July 3 Post


Hello Again,

Within the past 18 months, since our initial purchase, Bank of America, has risen over 83%. This was strategic. As the Federal Reserve increases interest rates to ‘normalize’, B of A is in a good position to take advantage of those moves.

 On 6/14/17, the Nightly Business Report announced that now 90% of stock investing is being done by machines or computers. From a contrarian perspective, this great for us! Why? Trends keep changing on Wall Street all the time and at times, history does not repeat itself so at such times, machines/computers/algorithms, go haywire and that creates opportunities for all of us. A good example is when the Shanghai market fell more than 8% in one day in August 2015. Algorithms could not foresee that it created many man-made disasters in the equity markets all over the world creating wonderful opportunities for human stock pickers.

 Margin debt (borrowing from a brokerage firm ‘through a margin account’ to make an investment) at the New York stock exchange reached a new high for the 4th month in a row, surpassing $549 billion (over a half a trillion dollars!!) in April 2017. Investors borrowing to buy stocks is a sign of bullish speculation. Yet it can be a poor market-timing indicator, since margin debt-like bullish sentiment-can stay high for a while. The last 2 bear markets occurred after margin debt reached records, notes Bespoke Investment Group, but 23.6% of margin-debt readings since 1959 have been record highs. (Barron’s, 6/5/17). This trend might continue for a while but this market is getting deeper and deeper in to bubble territory. As well all know, prior to 8% one day crash in Shanghai in August 2015, the margin debt level was sky high. Investors assuming that the market will continue to rise, borrowed against assets like houses and put all their savings in to the equity market. According to some sources, margin debt in China (PRC) in July was around USD $160 billion. Now the margin debt in the New York Stock Exchange alone is over a half a trillion dollars!!

 During the week that ended 6/16/17, the difference between the 10 year Treasury and the 3 month –the yield curve- fell to a spread of 114 basis points (1.14%), the smallest since July 2016 (Bespoke Investment Group). For stock investor such move could be scary because it suggests slower growth. Global central bankers suggesting that stimulus would be taken away triggered a global governmental bond selloff during the week that ended 6/30/17.

 The ‘Fab Five’ (Facebook, Amazon, Apple, Microsoft and Google/Alphabet) account for 56% of the $1.16 Trillion increase in market value for the NASDAQ 100 this year, and now make up 43% of the index. Back in 1999, the biggest five of that time (Microsoft, Qualcomm, Cisco, Intel and Oracle) also wielded colossal clout, making up 33% of the index. Their weight was pushing towards 50% in 2000-until the tech correction came. Will history repeat itself? (Mike O’Rourke, Jones Trading Chief Market Strategist, 6/12/17).

 Once again, on 6/14/17, the US Federal Reserve hiked interest rates again by 0.25% and expected to repeat the process 1 to 2 times in 2017. Historically, when short-term interest rates rise above long term rates, bull markets for stocks have ended and bear markets have begun. In recent months, the difference between short-term and long-term interest rates, called the spread, has narrowed in many countries across the globe. When the spread between these rates turns negative, it is referred to as “inverting the yield curve.”(Jeffrey Kleintop, Are bonds signaling a peak in stocks? , 6/14/17)

 It would be bad enough for the stock market if only the fabled Hindenburg (fiery disaster of 1937) Omen predicted a crash, but other technical market signals are also flashing that the market is at a cyclical peak. The Omen was triggered in October 2007 just before the crash of late 2008 and in March 2000, just before the dot-com crash. The Omen has its skeptics. A crash failed to develop three out of 4 times.(Bob Hoye, Vancouver Institutional Advisors/Barrons, 6/26/17).

This trend cannot last forever. Are we going to have a major but healthy correction to bring some of these investors to their senses or are we going to have a crash? No one knows. The Federal Reserve started increasing interest rates last year and till 12/31/17, they are expected to raise interest rates twice more. Current bull market is very old so the end could be near. Proposed Republican tax cut for the wealthy based on unrealistic economic growth projections would raise the deficit exponentially. With all these indicators showing up, I would be very surprised if we do not have a Trumpcrash within the next 3 years.

 GE- GE CEO Jeff Immelt will step aside Aug. 1 ending a 10-year career at the top of the conglomerate. He will be replaced by John Flannery; the head of GE’s health-care business. General Electric (ticker: GE) Chairman and CEO Jeff Immelt paid $2.8 million on May 15 for 100,000 more shares, his first stock purchase of the year. Immelt now owns 2.57 million GE shares directly. Immelt made the same pre-summer move a year ago, paying $2 million on May 20, 2016, for 67,600 shares, or $29.59 a share, slightly more than the $28-a-share price in his latest buy. Stock buys by the CEO aren’t iron-clad guarantees the stock will go up. In many cases, including GE, shares have already slipped from the purchase prices. But it is comforting to see the top executive make a splashy buy before jumping into the pool.(Ed Lin, 11 CEOs/Barron’s, 6/9/17). Now for my perspective on this issue; It is always a positive indicator when an insider buys his or her own stocks in massive quantities. They are not going to put their personal wealth at risk unnecessarily. This is very true with well-respected CEOs of some of our biggest companies. One such CEO is the CEO of JP Morgan, Jamie Dimon. After bottoming on Feb. 11 2016, stocks have had an enormous run in the past few weeks. What was so special about that day? It was the day JPMorgan CEO Jamie Dimon bought 500,000 shares of his company's stock. Jim Cramer now calls this day the "Jamie Dimon bottom." Cramer knows that Dimon did not intend to call a bottom that day, but not only is JPMorgan up  since then, but the Dow and S&P 500 have both rallied higher.

John Flannery, named General Electric’s new CEO on 6/12/17, told Barron’s that he knows he faces a daunting task. When Flannery, 55, takes the helm in August, he will have to guide one of world’s largest companies, a complex, global matrix of industrial businesses as well as a legacy finance arm. Since Jeffrey Immelt took over as CEO in September, 2001 through Monday, the stock has notched a total annualized return of 1.7%, six percentage points behind the S&P 500, according to FactSet. To be fair, Immelt inherited a company – and a highly valued stock – that had benefited from the 1990s boom. Investors cheered the shakeup, sending shares up almost 3.6% to $28.94 after the news was announced Monday. The stock now fetches 17.8 times the $1.63 a share analysts expect it to earn this year.(Lawrence C Strauss, New GE CEO, 6/12/17).

 Exxon- With the energy commodity price cycle recovering, we believe that a reduced cost structure, two recent acquisitions, and a more aggressive pace of capital spending position the company for a positive shift in reserves and production growth, and a multiyear recovery in earnings. Exxon arguably has the strongest balance sheet in the sector, which provides ample flexibility to pursue a more aggressive growth path or a higher return to shareholders. The dividend yield is currently 50% above the 10-year average, but growth averaging 3,2% over the past two years is 60%below the norm for that span. With improving coverage ratios, we believe that dividend growth could be poised for a rebound in the intermediate term. (Hilliard Lyons, Exxon Mobil, 6/6/17).

 Chevron-Appears well positioned to ride out a period of weak oil prices as its capital spending declines and its free cash flow increases. Its big Australian liquefied natural gas projects, Gorgon and Wheatstone, are moving towards completion. Chevron has a lower valuation based on enterprise value/cash flow than Exxon Mobil does, and a richer dividend yield : 4.1% versus 3.8%. Chevron is expected to cover its dividend and capital expenditures from cash flow in 2018 barring a collapse in crude oil prices. (Andrew Bary, Energy Shares, 6/12/17)

 IBM- International Business Machines seems to have impressive Internet of Things (IoT) capabilities and several use cases, based on commentary from the general manager of its IoT business, who spoke at our KBCM Industrial Conference. IBM (ticker: IBM) has made significant investments (about $3 billion) in Watson and positioned it to offer cognitive analytics. IBM’s IoT business is growing at 15% year-over-year with healthy secular growth characteristics. Companies are investing to take advantage of data generated (99% of data is unused today). IoT is viewed as critical to gaining a competitive advantage by using proprietary data. Organizations can: 1) improve operations (gain insight through data analytics) and lower costs; 2) enhance customer experience; and 3) transform and generate new revenue streams. The majority of use cases today are to improve operations, cut costs, and do break-fix analysis.(Arvind Ramnani, IBM is bog on IoT,6/14/17).       

Apple-HomePod’s performance focus highlights Apple’s lack of critical proprietary services. Billed as a “breakthrough home speaker,” the HomePod is attempting to differentiate itself as a premium smart speaker as opposed to current products that are generally either a premium speaker (Sonos) or smart ( Amazon.com (AMZN) Echo), but not both. The presentation focused on how strong the performance of the speaker is, with the smart assistant features presented almost as an afterthought. We view the performance focus as an indication that Apple lacks the proprietary services to match up well with in-home smart assistants from Amazon and Alphabet (GOOGL). We believe in-home voice assistants are a link to services that provide answers, entertain, allow you to organize or shop more easily, or allow you to control physical aspects of your home (lighting, security, etc.). Any assistant’s ability to efficiently serve these purposes should determine its value. Further, the ideal in-home assistant should be ever-present, but nearly invisible, meaning that the ideal hardware is likely to be small and unobtrusive. These factors make in-home assistants a terrible market for Apple to generate meaningful profits from, in our view. So, why is Apple even entering the market? We believe the answer is that it feels it has to in order to not be left out. This highlights a broader issue for Apple as consumers’ interaction with computing becomes even more fragmented; services in which Apple is weak are likely to drive the bulk of consumer value. At the extreme, this trend risks devaluing both mobile operating systems and hardware, which could create risk to Apple’s smartphone pricing power over time.(Pacific Crest Securities, Apple’s Home Pod, 6/6/17). May survey data indicate significant pent-up demand from new and existing iPhone users in China. While our data-driven approach has proven largely successful, we do note that for fiscal 2017, the magnitude of growth has disappointed relative to our initial data driven fiscal 2017 expectations (i.e. initially projected 16% year-over-year iPhone unit growth versus current trajectory of 3%), largely as a result of Greater China growth disappointing relative to our initial expectations (initial projection was 58% year-over-year iPhone unit growth versus on track for an 8% year-over-year decline). As such, we were surprised to find that our May survey data indicate that iPhone unit growth in Greater China will rebound by up to 170% year-over-year. The percentage participants that intend to buy an iPhone in the next 12 months in China increased from 29% in May 2016 to 37.1% in May 2017, and the percentage of existing iPhone users that bought an iPhone over the past 12 months that also indicated they will purchase an iPhone in the next 12 months dropped to 7.6% in May 2017, from 11.0% in May 2016. We believe this data point supports the anecdotal story we have heard that Chinese consumers are closer to the Apple supply chain and thus learned earlier in the iPhone 8 product development cycle the incremental capabilities than U.S. users, which has led to a much greater portion of existing and new to iPhone users in Greater China to delay their purchase of an iPhone by about a year.( Nehal Chokshi, Apple to see China unleash demand, 6/20/17).

Have a great month!