Friday, August 15, 2014 - Don't Worry

Don’t Worry

by Sinclair Noe

DOW – 50 = 16, 662
SPX – 0.12 = 1955
NAS + 11 = 4464
10 YR YLD - .06 = 2.35%
OIL + 1.49 = 97.07
GOLD – 8.40 = 1305.50
SILV - .31 = 19.65

For the week, the Dow rose 0.7%, the S&P 500 gained 1.2% and the Nasdaq climbed 2.2%.

The Federal Reserve said factory production jumped 1.0% last month after rising 0.3% in June. That was the largest gain since February and reflected increases across all major categories. Auto production surged 10.1%, the biggest rise since July 2009. There were also solid gains in the production of machinery and computers and electronic goods; yesterday we talked about the importance of capex and business spending; maybe we’re seeing signs of that.

Or not. In a separate report, the New York Fed said its "Empire State" general business conditions index fell to 14.69 this month from 25.60 in July.

A preliminary August reading on the University of Michigan/Thomson Reuters consumer-sentiment index fell to the lowest level in 9 months, 79.2 down from a final July level of 81.8.

Producer prices, or prices at the wholesale level increased 0.1% in July, with 0.5% growth for transportation and warehousing prices; goods prices were unchanged; food prices rose 0.4%; energy prices dropped 0.6%. Overall producer prices rose 1.7% over the 12 months that ended in July, down from June’s annual-growth rate of 1.9%.

But the economic news carried little weight today, as attention once again focused on geopolitics. That might not be totally accurate; Wall Street looks at geopolitical hotspots but it can’t hold their focus. A new survey of institutional money managers around the world by Bank of America Merrill Lynch has found a sudden surge in worry and fear, and a rise in the number buying “protection” against a crash; which means derivatives such as put options or credit default swaps.

Money managers are worried about the markets and the Fed raising interest rates and geopolitical events and the baggage retrieval system at Heathrow, and so, over the past month they have raised their cash positions from 4.5% to 5.1%. Which doesn’t sound very defensive; in fact, it sounds like money managers are still excessively bullish on stocks.

Yesterday Russian President Putin talked about how he wanted to avoid confrontation in Ukraine. Last night a Russian armored column crossed the border into Ukraine; they started firing artillery at Ukrainian forces, which exchanged shellfire. Ukrainian President Petro said a "significant" part of the Russian column had been destroyed. Russia's government denied its forces had crossed into Ukraine. NATO said there had been a Russian incursion into Ukraine but would not go so far as to call it an invasion.

After Ukraine reported the invasion, Russia's ruble weakened against both the dollar and the euro. Russian shares were also dragged lower. International markets moved lower. European Union governments warned they are ready to expand sanctions against Russia if the conflict in Ukraine intensifies.  US markets initially moved lower. The yield on the ten year treasury dropped 6 basis points to 2.35%; Treasuries are usually considered a safe haven. The yield on German bunds, or 10 year bonds, dropped under 1%. The escalating clash is now haunting the European economy, already on the brink of fresh recession, with a string of southern states in debt-deflation.

All of a sudden, the euro crisis is back, though in truth it never really went away. The latest economic figures from the eurozone make bleak reading. Across the eurozone, which is struggling to get banks lending to businesses, economic growth is expected to be 1.1% this year. All three of the euro area’s biggest economies — Germany, France and Italy — are failing. Germany’s output actually fell in the second quarter. Italy is suffering through a triple dip recession. The French economy has stagnated. Analysts expect it to grow by less than one per cent this year. Italy has dropped back into recession, or maybe it never got out of recession. The closest thing approximating good news was that Spain's dead-cat bounce recovery continued with 0.6% growth. But it still has 24.5% unemployment. The eurozone economy is still far smaller than six years ago, by about 1.9%; unemployment is in double figures and debt burdens in some areas are high.

In June, the ECB cut its key interest rates and introduced a new program of cheap loans to banks that are intended to be passed on to businesses. Some economists say the European Central Bank should go further and engage in large-scale purchases of public and private debt to reduce borrowing costs and add to the money supply. ECB President Mario Draghi is under fire to do more to resuscitate growth. He, in turn, argues that “monetary policy can only achieve so much, with government reform required to do the heavy lifting,” and he is probably right, but there doesn’t seem to be much appetite for reform. Monetary stimulus is simply not remotely an adequate substitute for government spending. Even the austerian IMF has been forced to acknowledge that fact.

The Ukraine crisis has drawn the EU into an economic confrontation with Russia, which is not only the principal supplier of energy to many eurozone countries but is also a significant trading partner and export market for European goods. This is hardly designed to improve the economic outlook, and the eurozone remains too weak to withstand external shocks. And Eurozone weakness was already in place before the most recent economic sanctions against Russia; the unfortunate reality is that nobody really knows how Russian sanctions will play out. There will be costs associated with sanctions; many of them unexpected.

Next week, the Federal Reserve will hold its annual Jackson Hole retreat. Janet Yellen will speak on labor markets. The labor market has improved but still looks weak. Various Fed officials have various theories on the labor markets, but not much in the way of solutions, and so, not surprisingly, they have different views on Fed policy.

Jeremy Stein left the Fed Board of Governors earlier in the year to return to a teaching gig at Harvard. Last week Stein said whatever the Fed does, we can expect less financial stability. Stein says that the process of exiting QE and raising interest rates has “no real precedent”. Yellen devoted an entire speech to the subject of financial stability last month at the IMF, where she said the Fed had devoted “substantially increased resources” to monitoring stability and acknowledged that the Fed’s low-interest rate policy had spurred “households and businesses to take on the risk of potentially productive investments.” But, she went on, “Such risk-taking can go too far, thereby contributing to fragility in the financial system.”

Yesterday, St. Louis Federal Reserve President James Bullard said he believes financial markets are probably mistaken if they’re counting on Fed interest rate increases to occur more slowly than policy makers forecast. Bullard says the Fed will raise the interest rate target in the first quarter of 2015. Bullard said: “We’re way ahead of where we expected to be” in terms of the Fed’s employment mandate, and “If that strength continues in the second half of the year here, then the conversation on a little more hawkish direction of monetary policy will heat up.”

Today, Minneapolis Fed President Narayana Kocherlakota offered a contrasting view, saying: “The FOMC is still a long way from meeting its targeted goal of price stability” because of excess slack in the job market, and “progress in the decline of the unemployment rate masks continued weakness in labor markets,” which would keep the inflation rate below the Fed’s 2% target until 2018. Kocherlakota pointed to the participation rate among people between the ages of 25 to 54, the prime working years; another especially significant” measure of slack is the “historically high” percentage of workers who would like full-time jobs but can only find part-time work. The U-6 unemployment rate, a broad measure of unemployment that includes people working part time because they can’t find full-time jobs rose to 12.2% in July after declining one percentage point over the first six months of the year.

One of the biggest changes in the US labor market over the past two decades has been the increasing number of people working over the age of 55. From the end of World War II until the early 1990s, a smaller and smaller share remained in the labor force but since the 1990s that trend reversed. In 1993, only 29% of people that age were in the labor force. The vast majority were retired. But participation has been rising and by 2012 more than 41% of people in that age group were still in the labor force, the highest since the early 1960s. Clearly, something has changed about people’s attitudes toward retirement. A survey from the Federal Reserve last week provided some clues. Around 21% of people said their plan for retirement is simply “to work as long as possible” and the number of people giving this response increases by age.

In addition to the Fed’s get-together in Jackson Hole, next week’s economic calendar includes minutes from the Fed’s July 30^th FOMC meeting; on Thursday we’ll get a report on July existing home sales from the National Association of Realtors; Tuesday brings an update on July housing starts. Housing starts tumbled 9.3% in June. The Labor Department will release the consumer price index report on Tuesday; the CPI measures inflation at the retail level; it’s been running near 2%, more or less.

Tuesday, August 05, 2014 - Go Firgure

Go Figure

by Sinclair Noe

DOW – 139 = 16,429
SPX – 18 = 1920
NAS – 31 = 4352
10 YR YLD - .01 = 2.48%
OIL - .86 = 97.43
GOLD + .40 = 1289.60
SILV - .39 = 19.84

We start with a couple of economic reports: The Institute for Supply Management’s services index rose to 58.7 last month, the highest level since December 2005, from 56.0 in June. A reading above 50 indicates expansion. Orders jumped to a 9 year high. A sub-index gauging services industry employment also rose as did order backlogs, but export order growth moderated.

In a separate report, the Commerce Department said orders for manufactured goods increased 1.1% in June, more than reversing May's 0.6% decline. Orders for non-defense capital goods excluding aircraft hit a record high; this might indicate a renewal in business confidence and equipment spending plans. Factory orders rose across all categories, with bookings for electrical equipment, appliances and components recording their largest gain since November 2010. In another sign of strength, unfilled orders saw their largest rise in seven months.

So, a couple of good reports on the economy, and the stock market tumbles. Go figure.

The situation in Ukraine appears headed to a tipping point. Ukrainian forces have been pushing back against Russian backed separatists in eastern Ukraine. Meanwhile, Russia is massing troops on the border. Some 20,000 troops are now stationed about 50 kilometers from the border, closer than they had been stationed previously. In April, Russian President Vladimir Putin had briefly deployed about 40,000 troops at the border. The latest troops include Russian Elite forces, armored brigades, artillery and anti-aircraft units. Poland’s foreign minister thinks Russia is preparing to invade Ukraine; he didn’t flat out say an invasion was imminent, just that the Russians are getting ready.

Putin has ordered his government to prepare retaliatory measures against US and European economic sanctions imposed on Russia. We don’t know what Putin means by retaliatory measures. Russia may limit or ban flights over Siberia by European carriers bound for Asia as a response to sanctions levied against the country. Russia has also called for the UN Security Council to hold an emergency meeting on the humanitarian situation in Ukraine. It isn’t a humanitarian situation when the pro-Russian rebels shoot a plane full of civilians out of the sky, but it is a humanitarian situation when the rebels start getting their butts kicked.

One thing that hasn’t happened yet is a disruption in oil and gas supplies from Russia to Europe. Russia derives half its tax revenue from the oil sector; Europe relies on Russian supplies. As the weather changes and winter sets in, Europe’s resolve, which has already been soft, will weaken further. For now, energy prices are moving lower, despite violence in Eastern Europe, Libya, and Iraq. Global oil demand has been running below supply over the last few months, building up a glut of high quality crude oil in the West African, European and Asian markets. The US Energy Information Administration reported last week that gasoline supplies rose by 400,000 barrels at a time when market bulls hoped to see a reduction. Oil prices are at their lowest levels since February.

Yesterday we told you about the collapse of Portugal’s Banco Espirito Santo; today we report on the fallout. The French bank Credit Agricole held a 14% stake in Banco Espirito Santo and two seats on its board. Crédit Agricole's ties to the Portuguese group go back to 1986 when it helped the Espírito Santo Group set up Banco Internacional de Crédito. Over the years, the French bank raised its stake in the Portuguese group, as part of a larger international expansion plan in southern Europe.The French bankers say they never detected any “slip or difficulties” at Banco Espirito Santo. The collapse of the Portuguese bank nearly wiped out all the second quarter profits at the French bank.

Standard & Poors today announced that it was dropping its 10-year estimate of annual GDP growth in the US from 2.8% to 2.5%, which over a decade amounts to a pretty significant reduction. Why are they cutting the growth forecast? Here’s what S&P says: "Our review of the data, as well as a wealth of research on this matter, leads us to conclude that the current level of income inequality in the U.S. is dampening GDP growth, at a time when the world's biggest economy is struggling to recover from the Great Recession and the government is in need of funds to support an aging population... At extreme levels, income inequality can harm sustained economic growth over long periods. The U.S. is approaching that threshold...."

S&P analysts say it basically boils down to the idea that high levels of income inequality cause more affluent households to save more of their increasing income rather than spend it, and as that cash is withdrawn the economy slows. At the other end of the economic scale, as income declines, households go into debt to try to maintain their standard of living, a strategy that is simply unsustainable over time. And when the unsustainable ceases to be sustained, you get a breakdown, much like that of 2008. In fact, S&P notes, as income inequality increases, an economic system becomes more and more vulnerable to a boom-and-bust cycle. It cites research demonstrating that income distribution plays a much more important role in sustaining long-term economic growth than any other factor.

Although the issue of income inequality is often addressed in moral terms, S&P concludes, at its foundation it is really an economic issue, saying: "A rising tide lifts all boats … but a lifeboat carrying a few, surrounded by many treading water, risks capsizing."

Earnings reporting season:

Retailer Target cut its second quarter earnings estimates due to higher promotions and more discounting; they also lost about $148 million related to that data breach, where hackers gained access to customer credit card info; that’s a small number compared to total sales at Target, but it apparently proved a costly distraction. Morgan Stanley reduced its second quarter earnings by 2 cents per share due to increased legal settlements. Disney posted better than expected earnings; shares moved just a smidge higher in after-hours trading. Cablevision cut back on its promotions and subscriber losses doubled in the second quarter. First Solar posted profits that missed estimates by a wide margin; they blamed project delays. Groupon fell in after-hours trading after posting a second quarter loss nearly triple the loss from a year ago. Zillow announced a second quarter loss, even as revenue increased; and they raised their full year revenue outlook. This was Zillow’s first quarterly report since they announced a $3.5 billion deal to acquire rival Trulia.

Time Warner and Fox both report earnings tomorrow, but the big news came today. Fox withdrew its offer for Time Warner. Game over. When Fox made the hostile bid, its stock dropped and Time’s stock soared; meanwhile Time’s board and management opposed the takeover and refused to discuss the offer. Now that Murdoch has dangled a huge windfall in front of Time Warner shareholders, only to take it away, one imagines that some of those shareholders may soon be venting their frustration to Time Warner's board and management.

Several America corporations have found a loophole in the tax code, which allows for a company to acquire a partial interest in a foreign company, and then change the address of its headquarters in order to evade US taxes; it’s called an inversion. There have been 22 such deals since 2011, most have been in the pharmaceutical industry, where overseas sales generate significant income that cannot be brought back to the US without suffering a major tax hit; but there have also been inversion deals in the media, consumer and manufacturing sectors. Some of those deals have collapsed, amid disputes over price and political scrutiny.

Walgreens was next on the list; closing in on a deal to buy the 55% of British pharmacy retailer, Alliance Boots; Walgreens already owns 45% of Alliance Boots. Walgreens will buy out Alliance Boots, but it won’t move its corporate headquarters abroad and it will not change its corporate citizenship to a lower tax country. They say they won’t do the inversion move because they would have had to renegotiate an existing agreement, and Alliance Boots wasn’t willing. There may also have been some political pressure.  President Obama has denounced tax inversions as unpatriotic and has urged Congress to stop them; which is like asking a Kleenex to stop a freight train. So, now the Treasury Department says there may be an executive order to provide a partial administrative fix, you know, until Congress gets back from its 5 week vacation.

As Ebola spreads, pharmaceutical giants are sitting this one out. That's mainly because treating a disease that affects a relatively small number of people who typically don’t have a lot of money doesn’t offer a great return on investment. It's unclear how much profit it would take to get Big Pharma interested in finding an Ebola cure, but right now such a project could well be a money-loser. Instead, small biotech firms, academics and government agencies are leading the search for an Ebola cure. And in a twist of fate, they may have found a way to treat the virus: tobacco.

A tiny San Diego-based company provided an experimental Ebola treatment for two Americans infected with the deadly virus in Liberia. The biotechnology drug, produced with tobacco plants, appears to be working. Mapp Biopharmaceutical produced an experimental drug called ZMapp, an antibody that had been tested only on infected animals; now it’s been given to human patients, and it seems to make a big difference. The antibody work came out of research projects funded more than a decade ago by the U.S. Army to develop treatments and vaccines against potential bio-warfare agents, such as the Ebola virus.

The tobacco plant production system was developed because it was a method that could produce antibodies rapidly in the event of an emergency. To produce therapeutic proteins inside a tobacco plant, genes for the desired antibodies are fused to genes for a natural tobacco virus. The tobacco plants are then infected with this new artificial virus. The infection results in the production of antibodies inside the plant. The plant is eventually ground up and the antibody is extracted. The whole process takes a matter of weeks.

Friday, August 01, 2014 - Jobs, Mainly

Jobs, Mainly

by Sinclair Noe

DOW – 69 = 16,493
SPX – 5 = 1925
NAS – 17 = 4352
10 YR YLD - .05 = 2.50%
OIL - .32 = 97.88
GOLD + 13.70 = 1295.20
SILV - .09 = 20.40

The first Friday of each month brings us what I consider one of the most important economic reports we can cover, the jobs report; and so we provide comprehensive (wonkish) coverage.

The economy added 209,000 net new jobs in July. The unemployment rate moved up to 6.2% from 6.1%. Even though the economy added jobs, more people joined the labor force, and that is why the unemployment rate moved higher. The 209,000 new jobs was below estimates of about 230,000. The report from June was revised from 288,000 to 298,000; the May report was revised from 224,000 to 229,000 for a net 15,000 in upward revisions.

Employment is up 2.57 million year over year. We have regained the jobs lost in the downturn, and total employment is 639,000 above the pre-recession peak. Total employment is up 9.35 million from the lows of the recession, and private employment is up almost 9.9 million from the lows; the difference reflects the job losses in government related jobs.

So far this year an average of 229,000 new jobs a month have been created. That’s a significantly higher pace than in 2010 when a mere 88,000 jobs a month on average were added. Since the start of the year the economy has added 1.6 million jobs.  At the current pace, the economy could add 2.75 million jobs this year, which would be the best year for total and private job growth since 1999.

This was the sixth month in a row with more than 200,000 jobs added, and that hasn’t happened since 1997. It was probably a bigger achievement 17 years ago, because the economy and the labor force was smaller back then, but the employment recovery has been chugging along through a first quarter that was frozen by the polar vortex and rebound in the second quarter. And the private sector has been adding jobs consistently since the first quarter of 2010.

The unemployment rate was up to 6.2%. The jobless rate can rise for both good reasons (more people looking for work) and bad reasons (fewer people having a job). This month, more people were looking for work. The Labor Force Participation Rate increased to 62.9% in July; this is a measure of how many people who are of working age are actually in the labor force and working or looking for work. The idea that the pool of labor is increasing is a positive; the idea is that some people who have been unemployed for a long time are now finding jobs. The trend in employment growth remains more than strong enough for the unemployment rate to keep trending down, even though the rate rose a tenth this month

Part of the decline in the participation rate was due to demographics; many older workers retired, whether they wanted to or not, while many younger workers stayed in school or returned to school. So, it’s helpful to look at people aged 25-54, in their prime working age; among this group, the participation rate declined slightly; this confirms that younger and older workers were jumping back into the labor pool.  Still, the employment to population rate, which measures the country’s population that reported having a job in July was unchanged at 59%, a number that was up only barely from its 58.7% level of a year ago.

There are still more than 3.1 million workers who have been unemployed more than half a year. And there are just over 7.5 million people working part-time for economic reasons. These workers are included in an alternate measure of unemployment known as the U-6, which includes unemployed and underutilized workers; U-6 increased from 12.1% to 12.2%.

Many people think the U-6 is a more accurate measure of the jobs market, but let’s dig a little deeper. There are 9.6 million people unemployed and actively looking for a job. There are more than 2 million people who have stopped looking for a job within the past year. When you start adding all the unemployed workers who want a job, plus involuntary part-time, plus discouraged workers, you come up with about 23 million people that could possibly move into the labor pool. There is still massive slack in the labor market, and it will take a long time to take up the slack. For now, it is a slow, steady slog.

Where is the job growth coming from? Professional and business services added 47,000 jobs. Retail employment gained 27,000 jobs. Manufacturing added 28,000 jobs last month but the sector has recovered only 30% of the jobs lost during the recession. Construction added 22,000 jobs. Leisure and hospitality gained 21,000. Education and health services added 17,000. Government added 11,000. State and local government employment is now up 151,000 from the bottom, but still nearly 600,000 below the peak. Federal government jobs have dropped by 22,000 since the start of the year. The loss of government jobs is one of the major factors in the slow jobs recovery. In previous downturns, government did not have layoffs, and sometimes increased hiring. In this downturn government jobs were cut in a wave of austerity measures.

Even though the economy has been adding jobs, it has not been enough to push a recovery in wages. In July, average hourly wages rose a penny to $24.45, a disappointing result after strong gains in June and May. In 23 of the past 24 months, the yearly increase in hourly pay has ranged from 1.9% to 2.2%, or about one-third less than usual during an economic recovery. The 12-month increase in wages as of July was just 2%; and inflation wiped out about three-fourths of that gain. There’s been no change since the start of 2014. While it might seem counterintuitive that wages are flat while jobs are being added, the likely reason is that there are a lot of poor paying jobs plus a few very good paying jobs. The average length of the workweek for private sector workers was unchanged at 34.5 hours.

Stronger than expected US growth figures on Wednesday showed second quarter GDP up 4% on an annualized basis, along with hawkish comments from US Federal Reserve board member Charles Plosser, it prompted fears that the central bank may increase the cost of borrowing sooner than expected. Today’s non-farm payroll numbers were just weak enough to ease concerns about possible tightening from the Fed, yet not so awful as to indicate a downturn. It still points to a job market and an economy that is improving, but there is no real wage pressure and nothing to indicate inflation is a concern.

We had a couple more economic reports today. The Institute for Supply Management said its index of national factory activity rose to 57.1 in July, the highest since April 2011, from 55.3 in June. A reading above 50 indicates expansion in the manufacturing sector.

The Thomson Reuters/University of Michigan's final July reading on the overall index on consumer sentiment came in at 81.8, down from the final June reading of 82.5. The surveyors report that consumers’ attention has been dominated by jobs and income growth.

For the week, the S&P 500 fell 2.7%, its biggest weekly percentage loss since the week ending June 1, 2012, while the Nasdaq fell 2.2%. The Dow ended down 2.8% for the week. The Dow's losses dragged it further into negative territory for the year. For the year-to-date, it is down 0.5%.

Markets have suffered a turbulent few days, hit by a combination of interest rate concerns and growing geopolitical worries. The violence in Gaza also added to the sense of events escalating out of control; a proposed 72 hour cease fire didn’t last one day. An Israeli soldier was captured, and it looks like violence will escalate over the weekend. The week saw Argentina defaulting for the second time in 12 years, while continuing tensions with Russia over the Ukraine led to the imposition of further sanctions which could hit businesses and put the brakes on global growth.

It was a big week for US economic activity, with jobs and GDP statistics and a Fed meeting, but it was European equity markets that took a real tumble. Portugal was a big loser, as Banco Espírito Santo reported the largest-ever loss for a Portuguese company, sending its shares spiraling and prompting probes into possible accounting fraud at the bank.

Portugal’s major stock index dropped 10% for the week. German stocks were hit following stepped up sanctions against Russia, a major supplier of natural gas to Germany; the DAX index slipped 4.5%. Greece, Austria, Spain, UK, and France all saw declines of 3% or more. The major Russian index dropped about 1%.

Europe posted its own jobs report. Eurozone unemployment dropped to 11.5%, which is absolutely horrible, but getting better. Meanwhile, the region continues to flirt with the prospect of deflation, with euro zone wide prices rising a scant 0.4% in July from the prior year. So, there is still plenty the ECB can do to stimulate the economy over there.

Meanwhile, Congress is calling a 5 week recess, an extended summer vacation, which even Europeans think is excessive. They managed to get a few things done before running away. They passed a $16 billion VA bill to help deal with extensive treatment delays and a recent record-keeping scandal. They cobbled together a patch for highway funding, just a temporary patch. This Congress has only managed to pass 142 bills into law, which puts the legislative branch on pace for its least productive session in modern history. And now they’re heading out for a 5 week vacation. Maybe we’ll get lucky and they won’t come back.

Friday, July 25, 2014 - Hot and Dry

Hot and Dry
by Sinclair Noe

DOW – 123 = 16,960
SPX – 9 = 1978
NAS – 22 = 4449
10 YR YLD - .04 = 2.47
OIL - .13 = 101.94
GOLD + 13.30 = 1308.20
SILV + .35 = 20.82

For the week, the Dow is down 0.8%, the S&P is flat and the Nasdaq is up 0.4% in its second straight weekly rise.

In economic news, durable goods orders were up 1.4% in June, but May’s numbers were revised lower to show a 1.2% decline. Shipments of core capital goods fell 1%. Core capital goods shipments are used to calculate equipment spending in the government's gross domestic product measurement. The government will release its first snapshot of second-quarter GDP next Wednesday. The economy contracted at a 2.9% rate in the first three months of the year, with business spending on equipment falling at a 2.8% rate.

Investors have been selling junk bonds. In the past week investors pulled $2.3 billion from junk bond funds. That marked the biggest outflow since June 2013, when the Fed was hinting about tapering. The high-yield market has pulled back in recent weeks, sending prices lower and yields higher. The bond market is not as liquid as it once was; trading volume is down across the board, and trading desks have been cut back, meaning a big sell-off could look more like a run on bonds.

Yesterday we told you about Amazon.com’s earnings report, or more specifically, a lack of earnings. Amazon has a unique business model where they manage to consistently increase sales without actually turning a profit. If it seems like this kind of model has limitations, you are correct, and today Amazon hit the wall. Yesterday’s non-earnings report went from bad to worse as Amazon announced the current quarter will result in bigger losses than the last quarter. The $126 million dollar loss will swell to a $400 million dollar loss, maybe as much as $800 million.

Breaking down the forward guidance, about $410 million of the current quarter loss will be in the form of stock compensation. What makes this even more interesting is that the company lost about $14 billion in market cap today. Jeff Bezos lost $3.5 billion from his personal fortune; Bezos may be an internet visionary, but lacks some basic math skills.

Also yesterday, Visa reported net income for the quarter ended June 30 rose 11 percent to $1.36 billion, or $2.17 a share, from $1.23 billion, or $1.88, a year earlier. Analysts had expected $2.10 a share. Visa’s losses accounted for about one-third of the decline in the Dow today. So, the earnings side was good but the company reduced its revenue forecast for the rest of the fiscal year. One reason for the reduction – Russia. After the US imposed sanctions on Russia, Putin recommended Russia create its own payment system. Visa said that tensions with Russia may affect earnings by “several pennies,” and that headwinds, in the form of lower cross-border volumes, are likely to continue in the short term in international corridors such as Ukraine, Venezuela and Argentina.

The European Union has been holding meetings in Brussels to find agreement over imposing sanctions on Russia over its behavior in Ukraine. They’ve decided to put together an outline on sanctions and get together again next week; the outline would exclude the crucial gas sector.

Following the downing of Malaysia Airlines Flight 17, many Europeans are eager for their governments to do something to punish Putin for fomenting instability in the Ukraine. But the debate over economic sanctions is shining an awkward spotlight on the large and important trade relations between Russia and Europe. Russia is Europe’s gas station, and if Europe decides to stop doing business with Russia, they will have to figure out a new, and likely more expensive way to put gas in the car and to heat their homes.

According to the Energy Information Administration, oil and natural gas accounted for 70% of Russia’s export revenues in 2012; and most of those exports go to Europe; and most of Europe hasn’t figured out how to provide their own energy. Oil reserves in the North Sea are expensive to tap; fracking technology hasn’t happened for a number of reasons; and so Europe depends on Russia for about 30% of its natural gas. Many of Europe’s biggest corporations are directly involved in importing fuel from Russia, and many of Europe’s biggest industries, such as utilities, power-hungry manufacturers, car manufacturers, transportation systems, and anyone else who uses electricity – all rely on fuels imported from Russia.

If the EU were to suddenly grow a spine and just say no to Russian oil and natural gas, it would certainly inflict some short- term pain on Russia, but oil and gas are fungible and the market is global. One of Putin’s first moves was to sign a deal with China to make Russia a major supplier of natural gas. Europe does not have a quick replacement for Russia’s natural gas and winters in Europe can get very cold.

The US does not depend on Russian fuels, however there are a couple of strange side stories coming out of the sanctions. First, is the as-yet-unaddressed need to restart NASA, so we don’t have to depend on Russia for ride sharing to the space station. The other, is that Americans don’t really care much about Russia anyway; last week the US imposed a fresh round of sanctions on Russian companies, including weapons manufacturers. How did patriotic Americans respond? Well, you can no longer buy Kalashnikov AK-47s. Technically you can, you just can’t find any. The move sent American gun buyers into a frenzy, seeking to buy any and all AK-47s on any store shelf.

So, it should come as no surprise that Russia has stepped up its direct involvement in fighting between the Ukrainian military and separatist insurgents, unleashing artillery attacks from Russian territory and massing heavy weapons along the border. So, while the EU considers drafting a new outline of possible sanctions for further possible consideration; Russia may send in the troops.

About 34% of the contiguous United States was in at least a moderate drought as of this week.

Things have been particularly bad in California, where more than 80% of the state is in “extreme” drought, state officials have approved drastic measures to reduce water consumption. California farmers, without water from reservoirs in the Central Valley, are left to choose which of their crops to water. Parts of Texas, Oklahoma and surrounding states are also suffering from drought conditions. East of the Mississippi, rainfall has been rising. But global warming also appears to be causing moisture to evaporate faster in places that were already dry. Researchers believe drought conditions in these places are likely to intensify in coming years.

A new study released yesterday by NASA and the University of California Irvine shows we are losing water at a shocking rate in the West. Using a satellite designed to track changes in groundwater, the research team found that the Colorado River basin—which supplies water to 40 million people in seven states—lost 15.6 cubic miles of freshwater in the last 10 years. From December 2004 to November 2013 the Colorado basin lost nearly 53 million acre feet, or almost double the volume of the nation’s largest manmade reservoir, Lake Mead. (Actually, Lake Mead is no longer the biggest reservoir in the country; a lake in North Dakota takes that honor, as Lake Mead has shrunk.) More than 75% of that loss was due to excessive groundwater pumping. It’s the first study to quantify just how big a role the overuse of groundwater plays in dwindling water resources out West.

How did this happen without anyone noticing it? The answer, basically, is that up until this study, nobody had a good way of measuring how much water is stored underground. And the researchers aren’t certain how much groundwater is left. Water above ground in the basin's rivers and lakes is managed by the U.S. Bureau of Reclamation, and its losses are documented. Pumping from underground aquifers is regulated by individual states and is often not well documented.

In the last seven years, Lake Mead’s dwindling has accelerated. The lake is now just barely more than 1,080 feet above sea level, slightly below its previous record low set in November 2010. Lake Mead is expected to drop another 20 feet into record territory by summer 2016. The low water level is already affecting hydroelectric power production. If the water level drops below 1050, the Hoover Dam might not be able to produce electricity.

Well before then, perhaps as soon as next April, downstream water rationing will kick in—which has never happened before. A 2007 shortage-sharing agreement sets three elevations for which water restrictions will be imposed on the Lower Basin states of Arizona, California, Nevada, and New Mexico. The first shortage level, 1,075 feet, will likely come into effect in the next several months. It would require a total water use cut of 4.4%, with Arizona taking an 11% cut, Nevada a 4% cut, New Mexico 3.3% and California remaining the same.

Right now, Phoenix has officially recorded just over one inch of precipitation since the start of the year; the normal amount is just under 4 inches. The problem is that when above-ground water supplies run low - which is happening now, and it is common in California, even when there isn’t a drought - water managers use groundwater to meet public and farming needs. The study finds that so much groundwater has been used that it will be impossible to recover it naturally; overall supply of available freshwater will continue to decrease as a result.

Wednesday, July 23, 2014 - Another Day Another Dollar

Another Day Another Dollar

by Sinclair Noe

DOW – 26 = 17,086
SPX + 3 = 1987
NAS + 17 = 4473
10 YR YLD un = 2.46%
OIL = 103.12
GOLD – 3.50 = 1305.00
SILV - .06 = 21.01

The Standard & Poor’s 500 index rose to an all-time high, as Apple boosted technology companies and health-care shares rallied through another busy day of earnings reports. The Dow was lower, mainly due to Boeing – we’ll get to that in a moment. Apple hit its highest level since 2012, based on earnings reported after the close yesterday.

Profits at S&P 500 members probably rose 6.2 percent in the second quarter, while sales gained 3.3 percent. Let’s knock out a few earnings reports:

Facebook posted $791 million in net income, or 30 cents a share, compared with $333 million or 13 cents a share in the second quarter of 2013; revenue totaled $2.9 billion compared to $1.8 billion in the year ago period. Mobile advertising represented 62% of its ad revenue; they have figured out Facebook on a smartphone. Facebook now claims 1.32 billion monthly users.

AT&T was once the telephone company, now it’s the second largest US mobile provider; they earned  $3.6 billion or 68 cents per share in the second quarter, down from $3.8 billion or 71 cents per share a year ago; even as revenue increase from $32.1 billion to $32.6 billion.

Biogen Idec rallied 11 percent after raising its full-year forecast, while Intuitive Surgical jumped 18 percent as results topped estimates.

At first blush, Boeing’s numbers looked good; the aerospace giant earned $2.40 per share, easily beating estimates of $2 per share; the company lifted its earnings outlook for the rest of the year. Shares dropped about 2%. Revenue growth disappointed. Commercial airline sales were up less than expected; there was a substantial charge for a military tanker. Boeing is one of the dogs of the Dow – down 7% year to date.

Delta Air Lines said its second-quarter earnings were up 17%, driven by higher passenger and operating revenue as traffic increased. Delta has said it plans to reinvest about 50% of its operating cash flow back into the business, resulting in $2 billion to $3 billion of capital expenditures annually through 2018, with $2.3 billion planned for 2014.

Another day, another General Motors recall; the only difference is that today’s recall does not involve ignition switches; it’s a problem with the seats. Today’s recalls total 717,950 vehicles covering six models; bring the total for the year to about 29 million. If you own a GM vehicle, call the dealer. The problem with ignition switches hasn’t gone away, just that today, it moved to Jeep-Chrysler, which announced nearly 800,000 vehicles will be recalled for ignition switch problems.

Another month, another downward revision from the IMF. In June, the International Monetary Fund forecast US economic growth would be about 3% to 3.5% for the rest of this year, and then they revised forecasts down to 2%. Today, the IMF said US economic growth would be about 1.7%. The IMF says lower growth expectations should contribute to continued slack in the labor market for the next three to four years, with the United States remaining below full employment until 2018.

The IMF says the Federal Reserve could keep its benchmark interest rates at zero beyond the middle of 2015, the date implied by policymaker forecasts, as long as inflation and financial stability concerns remain subdued. Future US growth could be disappointing if interest rates rise too quickly, or if there is a broader and concerted slowdown in emerging markets, or if increasing geopolitical tensions in Iraq and Ukraine prompt higher energy prices and severe financial and trade disruptions. The IMF also warned that an aging US population meant the economy would not be able to grow above 2% long term without significant reforms, including tax and immigration changes, more investment in infrastructure and job training, and the provision of childcare assistance, which could help lure more Americans into the workforce. Even without these measures, the IMF said there is "a strong case" for more government spending to support the economic recovery in the near-term, as long as there is a plan to deal with high entitlement spending later on.

Meanwhile, the IIF, the Institute of International Finance says investors have been willing to take on more risk, pushing borrowing costs down and stock prices higher, based in part on strengthening confidence in the US and global recoveries, but with perhaps too much exuberance. Investors don’t seem to be taking adequate account of the uncertainties around economic growth and monetary policy, and that points to a pull-back in markets. With uncertainty likely to increase on both fronts, a correction from current ultra-low levels of volatility could continue, accompanied by a correction in asset valuation. The IIF’s concerns echo those of some Federal Reserve officials, who said at their June meeting that low volatility levels and increased risk-taking signaled “market participants were not factoring in sufficient uncertainty about the path of the economy and monetary policy.”

Another day and the fighting continues in the Middle East. The latest count has 687 Palestinians killed in the conflict. Ben Gurion Airport in Tel Aviv remains closed to US airlines, and many other global carriers. Secretary of State John Kerry is trying to negotiate a ceasefire but it looks unlikely.

In the Netherlands, a day of mourning as the bodies of the victims were returned for identification. Most of the passengers were Dutch. Two military planes, one Dutch and the other Australian, carrying the first 40 coffins landed at Eindhoven air base. They were met by members of the Dutch royal family, the Prime Minister and hundreds of victims' relatives. In Kiev, the Ukrainian government reports two Ukrainian military jets were shot down within 20 miles of the crash scene.

The downing of a civilian jetliner might turn out to be the Lusitania moment that could draw the US and Russia into a new world war, but for now, it doesn’t seem likely. The more likely reaction will be an increase in sanctions against Russia, which the US has already done; the EU is more reticent. The European Commission, the EU’s executive arm, will put forward its proposals to a committee of the 28 EU member governments in Brussels tomorrow. The bloc’s foreign ministers this week called for plans for measures that could hit “access to capital markets, defense, dual-use goods, and sensitive technologies, including in the energy sector.” Russia supplies 30% of the natural gas to Europe, and it is a major trade partner. Yesterday, France delivered a $1 billion dollar warship to Russia, saying the Russians had paid for it and it was scheduled for delivery. Business drives the truck, coffins are placed in the back.

Events in Gaza and Ukraine have, for the time being, taken global attention away from the Syrian civil war and the ISIS’s advance through Iraq. Last Thursday and Friday were the two bloodiest days yet in Syria’s civil war, with more than 700 people killed in fighting between the Syrian government and ISIS, the Sunni militant group. An ISIS suicide bombing killed 31 people, mainly civilians, in Baghdad yesterday. ISIS appears to be consolidating its newly acquired territories. The government in Baghdad appears to be struggling to cobble together something that would actually pass as a government. The civil wars in Syria and Iraq are growing increasingly chaotic and there doesn’t seem to be much hope for resolution.

The Gaza and Ukraine conflicts are not likely to draw greater powers into a major conflict. And one reason is because Gaza and Ukraine are not major oil producers. The conflict that represents the largest potential threat to markets is still the ISIS invasion of Iraq; there oil supply could be severed and the jockeying among regional middle powers could possibly lead to a wider scale conflagration between Sunni and Shia sponsor states.

So, one of the indicators that things are getting better or worse will be reflected in the price of energy. Think of it this way: Everything you did this morning involved energy consumption: Waking up to your smart phone (charging overnight), putting on the coffee, pouring the cold milk from the fridge, taking a shower, driving the car to work and walking into your air-conditioned office. Likewise, the rest of your day will be one big consumption of energy. Anything that disrupts that supply of energy disrupts the work you do.

Right now there is probably a $5 to $10 fear premium built into the price of oil, and that seems to be acceptable. The signal from the energy market about the demand of energy and the risk of getting enough of it is clear: Prepare for less growth, less certainty and more geopolitical risk. The market, however, maintains a steady hand: Israel will be contained more or less, Russia and Ukraine will find a solution or just fade away. The non-acceptance of Black Swans is clear for everyone to see. The market is “perfect” in its information, zero interest rates will save us and we have all been fooled into believing that the real world no longer matters. Unemployment, social inequality, wars, innocents being killed, and TV images of people fighting to live another day are not relevant. Maybe, after 13 years of war, the US is just weary of any threat.

At some point the fear premium could pop and oil prices could jump to $150 or $200 a barrel, and if that happens the IMF forecast is way too high; if that happens the economy comes to a grinding halt; if that happens, everybody in the US and Europe will wake up and scream bloody murder, but for now, it’s just another day, another dollar.

Tuesday, July 22, 2014 - Curb Your Enthusiasm

Curb Your Enthusiasm

by Sinclair Noe

DOW + 61 = 17,113
SPX + 9 = 1983
NAS + 31 = 4456
10 YR YLD - .01 = 2.46%
OIL - .17 = 104.42
GOLD – 4.70 = 1308.50
SILV + .04 = 21.07

We start with a couple of economic reports. The National Association of Realtors reports existing home sales were up 2.6% in June to a seasonally adjusted rate of 5.04 million, compared to 4.91 million in May. Sales in June were 2.6% higher than last month, but were 2.3% below the June 2013 rate. Total inventory rose 2.2% in June to 2.3 million existing homes for sale; unsold inventory is up 6.5% from a year ago.

At June’s pace of sales, there was a 5.5 month supply of homes for sale. The Realtors’ group considers a 6-month supply to be a balanced market. Higher supplies favor buyers and lower supplies favor sellers. The Federal Housing Finance Agency says home prices in May rose 0.4% from the prior month and were 5.5% above their level of May 2013. Distressed sales accounted for just 11% of sales in June, down from 15% last year, 25% in 2012, and 30% in 2011. Fewer distressed sales probably explains why there were fewer sales than June of last year.

The Consumer Price Index, or CPI, measures inflation at the retail level; the CPI increased 0.3% in June. The core CPI looks at prices excluding food and energy, which is important for people who don’t eat food or drive cars or use electricity; core CPI was up 0.1% in June. On a year over year basis, CPI is up 2.1%, and the core CPI is up 1.9%. The big driver for the increase in June was higher prices for gasoline.

In earnings reports:

Quarterly profit at McDonald's fell more than expected. Second quarter net income fell almost 1% to $1.3 billion, or $1.40 per share. Sales at McDonald’s restaurants in the US dropped for a third straight quarter.

Coca Cola’s 2Q net income dropped to $2.6 billion from $2.68 billion a year earlier.

Verizon reported second quarter earnings nearly doubled, but it was a confusing report because Verizon paid for Vodaphone shareholders in the quarter, plus they sold some of their wireless spectrum to T-Mobile; cutting through the clutter, Verizon added 1.4 million devices; Verizon added three tablets for every new smartphone. Earnings were just a smidge above expectations.

Comcast reported net income of almost $2 billion for the second quarter, with total revenue of $16.8 billion, up 3.5% from the same period last year. The revenue increase came from high speed internet service. Comcast lost cable video customers, as more people bypass cable and satellite subscriptions in favor of cheaper streaming alternatives.

Credit Suisse reported a second quarter loss of $779 million, the largest loss since 2008; reflecting the charge of $2.6 billion related to the settlement with US law enforcement for a guilty plea to conspiring to aid tax evasion in helping American customers hide money in Swiss accounts. Or another way to look at it, they were one criminal conviction away from a $1 billion quarterly profit. Credit Suisse also announced it would exit the commodities trading business.

Meanwhile, it looks like bond traders are exiting the bond trading business. Trading in US government bonds has dropped 25% in the past few weeks compared to the same time period a year ago. Since the end of the second quarter, trading in investment grade bonds has dropped 17% and trading in junk bonds has dropped 8%.

Last week, Fed Chair Janet Yellen talked about overvaluation in the biotech and social media sectors. One of the most common measures of value is the P/E, or price to earnings ratio; there are certainly other measures of value, but PE is common. Generally, a low PE can point toward value, while a high PE might indicate overvaluation, or even an unprofitable company. Currently the S&P 500 trades at 16.1 times forward 12-month consensus earnings per share. So, you might think a PE of 165 would mean a stock was extremely overvalued, ready to crash; or not. In September 2003, Apple had a PE of 165; since then it has gained about 6,000%.

After the close of trade today, Apple posted fiscal third quarter results. Revenue came in at $37.4 billion versus $38 billion expected; EPS was $1.28 versus $1.23 expected; iPhone sales were on track; iPad sales were a little weak; Mac sales were a little better than expected. Apple posted profit of $7.75 billion, up from $6.9 billion in the year-ago period. Apple announced a new iPhone 6, not yet available, but ready to swamp stores before the end of the year; it will have a bigger screen. Curb your enthusiasm.

Also after the close, Microsoft posted profit of $4.6 billion, or 55 cents a share, on revenue of $23.4 billion. During the year-ago period, the world's largest software company earned $4.97 billion, or 59 cents a share, on $19.9 billion in sales. So, sales were up, profit was a slight miss, due to the Nokia acquisition. Bing search ad revenue is up 40%, and Bing now has about 20% of the market share for search engines. Microsoft is big in the cloud, where revenue is up almost 150%, topping 4 billion.

Hedge fund manager Bill Ackman went on CNBC yesterday and promised he would deliver the death blow against Herbalife. Ackman has been shorting the stock for about a year, a $1 billion bet the company will crash. Then he delivered a 3 hour diatribe with 250 slides in his PowerPoint presentation, alleging that Herbalife is not just a multi-level marketing nutritional club, it is a pyramid scheme preying on minorities, and the biggest fraud since Enron. Ackman didn’t present a great deal of evidence. Today the stock was up 15%, for no apparent reason, other than surviving an Ackman death blow.

There were two rulings from two federal appeals court panels on Obamacare today. The question was whether the government could subsidize health insurance premiums for people in states that use the federal insurance exchange; 36 states use the federal exchange, while the other states set up their own state exchanges. This goes back to wording in the original law that says subsidies can be applied to state exchanges.

 The United States Court of Appeals for the District of Columbia Circuit said that the government could not subsidize insurance for people in states that use the federal exchange. That decision could potentially cut off financial assistance for more than 4.5 million people who were found eligible for subsidized insurance in the federal exchange, or marketplace.

A couple of hours later, the United States Court of Appeals for the Fourth Circuit, in Richmond, upheld the subsidies, saying that a rule issued by the Internal Revenue Service was “a permissible exercise of the agency’s discretion.”

For now, nothing changes, with the exception that there will be many more billable hours for the attorneys.

Bloomberg reports that regulators are ready to label Metlife a potential threat to the financial system, subjecting the insurer to oversight by the Federal Reserve. MetLife, the biggest US life insurer, could be subjected to stricter capital, leverage and liquidity requirements as a result of Fed supervision. A decision by the Financial Stability Oversight Council may come as early as July 31, and MetLife would have 30 days to request a hearing before the FSOC to contest the decision.

The Dodd-Frank Wall Street Reform and Consumer Protection Act is now 4 years old, even though it isn’t really in effect; just 52% of the rules mandated under Dodd-Frank have been finalized by regulators; Another 23% have been proposed but they’re still working out details, and regulators haven’t even gotten around to 24% of the rules. A recent report by consumer watchdog Public Citizen called out the Securities and Exchange Commission as a particularly egregious delayer, noting that it had pushed back the deadlines for 13 of the 23 rules it was supposed to finalize this year.

City workers and retired city workers in Detroit have agreed to pension cuts to help bailout the city from bankruptcy. General retirees would get a 4.5% pension cut and lose annual inflation adjustments. They accepted the changes with 73% of ballots in favor. Support for the pension changes triggers an extraordinary $816 million bailout from the state of Michigan, foundations and the Detroit Institute of Arts. The money would prevent the sale of city-owned art and avoid deeper pension cuts.

Most people travel to or from Israel by air, and the major airport, really the only airport is Ben Gurion in Tel Aviv; last year, 14 million people went through Ben Gurion Airport, in a country with a population of 8 million.  Yesterday a rocket from Gaza landed about one mile from the airport; we don’t have further details on that rocket; it didn’t hit the airport; it was a mile away. When news spread, Delta diverted a flight to Paris. United airlines cancelled flights. The Federal Aviation Administration banned all US passenger and cargo flights to and from Tel Aviv for at least the next 24 hours. European airlines cancelled flight to Israel. The possibility of a passenger jet being shot down over a war zone is a very realistic and fresh memory.

US and United Nations diplomats are in Israel, trying to broker a ceasefire of some sort. Israel continues to pound targets across the Gaza Strip. It does not appear a ceasefire is near. If there is any light at the end of the tunnel, the tunnel will be destroyed.

The European Union today threatened Russia with harsher sanctions if Russia doesn’t cooperate in the investigation of the downing of the Malaysian flight 17 and if Russia doesn’t stop sending weapons to Russian backed separatists in Ukraine. But it was just a threat, and they’ll get together later in the week to draft proposals for sanctions.

Friday, July 18, 2014 - The Fault Is Not In Our Stars

The Fault Is Not In Our Stars

by Sinclair Noe

DOW + 123 = 17,100
SPX + 20 = 1978
NAS + 68 = 4432
10 YR YLD + .01 = 2.48%
OIL - .31 – 102.88
GOLD – 7.30 = 1311.90
SILV - .27 = 20.99

President Obama today demanded Russia stop supporting separatists in eastern Ukraine, calling it “an outrage of unspeakable proportions.” Obama stopped short of directly blaming Russia for the incident but warned that he was prepared to tighten economic sanctions. He echoed international calls for a rapid and credible investigation. While the West has imposed sanctions on Russia over Ukraine, the United States has been more aggressive than the European Union. German Chancellor Angela Merkel said it was too early to decide on further sanctions before it was known exactly what had happened to the plane. Emotions are undoubtedly running high across Europe, but whether that translates into action remains to be seen.

Meanwhile, Israel says it could significantly widen a Gaza land offensive. The Israeli land advance followed 10 days of barrages against Gaza from air and sea, hundreds of rockets fired by Hamas into Israel and failed attempts to arrange a ceasefire or a truce.

How does all this play out? We don’t know. Yesterday was a terrible day, with Israel sending in ground troops to Gaza and somebody shooting down a Malaysian jetliner; it felt like an inflection point, like a moment when the narrative shifts, but for now we don’t know if that is true, or which way the winds blow.

Markets are funny; the financial markets were jittery; today, not so much. What changed? Not much. For the week, the Dow climbed 0.9 percent, the S&P 500 rose 0.5 percent and the Nasdaq gained 0.4 percent. So, volatility spiked yesterday; the VIX moved higher by 32%, but gave back 17% today. One day does not change a trend. War can change a trend, but we’re not at that point today, or maybe the markets are just ignoring reality. The market’s attention to geopolitical hotspots shifted to earnings. S&P 500 companies' profits are expected to grow 5 percent in the second quarter, according to Thomson Reuters data, down from the 8.4 percent growth forecast at the start of April. Revenue is seen up 3.2 percent.

Strong earnings from several companies kept the market in positive territory after it opened. Investors drove up shares in Google, Honeywell International, furniture company Knoll and Huntington Banchsares, among others. The Conference Board's latest index of leading indicators, designed to predict the economy's trajectory, climbed in June for the fifth consecutive month.

General Electric reported earnings today. Total revenue rose 3% to $36.2 billion, up from $35.1 billion in the year-earlier quarter. GE reported net income of $3.5 billion, a 13% increase from the year-earlier quarter. The company’s three largest industrial businesses: power and water, aviation, and oil and gas; all reported strong growth, ranging from 10% to 20%.The company also announced plans to have an initial public offer of its North American retail finance business by the end of this month; slowly but surely exiting the finance business and getting back to its industrial roots.

Beyond earnings season, Wall Street continues to be supported by Federal Reserve policy, and this week Fed Chair Janet Yellen went to Capitol Hill, and largely said it will be a while before the punchbowl is taken away. But eventually it will happen.  Since Fed chief Janet Yellen targets jobs above all else, this was bound to force capitulation by the Fed before long. It happened this week in her testimony to Congress when she said: "If the labor market continues to improve more quickly than anticipated, then increases in the federal funds rate likely would occur sooner and be more rapid than currently envisioned."

This is a policy shift. Yellen has admitted that the Fed misjudged the pace of jobs recovery. The staff did not expect unemployment to fall this low until late next year. The inflexion point has come 15 months early. Yellen added the usual caveats about "false dawns". Wages are barely rising. The jobs market is not yet drawing back the millions who dropped out of the system. The labor participation rate is still stuck at a 36-year low of 62.8%, and at the lowest ever recorded for men. Yellen said, "The recovery is not yet complete. We need to be careful to make sure the economy is on a solid trajectory before we consider raising interest rates."

You have to wonder if Yellen’s critics are making inroads. St. Louis Fed President James Bullard is concerned the Fed will overshoot on inflation. The Bank of International Settlements has warned about the Fed stoking asset bubbles.

You could make the case that Quantitative Easing has done its job, keeping growth alive as Congress and the White House pushed through draconian fiscal policy; the economy did not fall back into recession, not yet anyway. It just hasn’t been able to achieve escape velocity, or liftoff; but then that wasn’t really what QE was designed to do. It was designed to bail out the banks and avoid meltdown. The banksters are doing just fine. Time to try something new.

At some point the economy will have to stand on its own, and if it isn’t strong enough, you can bet the Fed will come up with a new idea to bail out the financial sector. When the Fed eventually takes away the punchbowl, it’s still unclear what effect it will have on the rest of the world. 

Tens of thousands of prisoners serving time for federal drug offenses will be eligible to seek early release beginning next year. The United States Sentencing Commission, which voted in April to reduce the penalties for most drug crimes, voted unanimously today to make that change retroactive. It will apply to nearly 50,000 federal inmates who are serving time under the old rules. The Sentencing Commission said the move would help ease prison overcrowding and reduce prison spending, which makes up about a third of the Justice Department’s budget. The change comes amid a bipartisan effort to roll back the harshest penalties set during the height of the drug war.

President Obama plans to sign an executive order on Monday barring discrimination against gay, lesbian, bisexual and transgender employees of companies that do federal government work. The order would also for the first time explicitly protect federal employees from discrimination on the basis of gender identity. The order will not include a religious exemption many faith organizations had requested.

Next week’s economic calendar includes a report on inflation, the CPI, on Tuesday. Also, a report from the Labor Department on real earnings. Nominal hourly wage growth has hovered around 2% for all of this recovery, a sign that labor markets are still weak. The National Association of Realtors will report existing-home sales Tuesday, and the Commerce Department will tally up new-home sales Thursday.  Next Friday’s durable goods orders will offer details on June capital-spending activity.

This weekend, Sunday July 20^th at 1:18 PM (Pacific) to be precise, we’ll mark the 45th anniversary of the first man on the moon. Maybe you remember where you were back in 1969; maybe you weren’t even here in ’69, but it was a remarkable event to watch Neil Armstrong and Buzz Aldrin, and of course Michael Collins; something that humankind had dreamed about for thousands of years, and it actually happened. It seemed that anything was possible. Apollo 11 not only achieved its mission to perform a manned lunar landing and return safely to Earth, it raised the bar of human potential.

I wonder if we could do it today. Or anything equivalent? It seems unlikely. There is so much divisiveness in the country today, and for all the advances of the past 45 years, we are rife with problems. But then, I’m old enough to remember that 1969 was full of problems: the country was at war in Asia, and there was a Cold War as well, and there were deep problems at home including race riots and campus protests, the assassinations of Martin Luther King and Robert Kennedy were fresh in peoples’ hearts.

Maybe we don’t achieve our full potential when everything is set up for success, it is not when all the stars are in perfect alignment; maybe we outperform when our backs are to the wall. In 1962, JFK issued the challenge, saying, “We choose to go the moon in this decade and do the other things, not because they are easy, but because they are hard, because that goal will serve to organize and measure the best of our energies and skills, because that challenge is one that we are willing to accept, one we are unwilling to postpone, and one which we intend to win, and the others, too."

For the past 45 years, we’ve heard the phrase, “Well, if we can put a man on the moon…” ” How many times have you heard that expression? If we can put a man on the moon, why can’t we cure cancer; or get our economy going? It’s a cliché now right? But it didn’t start out as a cliché. It started as a challenge. And 45 years ago, when I was much younger, I remember watching Neil Armstrong and Buzz Aldrin walk on the moon. I’m sure many people around the world share this same memory. President Nixon spoke to Neil Armstrong and his crew while they were on the moon and he said, "for one shining moment the people of the Earth are united as one." He was right. And I remember looking up at the moon that night, realizing humans were on the surface, and thinking anything is possible. This weekend I’ll look up at the moon again, and I still believe anything is possible – both success and failure. And if we don’t do those things that should be done, the fault is not in our stars, but in our selves.

Thursday, July 17, 2914 - Unleash the Hounds of War

Unleash the Hounds of War
by Sinclair Noe

DOW – 161 = 16,976
SPX – 23 = 1958
NAS – 62 = 4363
10 YR YLD - .06 = 2.47
OIL + 2.55 = 103.75
GOLD + 18.40 = 1319.20
SILV + .37 = 21.26

A Malaysian Airlines passenger jet, Flight 17, a Boeing 777, has crashed near the Ukrainian-Russian border; all 295 passengers are dead. US intelligence officials say the jetliner was shot out of the sky by a surface to air missile; they could not confirm who fired on the plane but it is believed the missile was launched by separatists in Ukraine or by Russian forces positioned across the border from the crash site.

Yes, more than four months ago, another Malaysia Airlines plane, Flight 370 from Kuala Lumpur to Beijing, disappeared with 239 people on board, and that plane remains lost, despite ongoing searches in the Indian Ocean. Flight 17 is believed to have had 280 passengers and 15 crew. Early reports indicate the passengers included 55 Dutch, 23 Americans, and 9 Britons.

The crash today involved a flight from Amsterdam to Kuala Lampur, but the flight went down in the Donetsk region of eastern Ukraine where pro-Russian separatists have been fighting Ukrainian forces for several months. The separatists denied responsibility. The separatists were quoted by the Russian news agency Interfax as saying that they had found the “black box” flight recorder. Other Russian reports said the rebels planned to call a three-day cease-fire to allow for an investigation.

Aviation authorities knew this was a dangerous area prior to today’s crash. Three months ago, the FAA prohibited US airlines and US pilots from flying over parts of Ukraine. Today several airlines re-routed flights. Ukrainian military planes have been shot down in the conflict in eastern Ukraine, including earlier this week, but the crash Thursday was the first downing of a commercial airliner.

Ukraine’s recently elected president, Petro Poroshenko, called it an act of terrorism. Russian president Putin says Ukraine is responsible for the crash, apparently because they have not maintained peace in the area and have not been in control of their airspace. Shooting down a 777 at 33,000 feet would require fairly sophisticated military equipment.

Any sign or Ukrainian, Russian, or separatist involvement in the downing of a civilian airliner could lead to an escalation of tensions in the region. Already, there is a recording of an alleged phone conversation between a leader of the separatist movement in Donetsk and a Russian military intelligence officer, where the Russian officer says they have shot down a plane. No groups are claiming responsibility.

If it turns out that the separatists shot down the passenger jet, the incident almost certainly will become a tipping point in marking them as terrorists and not mere rebels. To the degree he continues to support them, Putin himself risks shifting to dangerous new diplomatic terrain and harsh new sanctions by a West united against him to a degree it has been at no time since the Cold War. He will be seen as backing an indefensible rogue element. This might convince doubters in the EU to move forward with tougher sanctions against Russia and it could lead to tougher US sanctions. Russia’s deniability of direct support for the rebels would be demolished, making Putin’s international position more difficult.

Just yesterday President Obama imposed a new round of sanctions against Russia, targeting some of the largest Russian companies in finance, energy, and the defense industries. The announcement reflected a decision by Obama to take more stringent steps than those taken by the United States’ European allies, which have far deeper economic ties to Russia. Meeting in Brussels, leaders of the European Union refused to match the American measures and instead adopted a more tempered plan that blocks new development loans to Russia and threatens to target more Russian individuals.

Washington imposed sanctions on Russia’s largest oil producer Rosneft, its second largest gas producer Novatek, its third largest bank Gazprombank, and also 8 arms manufacturers, and a few others. Yesterday, Moscow denounced the sanctions as primitive revenge for events in Ukraine and pledged to retaliate. Also yesterday, Ukraine officials accused Russian forces of shooting down a Ukrainian military jet in the Donetsk region. Obama said Wednesday that the new sanctions were largely aimed at punishing Russia for not preventing the flow of weapons into Ukraine to supply pro-Russia rebels seeking independence from Ukraine.

At this point, nobody really knows who did what and for what reason. Civilian planes have been shot down by various militaries in the past and it did not necessarily result in war, however, the conflict in Ukraine has just escalated significantly.

Meanwhile, Israel moved ground troops into Gaza today. The ground offensive includes heavy artillery and naval shelling and helicopter fire and tanks. For the past 10 days Gaza militants and Israel have been firing rockets at each other. The Gaza militants have reportedly fired more than 1,300 rockets into Israel, but Israel has a high tech defense system called the Iron Dome, and so the bombing has only resulted in one Israeli death. The Israeli rocket attack on Gaza has been much more precise, even to the point where the Israelis would phone ahead and tell civilians they had a minute or so to vacate a building before a bombing. Palestinian health officials say more than 230 Palestinians have been killed in Israeli air and naval strikes.

Before dawn on Thursday, about a dozen Palestinian fighters tunneled under the border, emerging near an Israeli community. At least one was killed when Israeli aircraft bombed the group. The United Nations said Thursday that it had discovered 20 rockets hidden in a vacant school in Gaza during a regular inspection on Wednesday. Earlier on Thursday, Palestinian, Egyptian, Israeli and American officials said intense discussions were underway on terms for a cease-fire. Israel had accepted an Egyptian proposal for a cease-fire that was rejected by Hamas, which continued to fire rockets at Israel.

Palestinian residents and journalists in Gaza reported heavy artillery fire from ground troops in the north and from Israeli naval gunboats stationed near Gaza’s port, as well as a continuing air assault. Residents in the northern Gaza Strip said tanks were moving in. The Israeli strikes hit a range of targets, including a rehabilitation hospital and earlier killed four young children as they played on a roof in eastern Gaza City. At the same time, scores of rockets from Gaza continued to stream into cities all over central and southern Israel.

On Wall Street, the geopolitical problems made folks jittery. The VIX was up 3.54 to 14.54, which represents a 32% increase. We saw oil and bonds and gold jump higher in what looks  like a safe haven move.

It is still earnings season, and let’s touch on a few of the big reports today. Google reported a second-quarter profit of $3.4 billion, or $4.99 a share, compared with a profit of $3.2 billion, or $4.77 a share, for the year-earlier period. Revenue was $12.6 billion, up from $11.1 billion in the year-earlier period. Google missed expectations on earnings but beat revenue projections. Shares were down in after-hours trade.

Just the opposite for Big Blue; IBM said its second-quarter earnings climbed 28%, helped by its restructuring moves, while IBM reported its ninth consecutive quarter of lower revenue.

As expected, Microsoft announce massive layoffs today, what was unexpected was just how massive, 18,000 jobs will be cut, 15% of the workforce; 12,500 coming from newly acquired Nokia. Just after Microsoft bought Nokia, Nokia started making Android-based phones. This was a surprise since Microsoft makes its own mobile operating system — Windows Phone. The new Microsoft CEO Satya Nadella had no desire to continue with Android. He wants Microsoft's operating system to be the company's only mobile operating system.

A threatened strike on New York's Long Island Rail Road was averted on Thursday when the transit authority and labor unions reached a tentative contract deal.

Truckers will be back on the job Monday at the ports of Los Angeles and Long Beach, ending a five-day strike that disrupted cargo flow. The truckers voted to end their work stoppage against three companies late Friday after the firms promised no retaliation. The truckers say they have been unfairly classified as independent contractors rather than employees, allowing the companies to avoid labor laws and charge the drivers for fuel, maintenance and other fees. The drivers walked off the job last Monday in the fourth such protest this year and dockworkers refused to cross the picket lines.

Coincident to the plane crash and the story of Russian sanctions, Bloomberg Businessweek reports today on a nearly 4 year old story dealing with a different type of attack by Russia.  Reportedly, the Russians hacked into the Nasdaq in October 2010. And this was not just some silly hackers putting a virus on your computer, this was an attack on the code of a major financial institution, a digitized weapon, orchestrated by the Russian government.

It isn’t the first time a country has launched a cyber-attack against another country. The US was probably the first, with deployment of the Stuxnet worm, which switched off the safety mechanisms at Iran’s uranium processing facility in 2010. The October alert prompted the involvement of the National Security Agency, and just into 2011, the NSA concluded there was a significant danger.

While the Nasdaq hack was successfully disrupted, it revealed how vulnerable financial exchanges are to digital assault; as well as banks, chemical refineries, water plants, and electric utilities. One official who experienced the event firsthand says he thought the attack would change everything, that it would force the US to get serious about preparing for a new era of conflict by computer. He was wrong.

In fact the investigation revealed that Nasdaq networks had been infected for quite some time, by a variety of sources. The rules of cyberwarfare are still being written, and it may be that the deployment of attack code is an act of war as destructive as the disabling of any real infrastructure. Just think of the possibilities if the Nasdaq were to really crash, completely and totally, and if everything run through the exchange was deleted.