Financial Review

Market Drift

….Oil jumps on draw downs. $3 a gallon soon. Morgan Stanley delivers but fails to wow. Beige Book concerns on tariffs. Amazon 100 million Prime. Puerto Rico blackout, again.

Financial Review by Sinclair Noe for 04-18-2018

DOW + 6 = 24,793
SPX + 9 = 2715
NAS + 36 = 7317
RUT + 9 = 1588
10 Y + .05 = 2.87%
OIL + 2.23 = 68.75
GOLD + 2.00 = 1350.20


Stocks drifted and floated along for most of the session; a little up; not much of a move. The Nasdaq and Russell outperformed the Dow blue chips, which were weighed down by IBM, which lost 7.5%. The drop comes after IBM reported better-than-expected results for its first quarter, though the beat came due to a one-time tax gain – and full-year guidance was below expectations. Shares of IBM are down 12% over the past 12 months, while the Dow is up about 21%. The good news is that the major indices have moved above some key resistance levels, and they held, at least for today.


The big move in the markets today came in the energy sector, with WTI crude up almost 3.5%. Oil futures settled at their highest level in nearly 3 1/2 years, on the back of an unexpected decline in weekly U.S. crude inventories and expectations that major oil producers will stick to their pact to curb global production. After API’s Tuesday estimate of a 1.047-million-barrel crude oil inventory draw pushed prices higher, the Energy Information Administration added optimism by confirming a draw, albeit a smaller one, at 1.1 million barrels. The EIA reported a gasoline stockpile draw of 3 million barrels, compared with a half-a-million-barrel increase in the week before. Prices at the pump are expected to top $3 a gallon for unleaded gasoline in many parts of the country in coming weeks, as summer driving season approaches. The national average for unleaded gasoline was $2.73 per gallon today, up a penny from Tuesday but 20 cents more than a month ago, according to AAA.


Morgan Stanley posted a huge first-quarter earnings beat this morning. The bank reported adjusted earnings of $1.45 a share, a 45% increase from last year and well ahead of analyst expectations of $1.28 a share. Here are the key numbers: Revenue: $11.1 billion, up 14% from last year and a record. Adjusted net income: $2.7 billion, up 38% from last year and also a record.


Among the standouts in the bank’s impressive first quarter earnings report was its standing in fixed-income — its best fixed income results in three years. That’s striking considering its a business the wealth management giant once deemphasized. In 2015, it took an axe to fixed-income, cutting 25% of its workforce, replacing its leadership, and slashing bonuses. Morgan Stanley shares were up 2 cents today.


Corporate tax cuts helped the six largest U.S. banks produce combined net income that surpassed $30 billion for the first time ever. Their trading revenue was the highest in three years as they capitalized on volatile equity markets. Rising interest rates fueled revenue from lending. Morgan Stanley and Bank of America both revealed record quarterly earnings this week. A critical measure of profitability at Goldman Sachs hit a five-year high. JPMorgan Chase hauled in $8.7 billion during the first three months of 2018. That’s the largest quarterly profit by any US bank — ever. Despite their success, big banks are trading at roughly the same valuations as last year. Most of the banks’ stocks have followed a similar pattern in recent days, initially rising as each company posted results only to erase gains as the hours wore on. Analysts and even some bank executives poured cold water on the sustainability of the performance. The environment couldn’t have been much better, and that’s what the market is wrestling with. If it feels like it couldn’t have been much better, what drives things above and beyond where we currently are?


And there may be a problem looming on the horizon: the bond market is acting up again. Short-term Treasury rates have jumped, while long-term rates are shrinking. That’s known as a “flattening” yield curve and it’s bad for banks, which pay interest on short-term rates and lend at long-term ones.


Two weeks before a Federal Open Market Committee policy meeting, the Federal Reserve publishes the Beige Book, a collection of anecdotal reports from the various Fed districts across the country. Today’s Beige Book reported activity remained at “a modest to moderate pace” in March and early April, the same rate as earlier in the year. There were widespread concerns about trade policy. Overall wage growth was said to be modest, and price gains seen as moderate. Wage pressures “did not escalate,” the report said. Labor markets were seen as tight, with continued reports of labor shortages for high-skilled workers. Contacts in nine of the dozen Fed regional banks expressed concerns about trade tariffs — with 36 mentions of the word in the report. Business owners were upset with the price rises for metals in the wake of the Trump administration’s decision to place penalties on steel and aluminum imports. And there were worries about the prospect of future tariffs on Chinese imports from various sectors such as toys, agriculture, and transportation. With steady above-trend growth, tight labor markets and moderate inflation pressures expected, the Fed’s game plan is to gradually raise short-term interest rates and bring its balance sheet back down to size. Nothing in the report calls for a reassessment.


New York Fed President William Dudley delivered a speech in New York earlier today. Dudley says strong economic growth and higher inflation don’t necessarily mean Federal Reserve officials should speed up interest-rate increases. Dudley thinks inflation will probably top the 2% target sometime this year, but that would not be cause to increase the pace of rate hikes. And he said the “labor market may have more slack than the 4.1 percent unemployment rate suggests.”


Lurking in the background for Fed policymakers and investors is the threat of inflation. We haven’t seen much inflation in the past few years – not since the downturn in 2008. Why should we be concerned now? The answer can be found in a weak U.S. dollar (the dollar index has been hanging around the 90 mark for much of 2018, after a breakdown in 2017), an immense fiscal expansion in the last decade pushing the economy toward overheating, a tighter labor market (even if there is some slack), and recent (albeit modest) price pressure in the wake of trade war possibilities and tariff talk. The expectation for higher inflation is not out of line with consensus opinion. Higher inflation is the consensus view of those sampled by Bank of America’s latest monthly global fund manager survey, as net 82 percent of respondents earlier this month expect the core consumer price index to rise over the next year.


Amazon and Best Buy will collaborate to sell Amazon Fire-enabled TVs. The TVs will be equipped with Amazon’s software and will be available in Best Buy stores and online, including on where Best Buy will be a third-party seller. The TVs will be the only thing Best Buy lists on Amazon. There will be 11 TV models in all, which will be manufactured by Toshiba and Best Buy’s own brand Insignia. They will be branded as “Amazon Fire TV Edition” and have all functionality of the Amazon Fire TV software, including integration with Amazon Alexa. The first models will appear over the summer as part of the multi-year deal. Best Buy and Amazon, of course, still compete on many fronts, like selling electronic accessories and video games. But Best Buy already stocks and sells a range of Amazon Echo, Fire, and Kindle products, and it showcases them prominently in stores and in marketing material.


Amazon Chief Executive Jeff Bezos gave the most definitive number on record for the number of customers who pay for a Prime membership with his e-commerce site, saying in an annual letter to shareholders that the total is larger than 100 million globally.


CNBC is reporting the United States hopes to reach a deal on the revamped North American Free Trade Agreement with Mexico and Canada over the next three weeks.


CIA Director Mike Pompeo traveled to North Korea a few weeks ago to meet Kim Jong Un in preparation for a possible summit with Trump. The visit is seen as a strong indication that a meeting between the two leaders could produce a deal on future relations with the isolated country. Kim is due to make the first trip to the south by a North Korean leader on April 27, with expectations mounting that the two countries that share the Korean peninsula could formally declare the end to war. So, there is some real cause for optimism, very cautious optimism.


Puerto Rico lost power again when a toppled transmission line caused a total blackout. The entire island is without electricity. Puerto Rico Electric Power Authority, or PREPA, tweeted about the island-wide power outage just before 10 a.m. It could take as long as 36 hours to restore electricity to everyone.  Hospitals, banks and the San Juan airport will get priority before power is back on in homes and businesses. Last week, half the island lost power when a tree fell on a power line. This is the first complete blackout since the hurricane in September, but over that seven-month span, the island had never restored full service. Before this blackout began, 40,000 people in Puerto Rico still had not regained “normal electricity service.” After the storm, damage to communications and transportation infrastructure, and a comparative lack of utility workers, have hampered power-restoration efforts. Plus, PREPA, the electric utility is deeply in debt, which has prevented much-needed improvements to power plants that are more than a half-century old. The next hurricane season begins in about a month-and-a-half.

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