Thursday, July 10, 2014 - If It’s Not One Thing…

If It’s Not One Thing…
by Sinclair Noe

DOW – 70 – 16,915
SPX – 8 = 1964
NAS – 22 = 4396
10 YR YLD - .01 = 2.53%
OIL + .59 = 102.88
GOLD + 8.70 = 1336.30
SILV + .32 = 21.52

We start today with the hottest stock in the world: CYNK Technology, ticker CYNK.  It is a one person company, which has something to do with a website, with headquarters in Belize, maybe. There is no indication of revenue, possibly about a million in losses. It had been trading for a couple of pennies, and then for no apparent reason it started trading higher. After closing at 6 cents on May 15 it began its surge with a 3,650% jump to $2.25 on June 17. The stock climbed as much as 49% to $21.95 earlier today in over-the-counter trading on volume of more than 380,000 shares before erasing its gain to close down 5.5% to $13.90, and a market cap of a little more than $4 billion. How and why did this happen? Nobody seems to have an answer, but I think it would be a very, very bad idea to do anything with this stock, just to be clear.

Se nao e uma coisa e outra coisa.

Which is Portuguese for “if it’s not one thing, it’s another thing.”

I’m sure somebody in Lisbon was fully aware of what was going on, and they were waving their arms and screaming about the bank that was ready to implode; and nobody paid any attention because there was so much else happening around the world. Iraq is fractured, bombs are flying in Israel, Germany is expelling a US spy, the Italian economy looks wobbly, Libya, Ukraine, Nigeria, Thailand, China. Pick a global hot spot, pick ten global hotspots, and I bet Portugal is not on the list.

Here’s the story: Espirito Santo International is a big conglomerate in Portugal; they missed a payment on some short-term debt this week. So, a couple of subsidiaries got clobbered, Espirito Santo Financial Group shares down 9%, and Banco Espirito Santo shares down 17%. Trading was halted.  The credit rating agency, Moody’s, cut the corporate credit rating to junk status, which is basically closing the barn gate after the cow gets out.

While I make no claim to any particular knowledge of the Portuguese banking system, the consensus is that this problem should not create a meltdown scenario; however, there has been a singe factor. Borrowing costs for Greece, Spain, and Italy bounced a bit higher. Again, this is not earth shaking, but it did cause a brief flash of realization that the banking problems of the past few years have not been corrected.

A couple of years ago the European Central Bank developed a plan for dealing with sovereign debt crises, the OMT or Outright Monetary Transactions program, but it has never been used and it probably wouldn’t apply even if the situation in Portugal started to create a meltdown scenario. So the fear out of Portugal is something called the “doom loop”; that’s the cycle in which weak banks lean on governments for support, draining public finances, which in turn drags down the banks with them.

A couple of years ago,ECB President Mario Draghi bought some time when he declared the central bank would do “whatever it takes”, and then they did nothing. So it was like a whiff of smoke that reminds you that never bought fire extinguishers, even after that little explosion in 2008, and the Greece fire in 2011.

And so, European stocks took a hit today, and that spread over to Wall Street, where the Dow Industrials started the day with a 180 point dip, until traders remembered – it’s Portugal. And then they decided that a little pullback following a 6 week rally was to be expected and Banco Espirito Santo is nothing to fear, even if you don’t have a fire extinguisher.

So, with the long-term memory of a dog chasing a squirrel, we move on to our next topic. After all, we live in a mobile-first and cloud-first world. So says Satya Nadella, the CEO of Microsoft; no he’s not the guy trying to buy the LA Clippers, he’s the guy who replaced Steve Ballmer. Nadella has sent out a really long email to all Microsoft employees outlining his vision for Microsoft. Over the years, Microsoft made a very large amount of money serving the PC world. Its Windows operating system and Office software generated the vast majority of its sales and profits, but now the personal computer is going the way of the typewriter. Microsoft used to talk about “a computer on every desk and in every home,” a vision it clearly succeeded in delivering. But what do you do when you’ve delivered that vision?

So Nadella writes: “Computing is ubiquitous and experiences span devices and exhibit ambient intelligence. Billions of sensors, screens and devices – in conference rooms, living rooms, cities, cars, phones, PCs – are forming a vast network and streams of data that simply disappear into the background of our lives. This computing power will digitize nearly everything around us and will derive insights from all of the data being generated by interactions among people and between people and machines. We are moving from a world where computing power was scarce to a place where it now is almost limitless, and where the true scarce commodity is increasingly human attention.”

There are a couple of interesting phrases in the mission statement from Nadella; he writes, “computing is ubiquitous” and also “ambient intelligence”. The idea that computers are ubiquitous is fairly easy to understand; just look around you; you probably have a smart phone close at hand; if you are in an office, you still have PCs, and don’t forget the computers in the printers and telephones, and thermostat, and electric meter. If you are driving right now, your car is a computing marvel. And if you are at home, check out the computer in your refrigerator, and dishwasher, and a dozen other gadgets and appliances. Another name for ubiquitous computing is the “internet of things”.

And the idea here is to connect machine to machine, and machine to human, and then human to human. We’ve been talking about that for a long time. The computers would be embedded in almost everything and everything would communicate seamlessly with everything else. We’re not there yet, but if you have questions about the internet of things, just ask Siri or Cortana.

All that computing power means we are surrounded by an ocean of data. The exploration of that data constitutes what Microsoft researchers call the “fourth paradigm”, exploration of data to discover new and interesting results to power a new generation of artificial intelligences. Microsoft Research head Peter Lee recently talked about some of the AI breakthroughs that were powering the new tools. Discussing the concept of “transfer learning,” he revealed that by training a speech recognition neural net on multiple languages, its performance improved with each new language, even on previously trained languages.

There are already apps that can infer context from our emails and documents and then deliver information we need, or might need, when we need it. We’ve already seen this in marketing and advertising; based upon your searches, the data programs can figure out whether you are getting married, pregnant, planning a vacation, or looking for a job; and then they deliver advertising that should grab your fancy and even calculate the probability of a purchase, putting the supply chain in motion, ready to send out drones to deliver your package with same day delivery, or even within the hour. It’s a little like the waiter anticipating when you want a coffee refill; that sounds like a simple task but it is incredibly complex and requires understanding the differences between correlation and causation. Computers are not good at that, but they’re getting better, or maybe they’re getting smarter.

As computing becomes more and more ubiquitous all those little computers, embedded in almost everything, are gathering data; and the neural networks are analyzing the data – watching and learning, and the data eventually becomes information, and the information becomes knowledge. And we end up with collective wisdom. At least that’s the idea.

We’re closer than you think. We already know that computing power grows exponentially. Moore’s Law basically says that technology performance indicators double every 18 months, which leads to incredible innovative applications only slightly bogged down by social acceptance. Not every innovation makes it into common usage because of concerns about privacy, lack of trust, reliability, or just information overload. Somewhere there is a huge scrapyard of abandoned apps.

There is an even larger ocean of smaller and more powerful embedded computers monitoring our actions and data and trying to figure out where we want to go, and then trying to figure out how to help us get stuff done. That’s the benign version. The version will a little less sugar coating involves a complete loss of privacy and subjugation before the robot overlords. Then again, in a world of CYNK Technology and Portuguese doom loops, maybe we deserve robot overlords.

Microsoft will have an earnings call next week, and we’ll likely learn more then. Today’s six page memo was big on building productivity, but that might also mean pink slips for many Microsoft employees; after all there are bound to be some redundancies following the Nokia acquisition. Nadella writes that "We will reinvent productivity to empower every person and every organization on the planet to do more and achieve more." But for all the talk of a brave new mobile first, cloud first world, don’t expect Microsoft to abandon the Xbox game console; it’s a money maker. Still, it is a fairly bold new direction for Microsoft, maybe the biggest vision change since Bill Gates ran the place.

Wednesday, February 05, 2014 - Another Perfect Day

Another Perfect Day

by Sinclair Noe

DOW – 5 = 15,440
SPX – 3 = 1751
NAS – 19 = 4011
10 YR YLD + .04 = 2.67%
OIL + .11 = 97.30
GOLD + 3.20 = 1258.60
SILV + .39 = 20.00

Yesterday on the Review we talked about the Congressional Budget office report. For a while this morning, the Internet was hopping with job-killing hype, when in fact the truth was vastly different. Obamacare’s impact, the CBO concluded, would lessen the supply of labor by encouraging certain folks not to work: “The estimated reduction stems almost entirely from a net decline in the amount of labor that workers choose to supply, rather than from a net drop in businesses’ demand for labor, so it will appear almost entirely as a reduction in labor force participation and in hours worked. . . .”

That’s different than what most of the media was saying today. And then a funny thing happened; some reporters actually read the report, and the headlines changed just a little:

 Wall Street Journal earlier: Health-Care Law Expected to Take Greater Toll on Workforce

Wall Street Journal now: Health Law Seen Leading to Some Loss of Labor

Talk Radio News Service earlier: Obamacare Will Cost 2.5 Million Jobs: Report

Talk Radio News Service now: 2.5 Million Will Exit Work Force Because Of Obamacare

National Review earlier: The CBO Just Nuked Obamacare

National Review now: The CBO Just Nuked Obamacare

The CBO never, ever reported that Obamacare would somehow or other kill more than 2 million jobs. The CBO’s estimate is mostly the result of an analysis of the impact of the law on the supply of labor. That means how many people choose to participate in the work force. Some people might decide to work part-time, not full time, in order to keep getting health-care subsidies. Thus, they are reducing their supply of labor to the market. Other people near retirement age might decide they no longer need to hold onto their job just because it provides health insurance, and they also leave the work force. Still other people might leave the job they have now and start their own business.

The fastest growing demographic segment of the population currently starting new businesses is people age 65 and older. Why? Two reasons: one, nobody will hire them so they create their own work; two, they qualify for Medicare and so they aren’t locked into an existing job for health care coverage. They didn’t just develop an entrepreneurial urge overnight.

Under questioning today before the House Budget Committee, CBO director Douglas Elmendorf confirmed that in reality, his report suggests Obamacare will reduce unemployment: The CBO report found that Obamacare, through subsidizing health coverage, would reduce the amount of hours workers choose to work, to the equivalent of 2.5 million full-time workers over 10 years. This was widely spun by as a loss of 2.5 million jobs. Actually it lowers the participation rate and the unemployment rate.

Obamacare’s impact will be on labor demand, rather than supply. On page 124, the CBO report estimates that the ACA will “boost overall demand for goods and services over the next few years because the people who will benefit from the expansion of Medicaid and from access to the exchange subsidies are predominantly in lower-income households and thus are likely to spend a considerable fraction of their additional resources on goods and services.” This, the report says, “will in turn boost demand for labor over the next few years.”

Elmendorf testified that when you boost demand for labor in this kind of economy, you actually reduce the unemployment rate, because those people who are looking for work can find more work, and this would actually reduce unemployment. Later in his testimony, Elmendorf confirmed that the subsidies from Obamacare would reduce the incentive to work, and that this could reduce economic growth.

The CBO report raises a bunch of interesting questions and we’re not really certain of all the outcomes. If, as CBO predicts, the decline in work is driven almost entirely by a decline in labor supply, the upshot might actually be higher wages. Workers will choose to work fewer hours; since firms won't be any less interested in hiring, they'll have to pay more per hour to get those workers in the door. The positive wage effect should be concentrated among low-skill workers, who will face the greatest discouragement to work from Obamacare, and therefore will be able to command the greatest wage increases in order to keep working.

The CBO has been busy, and there are some interesting numbers they’ve run. For example, the CBO is projecting that the federal government will take in $16 billion from health plans that are essentially making a profit on the exchange, and will redistribute $8 billion to other insurers running a loss. That means $8 billion in net savings for the federal government. So any legislation that seeks to repeal the Obamacare bailout will need to be scored as increasing the deficit, and need to presumably include $8 billion in payouts to offset revenue loss.

As I said yesterday, make your adjustments based upon whatever reality you choose.

Who knows? That’s why I find this economics stuff so much fun. Here’s another example from an article by Edward Hadas, writing about deflation; Christine Lagarde, the IMF Director, says deflation is an “ogre which must be fought decisively.” Lagarde did not explain why she thought deflation was so dangerous. Most likely, she had three commonly-made arguments in mind.

First, deflation might make a tragic debt cycle more likely. The fear is not totally irrational; a generalized price decrease can lead to economic disaster: prices fall, debts go bad, banks collapse, businesses fail, desperate workers take pay cuts and then companies cut prices even more. The downward spiral lasts until something happens – war, anarchy or a new monetary order.

The second purported reason to worry about deflation is the prospect that gently falling prices might reduce consumption. Rational people, economists say, will hold onto a dollar until the eagle grins as they wait for even lower prices. Maybe, but consider the sharp, predictable declines in the price of electronic goods. They have not noticeably hurt sales. Mild deflation might lead a few canny shoppers to delay some purchases, but the prospect of paying 1-2 percent less a year down the road is a pretty weak motivation for restraint.

Finally, Lagarde might be concerned that deflation limits the ability of central bankers to provide helpful stimulus. After all, policy interest rates cannot easily go below zero, as theory would dictate they should when the economy under-performs while prices are falling. In reality, the policy interest rate is rarely powerful and never the only available tool.

Of course, some rate moves can change the economic balance, but the statistical evidence suggests that monetary policy is less important than many other financial and economic forces. The economist Edward Prescott, a Nobel prize winner, even claims that “it is an established scientific fact” that the Federal Reserve’s monetary policy has had “virtually no effect on output and employment.”

That’s probably not quite accurate; the Fed has had an effect, just not a positive effect that extends to Main Street. In any case the authorities have other ways to influence the economy. They can print new money, as the Fed is doing. Alternatively, they can change financial regulations, taxes or government spending. At worst, mild deflation would force central bankers and their political masters to be more creative.

Why are we even talking about deflation? Two reasons; first is the domestic story. The acceleration in US GDP growth seen during the second half of 2013 has given support to FOMC and market expectations of stronger growth in 2014. As currently reported, annualized GDP growth has risen from a sub-par 1.8% in the first half of 2013 to a decidedly above-trend 3.7% for the second half of 2013. If sustained, such a growth pace would not only argue for a rapid end to the tapering process, but also initial steps towards raising interest rates.  The problem is that the acceleration in growth experienced through 2013 has not come about from domestic end demand (on which the US typically depends), but rather the accumulation of inventories and, to a lesser extent, a contribution from net exports.

The impact of inventory accrual was most obvious in Q3 when it contributed 1.7ppts to the 4.1% annualized headline. This was followed by a further 0.4ppt contribution in Q4 as stocks were accumulated at an even faster clip into year end. Periods of rapid inventory accumulation are almost always fleeting, with end demand and supply inevitably brought back into line, one way or another.

The other reason to consider the effects of deflation come from Europe. Eurozone inflation eased to 0.7 percent in January, from 0.8 percent in December. Disinflation, caused by stagnating consumer demand, saps growth and weakens the currency by reducing the appeal of euro-denominated assets; at least that’s the theory. The European Central Bank meets tomorrow and there’s speculation President Mario Draghi will either cut rates to near zero or announce alternative measures such as bond purchases. Or he might just say he’ll do “whatever it takes” but he’ll say it louder.

Yesterday, Microsoft announce they were promoting Satya Nadella, a veteran company insider, as its new CEO. Along with Nadella's new role, Microsoft also announced that co-founder Bill Gates had quit his job as chairman of the board and would serve as Nadella's advisor on technology and product selection issues. Apparently Bill Gates’ first day on the job in his new role as a technology advisor got off to a rough start as Nadella and Gates spent several tense hours behind closed doors trying to install the Windows 8.1 update.