Financial Review

Diminished Expectations

..Stocks pop and then fall after Fed holds pat. Strong 1Q earnings already priced in. China trade delegation – don’t expect much. EU fires back on tariffs. #RedforEd Day 5, possible deal.

Financial Review by Sinclair Noe for 05-02-2018

DOW – 174 = 23,924
SPX – 19 = 2635
NAS – 29 = 7100
RUT + 4 = 1554
10 Y – .01 = 2.96%
OIL + .43 = 67.68
GOLD + 1.00 1305.60


The major indexes initially popped after the Fed left interest rates unchanged but fell hard in the final hour of trade. Apple rose 4.4 percent after reporting better-than-expected quarterly earnings and revenue. Apple’s revenue is growing despite slowing demand for its marquee product. Revenue from the iPhone rose 14% in the company’s fiscal second quarter…. even though shipments of the phone only grew 3%. Apple suppliers like Broadcom have been warning of sputtering global smartphone sales, as consumers hold on to phones longer or switch to cheaper models sold by Chinese rivals. The $1,000-pricetag for the company’s iPhone X is probably the biggest drag on demand. Wasn’t technology supposed to be deflationary?


CVS Health and Estee Lauder reported earnings that beat analyst expectations. Garmin and Clorox also posted stronger-than-forecast results. Spotify Technology posted quarterly revenue in line with its recent outlook and sharply lower operating losses in the music streaming leader’s first financial report as a publicly traded company. Shares of Snap sank as much as 22 percent, after first quarter numbers showed it losing confidence among users and advertisers due to a widely-panned redesign of Snapchat.


After the closing bell, Tesla posted its worst ever quarterly loss and said its Model 3 production target remains on track, expecting about 5,000 per week in about two months – although right now they are producing at less than half that rate. The company lost $709 million in the quarter. Cash burn slowed but remains a concern. Tesla gained about 1% in after-hours.


Technology heavyweights like Apple, Amazon and Intel along with Wall Street’s biggest banks look like the early winners from Republicans’ corporate tax cuts, boosting their bottom lines by more than $11 billion so far. S&P 500 companies on average have slashed their median effective tax rates to 21 percent in the March quarter, down 6 percentage points from a year ago. That has translated into a nearly $18 billion reduction in income tax provisions in the first quarter, more than half of which accrued to the benefit of the tech and finance industries. Reactions to earnings reports have been mixed, with some companies seeing their stock drop despite beating estimates. It seems a lot of good news has already been priced in.


The Federal Reserve’s Federal Open Markets Committee wrapped up a 2-day policy session by leaving its target for interest rates unchanged in range of 1.5%-1.75%, as expected.  In its statement, the Fed said, “Information received since the Federal Open Market Committee met in March indicates that the labor market has continued to strengthen and that economic activity has been rising at a moderate rate. Job gains have been strong, on average, in recent months, and the unemployment rate has stayed low.” The biggest development in the statement, however, was a tweak in the Fed’s language with respect to inflation. The Fed’s statement said: “On a 12-month basis, both overall inflation and inflation for items other than food and energy have moved close to 2 percent.” In March, the Fed said that inflation excluding food and energy had “continued to run below 2 percent” on a 12-month basis. And so, in making this change, Fed officials are acknowledging that inflation is getting closer to its target.


The Fed’s statement also had no mention of the trade tensions that some economists have warned could impact the economic outlook both in the US and abroad. The Fed also removed a sentence from the March statement which said, “The economic outlook has strengthened in recent months.” It looks like the Fed is in no rush to raise rates even as inflation rises to its target.


Just because the Fed did not raise rates doesn’t mean that interest rates won’t go higher. They are still on track for 2 more rate hikes this year. Those upcoming increases, on the heels of six recent quarter-point increases, have far-reaching consequences for consumers. Higher rates are not all bad. It means that the economy is performing. You don’t hike rates in a downturn. Next, higher rates mean higher returns for savers, eventually. However, in daily life, higher rates also mean that you’ll have to pay more to access cash, including interest rates on credit cards or a home equity line of credit. Total credit card debt has reached its highest point ever, surpassing $1 trillion, according to a separate report by the Federal Reserve. If the Fed follows through on 3 rate hikes for 2018, that will cost credit card users almost $6 billion in extra credit card interest.


A delegation of the Trump administration’s top trade policy officials are in China, hours away from talks on trade and tariffs. The US is coming to the table with a laundry list of complaints about how China controls its markets. It’s blamed China for unfair subsidies and facilitating intellectual property theft. The US negotiators are planning to press China to reduce its $375 billion trade surplus with the US and reign in planned investments into hi-tech industries. For its part, the Chinese government has said it won’t accept any US preconditions for negotiations such as abandoning its long-term advanced manufacturing ambitions or narrowing the trade gap. Trump administration officials this week have already lowered expectations for a breakthrough, saying the trip could be cut short if it’s not satisfactory. Recent US sanctions against Chinese telecom company ZTE have only reinforced the notion that China needs to build its domestic tech industry.


Neither side is optimistic about the prospect for a breakthrough in this round of talks. In the meantime, the threat of a trade war between the two countries continues to build. China and the US have already signaled $50 billion of retaliatory tariffs are coming. Trump has promised an additional $100 billion in penalties if China doesn’t cooperate with the US.


Yesterday, the US deferred a decision about whether to subject Europe to steel and aluminum tariffs. Trump at first announced sweeping and expensive measures designed to discourage imports of those products to the United States from around the world, but soon began distributing exemptions to some allies. The European Union got a reprieve, but it was just temporary. When it came time for Trump to decide whether to make it permanent, he instead extended it for 30 days—within which time, perhaps, he expects negotiators to be able to convince the Europeans to submit to Washington’s demands. But the Europeans don’t seem interested. European leaders like France’s Emmanuel Macron and Germany’s Angela Merkel lobbied hard during their respective trips to Washington last week in order to secure permanent EU exemptions to the tariffs, warning that the U.S. risks starting a trade war with its allies. In response to the 30-day extension, Brussels struck an indignant note, declaring in a European Commission statement that “as a longstanding partner and friend of the US, we will not negotiate under threat.” The EU is a larger economy than the US and is the US’s largest trading partner (having exchanged upwards of $700 billion worth of trade last year), running a $150 billion trade surplus with the US. And the US can’t strike bilateral deals with individual European countries – any deal must be struck with the entire 28 country bloc. Right now, it looks like a game of chicken and unless someone blinks, there is a distinct possibility of a collision.


Private-sector employment remained strong in April. Automatic Data Processing reported as employers added 204,000 jobs. This is the sixth month in a row of job growth above 200,000. Details of ADP’s report showed that small firms added 62,000 jobs in April, medium-sized businesses added 88,000 and large companies added 54,000. The ADP report offers a clue to the government’s monthly nonfarm payroll report, due on Friday. It is widely estimated the economy added about 190,000 new jobs in April, and that might be enough to push the unemployment rate to 4.0%, from 4.1%.


Two black men arrested while waiting at a Philadelphia Starbucks store reached a settlement with the coffee chain and dropped legal claims against the city. Terms of the settlement with Starbucks have not been revealed but the city of Philadelphia agreed to pay each man $1 and committed $200,000 to fund an entrepreneurship program for public school students. Starbucks plans to close 8,000 stores for a half day of anti-bias training on May 29.


T-Mobile and Sprint said on Sunday they have agreed to combine into one company, reducing the number of major US wireless providers to three. The deal would create a stronger competitor to the larger AT&T and Verizon and save money by merging networks and closing stores, aiding efforts to build infrastructure and buy rights to the airwaves needed for faster “5G” service – if the deal can pass regulatory muster. The Communications Workers of America, a union for telecommunication workers, has said the merger will cost at least 20,000 US jobs and reduce competition in wireless, bringing higher prices.


For the fifth day in a row, Arizona educators wearing red T-shirts demonstrated outside the Capitol as part of a statewide walkout to call for more money for schools and teachers. Organizers of the #RedForEd movement say they’ll resume teaching on Thursday if lawmakers pass a budget that satisfies their demands — something the GOP-led Legislature wasn’t expected to do. The bill being considered provides more money for both schools and for raises – though not nearly to the extent that teachers had demanded when they walked out late last week. The current plan also restores $100 million in funding for schools – well below the $400 million that has been cut over the past ten years. Teachers had demanded the full amount be restored. The teachers, who are among the lowest paid in the country, had been asking for 20 percent raises. Even that level would leave Arizona teachers making below the national average.

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