361 Capital Weekly Research Briefing

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
July 16, 2012

Timely perspectives from the 361 Capital research & portfolio management team
Written by Blaine Rollins, CFA

Can you say welcome to Q2 earnings season? The lineup this week…
Tech = INTC (Tues), EBAY/IBM/QCOM/XLNX (Wed), and GOOG/MSFT (Thurs). Banks = C (Mon), GS/STT (Tues), BAC/BK/PNC/USB (Wed), BBT/FITB/HBAN/MS (Thurs), and STI (Fri). Industrials & Materials = CSX/Rio Tinto (Tues), BHP/HON (Wed), DHR/NUE/UNP (Thurs), and GE/IR (Fri). Other Mega Caps = JNJ/KO (Tues), PM/UNH/VZ (Thurs), SLB (Fri).

The start of Q2 earning season started with several weaker reports until JPMorgan saved the week on Friday…


Meanwhile, analysts have continued to revise lower their quarterly earnings targets…

(Goldman Sachs)

While still expecting significantly higher Y/Y gains starting in the Q4/2012…Really???


But there were several worrisome data points during the week:

  • “My support for the current stance of policy rests on a forecast that sees a step-up of output and employment growth by year-end and into 2013. If the economy continues on the track indicated by the most recent incoming data and information, that forecast will become untenable, as will the policy premises underlying it.” Atlanta Fed President Dennis Lockhart.
  • Wells Fargo said it expects continued pressure on its Net Interest Margin based on the current low rate environment.
  • Meanwhile at JPMorgan, its Net Interest Margin was down 14 bps to 2.47% from 2.61%.
  • Airbus Scraps Target of 30 A380 Sales as Demand Dwindles – Bloomberg
  • Wednesday’s USDA crop report: corn yields were slashed by 20 bushels per acre to 146, while soybean yields were cut to 40.5 bushels per acre from 43.9 prior.
  • Nevada’s gambling revenue fell 10% to $885 million in May. The Las Vegas Strip alone slumped 18% to $475 million. (WSJ)
  • Marriott International – weakness in markets outside of North America as business in both the Middle East and Asia saw a slowdown in the luxury market.
  • Cocoa futures plunged 4.5% as a widely watched industry indicator signaled that Europe’s appetite for chocolate has declined dramatically. The Continent’s second-quarter cocoa-grindings data, which measure the amount of processed cocoa and are a proxy for chocolate demand, slumped by almost 18%… That is the sharpest decline in 12 years for a quarter compared to the previous year’s quarter. (WSJ)
  • Sales at London-based Burberry increased 11% to 408 million pounds ($634 million), trailing the 417.8 million-pound average of six estimates compiled by Bloomberg. Excluding currency shifts, underlying revenue in the three months ended June 30 also rose 11%, slowing from growth of 15% and 21% in the previous two quarters. (Bloomberg.com) Also: @lindayueh: #Burberry CFO says #Korea is the weakest market in Asia.
  • Will Levi’s earnings be a typical EPS release this Q2? U.S. weak, Europe challenged, Asia declined!, cotton prices hurt, Op Profit fell 30%. (@361Capital)
  • Peugeot’s plant closing in France, the first in 30 years, was symbolic of how much the Eurozone economy is deteriorating. The company said last week its manufacturing arm is losing 200 million euros ($244.88 million) a month. (Reuters)
  • Advanced Micro Devices AMD lowered its second-quarter outlook. The firm now expects revenue to decline approximately 11% sequentially, versus a prior outlook of up about 3%, amid a slowdown in business conditions late in the second quarter. Specifically, the firm saw particular weakness in channel sales in China and Europe, and was also affected by softer consumer demand for PCs.
  • Cummins slashed its full-year revenue guidance. The company, which makes engines for trucks, buses, and off-road machinery, noted order trends in the U.S. have softened. Demand in Brazil, China, and India also isn’t growing as well as the company previously anticipated. “Order trends in the U.S. for trucks and power generation equipment have softened and demand in Brazil, China, and India is not improving as we had previously expected.”
  • The New York City Taxi and Limousine Commission has voted to raise taxi fares. The new plan will increase the cost of the average ride by 17%. The base fare of $2.50 will not increase, but the mileage charge would. The flat-rate fee between Manhattan and Kennedy Airport will jump from $45 to $52. (NBCNewYork)
  • The potential negative impact of ACA/Obamacare on retail jobs: Labor costs could rise 4-7% in a base case and up to 15%…and corresponding job losses could be in the range of 350k-600k. (ISI Group)

The first mention of China concerns in the FOMC minutes:
“The main factors cited as underlying the elevated uncertainty about economic outcomes were the ongoing fiscal and financial situation in Europe, the outlook for fiscal policy in the United States, and a general slowdown in global economic growth, including the possibility of a significant slowdown in China.”

And you know things are bad in the Developed Markets when Japan is your positive surprise…
@kevindepew: Surprise. Of 6 Citi Economic Surprise Indexes, this is the only country in positive territory.

Europe remains in the spotlight…

@aliceemross: SocGen has asked 6,700 clients at what level they’d buy the euro. Corporates: $1.17. Real money and corporates: $1.15. Hedge funds: $1.05.

For Greece, the German’s are about to turn the clock to midnight…
Completely dependent on bailout payments to keep its finances from collapsing, Greece is losing ever more support where it counts the most: in Germany. According to the latest poll, 61% of Germans reject giving Greece and other bailed out countries more time to solve their problems. They’ve had enough of the broken promises. They’ve become so bitter about the whole process that, according to another poll, 58% of Germans want their Deutsche Mark back, up from 39% in 2010. (TestosteronePit)

As for Spain, the Gov’ts reform plan is completely insufficient…
Spain is supposed to cut its deficit to the 3% range. It is closer to 9% now. A 6% GDP cut in one year will reduce tax revenues more than forecast, so the deficit will be worse than forecast, therefore requiring more spending cuts and taxes to be raised… Spain is now over the 7% level for its 10-year debt. Its two-year bond is now at 4.5%. Spain cannot even switch to short-term funding to relieve its debt pressure. It will soon lose access to the bond market at any price less than 10%, which is totally unsustainable. While Spain is not Greece, as the causes of its problems are very different, the result is the same. Too much debt means the loss of bond-market access. Spain will soon need a major bailout. And that will come – it MUST come – with defaults on at least a portion of the debt. The default may have another name, like “restructuring”; but bond holders will not get what they thought they were buying. Call it what you will, this will be default. Spain simply cannot service the debt it must take on.

Too many structural issues that need to be dealt with first…
After Cyprus, Spain ties with Malta for the most public holidays (14) in Europe. The Spanish Workers’ Statute also guarantees 22 days of paid vacation annually, 15 days to get married and two to four days when anyone in an employee’s family has a wedding, birth, hospitalization, or death…Sick employees can get most or all of their wages for 18 consecutive months if they have a doctor’s note. An employer could opt to fire chronically ill employees—and pay up to 24 months of guaranteed severance. (WSJ)


Raising energy and VAT taxes significantly in a country with 50%+ youth unemployment will not end well. You need to attract multinational employers plus their capital and grow private sector jobs immediately. Scrap the plan that you released a week ago and draw up a new one that will grow GDP, not shrink it.


As for the markets this week, here were the most interesting movers:

  • Gasoline/UGA +3.7%
  • Natural Gas/UNG +3.5%
  • Oil/USO +3.1%
  • Mexico/EWW +2.2%
  • Germany/EWG +1.7%
  • Financials/XLF +1.6% (thanks JPM)
  • Agriculture/DBA +1.6%
  • Large Cap/SPY +0.2% > Small Cap/IWM -0.7% > Nasdaq100/QQQ -1.0%
  • Semis/SMH -3.3% (tough week for earnings/news)
  • China/FXI -4.2%
  • Gold Miners/GDX -4.8%

Now that is a lot of drought…

Ranchers are suffering which means carnivores will be paying up in 12 months…
Ranchers say they are reducing their herds and selling their cattle months ahead of schedule to avoid the mounting losses of a drought that now stretches across a record-breaking 1,016 American counties. Irrigation ponds are shriveling to scummy puddles. Their pastures are brown and barren. And they say the prices of hay and other feed are soaring beyond their reach…“If we’re running out of grass and we’re not growing enough feed crops to feed them the other six months of the year, what do you do?” asked R. Scott Barrows, director of Kansas State University’s Golden Prairie District extension office. “You liquidate.”…On a normal summer Wednesday, the Torrington Livestock Markets would be quiet, and cows and their calves would be out on waving fields of buffalo grass, gaining weight for the autumn. But it is doing four times as much early-season business as usual, driven by parched conditions. Last month, 17,144 head of cattle were auctioned off, compared with 3,336 in June 2011. (NYTimes)

And with corn at $7+ a bushel, shouldn’t the U.S. consider E-ZERO???
Intended as an additive to gasoline, ethanol in modern times was meant to stretch America’s fuel supplies, much as a cook uses chicken stock to increase the volume of a soup. By federal mandate, ethanol makes up about 10 % of most fuel that motorists buy at the pump.
Unfortunately for ethanol makers, Americans are driving fewer miles and upgrading to more efficient cars — or to continue the analogy, eating less soup…So ethanol makers want to change the longstanding recipe, trying to persuade gas stations and motorists to buy fuel that is 15% ethanol, or E15. And here, between a transmission shop and a Western clothing retailer, the first service station in the nation to offer the new blend for regular cars has just begun sales. (NYTimes)

Hey Oakbrook, want to make friends with thousands of fisherman in the Northeast?…McLobster Roll
Before sunrise last Monday, in a parking lot by the water in Winter Harbor, Maine, a gathering of lobstermen came to a rare consensus: prices were too low to go fishing… Prices at the dock have fallen to as low as $1.25 a pound in some areas—roughly 70% below normal and a nearly 30-year-low for this time of year, according to fishermen, researchers and officials. The reason: an unseasonably warm winter created a supply glut throughout the Atlantic lobster fishery… “Anything under $4 [a pound], lobstermen can’t make any money,” said Bill Adler, head of the Massachusetts Lobstermen’s Association, which publishes a weekly report on lobster prices in the U.S. and Canada. (WSJ)

New grocery entrants have become a force to be reckoned with…just ask Supervalu
Groceries accounted for 55% of Wal-Mart’s $264.2 billion in U.S. sales in the year ended Jan. 31, 2012, up from 41% just four years ago. This year, the world’s largest retailer invested $1 billion to lower food prices…Target sells a full assortment of groceries only in its 250 Super Target stores, but fresh and expanded frozen food sections are now in 75% of the chain. Food accounted for 19% of Target’s $68 billion in sales in 2011, up from 16% in 2009. (WSJ)

Meanwhile, Amazon is going for every retailer’s jugular with local, same day delivery…
Amazon is seizing the opportunity to expand its network of U.S. warehouses – it had 34 at the end of last year – so it can place its merchandise nearer to big markets and offer same-day delivery to more consumers. That will erode one of the last advantages of the physical store: instant gratification. If someone needs a pack of nappies, a mobile phone charger, or bottle of cough medicine this evening, the only way to get them immediately is to go to a local store such as Wal-Mart, Best Buy, or Target, which all helped fund the anti-Amazon lobbying. But if Amazon can deliver to work or home in three or four hours – and at little or no shipping cost to the consumer – then why bother with the store? (FT)

2011 Ad Revenues:
All U.S. Newspapers = $23.9 billion. Google = $36.4 billion.

“Most newspapers are in a place right now that they are going to have to make big cuts somewhere, and big seams are bound to show up at some point,” said Rick Edmonds, a media business analyst at the Poynter Institute. Some of the bigger cracks can’t be papered over by financial engineering. Hedge funds, which thought they had bought in at the bottom, are scrambling for exits that don’t exist. Many newspaper companies are hugely overburdened with debt from ill-timed purchases. And though it is far less discussed, newspapers are being clobbered by paltry returns on underfunded pension plans. Two highly placed newspaper executives told me last week that while the industry had already experienced a number of strategic bankruptcies, more will most likely take place to deal with pension obligations. As Mike Simonton of Fitch Ratings pointed out to me, very few bond investors are even willing to lend to papers. He said the pension obligations “represent a call on capital at a time when newspapers desperately need to deploy capital toward evolving their business models and adapting to the digital world.” (NYTimes)

The newest contestant on “The Biggest (Corporate) Loser” is…Procter & Gamble!

An interesting market anomaly…Own the market the day before a Fed announcement

Liberty Street Economics
A demographic chart to make pension fund fiduciaries reach for the Pepto-Bismol…

Maybe California should create a second bullet train to connect all of its bankrupt cities…
“Although we do not see a domino effect, the quickness exhibited by Stockton and San Bernardino in pulling the Chapter 9 trigger seems to indicate a diminishing stigma of bankruptcy, a troubling trend,” wrote Alan Schankel of Janney Montgomery Scott. On Friday, Warren Buffett said that reduced stigma makes other municipal bankruptcies more likely. The Stockton filing, the first of the trio, particularly got the market’s attention because the city is trying to force bondholders to accept losses. A cornerstone of municipal-bond investing’s perceived safety is that local governments will cut jobs and services to the bone before imposing losses on bondholders. All three cities were felled, in whole or in part, by declining property-tax revenue and hefty public-employee pension burdens. (Barrons)

Tweets of the Week:

  • @GSElevator: #1: The best indicator of a China slowdown is the improvement in the air quality in Hong Kong.
  • @bastiatsociety: The German tax code is 500 pages long. The U.S. tax code… 73,000.
  • @Gartenberg: A yellow legal pad and pencil also compares well to iPad in terms of battery life.

Creating value and happiness from several buckets of paint…

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.

In the event that you missed a past Research Briefing, here is the archive…

361 Capital Research Briefing Archive


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