Month: May 2018

A Quiet Day with much of the world off on May Day holidays…

Stagflation concerns dominate – construction spending and ISM Manufacturing tumbled as PMI/ISM Prices Paid soared to seven year highs – Simply put, hope is gone…

 

A very mixed picture in equity-land today as Nasdaq ended higher (ahead of AAPL earnings), S&P unch (thanks to the machines) and The Dow suffered (as trade fears hit Boeing and MCD earnings didn’t help)…

Futures show the divergence most clearly…

Small Caps and Nasdaq outperformed in cash markets, Dow worst…

NOTE – the crazy meltup in the last few minutes of the day… which lifted the S&P green

Some big technical levels hit or approached today…

• Gold breaks below 200DMA

• USD Index breaks above 200DMA

• EURUSD breaks below 200DMA

• GBPUSD nears 200DMA

• USDJPY nears 200DMA

• Dow nears 200DMA (23726.82)

But Facebook’s Dating App saved the world… It appeared that Facebook announcing a dating feature may have crushed Match but it ignited momentum across the entire US equity market…

 

And then the machines went into vertical buying-panic mode…

 

The Big Banks tried to stage an afternoon comeback but failed…

 

But Small Banks continue to outperform Small Caps… this won’t end well…

 

Treasury yields were up across the curve but only modestly…

 

But the yield curve flattened once again…

 

The Dollar Index spiked again today, busting through its 200DMA… (Dollar at highest since 1/10/18)

 

As the dollar gained, so cryptocurrencies lost ground…

 

And the dollar gains impacted commodities aggressively…

WTI Crude slumped to a $66 handle ahead of tonight’s API data…

With Gold tumbling to the lows of the year…

Gold found support at its 200DMA…

Bonus Chart: This is the chart that every bond bear is banking on… The Fed has unwound $100 billion of its balance sheet and 10Y Yields have risen from 2% to 3%… simply put, The Fed is finally managing to tighten financial conditions.

How long before stocks realize? And how long before this correlation (which is not causation remember) breaks?

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Authored by Erik Mokaya via Avondale Asset Management,

Each week we read dozens of transcripts from earnings calls and presentations as part of our investment process. Below is a weekly post which contains some of the most important quotes about the economy and industry trends from those transcripts. Click here to receive these posts weekly via email.

The common thread in this week’s notes is a heightened awareness of both cost push and wage push inflation. Companies are citing that wages are rising (due to a tight labor market) and prices for raw materials like steel are rising. Both of these are being reflected in companies’ aims to increase prices of goods and services. In Europe, growth is moderating as inflation picks up. 

The Macro Outlook:

Strong economic activity is causing bottlenecks in the supply chain

“the U.S. rail system is experiencing high demand driven by strong economic activity. This increased overall demand is adding stress to the rail system…This increased overall demand is adding stress to the rail system…After rail, the next logistics bottleneck is trucking. The issue today is not in tractors and trailers, it’s finding qualified drivers and dealing with congested infrastructure.”  –Halliburton’s (HAL) CEO Jeff Miller

A tightening labor market is leading to wage inflation

” The labor market is tight. U.S. unemployment is at an all-time low and in some basins it’s just above 2%…there will likely be wage inflation and additional pricing will be necessary for cost recovery.” –Halliburton’s (HAL) CEO Jeff Miller

Raw materials prices are also rising

“Raw material inflation was significant year-over-year headwind” –Whirlpool’s (WHR) CEO Marc Bitzer

“The revised outlook does reflect an assumption for higher material cost…we have also increased our estimate for price realization, partially due to a mid-year price increase” –Caterpillar’s (CAT) CFO Brad Halverson

” So we expect raw materials to be up and they are in the first quarter…steel is up about 15% and aluminum is up about 5% as of yesterday. So with that we expect even higher unfavorability in the raw materials part of our P&L” –Harley-Davidson’s (HOG) John Olin

“so just on food basket inflation, we’re still anchoring to the 2% to 4% for 2018, but what the stores in the U.S. will experience lines up pretty much with what we’re seeing in the rest of the industry”  – -Domino’s Pizza (DPZ) CFO Jeffrey D. Lawrence

Clearly there is underlying commodity cost pressure that affects everybody. Colgate-Palmolive’s (CL) CEO Ian Cook

But long term trends may keep wage growth down

“at this rate of unemployment, one could have expected wage inflation to be stronger than what it is…[but companies] also have more alternatives. So, we think that has a dampening effect on wage inflation. And we don’t – while we expect wage inflation to increase, we don’t think it’s going to increase very rapidly or for that matter, reach levels that we have seen in the past, despite a much lower unemployment rate than we’ve seen in a very long period of time.” –ManpowerGroup’s (MAN) CEO Jonas Prising

And trade war talk is affecting business confidence

“this escalation of protectionism and tensions, you can feel it not only in terms of business activity, but [also] are starting to somehow dent the confidence of investors” –UBS Group AG’s (UBS) CEO Sergio Ermotti

“the trade wars and the executive branch, which I’m not sure it’s easy to distinguish between the effects of both of those. Look, I think they are having an effect.” –Moelis & Co’s (MC) CEO Kenneth Moelis

“The increase in commodity cost was largely metals-driven, in part by the market’s reaction to potential increases in U.S. tariffs.”  –Ford Motor (F)  Robert L. Shanks

We’re in a tightening phase, not a shortage phase

“when we talk to our customers, they – and we ask them quite frankly. Do you see a shortage or do you see a tightening? And the answer we get is, we see a tightening.” –Nucor’s (NUE) CEO John Ferriola

Meanwhile the lower tax rates are:

-reducing willingness to tap debt markets

“[Lower tax rates are] providing at least a modest headwind, but it is very concentrated in terms of the number of firms that have large cash hordes overseas and may not feel they want to tap the debt markets given their repatriated cash…it’s a headwind not a serious one at this point ” –Moody’s (MCO) CEO Ray McDaniel

-improving competitive advantage

“the tax changes should make us somewhat more competitive, and that’s, by reducing the disadvantage we’d had against many of our competitors like the offshore reinsurers.” –Reinsurance Group of America’s (RGA) CEO Anna Manning

-making clients bullish

“[our clients] are bullish about the future, the economic outlook is positive, and tax reform has helped create that positive outlook.”  –ManpowerGroup’s (MAN) CEO Jonas Prising

-and creating incentives to grow 

“most certainly a lower tax rate, and therefore, better after-tax returns certainly helped on the margin, to put a little bit more incentive in there for the franchisees to grow.” –Domino’s Pizza (DPZ) CEO Richard E. Allison

…But having no impact on hiring

“I would not say that there are clients that have said because of tax reform, we are looking to hire more people at this stage.” –ManpowerGroup’s (MAN) CEO Jonas Prising

International:

Growth is moderating in Europe

“Following several quarters of higher than expected growth, incoming information…points towards some moderation, while remaining consistent with a solid and broad-based expansion of the euro area economy.” –ECB President Mario Draghi

Housing demand outstrips supply in Sweden

“the mismatch between housing supply and demand has not been solved, so we still see a high demand but for more affordable housing” Swedbank’s (SWDBF) CEO Birgitte Bonnesen

There is room for more coffee in China

“per capita coffee consumption in China is only about one half of one cup per person per year compared to roughly 300 or so cups per person per year in the U.S. and even more than that in certain Western European markets.” –Starbucks (SBUX) CEO Kevin Johnson

Financials:

The IPO market is healthy

“With 16 U.S. venture backed IPOs in the first quarter, the best quarter for innovation IPOs in three years, the IPO market has improved and the pipeline remains relatively healthy.”  –SVB Financial’s (SIVB) CEO Greg Becker

But excessive liquidity is helping companies stay private

“later stage funds, they’re putting some very, very big rounds, we like to call them private IPOs. And those are rounds that are more than $100 million and there’s a significant amount of those rounds taking place…With so much available liquidity…the bar for a successful exit is high, which could further slow the exit markets” –SVB Financial’s (SIVB) CEO Greg Becker

Lower rated issuers are tapping bank loan markets over high yield

“The bank loan market has been a bit more active than the high yield market. We’re seeing a lot of first time issuers come through the bank loan market. We’re also seeing a lot of issuers that are rated very low in the credit spectrum.” –Moody’s (MCO) CEO Bob Fauber

Mobile traders trade more often

“One of the things we know about, when a client adopts our mobile platforms, they clearly are more active with us, they login more often, and they trade more often.” –TD Ameritrade Holding’s (AMTD) CFO Steve Boyle

A bad flu season and harsh winter drove higher reinsurance claims

“we had elevated claims beyond our seasonally adjusted expectations…the flu season and the winter weather was especially severe this year, and thus we were not entirely surprised that we saw higher claims” –Reinsurance Group of America’s (RGA) CEO Anna Manning

Consumer

Retail inventories may be balancing out

“we continue to see retailers work down inventory but on our businesses for this quarter in a more measured way or a more modest way than we saw in the first quarter of last year” –Colgate-Palmolive’s (CL) CEO Ian Cook

Dominos sells 1 out of 6 pizzas in the US

“We are proud that we are now the largest player in pizza. But tonight, five out of six pizzas sold in the U.S. are going to be from somebody other than Domino’s. Globally, if you add in our international, 9 out of 10 are going to be sold by somebody other than Domino’s.” –Dominos (DPZ) CEO J. Patrick Doyle

New data regulation in Europe (GDPR) will impact digital advertising

“the amount of uncertainty there is for us and all the other companies in the digital advertising industry is reasonably higher than it’s been right now because we’re in the process of rolling out GDPR.” –Facebook (FB CFO) Sheryl Kara Sandberg

Technology

Businesses are embracing the subscription model

“partners and our customers are embracing the subscription model.” –Citrix Systems (CTXS) CEO David James Henshall

The transition to cloud is happening at an even faster rate

“the transition to cloud continues to occur. It’s occurring at a bit even faster rate, so that you do see that trend going on…our forecast for the long term is still in that high teens, low 20s range for that kind of growth. ” –Intel (INTC) CEO Brian M. Krzanich

Which is driving investment in cloud infrastructure

“Growth continues to be very strong in semiconductor manufacturing and data centers, with robust demand for cooling fluids and interconnect solutions.” –3M Co’s (MMM) CFO Nicholas Gangestad

“Blockchain is here to stay”

“The blockchain infrastructure is here to stay.” –Advanced Micro Devices (AMD) CEO Lisa T. Su

“We are excited about the long term potential blockchain and what it might be able to do in terms of distributed trusted applications and…I don’t just mean crypto….blockchain is still in the very first innings.” –PayPal Holdings’ (PYPL) CEO Dan Schulman

Industrials, Materials and Energy:

Demand for oil has been high

“demand has been fairly strong last couple of years…it’s been in excess of the 10-year average…Going forward, we see it fairly similar to 2017” –Exxon Mobil (XOM) Jeff Woodbury

Supply and demand has come into balance

“the absence of the normal seasonal stock builds in the first quarter clearly demonstrates that supply and demand is now in balance, which combined with increased geopolitical risk is what has driven oil prices up” –Schlumberger Limited’s (SLB) CEO Paal Kibsgaard

Consumers in energy markets like Houston are feeling more confident

“We finally are starting to see a brighter picture in the energy-related markets…the sentiment in consumer confidence are definitely improving ” –Group 1 Automotive (GPI) CEO Earl J. Hesterberg

Things are looking up in mining

“We continue to see robust rebuild demand; strong utilization in the mines is driving improving aftermarket parts demand and orders.” –Caterpillar’s (CAT) Amy Campbell

The LNG market is oversupplied

” the LNG market is becoming oversupplied in the short term as new projects continue to ramp up…the demand drivers appear mostly sustainable ….the LNG market should rebalance with a supply gap expected to open before the middle of the next decade.”  –Chevron’s (CVX) CEO Pat Yarrington

Miscellaneous Nuggets of Wisdom:

Customers’ needs change with their daily rhythms

“[We’ve recognized] that the dominant customer need state in the morning is the need state of convenience. And…as we transition into the afternoon day-part, the need state starts to balance between both convenience and community…what we know about the occasional customer in the afternoon is that they don’t shop with us as frequently, and they’re not aware of our offerings as our Starbucks Rewards customers…We know that the afternoon customer is looking for refreshment, and they are really interested in cold brew.” –Starbucks (SBUX) COO Rosalind Brewer

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Some of Facebook’s harshest critics – since the company first came under pressure for purportedly not doing enough to stanch the flow of fake news on its platform and allowing Russian troll farms to post disingenuous advertisements – have been former employees and investors who have acknowledged that the company’s unchecked expansion has come at a cost: Tearing apart the social fabric.

But in what is perhaps the highest-profile defection, Facebook co-founder Chris Hughes, who helped start the company along with Mark Zuckerberg, Dustin Moskowitz and Eduardo Saverin during their days living and working together at Harvard, is now calling on lawmakers to consider a data tax that could potentially cost Facebook and other tech giants like Google, Twitter and Snapchat billions in additional taxes.

The purpose of the data tax, Hughes says, is to more evenly distribute the wealth produced by the sale or marketing of our sensitive user data, which is collected en masse by these websites.

“We need to be having a bigger conversation about our data who owns our data and the wealth that it creates – as well as creating a way for all Facebook users to share in that benefit.”

The tax would then be used to establish a fund, which would then pay a data dividend to every American – essentially a tech funded appendage to the social security infrastructure.

“A data tax of about 5% on companies that use massive amounts of data could fund a “data dividend” to each American of about $400 a year and if the amount of data that we produce about ourselves continues to grow as most people expect that could grow to $1,000 a year pretty soon.”

“Right now, hundreds of billions of dollars are made from these services off that data.”

While ABC (correctly) points out that this plan seems unlikely to become reality, Hughes insists that there’s already “a model” for this in the US.

And that model is the Alaska Permanent Fund, an oil-funded payment made every year to each Alaska citizen.

“Up in Alaska they’ve done this. They had oil that was discovered in the 1970s and a Republican governor said okay oil companies you can tap into our natural resources, but you’ve got to pay up.”

The system wouldn’t even cost much to implement. They payouts could be directed through the same system used to distribute social security.

“Following the Alaska model, creating a savings account for each person, you could use the infrastructure that Social Security already provides. The pipe in some sense are already laid it’s just a question of developing the political will to lay claim to what I think is our fair share.”

Though Hughes hasn’t spoken with Zuckerberg about his plan, he correctly pointed out that his former business partner had acknowledged that user data harvested by Facebook does belong to its users.

“If the data on Facebook is our property and we’re allowing Facebook to use it to sell ads, I think it’s reasonable to say we should share in that upside.”

Somehow we don’t think that Zuckerberg, who has already beaten back calls for his resignation, would so gamely agree to a massive tax hike that would significantly impact his company’s profitability.

We imagine that, if he didn’t, it’d be significantly more difficult for him to convince the company’s shareholders that he’s the only one capable of running Facebook.

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As we discussed yesterday, Apple’s iPhone X sales woes have been extensively documented in recent weeks (most recently in “Doubts Grow At Apple” That A $1,000 Smartphone May Not Have Been A Winning Idea“) and with earnings by the world’s most valuable company scheduled for 30 minutes after the close today, many analysts and investors have asked just how Apple will avoid having its stock punished for what has been a disappointing quarter (and likely lackluster guidance) with some speculating that Tim Cook could unveil a shareholder payout as large as $400 billion in the coming years to offset operational fears.

That, in a nutshell summarizes the cautious mindset of investors and Wall Street analysts (which GBH Insights analyst Dan Ives said has been in “full panic mode” about iPhone figures) ahead of today’s earnings. And it has reflected in Apple shares, which have fallen 7% in the past nine trading days as repeatedly ominous signals from iPhone suppliers cast a shadow over the world’s most-valuable publicly traded company, and which prompted Wall Street analysts to further slash their iPhone sales estimates.

With that in mind, the biggest variables to keep an eye on at 4:30pm ET today will be the reported iPhone numbers, and the company’s revenue forecast, but even more importantly this quarter will be any disclosure by Tim Cook on how much of Apple’s massive and freshly repatriated cash hoard will be returned to shareholders, in addition to details on sales in China and growth in the company’s rapidly growing services division.

Here, courtesy of Bloomberg is a breakdown:

iPhone sales

The iPhone is Apple’s flagship product, contributing two-thirds of revenue, so its performance will be closely scrutinized. The company is expected to report sales of 51.9 million iPhone units from the fiscal second quarter, along with an average selling price of $740, according to consensus estimates. For the projected fiscal third quarter, analysts are looking for unit sales of 39 million and an average selling price of $691. In February, CFO Luca Maestri gave rare additional guidance during the earnings call, telling analysts iPhone revenue would grow by at least 10% year-over-year in the current quarter. If that number disappoints, watch out below.

Shareholder Payout Plans

Here, it’s all about Apple’s quarter trillion in cash and cash equivalents: as we discussed yesterday, with iPhone X sales set to disappoint, investors have shifted focus to Apple’s swelling cash hoard and the potential for bigger capital returns, instead. And thanks to lower corporate taxes and Apple comments about holding an equal amount of cash and debt over time, Cook will probably not disappoint; the only question is whether the payout will be $200, $300 or $400 billion over the next 5 years.  Morgan Stanley’s Katy Huberty predicted that Apple may total capital returns by $150 billion this year, including a dividend hike of as much as 50 percent. Others have been even more optimistic.

Putting Apple’s buybacks and dividend in context, the company has given back more than $200 billion to shareholders since it started a cash-return program in 2012, mostly in the form of share repurchases. For the past two years, the company has announced an extra $50 billion for buybacks and dividends in conjunction with fiscal second-quarter earnings.

“The iPhone mega cycle didn’t happen, but many investors stuck around for the next big capital returns update,” wrote Barclays analyst Mark Moskowitz. However, as Bloomberg notes, citing analysts, an increase in capital returns is widely anticipated and its effect on the stock could be limited.

China

While China has been a key focus for Tim Cook since he took over as chief executive officer in 2011, in recent years its influence has faded along with the companys’ revenues in this key geography. While Apple now has more stores in China than any other region outside of the US, China revenue fell to $45 billion in the latest fiscal year, down from a record $59 billion in 2015 amid greater competition from local phone makers like Huawei Technologies Co. and Xiaomi.

Needless to China, with its estimated 100 million iPhone users, represents a “major swing factor” for Apple. About 60 million to 70 million Chinese consumers are due for an upgrade in the next 12 to 18 months, he estimated. Any indication that performance in China is improving will have big implications for sales of future iPhones. And vice versa.

Services Revenue

With other growth ventures (iWatch most notably) disappointing, services revenue, which includes sales of apps and music, has become increasingly important for Apple as iPhone growth slows.

Services are now the second-biggest source of revenue for the company.  Last quarter the CFO forecast strong performance from services and wearables in the fiscal second quarter. According to Gene Munster, “services should still be a bright spot in March,” and expects year-over-year growth of 18 percent to 20 percent. Here too there is room for disappointment.

* * *

Finally, here are some additional observations from Macromon’s Gary Evans:

Apple Getting Too Big

The company has almost become a utility due to its sheer size.

Apple’s relatively small recurring revenue stream (some argue iPhone upgrades are – Uncle Carl)  forces Tim Cook to wake on the first day of every year and begin to generate annual revenues larger than the GDPs of 75 percent of the counties in the world (see table below).

God Bless Tim Cook, he is really trying to turn Apple into a services company, which really turned around Microsoft, when they moved their software to the cloud.

Nevertheless, imagine the pressure on senior management.   Growing gadget sales and revenues every year to a level larger than the size of Peru or Greece’s GDP.   That is one big nut, comrades.

Last Quarter’s Release

Clearly the release of the iPhone 10 was a flop, and we suspect due to its $1,000 price tag.  That is a lot of scratch for a phone even for the 5 percenters.   iPhone unit sales were down 1.2 percent y/y last quarter.

 

Monitor These Two Items

1. Q2 iPhone unit sales to see if they can bounce back.  The last two Q2s have seen negative y/y growth, however.
2. Q2 China revenues, which may be more important.  Lots of noise in last week about Apple losing market share to local firms.   We also hear of boycotts of Apple products by the Chinese as they are upset at the U.S. bullying their country on the trade issue.  Maybe that it why Tim Cook was in the Oval Office last week.  Greater China revenues average around 20-25 percent of total revenues and have grown y/y for the past two quarters over 10 percent.  It is critical that y/y growth quarterly remains above or around 10 percent.

Where Is The Stock Headed Tomorrow?

As they say at the tables,  “Place your bets.”

 

 

 

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Authored by Virginia Fidler via GoldTelegraph.com,

Venezuela may have achieved the socialist dream. It once had gold and oil in abundance, yet now, people are starving, and toilet paper is a luxury.

Venezuelans can no longer afford the most basic necessities. During the first quarter of 2018, consumer prices rose again, this time by 454 percent. Hyperinflation has made the bolivar essentially worthless. The country experienced 8,900 percent inflation in just 12 months. 

While the bolivar has turned into mere paper, Venezuela continues to print the currency at breakneck speed. The money supply has risen 2,900 percent over the last year, while goods are becoming scarcer and scarcer. Welcome to hyperinflation 101.

Venezuela plans on solving the crisis by eliminating three zeros from the Bolivar while it retains its current value, which has plunged by over 99 percent since 2013. The elimination of zeros was necessitated by the near crash of the Caracas stock market computers, which were unable to handle the burgeoning volume of transactions.

How did once-prosperous Venezuela get to this point? It has the world largest oil reserves, but it is importing millions of dollars of oil on a daily basis. Oil is the only affordable commodity left in Venezuela, although few civilians own cars.

It is believed that Venezuela’s oil fields are operating at a mere 40 percent of capacity. Oil production declined by 100,000 barrels in a single day in February. As Venezuela continues to mismanage its own oil supplies and neglects its refining infrastructures, it continues to import oil at an unprecedented rate. If this continues, Venezuela’s need for oil could soon cause a global oil deficit.

Venezuela has access to 25 percent of the world’s heavy crude. This crude needs to be diluted for commercial use. For the past two years, Venezuela has imported up to 200,000 oil diluents a day, with the US being the major supplier. Everyone knows about Venezuela’s long food queues. These days, this oil-rich country is seeing cars queuing up for cheap gas at $0.01 (0.7p) per liter.

According to Francisco Monaldi, director of the Center for Energy and the Environment at IESA in Venezuela, a major political change is needed in Venezuela to reverse its current devastating economic crisis. Its people are being starved by the tenets of socialism. Many Venezuelans would agree. In desperate need of food and medical care, 77 percent of Venezuelans want to see changes, and a reelection of President Maduro is not looking good. The only faction currently on his side is the military, which is using blunt force to keep the people in line.

While most global economies are growing, even if only slightly, Venezuela’s economy is expected to tumble by 15 percent by the end of the year. Its GDP is expected to decline by 50 percent since 2013. Venezuela is hanging on by a thread, and the thread is fraying.

Venezuela has depended on oil for 90 percent of its exports. But corruption and lack of investors have left oil industry in a state of chaos and the economy in shambles. Many Venezuelans are looking for relief abroad as they flee the country in hopes of something better. The majority of households have a family member who has emigrated abroad. Many of these are young and eager workers whose only chance lies beyond Venezuela’s own borders.

Many global central banks have been repatriating their gold reserves in an effort to strengthen the value of gold against a weakening dollar. Turkey is the latest country to fall in line as it announces plans to recall its own gold reserves. Recalling gold is a well-known move which can precede a period of crisis. It was done by former Venezuelan President Hugo Chavez, who demanded the return of all gold to its own country. So, exactly what has been happening with all that gold that Chavez repatriated to its homeland?

Russ Dallen of Caracas Capital recently provided the answer. In 2011, under Chavez, Venezuela had gold reserves valued at $21,269 billion. In 2016, following a massive sale of gold to Switzerland to pay for maturing bonds, Venezuela’s gold reserves shrunk to $7.7 billion. Unfortunately, this gold has been used to back a number of loans, and these loans have come due. Venezuela is currently holding a mere $6.6 billion of gold, having lost an additional $1.1 billion without having paid the amount due on the bonds.

If Venezuela continues to sell its gold reserves, the world’s textbook socialist Eden will soon find itself without any gold at all. It has, in effect, eaten its way through $21 billion in gold in seven years as the people continue to starve.

With Turkey being the latest country to call home all its gold, it is recommended that Turkey’s President Erdogan keep a sharp eye on the crisis in Venezuela.

In a world that sometimes defies logic, President Maduro has clearly demonstrated that socialism will always result in logical consequences: poverty and destruction. It is a rare chance to see Marx’s cherished principles in action. And we wish we weren’t a witness to the growing catastrophe.

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Despite President Donald Trump’s declaration that no members of the infamous migrant “caravan” would be allowed into the country, eight women and children crossed into the US territory at an entry point at San Ysidro after being processed by immigration officials.

Hundreds more are massing at the border entry point, which was temporarily overwhelmed and was forced to halt processing of new arrivals as it dealt with the overflow.

After the San Ysidro crossing was closed, hundreds of migrants traveled six miles west to an area near San Diego, where some began scaling the border fence while chanting “Gracias Mexico” after Mexican officials did little to intervene during the caravan’s journey. Mexican officials said they offered the migrants the opportunity to remain in Mexico.

The rest, according to CNN, remained on the Mexican side of the border, where they waited to apply for asylum outside an immigration processing center.

“We reached capacity at the San Ysidro port of entry over the weekend, and were temporarily unable to bring additional persons traveling without appropriate entry documentation into the port of entry for processing. We began processing undocumented arrivals again on Monday,” CBP said in a statement Monday.

Last week, several hundred migrants arrived in Tijuana, where they gathered at a shelter organized by the nonprofit US-based group “Pueblo Sin Fronteras”, the organization that helped assemble and guide the caravan.

Gabriela and her boys – the three we have been profiling for over a month, are being processed by US immigration officials after waiting by the border crossing for 27 hours. @CNN pic.twitter.com/9YwWy1Azpl

— Khushbu Shah (@KhushbuOShea) May 1, 2018

Most of the remaining migrants are sheltering in tents provided by “Pueblo Sin Fronteras” as they await their turn to apply for asylum.

Gabriela Hernandez, a pregnant mother of two who was one of the lucky ones let across the border with her children, said if her claim for asylum is denied, she has no idea what she will do. She says she and her children left Honduras after being threatened by gang members.

“I don’t know what I’m going to do,” she said. “I cannot go back to my country.”

Meanwhile, US officials continued to attack the caravan. Vice President Mike Pence called the caravan “a deliberate attempt to undermine the laws of this country and the sovereignty of the United States.” The migrants meanwhile claim they are not illegally entering the US, but are instead stopping at border crossings and applying for asylum – an action that is legal under US law.

Trump has criticized the policy of “catch and release” – that is letting migrants leave detention before their cases are decided. In general, migrants seeking asylum are more likely to lose their cases than win. Roughly three-quarters of immigrants seeking asylum from El Salvador, Honduras and Guatemala between 2011 and 2016 lost their cases, according to immigration court statistics published by Syracuse University’s Transactional Records Access Clearinghouse.

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It’s no secret that in a perplexing reversal of his traditional skepticism (one which likely involved a tap on the shoulder or two as part of his recent promotion), JPM’s head quant Marko Kolanovic turned decidedly bullish this year (going so far as to blame a recent selloff not on fundamental reasons but a “severe snowstorm“), and predicting a favorable outcome at every opportunity.

Today was no different, and in his later commentary on “markets and volatility” while still bullish, Kolanovic observed that things haven’t turned out quite as expected, with the S&P down 1.5% YTD despite the strongest earnings season since 2011. So whose fault is it now that reality refuses to comply with the quant “wizard’s” predictions? Apparently, it’s the “upside down” market that is to blame, to wit:

Equity up and volatility up would not be the only “upside down” market pattern this year. Many established patterns at least partially reversed:

• bond-equity correlation (something we warned about),
• strong earnings were often sold and poor earnings rallied (position de-risking and covering of shorts),
• correlation and volatility spiked during earnings seasons,
• defensive sectors outperformed on the upside and value outperformed on the downside, and so on.

Many of these are a result of the transition from monetary to fiscal stimulus in the US, deleveraging of convex strategies (such as volatility selling, targeting), and rotations out of crowded positions in bond proxy and growth segments (we underweight bond proxies and tech last year).

And while so far the “upside down” market has wreaked havoc on expert predictions, Kolanvic is hopeful that a “Constanza market” should eventually help him – and other bulls – out (emphasis on the word “hopeful”).

In this (so far, chaotic) year – we also witnessed significant US equity fund outflows during the period supposed to be the strongest seasonal part of the year. If the “upside down” market patterns continue, the “sell in May and go away” prescription (that reflects a reversion of inflows early in the year) may turn into “buy in May” this year.

Actually, those hoping this is the case, may want to curb your enthusiasm there, because the the “abnormal market” has already struck here, and as Ryak Detrick reminds us, the S&P 500 has been higher in May each of the past 5 years. As such a real “upside down” market would be one which goes back to normal, and suffers a steep plunge in the coming months.

Before we get carried away with ‘Sell in May and Go Away’, just remember that the S&P 500 has been higher in May each of the past 5 years.

— Ryan Detrick, CMT (@RyanDetrick) April 29, 2018

What else? Well there is Kolanovic’s hope that systematic investors will step in and start buying:

Systematic investors thoroughly de-risked by selling ~$300bn of equities this year. If volatility can stay contained and the market can make modest gains, systematic investors would re-risk. For instance, three-month price momentum is more likely to turn positive in early May (three months since the February crash), which could result in buying of up to ~$50bn by trend followers. Volatility-sensitive investors would be slower to re-risk at ~$10bn per week, but this could accelerate if volatility declines more substantially. In addition, buybacks are expected to pick up activity after individual companies announce earnings, and may add up to ~$20bn of inflows per week at its peak.

There is just one problem with this theory too, because as Morgan Stanley reported yesterday, there is nobody left to buy stocks, something we have seen for much of earnings season when companies reported earnings only to tumble as marginal holders sold instead of bought. To wit:

Very simply HFs remain very crowded in the same positions (i.e. Tech) and there are fewer marginal buyers left.  The MS PB Content team has noted that HF gross exposures remain elevated, and from conversations with investors this positioning was driven by optimism over 1Q data.

And some more details from Morgan Stanley’s own competing, and far more skeptical than its JPM peers, quant team:

• Retail has been selling (passive funds saw the biggest outflows since 2009 over the last 3 months, see charts below) and likely remain on the sidelines due to the increase in volatility
• Likewise systematic investors are unlikely about to buy too strongly as volatility remains elevated
• HFs have hung on to their positions over the last few months as they have benefited from a positive ‘performance cushion’ with the average fund up 1 to 2% YTD per the MS PB Content team.  But recent returns of the MS Momentum baskets suggests performance is struggling (MSZZMOMO for fundamental-like sector-biased / MS00MOMO for quant-like sector neutral – see chart below).  And MS Equity Strategist Mike Wilson has written about the lack of leadership in US equities (see Leadership in Transition; Buy Energy and Fins; Sell Semis and Retail, April 23 2018) which could challenge consensus positions further (see chart below).
• Corporates will start to re-enter the market as earnings season draws to a close, but these flows argue more for less downside than explosive upside as buybacks are a drip not a flood
• Asset managers and more macro-focused investors could provide some demand but their flows have been choppy  (selling in Feb and March has turned to very modest buying in the last week) and they remain a wild card

So with the quasi mea culpa out of the way, what happens next? Here Kolanovic reverts back to recently, and strangely, permabullish self, and writes that the 5 key sources of risk…

1. reduction of monetary accommodation in the US;
2. high equity positioning particularly in systematic strategies;
3. unsustainably low level of market volatility last year, and
4. elevated valuations in sectors such as low volatility and growth.
5. liquidity and liquidity disruptions may be a hallmark of the next market crisis. Where do we stand with these risks?

…are now “lower than they were when we highlighted them at the end of last year”, and explains:

Positioning was reduced (e.g. volatility targeting strategies are likely near the lows of equity allocation, retail holding of short volatility assets were decimated), and volatility reset higher, thus reducing the risk of a sudden shock and
deleveraging. Equity valuations came down substantially given the record increase of earnings. For instance, S&P  500 next 12-month P/E currently at ~16x is slightly below both the historical average and median, which is by definition is not expensive (note that using old tax rates in estimating valuation, i.e. using trailing earnings, is not relevant). While most of these risks declined, a new risk emerged in March related to policies from the US administration.

Kolanovic concludes by focusing on some of the biggest remaining risk overhangs, including central banks, liquidity and political risks, all of which as presented in a “alleged fact-spin” pair, to wit:

Central Bank Balance Sheet Risk: Likely Overstated

Investors have recently been worried about the Fed’s balance sheet reduction and its imminent impact on equities. The premise is that required demand for bonds will come at the expense of equity allocations. By the end of this year, the Fed’s balance sheet is expected to contract by ~$325bn. We first note that the ECB and BOJ balance sheets are expected to increase by ~$525bn over the same time period, and that speculators already amassed ~$170bn of short bond futures positions. So a meaningful demand may come from carry trades and covering of speculative shorts. Second, we note that some of the downward price adjustment in equities already happened in relation to the rates shock (namely ~$200bn of equity selling from volatility and rate-equity sensitive funds). If there is a residual imbalance in bond-equity flows, it is likely to be absorbed by other equity inflows (for example, just one S&P 500 company, AAPL, is expected to add ~$200bn of buybacks).

Spin: “If balance sheet contraction fears are behind the recent selloff, then the pullback is largely exaggerated: a ~10% pullback in equities (and 5% pullback in bonds) would imply that the market already priced-in half of the G4 balance sheet being unwound, while in fact, G4 balance sheets are still expanding in aggregate. A potential policy mistake by the Fed is still one of the largest risks facing the economy long-term, but we think that in the near/medium term, risk of Fed-induced recession is relatively low.”

Liquidity: Risks of Market “Uberization”

We have noted in the past that a combination of computerized sellers, and computerized market makers poses a threat to equity price stability. As volatility increases, systematic investors have to sell, and at the same time market depth as provided by electronic market makers quickly disappears. For instance, S&P 500 futures market depth dropped over 90% during the February selloff. What is the reason for such a dramatic drop in liquidity? The most important driver is likely the increase of volatility (e.g. VIX), given that many market making algos (as well as business models) were calibrated during the years of low volatility. As these programs don’t have an obligation to make markets and are optimized for profits, they likely adjust quotes and reduce size in order to maximize their own Sharpe ratio. Other factors likely played a role as well: the increase in short-term rates (e.g. LIBOR), increase of exchange margin requirements, index fund outflows, and risk capital being diverted towards cryptocurrency market making. Full electronification of the market making industry has never been tested in a recession environment. Given that financial markets are a critical part of the economy’s infrastructure, perhaps more attention should be paid to the risks posed by the Uberization of financial markets. The analogy between market making and Uberization is as follows: when there are normal market conditions, the amount of liquidity (cars available) is more than needed and market transaction costs (fare) is low, thus benefiting market participants. However, when there is a volatility shock (heavy traffic, weather) liquidity quickly disappears (i.e. fares can surge to unreasonable levels.

Spin: “Human market makers (the analogy of regulated taxi services or public transport) were to a large extent dismantled over the past decade, so there is hardly any alternative liquidity back-up. These risks previously manifested themselves as ‘flash crashes’ in single stocks and indices. However, equally damaging for investor  confidence are what we see now as ‘slow moving crashes’ that can last several hours as was the case recently with some large stocks and market segments (e.g. Caterpillar ~11% intraday drop on April 24th).”

Political Risks: Is the worst behind us?

The market sell-off in February was almost entirely driven by de-risking of systematic strategies at a time when futures liquidity collapsed. As such we called for a rebound and quick price reversion. After the Nasdaq reached new all-time highs, the worst of the technical impact was behind us and it looked like the best of fundamentals was still ahead of us (earnings season and the full impact of tax reform). Then came the flurry of market destabilizing headlines related to the US administration. In a short period of time, there were announcements related to Steel and Aluminum tariffs, NAFTA, a trade war with China, intervention in Syria and prospects of further escalation, Amazon and Facebook, Rusal sanctions, the Iran deal, etc. These headlines (often tweets) dealt a blow to the confidence of US markets and businesses. For instance, when it comes to trade, damage (as measured by the market  capitalization erased) was likely 1-2 orders of magnitude higher than the value of the tariffs themselves. The administration that was perceived as pro-business and a tailwind for markets since the end of 2016 started being perceived by many investors as a headwind and a source of risk.

Spin: “We think that these risks are likely to moderate and that the worst is behind us. While still a destabilizing factor, risks can be walked back by the administration or undone by new deals. On the other hand, positives such as tax reform will stay, and cannot be undone regardless of e.g. the outcome of mid-term elections and related political changes.”

* * *

So to summarize Kolanovic, ignore the “upside down” market which has refused to comply with all bullish predictions so far, and instead focus on the spin to the three major outstanding risk factors. Ok, fine, at some point “Gandalf” will be right, or maybe he has truly lost his touch and is on his way to becoming another Gartman. The jury is still out, although we should have an relatively clear answer in the next few months.

As for the traders, perhaps the best course of action is to just ignore what experts are predicting, not just Marko but all his peers, and instead just keep doing the opposite of what Gartman predicts: so far this year, that particular strategy has had a 92% hit rate, making Gartman the single most important “factor” in the stock market.

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