Dodd-Frank, all-cash, the summit in Singapore, costly gas prices, oil, and mortgage rates.
The Market. A red day for the S&P 500 and the DOW left the two juggernaut indices entering memorial weekend at 2,721.33 and 24,753.09, respectively. The tech heavy Nasdaq was green for the day, ending the week at 7,433.85. Also in the red for the day is Crude Oil (67.50) and Gold (1,301.20). And of course, that darn VIX is green.
This was an eventful week, both on Wall Street and on the political front with various headlines to drive the market. However, despite all the news, the up-and-down week had the market feeling a bit...boring? No, that’s not right. Stagnant? That sounds slightly better. Either way, we're here to talk about it before clocking in for some summertime fun.
Rollback of Dodd-Frank. Just 10 years ago, the 2008 US financial crisis almost brought down the global financial system and safeguards were put up to prevent a repeat. But now, Congress is deregulating banks and loosening the safeguards. The Crapo bill was passed this week: raising the asset level at which banks start to face stricter regulation, banks will soon no longer need to have public annual stress tests (AKA banks will have the ability to take on more risk), and relaxes a rule that requires banks to hold more capital against some of the riskiest commercial real estate loans.
All-cash offers. Ribbon is a start-up that launched last week. Their contribution to society: giving the cash-offer advantage to everyone. When purchasing a home, all-cash offers are 97% more likely to be accepted than the “mortgage application route”. Cash offers remove much uncertainty associated with obtaining a mortgage for the transaction. The National percentage of homes sold to cash buyers was about 30% in the first quarter of 2018. Ribbon provides a guaranteed offer to facilitate all-cash transactions in exchange for a 1.95% fee. Ribbon backs the buyer so it can make an all-cash offer and secure their property and then the buyer gets financing for the home either before or after closing the deal.
Kim got stood up! Trump canceled his planned June 12 summit with North Korean propaganda referencing a potential nuclear clash with the US. Fears of not concreting a denuclearization pledge from North Korea caused Trump to cancel. The summit would have legitimized Kim and would have made Trump look weak. US markets reacted to this news by jumping up and down less than a percentage point.
The costliest driving in 4-years. The price of regular-grade fuel has climbed 47 cents (19%) since the beginning of 2018; highest since 2014 due to a spike in crude oil prices. The spike in oil prices was due to OPEC teaming up with Russia in slashing production and the US exiting the Iran deal. The last time gasoline exceeded this much, inflation-adjusted consumer spending increased. A correlation between higher gas prices and an increased amount of household spending might sound strange, but households are not fazed by higher gas prices because of the favorable response from tax cuts, a decrease in the unemployment rate, and a moderate pick up.
Liquid Explosive Dinosaur. Okay, Okay. So maybe the title above isn't the most correct description of oil. But, the inner kid inside all of us wants to believe, okay? Lets get down to it.
Many analysts would say that oil has been the dominant driver of the market this week over the ongoing love saga between Donald Trump and Kim Jong-Un, which is saying something. Oil prices took a spill this week, as both Brent and West Texas Intermediate finished down for the week. While there many factors influencing oil prices, as we've discussed in past weeks, this most recent plunge can largely be attributed to an increase in production from some major players. St. Petersburg is playing host to a pivotal meeting between energy officials from Saudi Arabia, the United Arab Emirates, and Russia to discuss output. These nations are looking to ease up on production curbs as the price per barrel has rallied to concerning amounts. For the past years, oil output amongst OPEC and friends has been reduced by roughly 1.8 billion bpd (barrels per day). This agreement is set to expire in the upcoming year, and it looks like the parties involved are already discussing ramping up production for the back half of 2018.
Why exactly do they want to do this?
A few reason, and the everyday consumer is probably one of them. Think about it. For as long as most people can remember, people have been non-stop discussing oil prices. Constantly and consistently, people are afraid that the price of an oil barrel is rising to high. Khalid al-Falih, Energy Minister of Saudi Arabia, has voiced that this consumer distress is on their radar. Another reason relates back to simple supply and demand economics. Oil is a commodity, and like everything, it is not perfectly inelastic. For those that don’t know, if a good is "inelastic", than changes in price will not cause a relative change in quantity demanded. While oil, or more effectively, gasoline, is definitely inelastic, i.e. people will still purchase it if the prices rise, it has a breaking point. It can be argued that nothing in this world is perfectly inelastic (lets not get into a discussion about immortality), and oil is no exception. If the price rises to much, the quantity demanded will go down. The recent events in Iran (U.S. pulling out of the nuclear deal, in which new sanctions will hurt their production), along with turmoil in Venezuela, has production reaching a dip that might push the price of oil past the point. By increasing quantity supplied and reducing the price per barrel, demand can be stabilized. At least that’s the plan.
Interest on the rise. The housing market is booming. Housing prices are predicted to go up 5.5% in 2018 to a median value of $220,800. Despite this animal-spirits, market prosperity is coming at a cost. As of Q4 2017, the US owned $9.9 trillion in mortgage debt with the average amount of $137,000 in mortgage debt per borrower. Because of this, many at the FED have suggested that they will begin to increase interest rates. Many predict that the FED will increase interest rates in their next meeting on June 12-13. Some of these predictors include mortgage lenders. Mortgage interest rates on 30-year fixed-rate mortgages have jumped nearly a full percent increasing from 3.81%, in November 2016, to 4.66% as of May 24, 2018. If the FED follows through with their increase, credit card users will likely owe an extra $6 billion in credit card interest. The FED’s open deflationary posture has suggested that credit will be harder to come by in the future.
The Alchanati Campbell and Associates Team
Gambling laws changed, sorrow in Santa Fe, China’s trade agreement, the wealth agreement, and prevention.
The Market. The S&P 500 finished in the red for the week, ending Friday's session at 2,712.97.
The Dow finished in the red for the week, ending Friday's session at 24,715.09. Additionally, the Dow carried over an 8 day streak of gains into the early part of this week. The Nasdaq finished in the red for the week, ending Friday's session at 7,354.34. Crude Oil finished green for the week, ending at 71.35 per. Remember this news is coming after the events of last week with Iran, as well as the rising tensions in the Middle East that have been escalating this entire week.
(Some events factoring into these price changes include, but are not limited to: that trade war thing people are talking about, the price of oil (touched on above), and the U.S. economy performing so well.)
China gives in..? So, China sent over some trustworthy individuals to engage in trade talks with some of America's trustworthy individuals. Essentially, the two powerhouses came to an accord to reduce the U.S. trade deficit (or the Chinese trade surplus, depending on how you look at life) by $200 billion, leaving it at approximately $175 billion. Trade surplus is when exports exceed imports. This means China is exporting more to the US than they are importing from the US. That seems like a sizable amount. Of course, that’s what the Trump Administration had to say. Chinese news outlets, on the other hand, offered all but confirmation of such an accord. Either way, the fact that the powerhouses negotiated and have discussed deals should be taken as a good sign. In order to decrease the deficit by $200 billion, there would have to be drastic increases in imported American products, a drastic reallocation of Chinese imports, a drastic reduction in Chinese exports, and a restructuring of the supply chain.
America’s 16th this year, 16th school shooting… 17 year old student fatally shot 10 people and injured another 10 others using a semi-automatic pistol and a sawed-off shotgun in a high school shooting in Santa Fe, Texas. It is said that the shooter wanted to carry out this attack for awhile. He wrote in his journal about his thoughts and plan of carrying out the attack and committing suicide after the shooting, but he “didn’t have the courage” to take his own life.
Correlation between mass shootings and gun sales. Over the past years, when shootings occurred across the country, there was a sizable increase in demand for newer, tighter gun regulation. This has generally led to firearm companies, such as American Outdoors Brands Corporation, AKA Smith and Wesson($AOBC) and Sturm, Ruger and Company ($RGR) to experience boosts in their stock prices. There are two main reasons for this:
Notably, Democrats and Republicans tend to have two contrasting views on firearm regulation. Put simply and generally, the former believe in more regulation, while the latter does not. With a Democrat being President for 8 years from 2012 onward, the concern for rising regulation was more urgent. However, now that Donald Trump is in office, there is less of concern because, well, he is Donald Trump, a Republican (on paper), who isn't about to allow increased regulation on firearms. So, with less of a concern on regulation due to the current administration, firearm stocks during his term have not seen nearly the same reaction that they did under Barack Obama. In my opinion (which probably isn't good representation of anything), this is one of the prime examples of politics and finance interacting with each other, and it is remarkable to watch the two powerhouse fields to push and pull with each other. While in my mind this doesn’t necessarily work as an example of the butterfly effect because there isn't too much distance between the two fields, it is a nice example of how social events can have colossal changes in highly quantitative, sometimes algorithmic, fields such as finance.
Fools Gold. So you are looking to buy a house, but you have bad credit. Your mortgage broker offers you a new mortgage class called the adjustable rate mortgage (or floating rate mortgage). You take the deal. During the loans initial period, your principal and interest rate remains relatively low. After paying down the loan for two years, your principal and interest payments jump to 12%. What do you do? If for the past two years your home price has increased in value, you can refinance to pay down your loan. Such borrowing practices lead to the financial crisis of 2008 and investment banks are not done dealing subprime. The Wall Street Journal recently revealed that from 2010 to 2017 Wells Fargo, Citigroup and others lent out $1.4 billion to subprime auto loan brokerages. Default rates on these loans are now at 5.8%, higher than the 5% default rate on subprime mortgages in 2008. To make predictions based on the past is a fools game, but the lending conditions in today's market are eerily similar to the ones in 2008.
Vegas baby! And maybe New Jersey and every other state too. The Supreme Court ruled that States can allow betting on individual sporting events. Americans illegally bet an estimated $150 billion on sports games each year, and with betting becoming legalized, States could see more money flowing onto their balance sheets. But Las Vegas is not afraid…
The Wealth gap. Income inequality describes the gap between a six-figure salary and minimum wage, and the gap between a household’s total assets minus debts. The wealth gap is much worse among families with children, which has been widening in the past years. A huge reason for this are policies that have eroded public spending and private income for families with children. With college tuition, employment changes, and debt (mortgage and student loans), the separation of the rich and poor is becoming massive.
The right and wrong of failing. You have two options. One, openly examine past mistakes and learn. Two, avoid a reckoning and repeat them. The latter needs to go and the stigma that surrounds failure needs to go. The best way to avoid failure in the future is to embrace and learn from past failures.
Prevention. It is said that the best way to ‘contain’ the next financial crisis is to make sure financial institutions are strong (raising capital and liquidity requirements), subjecting banks to stress tests, and requiring them to create plans for their own unwinding. The structural resilience of the financial system is the first line of defense in promoting financial stability, with monetary policy of maximizing employment and price stability second in line.
The Alchanati Campbell and Associates Team
Yield curves, foreign tension, life advice, competition, and the U-curve.
The Market. S&P 500 up .17%, Dow up .37%, Nasdaq down .03%, Crude Oil at $70.51/barrel, and Gold down .29% at $1,318.40/ounce.
Flatness in yield. The Treasury Yield curve was at its lowest level since August 2007 from weaker-than-expected US inflation and high demand for bonds at the recent bond auction. Flattening of the yield curve signals that inflation is not a problem. But the curve flattening toward inversion (when 3 month yields are higher than 10 year yields) has historically preceded recessions, but there are still two additional rate hikes planned this year.
Smart Beta versus Factor Investing. Smart Beta weights by company fundamentals, ranks companies by their size, has a long position only, and measures volume, liquidity, and momentum. This strategy trims positions in companies whose price is rising, but their fundamental value isn’t changing, and buys companies whose prices are falling, but their fundamentals remain the same. Factor investing weights by market capitalization, helps investors understand the behavior of an asset, buys out-of-favor companies, and has long and short positions. This strategy uses ‘factors’ like value, small-cap, momentum, low volatility and quality(dividend payers), and yield.
Life advice. Be true to yourself- live the life you want to live. Focus on what is true to yourself. Take a break, meditate, or take time off. Don’t forget to show love- be selfless. It’s not about the hours in the day, it’s how you use them. Right is might, and when you do your work and figure it all out, all the other noise will disappear. Don’t give up. You need to know your limitations- you shouldn’t do what you don’t understand. You always live to fight another day. Do something you love. Everything you do really means two things. Find the smartest people you can, surround yourself with them, and shut up and listen.
Competition is bad. Americans live in a competitive world. Our universities, job markets, and sports teams all instill within us a competitive drive. Venture Capital investor and Co-founder of PayPal, Peter Thiel disagrees with this notion. In his book Zero to One, Thiel lays down the criteria he uses to determine what companies to invest in. One of the criteria is competition vs monopoly; only invests in companies that are designed to be monopoly businesses. Theil uses Tesla as an example. The automotive industry is multi-trillion dollar industry, with a plethora of highly competitive firms vying for a slice of the pie. A company who plans to compete in this broad market is doomed to fail. Successful firms in this market, like Telsa, are firms that refine their market to a small niche. Tesla is the only company that is producing a luxury, eco-friendly automobile. Because Tesla defines their market in such refined terms (Luxury x Eco x Car), they are able to succeed within the larger automobile industry (Car). When determining what companies to invest in, determine whether the firm is competing in a large market or if it is the only player in a niche market. Theil offers in conclusion, “All failed companies are the same: they failed to escape competition”.
Throwback to 2015. Iran had been trying to develop and enhance its nuclear program maintaining that its program would only be used for peaceful purposes within the country. However, that was not the leading belief amongst the rest of the world, as most countries feared that the program would be used for nuclear weapons which could decimate any country. To curb this, economic sanctions were imposed on Iran. In 2015, Iran agreed on a deal with the United States, the United Kingdom, France, China, Russia, and Germany to lift the devastating sanctions. In return, Iran agreed to let these countries closely monitor the development of its nuclear program, as well as restricting the usage of key elements of nuclear…anything. It’s a bit too much science for a market letter, but it is an interesting process to read up on.
Flash forward. This past Tuesday, President Trump re-imposed economic sanctions on Iran, withdrawing the United States from the aforementioned deal. While the U.S. is only one of the countries involved in the deal, the remaining European powers within the deal will need to "pick up the slack" in a sense, and economically help Iran. If they are unable to do that, its likely that Iran will dramatically speed up its nuclear program to a level akin to 2015. If the nuclear tension wasn’t enough, his U.S. violation of the 2015 deal will also lead to billions of dollars in lost deals that U.S. companies agreed to within Iran. Boeing, for example, will be missing out on roughly $20 billion.
Conflict. Emmanuel Macron, President of France, stated that the U.S. decision would eventually lead to conflict. This is unfortunately appearing to be the case. Since the events on Tuesday, tensions within the Middle East have increased at an exponential rate. Particularly, foreign tensions between Iran and Israel have escalated. Tuesday night, Israeli troops were put on alert, anticipating airstrikes on Israeli sites within Syria. Residents of Golan Heights, which shares a border with Syria, were told to prepare to take cover in shelters, indicating that civilians are in the crossfire. By Thursday, both Iranian and Israeli forces were targets of airstrikes, with Syria unfortunately being used as the battleground.
Oil. Whether it is justified or not, one key thing stands out when thinking about the Middle East from a market standpoint: oil. However, Crude Oil prices tend to follow a hidden, private algorithm. It truly is virtually impossible to see exactly how oil prices will react to geopolitical events. Following the renewed sanctions, Iran's ability to produce barrels of oil is obviously hindered. With a decrease in production, its reasonable to assume that crude oil prices will rise. However, Saudi Arabia has the capability to more than make up for the barrel production that will be lost with the Iran deal withdrawal. This would help stabilize the prices. Still though, it is likely that there will be a fairly significant lag between the U.S. decision and a prolonged change in oil prices, as Theresa May, Prime Minister of Britain, stated that there would need to be a discussion with President Trump on how the sanctions would impact foreign companies operating within Iran. Additionally, the decrease in exports would take time to come to light.
Who caused the Bay Area’s Housing shortage? 48% of those polled say tech companies are a major reason and 57% say that developers are a major reason. Before ‘Silicon Valley’ came to be in the Bay Area, it was more affordable. Benefits of ‘Silicon Valley’ are there are more jobs available and real estate values are skyrocketing. A solution to this shortage is an increase in new housing.
The U-curve. Happiness through adulthood is U-shaped. Life satisfaction falls in our 20s and 30s, hits a trough in our late 40s before increasing until our 80s. The “midlife crisis” is a stereotype and is simply due to the passing of time. At your “midlife”, you might have feelings of discontent and a feeling of wasted life, but as the years pass, how you feel about life changes. Older people feel less stress and regret, dwell less on negative information, and are better at regulating their emotions.
The Alchanati Campbell and Associates Team
Elon Musk, money and happiness, volcano eruptions, and lost art.
The Market. S&P 500 closed up 1.28%, DOW closed up 1.39%, and Nasdaq closed up 1.71%. Apple led the market up 4% after Berkshire Hathaway added 75 million shares of Apple in Q1.
Fortnite in the Blizzard? Now, unless you’ve been oblivious to social trends throughout 2018, you've obviously have heard of something called Fortnite. What exactly is a "Fortnite"? Its simply the hottest, most popular video game in recent memory. With 45 million players as of January 2018, its easy to see Fortnite as a wrecking ball within the video game industry. As millions of players flock to the game, they are leaving other games behind them. Investors are taking notice, with major video game publishers being down since Fortnite's domination began. Activision-Blizzard ($ATVI) and Take-Two Interactive ($TTWO) are both down double digits since March. The big three publishers of the aforementioned two and Electronic Arts are releasing their 2018 Q1 results throughout the beginning of May. Activision Blizzard led the way as the first major interactive entertainment company to release Q1 results, as they reported their numbers this past Thursday.
Nearing the end of trading hours on Thursday, Dow Jones made a mistake; it released incorrect headlines for Activision-Blizzard based off of old numbers before the actual earnings was released. This led to a 6% intraday drop at one point. Eventually, all this confusion was settled as the shares made back their loss and then some based off strong numbers. The company made their own record revenue for Q1, and coasted past estimated earnings. The company accomplished while competing against perhaps the fastest rising game of all-time, Fortnite, and without having a release of a major title. Officials within the company attributed this to the ability for their game franchise's long-lasting capabilities. Furthermore, the company put across the message the impact of Fortnite is short-sighted, as signature released during the fall gaming season should allow all major video game companies to bounce back.
The Musk attack. Tesla’s shares fell as much as 8.6% Thursday after Tesla’s conference call. Elon Musk said, “I think that if people are concerned about volatility, they should definitely not buy our stock…” This past quarter, Tesla burned through $1 billion of cash, EPS beat estimates at -$3.35 with revenue beating estimates at $3.41 billion. The company says it expects profitability in Q3 and Q4.
No excuses now for not getting a job. Unemployment rates just hit their lowest point in 18 years. Today, the Department of Labor Statistics revealed that the US unemployment rate has fallen to 3.9%, the lowest since 2000’s 4% rate. April marks a record setting 91 consecutive months of job growth. Wages have increased just above the rate of inflation at 2.6%, prompting the FED to consider three benchmark rate increases this year in this weeks meeting. Recent history tells us that when the economy is producing such high volumes of jobs, downturn is imminent. Both the 2000 low of 4% and the 2007 low of 5% were followed by significant recession and job loss.
Eruption on the main island. Hawaii’s Kilauea volcano erupted Thursday. Lava spewed into a residential neighborhood, prompting mandatory evacuations. Since the last eruption in 1924, most of Kilauea’s activity has been nonexplosive.
Money can’t buy happiness. A study shows that people seem to be happiest right before they buy a coveted item and once they have that item, their joy fades quickly. Highly materialistic people are more happy than their peers shortly before buying their desired item. The reason for this is because they think this item will somehow transform their lives for the better. People with low levels of materialism were less prone to believing big purchases could have a great impact on their lives. People expect more and overestimate their purchases and then are let down. One recommendation is to put more thought into your purchases.
Growth versus value. Growth stocks have been beating value stocks in this bull market. But some believe that the valuations for growth stocks remain stretched. During the last 5 years, the S&P 500 Value Index was up 46% while the S&P 500 Growth Index was up 85%. Historically, value has outperformed growth and now with interest rates rising, value stocks are more favored.
“The Museum of Lost Art”. Our understanding of art history is skewed by survivorship bias (AKA the pieces that are still alive). What has been destroyed includes “more masterpieces than all of the world’s museums combined.” To understand the art we still have, it is critical to put it in the context of what’s been lost.
The Alchanati Campbell and Associates Team
WHAT'S UP FRIDAY? is a weekly newsletter that will give you a summary of "What's up?" on Wall Street, in the US and around the World written by The Alchanati Campbell and Associates Team. What makes us unique is we focus on long-term knowledge; knowledge that will still be useful to you 10 years from now.