Security Trade Ideas (STI)

September 2018

“Valuations matter a lot more as you extend the time horizon.”

In this post we are offering Security Trade Ideas that you will not find with any other financial advisor or TV personalities/Investment Managers. Don’t know about you but we are tired of hearing about the FANG (Facebook, Apple, Netflix and Google) stocks like there are no other companies to talk about.   In this post we also talk cover debt, the economy and tariffs.

Once again in United States we have consumption spending and consumption debt increasing.  Too much debt brings down the economy and causes a recession.  Do you recall when this happened?  History repeats itself and bubbles do exist and burst. The stock market bubble will burst.  Be prepared.

Here are a few Security Trade Idea questions that you may be asking yourself:  Is it time to take some money off the table? Are market evaluations too high? Will there be a contango from the emerging markets to the United States?  Are we paying attention to the yield curve? Are we going to have an infrastructure proposal? How will the emerging market pay their debt with the rise of the dollar and quantitative easing? What will be the outcome of tariff negotiations?  Will the earnings growth continue?  Has the increase in wages kept up with the high cost of food and energy?  How much is national debt and how are we affected by it? Will the history of 2000-2007 repeat itself?  What will be the outcome of our November election? Will our president be impeached? Is the drop in home sales a sign that a recession may be coming?

We definitely don’t claim to have answers for all of these questions with certainty. However, we believe they are important questions and some will be discussed below.

“Investors who neglect the risk of prices falling and are optimistic enough to borrow and buy assets are taking a great risk.” Nasreen

In our June post we talked about companies that are buying back shares such as:  (AAPL), Cisco (CSCO), Abbvie (ABBV), Boeing (BA), Merck (MRK), Oracle (ORCL), Master Card (MA), Amgen (AMGN), Google, General Motors (GM), Adobe (ADBE) Monster Beverage (MNST), Micron (MU) ,Tiffany (TIF), Coca Cola Co. (KO), Johnson (JNJ), Citigroup Inc. ©, American Express (AXP), Goldman Sacks Group Inc. (GS), KeyCorp (KEY) Delta Air Lines (DAL), Southwest (LUV) and Intel Corp (INTC).

In the past we have talked about Security Trade Ideas such as Grubhub (GRUB), Master Card (MA) and Visa (V).  In the security area we have loved Palo Alto Networks (PANW). Some of the others that you may have in you’re portfolios are: Target (TGT), Costco (COST), Low’s (LOW), Home Depot (HD), Nike (NKE), Under Armour (UAA, UA) and many others.

There is a big chance that the republican will lose the house and Trump may be impeached.  

Bob Woodward in his book called “Fear” called him impulsive and dangerous. Trump has dangerous ideas like withdrawing from the KORUS (Korea Free Trade Agreement) trade agreement. He is an unpredictable leader. The White house is in turmoil.  Morell accused Trump of being “an unwitting agent of Russian Federation.” All the lies and deceptions will break down the house. His treatment of women is shameful and disgusting. All the unresolved issues, most importantly North Korea show and nuclear capability, will break the house down.  He is ruining the Chinese economy with Tariffs and increasing prices of goods in U.S.

Democrats are hoping a blue wave of support will carry them to victory in this fall’s elections.  “Democrats have so far successfully capitalized on anti-Trump energy, rising significantly more money for house races than they did in the 2014 election cycle.” Bloomberg Business week

Thomas Fahr Steyer is an American billionaire hedge fund manager, philanthropist, environmentalist, liberal activist, and fundraiser. Mr. Steyer, who advocates impeaching Mr. Trump, has spent $30 million so far on Democratic candidates and PACs.

Andrew Gillum, the Tallahassee mayor who recently won Florida’s Democratic gubernatorial nomination, likes to thank “everyday folks” for donating to his campaign. He also thanked billionaires George Soros and Tom Steyer.

Both Soros and Steyer, who’s been leading an effort to impeach President Trump, also directed $650,000 in the final two weeks of primary campaigning toward the same political group, according to Politico.

Rod Rosenstein reportedly suggested he would secretly record Donald Trumpin an effort to expose the president as being “unfit for office” – while attempting to invoke the 25th Amendment.

U.S. imposed sanctions on Iran on Aug. 6, 2018 and the next will be in November of 2018. “The broader reaction could expose how isolated Trump is on the world stage, especially after he unilaterally quit the Iran nuclear deal this spring,” they write.

There is a toxic atmosphere in DC. With the threat of tariffs and trade wars between China, US, Mexico, Canada and the European Union (EU)-(U.S.-China, U.S.-NAFTA, U.S.-E.U.)  These factors and the exchange rate may have a negative impact on the companies’ earning.

Are Politics running the Market now?   “Words Create action, and Trump is moving markets.”

Strong corporate earnings, in part thanks to lower tax bills that have propelled U.S. shares higherthis year.

The U.S. Department of the Treasury said it would increase borrowing in the second half of the year to $769 billion to compensate for tax cuts and spending.  

“Tougher Times Are Ahead, Says Abby Joseph Cohen”

“The economy is enjoying robust growth. Earnings growth also is strong, due to the tax cut. And, a rise in energy prices has helped industry profits. There has been an additional boost to earnings per share from share repurchases. Toward the end of 2018 and in 2019, however, the buzz from tax cuts will begin to fade. Additionally, investors will increasingly recognize that the dollar’s strengthisn’t helpful to U.S. economic growth. Then there is the essential question of tariffs.  A trade war, as the president refers to it, would damage economies here and elsewhere. Plus, the U.S. budget deficit will increase in 2019, in large part due to the tax cut. Right now, we are enjoying the sugar high. At some point over the next couple of years, we will have to start paying for it.”

“The great recession was consumption driven.”

A flattening yield curve is usually viewed as a precursor of recession. That benefits relatively defensive sectors such as utilities, health care, consumer staples and real estate, which tend to experience smaller losses in a bear market. Over the past 30 days, exchange-traded funds tracking those four sectors have recorded some of the strongest growth among all 11 S&P 500 sectors.

“In June of 2018 Powell noted that “arguments are made that a flatter yield curve has less of a signal embedded in it” about the neutral level of interest rates. Powell added that yield curve  “Flattening is the natural result of the Fed raising short-term rates.”

In our December 2017 post we talked about the yield curve extensively.

https://securitytradeideas.com/security-trade-ideas-december-2017/

ECRI’s Weekly Leading Indicator is “telling us in no uncertain terms that economic growth will ease in coming months,” but not fall into a recession, Achuthan concludes. That’s consistent with the message of the yield curve,

According to the following report by Barron’s, the flatting of the yield curve will not lead to a recession.

https://www.barrons.com/articles/will-the-flattening-yield-curve-lead-to-recession-1535761789

“Tax cuts and deregulations provide sugar highs for companies in the short-term.”

“ Future market trends can’t be predicted with certainty.”  Nasreen

Economy

“Inflation could dampen the consumer’s spirit.”

“The great recession was consumption driven.”

“Rise of debt  bring down the economy and causes recession.”

Quantitative easing programs and low interest rates have boosted the economy for many years.  Some of the worries in the market are: increase in debt, problems in the emerging markets, political uncertainty, and decease in quantitative easing.

“ Economic data remains solid, with existing home sales snapping a losing streak.  Existing home sales account for the majority of the housing sales market.”  This is partly due to the rise in the interest rates.

Interest rates are increasing and could slow down the economy.  Central Banks are pulling back gradually from years of deep involvement in markets.

Robust capital spending was expected to be a key driver of economic growth as the U.S. expansion enters its tenth year.

Economists warn any retrenchment could add pressure on the U.S. economy as rising interest rates; higher inflation and a stronger dollar also weigh on growth.

The U.S. economy grew at the strongest pace in nearly four years during the second quarter, powered by a rebound in consumer spending, exports and firm business investment. That was the strongest growth reading since the third quarter of 2014 and makes it highly likely the Fed will continue gradually raising short-term interest rates.

Economic growth was stronger during the second quarter than earlier estimated, although growth in a key measure of US corporate profits moderated from the first quarter.  Key Facts according to the WSJ:

GDP—the value of all goods and services produced—rose at a 4.2% annual rate in Q2, adjusted for seasonality and inflation, the Commerce Department said.  The agency had earlier estimated second-quarter growth at a 4.1% annual rate. Economists surveyed by the WSJ expected an unchanged reading.

The second-quarter growth rate’s revision partly reflected stronger business investment than earlier forecast and a slight downward revision to consumer spending. The 4.2% rate still marked the strongest pace of growth in nearly four years.

The Federal Reserve has already begun to shrink its balance sheet. The Bank of England has been raising interest rates. The European Central Bank has signaled that it may stop buying up assets by the end of the year.

Increase in Debt and political uncertainty surly will have a negative impact on the market.

Robust consumer spending, exports and business investment are powering the U.S economy.

We have business activity slipping, new home sales unexpectedly dropping, jobless claims surprisingly dipping.

Analysts were also weighing economic data showing Americans boosted  their spending in July of 2018, a robust start for consumer spending in the third quarter amid a strong labor market and consumer confidence.

U.S. consumer spending is so strong that it’s even boosting shares of left-for-dead retailers. One retail CEO says its possibly the strongest consumer environment he’s seen. U.S. consumer sentiment improved markedly in September 2018, rising to the second-highest level since 2004, only behind the reading in March of this year.

“The University of Michigan said Friday its preliminary index of U.S. consumer sentiment was 100.8 this month, up from August’s final reading of 96.2. The August reading had been the lowest since January.”

“Severe economic downturns are almost always preceded by a sharp run-up in household debt. ”

Unemployment is at the lowest level since the early 2000 (3.9%). In some areas wages remain low despite employee shortage. 

Wage growth has been flat since 1973 -Monetary policy- Mr. Powell indicated that higher productivity leads to higher wages – investing in education will lead to higher wages.

Buyers are getting squeezed by the combination of rising mortgage rates and prices that have been climbing about twice as fast as income. 

This could be the beginning of a turning point, says Robert Schiller, a noble prize winning economist. Supply is rising and values in high price areas are softening.

The Consumer Price Index (CPI) for All Urban Consumers (CPI-U) increased 0.2 percent in July on a seasonally adjusted basis after rising 0.1 percent in June, the U.S.  Bureau of Labor Statistics reported today. Over the last 12 months, the all items index rose 2.9 percent before seasonal adjustment.

The all items index rose 2.9 percent for the 12 months ending July, the same increase as for the period ending June. The index for all items less food and energy rose 2.4 percent for the 12 months ending July; this was the largest  12-month increase since the period ending September 2008. The food index increased 1.4 percent over the last 12 months, and the energy index rose 12.1 percent. 

A falling Chinese Yuan and trade uncertainty continued to weigh on global markets.

The economy is going gangbusters and jobs are easy to find. However, rising interest rates, a growing federal deficit, and an escalating tariff battle between the U.S. and its trading partners are likely to put a damper on corporate-profit growth in coming months, which could limit stock-price gains.  The Trump Administration targeted washing machines, which were the first consumer products.  Appliance prices have risen for consumers, and there are signs of waning demand.

Some U.S. companies are tempering spending plans, raising questions about a much-anticipated capital-spending renaissance that investors hoped would drive economic growth in the years ahead.

Spending on big-ticket items like new equipment, factories and real estate among S&P 500 companies rose by around 20% in the first quarter, and many analysts had expected spending to continue growing rapidly after the U.S. tax overhaul and a repatriation of foreign earnings left companies flush with cash.

But recent data suggest companies are growing more cautious in their investment plans. Two surveys of manufacturers in the New York and Philadelphia areas this week showed fewer companies planning to boost capex in the months ahead.

Analysts attribute the pullback in part to the tariff fight between the U.S. and China that could impact a wide swath of U.S. industries.

Robust capital spending was expected to be a key driver of economic growth as the U.S. expansion enters its tenth year. Economists warn any retrenchment could add pressure on the U.S. economy as rising interest rates; higher inflation and a stronger dollar also weigh on growth.

Goldman Sachs warned in a note to clients that U.S. political decisions are helping make volatility the new normal in the oil markets. Taking a longer-term view, the International Energy Agency’s latest report said that while the world will run on electricity in the future,it will not mean the end of the oil and gas industry as those products will move from providing power directly to providing power for electricity generation.’

Global oil inventories may decline early in the fourth quarter “to levels that have historically seen triple-digit oil prices,” says Goehring. He believes that Brent oil prices will reach $100 a barrel this year. That has been his forecast for 18 months.

There has been a sharp fall in Chinese demand for U.S. crude, although it isn’t included in their list of goods to which tariffs will be applied.

Market players in the U.S. energy sector have warned the U.S.-China trade spat could hurt the oil sectorand destabilize the global economy as China has signaled its willingness to impose tariffs on crude imports from America.

There is turmoil and high volatility in the emerging market. The pullback is not a surprise, given the substantial 93% gain over a two-year period that stretched from January 2016 to January 2018.

Slow down in the Emerging markets such as China could spill over to United States.

Beijing announced new tariffs on about $60 billion worth of U.S. goods.  Emerging market (EEM) is in a bear market.

China, South Africa, South Korea, Taiwan, India are part of the MSCI Emerging Market Index. The MSCI Emerging Markets Index stands for Morgan Stanley Capital International (MSCI), and is an index used to measure equity market performance in global emerging markets.

You can visit https://www.msci.com.  MSCI Emerging Markets and Frontier Markets Indexes. China and Korea make 45% of the MSCI Index.

“Given China’s 30% weighting in the index, we would have to see signs of a major economic slowdown in China for the broader emerging markets universe to be affected significantly.”  Wagener

Turkey and Argentina, are struggling to fund their trade and budget deficits while managing high debt levels. However, the big EM economies of China and South Korea are nearly 10 times larger and do not share the same burdens.

What would be the effect on emerging markets when interest rates increase in the United States?  Returns in emerging markets were positive on an annualized basis over those periods of rising rates in the U.S.

The information technology sector is the largest weighting in the index — by itself bigger than the materials, energy and industrials sectors combined.

Correlations have loosened between emerging markets and commodities. This shift has coincided with the massive growth of technology companies, particularly Chinese Internet giants Tencent and Alibaba, currentlythe two largest companies in the MSCI EM Index.

“Emerging markets have hit a rough patch, with the benchmark MSCI Emerging Markets Index declining roughly 16% since hitting a two-year high on Jan. 26. The pullback is not a surprise, given the substantial 93% gain over a two-year period that stretched from January 2016 to January 2018.

Political uncertainty and economic turmoil in Brazil, Turkey and Argentina, which are large borrowers in international financial markets, have dragged markets lower at times. The Trump administration imposed sanctions on two Turkish state ministers.

Emerging markets could become collateral damage in an escalating trade conflict where the US is squaring off against China and Europe.

Export-dependent Asian economies may be especially vulnerable, and major stock markets in the region have tumbled.

A significant portion of US-bound exports from countries like Malaysia, South Korea and Thailand pass through China, thanks to its central role in the global supply chain.

On the positive side, corporate profitability continues to be solid, especially for new economycompanies in the technology and consumer discretionary segments. Nevertheless, volatility likely will continue as markets search for a new equilibrium. “

“Corporate profitability and debt measures are stronger and improving. Valuations for emerging markets stocks are trading below their 10-year average on a price-to-earnings basis, and the discount has widened recently.At the same time, aggregate profits for companies in the MSCI Emerging Markets Index are estimated to rise by 16% this year and 11% in2019 on a year-over-year basis, according to estimates by data aggregator FactSet.”

Rise of the U.S dollar (2.7%) has hurt second quarter financials thus far this year has affected multi-national companies.

Tariff, input cost and foreign exchange headwinds are affecting company’s financials.

Akamai Technologies Inc (AKAM $71) is seeing some pressure after the company issued Q3 revenue guidance that came in below forecasts, as it expects foreign exchange headwinds. 

Trade tensions and an emerging-markets rout could slow the global economy.  China has pledged to retaliate against U.S. tariffs in “equal scale and equal strength.” 

Market evaluations are high. Rise of dollar makes paying or refinancing dollar-denominated debt more expensive.

“The strength of the U.S. makes Fed tightening on autopilot, which feeds through to a stronger dollar,” said Mr. Bahrke.

Record Prices for existing homes plus rising mortgage rates are weighing on demand, while supply has started rising.  Values in some of the hottest cities are softening as a result. 

Shares of home builders (D.R. Horton, Plute Group, Lennar, Toll Brothers) are struggling to catch up with the broader market, pointing to a potential trouble spot in an otherwise resilient U.S. economy.

Shares of Lennar Corp. down 17% this year, D.R. Horton Inc. losing 11%, Toll Brothers Inc. down 23% and Pulte Group Inc. shedding 14%. In comparison, the S&P 500 is up 8.4% this year.

New home sales declined 1.7% month-over-month (m/m)in July to an annual rate of 627,000 units versus forecasts calling for 645,000 units and the upwardly revised 638,000 units pace in June. The median home price raised 1.8% y/y to $328,700. New home inventory rose to 5.9 months of supply at the current sales pace from 5.7 months in June. Sales tumbled m/m in the Northeast and were down South, but rose in the Midwest and West. New home sales are based on contract signings instead of closings.

The bottom line is that, while house prices are remaining relatively firm, housing sales, and therefore mortgage volumes, aren’t faring as well.

Data from the MBA shows that total mortgage purchase applications for the week through Aug. 24 fell 8.6% from four weeks earlier and were up just 2.9% from a year earlier.

Mortgage refinancing applications were a third lower than a year ago. Overall mortgage applications are down 15% from a year earlier.

PMI Index showed growth for the key U.S. sectoralso decelerated more than expected, decreasing to 55.2 from July’s 56.0 figure, versus expectations to edge lower to 55.8. However, readings above 50 for both indexes denote expansion.

Weekly initial jobless claims declinedby 2,000 to 210,000, versus estimates calling for 215,000, with the prior week’s figure unrevised at 212,000. The four-week moving average declined by 1,750 to 213,750, while continuing claims edged lower by 2,000 to 1,727,000, south of estimates of 1,730,000.

Manufacturing activity unexpectedly jumps to near record high level.

Management (ISM) Manufacturing Index for August jumped to 61.3 from the unrevised 58.1 in July,versus the Bloomberg forecast calling for a dip to 57.6, with a reading above 50 denoting expansion.

This was the highest level since the 61.4 figure posted in May 2004, as new orders advanced 4.9 points to 65.1, production gained 4.8 points to 63.3, and employment rose 2.0 points to 58.5.

About a year ago, President Trump pledged to eliminate the national debt“over a period of eight years.” But for the first time in history, the national debt surpassed $21 trillion, according to the U.S. Treasury.

The landmark comes shortly after Congress passed, and Mr. Trump signed, a suspension on the federal debt limit last month, allowing the government to borrow an unlimited amount of money until March 1, 2019.

When Mr. Trump took office on Jan. 20, 2017, the national debt was $19.9 trillion, according to U.S. Treasury data. Since then, the GOP-led Congress has passed a $1.5 trillion tax cut bill and a two-yearspending deal which, together, are expected to drive the deficit and debt further upward.The Committee for a Responsible Federal Budget estimates annual deficits could top $2.1 trillion per year in the next decade, which would send the national debt soaring even higher.

The federal government racked up a $76.9 billion deficit in July, with increased government spending and tax cuts keeping the country on track to record its biggest annual deficit in six years.

The Treasury Department reported that in the first 10 months of this budget year, the deficit totaled $684 billion, up 20.8 percent

Please see our detail discussion of debt below.

“China has been growing its involvement in infrastructure projects around the world.”  China willing to spend and lend trillions of dollars on projects likes superhighways, railroads, harbors and ports.

Countries in need of infrastructure would rather go with American-led financing,but China has been the one making offers.

Turkey spat,raising tariffs on some U.S. imports in retaliation against U.S. sanctions. The tariffs cover U.S. products including alcoholic beverages, passenger cars, tobacco, cosmetics, rice and coal.

The MSCIEmerging Markets Index has been flirting with bear-market territory—or a peak-to-trough decline of at least 20%. It is down 11.7% for the year, through Friday.

The recent collapse in the Turkish liraspooked investors, and emerging economies are grappling with a string of other challenges.

Trade relations between China and the U.S. are strained. The dollar has strengthened, making hard-currency debt more expensive, and U.S. interest rates are rising, sucking capital out of riskier locations. Some flagship companies, such as Hong Kong-listed Tencent Holdings Ltd., are also stumbling.

“A rise in interest rates would be more costly than in the past, especially combined with a stronger dollar pushing up the cost of dollar-denominated debt outside the United States. In reality, it is hard to draw hard conclusions as to what impact an interest rate shock would have on the increasingly indebted global economic and financial system due in part to some of that increase in debt being held by central banks that aren’t leveraged or marked to market on their holdings and refund excess interest payments back to the government, unlike traditional financial institutions. For example, U.S. Treasury yields jumped by about one full percentage point and the dollar soared during 2013’s so-called “taper tantrum” without the shock turning into a crisis. “

Nevertheless, increasingly high debt burdens represent an increased vulnerability to a shock.”  Schwab

“Simply put, “We can’t survive living on borrowed money.” Nasreen