A Challenging Week for the Tattered Covers

361 Capital Market Commentary | September 9th, 2019

No wonder bookstores are dying. Tough for the fiction aisle to compete with last week’s Trilateral Commission of Boris Johnson, Donald Trump and Antonio Brown holding court. Just when you think that the news can’t get any more bizarre, Twitter unloads another live stream of Black Mirror onto the world. Hollywood will either need to shift to 100% documentaries or try to become more interesting. The news flow and Tweets definitely have the market’s attention. So much, in fact, that Merrill Lynch and J.P. Morgan are beginning to create volatility indexes and quantify market movements based on the number of POTUS tweets. Sheer madness.

Back in the non-news world, the economic data remains less than spectacular, there has been no progress on the trade wars and the Central Banks remain in global easing mode. We will hear from the ECB this week and then next week the Fed will cut rates. The U.S. stock market remains stuck in a trading range as near-zero interest rates pull up stock multiples, while earnings outlooks diminish. September will be a big month for corporate updates as too many investment conferences are occurring now that summer is over. And, next month is October which means earnings reporting season and a slower month of corporate stock buybacks. So lots of cross-currents for stock investors to paddle through. For those in private equity land, all eyes are on WeWork which would like to get public while IPO investors put on their best Heisman stance against its previous valuation estimate. This deal will be an interesting one to watch as the market for growth and momentum stocks appears to be slowing. Maybe they can reposition it as a boring old real estate company?

Another week of less-than-inspiring U.S. economic data led by slower manufacturing data points…


“At current levels, the August PMIs are indicating annualized GDP growth of 1.0%, putting the economy on course for growth of just below 1.5% in the third quarter. Such weak readings hint at downside risks to current third quarter growth projections, which generally point to an expansion of just over 2%.

“A major factor behind the deterioration was the spreading of the manufacturing downturn to the service sector, via weakened household and business confidence. Jobs growth is also increasingly being affected by worries regarding the outlook. Overall jobs growth in August was the weakest since early-2012, commensurate with non-farm payrolls rising at a monthly rate of under 100,000.”


U.S. economic data

Typically a slowing ISM Manufacturing series leads to more defensive investment positioning. But not this time…

ISM Manufacturing

Friday’s Jobs data was only saved by the hiring of 25,000 Census workers. Not what we want to see…


Nonfarm payrolls rose 130k in August (mom sa), 30k below expectations. The composition of the establishment survey was also weak, given downward revisions to prior months (-20k on net), the weaker private-sector rise (+96k), the larger-than-expected boost from temporary Census hiring, and soft industry breadth (the net share of industries adding jobs during the month fell 4.3pp to 53.5%). Job growth was relatively soft across leisure and hospitality (+12k), manufacturing (+3k), retail (-11k), and private education (-5k). The main areas of strength were financial services (+15k) and government (+34k), the latter of which received a 25k boost from temporary Census hiring.

(Goldman Sachs)

U.S. jobs data

Some good news for workers is that wages are accelerating…

Of course this is bad news for the Fed and those who want low inflation.

One potential wrinkle for the Fed: Wage gains are accelerating. That’s a welcome development for workers but a possible concern for officials with an eye on inflation pressures. Average hourly earnings rose at an annualized rate of 4.24% in the three months through August, the fastest growth since mid-2007. Inflation has also perked up in recent months. The timing—just as concerns about an economic downturn are building—couldn’t be worse for the Fed, Pantheon Macroeconomics’ Ian Shepherdson says. “We think employees are finally shaking off the shock of the crash and are now seeking to exploit their scarcity in pursuit of faster wage gains,” Mr. Shepherdson says. “We expect the Fed to ease this month, but the markets’ hopes of endless rate cuts will be hard to meet if inflation is rising and future inflation pressure is building.”


Wage growth heats up

Many want a 50bp cut by the Fed next week but they also acknowledge that it is unlikely to occur…


Tim Duy Tweet

J.P. Morgan is now thinking three consecutive meeting cuts of 25bps each…


We now expect the Fed to lower the funds rate by 25bp at each of the three remaining FOMC meetings this year, bringing the year-end target funds rate range to 1.25-1.50% (we had previously anticipated only one more cut this year). Among the reasons prompting our change in view are some familiar and inter-related: trade tensions continue to intensify, foreign growth forecasts continue to get marked down, and the dollar continues to strengthen.

(J.P. Morgan)

The Atlanta Fed trimmed their Q3 outlook sharply in the last week…


Atlanta Fed Q3 Outlook


And the POTUS is fine to sacrifice the economy and stock market to win the trade war with China…


President Trump said that the Dow Jones Industrial Average would be 10,000 points higher if it weren’t for the trade war with China. “But somebody had to do this,” he told reporters at the White House. “To me, this is much more important than the economy.”

(Business Insider)

Consumers have been the main firing cylinder in the U.S. engine, but recent data shows they may be less excited…


Consumers economic outlook

Meanwhile, business leaders have little confidence in how to plan for the future…


Imagine yourself as the head of a business that plans and expects to be around for a long time. Sure, you’d like to pay less in taxes and not have to comply with costly regulations. But you also want to invest in your company’s future. And to do that, you need some assurance that the rules of the game will be stable, so that whatever investments you make now aren’t suddenly made worthless by future shifts in policy.

The big complaint business has about Trump’s trade war isn’t just that tariffs raise costs and prices, while foreign retaliation is cutting off access to important markets. It is that businesses can’t make plans when policy zigzags in response to the president’s whims. They don’t want to invest in anything that relies on a global supply chain, because that supply chain might unravel with Trump’s next tweet. But they can’t invest on the assumption that Trump’s tariffs will be permanent, either; you never know when or whether he’ll declare victory and surrender.


Business leaders future plans
(Illustration by Jim Datz; photographs by Doug Mills/The New York Times and nigelcarse, via Getty Images)

One thing business leaders are doing is fortifying the balance sheet at these record-low interest rates…


September typically marks a return to busier issuance, but this year has been unprecedented as borrowing costs slide. Companies including Berkshire Hathaway Inc., Apple Inc., major Chinese conglomerate Dalian Wanda Group and Italian natural gas firm Snam SpA sold at least $150 billion-equivalent of bonds this week in dollars, euro and yen, the most ever in the first week of September.

Few are willing to forecast how long the binge may last, particularly given how President Donald Trump’s tweets have whipsawed financial markets in recent weeks. Protesters planned more gatherings in Hong Kong, and Fitch Ratings downgraded the city as an issuer of long-term, foreign currency debt for the first time since 1995, citing the political turmoil.

But for now borrowers around the world are loading up on cheap money while they can.


The U.S. stock market is stuck in a trading range…


Carl Quintanilla Tweet

One reason to buy stocks now would be the yield advantage over bonds…

But of course, you also need to feel good about the earnings outlook for the underlying business.

Stocks look cheap vs bonds

Previous buys of stocks when there has been this yield advantage over bonds has been profitable…


Yield Gap Source of Valuation Support

Did someone say Value vs Growth?

Just when you thought Value was dead and buried, it reaches up out of the ground and grabs your leg. Keep an eye on this because I know a few trillion dollars that would be interested in shifting back toward this long, written-off strategy. Go find someone with grey hair to explain it to you.

Value vs Growth

Another stretched rubber band that could benefit from a rotation toward Value stocks…

Small caps have been punished versus large caps. A greater weighting of financial stocks is one reason. Their lack of attention versus mega cap index stocks could be another. But whatever the reason, Small caps are cheap.

Value vs Growth

If this shift toward value continues, WeWork will not work…


A valuation below the $20 billion level that people familiar with the matter last week said the company was considering would be an even steeper drop from the $47 billion mark where We last raised private capital this year. The startup faces skepticism among potential public investors over its governance, business model and ability to turn a profit while continuing to grow. The latest potential cut comes at a time when IPO demand for companies with a path to profitability is surging and would be particularly painful for investors who have given or committed over $10 billion to the company since it was founded in 2010…

If the IPO doesn’t happen, the company will either need to find more cash or scale back its plans for further growth, according to people close to the company. One problem is that We has long been betting its main appeal to investors is its rapid growth, but that growth is fueled by ever-growing helpings of cash.

We primarily rents space through long-term leases, renovates it and then divides the offices and subleases them over the short term.


WeWork IPO Tweet

Elsewhere in global valuation write downs, Hong Kong is next in line…


Hong Kong Tourist Decline

If you want a reason how inflation and interest rates could rise sharply in the future…

While it seems all but certain that U.S. interest rates are on a path toward zero, $150 per barrel of Crude Oil could throw a wrench in those plans. This will be worth keeping an eye on as the election season heats up.

Elizabeth Warren Tweet

Speaking of future elections, corn prices are breaking to new lows…

Corn prices

Another worrisome chart is the rise in Auto and Credit Card delinquency data…

The consumer has been healthy and their balance sheet better than in the past, but this will raise eyebrows among credit geeks.

Auto delinquencies

“Those crafty Canadians…

Heinz Canada repositioned its ketchup-bottle labels to be upright only when people tilt the bottle the right angle to pour.
Heinz Cananda Ketchup

Finally, a great college football story to kick off the season. Well done University of Tennessee…


A Florida boy who was bullied and laughed at for his homemade T-shirt representing the University of Tennessee Volunteers at his elementary school’s college colors day, has not only had his design made official by the university, but the demand for the product is so high that it crashed the school’s website.


University of Tennessee T-shirt

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