Financial Review

A Little Disruption

..1Q GDP trimmed. It averages out. Stress Test and a parade of dividends. Amazon disrupts: pharmacies, and deliveries. Foxconn breaks ground.

Financial Review by Sinclair Noe for 06-28-2018

DOW + 98 = 24,216
SPX + 16 = 2716
NAS + 58 = 7503
RUT + 4 = 1645
10 Y + .02 = 2.85%
OIL + .52 = 73.28
GOLD – 3.60 = 1249.00


The Dow Transports briefly fell into correction territory today, and the Dow Industrials are trading below their 200-day average. For the week, the Dow is off 1.5%, the S&P has lost 1.6%, and the Nasdaq has lost 2.7%. For the second quarter, the Dow is up 0.4%, the S&P has gained 2.7%, and the Nasdaq is up 5.9%. For 2018, the Dow has lost 2.1%, the S&P has gained 1.6%, and the Nasdaq has surged 8.4% on the back of steep gains in large-capitalization technology and internet companies. Stocks are exiting the weakest first half year performance for the S&P 500 in three years. And while the second half of the year, a mid-term election year at that, promises volatility, we might see a little rally to start the month of July. The first trading day of July is typically the best trading day of the year. That’s not a guarantee that Monday will post gains, just probability.


The growth in the U.S. economy in the first quarter was trimmed to 2% from 2.2%. While this largely reflects lower spending on health care, and a somewhat smaller buildup in inventories, it could be another reason for investors to feel cautious. Business spending was the saving grace. Fixed investment rose 7.5% instead of 7.2% as previously reported. Adjusted corporate profits before taxes, meanwhile, increased at an annual 1.8% pace in the first quarter. Initially the government said profits had declined slightly. Profits are up a healthy 6.8% over the past year. Slower first quarter GDP is already in the rear-view mirror. A closely followed GDP tracker by the Atlanta Federal Reserve estimates the U.S. will expand at a 4.5% annual rate in the second quarter. Some other estimates are running as high as 5%. The single best quarter of economic growth since the end of the recession was in the fall of 2014, when GDP surged by 5.2%.


St. Louis Fed President James Bullard says a super-strong economic growth rate expected in the second quarter is not an argument for tighter Federal Reserve interest-rate policy.  Bullard said the surge in growth is likely to be temporary and the economy’s growth rate will likely be on a downward trend in 2019 and 2020. So the Fed should not react with a “permanent rate hike” to a “temporary” increase in output, Bullard said. The strong second quarter is also flattered by the quirks in the GDP data that continue to depress growth in the prior quarter. So, the best way to view the second-quarter is to average it with the 2% growth seen in the first quarter. Bullard is one of two officials on the central bank that have been calling on the Fed to be cautious about hiking rates further.


Financial shares snapped a 13-day losing streak. The Federal Reserve has given the OK to 32 of the 35 biggest banks in the U.S. to raise their dividends and buy back shares, judging their financial foundations sturdy enough to withstand a major economic downturn.  Goldman Sachs and Morgan Stanley were forced to leave shareholder pay-outs at roughly last year’s level after fumbling a crucial part of the Federal Reserve’s annual stress test, while competitors from JPMorgan Chase to Citigroup were allowed to boost distributions. Goldman and Morgan Stanley were ensnared by the administration’s tax cut, which resulted in a one-time drop to the capital ratios of the firms, according to the Federal Reserve. Specifically, when accounting for the dividends and buybacks the firms originally wanted to pay, the banks fell beneath minimum required ratios for capital levels called tier 1 leverage and supplementary leverage under a scenario of financial distress. As a result, regulators gave them conditional non-objections to their subdued capital plans — but stopped short of failing them because of the one-time nature of the tax law. After the tax overhaul was announced late last year, Goldman Sachs announced earnings were taking a $5 billion hit, mostly tied to a bill from repatriating earnings. Morgan Stanley took a $1.4 billion hit because of the lowered value of deferred tax assets. Boston-based State Street, also got a conditional non-objection. It has to take steps to improve its management of counter-party risk under stressful scenarios. 15 firms won a clear thumbs up from the Fed and will be allowed to proceed with their planned pay-outs, and we are already hearing of a stream of announcements to hike dividends and buybacks. Check your statements. We’ll give you one guess which bank failed its Fed Stress Test. The Fed rejected outright the capital plan of the U.S. holding company of Germany’s Deutsche Bank.


Amazon just found a new industry to disrupt: pharmacies. Amazon will buy online pharmacy startup PillPack for $1 billion. What Amazon stands to gain from the deal is pharmaceutical licenses in 49 U.S. states, excluding Hawaii. PillPack, which neatly packages and delivers medicines across the country, also has a mail-order contract with Express Scripts, which manages prescription drug benefits on behalf of insurers and is the largest U.S. pharmacy benefits manager. That agreement expires at the end of July and would need to be renegotiated. As an added bonus, Amazon gets to stick it to Walmart, which had been in negotiations for several months to buy PillPack for slightly less than $1 billion, but Walmart was dragging its feet on making a final offer. Amazon, which had previously been pitched to a lukewarm reception, moved to step up with an offer for around $1 billion in cash. The deal for PillPack is a potential threat to drug stores and retailers ranging from CVS to Walmart. Walgreens exectuives told analysts on Thursday that the company is “not particularly worried” about this move. Walgreens share price dropped almost 10% today.  CVS lost just over 6%. News of the deal erased about $14.5 billion from drugstores Walgreens Boots Alliance, CVS Health and Rite Aid and drug distributors Cardinal Health, AmerisourceBergen and McKesson.


This morning, Walgreen’s Boots Alliance posted fiscal third-quarter earnings jumped more than 15 percent and beat Wall Street expectations despite flat sales from the drugstore chain’s U.S. pharmacies. The newest component of the Dow Jones industrial average also said Thursday that its board authorized a $10 billion stock buyback, and that it was raising the lower end of its earnings forecast for fiscal 2018 by 5 cents per share. And the CEO said he isn’t worried about Amazon – but the stock lost about $6.5 billion in market cap today. Amazon stock gained about 2.5%, topping $1,700 per share, with market cap of $825 billion. Remind me again why Walgreens replaced GE in the Dow but Amazon is not one of the Dow 30 stocks.


But wait, there’s more. Amazon said it would recruit entrepreneurs to run local delivery networks, a move that could divert business from carriers FedEx and UPS. Together, the two companies lost nearly $3 billion in market value today, with UPS bearing the greatest losses. So, Amazon just slammed their competitors to the tune of more than $17 billion. Amazon is offering new incentives to anyone who wants to open and run a courier business delivering packages. Amazon says delivery partners who are accepted into the program could earn about $300,000 in annual profits operating a fleet of up to 40 delivery vehicles. To start, the partners need only a minimum investment of $10,000. People can apply through the company’s website.


Apple supplier Foxconn, the world’s biggest contract electronics manufacturer, broke ground on its 20-million-square-foot campus in Wisconsin today, nearly a year after announcing its $10 billion investment in the U.S. At the groundbreaking ceremony at Foxconn’s only LCD manufacturing facility outside Asia, Trump spoke of the trade tensions between China and U.S. Foxconn is carefully positioning itself between the world’s largest two economies as it faces the challenges of Trump’s tough trade rhetoric regarding China. Foxconn has deepened ties with the Chinese government, including receiving tax breaks from it, while also promising to create jobs at its new manufacturing facility in the U.S.


Nike topped analysts’ quarterly revenue and profit estimates and posted its first North American sales rise in a year. Nike also announced a new four-year, $15 billion buyback program, sending its shares up 4.6 percent in extended trading. Nike has focused on new launches and on a direct-to-customer model of own stores and online sales, while also partnering with Amazon, to temper the hit from bankruptcies of sports retailers such as Sports Authority and Sports Chalet.


BP announced it is buying Chargemaster, the largest electric vehicle charging company in the United Kingdom. The £130 million ($170 million) deal is the oil giant’s latest venture into electric vehicle sector.


H&M reported disappointing first half results, revealing its after-tax profits fell by 28% compared to the same period last year. The company said it was a “tough” first half.


Chipotle Mexican Grill announced its strategy to revitalize the fast-casual restaurant chain but provided few details on its future growth prospects. The company announced plans to spend up to $135 million to win back customers and reposition Chipotle as a lifestyle brand. The expenses will cover a new ad campaign, digital investments to speed mobile and online orders as well as the costs of closing up to 65 underperforming locations. Chipotle executives declined to update or reaffirm earnings guidance set in previous quarters. Chipotle shares dropped 9.9% today.

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