Travel Withdrawals

361 Capital Market Commentary | July 27th, 2020

Colorado is a great place to be locked in for COVID, but I am beginning to get bored. I miss the smell and humidity of the ocean. I miss foreign accents and different languages being spoken around me. I miss seeing something 500 years old, yet brand new to my eyeballs. I would just love to break out of here and get to Ireland, Japan, or France. But while we are not allowed to travel to any of those countries right now, I’m also not too fired up about a 10-hour flight in a closed container with 300 fellow travelers. Once there is a vaccine, I can see how there will be some significant pent up travel demand. I am so ready to use my Amex card again.

While we wait for the vaccine, COVID datapoints continue to flatten or decline in most U.S. states. Thank the increase in mask awareness and social distancing. Some interesting findings in the southern hemisphere which is going through their peak flu season is that flu case numbers are barely existent. So, maybe one big positive from this global COVID experience will be that the world has learned how to minimize the seasonal flu spread. That must be worth a few million lives annually.

Of course, social distancing has had its costs here in the U.S. and Congress will be wheeling and dealing this week to put together the 2nd CARES aid package to help those who have been sidelined. The Dems want $3.5 trillion, while the GOP put up a $1 trillion package today. The Dems have the most stacks of chips right now in looking at the November election polls. And, the GOP won’t stand in the way of a bigger package in return for keeping the rent and mortgage payments flowing during the 3rd quarter. Expect a $2 trillion deal to be agreed upon after many days of politicking.

Related to this is that the U.S. dollar is in trouble. As other nations rebound more quickly than the U.S., and the cost of our internal fix continues to grow, the U.S. dollar is seeing one heck of a slide. This will have its positives and negatives. U.S. manufacturing jobs could see more volumes as the cost of our production falls. But our cost of foreign purchases and overseas travel is going to rise. There will also be dislocations in the market as some sectors with high U.S. content or intellectual property will benefit while others get hurt. Your gold position is looking pretty good right now.

Thanks again to everyone who joined in on the webcast last week. Hopefully you gained a few ideas out of the presentation and seeing how I am positioned in the markets. We will attach a link below in the event you want to see our slides again. Have a great week. It will be a very busy one with almost half the S&P 500 reporting plus the games being played in Congress. Not much time for a vacation this month anyway, but I am going to start lining up that 2021 trip soon.

Webcast Replay >

Speaking of getting away, the global travel recovery is going to be a rough one according to the earnings comments from last week…

“We had very strong bookings in place for the third quarter, at the beginning of this month. Then over the last several weeks, with the spike in Covid-19 cases, we’ve seen the bookings slow down dramatically and we’ve also seen an increase in cancellations.” – Southwest Airlines (LUV) CEO Gary Kelly

“I’m less optimistic today than I was 30 days ago. The virus is in so many different markets of the United States.” – Marriott International (MAR) CEO Arne Sorenson

“I have a more cautious view than I did four weeks ago. While the T.S.A. numbers have continued to slowly tick up, the reality is that the cash that people are willing to commit to future travel decisions has stalled. The fear that the virus has created in the South has put people more into a stay-at-home mentality than we’d seen before.” – Delta Air Lines (DAL) CEO Ed Bastian

“I don’t think any of us believe that we’re going to get even close to the old demand until there is a vaccine that’s widely spread.” – American Airlines (AAL) CEO Douglas Parker

“I don’t think we’ll ever get back entirely to where we were in 2019 on the volume of business traffic” – Delta Air Lines (DAL) CEO Ed Bastian


While many companies are suffering under COVID, some are thriving…

Papa John’s is so anxious to hire that they will even pay for online college tuition to Purdue, Maryland and SNHU.

Papa John’s on Monday said it wants to hire another 10,000 workers around the country, saying the additional employees are needed to meet higher demand for delivered pizza.

The bigger hiring push comes on top of the 20,000 workers the Louisville, Ky.-based chain has hired since late March. Papa John’s said it “remains committed to meeting the high demand” for its pizzas.

The pizza chain, which operates 3,700 units in the U.S. and 5,400 overall said in June that its North America same-store sales popped 33.5% in May, continuing a surge that began in late March when consumers began quarantining at home.

The hiring surge suggests the company hasn’t experienced much of a slowdown.


Some good news from the COVID experience = less seasonal flu spread…

During Chile’s peak normal flu season, current cases are running 95% lower than in a normal year. Australia is lower by 99%.

For the past two months, as winter descended on Chile, infectious-disease specialist Claudia Cortés worked tirelessly to keep a wave of critically ill Covid-19 patients alive in the hospital where she works. At the same time, she worried about what would happen when the usual wave of influenza patients arrived.

They never came.

From Argentina to South Africa to New Zealand, countries in the Southern Hemisphere are reporting far lower numbers of influenza and other seasonal respiratory viral infections this year. In some countries, the flu seems to have all but disappeared, a surprise silver lining that health experts attribute to measures to corral the coronavirus, like mask use and restrictions on air travel.

The decline could be good news for health officials in the U.S. and Europe worried about a possible second wave of coronavirus infections this fall and winter. Not only is the coronavirus more likely to spread as people gather indoors during cold weather, but it is also flu season, meaning hospitals could get a double whammy of influenza and Covid-19 patients, both of whom sometimes require intensive-care treatment.


Chile's influenza cases during flu season

Earnings guidance was near the floor, so little surprise that companies are handily beating estimates right now…

@FactSet: 81% of $SPX companies have beaten EPS estimates to date for Q2, above the 5-year average of 72%.

S&P 500 Earnings

Microsoft reported disappointing cloud revenues +50%…

Who would ever think that 50% growth could be upsetting? But welcome to the world of expectations where even the best can miss and hurt their stock price.

Even clouds can disappoint: Microsoft (MSFT) surged to record highs in recent weeks, driven by optimism about its cloud business, which includes Azure and Office 365. And the company crushed estimates, with surprising growth in consumer-facing segments like Surface PCs and Xbox games. But margins fell a couple of points, and Azure’s growth, at a currency-adjusted 50%, decelerated by 11 percentage points from the March quarter. Microsoft shares were priced for perfection. The company delivered a quarter with a few blemishes, and investors took profits. The unexpected Azure issue raises the stakes for the (AMZN) and Alphabet (GOOGL) cloud services when those companies report this week.


Just like they do in Japan…

In other words, 1/3 of the S&P 500 is going to report earnings after the close on Thursday.

Tweet from @carlquintanilla

This is the biggest week of earnings for the Q2 reporting season…

Most Anticipated Earningss Releases

Google today announced work from home for their employees until at least July 2021…

And landlords in the Bay Area just fell to their knees.

Google will keep its employees home until at least next July, people familiar with the matter said, making the search-engine giant the first major U.S. corporation to formalize such an extended timetable in the face of the coronavirus pandemic.

The move will affect nearly all of the roughly 200,000 full-time and contract employees across Google parent Alphabet Inc., GOOG -0.25% and is sure to pressure other technology giants that have slated staff to return as soon as January…

The uncertainty has upended the housing market in the San Francisco Bay Area and elsewhere, as employees consider alternative living arrangements outside the expensive metropolitan areas where major employers are often based…

Google has partially opened some smaller offices in countries relatively unaffected by the pandemic, such as Australia, Greece and Thailand.


Fifteen high-cost metros that are going to be challenged if more workers continue to work remotely…

Top 15 High Cost Metro Areas

New York City is going to have to financially pivot as workers no longer return to their physically located jobs in Gotham…

Work from home and the reduced need for employees in New York’s financial and professional-services industries have prompted some companies to consider paring their presence in the city by at least 20%, according to a study on the economic impact of Covid-19.

About one in four office employers intend to reduce their footprint by at least a fifth, and about 16% expect to move jobs out of the city, according to the Partnership for New York City, an influential group composed of corporate chief executives, which enlisted over a dozen consulting firms to work for free to conduct the study.

Companies also expect only 10% of their employees to return to the office this summer and just 40% by year-end, according to the survey, which was conducted in May and released Monday.

The study estimated that city and state tax revenue losses may exceed $37 billion during the next two years, as the state’s economic output drops 7%. The city’s economy could shrink as much as 13% this year.


BofA/Merrill Lynch nailed it in this chart from April…

Still so much more to think through as we recover.

The Journey Along the Great Separation

As discussed previously, once diversified mutual funds are maxed out owning the top five stocks, who is the next buyer?

Diversified mutual funds have a ‘top five holdings ≤ 25% of portfolio’ weight limit. So, once they get to that limit, they can only be sellers, not buyers.

The simple arithmetic of portfolio construction limitations represents one headwind to the continued outperformance of the largest stocks. Many fund managers have position size limits, with 5% a common ceiling for the portfolio weight of any given stock. Today, AAPL and MSFT each constitute more than 5% of S&P 500 index weight, with AMZN just shy of that level. Our latest analysis of mutual fund position filings showed that the average large-cap mutual fund held a 5% position in MSFT and roughly 4% positions in AAPL, AMZN, and GOOGL.

(Goldman Sachs)

Large-cap US equity mutual funds

At the other end of the sector spectrum, no one wants to own bank stocks… except maybe Warren Buffett.

Berkshire Hathaway scooped up 33.9 million shares in the past week, paying about $810 million, or an average price of about $24 a share. The stock, which ended Friday at $24.35, up 5% on the week, is off about 31% this year and has lagged behind the stock market during the recovery from March lows.

Buffett had no comment but he’s apparently comfortable with the stock’s valuation. Bank of America trades for 1.2 times tangible book value, a discount to industry leader JPMorgan Chase (JPM) at 1.6 times. The bank is more expensive based on profits, trading for 16 times projected 2020 earnings of about $1.50 share.

Earnings are depressed by sizable loan-loss provisions. Buffett may be looking to potentially higher earnings in 2021, when the consensus is $2.15 a share. The stock yields almost 3%.


I agree with Tom here…

If we get through COVID this year, the banks will be very over reserved.

Tweet from @BrownBankstocks

Goldman also agrees and is looking for lower loss provisions in the 2nd half of 2020…

Bank Provision Builds
(Goldman Sachs)

New home sales continue to rip higher…

US New One Family Houses Sold

And quarterly comments regarding the outlook for housing were positive last week…

“I am very pleased to report that the recovery in new home demand that we experienced over the course of the second quarter was nothing short of outstanding. Our second quarter results show a remarkable rebound in demand as April net new orders fell 53% from last year, only to see year-over-year orders increased 50% for the month of June. Led by strong demand among first-time buyers, we saw meaningful improvement across all buyer groups and geographies as the quarter advanced. This improvement culminated in June orders increasing 77% for first time, 48% for move up and 21% for active adult over June of last year…buyer demand is clearly experienced a dramatic recovery in the quarter and has remained strong through the first three weeks of July.”

“The combination of strong demand and limited inventory has also allowed us to raise prices across many of our communities. In fact, more than half of our divisions report raising prices in 50% or more of their communities. The typical price increase is in the range of 1% to 3% and includes changes in base price and/or reductions in incentives”
– PulteGroup (PHM) CEO Ryan Marshall

“After America has been quarantined and sheltered in place for three or four months, people are starting to realize that they want to have a bigger house, or a house with a backyard. They see the parks, the lakes, the amenities, the fantastic school districts, and 3% interest rates [on mortgages], and they realize they can have that quality…I think the pandemic has given people that push to make a change and think differently about how they’re living, and go to quality.”
– Howard Hughes (HHC) CEO Paul Layne


Baby boomers had it too easy…

Tweet from @dougboneparth

Credit spreads continue to tighten which is a great thing…

Credit Spreads

Of course, the continued Fed buying is a positive for credit spreads…

Here is a list of their buying.
@Biancoresearch: ETF purchases are under “Corporate Credit Facility” (as is corporate bond purchases). The Fed only details this once a month.

Federal Reserve Corporate Bond ETF Purchases

Speaking of credit, a new price war has begun in the asset management industry. This one will be big.

Vanguard is already a leader in funds that mimic pre-set indexes of stocks and bonds rather than trying to beat them by actively picking specific securities. Investors have flocked to index products because they charge less and, by some measures, deliver more consistent returns. Vanguard’s push into active bond investing is a new front in the fee war between large asset managers as they trim their own profits to win more customers.

Launched in 2016, Vanguard’s core bond fund has become one of its fastest-growing bond products, growing 60% in the first half of the year to $2.2 billion in assets. The fund costs investors $1-$2.50 annually per $1,000 invested depending on the share class, compared with older and larger funds operated by Western Asset, which charges $4.20-$15.20, and BlackRock, which charges $3.80-$14.30, according to data from Morningstar Inc…

Vanguard’s actively managed bond funds grew by $27 billion in the first half of 2020 to $506 billion, according to a company spokesman. Active bond funds managed by BlackRock grew by about $11 billion to $950 billion over the same period, according to the company’s quarterly earnings reports.


We will get it right someday. In the meantime, there is gold…


Jim Grant warns us to keep an eye on the money supply…

“The Fed wants us to believe that we should believe that there will be no inflation out of all this and to me that is a vast unknown. We have America’s fasted peacetime money-growth coexisting with the all-time 4,000-year record lows in interest rates. It’s a most curious and troubling juxtaposition there. I think what we have is a monetary moment that is unprecedented and therefore calls for extreme caution and great humility on the parts of all of us”
– Grant’s Interest Rate Observer Founder Jim Grant


Do you own enough gold?

Rising money supply, negative interest rates, a falling U.S. dollar, faster economic growth in most every other country in the world, China tensions, Mom’s versus the DHS in Portland, and no football in 2020.

Gold raced to a record high on Monday as the US’s deepening Covid-19 crisis sent the US dollar tumbling further and encouraged nervy investors to choose the precious metal as the place to park their cash.

The price of the metal, used by investors as a store of value in times of stress, climbed as much as 2.4 per cent to a record $1,944.73 a troy ounce on Monday, blasting past its previous nominal high of $1,921 set in September 2011.

Gold has rallied by more than a quarter this year, making it one of the best-performing mainstream assets, as investors brace for the economic fallout of Covid-19 and seek to minimise the effects of sweeping central bank interventions on their portfolios.

“I think it is the story of the year in financial markets,” said Peter Grosskopf, chief executive officer at Sprott, a precious metals specialist with $12bn under management. “Gold has finally come on to Main Street as an asset people actually need to have.”



It makes sense that Consumer Discretionary underperforms the market during periods of big US$ declines…

Many Discretionary names sell to the U.S. consumer while sourcing foreign made goods. So, selling costs are rising, putting upward pressure on margins until shelve prices are increased (thus hurting top-line demand). Much better to be making goods in the U.S. with a dollar cost base, while selling into foreign economies at their rising exchange rate backdrop. Thus, tech and high US$ intellectual property companies will do well. For example, video game software, semis and healthcare equipment and device companies. U.S.-based auto manufacturers will also eventually benefit on their foreign sales.

Sector performance during months of sharp dollar declines

The November election polls continue to run Blue…

These polls make it even more difficult for the GOP to get their way in the CARES 2 Act financial specifics.

Latest Election Polls

Luckily, they will have until the Spring 2021 to decide since Fall football looks unlikely…

@IvanTheK: I thought they were kidding. How hard is it to come up with a name? Are they doing extensive focus groups?

Washington Football Team

If you had picked a geek to improve the chocolate chip cookie, congrats…

Remy Labesque has a compelling day job: He’s senior industrial designer at Tesla Inc. in Los Angeles. But for three years, he’s worked on a side project that’s enviable to people outside Elon Musk’s universe. Labesque has reengineered the classic chocolate chip because, he says, the 80-year-old teardrop shape is ill-suited to its function.

“The chip isn’t a designed shape,” says Labesque. “It’s a product of an industrial manufacturing process.”

The baking standby is optimized for mass production, not for baking in cookies whose broad surface area is better suited to maximize taste and melt-in-your-mouth texture. Labesque’s redesign for artisanal Dandelion Chocolate is a square, faceted pyramid, kind of like a flattened diamond. Two edges are thick, and two exceedingly thin, for even more textural pleasure.


Pieces of Chocolate

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