Month: August 2022

Authored by Mike Shedlock via MishTalk.com,

The Eurodollar curve implies four quarter-point cuts are on the way starting in 2023. The Fed believes otherwise. Let’s discuss stock market implications.

Data from CME and Fed via Wall Street Journal.

Eurodollar Curve

The eurodollar curve has nothing to do with euros or dollars. Rather it is an interest rate curve and one of the world’s most widely traded futures.

After peaking at about 3.9% this year, eurodollar betters believe the Fed will then cut rates all the way down to 2.8%. 

Five Not-Quite-Impossible Things the Market Believes

Wall Street Journal Contributor James Macintosh discussed the above chart in Five Not-Quite-Impossible Things the Market Believes

1. Inflation is transitory. 

2. The Fed realizes this in time.

3. The jobs market cools enough to slow wage rises. 

4. But not so much it means falling household spending.

5. So consumer spending rises in real terms. 

In reference to the led chart, Macintosh says “The first assumption is the hardest to believe.”

I disagree. The hardest thing to believe is the overall goldilocks scenario and that the current rally makes any sense at all. 

Inflation may easily come down if the Fed tightens too much too fast causing a severe recession. What would that do to corporate profits? 

But assume otherwise, that inflation does not come down more. What would that do to corporate profits? 

While any of the first three points may easily be correct, the combination of all five being correct and that stocks will rise in a goldilocks scenario is what I find hard to believe.

Is the Market Forward Looking?

Goldilocks proponents will tell you that the market is forward looking. 

The market isn’t forward looking and never was. It is a coincident indicator of current sentiment, wildly wrong at major turns.

If the market was forward looking, what precisely was it looking forward to at the November 2007 peak with recession starting the next month? 

What was it looking forward to at the 1929 peak, the 1933 bottom, the 2009 bottom or any other top or bottom?

The Fed Will Hike Until It Breaks Something

I believe the eurodollar curve is more likely to be correct than the Fed. When has the Fed gotten much of anything correct?

The eurodollar view has two ways to win. The first is the Fed actually does tame inflation to the degree that it wants.

That’s possible in a severe enough recession. And the global picture is easily weak enough for that to happen.

The second way the eurodollar curve might be correct is if the Fed breaks the credit market. 

The Fed would immediately reverse course, regardless of inflation, should that happen. 

Neither a credit event nor strong recession would be good for the stock market.

The least likely thing is that the Fed achieves a goldilocks soft landing. Yet, assume that happens. 

Macintosh says, and I agree, “The bull case that stocks and corporate bonds are pricing requires the combination of low joblessness and wage rises to allow spending to rise faster than inflation even after pandemic savings run out. But not so much faster that it hits capacity constraints and accelerates inflation.”

The problem with goldilocks is stocks are priced so much beyond perfection that they may decline anyway. 

Globally Speaking 

1. China Does Surprise Rate Cut to Help Its Economy, But It Won’t Work

2. German Costs to Ship by Barge are up Twenty Times and May Soon Be Impossible

3. UK Average Electricity Cost Will Soar to $5,370 Per Year By 2023

4. US Industries Are Buckling Under Pressure of Surging Electricity Costs

Good luck with goldilocks, especially with the Fed still hiking. 

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Unlike Walmart, whose stock yesterday soared the most in years after reporting solid earnings which beat (repeatedly slashed) expectations and even raised its (dismal) guidance, following not one but two kitchen-sinking earning warnings, its top bricks and mortar competitor, Target, did not fare quite as well and its stock slumped after the retail giant reported profit which badly lagged Wall Street estimates in the second quarter, even as the retailer ratcheted up the pressure on its fiscal second half by sticking with its forecast of a dramatic rebound in its results, almost as if the bottom half of the US population isn’t in a staggering recession. In other words, the company has bet its reputation and credibility that there will be a second half rebound.

Here is a summary of what Target reported:

• Sales $25.65 billion, +3.3% y/y, missing estimates of $25.84 billion

  • Customer transactions +2.7%

  • Average transaction amount 0%, missing estimates of +0.15%

• Adjusted EPS 39c vs. $3.64 y/y, missing estimates of 72c and also missing the lowest Bloomberg estimate.

• Comparable sales +2.6%, missing estimates of +2.84%

• Gross margin 21.5% vs. 30.4% y/y, missing estimates 23.9%

• Operating margin 1.2%, missing estimates of 2.41%

• Operating income $321 million, missing estimates $534.9 million

  • EBIT $329 million, -87% y/y

  • EBITDA $979 million, -68% y/y, estimate $1.19 billion

• Digital sales as share of total sales 17.9% vs. 17% y/y

• Total stores 1,937, estimate 1,947

• SG&A expense $5.00 billion, estimate $5.15 billion

Net earnings were just $183 million, compared with $1.8 billion a year earlier. Revenue rose, boosted by strong sales of food and beverage, beauty and household items and more shopper visits but missed expectations. Comparable sales, those from stores and digital channels operating at least 12 months, rose 2.6% from a year earlier; this too missed expectations.

Adjusted earnings tumbled to 39 cents a share during the three months ending July 30, hit by an aggressive push to reduce inventory. That number trailed the lowest analyst estimate compiled by Bloomberg.

Operating margin declined to 1.2% in the quarter ended July 30, Target said in its quarterly earnings report Wednesday. In June the company predicted it would shrink to roughly 2% for the period as it rapidly worked through a glut of inventory. The company cited a swift reversal of buying behavior, with shoppers cutting spending on discretionary items as inflation pressured their spending and product shipments arrived late.

The decision to quickly move through excess inventory “had a meaningful short-term impact on our financial results,” Target Chief Executive Brian Cornell said on a call with reporters. He said the company didn’t want to spend years dealing with excess inventory, potentially degrading the customer and worker experience; however it looks like the company is still not done eliminating said excess inventory.

“While the company is planning cautiously for the remainder of the year, current trends support the company’s prior guidance for full-year revenue growth”, CEO Brian Cornell said, adding that “today the vast majority of the financial impact of these inventory actions is now behind us.” The company expects operating margin to grow to 6% in the second half of the year. Good luck with that.

“The vast majority of our inventory right-sizing costs have already been incurred,” Chief Financial Officer Michael Fiddelke said in a briefing with reporters. “We feel really good about our inventory position heading into the back half of the year.”

Remarkably, despite the crushing quarterly earnings, the company said that it still sees full-year revenue growth “in the low- to mid-single digit range”, suggesting it now sees second half consumer spending getting supercharged somehow. How that happens is a mystery.

The comments were similar to Walmart which said Tuesday that sales rose as prices rose, and it continues to see signs that shoppers are reducing spending on nonfood items as prices rise. The company has discounted goods to move through its own glut of inventory as people spend more on food and other goods. Those efforts ate into last quarter’s profits and will continue in the current quarter, executives said Tuesday. Also on Tuesday, Home Depot said that sales rose in the most recent quarter, in part due to higher prices, while traffic fell. Walmart said sales rose, also helped by higher prices, while traffic increased 1%.

That said, target executives said traffic gains and overall strength of its core shoppers are evidence that the retailer can put the inventory issues behind it. The retailer believes it is gaining market share by unit sales in all major categories, executives said. “We’ve got a guest that is still out shopping,” said Mr. Cornell.

Target executives said the company is cautiously buying discretionary categories that it has worked to unload in recent months, such as furniture and some apparel, and buying aggressively in categories like food that shoppers are spending more on.

At the same time, the retailer has imported some seasonal goods early to make sure shelves are stocked. “We continue to see a choppy supply-chain environment,” Finance Chief Michael Fiddelke said. “You will see us continue to take that approach in the back half of the year.”

Target’s inventory rose nearly 10% in the second quarter to $15.3 billion as it prepares for fall and holiday shopping, he said. Revenue rose 3.5% to $26 billion. The retailer maintained previous estimates for the full year of percentage revenue growth in the low-to-mid single digits.

“The company reduced its inventory exposure in discretionary categories while investing in rapidly growing frequency categories,” Target said in the statement.

Target’s latest miss follows a string of cuts to the company’s profit forecast. In March, the Minneapolis-based retailer said operating income would amount of 8% of sales this year. In May, the company lowered that to 6%. In early June, it said it would attain the 6% goal only in the second half — the same line in the sand it maintained in its latest earnings statement, even as it plunged to just 1.2% in Q2.

Looking at the sellside reactions to the company earnings, Citi sees the “door open” for more additional cuts, while DA Davidson says “this should be the bottom.” Still-high inventory is also a hot topic among Wall Street analysts.

Citi (buy, $184)

• Investors won’t like combo of a 2Q miss and no reduction to second-half operating margin expectations because it “leaves the door open for more disappointments,” writes analyst Paul Lejuez
• Even with cutting guidance on June 7, TGT still “significantly” missed its lowered forecast, mostly due to gross margin pressure resulting from efforts to “clear inventory,” plus higher freight/transportation costs, although TGT doesn’t provide “‘a lot of detail about what changed vs its 6/7 expectations”
• Inventory levels are still “extremely high” despite management noting that it has meaningfully reduced exposure to discretionary categories
• Focus on call will be around inventory composition and current trends

DA Davidson  (buy, PT $185)

• “We knew TGT’s second quarter would be down significantly,” and disappointing 2Q operating margins and adjusted EPS aren’t as important as the fact that TGT aggressively worked to right size its inventory, writes analyst Michael Baker
• Maintaining 2H guidance should support shares as it “alleviates fears that yet another guide down was coming even as full year estimates will come down on the 2Q22 miss”

Baird (outperform, PT $180)

• “An ugly margin quarter, though directionally as expected,” writes analyst Peter Benedict
• Says TGT is “making progress” on reducing exposure to discretionary categories — via markdowns, cutting fall receipts — and management reaffirmed its prior 2H EBIT margin guidance of ~6%

RBC (outperform, PT $231)

• This was a “tough quarter,” writes analyst Steven Shemesh
• Says investors should focus on 2 questions: 1) Are we past the worst of the problem?; and 2) What’s the path/timeline back to 7-8% operating margins?
• “If we can get conviction on these two questions, we believe investors will be willing to look through near-term volatility,” he says

Navellier & Associates

• “Although TGT had a big earnings miss because it was dumping overstocked inventory, the company was optimistic about the upcoming months and holidays,” founder and Chief Investment Officer Louis Navellier tells Bloomberg in an emailed statement
• “Bottom line is TGT will likely surprise moving forward, especially in the wake of WMT’s upbeat sales outlook”
• Navellier expects TGT shares to recover over the next few days

Wells Fargo (overweight, PT $195)

• “It’s clear the cost to clear excess product was even higher than management anticipated, and there is still plenty of work to do,” writes analyst Edward Kelly
• Still, the 2Q “pain” should help the back half of the year, he adds, noting the canceled $1.5 billion of fall receipts, though acknowledges the high inventory may suggest added markdown risk in 2H
• “Overall, there were puts and takes to the Q2 results and near-term uncertainty remains, but we saw nothing to change our positive view around the 2023 recovery story”
• Tells clients to use weakness to buy shares

Target shares were down about 2.3% premarket after, erasing an even bigger drop.

Crude oil prices have slumped to six-month lows, driven by a mounting wall of worries: US recession, China’s zero-Covid policy and real estate sector implosion, Russian production recovering, US SPR releases, and the possibility of a nuclear agreement between Iran, the EU, and the US that could unleash new supplies into global markets. 

On Wednesday morning, the October contract of Brent on the Intercontinental Exchange tagged a six-month low of $91.58 a barrel while the new head of OPEC offered a sobering reality that global oil markets face an increased risk of a supply squeeze due to declining spare production capacity. 

OPEC Secretary-General Haitham Al-Ghais sat down with Bloomberg Television and said speculation fears over slowing consumption in China and the rest of the world had been greatly exaggerated. 

Al-Ghais said producers in OPEC are nearing the upper limits of additional supplies they can deliver to the market:

“We are running on thin ice, if I may use that term, because spare capacity is becoming scarce. The likelihood of a squeeze is there.”

None of this should come as a surprise to readers, as we pointed out in June that WSJ’s energy correspondent Summer Said that Saudi Arabia’s production stands around 10.5 million bpd and has a production capacity ceiling of 12 million bpd. That means the potential output increase is only 1.5 million bpd. And another million bpd in five years. In other words, the Kingdom’s ability to increase spare capacity appears limited.  

And here’s where things get interesting: Al-Ghais remains confident global oil demand will increase by 3 million barrels per day as China reopens from Covid-related lockdowns. 

“China is still a source of phenomenal growth,” he said. “We haven’t seen China open up exactly — there’s a strict Covid Zero policy — I think that will have an impact when China gets back to full steam.”

As explained by the OPEC head, the reason for a production capacity ceiling is that “chronic underinvestment for several years is really what’s taken us to where we are today.” 

On the subject of additional flows from Iran, he said that as long as they are released orderly, global oil demand will absorb those supplies. 

Ahead of the next OPEC+ meeting on Sept. 5, Al-Ghais said it’s still too early what the 23-nation group will agree on:

“We’ve demonstrated time and time again in the past that we’re willing to do whatever it takes to do what the market really requires,” Al-Ghais said.

So the takeaway here is more confirmation that spare production capacity and rising global fossil fuel demand could squeeze markets when China reopens. 

Goldman Sach’s Damien Courvalin still maintains a 3mo $125 a barrel and 6mo $130 a barrel Brent price targets.

Watch the full Bloomberg interview:

Authored by John Ransom via The Epoch Times (emphasis ours),

The recent raid by the FBI on former President Donald Trump’s residence has solidified Trump’s hold on the 2024 GOP presidential nomination, according to conservatives and analysts.

The raid of Mar-a-Lago, Trump’s house in Palm Beach, Florida, was aimed at preventing the former president from gaining office again, they told The Epoch Times.

If anything, however, the raid has had the opposite effect, they said, as the belief grows that Trump will announce a new presidential run sooner rather than later.

Far from providing a smoking gun that opponents of Trump may have sought to bar the former president from office, the raid has demonstrated that Trump can never be reconciled to partisan special interests in Washington that have a lock on government, thus ensuring that Trump most certainly will run, said some.

In the end, either Trump or the “deep state”—a group of powerful bureaucrats who Trump and others say really control the shots in Washington—will prevail: That’s the message conservatives should take from the raid, said two people interviewed who are the most familiar with Trump’s thinking, Ken Blackwell and Sebastian Gorka, although neither men claimed to represent the views of the former president.

Raid Has Made Trump More Powerful

“Without doubt, President Trump is more powerful now after the illegal Mar-a-Lago raid than he has ever been politically,” former deputy presidential assistant under Trump, Sebastian Gorka, who is one of the former president’s fiercest allies, told The Epoch Times.

Gorka, 51, who hosts a syndicated radio show distributed by the Salem Network, estimated that Trump’s base of voters has grown from 75 million voters to over 100 million voters since the billionaire developer’s departure from the White House, just a year and a half ago.

“The real issue is how the perception of Trump has changed in the eyes of millions and millions of people,” added Gorka, who said that the FBI raid has hastened Trump’s popularity, not diminished it.

Similarly, Ken Blackwell, who served on the transition team for Trump in 2016 and is involved in the Center for Election Integrity at the America First Policy Institute, a Washington-based think tank founded by former Trump officials, noted that Trump’s popularity has always tracked higher each year, in part, because of the people who oppose him.

Trump, Blackwell noted, added to GOP presidential vote totals in 2020, gaining a net of just over 20 million more votes since 2012 for the Republicans, calling the growth “extraordinary.”

“When you look at the number of battleground states that Trump won over the years, it’s a clear indication that there’s a lot left in the tank for Trump,” Blackwell said.

GOP Hits Back

The echo of the FBI banging on the front door of Mar-a-Lago, the Trump-owned resort that served as the second White House for Trump while president, had not yet died before politicos not known for defending Trump, were, in fact, defending the former president over the raid.

The staff for Sen. Marco Rubio (R-Fla.) promptly responded to an inquiry by The Epoch Times for comment on the raid with a copy of a letter to FBI director Christopher Wray demanding answers about the raid, in one such closing of ranks amongst conservatives.

“Senator Rubio began the oversight process yesterday with a letter to FBI Director Wray demanding answers and an in-person meeting,” Dan Holler, Rubio’s deputy chief of staff, told The Epoch Times in an email on Aug. 11.

Holler said that such action was the “[b]eginning of a long process,” adding that Rubio will head up the Senate Intelligence Committee next year if the GOP takes the majority in the 2022 Senate elections.

Rubio’s prompt rejection of the raid, said Blackwell and Gorka, was indicative of the widespread rejection by conservatives and Republicans of the several pretexts which Department of Justice (DOJ) sources put forward anonymously for the raid via media outlets like the Washington Post, before the warrant was unsealed on Aug. 12. The warrant showed that Trump was being investigated over potential breaches to three U.S. laws relating to the handling of official records, including of defense information and records used in federal investigations.

Trump, for his part, argues that all the records were declassified, adding that he and his team had been fully cooperating with investigators, making such an extraordinary search unnecessary. Others agree.

“The President of the United States has the power to declassify any record he wants, so it’s pretextual legal nonsense for the Biden Justice Department to pretend President Trump broke any criminal statute by taking 15 boxes of his records with him when he left,” Mike Davis of the Article III Project (A3P), which promotes constitutionalist judges and the rule of law, told The Epoch Times.

“Former presidents have government-paid staff and offices, Secret Service protection, security clearances, and secure facilities to store classified records, so there’s no legitimate concern that President Trump’s records could have gotten into the wrong hands,” Davis said in rejecting the official justification for the raid.

Likewise, Florida’s Republican governor Ron DeSantis, who has thus far been mentioned as one of the likeliest Trump opponents for the GOP nomination in 2024, was quick to denounce the FBI raid.

Responding to The Epoch Times without delay via email, Delanie Bomar, press secretary to DeSantis, pointed to a previous statement made by DeSantis via Twitter very shortly after the raid.

“The raid of [Mar-a-Lago] is another escalation in the weaponization of federal agencies against the Regime’s political opponents, while people like Hunter Biden get treated with kid gloves,” said DeSantis on Aug. 8.

Even Vice President Mike Pence, who has been at loggerheads with Trump since just after the 2020 election, took to Twitter on Aug. 9 to publicly ask high government officials in the Biden administration to immediately “give a full accounting to the American people,” about why they conducted an “unprecedented search of the personal residence” of the former president.

The totality of the actions has been to solidify Trump amongst voters and activists as a reformer determined to take on entrenched special interests within government on behalf of the GOP, said those interviewed by The Epoch Times.

“Attorney General Merrick Garland may just have succeeded in unifying the Republican Party behind Donald Trump,” Davis at A3P told The Epoch Times of the 2024 presidential nomination.

Read more here…

A slow-down in headline retail price growth was expected due to falling gas prices, but ex-Autos/Gas, sales (notional remember) were expected to rise.

BofA debit/credit card data shows headline retail sales missing due to drop in gas prices but core retail sales beating due to sure in real spending pic.twitter.com/EbGQhAnbjS

— zerohedge (@zerohedge) August 17, 2022

Analysts were almost right with the headline actually unchanged MoM (below the +0.1% expectation) but ex-Autos up 0.7% MoM vs +0.4% expected.

Source: Bloomberg

So pretty much everything was higher apart from autos, gasoline, and general merchandise stores…

Notional retail sales have not fallen for 7 straight months which pushed the YoY retail sales growth higher for both headline and core…

Source: Bloomberg

Finally, after 4 straight months ‘real’ retail sales drops, real retail sales were flat in July (this is core retail sales minus CPI – which admittedly is not apples to oranges but is good enough for government work to get an idea of the actual changes in spending)…

Source: Bloomberg

Furthermore, notional retail sales are increasingly being funded by soaring credit card debt – not exactly a sign of confidence by the consumer; more a sign of desperation to maintain a standard of living.

The Rhine Waterways and Shipping Authority (WSA) said a vessel was blocking the Rhine River south of Cologne, Germany, on Wednesday after an engine issue caused it to run aground.

A section of Europe’s most important inland waterway for transporting fuel and other industrial goods, between St. Goar and Oberwesel, was closed, according to WSA. 

Bloomberg noted the affected vessel comprised of four parts, which must be independently towed away, and the stretch of the river may reopen sometime today. 

An alleged video on social media shows the distressed vessel being pulled aside. Also, the dangerously low water levels at this part of the river are pretty noticeable. 

Mit vereinten Kräften haben die #Johanna und die #Willem-Antonie den Havaristen beiseite gezogen.

Kann also wieder losgehen hier auf dem #Mittelrhein. #havarie #oberwesel pic.twitter.com/oA41dhZSuZ

— Jan Zimmer (@zimmj007) August 17, 2022

The incident occurred near the closely watched Kaub chokepoint that is currently registering a depth of 34 centimeters (13.4 inches). Earlier this week, Kaub fell to 30 centimeters (11.8 inches), and below 40 centimeters (15.7 inches), many shippers find it uneconomical to operate barges past Kaub. 

Despite today’s incident blocking the part of the Rhine and shallow water levels that have made Kaub impassible for some barges (or at least restrict cargo weight on vessels to improve draft), the water level at the critical German waypoint is set to rise to 41 centimeters (16.1 inches) by Saturday, offering some relief to shippers. By Sunday, water levels could be as high as 49 centimeters (19.3 inches). 

Disruptions on the Rhine are bad news for Germany and the millions of tons of commodities and other goods shipped through inland Europe amid the worst energy crisis in decades. 

By Ven Ram, Bloomberg markets live commentator and reporter

Those higher-than-forecast inflation numbers out of the UK are spurring interest-rate traders to firm up pricing for next month’s Bank of England review.
 
Every one of the key inflation measures for July came in higher than forecast, with retail-price inflation accelerating to 12.3% from 11.8% in June. (And you can only imagine what the numbers will be in the fourth quarter when we may have a new cap on energy prices.)

News of faster inflation comes just a day after the domestic labor market added more jobs in July than anyone thought. Little wonder that overnight indexed swaps are now fully pricing in a 50-basis point increase from the BOE when it meets next on Sept. 15.

With the BOE’s policy rate still not yet in neutral territory at a time when inflation is running amok, the BOE has little reason to balk away from another 50-basis point increase especially with the economy proving this resilient. Even though the BOE is essentially chasing the clock having lost valuable time earlier in the cycle by not having moved emphatically on rates to align demand in line with supply, it still has a narrow window to act before things go completely pear-shaped.
 
All these factors mean there is little solace in sight for front-end gilts, and what it heralds for curve inversion as Mark Cranfield says. As for those looking at the risk-reward equation on receiving meeting-dated swaps for next month, suffice to say that the BOE will find it hard to look away when inflation is burning all around.

Indeed, after pressing the snooze button incessantly, front-end gilts have at last woken up with a sense of dread about missing their tryst with destiny. It’s about time.

The writing has been on the wall for some time now, and those inflation prints from this morning have proved to be the immediate catalyst for today’s selloff at the front end. If inflation is running at more than a double-digit pace and the economy had the wherewithal to cope with rate hikes all this while, why would your policy rate be at less than neutral?

That’s why former BOE official Andrew Sentance reckons the BOE’s benchmark rate needs to climb to as much as 4%. While that may look daunting considering we are just at 1.75%, by moving in baby steps earlier on in the cycle when it ought to have gone faster, the BOE has to go faster later in the cycle to catch up.

Those factors mean that this year’s selloff in front-end gilts is far from done.