Financial Review

Red Lines

Financial Review by Sinclair Noe

DOW – 142 = 17,928
SPX – 25 = 2089
NAS – 77 = 4939
10 YR YLD + .04 = 2.18%
OIL + 1.81 = 60.74
GOLD + 5.20 = 1194.00
SILV + .14 = 16.61

 

The Commerce Department said the trade deficit jumped 43.1 percent to $51 billion in March, its highest level in nearly 6-1/2 years, as imports rebounded strongly after being held down by a labor dispute at West Coast ports. The now-settled labor dispute at the West Coast ports significantly slowed imports and exports at the start of the year. The higher deficit will subtract from first quarter GDP estimates.

 

The pace of growth in the US services sector rose to a five-month high in April, lifted by a surge in business activity that offset a sharp decline in exports. The Institute for Supply Management said its services index rose to 57.8 last month from 56.5 in March. The April reading was the highest since November. A reading above 50 indicates expansion in the sector. Strengthening consumer spending after a frigid winter on the back of gains in employment and still-low gasoline prices will propel services, which account for almost 90 percent of the economy as tracked by ISM. The ISM services report showed the employment gauge rose to 56.7, the strongest since October; that would seem to bode well for the Friday Jobs Report.

 

The new fixed-income haven is, of all things, the market for junk bonds. With government securities in Germany to Japan and Ireland yielding less than nothing, money is pouring into exchange-traded funds that buy speculative-grade debt, traditionally the riskiest of fixed-income assets. So far this year, about $9 billion has flowed into the funds globally, a significant chunk for the $44 billion market in junk-debt ETFs. Bond markets around the world are being distorted as central banks step up cheap-money policies to bolster growth and prevent deflation. According to data from Bloomberg, about $2.36 trillion of government bonds globally have negative yields. One of the bond market’s brightest luminaries, Jeffrey Gundlach, says you’re better off in junk because the only money to be made on German bunds is from betting against them; that would certainly be a good bet today.
The European Commission raised its euro-area growth forecast today as dwindling fears of deflation and monetary stimulus help the economy overcome pressure from the continuing crisis in Greece. While GDP in the 19-nation bloc is now forecast to increase 1.5% this year (up from a prediction of 1.3% in February), the European Commission slashed Greece’s economic growth outlook to 0.5% in 2015, down from an earlier 2.5% estimate. Other GDP forecasts for 2015: Germany +1.9%; France +1.1%; Italy +0.6%.

 

 

The Financial Times reports that the International Monetary Fund fears Greece’s debt burden is becoming unsustainable again, and it has warned it may withhold bailout money unless the Eurozone agrees to debt relief. Representatives of Greece’s anti-austerity government met today with their European counterparts as the negotiations between Athens and Eurozone lenders continue. Greece faces an $832 million debt repayment to the IMF next week, but there are fears it will run out of cash, possibly run out of cash within the next 7 days, unless it reaches a deal with creditors to unlock the next tranche of bailout money.

 

Now, I know we’ve been talking about Greece for some time but it now looks like negotiations are starting to break down. Bloomberg reports a Greek government official says no deal will be possible until the European Commission and the International Monetary Fund agree to a common set of demands; and there are too many red lines and creditors need to better coordinate their message. So far no response from the IMF and the European Commission. But plenty of response in the bond markets: yield on German 10 year bunds up 06 basis points to 0.51% (less than 2 weeks ago the 10 year bund had a yield of 0.05% – so it really is a meltdown), Italian bonds up 27 bp to 1.80%, Spain up 28 bp to 1.77%, France up 09 bp to 0.81%, and Portugal up 30 bp to 2.36%. Of course when the yield goes up that means prices are going down. Whatever the cost of compromise, Euro bonds just lost that in the bond markets today; and it should serve as a hint of what’s to come.

 

This has always been Greece’s most powerful bargaining chip.  As long as the Troika believes the Greeks are trying to strike a deal, they have tried to force austerity and unreasonable conditions on the Greeks. When the Greeks say they won’t put up with it anymore, the rest of the Eurozone realizes that a Greek default would hurt everyone else. We still don’t know how this will end, but we know we are going closer.

 

A new Federal Reserve survey show banks are expecting an increase in energy sector defaults. Banks in the US are cutting credit lines to energy companies and forcing firms to cough up more collateral to guard against fallout. US oil and gas companies went deep into debt during the energy boom. Those loans looked like a good bet while U.S. oil prices were around $100 a barrel. But after peaking in June, oil prices tumbled, dropping below $50 earlier this year, and today they moved above $60 a barrel for the first time this year. Still, it isn’t easy for the bankers to cut off the loans, because they are already in deep. The collapse in oil prices has forced drillers to turn to debt markets to keep their operations going. There has been $86 billion in new debt issued so far in 2015, a 10 percent increase over last year.

 

The Bank for International Settlements concluded in a March 2015 report that outstanding debt in the oil and gas sector has reached $2.5 trillion, a massive increase over the $1 trillion in debt in 2006. All of that debt could put extra pressure on companies to continue to produce flat out, as cash flows are critical to meet debt payments. Ironically, however, the incentive to continue to produce as much as possible could merely exacerbate the period of depressed oil prices. BIS finds that if a broader sell off in oil debt starts to take place, it would bleed over into broader corporate bond markets. And since oil debt makes up a big slice of corporate debt, there are fears (the extent to which is up for debate) that the oil price collapse could have “system-wide” effects.
Cisco Systems is set to launch a converged cable access platform, enabling cable operators to offer download speeds of one gigabit a second or more. The new system, unveiled today, will “enable cable operators to achieve savings that could exceed 40% of capital and operating expenses over five years.”  Yesterday, Cisco named company veteran Chuck Robbins as its new CEO. Robbins will replace John Chambers on July 26.

 

Panera Bread Company committed itself to removing at least 150 artificial sweeteners, colors, flavors and preservatives from its menu by the end of next year. The sandwich-and-salad chain, which has nearly 1,900 restaurants in the U.S. and Canada, has been working on the plans since 2012, and already has already cut many artificial ingredients. The decision marks the latest move by a major food company to respond to a consumer shift toward foods seen as simpler and more healthful. Chipotle declared last week it had mostly removed GMO ingredients from its supply chain, while Nestle said in February it would remove artificial flavors and colors from its candy bars.

 

 

Global annual spending on cancer drugs in 2014 hit $100 billion for the first time, largely due to rising drug prices and increased incidence of cancer. The IMS report says: “Earlier diagnosis, longer treatment duration and increased effectiveness of drug therapies are contributing to rising levels of spending on medicines for cancer.” The figures raise even more questions of affordability as the pharmaceuticals industry prepares to launch a fresh generation of treatments that promise to push costs even higher.

 

Last week, Lake Mead broke records, falling to about 1,079 feet, lows not seen since the lake was created in the 1930s. The lake is at only 38 percent of its capacity, and officials warn that the water level will continue to fall throughout the summer, with projections showing an estimated elevation of 1,073 feet by September. Projections show the lake returning to 1,080 feet by the start of next year, but if the water does not rise above 1,075 feet by January, officials will be forced to reduce the amount of the water delivered to Arizona and Nevada. And researchers fear that the drought conditions could linger for years, sharply reducing the snowpack in the north that replenishes the river. As water levels fall, it gets more difficult for the dam’s turbines to produce electricity. Engineers at the dam are installing turbines that could extend the ability of the dam to produce power, even if the water levels fall to 950 feet, but that’s a worst case scenario. To address the decreasing water supply to communities in the region, engineers are also working on a much deeper intake point, the Third Straw, ensuring that a thirsty Las Vegas will be able to suck water from the bottom of the lake even as the surface level falls. The lake still has water; it isn’t a mud hole, but as the water level falls, it points to big changes in how we use water in the West.

 

 

 

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