For a PDF version of the below commentary please click here Weekly Letter 8-24-2015

Commentary at a glance:

-Wild trading last week, especially on Friday as the markets dove downward.

-Global fears surrounding China slowing down put fear back into the markets.

-Greek Prime Minister has resigned, calling for snap elections.

-VIX spiked upward in the largest weekly gain since 1990!

-Speculation over Fed moving rates continues to point toward later this year.

-Economic data was boring last week with the majority of releases coming in at expectations.

 

Market Wrap-Up: “Wow” is really the only word I can come up with to describe the market movements that occurred over the last week. It seems everything culminated at exactly the same time and pushed the markets lower as investors tried to adjust their investments for a very different market environment. I did not redraw the trading ranges on the various charts below this week as there really is no range to draw at this point with the downward move on Friday wiping out any real chance of climbing back into the ranges in the near term. The charts below are of the three major US indexes in green with their respective trading ranges drawn by the red lines. The VIX (lower right pane below) is drawn with the index in green and the one year average level of the VIX drawn in red:

4 charts combined 8-24-15

As you can see from the charts above, last week was not a good week for the financial markets in the US, nor was it a good week for any of the financial markets around the world. This move in the markets seemed to be a combination of pent up downside risk combined with a lot of uncertainty about the future health of the global economy as China appears to be weakening despite all of the actions taken by the government. At any given time the financial markets are risky, but rarely do we see just how risky in as short of a period of time as we saw on Thursday and Friday last week. The risk was highlighted by the record breaking move (+118 percent) in the VIX that occurred over the course of the week. From an investment standpoint, there was little that could be done and if investors were taking outsized risk with their investments they were very quickly shown what type of risk they had been carrying. From an investment standpoint, the models I manage had been waiting for this type of correction for the past few months and were defensively positioned in relatively low volatility investments (for the most part) and heavy cash. I did not think a correction would happen as fast as it has, but a correction was nonetheless long overdue. I do not think the volatility is over with the downturn of late last week as there are numerous risk factors that have yet to be settled out, which could have a negative impact on the overall markets.

 

From a technical standpoint, as you might imagine after last week, everything looks pretty lousy. I am not sure if it is very meaningful at this point, but I would say the Dow (upper right pane above) is probably the strongest of the three major indexes, followed by the S&P 500 (upper left pane above) and in last place the NASDAQ (lower left pane above). At this point all of the technical indicators that almost everyone utilized is entering a phase of “resetting” as many will have to be recalculated and redrawn, taking a certain amount of time before the new levels and figures make any sense at all. When we have seen such sharp moves in the financial markets in the past, there has been some form of catalyst that steps in and calms the waters, causing the market to snap back upward. The most likely catalyst this time will be actions taken by China. Over the weekend there were several announcements out of China about various financial funds under the control of the government that would now be used in an attempt to hold up the financial markets. There are risks, however, in a government trying to hold up financial markets and economies. At some point the trust is just not going to be there, at which time the government could be left playing largely by itself. When this happens, a government can be left with many bad assets that are artificially being held up from a price standpoint with very few options for moving forward. China has already tried numerous actions, none of which seem to have worked. The next most logical step for China to take would be to adjust its interest rates, and in this case the country would need to lower its interest rates to try to spur on economic growth within China. The investment adage of “if China sneezes the rest of the world catches a cold” seems to be playing out.

 

International News: International news last week overshadowed even the US Federal Reserve’s upcoming decision as the chaos being felt in China reverberated throughout the global financial world. China was, of course, the lead story, but it was not the only story that could have long term ramifications for the global economy. Rumors started to fly on Thursday that China was going to print a poor PMI (manufacturing figure) on Friday and that it was going to bring the overall growth of China for 2015, which had been expected to be about 7 percent, into question. The rumors turned out to be correct as China printed a PMI figure on Friday of 47.1, below even the pessimistic expectations of 47.7. The 47.1 reading is the lowest level of the past six and a half years according to Markit research. This poor manufacturing data for the month of August comes despite the government in China making several attempts to shore up its finances through putting cash into the markets and various other actions the country took during the month. The fear is now that China, despite being a command and control economy, will not have the firepower to be able to stop its economy from slowing down and its financial markets from falling significantly more. These fears seem correct for China as the country has a number of very real and very large problems on its hands, but the global reaction in the financial markets seems a little overdone. While manufacturing did contract during the month of August in China, it did not contract by very much. You may remember that the 50 level is the inflection point between contraction and expansion. While the Chinese economy may not grow at 7 percent this year and anything other than double digit growth is viewed as negative for the country, China will still grow in 2015 and is likely to be one of the fastest growth economies in the world, despite all of the troubles it has been having. While some of what the government in China has attempted to do has obviously not worked in terms of stopping investors’ fears, China still has many more actions it can take. Very few governments in the world have the ability of the Chinese government to enact changes and do so quickly. There are no votes that have to be cast or political wrangling that must take place before something can be passed. China decides quickly on an action and the action is taken. Some of this may be the cause of the problem right now in China as some of the actions were probably too hastily made and not well thought out. While the world was watching China last week, Greece also made a few interesting announcements that seemed to get lost in the news cycle.

 

Greek Prime Minister Alexis Tsipras announced on Thursday that he was resigning from his position and at the same time called for new snap elections to be held in Greece early during September. Tsipras tendered his resignation to the President of Greece Prokopis Pavlopoulos after it was clear that his left wing Syriza party was losing control of parliament and the weak coalition they had formed just eight short months ago when they came to power. What this means is that the government that agreed to the latest bailout deal will likely no longer be in power next month, leading to the question that has now been asked several other times: will Greece honor the agreement of yet another failed government that was negotiated on its behalf? This changing of the guard adds a lot more uncertainty to an already very uncertain situation and increases the likelihood that the situation in Greece could quickly get out of hand. Tsipras’s timing of his announcement was interesting. Make no mistake about it; it was timed to be sure not to make the main headlines in the financial markets as almost everyone was looking toward China and not paying any attention to Greece.

 

National News: With so much news coming out about China last week the US national news largely took a back seat, especially toward the back half of the week. The only real news the market took notice of last week other than earnings season continuing to roll along was the FOMC meeting minutes released mid-day on Wednesday. There was nothing really new in the meeting minutes, but the minutes did seem to keep the chance of a September rate hike on the table following the poor Empire manufacturing number released earlier during the week. The Fed continues to be “data dependent” and despite the data coming in mixed, it seems likely the Fed will raise rates at some point during 2015.  But with all of the global market turmoil at the end of the week last week, there seems to be a lot of investors questioning whether or not the Fed will take the stock market movement into consideration when looking at increasing interest rates. In my opinion the Fed has to be disconnected from Wall Street because the best policy from the Federal Reserve is not always the best policy for Wall Street. If the markets are allowed to force the Fed to not do something it should, it would be like the tail wagging the dog. The financial markets will not like a rate increase at any time, because it means that borrowing costs for corporate America will be higher than they were previously. Typically, when the economy is very strong and everything is moving forward there are other much more positive items to focus on than a rate hike and small hikes have a way of getting lost in the minutia. This time, however, the rate move is front and center, something which is unusual and adding to the uncertainty surrounding it. The table to the right shows the latest Fed watch figures from the CBOE as far as when interest rate moves are expected. Fed watch 8-24-15Please note that the data was pulled over the weekend and does not include any of the moves we saw on Monday. As you can see, the chance of a rate hike declined in each of the periods measured as a result of both market movements around the world and economic data releases coming in last week, both positive and negative. One thing is for sure, we have now moved from a toss-up prediction about rates increasing in September to much less of a chance, while the increase coming at some point this year remains at 60 percent odds. In addition to the Fed, the markets also had a decent amount of retail earnings to digest last week.

 

Last week several well-known companies released their second quarter 2015 earnings results and there were more negative releases than positive. Below is a table of the better known companies that released earnings last week with earnings that missed expectations highlighted in red, while earnings that beat expectations by more than 10 percent are highlighted in green:

 

Agilent Technologies 7% Hewlett-Packard 4% Sears Holdings 25%
Buckle 7% Home Depot 1% Staples 0%
Deere & Co 4% Hormel Foods 2% Stein Mart 150%
Dick’s Sporting Goods 3% L Brands 0% Target 10%
Estee Lauder 18% Lowe’s Companies -2% TJX Companies 5%
Foot Locker 22% Ross Stores 2% Tuesday Morning -233%
Gap 0% Salesforce.com 0% Wal Mart Stores -4%

 

Last week was a very intriguing week for the earnings released as there was a wide deviation in performance among retailers. Stein Mart posted great numbers, while Tuesday morning posted a significant miss.  Deeper discount retailers such as Ross and TJX (owner of TJ Maxx) saw solid single digit performance. Wal-Mart turned in an earnings figure that was lower than expected and lowered its guidance for the next quarter on the heels of high wage costs, due to several states in which the company operates increasing the state minimum wage. Sears, the company now run by a former hedge fund manager after he acquired more than 51 percent of the company several years ago, turned in a rare better-than-expected earnings number for the quarter after losing less money than was expected.

 

According to Factset Research we have seen 469 (94 percent) of the S&P 500 companies release their results for the second quarter of 2015. Of the 469 that have released, 70 percent have met or beaten earnings estimates, while 30 percent have fallen short of expectations. When looking at revenue of the companies that have reported, 48 percent of the companies have beaten estimates, while 52 percent have fallen short. With less than 6 percent of the S&P 500 component companies still having to report earnings we are very close to final numbers for the quarter, a quarter that will likely go down as mediocre from an earnings per share standpoint and  below average on a revenues per share basis when looking back a several years.

 

Below is a table of the better known companies that will release earnings this week, with the releases that have the most potential to move the markets highlighted in green. This is probably the last week I will be utilizing a table for upcoming earnings releases as the number of releases following this week are minimal.

 

Abercrombie & Fitch DSW Smith & Wesson
Autodesk Express Splunk
Best Buy GUESS? Tiffany & Co
Big Lots J M Smucker Toll Brothers
Burlington Stores Michaels Ulta Salons
Dollar General Sanderson Farms Williams-Sonoma

 

Retailers are the companies that primarily still have to release their earnings reports for the second quarter of 2015 as reporting among many hundreds if not thousands of stores around the country in some cases can take a significant period of time. This week is a mixture of high end and low end retailers with Tiffany & Co, Abercrombie & Fitch and Best Buy representing the high end and Dollar General, Big Lots and DSW representing the lower end retailers. Splunk will be closely watched this week by many technology investors on Wall Street as the company represents one of the fastest growing areas of the technology market: big data, both in computation as well as cloud services.

 

Market Statistics: We still seem to be on a weekly roller coaster for the financial markets, as we have now seen more than 8 weeks of chopping by the markets. With two weeks ago being a positive week last week set up for a negative week. The market did not disappoint and moved lower in a very big way:

 

Index Change Volume
Dow -4.49% Above Average
S&P 500 -5.77% Above Average
NASDAQ -6.78% Above Average

 

Overall, volume was high last week, especially on Friday, which also happened to be triple witching day (the day when three different types of financial derivative contracts expired).  But even discounting the volume seen on Friday due to triple witching, volume overall for the week was still high. Both the S&P 500 and the NASDAQ gave up the gains they had for the year with Friday’s large downward move, joining the Dow in having a negative year on the books so far during 2015. As mentioned above, at this point it looks as if the main indexes have broken through all of their meaningful short-term technical support levels and look like they could push lower as they trade in no man’s land, searching for levels of support and resistance.

 

When looking at sectors, the following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change Bottom 5 Sectors Change
Gold 3.90% Oil & Gas Exploration -8.85%
Home Construction -0.56% Semiconductors -8.21%
 Preferred Stock -1.04% Energy -8.15%
Utilities -1.32% Natural Resources -7.74%
Real Estate -1.84% Technology -7.39%

The biggest sector moves last week occurred in a classic “risk on and risk off” trading pattern. Gold, Preferred Stocks, Real Estate and Utilities were four of the top five performing sectors of the market as investors headed toward the classic safety positions. The high risk sectors of the market were the ones that saw the most downward pressure with sectors such as Oil and Gas exploration, Semiconductors and Energy taking up three of the bottom five sectors. If we continue to see heightened volatility, we will likely continue to see the “risk on risk off” trade play out with the same sectors performing well, while the same underperforming sectors will likely continue to underperform.

The US fixed income market moved broadly higher last week as yields pushed lower on increasing demand given the uncertainty in the strength of the global economy:

Fixed Income Change
Long (20+ years) 1.97%
Middle (7-10 years) 1.31%
Short (less than 1 year) 0.01%
TIPS 0.40%

Currencies saw some wild moves last week, both by investors as well as by governments, mainly China. The US dollar gave up 1.74 percent last week against a basket of international currencies. The Swiss Franc was the strongest performing currency last week after gaining 2.99 percent against the value of the US dollar, as investors headed back in droves to the once safe haven currency of the world. The weakest performing currency of the major global currencies, not surprisingly, was found in China with the Yuan, giving up 1.58 percent against the value of the US dollar as the government in China continues to battle its economy and financial markets at the same time.

Last week commodities were mixed with oil moving lower, while some of the precious metals pushed higher:

Metals Change Commodities Change
Gold 4.01% Oil -5.43%
Silver 0.41% Livestock -3.00%
Copper -2.33% Grains -1.12%
Agriculture -2.39%

The overall Goldman Sachs Commodity Index gave up 4.37 percent last week as the positive moves in metals were overtaken by the sharp decline in oil. Over the course of last week oil declined by 5.43 percent, leaving oil just above $40 per barrel. We will have to wait and see if the $40 level for WTI holds or if this is merely a stopping point on the way to a much lower price for a barrel of oil. The major metals were mixed last week with Gold gaining 4.01 percent (the risk trade mentioned above), while Silver increased 0.41 percent and Copper declined 2.33 percent. The decline in Copper was all due to uncertainty coming out of China surrounding future growth within the country and its need for raw materials. Soft commodities were all lower last week with Livestock falling 3 percent, while Grains declined 1.12 percent and Agriculture overall moved lower by 2.39 percent.

This week the international performance was largely driven by the continued uncertainty in China surrounding the country’s current and future growth rates. There were no major global indexes that turned in positive performance last week. The best performing index last week was found in Malaysia and was the KLC Index, which declined by only 1.4 percent, which seems almost like a gain given the large declines seen in other markets around the world. The largest decline last week was seen in China as the Shanghai based Se Composite Index tumbled by 11.5 percent, one of the worst weekly declines on the index in its history. At this point China still has a gain going for the year so far, but it has come down substantially and is currently sitting at about 8.5 percent. The declines seen last week pushed many of the major global indexes into negative territory for the year.

I used the word “wow” earlier in this commentary, so I will use the word “amazing” to describe the movement we saw in the VIX over the course of the previous week and Friday in particular. Over the course of the previous week we saw the VIX gain 118.5 percent (that is not a typo) as the VIX rocketed higher over fears about China. The 118 percent gain is something very unusual. In fact, looking back at the readily available data for the VIX that runs back to 1990, it is by far the largest weekly move we have seen on the VIX. Granted, we were starting at a relatively low point, but it was still an amazing move. Friday alone was a very large move for the VIX as it was the 5th largest single day move since 1990 as it gained 46.4 percent in just the one day. For those of you wondering, the largest percentage move on the VIX for a single day occurred on February 27th 2007, when the VIX increased by 64.2 percent. The VIX easily took out the average level we have seen over the past year as it raced to close Friday above 28. A reading of 28.03 on the VIX implies that a move of 8.09 percent is likely to occur over the next 30 days. As always, the direction of the move is unknown.

For the trading week ending on 8/21/2015, returns in my hypothetical models* (net of a 1% annual management fee) were as follows:

  Last Week Since 6/30/2015
Aggressive Model -3.47 % 1.19 %
Aggressive Benchmark -4.86 % -5.51 %
Growth Model -2.58 % 0.90 %
Growth Benchmark -3.79  % -4.29  %
Moderate Model -1.66 % 0.64 %
Moderate Benchmark -2.72 % -3.07 %
Income Model -1.05 % 0.76 %
Income Benchmark -1.36 % -1.52 %
S&P 500 -5.77 % -4.47 %

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

With the market movements that occurred over the past week, I made a few adjustments to my models, all of which were done to lower the overall risk in the models. The first change I made last week was to cut my holding in healthcare by half, which included selling both HCPIX and RYHIX, as these two holdings were driving a large percentage of the overall risk in the models. I also sold my small cap holding in the Schwab Small Cap ETF (SCHA) as this too was adding more risk than the benefit I was receiving on the upside. The final two trades I made last week was more general de-risking of the portfolio trades in which I sold approximately 20% of my holding in the S&P 500 low volatility Fund ETF (SPLV) and the Schwab US dividend Equity ETF (SCHD). This trade was done as a general trade to lower the overall risk in the models. At this point I remain very defensive as I do not think the global rout that seems to be under way is over and I am expecting to see continued volatility in the near term, maybe not as much volatility as we saw on Friday last week, but continued volatility nonetheless. All of this volatility and downward movement in the markets will present a great buying opportunity at some point in the future. Currently, I am looking toward energy, oil and gas and Semiconductors as areas of the market I am very interested in if the price is right.

 

Economic News:  Last week was a standard week for economic news releases with the vast majority of the releases coming in very close to market expectations. There was, however, one release that significantly missed market expectations and is highlighted in red below:

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Negative 8/17/2015 Empire Manufacturing August 2015 -14.9 5
Neutral 8/18/2015 Housing Starts July 2015 1206K 1200K
Neutral 8/18/2015 Building Permits July 2015 1119K 1257K
Neutral 8/19/2015 CPI July 2015 0.10% 0.20%
Neutral 8/19/2015 Core CPI July 2015 0.10% 0.20%
Neutral 8/19/2015 FOMC Minutes Previous Meeting
Neutral 8/20/2015 Initial Claims Previous Week 277K 272K
Neutral 8/20/2015 Continuing Claims Previous Week 2254K 2265K
Neutral 8/20/2015 Existing Home Sales July 2015 5.59M 5.42M
Slightly Positive 8/20/2015 Philadelphia Fed August 2015 8.3 7

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

Last week started out on Monday with the release of a poor reading on the Empire Manufacturing Index for the month of August, which as mentioned above printed a contraction while investors had been expecting an expansionary figure (something over 50). This is negative for the overall health of the economy as the greater New York region is very meaningful to the overall economy.  This release was also probably noticed by the Fed and may weigh on its decision concerning when to start raising interest rates. On Tuesday two housing related figures were released: housing starts and building permits. Housing starts came in very close to market expectations, while building permits came up short of expectations by about 140,000. Both figures remained well over the 1 million mark and did not seem to adversely affect the overall markets. On Wednesday the Consumer Price Index (CPI) for the month of July was released and showed that prices increased at a meager one tenth of a percent during the month, much slower than the Fed would have liked to see. Later during the day on Wednesday the Fed released its latest FOMC meeting minutes, which as discussed above held very little new information. On Thursday the standard weekly unemployment related figures were released with initial jobless claims coming in slightly higher than anticipated, while continuing claims came in slightly lower, thus having an offsetting effect on the overall markets. Existing home sales for the month of July were also released on Thursday and came in slightly stronger than anticipated, signaling that the US housing market remains on sure footing despite having increased in value so much over the past year. Wrapping up the week last week on Thursday was the release of the Philadelphia Fed Index for the month of August, which came in slightly higher than the anticipated print, at an 8.3 reading compared to expectations of 7. This manufacturing index for the greater Philly area flew in the face of the overall New York manufacturing index released earlier during the week and provided a glimmer of hope that manufacturing across all of the US is done looking as bad as it is in the great New York region.

 

This week is a typical week for economic news releases as far as the number of releases, but there are a few releases that will be very closely watched to see if there is any clue in them as to the rate decision that could be coming down in September. The releases highlighted in green below have the ability to impact the overall markets on the day they are released:

 

Date Release Release Range Market Expectation
8/25/2015 Case-Shiller 20-city Index June 2015 5.00%
8/25/2015 New Home Sales July 2015 507K
8/25/2015 Consumer Confidence August 2015 92.60
8/26/2015 Durable Orders July 2015 -0.80%
8/26/2015 Durable Goods -ex transportation July 2015 0.50%
8/27/2015 Initial Claims Previous Week 272K
8/27/2015 Continuing Claims Previous Week 2239K
8/27/2015 GDP – Second Estimate Q2 2015 3.10%
8/27/2015 Pending Home Sales July 2015 1.00%
8/28/2015 Personal Income July 2015 0.30%
8/28/2015 Personal Spending July 2015 0.40%
8/28/2015 PCE Prices – Core July 2015 0.10%
8/28/2015 University of Michigan Consumer Sentiment Index August 2015 93

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

This week starts out on Tuesday with the release of the Case-Shiller 20 City Home Price index for the month of August, which is expected to show a year over year gain of 5 percent. This release is so stale that it would take something drastically different than expectations for this release to have any impact on the markets at all. Also released on Tuesday is the new home sales data for the month of July, which, if the figure is anything like the existing home sales figure released last week, could easily beat market expectations. Lastly on Tuesday the Consumer Confidence figure for the month of August, as measured by the government, is set to be released with expectations of a reading of 92.6, which is slightly higher than the 90.9 reading we saw last month and is in line with what the University of Michigan data has been pointing toward. On Wednesday durable goods orders for the month of July are set to be released with expectations of overall orders having declined by 0.8 percent during the month, while orders excluding transportation are expected to have increased by 0.5 percent. A negative reading on overall orders as expected would be negative for the overall economy and may lead people to think the Fed will push back a rate hike. On Thursday the standard weekly unemployment related figures for the previous week are set to be released with expectations that both figures will have come down a little bit. Also released on Thursday is perhaps the largest release of the week: the second estimate of the second quarter GDP figure for the US. Expectations are high with a revision expected to push the figure up to 3.1 percent from the first released 2.3 percent. If this comes to fruition, it would be taken as positive for the overall economy and will likely put the rate hike in September back on the table. On Friday personal income and spending are both set to be released with both figures expecting slight increases. The Fed will be watching these, but these will not be major factors in the Fed’s decision about when to increase rates. Released later during the day on Friday, however, is the personal consumption price index (PCE), which will provide a price change level for the everyday consumer for the month of July. The PCE index is a kind of measure of inflation that is watched by the Fed, but much like all of the other signals it does not have the ability to sway the overall thinking of the Fed. Wrapping up the week on Friday is the final release of the University of Michigan’s Consumer Sentiment Index for the month of August, which is expected to post a 93.0 reading. If this comes true it would most likely just be overlooked by the markets. This week will be all about Asia and China in particular as the happenings in the Chinese stock market will likely overshadow all of the other economic news and market movements.

 

Fun fact of the week—Lacking Hurricanes Anyone?      

 

It has now been nearly 10 years since the US has experienced a major hurricane making landfall. A Major Hurricane, as defined by NOAA, is a hurricane with a category 3 rating or higher. The last hurricane to make landfall as a category 3 or higher was Wilma back on October 24,th 2005. The most memorable hurricane of the recent past, hurricane Sandy (October 29,th 2012), was not even officially a hurricane. When it came on shore in New Jersey it had been downgraded by that time to a “post-tropical cyclone.”

 

Source: The weather channel www.weatherchannel.com and National Hurricane Center www.noaa.gov

For a PDF version of the below commentary please click here Weekly Letter 8-17-2015

Commentary at a glance:

-Volatility remained elevated last week in the US financial markets.

-China took the majority of the headlines as it moved the value of the Yuan.

-Brazil is starting to move into the global spotlight for a negative reason.

-Earnings season is quickly drawing to a close.

-Speculation over the Fed raising rates is ever present.

-Economic data was very boring last week with the majority of releases coming in at expectations.

 

Market Wrap-Up: The volatility of the overall markets was high last week with Monday and Tuesday exhibiting some pretty wild trading days. The Dow traded with a 500 point spread between the high point of the week and the low point of the week. For comparison purposes, this 500 point gap represents the 7th largest gap we have seen for the Dow since the start of the year. Much of the movement early during the week was due to the actions taken by China to weaken its primary currency, the Yuan, surprising the global financial community last week. More about the surprise moves out of China can be found below in the International News section of this commentary. The charts below are of the three major US indexes in green with their respective trading ranges drawn by the red lines. The VIX (lower right pane below) is drawn with the index in green and the one year average level of the VIX drawn in red:

4 charts combined 8-17-15

As you can see in the charts above, there was little change in the technical strength of the three major indexes over the course of the past week. The S&P 500 (upper left pane above) pulled slightly ahead last week with the gain for the week, pushing the index more solidly into its most recent trading range than the NASDAQ (lower left pane above), which remains just on top of the lower bound of its trading range. The Dow (upper right pane above) remains solidly in last place as the index appears to be consolidating into what could turn out to be a new trading range, just below its previous trading range. I will be updating the trading range chart next week if we do not get enough movement over the course of this week to push the Dow back into its old range. The VIX (lower right pane above), over the course of the previous week, pushed slightly higher after seeing a lot of choppiness to start out the week, but it remains well below the average level (red horizontal line) that we have seen over the course of the last 52 weeks.  Where the markets are headed from here is a very common question that I receive from a wide variety of people asking me about the markets and their investments.

 

The markets seem to currently be happily range bound, with many catalysts to choose from at any given time that should push them either higher or lower. Earnings season for the second quarter of 2015 has turned out to be pretty good, albeit the expectations going into the season were dreadfully low due to the trouble in the energy sector. The US economy as a whole is moving forward, but at a slower pace than many economists and investors would like to see. The job market in the US is stronger now than it has been for the past few years, when looking at overall unemployment as well as derivative unemployment numbers such as the U6 unemployment rate. Interest rates are currently very low, meaning that money is cheap to both corporate America and individuals qualified to borrow funds. Lastly, we are in the third year of a Presidential term, which according to Robert Johnson, the CEO of American College of Financial Services, has averaged a return of 20.98 percent on the S&P 500. But with all of the positives there are also some overhanging negatives that weigh on the markets. The first is geopolitical risks spreading into the financial markets and these are not limited to the Middle East. The situation in Greece with bailout funds coming from the rest of Europe is far from over. China (more about this below) is just starting to try to move from an export driven economy to an internal consumption economy and the growing pains are obvious. Oil continues to decline and is doing so rapidly, with prices now hovering down about the $40 level. This is a largely deflationary factor that could weigh on the global economy. One of the first casualties of the falling oil prices outside of the Middle East could be Brazil, where President Dilma Rousseff is fighting for her political life as she faces a potential impeachment over her handling of corruption and the economy in Brazil. The US Federal Reserve is the final factor weighing on the overall financial markets, as we are very close to interest rate liftoff, a time when the markets typically move lower by about 5 percent initially and then proceed to move higher over the following year. The final factor that I view as negative for the financial markets is that we are living on very borrowed time in the sense that we have not had a 10 percent correction in more than 57 months for the S&P 500. Historically, there should be a 10 percent correction approximately every 18 months, hence my comment about being on borrowed time. When everything boils down, it seems that the positive and negative items that are outstanding are doing a very good job of balancing each other out and the market is just wandering aimlessly for the time being.

 

International News: International news last week was mainly focused on China as the country saw the largest weekly move in the Yuan of the last 21 years. China has been trying to get more respect from the international community with regard to its currency for years and for years it has been a struggle. The US has not gone as far as labeling the Chinese government a currency manipulator, but we have said numerous times that China keeping its currency artificially low is a problem. Last week China let the Yuan float a lot more than normal. In fact, the Yuan depreciated by nearly 3 percent over the course of just a day or two. The chart below is from Bloomberg and shows a 1-year time from for the movement of the Yuan versus the US dollar. The right side shows just how significant of a move we saw last week on the Yuan:

Yuan move 8-17-15

The move came as a surprise to nearly everyone as China is attempting to show that there is a free market at work in China, attributing the recent moves in its currency to market responses to its weakened “market conditions.” Timing may partly be attributed to China trying to achieve the label of being a reserve currency of the world, something decided by the IMF once every 5 years. This year happens to be a review of the reserve currency statuses around the world and China would like to become a part of the team. The likelihood of the Yuan becoming a reserve currency is very low as China is still a command and control economy, as we have seen recently in the financial markets and currency moves, even if the changes are being made to get moving in the correct direction. It is nearly impossible to say that China has a free market economy as it currently operates. The weakening move in the Yuan makes Chinese made products cheaper around the world, which should boost the Chinese economy. Allowing the move in the Yuan at the current time has led to speculation that the economy in China is slowing down more than the government is willing to publish and that China is doing all it can to try to boost its economy. Another country that could see some fireworks in the coming weeks or months is Brazil, the largest economy in South America and a key source for natural resources to many manufacturing countries around the world.

 

Brazil has been under the stewardship of President Dilma Rousseff since January of 2011 and she recently took office for her second term. Only this term is starting to prove that it will be much more difficult for her than the first term. There were very large rallies across Brazil over the weekend calling for her impeachment, as many citizens in Brazil are fed up with her political policies that seem to be hurting the Brazilian economy. Never mind the fact that no matter what President Rousseff does she cannot impact the Brazilian economy to the same magnitude as the precipitous drop in the price of oil over the last year. The main focus of the impeachment calls is her anticorruption campaign and the revelation that while she was the head of Petrobras some of the most egregious bribes took place at the company right under her nose. The protestors are also jumping on the austerity measures Brazil has put in place to help with the declining oil prices and economy, while still pumping billions of dollars into building sports venues for things like the World Cup and the Olympic games, which are to be held around Brazil in 2016. If President Rousseff is to lose control and be impeached it would cast a lot of uncertainty over the future growth and friendliness of the largest South American economy. We could see impacts around the world in the financial markets as well as on the global oil market, as Brazil is a large oil producer.

 

National News: Aside from the standard weekly fodder about the 2016 Presidential election and the never ending speculation about when the Fed will start to increase interest rates, the US financial markets really seemed to be focused on the earnings announcements that came out throughout the week. Last week many well-known companies released their second quarter 2015 earnings results. Below is a table of the better known companies that released earnings last week with earnings that missed expectations highlighted in red, while earnings that beat expectations by more than 10 percent are highlighted in green:

 

Advance Auto Parts 1% Flowers Foods 9% Macys -15%
Alibaba Group -17% Fossil Group 45% News Corp 17%
Applied Materials 0% J C Penney 15% Nordstrom 3%
Cisco Systems 2% Jack Henry & Associates pushed Red Robin Gourmet Burgers 3%
Dean Foods 27% King Digital Entertainment 14% Shake Shack 167%
Dillard’s 3% Kohl’s Corp -6% Sysco 0%

 

Last week saw an interesting mix for companies releasing their earnings with Shake Shack coming out on top in terms of percentages, beating expectations by 167 percent. This is not all that unusual for a company that recently undertook its IPO as the street has very short term models to project their expected earnings. Once a company has been around for a number of years and their business cycles become clearer, it is much easier to predict their earnings. Big box retailers seemed to have a rough earnings week last week as both Macy’s and Kohl’s missed market expectations. Alibaba also fell short of expectations after weakness in China had a major impact on the company. China continues to be a wild card not just for the global economy, but also for business that reside primarily in China or do large amounts of business within China. There are great opportunities with China, but they come with great risks, as we have been seeing over the past few months.

 

According to Factset Research we have seen 455 (91 percent) of the S&P 500 companies release their results for the second quarter of 2015. Of the 455 that have released, 70 percent of them have met or beaten earnings estimates, while 30 percent have fallen short of expectations. When looking at revenue of the companies that have reported, 48 percent of the companies have beaten estimates while 52 percent have fallen short. With about 9 percent of the S&P 500 component companies still having to report earnings, we are still not far enough to call the final numbers for the quarter, but as we get closer to the end it becomes harder and harder for the percentage figures to change so we are likely very close to where the final numbers for the quarter will shake out.

 

Below is a table of the better known companies that will release their earnings this week, with the releases that have the most potential to move the markets highlighted in green:

 

Agilent Technologies Hewlett-Packard Sears Holdings
Buckle Home Depot Staples
Deere & Co Hormel Foods Stein Mart
Dick’s Sporting Goods L Brands Target
Estee Lauder Lowe’s Companies TJX Companies
Foot Locker Ross Stores Tuesday Morning
Gap Salesforce.com Wal Mart Stores

 

This week we get some of the largest retailers in the world releasing their results from the second quarter of 2015, with both Walmart and Target turning in results. Walmart is a unique company as it is so large that it impacts nearly all parts of the US and has a very good feel for what the US consumer is buying and their spending patterns. While much of the shopping is on lower end items, they are still a pretty good signal as to the overall health of the US economy. Home Depot and Lowe’s will be closely watched this week as they are the two largest home improvement stores in the US and two stores that typically see higher earnings in times when consumers are positive about the future of the US housing market as they feel that putting money into their homes will increase the value should they want to sell in the future, something that is not done if the outlook for real estate is bleak. We are now very close to the end of the second quarter earnings season.

 

We continue to inch closer to interest rate liftoff, even if rates do not move until late this year or early next year. Right now all of the speculation is about September and whether the Fed will lift rates next month. According to Fed Watch, which is run by the CME Group and looks at the futures contracts on interest rates to calculate what traders of the futures contract think will happen, the odds have come down a little bit. As you can see in the table to the right the odds are now 45 percent that rates will increase at the September 17th meeting, while this time last week the odds were 54 percent that rates would be increasing at the meeting. Some of this decrease may have to do with the massive amount of currency changes we saw over the last week, primarily from China, but it could also do with the meager inflation figures the market turned in last week as well. If the CME numbers are correct it really is a coin flip whether or not the Fed starts to increase rates during September or if the Fed waits until October to start. The odds, however, are much higher that a rate hike is seen prior to the end of the year or early next year. With rates going up at some point in the relatively near future we will likely continue to see investors and money managers adjust their portfolios to optimally position themselves for a rising rate environment.

Fed watch 8-17-15

 

Market Statistics: We still seem to be on a weekly roller coaster for the financial markets, as we have now seen more than 7 weeks of chopping by the markets. With two weeks ago being a negative week, last week set up for a positive week if the trend was to continue and the market did not disappoint, even if the NASDAQ just barely eked out a gain:

 

Index Change Volume
S&P 500 0.67% Average
Dow 0.60% Average
NASDAQ 0.09% Average

 

Volume was just average last week in what turned out to be a pretty calm week given the large moves that started out the week and fears that they could continue as China adjusted the value of the Yuan. This roller coaster, as mentioned above, is nearly unprecedented, presenting such a perfect up and down pattern across all three of the major US indexes.

 

When looking at sectors, the following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change Bottom 5 Sectors Change
Home Construction 4.48% Biotechnology -1.25%
Oil & Gas Exploration 4.00% Semiconductors -1.11%
Telecommunications 3.88% Consumer Discretionary -0.68%
Energy 3.30% Pharmaceuticals -0.61%
Natural Resources 2.93% Consumer Staples -0.50%

Last week saw an interesting mix of sectors at both the top and the bottom of the performance spectrum. Biotechnology is perhaps the most intriguing as it has now been the worst performing sector of the markets two weeks in a row. This is rare as Biotechnology, at least recently, has the uncanny ability to bounce back after being beaten down. On the positive side, Home Construction made a quick leap last week, moving from being the second worst performer two weeks ago, giving up more than 3 percent, to gaining almost 4.5 percent last week and turning in the top performance. Oil and Gas as well as Energy turned in strong performances last week despite the price of oil moving lower, with much of their positive moves being due to earnings results being better than anticipated.

The US fixed income market moved broadly lower last week as we seemed to be seeing a little bit of a consolidation trade ahead of the looming Fed decision due out in the middle of September:

Fixed Income Change
Long (20+ years) -0.31%
Middle (7-10 years) -0.16%
Short (less than 1 year) -0.02%
TIPS -0.34%

Currencies saw some wild moves last week both by investors as well as by governments (mainly China). The US dollar gave up 1.10 percent last week against a basket of international currencies. The Swedish Krona was the strongest performing currency last week after gaining 3.32 percent after a positive report about inflation in Sweden helping to correct the years long deflationary problems the country has been having. The weakest performing currency of the major global currencies, not surprisingly, was found in China with the Yuan as it gave up 2.92 percent against the value of the US dollar, with the entire move being because the government allowed the currency to free float a little each day.

Last week commodities were mixed with oil moving lower, while precious metals pushed higher:

Metals Change Commodities Change
Gold 2.10% Oil -3.91%
Silver 3.12% Livestock 0.11%
Copper 0.58% Grains -3.25%
Agriculture -0.65%

The overall Goldman Sachs Commodity Index gained 0.80 percent last week as the strong movements in metals more than offset the weakness in oil. Last week oil briefly went under $42, which is the lowest point we have seen over the past 5 years, as demand continued to be weak and supply ran high. The major metals were all positive last week with Gold gaining 2.1 percent while Silver increased 3.12 percent and Copper advanced 0.58 percent. Soft commodities were mixed last week with Livestock gaining 0.11 percent, while Grains declined 3.25 percent and Agriculture overall moved lower by 0.65 percent. After a brief increase in grains two weeks ago it seems the decline we have been seeing over the past few months jumped back on track last week as the slide resumed.

This week the international performance was largely driven by the changes in China. China turned in the top performance of the global financial indexes last week as the Shanghai based Se Composite Index advanced by 5.9 percent. The advance in the Chinese market was largely due to speculation that exports will really pick up after the devaluation of the Yuan, causing Chinese products to be cheaper to foreigners to purchase. Malaysia turned in the worse performance of any of the global markets last week after giving up 5.1 percent. Much of the decline in the Malaysian financial market was due to what is now perceived as more competition from China for the cheaper products made in the Asian region. All of the emerging Asian economies that compete either directly or indirectly declined last week as competing against China just became much harder due to its weakened currency.

The VIX snapped its four consecutive weeks of weekly moves in excess of 10 percent last week after giving up only 4.18 percent over the course of the week. We continue to see the VIX be content sitting very close to the lowest points we have seen over the past year and it seems to be in no hurry to get back to even the average level of the past year. The VIX is currently very complacent with what is going on in the global economy. I thought we would see much more of a reaction in the VIX from the situation in China, but that did not pan out as of yet. At the current level of 12.83, the VIX is implying a move of 3.70 percent over the course of the next 30 days. As always, the direction of the move is unknown.

For the trading week ending on 8/14/2015, returns in my hypothetical models* (net of a 1% annual management fee) were as follows:

  Last Week Since 6/30/2015
Aggressive Model 1.33 % 4.84 %
Aggressive Benchmark -0.37 % -0.68 %
Growth Model 0.84 % 3.58 %
Growth Benchmark -0.28  % -0.51  %
Moderate Model 0.37 % 2.35 %
Moderate Benchmark -0.21 % -0.36 %
Income Model 0.12 % 1.84 %
Income Benchmark -0.10 % -0.17 %

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

I made no changes to any of my models over the course of the previous week. A few of the areas of the markets I have been watching for the past few months for a potential investment showed signs of life last week, but seemed to be largely due to earnings coming in not as bad as some people had feared, rather than actual positive changes with the companies or, in many cases, the price of oil. Earnings last week provided one of my stock holdings with a very nice week as Flower Foods beat expectations of Wall Street by about 9 percent during the second quarter of 2015, but that was not all. Flower Foods also announced the acquisition of another bakery last week: Dave’s Killer Bread. This acquisition gives Flower Foods yet another foothold in a region in which the company was otherwise somewhat light: Oregon. In total, over the course of last week Flower Foods’ stock was up a little more than 10 percent.

 

Economic News:  Last week was as slow week for economic news releases with the vast majority of the releases coming in very close to market expectations. There were no releases that significantly missed or exceeded market expectations.

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Neutral 8/13/2015 Initial Claims Previous Week 274K 273K
Neutral 8/13/2015 Continuing Claims Previous Week 2273K 2247K
Slightly Positive 8/13/2015 Retail Sales July 2015 0.60% 0.50%
Neutral 8/13/2015 Retail Sales ex-auto July 2015 0.40% 0.50%
Neutral 8/14/2015 PPI July 2015 0.20% 0.10%
Neutral 8/14/2015 Core PPI July 2015 0.30% 0.10%
Slightly Negative 8/14/2015 University of Michigan Consumer Sentiment Index August 2015 92.9 93.9

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

The first economic news releases of the week last week were on Thursday and were the standard weekly unemployment related figures with both initial and continuing jobless claims coming in slightly above market expectations, but not by enough to have a noticeable impact on the overall markets. The markets were watching the retail sales figures, which were also released on Thursday for the month of July. Retail sales were shown to have increased overall at a 0.6 percent rate during the month, while retail sales excluding autos showed growth of 0.4 percent. While the growth may seem slow, it is never-the-less growth and signals that the US economy is probably strong enough to withstand a first rate hike at the September Fed meeting. On Friday the Producer Price Index (PPI) for the month of July was released with overall PPI increasing 0.2 percent while core PPI increased 0.3 percent. While both of these figures are well below the Fed’s target of 2 percent inflation they do signal that we are not in a deflationary environment and slow inflation may be enough for the Fed to push rates higher. If anything will slow down the actions of the Fed it will be slow inflation and slow wage growth. Wrapping up the week on Friday last week was the University of Michigan Consumer Sentiment Index for the month of August (middle estimate), which declined slightly from expectations printing a 92.9 reading, while the market had been expecting a reading of 93.9. It seems that fears over the future of rising interest rates combined with uncertainty surrounding the financial lunacy coming out of China have had a noticeable impact on the overall US consumer sentiment.

 

This week is a typical week for economic news releases as far as the number of releases, but it is an important week as the Fed meeting minutes will be released, which may give some more indication as to when rates will start to increase. The releases highlighted in green below have the ability to impact the overall markets on the day they are released:

 

Date Release Release Range Market Expectation
8/17/2015 Empire Manufacturing August 2015 5
8/18/2015 Housing Starts July 2015 1200K
8/18/2015 Building Permits July 2015 1257K
8/19/2015 CPI July 2015 0.20%
8/19/2015 Core CPI July 2015 0.20%
8/19/2015 FOMC Minutes Previous Meeting
8/20/2015 Initial Claims Previous Week 272K
8/20/2015 Continuing Claims Previous Week 2265K
8/20/2015 Existing Home Sales July 2015 5.42M
8/20/2015 Philadelphia Fed August 2015 7

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

This week starts on Monday with the release of the Empire manufacturing index for the month of August, which is expected to post a reading of 5. If we see a reading of 5 it would indicate that manufacturing activity in the greater New York region actually picked up at a faster pace in August than it did in July, when it posted a reading of 3.9. As always, with expectations of such a low number on the index, it brings the chance of the index posting a negative reading, which would imply that manufacturing contracted during the month. If we see a negative print, it could be negative for the overall economy, but that in turn could be positive for the markets as many investors would take such a reading as a signal that the Fed may not increase rates in September. On Tuesday, housing starts and building permits for the month of July are both set to be released and with the strong numbers that we have been seeing from the manufactures recently it would not be surprising to see both figures exceed the 1.2 million units that are expected. On Wednesday the Consumer Price Index (CPI) and the core CPI for the month of July is set to be released with expectations of a measly 0.2 percent increase during the month. This reading is far below the Fed’s target rate of 2 percent and while slow price inflation may be good to the consumer in the short term it can be trouble for the overall economy if it stays around for a significant period of time. The big release of the week is also set to be released Wednesday early afternoon, and that is the Fed’s meeting minutes from the last meeting. While the meeting minutes rarely hold any new information, these minutes in particular will be highly scrutinized as they could be the last meeting minutes to be released before the Fed starts to increase interest rates. On Thursday the standard weekly unemployment related figures for the previous week are set to be released with expectations that both figures will have come down slightly. It would take a drastic miss on either of these to make the market take notice as there are other releases during the day that will garner more attention. Existing home sales for the month of July are set to be released and expectations seem high at 5.42 million units, but this is not out of realm of possible. Later during the day on Thursday the Philadelphia Fed releases its latest manufacturing index figure for their region and while it is normally not watched too closing, this time could be different. Expectations are for a reading of 7, which is a nice gain from the 5.7 that was posted for the month of July, but you may remember that July was when the forecast was for a reading of 12 and it came in at only 5.7. If we see a second big miss in a row for the index that could prove trouble for the manufacturing activity in the Philly region, a key region of manufacturing in the US. In general, most economists do not become concerned about one region or another having a slow time with manufacturing at any given time, but when you get two or more major regions such as Philly and New York, it can be a cause for some concern.

 

Fun fact of the week—Capital of Brazil is not Rio!

 

Brazil’s capital relocation from very overcrowded Rio de Janeiro to the planned, built city of Brasilia occurred in 1961. This capital change had been considered for decades. Rio de Janeiro was thought to be too far from many parts of this large country. To encourage the development of the interior of Brazil, Brasilia was built from 1956-1960. Upon its establishment as Brazil’s capital, Brasilia experienced very rapid growth. Brazil’s capital change was considered very successful and many countries have been inspired by Brazil’s capital relocation achievement.

 

Source:  http://geography.about.com/

For a PDF version of the below commentary please click here Weekly Letter 8-10-2015

Commentary at a glance:

-Volatility continued in the US financial markets last week as the markets look for direction.

-Earnings season is rapidly drawing to a close.

-Trump has stolen the political spotlight once again.

-Greece looks poised to receive its funding after commencing talks with creditors.

-Economic data is pointing toward a September rate hike.

 

Market Wrap-Up: The roller-coaster ride in the global financial markets continued last week with the bears taking control of the markets and pushing them lower as the price of oil continued to tumble and uncertainty over the future movement of the Chinese stock market continues to concern investors. The charts below are of the three major US indexes in green with their respective trading ranges drawn by the red lines. The VIX (lower right pane below) is drawn with the index in green and the one year average level of the VIX drawn in red:

4 charts combined 8-10-15

From a technical standpoint, two of the three major indexes are tied, while one is clearly the worse off. The S&P 500 (upper left pane above) and the NASDAQ (lower left pane above) are tied for the top two positions as both indexes ended last week nearly on top of their support levels, seen in the red trading range lines drawn above. The Dow (upper right pane above) is clearly the worst performing index of the three majors, having broken down below its most recent trading range about two weeks ago before retesting the range and failing to meaningfully break back in. After testing the trading range, the index “bounced” off to the downside and last week broke through the low point of 2015. The Dow, going into this week, had seen seven consecutive trading days with losses. At some point we are due for a dead cat bounce as bottom fishers will likely come into the markets looking for a bargain and push up some of the stocks that have declined the most over the past seven days. A few of the key Dow component companies that were the driving force behind the seven day drop were Chevron, Walt Disney and Exxon, all of which were down by more than 7.5 percent over the trailing seven trading days. This trend of a few companies really driving the performance of a whole index was also clearly demonstrated on the NASDAQ on Thursday last week when the index declined by 1.62 percent. The main drivers for the NASDAQ on Thursday were Keurig (-29.75%), Viacom (-14.22%) and Tesla Motors (-8.88%). While the major indexes were moving lower, the VIX pushed higher, seemingly bouncing off of the lowest point of the year.

 

International News: International news last week continued to focus on the same few topics it has been stuck on for the past few months: China, Greece and Iran. There was little in the way of concrete developments in any of the three topics. Persistent headline speculation about the Chinese government buying everything in sight to prop up the financial market garnered the most attention. With nuclear negotiations between Iran and others completed and awaiting approval by the US Congress, it seems the oil market is pricing in the deal being passed. With the passage of the deal, sanctions would be lifted, thus giving way to a large amount of Iranian oil coming onto the open market. This could be one of the driving forces behind the drop in oil we continue to see as oil last week hit a new low point for 2015. Greece is currently holding a meeting with its creditors to secure the latest round of bailout funds being delivered in a timely fashion so that it can make its upcoming loan payment, due on August 20th, to the European Central Bank (ECB). It currently seems highly unlikely that the Greeks will do anything to jeopardize the country’s receipt of the needed funds. Despite these unfolding events in Europe, China remained prominent in last week’s international headlines.

 

The Chinese stock market volatility has made participation in all of the other financial markets around the world seem like a boat ride across a still pond, while recent participation in China’s markets has seemed like a boat ride through a hurricane. China versus S&P 500The chart to the right shows the S&P 500 in the blue line and the Chinese A share index in the red line since the end of May. While the US markets may have felt very volatile during the past two months (and they have been compared to the recent past) they have been nothing compared to China. The maximum decline of the Chinese market since May has been nearly 40 percent, while the maximum decline on the S&P 500 has been a measly 3.65 percent. This volatility in China has caused ripple effects throughout the investing world as many investors have been pulling out of China and many of the other Asian economies as well as these periphery economies are heavily dependent on what happens in China. Overall, the MSCI Asia Index has declined by more than 6.5 percent over the course of the past three months, thanks in large part to uncertainty around China. As mentioned last week, the Chinese government is on a pretty steep learning curve as it tries to figure out what can be done and what should be done in order to make investors feel safe in their financial markets. By my estimation, China currently poses the single largest threat to the global financial rally that so many investors have been enjoying for the past few years because global growth is already growing slowly, so it is vulnerable to existential shocks from individual countries – and particularly major economies – such as China.

 

National News: Politics made the majority of the headlines last week with Donald Trump stealing most of them as he seems to have no shortage of politically incorrect things to say. Leading up to the Republican debate last week the media was abuzz about whether Trump would keep his sizable lead when having to go head to head with the other Republican candidates on the main stage and whether he would say anything off the cuff that was politically divisive. Trump managed to steal the show on the very first question by being the only candidate to raise his hand on the question about pledging not to run as a third party candidate. Other candidates had very good nights, in that they did not fall, but very few really saw any upward momentum from the rebate, with the exception of Carly Fiorina, who won the debate according to an NBC poll, despite her not even taking part in the main event. While all of this was going on within the Republican side of the ticket the Democrats seem to be standing back and watching the circus unfold, while trying to stay out of Donald Trump’s line of fire. The financial markets have an uncanny ability to discount much of what is said in the media and especially in the political media until the dust has settled. Many of the ideas thrown out by the candidates during an election season have no chance of actually coming to fruition, even if the candidate does get into office since the ideas require many more signatures than the President’s alone. The main thing in the election cycle that can influence the markets are topics such as changing the long term capital gains tax treatment, changes to social security and overall changes to the tax code. All of those three topics are typically spoken about on the campaign trail, but there is little political will to actually enact any meaningful changes. The other main topic of the national media last week was the continuation of earnings season for the second quarter of 2015, as last week moved us well past the three quarter mark for the season.

 

Last week many well known companies released their second quarter 2015 earnings results and there were more negative releases than positive (there is more red than green highlighting in the table below). The table includes the better known companies that released earnings last week with earnings that missed expectations highlighted in red, while earnings that beat expectations by more than 10 percent are highlighted in green:

 

3D Systems -167% Groupon -50% Red Lion Hotels 85%
Aetna 11% Hershey 5% Rosetta Stone -3%
Alleghany 16% Hyatt Hotels -38% SeaWorld Entertainment -45%
Aqua America 0% Kate Spade -27% Sotheby’s -17%
Boulder Brands -100% Kellogg 1% South Jersey Industries -70%
Bristow Group -34% Liberty Media -22% Sprint 88%
CenturyLink -10% Marathon Oil 15% Sprouts Farmers Market 0%
Church & Dwight 4% Molson Coors Brewing 6% St. Joe -100%
Clorox 6% Monster Beverage -12% Tesla Motors 41%
Coach 7% New York Times 18% Time 108%
CVS Health 2% Noble Energy 333% Time Warner 21%
DaVita HealthCare 1% Noodles & Company -17% Tyson Foods -16%
Discovery Communications 4% Office Depot 0% Vitamin Shoppe 6%
DISH Network 52% Papa John’s International -4% Walt Disney 4%
EchoStar 13% Prudential Financial 18% Wendys -11%
Fitbit 171% Ralph Lauren 9% Zillow Group 19%

 

According to Factset Research, we have seen 436 (87 percent) of the S&P 500 companies release their results for the second quarter of 2015. Of the 436 that have released, 73 percent have met or beaten earnings estimates while 27 percent have fallen short of expectations. This percentage of companies beating expectations was unchanged over the course of the past week and remains at the 5 year average of companies beating earnings expectations. When looking at revenue of the companies that have reported, 51 percent of the companies have beaten estimates while 49 percent have fallen short. This figure slipped by 1 percent over the course of the previous week and remains below the five year average level of companies beating revenue expectations, which stands at 57 percent. In looking at the companies that have given forward guidance for the third quarter of 2015, 56 companies according to Factset have issued negative guidance while 22 companies have issued positive forward guidance. We are now nearing the home stretch for earnings season and if the current trends continue it looks like second quarter earnings season will go down as a quarter during which Energy saw one of the largest year over year declines in earnings that they have seen for many years as earnings declined by 56.4 percent. Coal in particular had a very rough quarter with earnings declining by more than 600 percent. Healthcare continues to be the best performing sector of the markets for the quarter with earnings for the sector posting a gain of 32 percent on a year over year basis.

 

Below is a table of the better known companies that will release their earnings this week, with the releases that have the most potential to move the markets highlighted in green:

 

Advance Auto Parts Flowers Foods Macys
Alibaba Group Fossil Group News Corp
Applied Materials J C Penney Company Nordstrom
Cisco Systems Jack Henry & Associates Red Robin Gourmet Burgers
Dean Foods King Digital Entertainment Shake Shack
Dillard’s Kohls Corp Sysco

 

Large national retailers seem to be one of the focal points of earnings releases this week as Macys, JC Penney, Dillard’s and Kohls all release their second quarter 2015 results. With the consumer spending numbers that came out during the second quarter and the results we have already seen for the quarter, it looks like all five of the above mentioned companies could turn in strong positive results. One interesting company that many technology investors will be watching this week is King Digital (which makes cell phone games that include Candy Crush and many others) as the company has been steadily trending below its IPO price of March of 2014. Cell phone games are a very difficult business because you have to get very lucky to make the game that becomes the fad and then repeat the process if you are to stay on top.

 

In addition to politics and earnings the markets are still keenly watching for signals in the economic data that will tell them if the Fed will push ahead with a September lift off of interest rates or if the Fed will delay and push liftoff back to December. Fed watch 8-10-15The table to the right shows the latest odds of a Fed rate hike at each of the next few meetings and what the odds were this time last week. As you can plainly see, the odds of an interest rate hike in September have been going up much higher over the past week. This is due to the economic data that has been released pointing toward more of the same in terms of neither positive or negative data. With the absence of negative data points, the Fed looks poised to move ahead with the hikes earlier rather than later. The data points are discussed in greater detail below in the economic news releases section.

 

Market Statistics: We still seem to be on a weekly roller coaster for the financial markets, as we have now seen more than six weeks of chopping by the markets. With two weeks ago being a positive week, last week set up for a negative week if the trend was to continue and the market did not disappoint:

 

Index Change Volume
S&P 500 -1.25% Above Average
NASDAQ -1.65% Average
Dow -1.79% Below Average

 

 

When looking at sectors, the following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change   Bottom 5 Sectors Change
Utilities 0.73%   Biotechnology -3.62%
International Real Estate 0.50%   Home Construction -3.34%
Consumer Goods 0.17%   Energy -3.29%
Consumer Staples -0.08%   Pharmaceuticals -3.14%
Semiconductors -0.08%   Oil & Gas Exploration -2.78%

 

When looking at the sector movement last week, it is hard not to see the risk on and risk off trading strategy playing out. Last week happened to be a risk off trade with very defensive positions such as Utilities, Real Estate and Consumer Staples turning in the best performance. While the much more risky aspects of the financial markets such as Biotechnology, Energy and Pharmaceuticals all had a very rough time. Some of the performance can be attributed to earnings announcements, but there is very clearly a risk off trade that took place.

The US fixed income market moved mostly higher last week, especially on the long end of the curve, as investors continue to await the decision by the Fed to start increasing interest rates:

Fixed Income Change
Long (20+ years) 1.70%
Middle (7-10 years) 0.14%
Short (less than 1 year) 0.01%
TIPS -0.51%

Currencies continue to trade in a muted fashion as the financial struggles of many of the different regions of the world seem to be keeping currency traders from making large moves one direction or the other with the majority of the global currencies. The US dollar gained 0.35 percent last week against a basket of international currencies. The Australian dollar was the strongest performing currency last week after gaining 1.35 percent. The weakest performing currency of the major global currencies was the Swiss Franc, which gave up 1.88 percent against the value of the US dollar. The Euro managed to slide only slightly last week, giving up 0.25 percent as we seem to be slowly marching toward parity with the US dollar.

Last week, commodities were mixed with oil and some of the precious metals moving lower, while everything else moved higher:

Metals Change   Commodities Change
Gold -0.27%   Oil -6.61%
Silver 0.21%   Livestock 0.92%
Copper -1.19%   Grains 1.70%
      Agriculture 0.19%

The overall Goldman Sachs Commodity Index gave up 3.15 percent last week, thanks in large part to the decline of 6.61 percent in the price of oil. Oil briefly hit $43.35 last week, the lowest point we have seen over the past 5 years, as demand continued to be weak for the liquid gold. The major metals saw mixed performance last week with Gold giving up 0.27 percent as Gold continues to struggle to regain the $1,100 level, while Silver increased 0.21 percent and Copper dropped 1.19 percent. Soft commodities moved higher last week with Livestock gaining 0.92 percent, while Grains advanced 1.70 percent and Agriculture overall moved higher by 0.19 percent. Grains snapped a two week losing streak last week with its gain, but still saw a decline of more than 10 percent over the course of just three short weeks. If prices stay depressed we may start to see some relief at the grocery store, but prices would have to stay low for a significant period of time for that to occur.

This week the international performance is exactly the inverse of what occurred two weeks ago. China turned in the top performance of the global financial indexes last week as the Shanghai based Se Composite Index advanced by 2.2 percent. The advance in the Chinese market was largely due to speculators buying on the massive decline seen two weeks ago and on rumors that the government was going to step in even more with market supporting measures. Australia turned in the worst performance last week as the Sydney based All Ordinaries Index turned in a weekly loss of 3.7 percent. The decline in Australia continued to be driven by the uncertainty over demand for raw materials out of China, a phenomenon that is likely to continue for many months to come as everyone tries to discern what is actually happening in the Chinese economy.

We have now seen four consecutive weeks in a row of the VIX moving by greater than 10 percent, either positive or negative. This really drives home the fact that we are currently experiencing a very volatile time in the financial markets. After starting out the week last week very close to the lowest point of the year thus far for the VIX, the VIX made quick work of gaining ground off the bottom, adding more than 3.5 percent on both Monday and Tuesday to start the week. We are currently more than 10 percent below the 52-week average level of the VIX. At the current level of 13.39, the VIX is implying a move of 3.86 percent over the course of the next 30 days. As always, the direction of the move is unknown.

For the trading week ending on 8/7/2015, returns in my hypothetical models* (net of a 1% annual management fee) were as follows:

  Last Week Since 6/30/2015
Aggressive Model -0.13 % 3.44 %
Aggressive Benchmark -1.00 % -0.31 %
Growth Model -0.06 % 2.69 %
Growth Benchmark -0.78  % -0.23  %
Moderate Model 0.12 % 1.95 %
Moderate Benchmark -0.55 % -0.15 %
Income Model 0.17 % 1.70 %
Income Benchmark -0.27 % -0.07 %

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

I made no changes to my models over the course of the previous week as the risk off trade mentioned above played well into the holdings we already had. I continue to look for buying opportunities in the ongoing market volatility, but have found opportunities few and far between. The areas of the market that are down and look like a good value are down there for very good reasons. Coal would be a very good example of an area of the market that has seen a very large contraction as prices of many of the stocks have declined in excess of 70 percent and that is just the companies that have not gone bankrupt. Coal at some point will likely turn around as much of the developing world still utilizes a lot of coal for their power generation as it is the cheapest form of energy production. But trying to guess which of the potential coal investments will come out on top currently seems like a fool’s errand. I continue to maintain my high levels of cash and my hedging positions as the markets continue to look overvalued and there seems to be more risk of a meaningful downward move than the potential for an upside surprise.

 

Economic News:  Last week was a busy week for economic news releases in terms of the number of releases as many month end releases for the month of July were released. There was only one release that significantly beat expectations (highlighted in green below) and no releases that significantly missed market expectations:

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Neutral 8/3/2015 Personal Income June 2015 0.40% 0.30%
Neutral 8/3/2015 Personal Spending June 2015 0.20% 0.20%
Neutral 8/3/2015 PCE Prices – Core June 2015 0.10% 0.20%
Slightly Negative 8/3/2015 ISM Index July 2015 52.7 53.7
Neutral 8/4/2015 Factory Orders June 2015 1.80% 1.80%
Slightly Negative 8/5/2015 ADP Employment Change July 2015 185K 220K
Positive 8/5/2015 ISM Services July 2015 60.3 56.3
Neutral 8/6/2015 Initial Claims Previous Week 270K 271K
Neutral 8/6/2015 Continuing Claims Previous Week 2255K 2238K
Neutral 8/7/2015 Nonfarm Payrolls July 2015 215K 227K
Neutral 8/7/2015 Nonfarm Private Payrolls July 2015 210K 223K
Neutral 8/7/2015 Unemployment Rate July 2015 5.30% 5.30%
Neutral 8/7/2015 Consumer Credit June 2015 $20.7B $17.0B

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

Last week’s economic news releases started out on Monday with the release of Personal Income and Spending for the month of June, both of which came in very close to market expectations and had little noticeable impact on the overall markets. Prices at the personal consumption level were also released on Monday and to no one’s surprise they showed that there is nearly zero inflation currently in prices here in the US. Later during the day on Monday the ISM index was released with the reading being 52.7 rather than the expected 53.7, so while the release still indicated an expansion, it was at a slower pace than was expected. This slow but steady growth is likely one of the factors pushing the Fed towards action. On Tuesday factory orders for the month of June were released, but came in at market expectations, thus having little effect on the overall markets. On Wednesday the first of the employment rated figures for the week were released with the ADP employment change figure for the month of July showing 185,000 new jobs created during the month. While this is below the expected 220,000 jobs and below the very important 200,000 level, it was not low enough to cause alarm or signal that the Fed might need to pause the rate hike plan. The services side of the ISM was also released on Wednesday and, unlike the overall ISM, it came in better than expected, showing an expansion that was significantly faster in July than in June. With the services industry being such a significant part of the overall US economy, this positive release would likely aid in the thinking of a Fed hike in September. On Thursday the standard weekly unemployment related figures for the previous week were released with both figures coming in very close to market expectations. On Friday the government released the latest round of its data about employment, which showed that the official unemployment rate in the US in July remained unchanged from June at 5.3 percent. The payrolls data, however, came in slightly weaker than expected, but not weak enough to cause alarm. The labor force participation rate according to the government remained stuck at 62.6 percent, which is tied for the lowest point we have seen over the past 38 years. This low of a labor force participation rate remains a major concern and could be one of the points looked at in the Fed decision. If so, it would point toward waiting on raising rates longer than the market expects. The U6 unemployment rate (which includes those who have dropped out of the workforce as well as those who are underemployed) inched down to 10.5 percent from 10.6 percent. While this figure may sound very high relative to the official unemployment rate, you have to remember that the U6 rate topped out just under 18 percent back in 2008/2009. A rate near 10 on the U6 is likely to push the Fed toward action sooner rather than later. The final release of the week last week on Friday was the release of consumer credit for the month of July, which came in slightly higher than expected, but not by enough for the markets to react.

 

This week is a slow week for economic news releases as the market continues to digest the large number of releases that came out last week. The releases highlighted in green below have the ability to impact the overall market on the day they are released:

 

Date Release Release Range Market Expectation
8/13/2015 Initial Claims Previous Week 273K
8/13/2015 Continuing Claims Previous Week 2247K
8/13/2015 Retail Sales July 2015 0.50%
8/13/2015 Retail Sales ex-auto July 2015 0.50%
8/14/2015 PPI July 2015 0.10%
8/14/2015 Core PPI July 2015 0.10%
8/14/2015 University of Michigan Consumer Sentiment Index August 2015 93.9

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

The first economic news releases this week are the standard weekly unemployment related figures for the previous week, which are released on Thursday. Expectations are for little change over last week’s figures. It would take some very wide deviation from these expectations to have the markets move at all due to these releases. Also released on Thursday is the retail sales figures for the month of July, which could have a noticeable impact on the overall markets and potentially could impact the Fed interact rates decision. Expectations are for an increase of 0.5 percent on both overall sales and retail sales excluding autos. It is somewhat rare that expectations are the same for both figures and highly unlikely that both will come in at 0.5 percent. If we see a print near or below zero it would be negative for the economy, but potentially positive for the Fed waiting until after September to start increasing interest rates in an awkward “bad news” is good for the markets situation. On Friday the producer price index (PPI) for the month of July is set to be released with expectations that prices will have only risen by 0.1 percent during the month, well below the Fed’s inflation target of 2 percent. Inflation remaining stubbornly low is probably the single largest data point that is pointing toward waiting on increasing interest rates. Wrapping up the week on Friday is the release of the University of Michigan’s Consumer Sentiment Index for the month of August, which is expected to post a figure of 93.9, which is a slight improvement since the end of July, but not a big enough move for the market to really take much notice. In addition to the scheduled economic news releases there are also 5 speeches by Federal Reserve officials that will be closely watched by the markets this week, with the majority of them being given on Monday. As always, it is unlikely that anything new will be released at the speeches, but there is a slight chance each time!

 

Fun fact of the week— U.S. Postal Service Spring “Improvement”

 

The U.S. Postal Service is reporting a net loss of $586 million this spring, but that’s a big improvement over the $2 billion shortfall for the same period last year.

 

Source: Associated Press

For a PDF version of the below commentary please click here Weekly Letter 8-3-2015

Commentary at a glance:

-Volatility continued in the US financial markets last week.

-The Fed rate decision and statement held little concrete information about when rates may increase.

-Earnings season moved ahead, but deteriorated a little last week.

-The first Republican Presidential debate is upon us and it could get very interesting!

-Consumer Confidence declined by much more than was expected.

 

Market Wrap-Up: The rollercoaster ride in the global financial markets continued last week with the bulls taking control of the markets and pushing them higher on the backs of continued positive earnings results combined with continued uncertainty surrounding the Fed. The charts below are of the three major US indexes in green with their respective trading ranges drawn by the red lines. The VIX (lower right pane below) is drawn with the index in green and the one year average level of the VIX drawn in red:

4 charts combined 8-3-15

Range bound would be a good way to describe the current market conditions for the US financial markets as we have now seen sideways movement for the past few months. This directionless wandering by the markets is unlikely to change until some catalyst pushes the markets either higher or lower. Right now it looks like there is more risk of a downside move than an upside surprise. The Fed increasing rates is a potentially downward moving event; more on this topic below in the National news section. Puerto Rico is also a potentially downward pushing event as the country is on the door step of default right now. On Friday there was a loan payment in the amount of $58 million due by the government in Puerto Rico and the country has until close of business today (Monday 8/3/15) to make the payment or it will go into default. The rating agencies have already warned that default is likely at this point, as Puerto Rico simply does not have the money to make the payment. Puerto Rico is also trying to negotiate all of the other outstanding debts and is looking for an extension of existing terms and outright forgiveness of some of its debts. While contagion due to a default in Puerto Rico is highly unlikely, it could cause problems for some of the tax free municipal bond mutual funds, which loaded up on Puerto Rican bonds due to their high yield and double tax exempt status.

 

From a technical standpoint, the NASDAQ (lower left pane above) is currently the strongest of the three major indexes as it is up near the top of its trading range. The S&P 500 (upper left pane above) is in a close second as it is in the middle of its trading range, while the Dow (upper right pane above) is bringing up the rear after failing to make it back into its trading range. The VIX, on the other hand, has moved lower over the course of the previous week and now rests near the lowest point we have seen so far during 2015.

 

International News: International news last week was highlighted by the continued extreme volatility seen in the Chinese stock market as well as the start of negotiations in Greece between the government and creditors. China saw a very wild trading session on Monday last week as the main index declined by more than 8 percent, only to see the government come in and try to stop the rumors that it was going to be pulling its support for the market over the coming days. Currently the Chinese stock market is not for the faint of heart as we have seen several moves in excess of 10 percent either up or down in a matter of only a few days. The government in China is learning right now how to deal with a “free market economy” despite the market being anything but free. Over time the government will likely come to understand what pulling different levers and pushing different buttons does to the actual economy and financial markets, but until it learns the ropes it will be a very jerky ride. This learning, however, puts the overall health of the global economy at risk, as China is the second largest economy in the world and is responsible for a big part of the global growth that we have been seeing over the past decade.

 

Greece made headlines once again last week as the country is just now starting negotiations on the latest round of bailout funds. While the dollar amount has already been agreed to, the details have largely not been hammered out yet. The Troika this time around will be four members strong as representatives from the European Commission, European Central Bank, European Bailout Fund and International Monetary Fund now take part, with the European Bailout Fund being the new player in the negotiations. The negotiations need to quickly make significant headway as Greece owes the ECB a payment of about 3 billion euros by August 20th and while a bridge loan has been extended to cover the payment there are strings attached that the Greek government must be making progress with creditors in order for the payment to be made. One other wild card in Greece is that a party in Greece is calling for a no confidence vote and seems to be gaining ground with the general public. If the party gets its way, it would like to see a new government seated, likely one that is against all of the spending cuts and austerity measures the current government agreed to in order to secure further bailout funds. We are still a long way from a conclusion to this situation and the markets will likely start to take notice if things take a turn for the worse with the Troika.

 

National News: National news last week focused on two main topic and they are the same two topics that have been making headlines for the past few weeks. The first was the Federal Reserve and Chair Yellen’s upcoming decision about when to start increasing interest rates. The Federal Open Market Committee (FOMC) met for their July (28th through 29th) meeting last week and issued a statement. The statement was very close to the statement issued after the June meeting, but there were a few key differences. The main section of the statement that led many investors to think a rate hike is coming as soon as September is when the statement discussed economic activity as expanding “moderately” in recent months, as well as citing moderate growth in household spending and improvement in the housing sector. One area of the statement that continued to show some weakness was wage inflation, which has remained relatively stagnant, as has overall inflation in the US economy, which the Fed has targeted to be near 2 percent. This is perhaps the biggest concern for the Fed when debating increasing interest rates, as increasing rates typically lowers inflation and inflation is already running substantially under the Fed’s comfort level. At this point, it still looks like the Fed will be increasing interest rates at some point during 2015. The most likely meeting at which the Fed would potentially increase rates is either the September meeting or the December meeting, since both of these meetings have a planned press conference after the release of the FOMC statement. Chair Yellen will likely want to take the microphone and explain herself as well as answer questions immediately after increasing the Fed funds rate. The only other Fed meeting to happen this year is the October meeting, but there is no press conference after that meeting, so it is unlikely to be the meeting at which the Fed increases rates. What happens to the financial markets when interest rates do start to increase is a very common question in the finical media currently and the answer can be a little confusing. According to research conducted by S&P, looking back more than 80 years, the US financial markets, on average, declined by about 5 percent following the initial rate hike. However, when looking one year out after the first increase, the markets were up on average nearly 14 percent. There appears to be a historic precedent for a sharp decline followed by a slow and steady increase in the financial markets after a hike in the Fed funds rate. However, each of the previous rate increases has started at a level other than zero, which is what the Fed will be coming off of this time, so how the markets will behave really is unknown. In addition to speculation about the future moves of the Fed, the national media last week focused on the continuation of second quarter 2015 earnings season.

 

Last week many well known companies released their second quarter 2015 earnings results and there were more negative releases than positive, as can be seen in the table below as there is slightly more red than green. Below is a table of the better known companies that released earnings last week with earnings that missed expectations being highlighted in red, while earnings that beat expectations by more than 10 percent are highlighted in green:

 

Aflac -1% Equity Residential 0% Owens & Minor 2%
Ally Financial 5% Ethan Allen Interiors 0% Panera Bread -1%
Altria Group 3% Exxon Mobil -10% Pfizer 10%
Amgen 6% Facebook -3% Phillips 66 1%
AIM 4% Ford Motor 34% Pitney Bowes 2%
Aptargroup 20% General Dynamics 12% Procter & Gamble 6%
Arrow Electronics 3% Gilead Sciences 10% Public Storage 0%
Arthur J. Gallagher -1% Goodyear Tire & Rubber 14% Standard Pacific 0%
Atmel -29% Hanesbrands 0% Starwood Hotels & Resorts 14%
ADP -7% International Paper 5% Time Warner Cable -15%
Booz Allen Hamilton 0% Iron Mountain -13% T-Mobile 147%
BorgWarner -10% J & J Snack Foods -1% Twitter 21%
Callaway Golf 67% JetBlue Airways 0% United Parcel Service 7%
Chevron -73% Level 3 Communications 5% United States Steel -14%
Colgate-Palmolive -1% LinkedIn 42% Valero Energy 10%
Columbia Sportswear 59% Manitowoc -27% WebMD Health 23%
ConocoPhillips 40% Marriott International 1% Western Union 5%
Crocs 16% MasterCard 0% Whole Foods Market -4%
D.R. Horton 20% Metlife 6% Wynn Resorts Ltd -24%
Electronic Arts 111% Northrop Grumman 9% Xcel Energy -3%

 

According to Factset Research we have seen 354 (71 percent) of the S&P 500 companies release their results for the second quarter of 2015. Of the 354 that have released, 73 percent of them have met or beaten earnings estimates, while 27 percent have fallen short of expectations. This percentage of companies beating expectations moved lower by 3 percent over the course of the past week and now sits directly on the 5 year average of companies beating earnings expectations. When looking at revenue of the companies that have reported, 52 percent of the companies have beaten estimates, while 48 percent have fallen short. This figure slipped by 2 percent over the course of the previous week and is now below the five year average level of companies beating revenue expectations, which stands at 57 percent. In looking at the companies that have given forward guidance for the third quarter of 2015, 44 companies, according to Factset, have issued negative guidance, while 18 companies have issued positive forward guidance. We are now near the three quarter mark for earnings season and so far second quarter earnings season is turning out to be a little better than expected, with much of the surprise coming from the Energy sector as the earnings from that sector have been better than the horrible results that were initially expected.

 

Below is a table of the better known companies that will release their earnings this week, with the releases that have the most potential to move the markets highlighted in green:

 

3D Systems Groupon Red Lion Hotels
Aetna Hershey Rosetta Stone
Alleghany Hyatt Hotels SeaWorld Entertainment
Aqua America Kate Spade Sotheby’s
Boulder Brands Kellogg South Jersey Industries
Bristow Group Liberty Media Sprint
CenturyLink Marathon Oil Sprouts Farmers Market
Church & Dwight Molson Coors Brewing St. Joe
Clorox Monster Beverage Tesla Motors
Coach New York Times Time
CVS Health Noble Energy Time Warner
DaVita HealthCare Partners Noodles & Company Tyson Foods
Discovery Communications Office Depot Vitamin Shoppe
DISH Network Papa John’s International Walt Disney
EchoStar Prudential Financial Wendy’s
Fitbit Ralph Lauren Zillow Group

 

Consumer facing companies seem to be the focus of this week’s quarterly earnings as there are numerous releases that will be released. Walt Disney is always an interesting company to watch during earnings season, as the company is so large and touches a wide spectrum of everyday Americans that the company provides a decent gauge into the overall health of the US economy. Along with Disney, there are numerous other media companies, such as Liberty Media, DISH networks, CenturyLink, Time Warner and Discovery Communications that release earnings this week. Overall expectations on earnings for the media group as a whole are low, as many younger consumers have started to “cut the cord” and move exclusively to online content for their media experiences. This has been seen already in earnings season, as Netflix and Amazon both turned in very strong subscriber growth for their online media content platforms.

 

This week is the start of the official Presidential election run-up with the Republicans holding their first debate in Cleveland Ohio, which could be very interesting to watch. The top ten Republican Presidential hopefuls will meet to debate a wide range of topics. One thing is certain: it will be a very lively debate and Donald Trump is likely to make some very not-politically-correct statements. Trump is currently leading the field for the Republican Party nomination, but it still seems very unlikely that he will become the nominee. On the Democratic side, Sanders has been making pretty strong moves in the polls despite Hillary Clinton clearly being the front runner. Vice-President Joe Biden may also be jumping into the race in the coming days or weeks as there are numerous reports that he is assembling a campaign team for a 2016 run.

 

Market Statistics: We still seem to be on a weekly roller coaster for the financial markets, as we have now seen more than 5 weeks of chopping by the markets. With two weeks ago being a down week, last week set up for a positive week if the trend was to continue and the markets did not disappoint:

 

Index Change Volume
S&P 500 1.16% Average
NASDAQ 0.78% Average
Dow 0.69% Average

 

As mentioned above, we seem to be in a sideways moving market and conditions seem like they will continue to the foreseeable future. There are several catalysts currently playing out in the markets with some being positive, while others are negative. The primary catalysts right now are US earnings season and the uncertainty surrounding the Chinese markets and economy.

 

When looking at sectors, the following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change Bottom 5 Sectors Change
Home Construction 4.64% Broker Dealers -0.66%
Transportation 4.09% Regional Banks -0.40%
Utilities 3.94% Energy -0.21%
Telecommunications 3.93% Financial Services -0.03%
Industrials 2.43% Oil & Gas Exploration 0.25%

Earnings announcements remained the primary driving force behind various sector movements last week, as sectors such as home construction turned in strong quarterly results. The transportation sector saw a bit of a rebound last week after struggling over the past few weeks. Utilities had a good week with investors seemingly moving back into the sector, despite the risk of rising interest rates in the near term adversely affecting the sector. On the negative side, financials had a rough week, as did energy, which just seems like it cannot catch a break. Energy has been in the dog house now for many weeks and, despite the sector as a whole turning in results that are very poor but in line with expectations, it seems there could still be more downward movement from the sector.

The US fixed income market moved mostly higher last week, especially on the long end of the curve as investors got little clarity from the Fed meeting as to when it will start to increase interest rates:

Fixed Income Change
Long (20+ years) 0.94%
Middle (7-10 years) 0.60%
Short (less than 1 year) -0.02%
TIPS 0.49%

The US dollar was little changed last week, giving up 0.08 percent against a basket of international currencies as investors seemed to be uncertain about which currencies will perform well in the near future and decided to largely stay put with what they already had last week. The British Pound was the strongest performing currency last week after gaining 0.72 percent. The weakest performing currency of the major global currencies was the Swedish Krona as it gave up 0.43 percent against the value of the US dollar. As we get further into the latest round of negotiations with the Troika (that is now made up of four lenders) we could start to see more movement out of the Euro, which has recently been holding pretty steady around the 1.10 level to the US dollar.

Last week commodities were slightly mixed as the majority moved lower, but there were a few commodities that managed to turn in positive performance:

Metals Change Commodities Change
Gold -0.40% Oil -2.74%
Silver 0.43% Livestock 1.17%
Copper -1.56% Grains -3.94%
Agriculture -1.11%

The overall Goldman Sachs Commodity Index gave up 2.58 percent last week thanks in large part to the decline of 2.74 percent in the price of oil. The major metals saw mixed performance last week with Gold giving up 0.40 percent, staying below $1,100 per ounce now for the second week in a row, while Silver increased 0.43 percent and Copper dropped 1.56 percent. Soft commodities also were mixed last week with Livestock gaining 1.17 percent, while Grains declined 3.94 percent. Agriculture overall moved lower by 1.11 percent. The two week combined decline in the price of grains is now larger than 14 percent as the US harvest continues to be questioned due to some wild weather.

Australia made the top of the list for international financial market performance last week as the Sydney based All Ordinaries Index turned in a weekly gain of 2.20 percent. Much of this gain was due to investors buying shares in listed companies that had been absolutely hammered over the past few weeks. With the demand for raw materials from China being questions over the past few weeks and Australia’s stock exchange taking a big hit, it was not surprising to see a little bounce back rally last week. The real question now becomes: can the index continue to push higher or will the downward trend of the past few weeks resume? As expected, China turned in the worst performance of the global financial indexes last week as the Shanghai based Se Composite Index declined by 10 percent. The volatility of the recent months in the Chinese stock market has been largely driven by the government as it is learning how to handle a financial market that leans on its every word and reacts very quickly to actions taken that change the rules of investing in China.

The roller coaster of the financial markets continues to be seen in the VIX with the VIX pretty much moving as the inverse to the market. Last week the VIX declined by 11.79 percent; this comes on the heels of the more than 15 percent gain on the VIX that was seen two weeks ago. We are currently well below the 52-week average level of the VIX and are very close to the lowest point that we have seen so far during 2015. At the current level of 12.12, the VIX is implying a move of 3.50 percent over the course of the next 30 days. As always, the direction of the move is unknown.

For the trading week ending on 7/31/2015, returns in my hypothetical models* (net of a 1% annual management fee) were as follows:

  Last Week Since 6/30/2015
Aggressive Model 2.09 % 3.58 %
Aggressive Benchmark 0.85 % 0.70 %
Growth Model 1.48 % 2.76 %
Growth Benchmark 0.66  % 0.56  %
Moderate Model 0.86 % 1.92 %
Moderate Benchmark 0.47 % 0.40 %
Income Model 0.51 % 1.53 %
Income Benchmark 0.24 % 0.21 %

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

Despite some very interesting moves (both positive and negative) in several of the individual stock positions I own in my models, I did not make any adjustments to my models over the course of the previous week. Overall, we have now seen more than half of the individual companies we own report their earnings for the second quarter of 2015 and on the whole earnings have been as expected. The strength of the US dollar continued to hurt some of the large multinationals, but they are adjusting to the strong dollar and saw less of an impact going forward on future earnings. The biggest downside movers this week on earnings day of the individual stocks was Proctor and Gamble (PG) giving up 4.01 percent due to weaker than anticipated sales during the quarter as well as strong headwinds from the US dollar. The biggest upside single day surprises of the week from earnings were AptarGroup (ATR) gaining 6.5 percent, Northrop Grumman (NOC) gaining 6.18 percent and Raytheon (RTN) gaining 4.11 percent. Big energy companies still look like the most attractive place in the markets to find value investments, but as we saw last week those value investments can become even cheaper, as demonstrated by XOM and CVX, both of which fell more than 4.5 percent on the day they released poor second quarter 2015 results.

 

Economic News:  Last week was a pretty typical week for economic news releases in terms of the number of releases. There was both one release that significantly beat expectations (highlighted in green below) and one that missed market expectations (highlighted in red below):

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Slightly Positive 7/27/2015 Durable Orders June 2015 3.40% 3.00%
Neutral 7/27/2015 Durable Goods -ex transportation June 2015 0.80% 0.50%
Neutral 7/28/2015 Case-Shiller 20-city Index May 2015 4.90% 5.60%
Negative 7/28/2015 Consumer Confidence July 2015 90.9 100
Slightly Negative 7/29/2015 Pending Home Sales June 2015 -1.80% 1.00%
Neutral 7/29/2015 FOMC Rate Decision July 2015 0.25% 0.25%
Neutral 7/30/2015 Initial Claims Previous Week 267K 271K
Neutral 7/30/2015 Continuing Claims Previous Week 2262K 2200K
Neutral 7/30/2015 GDP-Adv. Q2 2015 2.30% 2.60%
Positive 7/31/2015 Chicago PMI July 2015 54.7 50.5
Slightly Negative 7/31/2015 University of Michigan Consumer Sentiment July 2015 93.1 94

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

Last week started out on Monday with the release of the durable goods orders for the month of June, both including and excluding transportation. Overall orders were shown to have increased by 3.4 percent during the month, slightly better than was expected, while orders excluding transportation came in very close to market expectations. On Tuesday the Case-Shiller 20 City Home Price Index for the month of May was released and showed that home prices continued to increase during the month, but did so at a slightly slower pace than the market was expecting as we have now gotten through the majority of the spring and early summer buying season. The big release of the day on Tuesday, however, was negative with the consumer confidence figure for the month of July being released. Expectations had been for consumer confidence to print a reading of 100, but instead it printed a reading of only 90.9, one of the largest misses between actual and expectations I can find looking back through a few years of data. The primary reasons given for the decline were less optimism about the labor market and uncertainty over the situations in both Greece and China. While a reading of 90.9 is still relatively high when compared to historic levels, the sharp downward movement is concerning. If the US consumer loses confidence in the overall health of the economy and tightens down even more on spending it could make things very difficult for economic growth here in the US. On Wednesday the FOMC rate decision to leave rates alone came out and the scrutiny of the changes in the Fed statement dominated the headlines for the day.  Pending Home Sales figures for the month of June were also released on Wednesday and were slightly worse than expected, but the release was largely overshadowed by the Fed. On Thursday the standard weekly unemployment related figures for the previous week were released with initial jobless claims coming in at expectations, while continuing jobless claims came in slightly higher than anticipated. The big release of the day, however, was the advanced estimate of the second quarter GDP here in the US, which came in at 2.3 percent growth while the markets had been expecting 2.6 percent growth. This release was both close enough, and only the advanced reading, that the difference did not seem to have an adverse effect on the overall markets. On Friday the Chicago PMI for the month of July was released and came in better than anticipated with a reading of 54.7, while the markets had only been looking for a reading of 50.5. This uptick in the PMI signals that the economy in the greater Chicago area is stronger than first anticipated. In fact, the economic activity in the Chicago area is now growing at a faster pace than we have seen since January. Wrapping up the week last week on Friday was the release of the University of Michigan’s Consumer Sentiment Index, which posted a slightly lower reading than was expected. However, the decline was much smaller than the decline seen with the government’s reading of Consumer Confidence released earlier during the week, so the release turned out to be somewhat of a relief to the markets.

 

This week is a busy week for economic news releases, comprised of many of the key pieces of data the Fed is closely watching in trying to determine when to start increasing interest rates. The releases highlighted in green below have the ability to impact the overall market on the day they are released:

 

Date Release Release Range Market Expectation
8/3/2015 Personal Income June 2015 0.30%
8/3/2015 Personal Spending June 2015 0.20%
8/3/2015 PCE Prices – Core June 2015 0.20%
8/3/2015 ISM Index July 2015 53.7
8/4/2015 Factory Orders June 2015 1.80%
8/5/2015 ADP Employment Change July 2015 220K
8/5/2015 ISM Services July 2015 56.3
8/6/2015 Initial Claims Previous Week 271K
8/6/2015 Continuing Claims Previous Week 2238K
8/7/2015 Nonfarm Payrolls July 2015 227K
8/7/2015 Nonfarm Private Payrolls July 2015 223K
8/7/2015 Unemployment Rate July 2015 5.30%
8/7/2015 Consumer Credit June 2015 $17.0B

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

This week starts on Monday with the release of personal income and spending for the month of June, both of which are expected to show very slight gains over the level seen in May. With figures being expected so close to zero there is always the chance of disappointing and posting a number under zero. Spending will likely be more closely watched than income and consumer confidence during the month of June and July seem to have fallen, likely pushing spending the same direction. Also released on Monday is the PCE (personal consumption expenditure) Prices Index, which is likely to show that prices consumers paid during the month rose very slowly, well below the annualized inflation rate of the Fed, which stands at 2 percent. The last release of the day on Monday is the ISM Index for the month of July, which is expected to remain in line with the expansion we experienced in June. It seems unlikely that this release will deviate much from expectations given the regional data that has already been released for the month being reported. On Tuesday factory orders for the month of June are set to be released with expectations of order growth being 1.8 percent during the month. This will be a bit of a relief to the markets if it comes to fruition as June saw a contraction in factory orders of 1 percent. On Wednesday the first of the employment related releases of the week is set to be released with the ADP employment change figure for the month of July. Expectations are for 220,000 jobs to have been added to the economy during the month, which is good, but weaker than we have seen in the past few months. Later during the day on Wednesday the Services side of the ISM index is set to be released, but this release will likely follow roughly the same direction and magnitude of change of the overall ISM index released earlier in the week and should not have a major impact on the overall markets. On Thursday the standard weekly unemployment related figures are set to be released with expectations that both figures will be reasonably close to the previous week’s figures and should have no noticeable impact on the markets. Friday is a big day for economic news releases with the government releasing several very important employment figures. The overall unemployment rate in the US for the month of July will be released, but expectations are for no change from the 5.3 percent seen in June. Payroll figures are also set to be released with both nonfarm public and private figures expected to show about 223,000 jobs. If we see these figures greatly deviate, the market could react because it will either solidify a September rate hike or kick the probability out further into the future. Labor force participation and the U6 unemployment figure will also be released and could be more impactful than the overall unemployment rate and the payrolls data if Chair Yellen’s previous statements are true about which figures she watches closely in the employment data. This week wraps up on Friday with the release of Consumer Credit for the month of June which is expected to show an expansion of $17 billion during the month as lending standards have tightened a bit, but banks are still lending large amounts of money.

 

Fun fact of the week—Everyone has to go through customs when coming into the US.

 

After coming back from the moon and splashing down in the Pacific Ocean the astronauts from the Apollo 11 mission had to pass through customs at the Honolulu airport. They filed a very interesting customs report which listed their departure location as “Moon,” and declared that they were bringing Moon rock and moon dust back as cargo. The full certificate can be found here http://www.space.com/7044-moon-apollo-astronauts-customs.html

 

Source: http://www.space.com

For a PDF version of the below commentary please click here Weekly Letter 7-27-2015

Commentary at a glance:

-The US markets continued to trade in a wild fashion, last week moving significantly lower.

-Concerns over continued economic growth in China dominated headlines.

-Continued speculation about when Chair Yellen will raise rates moved the fixed income market.

-Earnings season for the second quarter of 2015 is off and running.

-Initial jobless claims last week hit a more than 41 year low!

 

Market Wrap-Up: The rollercoaster ride in the global financial markets continued last week with the bears taking control of the markets and pushing them lower, while the VIX moved off of the lowest point of 2015 as it looks to be attempting to retake the average level we have seen over the past year. The charts below are of the three major US indexes in green with their respective trading ranges drawn by the red lines. The VIX (lower right pane below) is drawn with the index in green and the one year average level of the VIX drawn in red:

4 charts combined 7-27-15

From a technical standpoint, all three of the major US indexes had a pretty rough week last week, but the level of technical difficulty did vary among the three indexes. From a technical standpoint, the NASDAQ (lower left pane above) remains the strongest, thanks in large part to better than expected earnings announcements from a few very over-weighted component companies that have driven the overall performance over the past few weeks. Despite the strong earnings performance of the NASDAQ the index still moved significantly lower last week, falling all of the way back into its most recent trading range. The S&P 500 (upper left pane above) comes in second place in terms of technical strength after last week’s decline. The S&P 500 started last week slightly above its most recent trading range, only to easily blow through that range in just a few trading days at the end of the week last week, ending the week just slightly below the lower bound of its trading range. The Dow (upper right pane above) was the worst performer last week in technical terms, after failing to make it above its most recent trading range and then meaningfully falling below the lower bound of its most recent trading range. The Dow is also now within striking range of falling below its most recent low point reached back in early July. If the Dow breaks down below this point it could be a sign that the index will move significantly lower over the coming days or weeks. One interesting aspect to the market movements last week was the lack of movement out of the VIX (the fear gauge for the overall markets). Yes, the VIX moved higher by nearly 15 percent, but this move is relatively small given the bleak technical picture and the size of the downward moves that occurred on the broad indexes. Typically, when the indexes break down in excess of two percent during a single week, the move in the VIX is much more violent as investors fear that more downside is coming and move toward safety, which is calculated in the VIX. Last week, however, this was not the case as the VIX, while it did move higher, failed to get back to the average level we have seen so far over the past year. This could mean one of two things: either that people are overreacting in pushing the indexes lower and the indexes will come snapping back or that the VIX is incorrect and investors are misjudging the risks that are out there in the markets, artificially keeping the VIX low.

 

Going forward it looks like what is normally a lazy time during the trading season—summer in full swing—will end up being anything but lazy this year. The financial markets around the world are more active than usual with indexes such as the main Chinese index having some of the wildest trading they have seen in more than a decade and the US markets swinging in a fairly wide range. It looks like the calm and complacency that normally takes hold during the summer failed to materialize this year and we moved right into the large swings that are normally seen during the fall when traders return from summer vacations. I fully expect the wild trading to continue for the next few weeks, if not months, as everyone attempts to figure out when interest rates will start to increase in the US and what China is willing to do to prop up its financial markets and economy.

 

International News: International news last week was headlined by the uncertainty in China. The mainland Chinese stock market index has been on a very wild ride during the past month with the index topping out at a 150 percent gain in less than a year, only to fall by more than 30 percent in just a matter of a few trading days. The chart below from Bloomberg shows the Shanghai Stock Exchange Composite index over the past year:

china

As you can clearly see, the run up had been tremendous, but not as tremendous as the unwinding that took place over less than a month. The turmoil is far from over; just today the index declined by 8.48 percent, the largest single day decline since 2007. The reasons for the decline are two-fold: a general slowing down of the economy in China and fears about when the government in China will stop pumping money into the financial system and markets to prop them up. The actions taken by the People’s Bank of China (PBOC) over the past month have been extraordinary and unprecedented in China. Now the government is left trying to figure out how it can extract itself from the financial markets after it did a lot of buying to prop the markets and economy up. The problem is that if China were truly the only buyer for some of the assets that were purchased, it could be stuck with them for an extended period of time. The unwinding of what China did in a split second will take a long period of time and could lead to heightened volatility in its markets, much as we saw today.

 

Add in the uncertainty about the Chinese economy, which last week produced a poor Purchasing Managers Index (PMI) reading of 48.2 (July), down from 49.4 in June, and it is easy to see that China may be headed for some trouble in the economy and financial markets. When the PMI index falls below 50 it means that manufacturing activity slowed down (contracted) during the month. If manufacturing is contracting somewhere like China, it is a major problem because it has effects around the world as China is a very large consumer of raw materials so it can make items that are then exported around the world. Australia in particular is an economy that is heavily dependent on China buying what it is pulling out of the ground with its massive mining industry. In recent years China has been attempting to move its overall economy from an export driven economy to an internal consumption economy. But that push will likely be on hold until China is on more sound financial footing, both in its financial markets and its economy. With China being the second largest economy in the world, whenever there are concerns about its growth rate falling (it is currently expected to be over 7 percent during 2015) or its economy hitting a soft patch, the rest of the world takes notice and typically sees heightened volatility in the global financial markets. While the US financial markets in particular is pretty well insulated from what happens with the Chinese economy, there is some concern that if China gets sick the rest of the world will pick up a cold, and right now the global economy is growing so slowly that picking up even a cold could be dangerous.

 

National News: National news last week focused on two main topics, the first being earnings season as we are now more than 37 percent of the way through earnings announcements for S&P 500 component companies. The second topic of the national news media last week was the upcoming 2016 Presidential election and the mind-blowing numbers Donald Trump has been putting up in some of the recent polls.

 

Last week many well known companies released their second quarter 2015 earnings results and there were more positive releases than negative, as can be seen in the table below as there is much more green than red. Biotechnology, financial and consumer product based companies seemed to produce the best results last week. Below is a table of the better known companies that released earnings last week with earnings that missed expectations highlighted in red, while earnings that beat expectations by more than 10 percent are highlighted in green:

 

3M 2% Eli Lilly 22% SanDisk 175%
Abbott Laboratories 4% Freeport-McMoRan 27% Six Flags Entertainment 8%
Amazon.com 227% General Motors 19% Southwest Airlines 0%
American Airlines 1% GoPro 79% Starbucks 2%
American Express 7% Halliburton 52% Stryker 3%
AmerisourceBergen 4% Hanesbrands pushed Texas Instruments 0%
Apple 3% Harley-Davidson 4% Travelers Companies 19%
AT&T 10% IBM 1% Under Armour 40%
AutoNation -1% Janus Capital -4% Union Pacific 3%
Baker Hughes 0% Kimberly-Clark 4% United Continental 1%
Bank of New York 17% Lexmark 14% United Rentals 7%
Boeing 16% Lockheed Martin 10% United Technologies 6%
Bristol-Myers Squibb 51% Marriott Worldwide 1% Verizon Communications 3%
Cabela’s -7% McDonald’s 2% VF Corp 11%
Caterpillar 2% Microsoft 11% Visa 25%
Chipotle Mexican Grill 1% Morgan Stanley 8% Waste Management 6%
Coca-Cola 5% Newmont Mining 4% Whirlpool 1%
Dow Chemical 12% Raytheon 1% Wolverine World Wide 29%
Dr Pepper Snapple 3% RLI 38% Xerox -4%
Dunkin’ Brands 4% Ruby Tuesday 9% Yahoo! -40%

 

Amazon turned in a stellar quarter and not from the likely business arms. Cloud computing and storage were the strong business segments last quarter for the company, driving a large part of the out performance. The online retail business performed well and remains the life blood of the company. Lockheed Martin turned in a solid quarter and capped off earnings week last week with the announcement that it will be purchasing Sikorsky Helicopter for about $9 billion, adding yet another business segment to the already very large defense contractor. One thing to remember about the above table is that the figures quoted are the amount by which companies either beat or fell short of expectations on an earnings per share basis, not a revenues basis. So while a company may beat expectations, it could still have had a rough quarter with falling sales.

 

According to Factset Research, we have seen 187 (37 percent) of the S&P 500 companies release their results for the second quarter of 2015. Of the 187 that have released, 76 percent have met or beaten earnings estimates, while 24 percent have fallen short of expectations. This percentage of companies beating expectations moved higher by 2 percent over the course of the past week. When looking at the revenues of the companies that have reported, 54 percent of the companies have beaten estimates, while 46 percent have fallen short. This figure slipped by 2 percent over the course of the previous week and is more of a true signal as to how the quarter turned out for corporate America as it is much harder to use financial wizardry on the top line revenue numbers than it is on the bottom line earnings per share figure. In looking at the companies that have given forward guidance for the third quarter of 2015, 20 companies according to Factset have issued negative guidance, while 7 companies have issued positive forward guidance. While we are still a long way from the end of earnings season, it is so far turning out to be slightly better than predicted, but we still have a few key sectors that largely need to report.

 

Below is a table of the better known companies that will release their earnings this week, with the releases that have the most potential to impact the markets highlighted in green:

 

Aflac Equity Residential Owens & Minor
Ally Financial Ethan Allen Interiors Panera Bread
Altria Group Exxon Mobil Pfizer
Amgen Facebook Phillips 66
AIM Ford Motor Pitney Bowes
Aptargroup General Dynamics Procter & Gamble
Arrow Electronics Gilead Sciences Public Storage
Arthur J. Gallagher Goodyear Tire & Rubber Standard Pacific
Atmel Hanesbrands Starwood Hotels & Resorts
ADP International Paper Time Warner Cable
Booz Allen Hamilton Iron Mountain T-Mobile
BorgWarner J & J Snack Foods Twitter
Callaway Golf JetBlue Airways United Parcel Service
Chevron Level 3 Communications United States Steel
Colgate-Palmolive LinkedIn Valero Energy
Columbia Sportswear Manitowoc WebMD Health
ConocoPhillips Marriott International Western Union
Crocs MasterCard Whole Foods Market
D.R. Horton Metlife Wynn Resorts Ltd
Electronic Arts Northrop Grumman Xcel Energy

 

Big energy will be a focus of earnings this week as a number of well-known energy companies release their latest results. On the whole their results are expected to be very poor, as the price of oil staying down for such an extended period of time will really start to show up in their numbers. With more than 1,600 companies releasing their earnings this week, this will be the week that either pushes earnings season higher or turns things around and moves it lower, and energy will likely be the biggest culprit behind the move. Three interesting technology companies are also releasing their results, which will be closely followed this week, those being Facebook, Twitter and LinkedIn. Those three companies are very important to the technology sector overall and the NASDAQ will likely trade on their quote on the days they release their results. UPS is a final bellwether that will be closely watched this week by Wall Street as the company touches so many businesses through its shipping that it gets a very good feel for the overall health of small American businesses, which are vitally important to the economy.

 

In addition to the earnings season making headlines last week the Republican Party also made numerous headlines last week as Donald Trump is now the front runner in several key polls taken over the course of the past few weeks. The businessman-turned-politician has been stirring up trouble now for several weeks, including antics like giving out Lindsey Graham’s personal cell phone number at a campaign stop and continually saying things other politicians would never imagine uttering in public. While Trump’s true intentions are still unclear, one thing is clear and that is the people being polled in American about him like him more than almost any other Republican candidate, which says a lot since there are now officially 16 Republican candidates. For the financial markets, it seems it is still far too early for them to be paying much attention to the political races, but they did take notice last week at a comment that Hillary Clinton made at a campaign stop when she said she would like to double the short term capital gains, both in terms of the time an investment needs to be held and in the rate it is taxed for upper income earners. We should know more about the Republican side after next week’s Republican Presidential debate in Cleveland on Thursday, August 6th.

 

Market Statistics: Keeping with the roller coaster theme the US financial markets seem to have been on for the past few months, last week was a down week following the strong upward moves that occurred two weeks ago:

 

Index Change Volume
S&P 500 -2.21% Above Average
NASDAQ -2.33% Above Average
Dow -2.86% Above Average

 

As mentioned above, the primary driving factors to last week’s moves in the US financial markets were uncertainty about the Chinese economy and corporate earnings season. The drastic moves we have been seeing over the past few weeks in the broad markets look set to continue in the near term as there are as few reasons for them to stop as there are for them to continue.

 

When looking at sectors, the following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change Bottom 5 Sectors Change
Medical Devices 0.92% Oil & Gas Exploration -5.91%
Residential Real Estate 0.53% Basic Materials -5.66%
Regional Banks -0.46% Biotechnology -5.03%
Software -0.55% Aerospace & Defense -4.50%
Financials -0.76% Energy -4.32%

Last week there were only two sectors of the market that saw positive performance, with the positive performance in the two sectors largely being driven by earnings announcements. Regional banking and Financials also made it into two of the top five spots last week, also on relatively strong corporate earnings. On the flip side, Oil and Gas once again held the top dog spot as the sector declined by almost six percent over the course of the week. Much of the decline in the sector piggybacked the decline seen in the price of oil, which also fell in excess of five percent last week. Materials also had a difficult week as uncertainty over the future demand out of China led investors to sell commodities out of fear that the Chinese economy may be slowing down more than first thought.

The US fixed income market moved mostly higher last week, especially on the long end of the curve as investors become a little less certain about the timing of future movements of the Fed funds rate:

Fixed Income Change
Long (20+ years) 2.25%
Middle (7-10 years) 0.70%
Short (less than 1 year) -0.01%
TIPS 0.07%

The US dollar moved a little lower last week, giving up 0.66 percent against a basket of international currencies as investors seemed to be favoring currencies, such as the Euro on hopes that the situation in Greece will resolve itself amicably. The Euro was the strongest performing currency last week after gaining 1.20 percent. The weakest performing currency of the major global currencies was the Australian dollar as it gave up 1.23 percent against the value of the US dollar. The decline in the Australian dollar correlated very highly with the decline in commodities as much of the Australian economy is dependent on mining and materials with much of what is mined being sent to China.

Last week commodities all moved lower for the third week in a row:

Metals Change Commodities Change
Gold -3.04% Oil -5.65%
Silver -1.48% Livestock -2.09%
Copper -4.84% Grains -6.56%
Agriculture -4.66%

The overall Goldman Sachs Commodity Index gave up 4.42 percent last week as oil declined 5.65. Last week I mentioned oil being range bound with the lower end of the range being about $47, while the upper end of the trading range is around $61. With the decline seen last week in the price of oil, it is now down almost directly sitting on the lower end of the trading range. If the range holds up, it means we could see a little bit of a rebound in the price of oil over the coming weeks.

The major metals all moved lower last week with Gold giving up 3.04 percent (crossing below $1,100 per ounce), while Silver decreased 1.48 percent and Copper dropped 4.84 percent. Soft commodities also moved lower last week with Livestock falling 2.09 percent, while Grains declined 6.56 percent and Agriculture moved lower by 4.66 percent. The two week combined decline in the price of grains is now larger than 10 percent as the US harvest continues to be questioned due to some wild weather.

The best performing index last week was found in China with the Shanghai base Se Composite Index turning in a gain of 2.90 percent. After looking at how the mainland China indexes performed on Monday (today) it seems China will not be at the top of the list next week as the mainland China index declined in excess of 8 percent during Monday’s trading. The worst performing index of the global financial indexes last week was found in Canada with the Toronto Stock exchange falling 3.10 percent, much like the Australian Dollar the index fell because of the continued slide in global commodity prices.

Much like the equity market performance last week, the VIX saw a significant reversal in direction last week as it gained nearly 15 percent. This upward move came after the VIX hit the lower point we have seen so far during 2015 less than two weeks ago. At the current level of 13.74, the VIX is implying a move of 3.96 percent over the course of the next 30 days. As always, the direction of the move is unknown.

For the trading week ending on 7/24/2015, returns in my hypothetical models* (net of a 1% annual management fee) were as follows:

  Last Week Since 6/30/2015
Aggressive Model -1.29 % 1.49 %
Aggressive Benchmark -1.91 % -0.03 %
Growth Model -0.81 % 1.16 %
Growth Benchmark -1.48  % -0.02  %
Moderate Model -0.31 % 0.86 %
Moderate Benchmark -1.07 % -0.01 %
Income Model 0.00 % 0.77 %
Income Benchmark -0.53 % 0.00 %

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

I made no changes to my models over the course of the previous week. I remain in a cash heavy and partially hedged position across all of my models, expecting the market volatility to continue. I continue to look for opportunities in the investment universe, with the currently most attractive area of the market for finding value being oil and gas, but as you have seen over the past few weeks that area of the market is currently so volatile that it is not worth taking a first step. Overall, the baskets of stocks I own have been performing as expected given the market volatility with the overall volatility that I have seen in the baskets being less than the S&P 500, as measured by both maximum drawdown and standard deviation, while the returns have easily beaten the S&P 500.

 

Economic News:  Last week was one of the slowest weeks we have seen in a while for economic news releases as there were only four releases. There were no economic news releases which significantly beat or missed market expectations:

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Neutral 7/22/2015 Existing Home Sales June 2015 5.49M 5.40M
Slightly Positive 7/23/2015 Initial Claims Previous Week 255K 278K
Neutral 7/23/2015 Continuing Claims Previous Week 2207K 2218K
Slightly Negative 7/24/2015 New Home Sales June 2015 482K 550K

Data for table from Econoday.com, Bloomberg and Yahoo Finance

Last week’s economic news releases started out on Wednesday with the release of the existing home sales figure for the month of June, which came in very close to market expectations, signaling that the US housing market is on pretty solid footing. On Thursday the standard weekly unemployment related figures for the previous week were released with both figures coming in better than expected. Initial jobless claims were so low that the reading of 255,000 was the lowest level the US has seen on the release since November of 1973. Wrapping up the week last week on Friday was the release of the New Home sales figure for the month of June, which came in at 482,000 homes sold. This figure was slightly below market expectations, but that did not stop the US home builders from having a strong week of performance for their stocks.

 

This week is more of a normal week for economic news releases in terms of the number of releases and there are a few that could impact the overall market movements. The releases highlighted in green below have the ability to impact the overall markets on the day they are released:

 

Date Release Release Range Market Expectation
7/27/2015 Durable Orders June 2015 3.00%
7/27/2015 Durable Goods -ex transportation June 2015 0.50%
7/28/2015 Case-Shiller 20-city Index May 2015 5.60%
7/28/2015 Consumer Confidence July 2015 100
7/29/2015 Pending Home Sales June 2015 1.00%
7/29/2015 FOMC Rate Decision July 2015 0.25%
7/30/2015 Initial Claims Previous Week 271K
7/30/2015 Continuing Claims Previous Week 2200K
7/30/2015 GDP-Adv. Q2 2015 2.60%
7/31/2015 Chicago PMI July 2015 50.5
7/31/2015 University of Michigan Consumer Sentiment July 2015 94

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

This week starts on Monday with the release of the June durable goods orders figures (both including and excluding transportation), which are expected to show gains during the month. The less volatile of the orders number is the number that excludes transportation and it is expected to show a gain of 0.5 percent during the month. The market will likely react negatively if either of these figures comes in below zero as big ticket items are a large part of the overall US economy. On Tuesday the Case-Shiller 20 City Home Price index for the month of May is set to be released with expectations of a year-over-year gain of 5.6 percent. However, the markets will likely not react to this release no matter what is released since the data is very stale. Later during the day on Tuesday the Consumer Confidence index for the month of July is set to be released with expectations of a reading of 100.0 going to print. This would be a slight decline from the 101.4 that printed for June, but would still represent high confidence on the part of the US consumer. On Wednesday the main release will be the FOMC interest rate decision.

Fed watch 7-27-15While it is highly unlikely that the Fed will raise interest rates at this meeting, it is technically possible. The latest Fed watch figures about when the Fed will raise rates are to the right. While the market is expecting a zero percent chance of a rate hike, stranger things have happened in the past with the Fed, so it is anyone’s guess. On Thursday the standard weekly unemployment related figures for the previous week are set to be released with expectations that initial jobless claims will move off of their lowest level in more than 40 years and move up by about 20,000. Continuing jobless claims, however, are expected to continue to decline. The unemployment figures are likely to be overshadowed on Thursday by the government’s release of its first estimate of GDP for the second quarter of 2015. While expectations are for a reading of 2.6 percent, anything from -1 to 4 percent is possible. After such a dismal first quarter GDP figure anything above zero will be a welcome relief for the markets. On Friday the Chicago Area PMI is set to be released with expectations of a reading dangerously close to 50 at 50.5. A reading under 50 would signal a manufacturing contraction, while a reading over 50 signals an expansion. The markets will likely largely ignore this release as the overall US PMI is more important than any single region as we have seen in the past. Wrapping up the week on Friday is the release of the University of Michigan’s Consumer Sentiment Index for the month of July (final estimate), but expectations are for little change from the middle of the month estimate so it is unlikely that this release will have any impact at all on the markets.

 

Fun fact of the week— China’s Urban Billion
By 2030 China’s cities will have added 350 million people—more than the entire population of the United States today.

Source: Mckinsey, “Preparing for China’s urban billion”

For a PDF version of the below commentary please click here Weekly Letter 7-20-2015

Commentary at a glance:

-The US markets moved higher on earnings and Greece.

-Greece passed the required laws for the bailout program to move forward.

-Fed Chair Yellen still wants to move interest rates during 2015.

-Earnings season for the second quarter of 2015 is off and running.

-Economic news last week, in aggregate, came in below market expectations.

 

Market Wrap-Up: The rollercoaster ride in the global financial markets continued last week with the bulls taking control of the markets and pushing them higher, while the VIX fell apart, collapsing to the lowest point we have seen so far during 2015. The charts below are of the three major US indexes in green with their respective trading ranges drawn by the red lines. The VIX (lower right pane below) is drawn with the index in green and the one year average level of the VIX drawn in red:

4 charts combined 7-20-15

After closing below their respective trading ranges two weeks ago, the three major US indexes moved upward last week at the fastest pace we have seen in several months, with the NASDAQ in particular getting a healthy boost from earnings season announcements from the likes of Google and Netflix. The increase on Friday of 0.9 percent on the NASDAQ can be fully attributed to the move in Google, which released results Thursday after the market close and gained more than 16 percent on Friday. The 16 percent gain on Google led to a gain of 1.08 percent in the overall NASDAQ. Without Google, on Friday the NASDAQ would have turned in a small loss for the day. From a technical standpoint, the NASDAQ is the strongest of the three major indexes, having easily moved up through the lower bound of its trading range and breaking through the upper bound as well, all in the course of three days. The S&P 500 also made it up into and fully through its trading range, ending the week slightly above the upper bound of its trading range, but did so with much less enthusiasm than the NASDAQ. The Dow was the laggard of the three major indexes, moving high for the week and easily moving into its trading range, but failing to actually break out to the upside. Meanwhile, the VIX moved much lower, giving up all of the gains that had occurred over the past two weeks over the course of just a few days. The VIX closed the week under 12, making it the lowest closing point that we have seen on the VIX so far during 2015.

 

International News: International news last week focused on a few topics that had noticeable impacts on the global financial markets, the first of which was the resolution of the situation in Greece. After the meeting of the EU two weeks ago at which the EU decided to offer Greece a third bailout in the past five years with many strings and conditions attached, Greece followed through and passed the required laws for the negotiations to move forward about the new deal. Taxes were increased, the retirement age was increased and pension payments will all be lowered over the coming years thanks to the newly passed laws. The people in Greece are not happy about the new laws, but after some initial fears of rioting in the streets after the vote, the Greek people largely appear to see this bailout as necessary and the terms and conditions as unfair, but acceptable. With the bailout having been approved in several other key countries such as Germany, the European Central Bank (ECB) raised the emergency cash funding to Greece late last week, allowing for the Greek banks to open their doors (after being closed to the past three weeks) earlier today in Greece. Limits on the amount one can withdraw (capital controls) remain in place, but even these are expected to be eased over the coming days and weeks. While it is likely the bailout funds that will potentially be dispersed from the rest of Europe to Greece will buy Greece some more time, it is also highly likely that Greece will need yet another bailout over the coming years as the structural changes that need to take place in Greece to become more competitive on the global scale remain elusive and the country’s economy continues to plummet. It is hard to imagine that spending in Greece did anything other than fall off a cliff over the last three weeks as the capital controls made it very difficult for consumers to pull money out of banks. This time period could not have been positive for the overall health of the Greek economy. We are clearly not out of the woods yet with Greece, but at least it appears the Greeks can now at least see the path that leads them out of the woods. However, it is still up to Greece as to whether it will walk along the path or if the country will continue blazing its own trail through the uncharted woods.

 

Iran was another focal point of the international news last week. Its impact was seen in the financial markets as energy companies moved notably lower, thanks to a continuing slide in the price of oil. The nuclear deal with Iran has been inked with both sides calling the deal a monumental moment, but also with both sides taking a good deal of criticism from within their own countries for making the deal. While it will be several years before we see if the deal will actually work the way it is expected to work, the immediate impact of the deal is on Iranian oil coming onto the open market. Currently there is far more supply of oil than there is demand on the global scale and this is one of the key driving forces behind the falling price of oil that we have seen over the past several months. According to the latest IEA data we are seeing an oversupply of oil of about 3 million barrels per day.  While the US rig count has been cut by more than half in just the past year, according to the latest Baker Hughes rig count data, the supply of oil around the world has continued to increase; with this increase the price has fallen. Currently expectations around the world are for prices to move lower when the sanctions against Iranian oil are lifted, which could come very soon, with the US Congress voting on the deal later this week. While there is some speculation about how fast the Iranian oil will make it to the market, the fact remains that there will be about a million barrels of oil per day more flowing onto the market than when the sanctions against Iran were in place and they were having a hard time moving oil to market.

 

National News: National news last week focused primarily on earnings season as the second quarter 2015 earnings season got fully under way. The secondary focus of last week’s national news was Chair Yellen’s testimony on Capitol Hill.

 

Financials and some technology companies’ releases were the focus of the earnings releases last week, and their results were mixed. Below is a table of the better known companies that released earnings last week with earnings that missed expectations being highlighted in red while earnings that beat expectations by more than 10 percent are highlighted in green:

 

AMD -12% General Electric 0% Las Vegas Sands pushed
Autoliv 5% Goldman Sachs 28% Mattel 120%
Bank of America 25% Google -10% Netflix 20%
BlackRock 3% Honeywell 1% Philip Morris 8%
Charles Schwab 4% Intel 10% Seagate Technology pushed
Citigroup 7% J B Hunt Transport -2% Sherwin-Williams -1%
CSX 6% Johnson & Johnson 1% U.S. Bancorp 1%
Domino’s Pizza 1% JPMorgan Chase 7% UnitedHealth 4%
eBay 9% KeyCorp -4% Wells Fargo -1%
Fastenal 2% Kinder Morgan -21% Yum! Brands 10%

 

Last week was an interesting week for earnings releases as there were some very mixed results within some key sectors of the US economy. Financials seemed to be the big winner among the sectors last week with Bank of America and Goldman Sachs both beating earnings by more than 20 percent, while JP Morgan also turned in solid results. Technology was very mixed as companies like Google and AMD both missed estimates, while Netflix and Intel both beat expectations. Netflix soared to a record high last week after it reported better than expected earnings as well as 3.3 million new customers during the month, giving them a total of more than 65 million customers at the end of second quarter 2015.

 

According to Factset Research, we have seen 61 (12 percent) of the S&P 500 companies release their results for the second quarter of 2015. Of the 61 that have released, 72 percent of them have met or beaten earnings estimates, while 28 percent have fallen short of expectations. This percentage of companies beating expectations is one percentage point higher than it was at the end of the first quarter 2015. When looking at revenue of the companies that have reported, 56 percent of the companies have beaten estimates, while 44 percent have fallen short. This 56 percent figure is more than 10 percentage points higher than it was during the first quarter of 2015 and represents a very good start to earnings season. When looking at the historical data the percentage of companies that have beaten revenue estimates is 58 percent over the last five years, so this quarter’s 56 percent is only slightly below the five year average. In looking at the companies that have given forward guidance for the second quarter of 2015, 7 companies according to Factset have issued negative guidance, while only 1 company has issued positive forward guidance for the next quarter. We are still very early in the earnings season for the second quarter 2015 and the numbers are still likely change, but so far this season is not bad and the fears over Energy dragging everything down and making second quarter 2015 a horrible quarter seem unfounded.

 

Below is a table of the better known companies that will release their earnings this week, with the releases that have the most potential to impact the markets highlighted in green:

 

3M Eli Lilly SanDisk
Abbott Laboratories Freeport-McMoRan Six Flags Entertainment
Amazon.com General Motors Southwest Airlines
American Airlines GoPro Starbucks
American Express Halliburton Stryker
AmerisourceBergen Hanesbrands Texas Instruments
Apple Harley-Davidson Travelers Companies
AT&T IBM Under Armour
AutoNation Janus Capital Union Pacific
Baker Hughes Kimberly-Clark United Continental
Bank of New York Lexmark United Rentals
Boeing Lockheed Martin United Technologies
Bristol-Myers Squibb Marriott Worldwide Verizon Communications
Cabela’s McDonald’s VF Corp
Caterpillar Microsoft Visa
Chipotle Mexican Grill Morgan Stanley Waste Management
Coca-Cola Newmont Mining Whirlpool
Dow Chemical Raytheon Wolverine World Wide
Dr Pepper Snapple RLI Xerox
Dunkin’ Brands Ruby Tuesday Yahoo!

 

This week the focus of earnings season will be on consumer spending more so than large industrials. The credit card processing companies, mainly Visa and American Express, will be very closely watched as they have the best data regarding the number and value of customer transactions that took place during the quarter. Apple and Amazon, however, will likely overshadow the credit card companies as the two technology giants almost always push the markets when they announce their earnings. On a more basic spending level, Kimberly-Clark and Starbucks should provide a small glimpse into average consumer spending as many Americans spend money on products from both companies. Caterpillar will be closely watched this quarter as the mining as well as the oil and gas industries have been struggling under lower commodity prices and these two sectors represent a large portion of Cat’s business.

 

On Wednesday last week Federal Reserve Chair Janet Yellen started her two days of testimony before Congress, which is at times almost comical and at other times very scary that these people in Congress actually get elected one way or another here in the US. Perhaps the funniest part of either session was when California Democrat Brad Sherman said the Fed should wait until spring to raise interest rates, taking a “page from mother nature” as Spring is a time when plants send shoots rising out of the ground.  I for one completely missed how mother nature knows best about when interest rates should rise, but the look on chair Yellen’s face when he made the comment was priceless. On a more serious note, Chair Yellen’s testimony made it very clear that the Fed is ready and wanting to increase interest rates this year, provided the data supports it. According to the latest Fed watch data from the CBOE, the odds of a rate hike at the September meeting fell slightly last week, but the odds on either an October or a December rate hike both increased. So while the prospects of a double rate hike during the end of 2015 seem to be diminishing, it is clear that many market participants are expecting a rate hike during the fourth quarter of 2015.

Fed watch 7-20-15

Market Statistics: The three major US indexes ended the week higher last week, thanks to positive earnings from a few key companies on each of the indexes and a resolution on Greece:

 

Index Change Volume
NASDAQ 4.25% Average
S&P 500 2.41% Average
Dow 1.84% Average

 

As mentioned above, the NASDAQ turned in a stellar week thanks to the earnings announcements by Netflix and Google. With the way the NASDAQ is currently weighted, Google alone last week accounted for more than 1.7 percent of the total increase of the index as the stock was up more than 25 percent over the course of the week.

 

When looking at sectors, the following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change Bottom 5 Sectors Change
Biotechnology 6.65% Commodities -2.65%
Technology 5.22% Oil & Gas Exploration -1.95%
Financial Services 3.44% Energy -1.43%
Pharmaceuticals 2.93% Home Construction -1.36%
Financials 2.66% Basic Materials -0.61%

With NASDAQ rallying so much last week it was not surprising to see that the top performing sectors of the overall markets are NASDAQ heavy, with biotechnology and overall technology leading the way higher. The other sector that had a good week was the financial sector as earnings announcements helped boost the overall sector. On the flip side, commodities and energy continue to struggle greatly; as concerns over Iranian oil coming onto the market once again pushed oil prices lower.

The US fixed income market moved last week primarily on the long end of the curve after Fed Chair Yellen’s testimony:

Fixed Income Change
Long (20+ years) 2.30%
Middle (7-10 years) 0.40%
Short (less than 1 year) 0.01%
TIPS 0.18%

Despite the deal for Greece looking like it will be completed with a new round of bailout funds, the US dollar rallied against almost all of the global currencies, gaining 2.07 percent against a basket of international currencies. The British Pound was the strongest of the major global currencies last week, as the decision years ago to not join the common currency is starting to look even better than it did at the time; the pound gained 0.72 percent against the value of the US dollar. The weakest performing currency of the major global currencies was the Euro as it gave up 2.69 percent against the value of the US dollar. This decline comes on the heels of Greece passing the laws that were needed to qualify for bailout funds, in addition to other European countries ratifying the bailout program.

Last week commodities all moved lower for the second week in a row:

Metals Change Commodities Change
Gold -2.55% Oil -3.85%
Silver -4.37% Livestock -0.11%
Copper -1.79% Grains -3.44%
Agriculture -1.34%

The overall Goldman Sachs Commodity Index gave up 2.65 percent last week as oil declined 3.85 percent over the talks between Iran and the US coming to a conclusion with a deal being made. Oil remains range bound ($50.18) with the lower end of the range at about $47, while the upper end of the trading range is about $61.

The major metals all moved lower last week with Gold giving up 2.55 percent, while Silver decreased 4.37 percent and Copper dropped 1.79 percent. Soft commodities also moved lower last week with Livestock falling 0.11 percent, while Grains declined 3.44 percent. Agriculture moved lower by 1.34 percent.

China was not the top or bottom performing index of the major global indexes for the first time in several weeks last week. The best performing index last week was found in France with the CAC-40 turning in a gain of 4.50 percent. The worst performing index of the global financial indexes last week was found in Malaysia with the KLC Index gaining only 0.6 percent over the course of the week.

The significant move I was waiting for last week on the VIX appears to have been delayed slightly as the VIX declined by 29 percent over the course of the previous week. The VIX moved significantly lower on the days in which the situation in Greece looked less bleak, as it appeared to be trading almost in lock step with the situation in Europe. At the current level of 11.95, the VIX is implying a move of 3.44 percent over the course of the next 30 days. As always, the direction of the move is unknown.

For the trading week ending on 7/17/2015, returns in my hypothetical models* (net of a 1% annual management fee) were as follows:

  Last Week Since 6/30/2015
Aggressive Model 1.27 % 2.78 %
Aggressive Benchmark 1.83 % 1.79 %
Growth Model 0.89 % 2.08 %
Growth Benchmark 1.42  % 1.40  %
Moderate Model 0.50 % 1.36 %
Moderate Benchmark 1.02 % 1.01 %
Income Model 0.23 % 1.01 %
Income Benchmark 0.51 % 0.51 %

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

I made no changes to my models over the course of the previous week.

 

Economic News:  Last week was a very busy week for economic news releases as there were numerous releases, but no single focus of the releases. There were two releases that missed expectations by a significant amount released last week (in red) and no releases that significantly beat market expectations:

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Negative 7/14/2015 Retail Sales June 2015 -0.30% 0.30%
Negative 7/14/2015 Retail Sales ex-auto June 2015 -0.10% 0.50%
Neutral 7/15/2015 PPI June 2015 0.40% 0.30%
Neutral 7/15/2015 Core PPI June 2015 0.30% 0.10%
Neutral 7/15/2015 Empire Manufacturing July 2015 3.9 3.5
Neutral 7/15/2015 Industrial Production June 2015 0.30% 0.20%
Neutral 7/16/2015 Continuing Claims Previous Week 2215K 2285K
Neutral 7/16/2015 Initial Claims Previous Week 281K 283K
Slightly Negative 7/16/2015 Philadelphia Fed July 2015 5.7 12.5
Neutral 7/16/2015 NAHB Housing Market Index July 2015 60 59
Neutral 7/17/2015 CPI June 2015 0.30% 0.30%
Neutral 7/17/2015 Core CPI June 2015 0.20% 0.20%
Neutral 7/17/2015 Housing Starts June 2015 1174K 1123K
Neutral 7/17/2015 Building Permits June 2015 1343K 1150K
Slightly Negative 7/17/2015 University of Michigan Consumer Sentiment July 2015 93.3 96.5

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

Last week started out on Tuesday with the release of the retail sales figures for the month of June, which were disappointing to say the least. Overall retail sales were shown to have declined by 0.3 percent, while the market had been expecting an increase of 0.3 percent. Some of this decline was due to the transportation sector, which can move one way or the other very quickly and is difficult to predict. However, even while the volatile transportation sector is taken out retail sales still slipped by 0.1 percent during the month, while the market had been expecting an increase of 0.5 percent. These two figures show a bit of weakness in an area of the economy where we currently cannot withstand much weakness. If consumer spending slows down even more over the coming months it seems the Fed may be forced to push increasing interest rates out until early next year. On Wednesday the Producer Price Index (PPI) for the month of June was released. With both overall PPI and core PPI coming in very close to market expectations the markets failed to take notice. Also released on Wednesday was the Empire manufacturing Index for the month of July (end of June data), which showed that manufacturing in the greater New York area picked up during the month, but did so at a slow pace. On Thursday the standard weekly unemployment related figures for the previous week were released with both numbers coming in just below expectations. Also released on Thursday was the latest Philly Fed Index figure, which disappointed the markets as it posted a reading of 5.7, which is expansionary, but well below the expectations of 12.5. On Friday the Consumer Price Index (CPI) for the month of June was released with both overall prices as well as core prices coming in at market expectations and having no impact on the overall markets. There were also two US housing related figures released on Friday, both the building permits and housing starts figures, with both figures coming in slightly above market expectations and providing a bit of a boost for the companies in the home construction sector. Wrapping up the week on Friday was the release of the University of Michigan’s Consumer Sentiment Index for the month of July (second estimate), which saw sentiment decline by 3.2 points, down to 93.3 from the first estimate of 96.5. This data point combined with a slowdown in spending is concerning because if the US consumer slows down spending further or becomes less confident in the US economy it could spell trouble ahead for the global financial markets.

 

After such a busy week last week it is nice to see only four economic news releases this week, none of which should have a noticeable impact on the overall direction of the financial markets in the US:

 

Date Release Release Range Market Expectation
7/22/2015 Existing Home Sales June 2015 5.40M
7/23/2015 Initial Claims Previous Week 278K
7/23/2015 Continuing Claims Previous Week 2218K
7/24/2015 New Home Sales June 2015 550K

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

This week starts out on Wednesday with the release of the existing home sales data for the month of June, which if it is anything like the housing related figures released last week should slightly beat market expectations, coming in just over 5.5 million units. On Thursday the standard weekly unemployment related releases for the previous week are set to be released with continuing jobless claims expected to be slightly higher than last week’s figure, while initial jobless claims are expected to be slightly lower. This week wraps up on Friday with the release of new home sales for the month of June, which is expected to show 550,000 units. If this number comes out in the release it would be a positive sign for the US housing market, but it seems unlikely that new home sales for the month of June will significantly beat market expectations.

 

Fun fact of the week— Google goats!

 

Google HQ rents goats from California Grazing to mow their lawns and fields. The employees think that it’s a lot cuter to watch goats do the mowing than lawn mowers.

 

Source: Dan Hoffman, Director Real Estate and Workplace Services

For a PDF version of the below commentary please click here Weekly Letter 7-13-2015

Commentary at a glance:

-The US markets were mixed last week as a deal in Greece seemed near going into the weekend.

-A deal for bailing out Greece was struck over the weekend by the EU, but Greece still has to vote.

-Fed Chair Yellen still wants to move interest rates during 2015.

-Puerto Rico looks like it could be the next fixed income problem spot.

-Economic news last week, in aggregate, came in at market expectations.

 

Market Wrap-Up: The wild ride in the global financial markets last week was due to the uncertainty over a bailout deal for Greece from the EU. While a deal was struck over the weekend there are still several key votes that need to take place during the first half of this week to solidify Greece’s receipt of any funds from the latest deal. The charts below are of the three major US indexes in green with their respective trading ranges drawn by the red lines. The VIX (lower right pane below) is drawn with the index in green and the one year average level of the VIX drawn in red:

4 charts combined 7-13-15

As you can see in the above charts, all three of the major US indexes broke below their respective trading ranges two weeks ago and, during a very volatile trading week last week, failed to make it back into those trading ranges. From a purely technical standpoint, all three of the indexes are tied in weakness and a potentially new trading range appears to be forming as two of the three major indexes tested what used to be the lower bound of the old trading range during the past two weeks. While the major US indexes were bouncing around last week, so too was the VIX, which saw some very large intra-day and daily moves before settling down at the end of the week very close to where it started. All of the recent movement in the markets appears to just be “noise” as speculators attempt to guess the outcomes of a wide range of possibilities in Greece. Attempting to guess what governments will do in Greece’s situation is a very hard task, but trying to then guess how the financial markets will react seems all but impossible. Uncertainty abounds right now and we are well into the summer trading season, which means the market is susceptible to rumors and hopes pushing it around, something that seems to be happening in earnest lately. Going forward we are likely to see continued choppiness in the markets because the markets seem to be latching on more so than ever to negative news. If it is not Greece then China or Puerto Rico will move into the spotlight and cause continued uncertainty.

 

International News: We have a deal! (But it still needs to be voted on in several countries!) After talks that lasted all night in Brussels over the weekend a deal emerged for Greece that would release many billions of Euros in bailout funds to the country, provided Greece implements all of the strings the EU is demanding. Some of the strings attached to the nearly 90 billion euro bailout deal include increased cuts on pension, a higher VAT tax, a 50 billion euro privatization fund and automatic cuts to things like spending if certain financial goals are not met. In total, the seven page document presents a picture that is far bleaker for Greece than the proposal voted down by the referendum just two short weeks ago. The deal also flies in the face of what Prime Minister Tsipras campaigned on just 6 short months ago when he and his party won the election in Greece on an anti-austerity-and-humiliation-of-Greece platform. This latest deal is certainly not what the people voting for Syriza had in mind. Now that the deal has been struck, the hard part begins; there are various aspects to the deal that have to be put into law in Greece, meaning that Parliament has to vote and approve the measures. While there is a coalition government that in theory has enough votes to pass the new requirements, there appears to be somewhat of a mutiny within the Syriza party, with some members calling for Tsipras to resign from his position and stating that they will never vote for a deal that humiliates Greece or the Greek people. The Greek Parliament has until Wednesday of this week (7/15/15) to pass several pieces of legislation and it is unknown if this will be done. One thing that is clear out of all of this: this deal is the last deal the EU will be attempting to make over the current situation. The EU would rather see Greece leave the Euro voluntarily than continue with the nonsense that has been going on for the past six months. Hopefully Greece will pass the required laws and we can put this whole situation behind us for a few more years. This is the third bailout of Greece in the past 5 years and probably not the last if the country remains in the EU. With the situation in Greece largely completed it looks like the global financial markets’ attention is heading to the east, with China likely taking much of the global spotlight.

 

The Chinese financial markets and everything tied into them have been trading wildly over the past few weeks, seeing some of the largest declines and advances of the past 10 years. All of this is due to institutional and individual investors trying to take advantage of laws that make speculating about the financial markets very easy. Leverage is one of the leading factors that has led to this volatility, as investors could leverage the amount of money they had in the financial markets several times in order to buy more than they otherwise would have been able to. This type of scenario works very well in a market that is moving higher, but comes apart very quickly when the market moves lower. It comes apart even faster when the government arbitrarily lowers the amount of leverage that is allowed and forces people to sell positions. This is essentially the financial experiment China has been undertaking for the past few weeks as the country attempts to slow the Chinese stock market from speeding along by pulling the emergency brake and seeing what happens next, then quickly trying to adjust the break to keep everything moving forward. It will be very interesting to watch how a command and control government like China deals with what was supposed to be an attempt at a capitalistic economy. So far China is learning and investors around the world are watching in amazement as trillions of dollars in gains are made and lost in very short periods of time.

 

National News: National news last week focused on two main topics, the first being Fed Chair Yellen’s speech, which she gave on Friday in Cleveland about the future of monetary policy, and the second being the darkening clouds that Puerto Rico seems to be generating. Any time Fed chair Yellen speaks the global financial markets take notice, and Friday was no different. The main take away from the speech was that she still seems adamantly set to increase interest rates at some point during 2015. She laid out the possibility of a rate hike by citing many different aspects of the economy that she looks at and how the majority of them are pointing toward an economy that is strong enough to withstand a small rate increase. While she was speaking, it was very interesting to watch the CME Fed Watch numbers as far as the percentage probability of a rate hike during any of the remaining meetings in 2015. The latest figures are listed in the table below:

 

Date of Fed Meeting Current Last Week
July 29 2015 0% 0%
September 17 2015 18% 14%
October 28 2015 33% 29%
December 16 2015 55% 51%
January 27 2016 68% 66%

 

As you can see, the probability of a rate hike occurring went up across the board between this time last week and now. But as Chair Yellen mentioned, the Fed remains fully data dependent and will only act if the data shows that it is prudent. When asked about the IMF calling for the Fed to hold off she very cleverly said that the US Federal Reserve acts in its own interests, but takes into account many potential outcomes of its taking action. In total, there was a lot of “fed speak” throughout the speech and Q&A, something she is perfecting very well. “Fed speak,” for those of you who may have not heard that term before, is a term coined for Fed chairman Alan Greenspan’s ability to say a whole lot of words about a topic, but in aggregate say almost nothing or something that was completely incoherent about the topic. It is a way of providing what seems like information, while at the same time sending mixed signals so that the Fed maintains wiggle room should it need to shift policy and keep everyone guessing about what the Fed will do next.

 

There is very little guessing as to what Puerto Rico will do next as the governor is making it sound like the country is very much in trouble with the current debt load it’s been carrying. At the end of June Governor Alejandro Garcia Padilla announced that the island could not pay back the nearly $72 billion in bonds it had issued under a wide variety of different types of bonds. He is calling for a massive debt restructuring that would leave many US based mutual funds and hedge funds holding the bag, in addition to a postponement of debt repayments for several years. These troubles are not new; they just seem to be coming to light a little faster than most investors had wanted. The island has a large population issue; according to US census data, the population has shrunk by 7 percent over the past 10 years and it will likely continue to shrink over the next 10 years. The economy in Puerto Rico is also contracting and that is according to the country’s own economists. Combine the two and it is pretty easy to see how revenues for many of the muni bond offerings have been and will continue to go down. Many of the bonds were already in a high risk category, but many bond managers here in the US used the outsized interest rates combined with the double tax exempt status of the bonds to help boost their mutual funds figures. At this point it looks like that strategy of the past could be in for some outsized volatility in the near future.

 

Market Statistics: The three major US indexes ended the week mixed last week in what turned out to be a wild ride globally as China was adjusting its investment policies and the situation in Greece was rapidly drawing to a conclusion:

 

Index Change Volume
Dow 0.17% Average
S&P 500 -0.01% Average
NASDAQ -0.23% Average

 

When looking at sectors, the following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change Bottom 5 Sectors Change
Residential Real Estate 2.55% Semiconductors -4.37%
Consumer Staples 2.10% Basic Materials -2.15%
Pharmaceuticals 1.82% Oil & Gas Exploration -2.11%
Utilities 1.65% Energy -1.84%
Consumer Service 1.58% Telecommunications -1.68%

Residential Real Estate made it two weeks in a row at the top of the positive performance list last week after gaining a little more than 2.5 percent. Aside from real estate, the other positive performing sectors of the markets seemed to focus on the least risky assets, areas such as Consumer Staples and Utilities. On the flip side, Semiconductors was hit hard once again as we have now seen several key semiconductor companies fall by more than 20 percent in single trading days, thanks in large part to slowing demand for some of the legacy business lines. Energy as well as Oil and Gas Exploration also declined last week as the price of a barrel of oil declined around the world.

The US fixed income market hardly budged last week as investors seemed to be taking a much needed wait-and-see approach to the uncertainty that permeated out of the situation in Greece:

Fixed Income Change
Long (20+ years) 0.04%
Middle (7-10 years) -0.03%
Short (less than 1 year) 0.00%
TIPS -0.28%

With the hopes of a deal over Greece the US dollar saw a little bit of a move lower last week, giving up 0.28 percent against a basket of international currencies. Much of the decline in the dollar took place on Friday as it looked like a deal was near going into the weekend EU meetings, which were described in more detail above. The Euro was the strongest of the major global currencies last week on the hopes of the Greek bailout. The weakest performing currency of the major global currencies was the Australian Dollar, as it gave up 2.4 percent against the value of the US dollar. The continued downward movement of commodities seemed to be the driving force behind the fall in the Australian dollar as much of the Australian economy is based on commodity exports.

Last week commodities all moved lower, with Grains even turning in a slightly lower week, breaking the streak of two weeks in a row with large gains:

Metals Change Commodities Change
Gold -0.24% Oil -6.66%
Silver -0.47% Livestock -3.41%
Copper -1.14% Grains -0.03%
Agriculture -0.86%

The overall Goldman Sachs Commodity Index gave up 3.66 percent last week as Oil dove 6.66 percent over the continuing extension of the talks between Iran and the US. Much of the decline was seen on Monday after the long holiday weekend in the US as many traders seemingly wanted to adjust their commodity positions. Oil remains range bound, but did move to approximately the half way point of its trading range with the decline seen last week. Currently, the lower end of the range is about $47, while the upper end of the trading range is about $61.

The major metals all moved lower last week with Gold giving up 0.24 percent, while Silver decreased 0.47 percent and Copper dropped 1.14 percent. Soft commodities also moved lower last week with Livestock falling 3.41 percent, while Grains declined 0.03 percent. Agriculture moved lower by 0.86 percent as the weather in the mid-west improved slightly over the course of the previous week; there was not a significant amount of rain that fell over the area as there had been so many weeks in a row prior.

After being the worst performing index three weeks in a row heading into last week it was not surprising to see that China turned itself around and was the top performing index last week, gaining 5.20 percent. After what turned out to be a very volatile week in China for their financial markets, it looks like some of the actions the government took to step in and stop the decline have taken hold, at least for the time being, and confidence albeit shaken is starting to return. Taiwan saw the weakest performance of the major global indexes last week as the Taiex Index declined by 4.7 percent. Some of this movement could have been due to uncertainty surrounding the situation in China.

After gaining almost 20 percent the week prior I was expecting the VIX to move a significant amount again last week, but that was not the case. In total, the VIX advanced by 0.24 percent last week in a week that saw the VIX spike over 20, but ultimately fade significantly on Friday. At the current level of 16.83, the VIX is implying a move of 4.86 percent over the course of the next 30 days. As always, the direction of the move is unknown.

For the trading week ending on 7/10/2015, returns in my hypothetical models* (net of a 1% annual management fee) were as follows:

  Last Week Since 6/30/2015
Aggressive Model 0.82 % 1.49 %
Aggressive Benchmark -0.56 % -0.03 %
Growth Model 0.66 % 1.16 %
Growth Benchmark -0.43  % -0.02  %
Moderate Model 0.48 % 0.86 %
Moderate Benchmark -0.30 % -0.01 %
Income Model 0.45 % 0.77 %
Income Benchmark -0.15 % 0.00 %

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

I made one change in my models over the course of the previous week and that was to sell my position in Rydex Electronics Fund ticker (RYSIX). I sold this because there was a wide divergence from the past performance and how the fund was behaving currently. Typically RYSIX trades with the broad electronics market, both semiconductors as well as other hardware and device makers. However, recently the fund started to trade solely like the semiconductors sector of the markets. With the struggles the semiconductor market has been having recently and the market’s prospects for the future I decided to sell the position and reevaluate the sector with the new and evolving information coming in about the future of the industry.

 

Economic News:  Last week there was no real focus to the economic news releases as it was a very slow week with just the bare minimum of releases being released. There were no releases that missed or beat market expectations by a significant amount last week:

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Neutral 7/6/2015 ISM Services June 2015 56.0 56.3
Neutral 7/7/2015 Consumer Credit May 2015 $16.1B $18.2B
Neutral 7/8/2015 FOMC Minutes June Meeting
Neutral 7/9/2015 Initial Claims Previous Meeting 297K 276K
Neutral 7/9/2015 Continuing Claims Previous Meeting 2334K 2230K

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

Last week started out on Monday with the release of the ISM Services index for the month of June, which came in very close to market expectations, signaling slow but steady growth in the services sector. On Tuesday consumer credit was shown to have increased during the month of May, but it did so at a slower pace than was expected by the markets. On Wednesday the meeting minutes from the latest Fed meeting were released, but as expected the release held little new information and was largely ignored by the market. As mentioned above, when Yellen spoke on Friday in Cleveland the markets took notice and reacted accordingly. On Thursday the standard weekly unemployment related figures from the previous week were released with both figures coming in slightly above market expectations, but not by enough to cause alarm.

 

This week more than makes up for the lack of economic news releases from last week, as there are more releases than is typical. The releases highlighted below have the potential to move the overall markets on the day they are released:

 

Date Release Release Range Market Expectation
7/14/2015 Retail Sales June 2015 0.30%
7/14/2015 Retail Sales ex-auto June 2015 0.50%
7/15/2015 PPI June 2015 0.30%
7/15/2015 Core PPI June 2015 0.10%
7/15/2015 Empire Manufacturing July 2015 3.5
7/15/2015 Industrial Production June 2015 0.20%
7/16/2015 Continuing Claims Previous Week NA
7/16/2015 Initial Claims Previous Week 283K
7/16/2015 Philadelphia Fed July 2015 12
7/16/2015 NAHB Housing Market Index July 2015 59
7/17/2015 CPI June 2015 0.30%
7/17/2015 Core CPI June 2015 0.20%
7/17/2015 Housing Starts June 2015 1123K
7/17/2015 Building Permits June 2015 1150K
7/17/2015 University of Michigan Consumer Sentiment July 2015 96.5

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

This week starts out on Tuesday with the release of the latest retail sales figures for the month of June, which is expected to show a slight increase of 0.3 percent, while retail sales excluding auto sales are expected to post a 0.5 percent gain. If these numbers come to fruition they would signal a very slow growing US economy, one that may not be able to sustain a rate hike. On Wednesday the Producer Price Index (PPI) for the month of June is set to be released with expectations of a gain of 0.3 percent, signaling a very low inflationary environment. If this number comes true it too would signal that the Fed may need to hold off on hiking a rate since the stated Fed targeted inflation rate is 2 percent. Also released on Wednesday is the Empire Manufacturing Index for the month of July, which is expected to come in at 3.5, very close to the inflation point of zero. A reading below zero signals a contraction in manufacturing while a reading above zero signifies an expansion in manufacturing. Lately the Empire manufacturing data has been all over the map, with two of the past four months being positive and two being negative. Hopefully we will get a clearer picture of what is to come with this release, but it seems unlikely. On Thursday the standard weekly unemployment related figures are set to be released with expectations that both figures have increased slightly over the course of the previous week; this should have little impact on the overall market. Of more interest to the overall market will be the Philadelphia Fed Index, which is expected to show a reading of 12, a slight decline from the 15.2 seen last month. The week wraps up on Friday with a number of releases, including two housing data points and the Consumer Price Index (CPI). The CPI is expected to show roughly the same meager amount of inflation that the PPI showed earlier in the week and once again this reading is well below the Fed’s target of 2 percent. Housing starts and building permits for the month of June are both expected to come in over 1.1 million units, which could be a positive development for the US housing market and provide a boost to the home builder stocks and potentially the housing sector. Wrapping up the week on Friday is the University of Michigan’s Consumer Sentiment Index for the month of July (first estimate), which is expected to show a slight increase over the level seen at the end of June, giving the index its fourth consecutive increase. Overshadowing the regularly scheduled economic news releases this week is likely going to be speeches from Fed officials including Fed Chair Yellen’s testimony in Washington DC before Congress on Wednesday and Thursday, during which time she will make prepared remarks and then take questions from members of Congress. While the question and answer period is always the most exciting, it is unlikely that any new information will come out during these sessions.
Fun fact of the week—The world’s largest radio telescope.

 

The world’s largest radio telescope is located in Puerto Rico. It measures 1,000 feet across and 167 feet deep and covers about twenty acres of ground. The giant telescope is currently being used to observe asteroids and meteorites that could be on a collision course with earth.

 

Source: National Astronomy and Ionosphere Center

 

 

Have a great week!

 

Peter Johnson

 

A referral from a client is a tremendous compliment and a huge responsibility that can never be taken lightly.

 

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