying the California wildfire was caused by a localized fire that spread fast. But what sparked the fire and fueled its growth?

    Let me offer a longer-term, three-stage explanation – using three “P” words. In chronological order, the core cause of the crash was Prosperity (rapid GDP growth and a huge 50% market surge in the previous year), exacerbated by Politics (a series of bone-headed mistakes, mostly by Congress, a Secretary of State, and a rookie Fed Chairman), and then Panic, when fear stalked the market floor, creating a selling frenzy.

    Blaming computers focuses only on the final panic day, paying no attention to what caused the record declines in two of three previous trading days (October 14/16) and what made Monday much worse.

    In short, the market crashed in mid-October 1987 because it had risen too far too fast, based on rising prosperity caused by two major tax cuts, the 1981-82 Kemp-Roth tax cuts and a major 1986 tax rate cut.

    The first thing to remember about historic panics is that they generally follow parabolic increases during “manic” episodes of over-hyped greed. In the biggest crashes last century, namely 1907, 1929, 1987, and 2000, the market was already too high, but then it shot 50% higher in a year or so. Back in 1985 and 1986, the market was rising to all-time highs almost every month. Then it took off in a hockey-stick rise:

    On October 22, 1986, a year before the crash, President Reagan signed the Tax Reform Act of 1986 into law. The top rate was cut dramatically from 50% to 28%, giving us the closest thing to flat taxes we’ve seen in the last century. The Dow Jones index was 1805 on October 21, 1986, but it rose 50.8% in 10 months, to 2722 on August 25, 1987, based in part on the euphoria over those drastic tax rate cuts.

    Going back further, the Dow had risen 250% in five years after the first Reagan tax cuts. The GDP was soaring each year in the mid-80s, starting with a huge 7.8% real gain in 1983. After a deep recession in 1981-82, real GDP rose 25 years in a row (1983-2007) with the mid-80s (1983-88) averaging +4.8%.

    Political Mistakes – not Economic Fundamentals – Panicked the Market

    When the market crashed in 1987, there was no fundamental reason for the crash. There was no recession in sight; earnings were strong, and inflation was under control, but the rapid rise in stock prices had created fears of an exploding bubble. Specifically, there were widespread fears of a recession, slower earnings, and rising inflation, when there was virtually no evidence for any one of those three major fears.

    Right before the market peak, on August 11, 1986, economist Alan Greenspan was sworn in as Chairman of the Federal Reserve Board. Within a month, on September 4, Mr. Greenspan made a rookie mistake, firing a pre-emptive strike against relatively tame inflation by raising the Discount Rate 50 basis points. The Dow fell 62 points on that news, while the Prime Rate rose from 8.25% to 9.25% by early October.

    Then, another political blunder emerged on Wednesday, October 14, 1987, when a tax bill was introduced in the House Ways and Means Committee that would severely limit tax deductions for interest paid on debt used to finance mergers or hostile takeovers (which had been running rampant throughout 1987).

    Bonds had already fallen 13% in the previous six months, but the bond market got hit particularly hard that week. On Friday, Treasury bond rates rose to over 10% and contributed to Friday’s record down day.

    On Saturday, U.S. Secretary of the Treasury James Baker III told the Germans to “either inflate your mark, or we’ll devalue our dollar.” Then, Baker went on some of the Sunday morning talk shows to say the U.S. “would not accept” the recent German interest rate increase. An unnamed Treasury official added that we would “drive the dollar down” if necessary. This led European markets to fall on Monday.

    In summary, blunders by two political appointees caused the 1987 crash. First, the rookie chairman of the Federal Reserve Board, Alan Greenspan, made it his first order of business to announce his presence by raising the Discount Rate. Then, Secretary of the Treasury James Baker talked tough to the Germans about the dollar, causing global markets to crash. Between Baker’s currency wars, Greenspan’s tight money, a new tax bill that punished businesses, and more threats of protectionist legislation, the problem was too much, not too little, federal government intervention in a fairly smoothly-running economy.

    In the morning after the crash, Greenspan tried to undo all the damage he had helped to cause. He cut the Discount Rate to where it was before he took office. As a result, Tuesday, October 20, 1987 set a record for the largest single-day gain (102.27 Dow points) and a 55-year record for daily percentage gain (+6%). Both records were then decimated on Wednesday, October 21, with a 10.1% gain of 186.84 Dow points.

    After the crash, Congress reversed itself on their corporate tax grab. They reduced the corporate income tax rate from 40% to 34%, giving business a firmer footing for their financial planning, resulting in stronger earnings growth and net GDP growth the following year. For all of 1987, the Dow actually rose 2.2% and we reached a new all-time high within two years – as if the crash had never happened.

    In 1987, Wall Street feared a drying up of corporate profits, but corporate profits soared in 1988 after the corporate tax rate was sliced from 40% to 34%. This can happen again. Applying all these lessons from 1987, we can (1) create a new boom by lowering personal tax rates (while repealing most deductions). We can also (2) avoid a crash by not punishing businesses for their success, and we can (3) revive a slow economy by reducing corporate taxes and regulations, giving businesses more reasons to expand and hire.

    Could 1987 happen again? It’s not likely now, but a stock “melt-up” following a major tax reform bill this year or next could push the market up too fast. If the Dow rose to 27,000 or higher in a year, that would be too-far, too-fast, but we’re highly unlikely to see a major crash without seeing manic gains at record highs amidst a new wave of panic-buying and greed. We’re nowhere near those manic levels now.