Monday, August 15, 2016

Tell me if you've heard this one "Stocks at all-time highs again..."

So, another day another record as the stock market computer simulation continues its one way march to higher and higher levels.  Since the "catastrophic" Brexit vote in late June stocks have been on a relentless tear higher and have bounced over 10% off the post Brexit lows. 

So, a rational person might ask - wow, what kind of great news is driving this enthusiasm?

Could it be....

* the fact that earnings for the S&P 500 fell about 3% in Q2 on the heels of a 5% decline in Q1 (wait don't we want earnings to be growing?)?

* the fact that companies the S&P 500 have never been more leveraged (ie, they owe more debt relative to their cash flow than at any time in history?)?

* data that shows 8 of the 40 worst months in history for year over year retail sales have occurred in the last 2 years (wait, that doesn't sound good at all)?

* US productivity numbers that fell in the latest quarter dragging the 4 qtr average to 0.175% or basically 0 over the past year (hey, I'm sensing a pattern here - this doesn't sound very good either)?

* the Empire Mfg Survey which slipped back into contraction in the most recent month (contraction is the opposite of growing, right?)?

* signs of a collapsing economy in both China and Japan (oh, I don't like the sound of the word collapsing)?

* tumbling US GDP expectations - down from 3% in January to around 1.6% now?

* climbing oil prices based on hopes and rumors vs. the global oil glut?

 Okay, obviously I'm be a little facetious. The data has been abysmal for the past 6-12 weeks and yet stocks continue to be bid.  The simplest explanation is that there are two pillars holding up the stock markets:

1) The worse things appear in the global economy the more the central banks seem to be willing to do anything to support stock prices.  Unfortunately, there is no model for how to manage the global economy when it's growing 1% and stocks are at all time highs. At some point this experiment will unwind but

2) There is active futures buying occurring every night/morning from 2-3am.  This requires only a little capital to sway the markets that are controlled by algorithmic traders.  Once a direction is established overnight, the programs continue to move the market in that direction after the traditional market open.  Until someone decides to call this buyer's bluff, they recent trend may continue.

It may take something dramatic to move our markets back to a reality based environment but for the time being enjoy the stock market recovery that continues without a true economic recovery.

I'll try to provide a heads up when I think trends are shifting.

Friday, August 05, 2016

Clueless: The Economist's edition

So for the third straight month not a single economist was in the ballpark of the jobs number released this morning.  The magnitude of the "beat" this month will clearly get people excited but since I've been following these reports for close to 20 years I thought I'd share some insight that you might not get from the screaming commentators on CNBC.

Payrolls continue to be driven by voluntary and involuntary part-time work.  This is important because of the way the BLS measures part-time work. If I work job 1 for 15 hrs on the weekend and job 2 for 20 hrs during the week and job 3 for 5 hrs in the evening, most people would say that almost equals a full time job (40 hours) but since the BLS doesn't weed out for duplicate job holders, this person working 3 part-time jobs counts as 3 JOBS for the government statisticians.  It's hard to quantify the impact this is having on the jobs data, but my belief is that the impact is substantial.  As employers look for ways to avoid added costs tied to full-time employees, the percentage of part-time employees has jumped substantially.  However, given our old methods of collecting data I don't believe we're getting an accurate picture of the US jobs market.

We also have to contend with the issue of seasonal adjustments.  Seasonal adjustments make sense as long as they are consistent with those used historically as they allow us to compare July jobs with those in January when the weather impacts are more substantial.  However, this month the BLS seems to have pulled a completely random number out of the air.  The adjustment factor accounted for the majority of this month's outperformance (non-adjusted payrolls added 85,000) and was much more significant than any recent adjustments.  Again, it's too hard for most reporters to provide this level of detail in a 30 second piece on the jobs report but it should give us pause when we see a headline number that varies this much from the underlying data.

Ironically, this "good news" should mean an end of the perpetual panic mode for Central Banks like Federal Reserve and that should remove the bid underneath the stock market.  However, in a very thin Friday session the computers are having their way with the markets and we've pushed through to new highs again (look for a note on how the oil markets were manipulated this week coming soon). 

Thanks again for reading. 

Wednesday, August 03, 2016

Just trust us...

A couple of stories today to highlight the growing reach of corporations and their seemingly never-ending quest to know everything about you.

First, via a group of privacy experts at Princeton comes news that a security flaw that could allow companies to track a user's web traffic via their battery status is actually being used on the web to actually track your user's web patterns.  Some of this is fairly technical but I highlighted the key components.

"Two security researchers from Princeton University have shown that the battery status indicator really is being used in the wild to track users. By running a specially modified browser, Steve Engelhard and Arvind Narayanan found two tracking scripts that used the API to “fingerprint” a specific device, allowing them to continuously identify it across multiple contexts.

 And while it is only tracking scripts using it now, Olejnik warns that unscrupulous actors could do more.

Some companies may be analyzing the possibility of monetizing the access to battery levels,he writes. “When battery is running low, people might be prone to some – otherwise different – decisions. In such circumstances, users will agree to pay more for a service.”

Then comes news that Comcast - one of the behemoths of the cable/broadband industry - 
is arguing to the FCC that "charging consumers more money to opt out of "snoopvertising" should be considered a perfectly acceptable business model."

Comcast is arguing that protecting your own privacy should be a paid luxury option, and stopping them from doing so would raise broadband rates.  So in their version of the world if you would like to not have Amazon, Walmart, UnitedHealthcare, Pepsi, etc., not receive a notice of every move you make online you should have to pay more for your broadband access.  If the FCC were to allow this line of thinking I imagine our beloved TimeWarner/Charter would be the next in line to apply this logic to your monthly bill.

Finally, this story on our favorite little vampire squid - Goldman Sachs - who agreed to pay a whopping $36 million fine for leaking confidential Federal Reserve information to clients.  This begs the questions

a) Um, why the **** does Goldman Sachs have "access to confidential Federal Reserve" information?

b) How much incremental business and revenue was derived by Goldman by leaking this information?

However, I'm sure hitting them with a fine of 0.1% of revenues or roughly 5 large bonuses will really teach them a lesson.


I'll have some thoughts on an increasingly dangerous set up we are facing in the global markets soon.

Friday, July 22, 2016

Keep on truckin'

I read are really good article this week that explains how the markets have become an incredibly large computer simulation that is virtually devoid of fundamental focus.

While I won't go into all the details here, I think it is a very interesting theory and one that I would love to see us test some day. 

Anyway, the point I'm trying to make is that we continue to separate from reality in the markets.  The latest example of this lies in a little followed stat called Class 8 truck sales.  These are large trucks used to make long hauls across the US.  In the latest data published for June, Class 8 orders were down 8% from May of 2016 and down 34%!! from June 2015 to their worst levels since June 2009.

Every time orders for these trucks has slipped 30-40% year over year a recession has commenced within 6 months.  I'm not yet ready to predict a US recession but I think it is very possible that by the time we head to the polls in November, we will be in a recession.

Given this backdrop remember that stocks are basically the most expensive they've ever been on a variety of metrics.  They say that they don't ring a bell at the top of the markets but I hear a lot of ringing in my head.

Mind the Non-GAAP

I think one of the cardinal rules of blogging is to never delve into the world of accounting or you risk losing like 97% of your readers but here goes...

We have a crisis in the financial world that is going under-reported.  The burgeoning industry of Non-GAAP earnings reports.  To begin with, let's define GAAP - Generally Accepted Accounting Principles - which dictates how companies and their CFOs recognize things like revenues, expenses, etc.  Without a common language and standards it is very hard to compare to companies.  These standards have been in place for roughly 75 years and while there is a move to adopt the more globally accepted International Financial Reporting Standards (IFRS), for the time being GAAP is still the standard for good corporate citizens.

Well, about 8 years ago a couple of trends started to emerge:

1) Tech startups with lumpy revenues and expenses started trying to smooth their income statements by reporting certain costs as "non-recurring" and reporting earnings as Non-GAAP. 

2) Large industrial players started charging off huge costs as one-time restructuring fees and also started reporting earnings as Non-GAAP.

The two poster children for these techniques are Solarcity in the tech world and Alcoa in the industrial world.  The problem with these definitions is that the companies and their investors have become addicted to the beautiful non-GAAP results that can be posted quarter after quarter. Consider that in the last 12 months Alcoa had a net loss according to GAAP of $500 million.  However, they reported $1 billion of "non-recurring, restructuring charges" and published a "non-GAAP" PROFIT of roughly $500 million. 

Now when it comes to issues like paying taxes or begging for another bailout from NY State, Alcoa will clearly point to their $500 million loss, but when they talk to investors they just say abracadabra and POOF! Hey, look at that we made $500 million last year!!

Now when it was just a weird solar panel company run by Lex Luther or a bit player in the aluminum market I let it slide but in the past few weeks here is a short list of the obscure companies that have reported Non-GAAP  nonsense -

Johnson & Johnson

These aren't startups or companies where liberal accounting should be the norm.  These principles are called GENERALLY ACCEPTED for a reason and the media and the investing public should demand more from public companies.

I believe that we could draw more attention to this issue if we started calling non-GAAP numbers by a new name which reflects that the numbers are in fact the opposite of Generally Accepted:

"Q1 EPS rose 12% according to Abnormal Accounting Principles"

"While GAAP revenue fell 2% it actually rose 6% according to the company's use of Questionable Accounting Principles"

To the SEC's credit they are starting to get more active in discouraging the use of non-GAAP reporting but until the media and analysts team up to ignore these faux reports, companies will keep up the non-GAAP games.

Okay - that's enough accounting talk for the next 6 months :)


Friday, July 15, 2016

We hold these truths to be self-evident...

that stocks and bonds cannot correlate forever.

Okay, so I'm paraphrasing a bit.  However, we are in the midst of a historic sequence in the markets which either:

a) will mean that every basic principal of investing is no longer valid or

b) will eventually reverse course

The premise that I'm referring to is that equities (stocks) are bought because they are a bet on future growth prospects.  You buy stocks when you think there will be increasing income earned by these stocks which will be reinvested to grow the business or returned to shareholders in the form of dividends.

You buy US government bonds as a safe haven in the storm when the economy is sending warning signs of recession and you are focused on capital preservation.

Well, the yield (interest rate) on the 10 year US Treasury bond fell to it's lowest level ever last week.  Not the lowest level of the decade or the past 20 years......EVER. 

This implies to those that studied ECON 101 that the prospects for the US economy are not very strong (the previous low was set during a period from 1940-45, the heart of the Great Depression).

Okay, but stocks also surged back to record levels in the US this week so clearly the prospects for earnings and dividends must be soaring as well, right?

Notice how these three measures moved in unison until the February stock market rescue.  Since that time earnings expectations for the S&P 500 have continued to tumble while stocks have resumed their meteoric rise. 

I often lament the loss of fundamental focus in the markets but this chart really conveys that message better than anything I could say or write.  While the traditional media likes to report to you the daily moves in the S&P and the Dow know that those numbers no longer correlate to what is happening in the real world. 

So, the question we have in front of us is - are bonds correct in telling us the global economy is unraveling or are stocks correct in telling us that everything is awesome? 

I'll try to offer some answers in a coming post.


Wednesday, July 13, 2016

Celebrate Good Times, Come On!!!

I've held off commenting for a bit because there is just so much information to share that I didn't know where to begin.  I'll do my best to chip away at a variety of topics over the coming weeks while trying not to flood your inbox with random updates.

Lions and Tigers and Brexit, Oh my...
Three weeks ago the world was told to hold its collective breath because the UK might be voting to leave the EU.  The night before the vote the gambling books in the UK (which are thought to have predictive powers) went sharply "all-in" on the Remain side of the bet.

Subsequently, reviews of those books seems to indicate that it was a few large bettors trying to move the market.  The thinking seems to have been "Hey, if we bet enough on REMAIN that it makes it seem like we have inside knowledge.  That will be reported widely and it will discourage the LEAVE voters from even coming to the polls."

The first half of that equation was correct - it was reported far and wide before the vote that "Remain seems all but a certainty based on late betting". However, the trouble with democracy is that you still have to actually have a vote and the LEAVE campaign pulled off the win with roughly the same percentages that were predicted in polls two weeks before the vote.

Uh-oh.  Didn't the Prime Minister of the UK David Cameron say that Brexit could effectively lay the groundwork for a new world war and waves of genocide around the globe?  The "Remain" camp had actively spread a campaign of fear that was focused on political, economic, social and societal upheaval if "Leave" won the vote.

Then, just when everyone expected a global market collapse, what happens?  The sharpest rally in the global markets in years.  7-10% around the world in two weeks!!!

If there is one consistent theme that I hope you've learned from my blog it is that when EVERYONE is certain of X, you can be assured that Y will happen. Markets were certain to collapse after the Brexit and instead the S&P and Dow have now hit new all-time highs.

Now as for WHY that is happening and what it means for the future...tune in tomorrow.

Tuesday, April 19, 2016

What a long strange road it's been...

I thought I'd take a moment to revisit what has transpired in the global markets over the past two months because it really has been unprecedented.

Back in mid-February the global markets were sitting on a razor's edge.  From a technical perspective if stocks fell another 1% they looked like they might fall 50%.  This technical backdrop was coupled with a fundamental picture that was deteriorating across the globe.  China, technology, oil, energy, pharma, everything was (maybe is??) entering a slowdown at the same time.  This had all of the hallmarks of a major 2008/2009 meltdown lining up again.

And then just as it seemed the stars had aligned something changed almost overnight.  The key catalyst that started the market's historic surge from February (up 14% in 2 months - roughly an 85% annualized rate of return) was the bounce in crude oil prices.

If you remember in February we were starting to see the first signs of retail gasoline prices cracking the $2.00 mark.  West Texas crude oil was hovering around $31/ barrel and the outlook was grim.  The world is awash in oil right now and central bank policies have encouraged many countries and companies to expand capacity beyond what the market can bear.  These companies and countries  need to keeps pumping oil to make their debt payments but this supply issue is coupled with another major problem -- the growth in demand for oil is falling right now.  Okay, so in a logical world you would say - supply is growing, demand is falling the price of this product should continue to decline.  However, we no longer operate in a world dictated by logic.

The oil markets are now heavily influenced by the same electronic trading platforms that have made a mockery of our stock markets.  These trading bots, for lack of a better term, are scanning every headline for a hint on the direction of crude oil.  Conveniently, at the moment when oil prices and the US stock market were on a razor's edge word began circulating that OPEC was going hold a meeting to discuss a production freeze in April.

The problems with this concept are many -

1) OPEC members are notorious cheats.  They say they will only produce X, yet they will produce x+10%.

2) OPEC's influence is waning in light of US/Canadian/Russian production.

3) You have to get parties that don't particularly like one another (Iraq, Iran, UAE, Saudi Arabia) to agree to terms.

However, the rumor of a meeting set off a buying frenzy in the oil markets which ultimately spread to other commodity classes (Why? No one knows, why ask questions, just BUY!!!).  This is an oversimplification but there are many stock programs that see the world through a simple lens of "if/then" relationships.

Since, oil prices were up that must mean demand was going up, right?

And if demand is going up, that means the global economy is picking up steam and that must mean stocks are set to rebound so....


Now, there have been other catalysts that have played a role - the Fed's unclear messaging, Japan's panic move to negative interest rates, etc - but the most significant and consistent driver of the oil and stock markets has been this idea that oil prices were going higher.

Every day brought a new rumor - "Russia says......", "Iran says......." "Saudi minister says......" and every headline brought more buyers.  Then a funny thing happened - they met this weekend and the result was no agreement on production.

Wait, WHAT!?!?! So, the 15% bounce in stocks and the 30% bounce in oil prices that were all driven by the premise of a major agreement on reducing supply has been a fraud?  Obviously, this means oil prices and stock prices are set to plummet, right?

Again, we are trying to apply logic to an illogical world.  Yes, the immediate reaction by the humans in the market was to sell both oil and stocks (oil slipped 5% and some global markets were off 3% immediately) but as the programs started kicking in around 9:45 am yesterday it was clear that this was not your father's market.  Stocks and oil prices ripped higher for the rest of the day until the Dow managed to end above 18,000 for the first time in 9 months.

So, that's the back story of the past 2 months, but let's consider what is going on in the US right now.

* Q1 GDP estimates are around 0.3% to 0.5% growth.  That's a round error away from being in contraction.  Seven years into the "recovery" the US is growing at about 1/10th of what would be considered healthy.

Well, you might say Q1 2014 and Q1 2015 were weak as well - true, but remember we blamed that weakness on a polar vortex and East Coast blizzards.  Who can we blame for this weakness in the wake of the warmest winter in 20 years?

*Freight shipments are weak and trailing even weak first quarters like 2015 and 2014.

* Look at some of the early results from huge US companies - IBM, Morgan Stanley, Goldman Sachs - the disconnect between these results and a stock market that is within a whisper of its all-time high is strange.

* I continue to believe that the real price of oil given the current supply/demand picture should be around $25/barrel.  When evaluating a forecast like that you have to ask yourself are you a bigger believer in the power of market fundamentals or Central Bankers?  The Central Banks have had a much more significant role over the past 7 years but over the past 100 years I'd say that fundamentals tend to win out.

To summarize - I'm feeling a little like Don Quixote at the moment because I know certain things to be true but the markets are telling me that what I know is wrong every single day.  Eventually, that may change but until then I'll be out tilting at windmills.


PS - I wrote this late at night and my spell check isn't working so please excuse any errors :)