Tuesday, December 4, 2018
Equity Market Recap
· The recent rally in U.S. stocks (up about 5% over the last week heading into today) fizzled out in a big way, as investors grew skeptical that the U.S. and China made any meaningful breakthrough. The U.S. Treasury curve spread from 2-year to 10-year yields extended its collapse, breaching 10bps for the first time since 2007, flatter on the day by more than 4bp, (about 10bp on week), raising fears of an impending recession. The yield on the 10-year fell to lows of 2.88%, this after touching a high of 3.26% less than a month ago, as trade fears, slowing global growth concerns and a recent about face by the Fed on rate hikes have all weighed on yields. Problems in the UK continue ahead of the upcoming Brexit vote as the government of Theresa May was found to be in contempt of parliament for refusing to publish key Brexit papers, sending the Pound reeling to lows around 1.2659 (note June 2017 low was 1.2589).
· Today’s broad sell-off came just a day after markets rallied as President Trump and Chinese President Xi Jinping approved a pact on Saturday offering a 90-day moratorium between the two nations on tariff tension, just as a planned increase in duties to 25% from 10% was scheduled for Jan. 1 on $200 billion in Chinese goods exports to the U.S. The S&P 500, Dow Jones and NASDAQ all erased yesterday’s gains, while the Stoxx Europe 600 Index closed lower. The Dow Industrial Averages dropped over -800 points at its low, with industrials (BA, CAT, and DWDP) and financials (GS, JPM, V, AXP) the biggest drags on the index. Transports plunged, falling over 500 points (5%) for its worst daily decline in over 2-years. The S&P 500 fell more than 3% moving back below its 200-day MA just a day after moving above it for the first time in a month. Tech and Small Caps underperformed, down around 4% late afternoon for the Russell and NASDAQ.
· Also not helping matters, Treasury Secretary Steven Mnuchin and President Donald Trump’s top economic adviser, Larry Kudlow, dialed back expectations and added qualifiers when asked about the outcome of talks between President Donald Trump and Chinese President Xi Jinping. Kudlow said in a television interview that the White House doesn’t yet have a deal with China to reduce tariffs on U.S.-made cars.
· Note U.S. financial markets will be closed tomorrow because of the day of mourning for former President Bush. Jerome Powell’s testimony to Congress is canceled, though the Fed will release its Beige Book. Several economic reports are also delayed. EIA stockpile data are put back until Thursday, too.
· Gold prices rise, with February futures rising $7.00 or 0.6% to settle at $1,246.60 an ounce, moving back to near 5-week highs as the dollar sell-off continued and investors rotated back into defensive safe haven assets as stocks dropped sharply. Gold started its climb last week after last week’s dovish commentary suggested slower rate hikes into 2019 by the Fed. An apparent cease-fire in the trade war between the U.S. and China softened the greenback yesterday as well.
· Energy futures end higher as WTI crude rises 30c or 0.6% to settle at $53.25 per barrel having fallen from earlier highs of $54.55, as investors await the results of OPEC meeting in Vienna on Thursday. Earlier this morning, Saudi Arabian Oil Minister Khalid Al-Falih said it’s too early to say whether the OPEC+ group will cut oil production when it meets in Vienna later this week. Weekly API inventory data released tonight at 4:30 PM, but EIA data pushed out to Thursday.
· The U.S. dollar was very volatile, with the dollar index (DXY) bouncing off earlier lows of 96.37 to trade back as high as 97.12 (briefly turning positive), making a big move due to the sell-off reaction in the British Pound after the U.K. Parliament’s vote to find the government in contempt over its refusal to release legal advice on Brexit. The Pound dropped to lows around 1.2659, 18-month lows (note June 2017 low was 1.2589) before moving back above 1.27, down slightly on the day. Bloomberg noted the 311-293 vote shows the uphill battle Theresa May faces in getting her Brexit deal passed next week. The Mexican peso weakened in the wake of President Andres Manuel Lopez Obrador’s early morning press conference. The U.S. dollar fell to a 2-week low vs. the Japanese yen, falling nearly 1% in a flight to safety, trading down at 112.60. The dollar rallied to session highs vs. the Canadian dollar, supported by safe-haven USD buying, and softening oil prices. The inverted yield curve for also weighed on sentiment as it may reflect bond investors’ increasingly negative outlook for the U.S. economy.
· Treasury prices the big story, as prices rise while yields plunge. The 10-year yield fell as low as 2.91%, back towards three-month lows, which has narrowed a closely followed spread between the 2-year Treasury to the tightest level since 2007. On Monday, a portion of the so-called yield curve inverted as the yield on the benchmark 2-year Treasury note hovered at 2.821%, above the yield on the 5-year note at 2.811%. Today, the U.S. Treasury curve spread from 2-year to 10-year yields extended its collapse, breaching 10bps for the first time since 2007, flatter on the day by more than 4bp, (about 10bp on week). DoubleLine CEO Jeffrey Gundlach said he believes that the recent inversion of the U.S. Treasury yield curve is a signal that the economy is set to weaken and that the “totally flat” Treasury note curve will “stay the Fed’s hand” on future hikes to the federal funds rate. The 2-year yield was at 2.80% while the 10-year fell to 2.90%.
Sector News Breakdown
· Retailers; discount stores under pressure after DG lowered its full-year outlook saying a particularly devastating hurricane season resulted in a bigger than expected hit to the company’s top and bottom lines/lowered year EPS to $5.85-$6.05 from $5.95-$6.15 and below est. $6.11 (had posted Q3 sales and comps better than estimates); book retailer BNED shares drop over 30% after Q2 results disappoint with comp sales down (-5.6%); watch retailer MOV 3Q revenue and profit beat Street’s estimates, sending shares higher
· Consumer Staples; KR plans to sell groceries at 13 Walgreens test stores in Northern Kentucky, near Kroger’s Cincinnati headquarters, under “Kroger Express” section, confirming an earlier report by the WSJ; Craig Hallum noted Google searches for NTRI were down 27% y/y in November, which are the worst levels since Q1; CONN declines after earnings
· Auto sector; auto retailers a bright spot, led by gains in AZO after Q1 EPS, margins and comp sales (2.7% vs. est. 1.7%) all topped consensus views (ORLY, AAP active); MEI was upgraded to outperform at Baird on valuation/recent underperformance; KMX launches a new “customer-driven buying experience” in Atlanta that it aims to scale nationally/says the omni-channel experience will allow customers to “customize” their car buying decisions from home or in stores (shares of CVNA, CARG, TRUE were weak on reports initially)
· Housing & Building Products; RH reported adjusted Q3’18 EPS of $1.73, which exceeded guidance and consensus of $1.27 as revenue was slightly better than expected despite some head winds during the quarter with better-than-expected margin and a lower tax rate providing the upside; homebuilders active after TOL posted Q4 EPS and revenues that topped consensus views, but the sector fell after saying the housing market slowed further in November, particularly in California; paint maker SHW was upgraded at Deutsche Bank while firm downgraded IBP and BLDR driven by preference for remodeling focused names vs new construction exposed names
· Equipment rental stocks URI, HEES and HRI shares fell significantly underperformed the market after Toll Brothers reported its first drop in orders since 2014, driven by a sharp decline in California demand, suggesting that high-end property markets are cooling
· Energy stocks had been rallying the last few days as oil prices had rebounded off 52-week lows, but the group suffered the same fate as the broader market, falling midday in a mass sell-off; FRAC 5.25M share Spot Secondary priced at $10.77; Oil refiners among top gainers in the S&P early, with more than 1% advances for MPC, PSX, VLO; SLB shares pressured after saying it sees Q4 North American sales down 13% vs. Q3 (service stocks fell)
· Utilities & Solar; in solar, FSLR received its second analyst upgrade in as many days as Argus raised its rating to buy from hold (Goldman upgraded yesterday) as view FSLR as well positioned in the solar industry based on its positive cash flow, solid balance sheet, and focus on cadmium telluride technology; 52-week highs for several utilities today as yields fall (10-year under 3%) making dividend paying sectors more attractive: CMS, AEP, WEC, DUK, LNT, ETR, EXC, XEL, ES; ES was also upgraded to outperform at Credit Suisse today
· MLPs/Pipelines; KMI gives preliminary 2019 financial projections, with company expected to generate about $5B of distributable cash flow, about 10% over its 2018 budgeted DCF; sees 2019 adj. Ebitda $7.8B vs. est. $7.65B
· Bank movers; group has come under recent pressure following the surprise move in treasury yields back to the downside, with the 10-year yield now more than 30 bps off its 2019 highs, hovering around 2.91% today (lower yields hurts lending margins for banks); GS shares hit their lowest level in over 2 years, down 24% year-to-date and 31% from its March high; JPM dropped among the biggest drags in the Dow, with CEO Dimon saying Q4 trading revenue was roughly flat vs. last year; OZK was downgraded to neutral at Piper; IVZ was downgrade in asset manager sector at Wells Fargo based on weakening trends occurring in IVZ’s core business and risks we see from the pending Oppenheimer acquisition
· Insurance; HIG was upgraded to buy at Janney saying the recent decline in the stock price represented a buying opportunity as valuation is compelling; CB prelim 4Q 2018 net catastrophe loss est. $195M; in consumer finance and lending; TREE shares weak after guides FY19 revenue $990M-$1.03B, below consensus $1.04B, representing growth of 29%-34% over the midpoint of full-year 2018 revenue guidance of $765M-$775M (down from $765M-$775M)
· Pharma movers; 52-week highs for four Dow components…all in the healthcare sector…MRK, PFE, UNH, WBA; KDMN rises following updated results from a Phase 2 clinical trial evaluating KD025 in patients with previously treated chronic graft-versus-host disease (GvHD) at ASH conference; in cannabis space, APHA shares fall a second day after a short-seller report yesterday (from Gabriel Grego, founder of Quintessential Capital Management) hurt shares; RVNC study showed its drug (RT002) was safe and effective in a nearly 2,700 patient study (drug a potential rival to AGN’s Botox); VNDA was upgraded to overweight and $43 tgt at Cantor
· Biotech movers; CLVS rises as company says patent protection for Rubraca in Europe was confirmed until at least 2031 and commercial form of Rubraca is entitled to European regulatory exclusivity until at least 2028; SNNA fell another 10% after dropping 37% yesterday after a Phase 2b study of its lead candidate, SNA-120, did not reach its primary target of statistical significance
Industrials & Materials
· Industrial & Machinery; Waste Sector was upgraded to attractive at Goldman Sachs as the firm upgraded WM from Sell to buy saying given the age of the current business cycle and expectations for slowing economic growth, they believe now is the right time to own Waste stocks and therefore we raise our view on the sector to Attractive; FAST was downgraded to neutral at Longbow as the share price approaches their target ($63), and the CY19 outlook from our distributor survey indicates lower growth expectations and increased price/cost pressure; DCI shares fall as much as 10% after Q1 eps miss earlier
· Transports; index hammered as Transports fall nearly 500 points or 4.5%, led by big declines across the board (airlines, truckers, package delivery); truckers HUBG, KNX and WERN were all downgraded to neutral from buy at UBS as firm reduces 2019E and 2020E EPS to reflect a more cautious view on TL & Intermodal pricing in the 2019 bid season, which would translate into muted margin performance; in airlines, DAL November traffic was 4.2% and said expects to generate EPS at the high-end of the $1.10 to $1.30 guidance range for 4Q; in package delivery, Morgan Stanley slashed price targets on FDX (to $230) and UPS (to $87z0 on the risk that Amazon Air poses to both companies’ growth, which they say is currently being missed by the market
· Chemicals; AVY was upgraded to overweight at KeyBanc while downgraded OI to underweight from sector weight with a $16 PT because of our concerns about increasing risks to global growth and belief that companies with healthy end markets and good balance sheets will be better positioned to withstand any downturn.
· Defense sector (LMT, GD, NOC, LLL, HII, LMT) active after Barclay’s reduced its budget forecast, although they still forecast growth. Barclay’s thinks current stock levels largely reflect budget risk, but don’t anticipate a recovery in relative valuations. Defense continues to broadly underperform, and they estimate now trades at a 5-10% discount, which we think largely reflects expectations for a decelerating to lower budget
Technology, Media & Telecom
· Hardware; AAPL shares active today after HSBC downgraded to hold and cut tgt to $200 saying writing that it was “too late to sell, too early to buy” as shares have fallen 19% over the past three months; also, weak on report that the tech giant is considering promotional tactics such as promotional discounts and trade-ins to boost iPhone sales over the key holiday shopping period. Bloomberg reported Tuesday that Apple reshuffled some of its global marketing staff in October in order to address disappointing iPhone sales; AVYA rises on earnings results
· Internet; group succumbed to broader selling pressure, erasing recent gains with AMZN, NFLX, GOOGL, FB all edging lower; JPMorgan said it turns more cautious on WB and SINA growth outlook into 2019, given that 1) the ongoing macro challenges may raise advertisers’ concerns on 2019 ad budget, 2) economic and regulations outlook remains uncertain, 3) competition on ad spend continues
· Semiconductors; CRUS becomes latest AAPL supplier to cut guidance lowered Q3 revs to range of $300M-$340M compared to its previous forecast of $360M-$400M due to recent weaknesses in the smartphone market and also lowered quarterly profit view; INTC downgraded to underperform at Northland and tgt to $42 from $46 as believe that the trade tensions caused companies to pull in demand to beat the increase in tariffs expected on Jan; Longbow reduces FY19 and FY20 forecasts for MU, commensurate with accelerating declines in November DRAM contract prices as well as MU’s surprise last week; TSM weak after Susquehanna said checks suggest TSM’s March-quarter shipments are tracking down 15% Q/Q, worse than our expectation of down 10-12% and well below the past eight-year average of down 1%.
· Software movers; COUP reported strong Q3 results as revenue growth accelerated to 42% (est. 32%) from 38% in F2Q19 and on y/y billings growth that accelerated to 39% (est. 21%) from 33% in F2Q19 though Q4 free cash flow $0M vs. $7.5M missed and Q4 guidance implies a deceleration in y/y revenue growth to 26-27%; VEEV shares fell after Citron Research saying competition has arrived as multiple is at peak and short interest at low
· Media & Telecom movers; CMCM shares fell early as its File Manager application has been temporarily suspended from the Google Play store, and the company has temporarily taken down two other apps to update Target APIs; DISCA shares rebound after falling yesterday following lower guidance by CEO at conference