361 Capital Weekly Research Briefing
- Blaine Rollins
- October 22nd, 2013
361 Capital portfolio manager, Blaine Rollins, CFA, previously manager of the Janus Fund, writes a weekly update looking back on major moves, macro-trends and economic data points. The 361 Capital Weekly Research Briefing summarizes the latest market news along with some interesting facts and a touch of humor. 361 Capital is a provider of alternative investment mutual funds, separate accounts, and limited partnerships to institutions, financial intermediaries, and high-net-worth investors.
361 Capital Weekly Research Briefing
October 21, 2013
Timely perspectives from the 361 Capital research & portfolio management team
Written by Blaine Rollins, CFA
Donkeys 1, Elephants 0, Congress -535
The can was kicked down the road once again. We would all like to think that Congress will avoid another last minute battle in early 2014, but unfortunately we can’t put it past the current list of non-negotiators. The only thing that is certain in the future is that it will be many election cycles before a member of Congress makes it into the World Series of U.S. Presidential ballots. Approval ratings are bad that both Gov. Christie and Hillary will need to pull all Congressional names from Vice Presidential consideration because any current member would bring no leadership skills and too much baggage. It is a great time in politics to be a Governor, Mayor, or Non-Career Politician.
With the fiscal crisis over/delayed, T-Bill yields normalized quickly…
@SoberLook: Chart: 1m treasury bill rate collapse back to zero
Meanwhile, another month and another tail risk chopped onto the floor…
With Congress kicking the can into 2014 and the likelihood of another all-out brawl taking place in the halls of the Capitol, how do equity investors NOT shift into 5th gear and take advantage of this smooth, new pavement placed before us?
Jeff Saut is looking for the 6th gear…
Now that the “crisis” is in the rear view mirror, the equity markets should refocus on earnings, economics and the Federal Reserve; and here the story is pretty good. S&P’s bottom up operating earnings estimate for the SPX is currently $107.58 leaving the SPX’s PE ratio at almost 16. Next year’s estimate is $121.66. If the SPX continues to trade at that PE multiple, it renders a price target of 1946. As far as economics, things appear to be getting better. In 2014 I believe GDP growth will finally accelerate to 3% driven by a capital expenditure cycle because companies like GM are running their plants flat out 24/7 and the equipment is wearing out. Finally, with Janet Yellen at the helm of the Fed, it should be steady as you go. That implies no tapering and plenty of liquidity. To the underinvested — and underperforming — investor, this trifecta is a nightmare.
As we saw last week, the U.S. markets are not waiting around…
All 3 U.S. Market Cap slices & every XL sector trading > 20 (blue) & 50 (red) day moving average.
Maybe the most important sign for the markets last week was the return of the Financial Stocks…
The bank and broker earnings were nothing spectacular (save American Express which was very impressive), but the group got bought up anyway. A move to new 2013 highs could not have come at a better time for the bulls.
And a great chart showing the acceleration in lending which could only help financial invest their underutilized deposit bases…
All Time New Highs being seen in the > $80 Billion Market Cap club across many industries…
Being the 3rd week of October, individual stock movements were all about their own earnings reports…
And yes, there were several reports for the bull and the bear bettors.
On the plus side of the ledger, better than expected earnings drove these Larger Cap stock gains:
+14% CMG Chipotle
+13% GOOG Google
+8% SNDK Sandisk
+7% ABT, SWY, BHI
+5% PPG, AXP, IR
On the losing side was: SWK, MU, YUM, IBM, FAST, IPG, UNH all falling 5%+ after their earnings releases.
As a whole, Q3 earnings beats are trending roughly in line with the past 2 year trends so far…
but still a lot of market cap to go over the next 2 weeks so don’t jump to a conclusion yet.
Notable earnings comments and tidbits from last week:
- General Electric (GE) – “Orders grew 19% with orders growth around the world. Total segment profit grew 12%, Industrial margins grew 120 basis points in the quarter, and we are on track for planned margin expansion of 70 basis points for the year.”… “Our business lines are in big infrastructure, the stuff that companies and countries are investing in.”… “We’re getting to the point where we have the mix of businesses we want to go forward with. We’re doing double-digit growth in a world that isn’t growing double digits”. (Jeff Bornstein, CFO)
- Steel Dynamics (STLD) – “We are optimistic, as the demand for high-quality steel products continues to improve”, Millett said. “The automotive market remains strong, and manufactured goods continue to strengthen. We remain cautiously optimistic about the nonresidential construction market, as evidence of increased demand is shown by improved shipments of our structural and fabricated steel products.”
- Google (GOOG) – Paid Clicks – Aggregate paid clicks, which include clicks related to ads served on Google sites and the sites of our Network members, increased approximately 26% over the third quarter of 2012 and increased approximately 8% over the second quarter of 2013.
- Schwab (SCHW) – Core net new assets were +$43bn representing organic growth rate of 8.4% this quarter. CEO Bettinger: “These client results supported double-digit percentage increases in all three of our main revenue sources and 15% overall revenue growth versus the year-ago quarter. Even with the continued headwind created by an interest rate environment that remains at historic lows, our third quarter revenues surpassed all our prior quarterly results save the extraordinary spike we experienced at the height of the internet bubble.”… “Assuming an ongoing economic recovery, as well as interest rates and client trading activity that remain at or above recent levels, our outlook for the remainder of this year and into 2014 has not changed — we expect our 2013 revenue growth will outpace expenses by ~100 to 200 basis points, helping us to achieve a pre-tax profit margin of at least 30% and earnings per share in the mid-$.70s for the year (consensus $0.74). Additionally, we are aiming for a gap of ~300 to 500 basis points between revenue and expense growth in 2014. We continue to believe we possess all of the elements necessary for strong growth and increased operating leverage going forward: business momentum, operating and expense discipline, a healthy balance sheet, and a solid capital base.”
- BlackRock (BLK) – Long-term flows were good at +$25.3bn (~3% organic growth) and you can see the retail efforts kicking in as $8.3bn of that was retail driven. Biggest contributors in Q3 were alternatives, multi-asset and iShares equity, while iShares fixed income and active equity pulled back. Performance held in for the most part (though fundamental equity still soft) and total payout ratio was 74% including a $250mm buyback. This quarter, BlackRock crossed the $4 trn asset threshold. (ISI Group)
- American Express (AXP) called out Europe as an area of strength (EMEA growth improved to 8% in Q3, the highest growth for that region since ’11). AXP also said there was a notable uptick in travel commissions and fees during the Q (this category swung to +5% in Q3 from -5% in Q2). Overall billings accelerated in most major regions mildly Q/Q. AXP even said they haven’t seen any slowing in customer activity as a result of the shutdown and debt ceiling uncertainty. (JPMorgan)
Next week is a big one for earnings with about 25% of the Large Caps reporting. Lots of Industrials hitting the tape, while tech geeks will be focused on Thursday afternoon for Amazon & Microsoft…
Among the race to the top in U.S. Market Caps, Google makes its move…
A good week for U.S. sector performance with most sectors performing strongly…
And a good week for all asset classes with only Crude Oil, the US$, Housing plays, and Earnings movers posting losses…
The significant Up/Down Volume day on October 10 continues to resonate with the markets…
@ukarlewitz: Equities returns following a 90% up day (like last Thursday). Longer term, an edge
And if you are wondering if a strong Q4 in equities affects Consumer Sentiment…
U.S. Holiday Sales have an 88% correlation with the performance of the S&P in the fourth quarter.
Where does the 2013 S&P 500 performance rank among years past?
We’ve had a monster year in stock (even though we think they are expensive) thus far here in the U.S., so it is worthwhile to review where this year (if it ended today) would stand in history. Interestingly enough, about a third of all years have HIGHER returns… I’m guessing that would surprise most readers. The median is around 13%, the average 11%, and the geometric average about 9%.
Weak Balance Sheet Stocks have OUTPERFORMED Strong Balance Sheet Stocks by 20% over the last 18 months…
Even with the several shocks to the markets from fiscal and geopolitical events, risk taking remains in 5th gear in the equity markets. If anyone sees a bump in the road to change this trend for the next several months, let me know. A recession, banking crisis or inflation shock would do it, but those options don’t show up in my crystal ball right now. If anything, the healthier balance sheets will lead to more M&A activity, which will cause the weaker balance sheets to be bought by the stronger ones.
(GSTHSBAL = Goldman Sachs Thematic Strong Balance Sheet basket)
(GSTHSBAL = Goldman Sachs Thematic Weak Balance Sheet basket)
Got EM? So much for the Taper driven Emerging Market liquidity flight this summer…
EM FX reserve accumulation is picking up again suggesting that capital is returning to EM. By looking at a universe of countries which report frequently, either weekly, i.e., Mexico and Turkey, or monthly up until September, i.e., China, Brazil, Taiwan, South Korea, Hong Kong, Singapore, Indonesia, Thailand and the Philippines, it appears that not only has the previous decline in EM FX reserves over the summer been reversed, but also that reserves are rising again to new highs.
Apple makes a very BIG move…
“I am thrilled that Angela will be joining our team,” said CEO, Tim Cook. “She shares our values and our focus on innovation, and she places the same strong emphasis as we do on the customer experience. She has shown herself to be an extraordinary leader throughout her career and has a proven track record.”
The Economist is positive on the move…
Among stewards of big luxury brands Angela Ahrendts, the boss of Burberry, is probably the geekiest. Her main achievement has been to make the 150-year-old British company the most technologically savvy of its peers. Burberry plans to be the first luxury company that is “fully digital end to end”, she boasts. But what can she do for Apple, which on October 14th said it would poach her to run its retailing operations? Probably the opposite: revive a sense of style at a tech firm that has lately looked a bit dowdy.
Ms. Ahrendts should add pizzazz to Apple’s bricks-and-mortar shops, which are the most profitable in America measured by sales per square foot. But that seems a small job for a woman who last year was the highest-paid chief executive of a company in the FTSE 100 share index. At Apple, from next spring, she will merely be a senior vice-president. So the odds are that her brief will go well beyond managing Apple’s stores. She can help it crack the Chinese market, where its iPhones are also-rans in the race against cheaper smartphones from Samsung and local manufacturers. Burberry earns more than a third of its revenue in Asia compared with Apple’s 28%. A bigger job will be to ready Apple for the coming fusion of fashion and technology. The most talked-about new devices are wearable.
Burberry knows China…
@BenedictEvans: Burberry in China – 69 stores v Apple’s half-dozen.
And why is a bigger Apple in China important?
It’s difficult to overstate how large the China market is for luxury goods, never-mind general use ones. In fact, Two Percent of China’s public consumes one-third of the world’s luxury goods: According to China’s official population clock, there are an estimated 1,359,025,970 people in China as of Sept. 26, with just 2% of that number — some 27,180,519 people — consuming one third of the world’s luxury items. The 2% are the backbone of the global luxury goods sales and the target of hundreds of international brand names, the Chinese-language Money Week magazine reports.
Most importantly, the Apple stock likes the move as the stock is UP 8 days in a row…
One upcoming change in the Apple stores…
@levie: CEO of Burberry is now head of Apple retail. Photo of new Apple Store Geniuses:
Meanwhile, one of Apple’s top competitors is lighting up the Kindle-ing…
Morgan Stanley analyst Scott Devitt thinks the Kindle franchise is underappreciated. “When we went into the project, I didn’t anticipate that we would come to the outcome that it was worth over $20 billion. I was surprised by that number,” Devitt told me. In order to calculate the value, Devitt applied an HP/Dell-like sales multiple of 0.5 to his Kindle-device estimates and a Netflix/Pandora sales multiple of three on digital content… Last year, Apple sold 58 million iPads, generating revenue of $32 billion… Amazon is making progress on the tablet front. After starting nearly two years behind Apple, the company is increasing Fire sales at a brisk pace. Using the midpoint of analysts’ estimates, Kindle Fire sales should reach 27 million by 2014, up from 10.4 million last year. That’s an annual growth rate of 61%, faster than the tablet industry pace of 52%, according to research firm Gartner… In his most recent annual letter to shareholders, founder and CEO Jeff Bezos wrote, “Our business approach is to sell premium hardware at roughly break-even prices. We want to make money when people use our devices—not when people buy our devices.” That begs the question: How much digital media is Amazon selling via Kindle e-readers and Kindle Fire tablets? Here again—no numbers from the company. Morgan Stanley estimates Amazon sold $2 billion worth of digital media in 2012, growing to $3.8 billion this year. Those numbers become significant because digital media carries a higher profit margin than paper towels or printers.
Japanese Housing Prices +22% to a 21 year high…
And as you evaluate your Japanese equity weight, consider that the Global PM is still very underweight…
If you haven’t looked at solar cell economics in a few years, better do some homework. Price parity is approaching quicker than you think…
Attention U.S. utility executives: You have a decade at most before the boom in renewable energy makes your century-old business model as relevant as a rotary telephone. In the time it takes to get a transmission line built in California, solar energy production and other new technologies could render obsolete the monopoly business of selling electricity at a fixed price for a fixed profit to a captive audience of consumers. Sound far-fetched? Just ask German utility executives how their coal-fired power business is doing. In the course of a decade, Germany has transformed itself into a green energy powerhouse. On Oct. 3, for instance, nearly 60% of the electricity generated in Germany came from wind farms and rooftop solar panels. That’s pushing fossil fuels off the grid and utility profits off a cliff. Utility EON’s profit is expected to fall 40% this year, according to Bloomberg, and it and other traditional power producers are moving to shut down coal and natural gas-fired power plants.
Cheaper, Greener and you’ll never have to push a shopping cart again for your non-perishables…
Each day, P&G loads products onto pallets and passes them over to Amazon inside a small, fenced-off area. Amazon employees then package, label, and ship the items directly to the people who ordered them. The e-commerce giant is quietly setting up shop inside the warehouses of a number of important suppliers as it works to open up the next big frontier for Internet sales: everyday products like toilet paper, diapers, and shampoo. The under-the-tent arrangement is one Amazon’s competitors don’t currently enjoy, and it offers a rare glimpse at how the company is trying to stay ahead of rivals including discount chains, club stores, and grocers. Logistics have long been crucial to success in retail. Years ago, Wal-Mart Stores, Inc. set up a system that lets suppliers monitor what needs to be replenished. Amazon instead is going out to its suppliers with a program it calls Vendor Flex. By piggybacking on their warehouses and distribution networks, Amazon is able to reduce its own costs of moving and storing goods, better compete on price with Wal-Mart and club stores like Costco Wholesale Corp., and cut the time it takes to get items to doorsteps.
A good reminder on what drives inflation for year-end client meeting for those heavily invested in fixed income…
10 Reasons Texas Is Our Future…
It’s big. It’s hot. It’s cheap. And, according to Tyler Cowen, it’s where America’s ‘new cowboys’ are blazing a path for the nation to follow.
Quote of the week…
@JeffMacke: “Sure Great Grandpa died on Iwo Jima but my generation avoided 1 Fiscal Cliff and 2 Debt Ceilings!”
In the event that you missed a past Research Briefing, here is the archive…
361 Capital Research Briefing Archive
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Blaine Rollins, CFA, is managing director, senior portfolio manager and a member of the Investment Committee at 361 Capital. He is responsible for manager due-diligence, investment research, portfolio construction, hedging and trading strategies. Previously Mr. Rollins served as Executive Vice President at Janus Capital Corporation and portfolio manager of the Janus Fund, Janus Balanced Fund, Janus Equity Income Fund, Janus Aspen Growth Portfolio, Janus Advisor Large Cap Growth Fund, and the Janus Triton Fund. A frequent industry speaker, Mr. Rollins earned a Bachelor’s degree in Finance from the University of Colorado, and he is a Chartered Financial Analyst.
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