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Brian S. Wesbury, Chief Economist
Robert Stein, Deputy Chief Economist
The trade deficit in goods and services came in at $51.4 billion in March, much larger than the consensus expected $41.7 billion.
Exports increased by $1.6 billion in March, led by autos, nonmonetary gold and civilian aircraft. Imports rose by $17.1 billion, led by autos, cell phones & other household goods.
In the last year, exports are down 3.3% while imports are up 0.9%.
The monthly trade deficit is $8.6 billion larger than a year ago. Adjusted for inflation, the “real” trade deficit in goods is $16.7 billion larger than a year ago. This “real” change is the trade indicator most important for measuring real GDP.
Implications: This is what happens when a major port strike comes to an end. The trade deficit in goods and services surged in March as imports increased by $17.1 billion, the largest monthly increase ever recorded going back to 1992. The West Coast port strikes ended in late February, and all the ships sitting for weeks, some for months, out in the Pacific were finally unloaded, causing a huge short-term surge in imports. The total number of inbound containers rose 32% from a year ago at the Port of Los Angeles and 42% at the Port of Long Beach. Because imports are a negative in GDP statistics, it now looks like real GDP declined in Q1 at about a 0.5% annual rate, a downward revision from the first estimate of +0.2% growth. Obviously a contraction in real GDP is not good news. But, like last year’s contraction at a -2.1% annual rate in the first quarter, this is not something to worry about. In the first quarter of 2014, the problem was the weather. This year, it was a combination of weather, the port strikes, and a rapid drop in exploration and drilling for energy due to lower oil prices. But all of these effects are temporary and we expect a rebound, just like last year. Looking past month-to-month volatility, the trade deficit has been relatively stable over the past few years, with a smaller trade deficit in oil and a slightly larger deficit in other goods, powered by growing purchasing power among US consumers and businesses. We expect to revert to this trend in the year ahead.
RESEARCHERS WORKING with the Central Intelligence Agency have conducted a multi-year, sustained effort to break the security of Apple’s iPhones and iPads, according to top-secret documents obtained by The Intercept.
The security researchers presented their latest tactics and achievements at a secret annual gathering, called the “Jamboree,” where attendees discussed strategies for exploiting security flaws in household and commercial electronics. The conferences have spanned nearly a decade, with the first CIA-sponsored meeting taking place a year before the first iPhone was released.
By targeting essential security keys used to encrypt data stored on Apple’s devices, the researchers have sought to thwart the company’s attempts to provide mobile security to hundreds of millions of Apple customers across the globe. Studying both “physical” and “non-invasive” techniques, U.S. government-sponsored research has been aimed at discovering ways to decrypt and ultimately penetrate Apple’s encrypted firmware. This could enable spies to plant malicious code on Apple devices and seek out potential vulnerabilities in other parts of the iPhone and iPad currently masked by encryption.
The CIA declined to comment for this story.
The security researchers also claimed they had created a modified version of Apple’s proprietary software development tool, Xcode, which could sneak surveillance backdoors into any apps or programs created using the tool. Xcode, which is distributed by Apple to hundreds of thousands of developers, is used to create apps that are sold through Apple’s App Store.
The modified version of Xcode, the researchers claimed, could enable spies to steal passwords and grab messages on infected devices. Researchers also claimed the modified Xcode could “force all iOS applications to send embedded data to a listening post.” It remains unclear how intelligence agencies would get developers to use the poisoned version of Xcode.
Researchers also claimed they had successfully modified the OS X updater, a program used to deliver updates to laptop and desktop computers, to install a “keylogger.”
Other presentations at the CIA conference have focused on the products of Apple’s competitors, including Microsoft’s BitLocker encryption system, which is used widely on laptop and desktop computers running premium editions of Windows.
The revelations that the CIA has waged a secret campaign to defeat the security mechanisms built into Apple’s devices come as Apple and other tech giants are loudly resisting pressure from senior U.S. and U.K. government officials to weaken the security of their products. Law enforcement agencies want the companies to maintain the government’s ability to bypass security tools built into wireless devices. Perhaps more than any other corporate leader, Apple’s CEO, Tim Cook, has taken a stand for privacy as a core value, while sharply criticizing the actions of U.S. law enforcement and intelligence agencies.
“If U.S. products are OK to target, that’s news to me,” says Matthew Green, a cryptography expert at Johns Hopkins University’s Information Security Institute. “Tearing apart the products of U.S. manufacturers and potentially putting backdoors in software distributed by unknowing developers all seems to be going a bit beyond ‘targeting bad guys.’ It may be a means to an end, but it’s a hell of a means.”
Apple declined to comment for this story, instead pointing to previous comments Cook and the company have made defending Apple’s privacy record.
SECURITY RESEARCHERS from Sandia National Laboratories presented their Apple-focused research at a secret annual CIA conference called the Trusted Computing Base Jamboree. The Apple research and the existence of the conference are detailed in documents provided to The Intercept by National Security Agency whistleblower Edward Snowden.
The conference was sponsored by the CIA’s Information Operations Center, which conducts covert cyberattacks. The aim of the gathering, according to a 2012 internal NSA wiki, was to host “presentations that provide important information to developers trying to circumvent or exploit new security capabilities,” as well as to “exploit new avenues of attack.” NSA personnel also participated in the conference, through the NSA’s counterpart to the CIA’s Trusted Computing Base, according to the document. The NSA did not provide comment for this story.
The Jamboree was held at a Lockheed Martin facility inside an executive office park in northern Virginia. Lockheed is one of the largest defense contractors in the world; its tentacles stretch into every aspect of U.S. national security and intelligence. The company is akin to a privatized wing of the U.S. national security state — more than 80 percent of its total revenue comes from the U.S. government. Lockheed also owns Sandia Labs, which is funded by the U.S. government, whose researchers have presented Apple findings at the CIA conference.
“Lockheed Martin’s role in these activities should not be surprising given its leading role in the national surveillance state,” says William Hartung, director of the Arms and Security Project at the Center for International Policy and author of Prophets of War, a book that chronicles Lockheed’s history. “It is the largest private intelligence contractor in the world, and it has worked on past surveillance programs for the Pentagon, the CIA and the NSA. If you’re looking for a candidate for Big Brother, Lockheed Martin fits the bill.”
The Apple research is consistent with a much broader secret U.S. government program to analyze “secure communications products, both foreign and domestic” in order to “develop exploitation capabilities against the authentication and encryption schemes,” according to the 2013 Congressional Budget Justification. Known widely as the “Black Budget,” the top-secret CBJ was provided to The Intercept by Snowden and gives a sprawling overview of the U.S. intelligence community’s spending and architecture. The White House did not respond to a request for comment.
As of 2013, according to the classified budget, U.S. intelligence agencies were creating new capabilities against dozens of commercially produced security products, including those made by American companies, to seek out vulnerabilities.
Last week, CIA Director John Brennan announced a major reorganization at the agency aimed, in large part, at expanding U.S. cyber-operations. The Information Operations Center, which organized the Jamboree conferences, will be folded into a new Directorate of Digital Innovation. Notwithstanding its innocuous name, a major priority of the directorate will be offensive cyberattacks, sabotage and digital espionage. Brennan said the CIA reorganization will be modeled after the agency’s Counterterrorism Center, which runs the U.S. targeted killing and drone program.
THE DOCUMENTS do not address how successful the targeting of Apple’s encryption mechanisms have been, nor do they provide any detail about the specific use of such exploits by U.S. intelligence. But they do shed light on an ongoing campaign aimed at defeating the tech giant’s efforts to secure its products, and in turn, its customers’ private data.
“Spies gonna spy,” says Steven Bellovin, a former chief technologist for the U.S. Federal Trade Commission and current professor at Columbia University. “I’m never surprised by what intelligence agencies do to get information. They’re going to go where the info is, and as it moves, they’ll adjust their tactics. Their attitude is basically amoral: whatever works is OK.”
Bellovin says he generally supports efforts by U.S. intelligence to “hack” devices — including Apple’s — used by terrorists and criminals, but expressed concern that such capabilities could be abused. “There are bad people out there, and it’s reasonable to seek information on them,” he says, cautioning that “inappropriate use — mass surveillance, targeting Americans without a warrant, probably spying on allies — is another matter entirely.”
In the top-secret documents, ranging from 2010 through 2012, the researchers appear particularly intent on extracting encryption keys that prevent unauthorized access to data stored — and firmware run — on Apple products.
“The Intelligence Community (IC) is highly dependent on a very small number of security flaws, many of which are public, which Apple eventually patches,” the researchers noted in an abstract of their 2011 presentation at the Jamboree. But, they promised, their presentation could provide the intelligence community with a “method to noninvasively extract” encryption keys used on Apple devices. Another presentation focused on physically extracting the key from Apple’s hardware.
A year later, at the 2012 Jamboree, researchers described their attacks on the software used by developers to create applications for Apple’s popular App Store. In a talk called “Strawhorse: Attacking the MacOS and iOS Software Development Kit,” a presenter from Sandia Labs described a successful “whacking” of Apple’s Xcode — the software used to create apps for iPhones, iPads and Mac computers. Developers who create Apple-approved and distributed apps overwhelmingly use Xcode, a free piece of software easily downloaded from the App Store.
The researchers boasted that they had discovered a way to manipulate Xcode so that it could serve as a conduit for infecting and extracting private data from devices on which users had installed apps that were built with the poisoned Xcode. In other words, by manipulating Xcode, the spies could compromise the devices and private data of anyone with apps made by a poisoned developer — potentially millions of people. “Trying to plant stuff in Xcode has fascinating implications,” says Bellovin.
The researchers listed a variety of actions their “whacked” Xcode could perform, including:
— “Entice” all Mac applications to create a “remote backdoor” allowing undetected access to an Apple computer.
— Secretly embed an app developer’s private key into all iOS applications. (This could potentially allow spies to impersonate the targeted developer.)
— “Force all iOS applications” to send data from an iPhone or iPad back to a U.S. intelligence “listening post.”
— Disable core security features on Apple devices.
THE INTELLIGENCE COMMUNITY IS HIGHLY DEPENDENT ON A VERY SMALL NUMBER OF SECURITY FLAWS, MANY OF WHICH ARE PUBLIC, WHICH APPLE EVENTUALLY PATCHES.
For years, U.S. and British intelligence agencies have consistently sought to defeat the layers of encryption and other security features used by Apple to protect the iPhone. A joint task force comprised of operatives from the NSA and Britain’s Government Communications Headquarters, formed in 2010, developed surveillance software targeting iPhones, Android devices and Nokia’s Symbian phones. The Mobile Handset Exploitation Team successfully implanted malware on iPhones as part of WARRIOR PRIDE, a GCHQ framework for secretly accessing private communications on mobile devices.
That program was disclosed in Snowden documents reported on last year by The Guardian. A WARRIOR PRIDE plugin called NOSEY SMURF allowed spies to remotely and secretly activate a phone’s microphone. Another plugin, DREAMY SMURF, allowed intelligence agents to manage the power system on a phone and thus avoid detection. PARANOID SMURF was designed to conceal the malware in other ways. TRACKER SMURF allowed ultra-precise geolocating of an individual phone. “[If] its [sic] on the phone, we can get it,” the spies boasted in a secret GCHQ document describing the targeting of the iPhone.
All of the SMURF malware — including the plugin that secretly turns on the iPhone’s microphone — would first require that agencies bypass the security controls built into the iOS operating system. Spies would either need to hack the phone in order to plant their malware on it, or sneak a backdoor into an app the user installed voluntarily. That was one of the clear aims of the Apple-focused research presented at the CIA’s conference.
“The U.S. government is prioritizing its own offensive surveillance needs over the cybersecurity of the millions of Americans who use Apple products,” says Christopher Soghoian, the principal technologist at the American Civil Liberties Union. “If U.S. government-funded researchers can discover these flaws, it is quite likely that Chinese, Russian and Israeli researchers can discover them, too. By quietly exploiting these flaws rather than notifying Apple, the U.S. government leaves Apple’s customers vulnerable to other sophisticated governments.”
Security experts interviewed by The Intercept point out that the SMURF capabilities were already available to U.S. and British intelligence agencies five years ago. That raises the question of how advanced the current capacity to surveil smartphone users is, especially in light of the extensive resources poured into targeting the products of major tech companies. One GCHQ slide from 2010 stated that the agency’s ultimate goal was to be able to “Exploit any phone, anywhere, any time.”
THE FIRST JAMBOREE took place in 2006, just as Apple was preparing to unveil its highly-anticipated iPhone. In March 2010, according to a top-secret document, during a talk called “Rocoto: Implanting the iPhone,” a presenter discussed efforts to target the iPhone 3G. In addition to analyzing the device’s software for potential vulnerabilities, the presentation examined “jailbreak methods,” used within the iPhone community to free phones from their built-in constraints, that could be leveraged by intelligence agencies. “We will conclude with a look ahead at future challenges presented by the iPhone 3GS and the upcoming iPad,” the abstract noted. Over the years, as Apple updates its hardware, software and encryption methods, the CIA and its researchers study ways to break and exploit them.
The attempts to target vulnerabilities in Apple’s products have not occurred in a vacuum. Rather, they are part of a vast multi-agency U.S./U.K. effort to attack commercial encryption and security systems used on billions of devices around the world. U.S. intelligence agencies are not just focusing on individual terrorists or criminals — they are targeting the large corporations, such as Apple, that produce popular mobile devices.
“Every other manufacturer looks to Apple. If the CIA can undermine Apple’s systems, it’s likely they’ll be able to deploy the same capabilities against everyone else,” says Green, the Johns Hopkins cryptographer. “Apple led the way with secure coprocessors in phones, with fingerprint sensors, with encrypted messages. If you can attack Apple, then you can probably attack anyone.”
According to the Black Budget, U.S. intelligence agencies have tech companies dead in their sights with the aim of breaking or circumventing any existing or emerging encryption or antiviral products, noting the threat posed by “increasingly strong commercial” encryption and “adversarial cryptography.”
The Analysis of Target Systems Project produced “prototype capabilities” for the intelligence community, enabled “the defeat of strong commercial data security systems” and developed ways “to exploit emerging information systems and technologies,” according to the classified budget. The project received $35 million in funding in 2012 and had more than 200 personnel assigned to it. By the end of 2013, according to the budget, the project would “develop new capabilities against 50 commercial information security device products to exploit emerging technologies,” as well as new methods that would allow spies to recover user and device passwords on new products.
Among the project’s missions:
— Analyze “secure communications products, both foreign and domestic produced” to “develop exploitation capabilities against the authentication and encryption schemes.”
— “[D]evelop exploitation capabilities against network communications protocols and commercial network security products.”
— “Anticipate future encryption technologies” and “prepare strategies to exploit those technologies.”
— “Develop, enhance, and implement software attacks against encrypted signals.”
— “Develop exploitation capabilities against specific key management and authentication schemes.”
— “[D]evelop exploitation capabilities against emerging multimedia applications.”
— Provide tools for “exploiting” devices used to “store, manage, protect, or communicate data.”
— “Develop methods to discover and exploit communication systems employing public key cryptography” and “communications protected by passwords or pass phrases.”
— Exploit public key cryptography.
— Exploit Virtual Private Networks, or VPNs, which allow people to browse the Internet with increased security and anonymity.
The black budget also noted that the U.S. intelligence community partners with “National Laboratories” to conduct the type of research presented at the CIA’s annual Jamboree conference. It confirms the U.S. government’s aggressive efforts to steal encryption and authentication keys, as occurred in the NSA and GCHQ operations against Gemalto, the world’s largest manufacturer of SIM cards, through the use of Computer Network Exploitation attacks. In that case, spy agencies penetrated Gemalto’s internal networks and cyberstalked its employees to steal mass quantities of keys used to encrypt mobile phone communications.
The CIA’s Information Operations Center is currently the second largest of the spy agency’s specialized centers. It not only conducts cyber-ops, but has operated covertly in other nations, working to develop assets from targeted countries to assist in its cyber-surveillance programs, according to the Black Budget. At times, its personnel brief the president.
AT THE CIA’s Jamboree in 2011, the computer researchers conducted workshops where they revealed the specifics of their efforts to attack one of the key privacy elements of Apple’s mobile devices. These machines have two separate keys integrated into the silicon of their Apple-designed processors at the point of manufacture. The two, paired together, are used to encrypt data and software stored on iPhones and iPads. One, the User ID, is unique to an individual’s phone, and is not retained by Apple. That key is vital to protecting an individual’s data and — particularly on Apple’s latest devices — difficult to steal. A second key, the Group ID, is known to Apple and is the same across multiple Apple devices that use the same processor. The GID is used to encrypt essential system software that runs on Apple’s mobile devices.
The focus of the security researchers, as described at the CIA conferences, was to target the GID key, which Apple implants on all devices that use the same processors. For instance, Apple’s A4 processor was used in the iPhone 4, the iPod Touch and the original iPad. All of those devices used the same GID. As Apple designs new processors and faster devices that use those processors, the company creates new GIDs. If someone has the same iPhone as her neighbor, they have the exact same GID key on their devices. So, if intelligence agencies extract the GID key, it means they have information useful to compromising any device containing that key.
At the 2011 Jamboree conference, there were two separate presentations on hacking the GID key on Apple’s processors. One was focused on non-invasively obtaining it by studying the electromagnetic emissions of — and the amount of power used by — the iPhone’s processor while encryption is being performed. Careful analysis of that information could be used to extract the encryption key. Such a tactic is known as a “side channel” attack. The second focused on a “method to physically extract the GID key.”
Whatever method the CIA and its partners use, by extracting the GID — which is implanted on the processors of all Apple mobile devices — the CIA and its allies could be able to decrypt the firmware that runs on the iPhone and other mobile devices. This would allow them to seek out other security vulnerabilities to exploit. Taken together, the documents make clear that researching each new Apple processor and mobile device, and studying them for potential security flaws, is a priority for the CIA.
According to the 2011 document describing the Jamboree presentations on Apple’s processor, the researchers asserted that extracting the GID key could also allow them to look for other potential gateways into Apple devices. “If successful, it would enable decryption and analysis of the boot firmware for vulnerabilities, and development of associated exploits across the entire A4-based product-line, which includes the iPhone 4, the iPod touch and the iPad.”
At the CIA conference in 2012, Sandia researchers delivered a presentation on Apple’s A5 processor. The A5 is used in the iPhone 4s and iPad 2. But this time, it contained no abstract or other details, instructing those interested to contact a CIA official on his secure phone or email.
“If I were Tim Cook, I’d be furious,” says the ACLU’s Soghoian. “If Apple is mad at the intelligence community, and they should be, they should put their lawyers to work. Lawsuits speak louder than words.”
FOR YEARS, Apple has included encryption features in the products it sells to consumers. In 2014, the company dramatically broadened the types of data stored on iPhones that are encrypted, and it incorporated encryption by default into its desktop and laptop operating system. This resulted in criticism from leading law enforcement officials, including the FBI director. The encryption technology that Apple has built into its products — along with many other security features — is a virtual wall that separates cybercriminals and foreign governments from customer data. But now, because Apple claims it can no longer extract customer data stored on iPhones, because it is encrypted with a key the company does not know, the U.S. government can be locked out too — even with a search warrant. The FBI director and other U.S. officials have referred to the advent of the encryption era — where previously accessible data and communications may now be off limits because of the security technology protecting them — as “going dark.”
In the face of this rising challenge to its surveillance capabilities, U.S. intelligence has spent considerable time and resources trying to find security vulnerabilities in Apple’s encryption technology, and, more broadly, in its products, which can be leveraged to install surveillance software on iPhones and Macbooks. “The exploitation of security flaws is a high-priority area for the U.S. intelligence community, and such methods have only become more important as U.S. technology companies have built strong encryption into their products,” says the ACLU’s Soghoian.
Microsoft has, for nearly a decade, included BitLocker, an encryption technology that protects data stored on a computer, in its Windows operating system. Unlike Apple, which made encryption available to all customers, Microsoft had included this feature only in its more expensive premium and professional versions of Windows, up until a few years ago. BitLocker is designed to work with a Trusted Platform Module, a special security chip included in some computers, which stores the encryption keys and also protects against unauthorized software modification.
Also presented at the Jamboree were successes in the targeting of Microsoft’s disk encryption technology, and the TPM chips that are used to store its encryption keys. Researchers at the CIA conference in 2010 boasted about the ability to extract the encryption keys used by BitLocker and thus decrypt private data stored on the computer. Because the TPM chip is used to protect the system from untrusted software, attacking it could allow the covert installation of malware onto the computer, which could be used to access otherwise encrypted communications and files of consumers. Microsoft declined to comment for this story.
In the wake of the initial Snowden disclosures, Apple CEO Tim Cook has specifically denounced the U.S. government’s efforts to compel companies to provide backdoor access to their users’ data.
As corporations increasingly integrate default encryption methods and companies like Apple incorporate their own indigenous encryption technologies into easy-to-use text, voice and video communication platforms, the U.S. and British governments are panicking. “Encryption threatens to lead all of us to a very dark place,” declared FBI Director James Comey in an October 2014 lecture at the Brookings Institution. Citing the recent moves by Apple to strengthen default encryption on its operating systems, and commitments by Google to incorporate such tools, Comey said, “This means the companies themselves won’t be able to unlock phones, laptops, and tablets to reveal photos, documents, e-mail, and recordings stored within.”
Under current U.S. regulations, law enforcement agencies can get a court order to access communications channeled through major tech companies and wireless providers. But if those communications are encrypted through a process not accessible by any involved company, the data is essentially meaningless, garbled gibberish. “In a world in which data is encrypted, and the providers don’t have the keys, suddenly, there is no one to go to when they have a warrant,” says Soghoian. “That is, even if they get a court order, it doesn’t help them. That is what is freaking them out.”
Comey alleged that “even a supercomputer would have difficulty with today’s high-level encryption,” meaning a “brute force” attempt to decrypt intercepted communications would be ineffective, and, even if successful, time-consuming.
“Encryption isn’t just a technical feature; it’s a marketing pitch,” Comey added. “But it will have very serious consequences for law enforcement and national security agencies at all levels. Sophisticated criminals will come to count on these means of evading detection. It’s the equivalent of a closet that can’t be opened. A safe that can’t be cracked.”
A few months after Comey’s remarks, Robert Litt, the general counsel for the Office of the Director of National Intelligence, also appeared at Brookings. “One of the many ways in which Snowden’s leaks have damaged our national security is by driving a wedge between the government and providers and technology companies, so that some companies that formerly recognized that protecting our nation was a valuable and important public service now feel compelled to stand in opposition,” Litt said. He appealed to corporations to embrace “a solution that does not compromise the integrity of encryption technology but that enables both encryption to protect privacy and decryption under lawful authority to protect national security.”
Green, the Johns Hopkins professor, argues that U.S. government attacks against the products of American companies will not just threaten privacy, but will ultimately harm the U.S. economy. “U.S. tech companies have already suffered overseas due to foreign concerns about our products’ security,” he says. “The last thing any of us need is for the U.S. government to actively undermine our own technology industry.”
The U.S. government is certainly not alone in the war against secure communications. British Prime Minister David Cameron has suggested that if he is re-elected, he may seek to ban encrypted chat programs that do not provide backdoor access to law enforcement. “Are we going to allow a means of communications which it simply isn’t possible to read?” Cameron said in a speech in England earlier this year. “My answer to that question is: ‘No, we must not.’”
When the Chinese government recently tried to force tech companies to install a backdoor in their products for use by Chinese intelligence agencies, the U.S. government denounced China. “This is something that I’ve raised directly with President Xi,” President Obama said in early March. “We have made it very clear to them that this is something they are going to have to change if they are to do business with the United States.” But China was actually following the U.S. government’s lead. The FBI has called for an expansion of U.S. law, which would require Apple and its competitors to design their products so that all communications could be made available to government agencies. NSA officials have expressed similar sentiments.
“Obama’s comments were dripping with hypocrisy,” says Trevor Timm, executive director of the Freedom of the Press Foundation. “Don’t get me wrong, his actual criticism of China for attempting to force tech companies to install backdoors was spot on — now if only he would apply what he said to his own government. Since he now knows backdooring encryption is a terrible policy that will damage cybersecurity, privacy, and the economy, why won’t he order the FBI and NSA to stop pushing for it as well?”
Andrew Fishman, Alleen Brown, Andrea Jones, Ryan Gallagher, Morgan Marquis-Boire, and Micah Lee contributed to this story.
Some in Congress want to “Audit the Fed.” But an audit, unless the word is used in a very broad sense, would be redundant and basically irrelevant. The Fed is already audited, by Deloitte & Touche LLP and it releases an annual report that includes the auditor’s opinion, each year.
Wild-eyed conspiracy theories have cropped up that suggest the Fed may not actually own the bonds it says it does or that it pays too much to certain banks when buying them. But none of this is true; there is no evil accounting going on. In a financial sense the Fed is almost certainly squeaky clean. The Fed doesn’t need another audit, what it needs is more responsible and effective oversight from Congress, a smaller balance sheet and less ability to interfere with private business decisions.
The Fed has become the biggest financial entity in the world, with bond holdings that have ballooned to $4.25 trillion. Fed assets, six years after the Panic of 2008 ended, exceed the annual budget of the US government and are equal to 24% of GDP.
During the Great Depression, 1930-39, the Fed’s balance sheet averaged 13.2% of GDP. It peaked at the end of the Depression, in 1940, at 16% of GDP and then averaged 12.6% from 1941-45, during World War II. If the Great Depression and WWII didn’t require balance sheets as large as the current one, then something has gone terribly awry.
What’s interesting is that during the boom years of the 1980s and 1990s, the Fed’s balance sheet averaged 5.2% of GDP. So, it’s impossible to make the case that the Fed needs such a large balance sheet in order for the economy to create jobs with low inflation.
Lest we forget, Congress already has oversight of the Fed, and the past six years happened under its watch. Only a few members of Congress have enough knowledge of monetary policy to be effective at oversight. The same is true of voters. The Fed typically wins political battles because most people find monetary policy boring, complicated and difficult to grasp.
Nonetheless, the simple fact that the Fed is bigger, more powerful and more intrusive than ever imagined by any of its creators in Congress suggests that the Fed needs to answer more questions from more people. This does not mean the press, which has a conflict of interest, due to the fact that it wants access. Critical questioning risks losing access.
Moreover, the Fed is about to embark on a rate hiking campaign even though there are still excess reserves in the banking system. This has never been done before. Typically, the Fed makes reserves scarce in order to drive up interest rates.
But because the Fed wants a bigger balance sheet, it is trying to have its cake and eat it too. The Fed thinks it can pay banks more interest on those reserves and through a process of reverse repos drain money from the system. In other words, the Fed thinks that it can keep the balance sheet huge and manipulate interest rates even though the banking system is swimming in excess liquidity.
The Fed does have a back-up plan. If banks won’t let the Fed sop up those reserves, and instead they decide to lend them, potentially creating inflation or bubbles, the Fed believes it can use “Macro-Prudential Policy Tools” to manage the money multiplying process. Macro-prudential tools would allow the Fed to stop banks from lending, by raising capital standards, or by limiting growth in certain types of loans or by certain types of banks. And, it allows the Fed to expand its reach to “systemically important financial institutions” that could potentially include insurance companies, brokerages, money managers and even hedge funds.
It’s true that monetary policy should be independent of the political process. Whenever politicians take over the money supply, inflation results. But the corollary argument is just as important. Whenever bureaucrats take over the banking system, everything becomes political. Why? Because the bureaucrats are dependent on the politicians for their existence. The Fed must please enough members of Congress, and the right members, to keep new rules from passing that will limit its power.
The Fed missed the bubble in housing partly because Washington’s political mindset was focused on boosting homeownership any way it could. So, bubbles in politically-correct industries, like housing or green initiatives, are tolerated or even encouraged. Also, risk-taking in private decisions is discouraged because bank losses become political problems. In other words, the bigger and more powerful the Fed becomes, the more dependent it is on the political process.
The easiest way out of this mess is for Congress to force the Fed to sell its assets and limit the Fed’s power to bank oversight, not bank management and macro-prudential policy tools. Don’t audit the Fed, don’t create conspiracy theories, but reign in the overreach and force a smaller balance sheet. If we really want an independent Fed, make it smaller and less powerful. The bigger it gets, the more political, and less independent, it becomes.
Brian S. Wesbury, Chief Economist
The ISM manufacturing index declined to 52.9 in February from 53.5 in January, coming in slightly below the consensus expected level of 53.0. (Levels higher than 50 signal expansion; levels below 50 signal contraction.)
The major measures of activity were mostly lower in February, but all remain above 50, signaling growth. The production index fell to 53.7 from 56.5, while the employment index dropped to 51.4 from 54.1. The new orders index eased to 52.5 from 52.9. The supplier deliveries index rose to 54.3 from 52.9 in January.
The prices paid index was unchanged at 35.0 in February.
Implications: The ISM manufacturing index, which measures factory sentiment around the country, declined in February, but remained above 50 for a 21st consecutive month. Companies reported that the West Coast port strikes depressed activity and made it tougher for exporters to get their wares abroad. However, a labor agreement was reached late in the month and business should return to normal in the months ahead. We don’t believe the decline in the ISM index from 58.1 in August to the current reading of 52.9 is anything to worry about. The fundamentals of the economy have not changed in any significant way and we consider this normal volatility. According to the Institute for Supply Management, an overall index level of 52.9 is consistent with real GDP growth of 3.2% annually. This ISM-calculated relationship has over-estimated real GDP growth in the past several years, although mid-2014 real growth came close. As a result, we see today’s data as consistent with our forecast of a roughly 2% real GDP growth rate in Q1. On the inflation front, the prices paid index remained depressed at 35.0 in February, tied with January for the lowest level since April 2009. No major surprise here given the huge drop in energy prices since mid-2014. Although we still think inflation will move higher in the next couple of years, it’s going to be a long slog upward. The employment index dipped in February to 51.4, signaling continued growth, but at a slightly slower pace than recent months. Right now, we’re forecasting a nonfarm payroll gain of 253,000 in February, another solid month. Taken as a whole, this month’s report shows the Plow Horse continues to plod forward. In other news this morning, construction declined 1.1% in January, with a large drop in government projects and broad declines in commercial construction (particularly shopping centers/malls). These declines offset gains in new home building as well as manufacturing facilities.
Personal income increased 0.3% in January (+0.5% including revisions to prior months). The consensus expected a gain of 0.4%. Personal consumption declined 0.2% in January (-0.1% including revisions to prior months). The consensus expected a decline of 0.1%. Personal income is up 4.6% in the past year, while spending is up 3.6%.
Disposable personal income (income after taxes) increased 0.4% in January, was up 0.5% including revisions to prior months, and is up 4.4% from a year ago. The gain in January was led by private sector wages & salaries along with social security.
The overall PCE deflator (consumer prices) declined 0.5% in January but is up 0.2% versus a year ago. The “core” PCE deflator, which excludes food and energy, rose 0.1% in January and is up 1.3% in the past year.
After adjusting for inflation, “real” consumption increased 0.3% in January and is up 3.4% from a year ago.
Implications: Consumers are spending less money but getting more stuff. The total amount of consumer spending, in raw (nominal) dollar terms, dropped for the second consecutive month in January. However, due to the huge drop in energy prices, the smaller amount of dollars spent is translating into more purchases in inflation-adjusted terms. The PCE deflator, the Fed’s favorite measure of consumer inflation, fell 0.5% in January, the third consecutive decline. With the exception of the Panic back in late 2008, the drop in January was the steepest on record going back to 1959. Some analysts and investors might be concerned a rebound in overall inflation combined with continued softness in nominal spending will soon translate into weak real “inflation-adjusted” spending. But we think real spending will continue to trend upward. Payrolls are up more than three million in the past year while the number of hours per worker is up as well. As a result, private-sector wages & salaries are up a robust 5.5% in the past year. Total income – which also includes rents, small business income, dividends, interest, and government transfer payments – increased 0.3% in January and is up 4.6% in the past year, which is faster than the 3.6% gain in consumer spending. One part of the report we keep a close eye on is government redistribution. In the past year, government transfers to persons are up 5.9%, largely driven by Obamacare; Medicaid spending is up 11.8% versus a year ago. However, outside Medicaid, government transfers are up a more tepid 4.5% in the past year and unemployment compensation is at the lowest level since 2007. The bad news is that taken all together, government transfer payments – like Medicare, Medicaid, Social Security, disability, welfare, food stamps, and unemployment comp – don’t seem to be falling back to where they were prior to the Panic of 2008, when they were roughly 14% of income. In early 2010, they peaked at 18%. Now they are down to 17% but not falling any further. Redistribution hurts growth because it reallocates resources away from productive ventures. This is why we have a Plow Horse economy instead of a Race Horse economy.
Lots of investors likely are dealing with a nagging, cautious feeling about the U.S. stock market as major indexes continue to thunder higher. Stocks can’t go up forever, right?
In just one week, the bull-market rally for the S&P 500 will celebrate its sixth birthday from its post-financial crisis nadir. That’s a rare feat. Only three other bull markets have lived to see a seventh year since the World War II, and this one is pacing to be the largest by magnitude (211%), says S&P Capital IQ.
Don’t overthink it, says Savita Subramanian, equity and quantitative strategist at Bank of America Merrill Lynch. She offers up 10 reasons to stick with index funds like the SPDR S&P 500 (SPY) and the iShares Core S&P 500 (IVV):
1) Sentiment is far from euphoric. “Wall Street sentiment is at bearish extremes, with strategists recommending just a 52% stock allocation. When strategists have been as or more bearish in the past, the S&P 500 has gone up over the next 12 months 98% of the time, with avg. returns of 27%.”
2) Fund managers are close to 5% cash. “BofAML’s latest Global Fund Manager Survey suggests cash balances remain high
at 4.7%, still in “buy” territory and represent money waiting to be put to use.”
3) The Great Rotation hasn’t happened yet. “Since 2009, equities have seen less than $500bn in inflows, compared to over $900bn for bonds. The Great Rotation out of bonds into stocks has more to go.”
4) S&P is 60% less levered than at prior market peaks. “The S&P 500 has cut its leverage ratio to just above a third of its ‘00 and ‘07 levels.”
5) US corporates are awash in cash. “Unlike the US government or consumer, US corporates have delevered and are
flush with cash.”
6) Best income growth story around. “Nearly half of the S&P 500 pays a dividend yield above the 10-year Treasury yield, close to its 3-decade high, and the S&P 500 payout ratio sits near century lows.”
7) Valuations aren’t stretched. “The S&P is trading above average on P/E, which concerns investors. But on Price to Free Cash Flow, Price to Normalized Earnings—a more predictive valuation metric—and EV/EBITDA, the S&P 500 still looks attractive.”
8) US is the biggest innovator…and innovation adds alpha. “US R&D to GDP has been rising over time, and the US spends more on R&D than any other country including China. And R&D spenders typically outperform.”
9) Best-in-breed equity index. “US stocks trade at about a 10% premium to global equities, but in our view that premium
is warranted: the US has a higher ROE, lower beta, and has a significantly higher proportion of “B+ or Better” ranked stocks (stable earners) than global benchmarks.”
10) Lower oil and Global QE bode well for future earnings. “If lower oil prices and further easing from global central banks can stimulate global growth and reduce the risk of a global slowdown, we believe this is likely to more than offset much of the short-term hit to Energy profits.”
With all the focus on Europe in general and Greece in particular, it’s important to keep in mind that the US economy continues to move forward. After real GDP dropped in the first quarter of last year, some analysts were predicting another recession. By contrast, we said the drop was due to unusually harsh winter weather and the economy would rebound quickly.
And rebound it did. Real GDP grew at a 4.6% annual rate in the second quarter and a 5% rate in the third. On Friday, the government will report its initial estimate for real GDP growth in Q4 and we think the economy grew at a 3.3% annual rate. If we’re right, real GDP was up a Plow Horse 2.6% in 2014, slightly faster than the 2.3% pace the economy has averaged since the recovery started in 2009.
For 2015, we’re forecasting 2.7%. Some analysts are lifting their forecasts based on plummeting oil prices and Europe’s quantitative easing, while some might mark them down due to Greece. But these are all sideshows.
Lower oil prices may push up non-oil spending, but oil production will now expand more slowly. QE in Europe is not going to help boost growth; it’ll just stuff European banks with as many useless excess reserves as US banks hold already. And our exports to Greece are less than 0.01% of US GDP.
Instead, investors need to focus on the fundamentals that drive the economy, which haven’t changed. Monetary policy remains loose, tax rates are not going up (regardless of what President Obama said in his State of the Union address), and entrepreneurs are still innovating.
Below is our “add-em-up” forecast for Q4 real GDP.
Consumption: Auto sales increased at a 0.5% annual rate in Q4 while “real” (inflation-adjusted) retail sales outside the auto sector were up at a tepid 1.8% rate. But services make up about 2/3 of personal consumption and those were up at about a 4.5% rate. So it looks like real personal consumption of goods and services combined, grew at a 3.8% annual rate in Q4, contributing 2.6 points to the real GDP growth rate (3.8 times the consumption share of GDP, which is 68%, equals 2.6).
Business Investment: Business equipment investment and commercial construction were both unchanged in Q4. Factoring in R&D suggests overall business investment grew at a 0.8% rate, which should add 0.1 point to the real GDP growth rate (0.8 times the 13% business investment share of GDP equals 0.1).
Home Building: A 9% annualized gain in home building in Q4 will add about 0.3 points to real GDP (9 times the home building share of GDP, which is 3%, equals 0.3).
Government: Public construction projects continued to increase in Q4 while military spending picked up as well. As a result, it looks like real government purchases grew at a 1.1% annual rate in Q4, which should add 0.2 percentage points to real GDP growth (1.1 times the government purchase share of GDP, which is 18%, equals 0.2).
Trade: At this point, the government only has trade data through November, but the data so far suggest the “real” trade deficit in goods has gotten a little smaller. As a result, we’re forecasting that net exports add 0.1 point to the real GDP growth rate.
Inventories: After a weather-related lull in Q1, companies built inventories at a very rapid pace in Q2. Since, then that pace has neither slowed nor sped up further, meaning inventories are a net zero for GDP, neither adding nor subtracting.
The US government has expanded way too much in the past decade or so, which is why we have a Plow Horse economy rather than a Race Horse economy. But, even in this environment, the private sector still has room to grow. Not just in Q4, but in 2015 and likely beyond.
Presented below is our FAVORED STOCKS list for 2015. Last year’s list did exceptionally well, readily outperforming all major indices. These equities are regarded as good to high quality. Selections can be used for both investment and trading purposes.
FAVORED STOCKS LIST January 25, 2015
Actavis Plc (ACT)
American Express Co (AXP)
Amgen Inc (AMGN)
Apple Inc (AAPL)
Bank Of America Corp (BAC)
Baidu Inc (BIDU)
Biogen Idec Inc (BIIB)
Boeing Co (BA)
Caterpillar Inc (CAT)
Celgene Corp (CELG)
Cisco Systems Inc (CSCO)
Citigroup Inc (C)
Continental Resources Inc (CLR)
Deere & Co (DE)
Delta Air Lines Inc (DAL)
Dunkin Brands Group Inc (DNKN)
EOG Resources Inc (EOG)
Facebook Inc (FB)
FedEx Corp (FDX)
Gilead Sciences Inc (GILD)
Goldman Sachs Group Inc (GS)
Google Class C (GOOG)
Home Depot Inc (HD)
Intel Corp (INTC)
JP Morgan Chase And Co (JPM)
McDonald’s Corp (MCD)
Merk & Co (MRK)
Michael Kors Holdings, Ltd (KORS)
Nike Inc (NKE)
Oracle Corp (ORCL)
Pfizer Inc (PFE)
PPG Industries Inc (PPG)
Schlumberger NV (SLB)
Starbucks Corp (SBUX)
Union Pacific Corp (UNP)
United Continental Holdings Inc (UAL)
United Technologies Corp (UTX)
Walt Disney Co (DIS)
We highly recommend that investors and traders follow the Twitter feed of Fred W. Lange for actively updated market and stock information. The link to the Twitter Feed is www.twitter.com/fredwlange. Or follow @fredwlange.
As humorous as this sounds…..every last word of it is absolutely TRUE!
1. In order to insure the uninsured, we first have to uninsure the insured.
2. Next, we require the newly uninsured to be re-insured.
3. To re-insure the newly uninsured, they are required to pay extra charges to be re-insured.
4. The extra charges are required so that the original insured, who became uninsured, and then became re-insured, can pay enough extra so that the original uninsured can be insured, which will be free of charge to them.
This, ladies and gentlemen, is called “redistribution of wealth” … or, by its more common name, SOCIALISM.
Conventional wisdom focuses way too much on Federal Reserve policy.
Many believed that the world was coming to an end in 2008, only to be saved by the Fed and their QE policy. Those same people feared that the start of Fed tapering would bring the supposed sugar high to a crashing halt.
But quantitative easing is not what has lifted the stock market and it’s not what has driven the economy over the past five years.
As tapering has taken place, the economy has actually become stronger. The markets are up, initial jobless claims have declined, and the average duration of unemployment has fallen at the fastest pace on record.
Click Below To See This Important Video.
Click This Link For: Tapering Has Not Hurt The Economy Video Of Brian Wesbury, Top Economist.
Oil and gas entrepreneur T. Boone Pickens thinks international oil prices will stay high indefinitely—over $100 a barrel—despite recent declines in the futures market.
At the Investools 4th Annual Investor Education Conference in Dallas, Pickens reminded investors that OPEC’s largest producer, Saudi Arabia, needs oil prices to remain elevated in order to maintain its social spending programs; therefore, the Organization of the Petroleum Exporting Countries (OPEC) will simply reduce production whenever it must in order to keep prices high.
“Oil is not a free market. OPEC sets the price of oil,” Pickens told CNBC. “They can set the price because they produce 30 million barrels a day out of 92 million for the world…those 30 million barrels can be the swing factor.”
With respect to domestic crude prices, which are now trading at less than $100 a barrel thanks to plentiful U.S. supply, Pickens said he thinks West Texas Intermediate could continue to decline, but not without consequences.
“WTI will do the same thing natural gas did, when there was too much natural gas [on the market], price[s] came down. If the [domestic] oil price gets to $80 a barrel, rigs will shut down,” he said. “If it gets to $80 [it will] shut down West Texas.”
Pickens admitted that recent declines in crude prices took him off guard, especially given the ongoing violence in the Middle East. He said that it appears the world is looking at international tensions differently than it has in the past.
“I’ve been surprised at the market and have actually taken a loss on Brent and North Sea crude,” he said. “It seems like the world has accepted war in the Middle East. After a while investors say: ‘OK, that’s the way it’s going to be,’ and production hasn’t been cut off any place.”
According to Pickens, the U.S. can easily move away from higher priced OPEC oil and capitalize on North American resources.
“The U.S. is the largest user of oil in the world—18 million barrels,” he said. “We produce 8.5 million barrels, so we’re importing half of what we use.”
Pickens went on to explain that of the imports, half come from Canada and Mexico, while only a little less than 2 million barrels actually come from the Middle East. On a relative basis, that’s a small amount to find elsewhere, he said.
The U.S. is producing more of its own supply in recent years. In 1970, U.S. production peaked at 10 million barrels a day, but it declined over the next few decades to about 4.5 million barrels.
The U.S. will likely see domestic production spike further, Pickens said.”[Analysts] are saying that we could get up to 14 million barrels a day in 10 years, I think,” he said.
He also highlighted that the market didn’t foresee the potential for what could be produced at home, and that’s why the United States turned to the Middle East.
“We went to the Middle East because we thought that was where we were going to get oil, and it was a good decision…but what no one saw in the future was horizontal drilling. And there, you doubled your production. It was that simple,” he said.
Another way to move away from OPEC is to import more Canadian crude, he said. The politically and environmentally controversial Keystone Pipeline, owned by TransCanada, is one way to do that, Pickens said.
Pickens also shared some investing ideas within the energy sector. Asked about Master Limited Partnerships (MLPs)—limited partnerships that have specific tax benefits because they distribute most of their cash flow to investors—he suggested they should be considered by energy investors, raising the point that Kinder Morgan’s recent deal will urge others to look at how to unlock value.
Kinder Morgan announced this month that it will combine several energy units that previously traded separately, in a deal valued at $71 billion. The move in effect means abandoning the MLP structure, but resulted in a big spike in those separate units’ shares.
Within the energy sector, Pickens highlighted the oil producers as a subgroup that presents investor opportunity; he also said to expect consolidation in the industry. One name he still likes is Pioneer Natural Resources, because of its massive Texas acreage and its drilling capabilities.
—By CNBC’s Jackie DeAngelis.
July 28, 2014
Take your pick of these two jobs. You get to manage a $4+ trillion bond portfolio and have omnipotent control over banks and other financial institutions. Or, you can manage an $800 billion portfolio, control the level of the federal funds rate and manage some regulatory issues. Is this really a hard choice? Well, it certainly doesn’t seem to be for the Federal Reserve.
The Fed has seamlessly morphed from an institution that occasionally intervened in financial markets to a monster that apparently wants to control a great deal of the US financial system. Federal Reserve Board Chair, Janet Yellen, and her fellow central bankers, with virtually no pushback from Congress, are in the process of adopting an entirely new economic management technique called “macroprudential regulation.”
The definition of macroprudential regulation is hard to pin down. In short, it means managing systemic risks. This is done by regulating specific financial system behavior in an attempt to avoid cascading economic problems. The idea is that the Fed can reduce the risks of financial instability for the economy as a whole by regulating certain behaviors.
In practice, what this really means is that the Fed wants to run a monetary policy that it believes is appropriate for the economy as a whole – to keep unemployment low. But, if this overall monetary policy causes too much financial risk, the Fed wants to micro-manage that risk by deeming it a macro-risk. At its root, this is hypocritical.
Everyone knows that when the Fed holds rates too low, this encourages some investors to leverage up more than they would otherwise. For example, in 2004-05, the Fed held the federal funds rate at 1% which helped cause a bubble in housing. But, rather than raising rates at that point, the Fed wants to have the right to regulate home lending activity. It could do this in any number of ways, by raising the capital required by banks to make home loans or possibly putting a limit directly on certain types of loans. That’s macroprudential regulation.
In effect – and the Fed has argued this – the Fed blames banks for bubbles, not its strategy of holding interest rates artificially low. This is central planning to the second degree. The Fed wants to set rates first and then police the impact of those rates as if these decisions are not related.
This is a very dangerous precedent and it moves the US away from the free market while continuing to concentrate the power in the hands of the Fed. In a true free market, monetary policy should not be used to manage the economy. Rather, monetary policy should have one goal – to keep the value of the currency stable.
Unfortunately, as is true with all government institutions, the Fed is always looking to expand its influence and power. Remember when Rahm Emmanuel said, “never let a crisis go to waste.”? The Fed has taken this to heart. In the thirty years, between 1977 and 2007, its balance sheet (the monetary base) averaged 5.4% of US GDP. Today, it’s 22.4%. Never, in the history of the United States, outside of the military in World War II, has one government institution been so dominant.
And, under Janet Yellen, the Fed is making a steady, insistent and disciplined argument that growing the Fed’s power is necessary for economic stability. The Fed wants to keep its balance sheet large, hold interest rates low, and regulate banking activities. From a distance this behavior looks awfully like that of the Bank of China.
The alternative would be for the Fed to shrink its balance sheet, hold interest rates where economic fundamentals and the Taylor Rule suggest they should be, and have faith that the free market will police excessively risky behavior. But, the US has entered a new era of doubt about free markets.
This was pre-ordained when Congress passed the Troubled Asset Relief Plan (TARP) in October 2008 – a $700 billion slush fund for the government that was sold as a way to save the world from Wall Street. As President Bush later said, “[We] abandoned free market principles to save the free market system.”
But, by violating free market principles, politicians created conditions which allowed the Fed to justify regulation of the economy in new and broadly expansive ways. Republicans were always the defenders of free markets, but TARP signaled a new era. Now, because the GOP won’t say TARP was a mistake, it has no effective argument against the Fed grabbing more power.
What this means for the economy is that flawed economic models, combined with the very visible hand of regulation, are distorting economic activity and leading the US toward more politicized control of financial markets. What could keep the Fed from lowering capital requirements on clean energy and raising them on fossil fuels? After all, many argue that fossil fuels are destabilizing.
But even more dangerous is that the Fed will hold rates down at artificially low levels for long periods of time in order to bring unemployment back down, all the while believing it can control the risks of easy money by using macroprudential regulation tools.
There are many reasons to disagree with this policy, but the most important is that artificially low rates distort decision making. High-return businesses will lever up unnecessarily and probably show up as bubbles. But some low-return enterprises will wrongly assume that borrowing to expand is still profitable. If resources flow too heavily to low return businesses, the economy will be less efficient and have more danger of inflation.
When rates eventually rise, both these behaviors will be tested and perhaps crack. Rather than trying to figure out where dangerous leverage is being employed, the Fed should put rates at the correct level and keep the whole boom-bust process from happening in the first place.
Congress needs to push back hard against macroprudential regulation, but it’s highly doubtful they will because they don’t understand it. The Fed is expanding its mandate in massive and unprecedented ways. Who is going to stand up and say stop?
Brian S. Wesbury, Chief Economist
By Lorraine Luk
Apple Inc. is preparing for its largest initial production run of iPhones, betting that larger-screen models will lure consumers now attracted to similar phones from Samsung Electronics Co. and others.
The Cupertino, Calif., company is asking suppliers to manufacture 80 million units combined of two large-screen iPhones with 4.7-inch and 5.5-inch displays by Dec. 30, according to people familiar with the matter.
Its forecast for what is commonly called the iPhone 6 is significantly larger than the initial order last year of between 50 million and 60 million versions of the iPhone 5S and 5C–which had a display measuring 4-inches diagonally, these people said. Both of the coming models are expected to feature metal cases similar to the iPhone 5S and likely come in multiple colors, these people said.
Apple stuck with smaller displays on iPhones even as rival smartphone makers rolled out bigger screens and customers clamored for larger phones. Demand for larger-screen smartphones boosted Samsung, which started offering a 4.8-inch display in its Samsung Galaxy S models in 2012 and introduced an array of bigger phones.
Apple is scheduled to report its fiscal third-quarter results on Tuesday and provide a financial outlook for the current period ending Sept. 28. Historically, Apple has released a new iPhone in mid-September.
Analysts are forecasting Apple will report sales of about 35.9 million iPhone units for the three months ended June 30. That would be up about 15% from a year earlier.
For Apple, one possible hiccup with the larger screen is that display makers for the new iPhones are struggling to improve the production of the larger 5.5-inch screens, people familiar with the matter said. The production is complicated because the displays are using in-cell technology, which allows the screens to be thinner and lighter by integrating touch sensors into the liquid crystal display and making it unnecessary to have a separate touch-screen layer.
To factor in the possibility of a higher failure rate for displays, Apple has asked component makers to prepare for up to 120 million iPhones by year-end, the people familiar with the matter said. It made a similar request last year to prepare enough parts for a combined 90 million iPhones to provide some slack in its supply chain.
The 5.5-inch iPhone screen would face an additional manufacturing complication if it uses a cover using sapphire crystal, a more durable but costly alternative to glass, people familiar with the matter said.
Apple’s iPhone production forecast assumes a surge in demand from Apple’s partnership with China Mobile Ltd., the world’s largest carrier, which started offering the iPhone earlier this year. Bigger-screen smartphones are also popular in China and other emerging markets where the smartphone is replacing the personal computer as a main computing device.
As Apple competes against Google Inc.’s Android operating system, larger screens are now common in Apple’s core mobile market–high-price phones. In May, 98% of Android smartphones that sold globally at the equivalent of $400 or above featured a display greater than 5 inches, according to Counterpoint Research.
The new iPhones are coming to market as Samsung’s smartphone business is showing signs of sluggishness. Earlier this month, Samsung warned that its earnings would fall for a third straight quarter due to a glut of unsold smartphones. It is feeling the pinch in emerging markets where its low- to mid-end smartphones are facing intense price competition from rival Asian handset makers including Lenovo Group Ltd. and Xiaomi Inc.
Every year, Apple faces a delicate balancing act. It is critical for Apple to ensure that it has enough supplies of a new iPhone during the holiday season when demand is greatest. Shortages can often result in sales for its rivals, although too much inventory also is a concern.
Apple disappointed investors in last year’s December quarter when iPhone sales rose 7% from a year earlier, falling short of Wall Street expectations of a 15% increase as it struggled to fulfill demand for the 5S and failed to move enough 5C units. The slump proved temporary, with Apple reporting a 17% increase in the following quarter.
Michael Walkley, an analyst at Canaccord Genuity, said there is “strong pent-up demand” for the iPhone 6 because customers have held off on upgrading from older iPhone models.
To fulfill Apple’s demands, the company’s two main iPhone assemblers— Pegatron Corp. and Hon Hai Precision Industry Co., also known as Foxconn–are on a hiring binge at their respective manufacturing sites in China. Foxconn, for example, is hiring workers by the hundreds a day to staff production lines at their respective manufacturing sites in China, said people familiar with those companies.
Foxconn and Pegatron plan to start mass producing the 4.7-inch iPhone model next month and Hon Hai will begin making the 5.5-inch version exclusively in September, the people said.
Often, Apple’s production forecasts are adjusted based on early demand, according to people familiar with the matter. For example, Apple tweaked its initial forecasts for the iPhone 5S and iPhone 5C last year when the more expensive 5S initially sold better than expected and the 5C slumped in the first few months, these people said.
Apple Chief Executive Tim Cook has also warned that the supply chain is “very complex” and that it is impossible to take a data point from a supplier and extrapolate a broader meaning for Apple’s business.
Suppliers also say that Apple likes to build up inventory heading into the new year, because it is difficult to keep production lines humming at full capacity since many workers go home during Lunar New Year, which is in February next year.
Write to Lorraine Luk at firstname.lastname@example.org, Daisuke Wakabayashi at Daisuke.Wakabayashi@wsj.com and Eva Dou at email@example.com
The week that just concluded had it all. There were earnings results, economic data, a monetary policy report, M&A activity, calls for tax reform, geopolitical conflict, and volatility. It was a remarkable week, and when it was all said and done, it was another winning week for the S&P 500, which gained 0.5%.
The financial sector led the earnings reporting brigade and just about every major financial firm that reported assaulted their S&P Capital IQ consensus earnings per share estimates. To wit: Goldman Sachs (GS) beat by $1.04, BlackRock (BLK) beat by $0.43, Citigroup (C) beat by $0.17, JPMorgan Chase (JPM) beat by $0.16, and Bank of America (BAC) beat by $0.12. The aggregate response was favorable. The financial sector gained 1.0% for the week.
The only other sector that did better was the technology sector. It gained 1.6%, bolstered by impressive results from Intel (INTC) and Google (GOOG), and news of a partnership on made-for-business applications between Apple (AAPL) and IBM (IBM).
The economic reporting wasn’t quite as robust. The retail sales, industrial production, housing starts, building permits, leading indicators, and University of Michigan Consumer Sentiment reports all came in below expectations. There were some upbeat reports though, namely the Empire Manufacturing, NAHB Housing Market Index, Initial Claims, and Philadelphia Fed Index reports. In sum, it was a mixed week of economic reporting that didn’t alter the market’s thinking at all about the timing of the first hike in the fed funds rate.
On a related note, Fed Chair Yellen went before the Senate Banking and House Financial Service Committees on Tuesday and Wednesday, respectively, to deliver her semiannual testimony on the economy and monetary policy. Much of what she said had already been heard before by the market.
Briefly, she noted that the economy is getting better, but that it is still not on firm enough footing to raise rates. She conceded that a rate hike could occur sooner than expected if incoming data proved to be stronger than envisioned, but that, ultimately, any interest rate decision would be dependent on incoming data.
One thing Ms. Yellen did say that caused quite a stir was that “equity valuations of smaller firms as well as social media and biotechnology firms appear to be stretched.” That view got all of the talking heads worked up as it was likened to Alan Greenspan’s “irrational exuberance” speech in 1996. It did lead to some increased selling pressure in those respective spaces. The Russell 2000 ended the week down 0.7% while the iShares Nasdaq Biotechnology Index (IBB) declined 2.5%.
Once again, there was a good bit of M&A news this week. The featured item of the week on that front was a report that Time Warner (TWX) turned down an $80 bln buyout offer from 21st Century Fox (FOXA). The bookend to the week, though, was the news that Shire Pharmaceuticals (SHPG) finally accepted a $54 bln buyout proposal from AbbVie (ABBV). Separately, there was a call by Treasury Secretary Lew for Congress to pass legislation that prevents tax inversions in merger deals.
All of the corporate and economic news took a distant backseat to geopolitical developments on Thursday that included reports of new sanctions levied by the US against Russia, a Malaysian Air passenger jet being shot down by a surface-to-air missile over eastern Ukraine, and Israel launching a ground assault in Gaza. The confluence of those reports led to a 1.2% decline in the S&P 500, which marked the first 1.0% move on a closing basis for the blue-chip average in 62 sessions.
Thursday was a day riddled with uncertainty and the capital markets reflected as much. Gold prices went up, oil prices went up, longer-dated Treasury prices went up, stocks went down, and the CBOE Volatility Index soared 32% (albeit from a depressed base). There were more questions than answers, and with so much uncertainty, there was a broad-based profit-taking move in the stock market.
What fell apart on Thursday, though, was quickly put back together on Friday. Emboldened by a sense that worst-case scenarios would be avoided on all fronts, the stock market stormed back in a short-covering rally that saw all ten S&P 500 economic sectors trade higher. Friday’s trade quickly became the reverse image of Thursday. Gold prices went down, oil prices went down, longer-dated Treasury prices went down, stocks rallied, and the CBOE Volatility Index plummeted 16%.
The gains that were logged on Friday proved to be the difference that enabled the S&P 500 and Nasdaq Composite to finish the week higher. The Dow, which was up 0.2% for the week entering Friday, simply extended its gains and ended atop the leaderboard for the major indices. The Russell 2000, which was down as much as 2.5% for the week on Thursday, closed that gap with a big 1.6% gain on Friday.
Although US risk assets sustained a strong bounce on Friday, market participants will still be looking towards the Sunday political TV talk shows to see what the US response will be to the plane shootdown in Ukraine and the Israeli invasion of Gaza. Thus far, the US has given its support to Israel as long as it pursues its goals of shutting down the tunnel system underneath Israel’s border from Gaza. Regarding the plane, there seems to be a push within the market that says if the missile originated with Ukrainian rebels, Russian President Vladimir Putin will have ample cover to back away from his support of that movement. A cause for further concern would be if these two regional conflicts evolve into global crises, or if two global powers feel the need to duke it out even more.
The main economic event to be reported next week is June consumer price inflation. Due to recent increases in the annual rate of change for inflation, investors and policymakers have begun to think that the economy is improving faster than expected. If inflation were to rise in July, as expected, it would be the 13th straight month of increases. This author thinks that the inflation cycle is in its late stages and if the temporary factors that have been driving prices recently (utilities/energy, food, distributive services, medical services) continue to wane, inflation will fall back to 1.5% year-on-year. Gas prices rose 3.77% in June according to Bloomberg data, although other retail sources of gas prices did not rise to that extent and have since fallen sharply. A potential headwind is restaurant prices. Total retail sales fell in June on what appears to be large price cuts at restaurants looking to increase sales.
The other notable reports for the week are June new home sales and durable goods orders. New housing starts for June showed a surprisingly large drop in new home construction. Capital goods orders are expected to be very strong.
In the week ahead, the IMF will update is global economic outlook on Thursday. Last week, IMF Managing Director Christine Lagarde indicated that the outlook will be cut “slightly.” Said outlook was cut last month with the main downgrades targeting US growth. Another cut to US growth is expected. The most important global economic data report next week is the preliminary China private manufacturing PMI for July. Last month the index rose above 50 for the first time this year, signaling expansion in activity. Further expansion is expected this month — to 51.0 from 50.7 last month.
There is a bevy of earnings reports scheduled for next week as the reporting season kicks into high gear. The majority of financial companies reported last week, although a few regional banks remain, and tech will dominate the week ahead. Notable reports in tech include: Apple (NASDAQ:AAPL), Facebook (NASDAQ:FB), Netflix (NASDAQ:NFLX), Microsoft (NASDAQ:MSFT), Amazon (NASDAQ:AMZN), and Qualcomm (NASDAQ:QCOM). A number of staple companies such as Coca-Cola (NYSE:KO), AT&T (NYSE:T), Caterpillar (NYSE:CAT), General Motors (NYSE:GM), Ford (NYSE:F), and McDonald’s (NYSE:MCD) are also scheduled to report.
Monday, July 21
US Economics (Time Zone: EST)
08:30 Chicago Fed National Activity Index – expected 0.18, prior 0.21
11:00 Fed to purchase $1b-$1.25b bonds in 22-30 year range
11:30 Treasury to sell $26b 3-month bills and $24b 6-month bills
Global Economics (Time Zone: GMT)
04:30 JPY All Industry Activity Index
06:00 CHF Trade Balance
08:30 GBP Public Trade Balance
Suntrust Banks (STI)
Six Flags Entertainment (SIX)
Chipotle Mexican Grill (CMG)
Texas Instruments (TXN)
Tuesday, July 22
US Economics (Time Zone: EST)
08;30 Consumer Price Index YoY (June) – expected 2.1%, prior 2.1%
08:30 CPI Ex Food & Energy YoY – exp 2.0%, prior 2.0%
09:00 FHFA Home Price Index MoM (May) – exp 0.2%, prior 0.0%
10:00 Richmond Fed – exp 5, prior 3
10:00 Existing Home Sales (June) – exp 4.99M, prior 4.98M
11:30 Treasury to sell $25b 52-week bills, 4-week bills
Global Economics (Time Zone: GMT)
01:30 AUD CPI
08:30 GBP Boe Minutes
12:30 CAD Retail Sales
State Street (STT)
Lockheed Martin (LMT)
Electronic Arts (EA)
Discover Financial Services (DFS)
Regions Financial (RF)
Wednesday, July 23
US Economics (Time Zone: EST)
07:00 MBA Mortgage Apps
11:00 Fed purchasing $2.5b-$3.25b notes in 7 to 10-year range
10:00am Yellen (dove, chair) to give semi-annual testimony to House Committee
12:00pm Fisher (hawk, voter) speaks in Los Angeles
Global Economics (Time Zone: GMT)
NZD RBNZ Rate Decision
JPY Trade Balance
01:45 CNY HSBC Manufacturing PMI (July prelim)
08:00 EUR Eurozone Manufacturing & Services PMI
08:30 GBP Retail Sales
Dow Chemical (DOW)
General Dynamics (GD)
Delta Airlines (DAL)
EMC Corp (EMC)
Norfolk Southern (NSC)
Gilead Sciences (GILD)
F5 Networks (FFIV)
Tractor Supply Co (TSCO)
Etrade Financial (ETFC)
Sallie Mae (SLM)
Thursday, July 24
US Economics (Time Zone: EST)
08:30 Initial Jobless Claims, June 28, exp. 309k, prior 302k
08:30 Continuing Claims – exp 2513K, prior 2507k
09:45 Markit US Manufacturing PMI (July prelim) – exp 57.5, prior 57.3
10;00 New Home Sales (June) – exp 480K, prior 504K
11:00 Kansas City Fed – exp 6, prior 6
11:00 Fed to purchase $2b-$2.5b notes in 5 to 6-year range
1:00 Treasury selling $15b 10-year TIPS
1:35pm Bullard (hawk, nonvoter) speaks in Kentucky
Global Economics (Time Zone: GMT)
Japan Investors Purchases of Foreign Stocks/Bonds
06:00 EUR German GfK Consumer Confidence
08:00 EUR German IFO Current Assessment, Expectations
08:30 GBP GDP (2Q advance)
14:15 BoJ’s Kuroda to speak in Thailand
Cabot Oil & Gas (COG)
Cliffs Natural Resources (CLF)
Starwood Hotels & Resorts (HOT)
Noble Energy (NBL)
Union Pacific (UNP)
DR Horton (DHI)
General Motors (GM)
Southwest Airlines (LUV)
American Airlines (AAL)
Jetblue Airlines (JBLU)
Dunkin Brands (DNKN)
Friday, July 25
US Economics (Time Zone: EST)
08:30 Durable Goods Orders (June) – expected 0.5%, prior -1.0%
08:30 Durable Goods ex Transports – exp 0.5%, prior -0.1%
08:30 Cap Goods Shipments Nondef Ex Air – exp 1.5%, prior 0.4%
08:30 Cap Goods Orders Nondef Ex Air – exp 0.4%, prior 0.7%
Global Economics (Time Zone: GMT)
01:30 CNY June Property Prices
12:30 CAD CPI
Leon Cooperman, the founder of $10.7 billion hedge fund firm Omega Advisors, doesn’t believe stocks are overvalued.
“There are pockets of overvaluation,” Cooperman said during a “Squawk Box” appearance at the Delivering Alpha conference presented by CNBC and Institutional Investor Wednesday. “But….the market is basically in a zone of okay.”
Cooperman said signs of a recession would make him bearish but instead he noted that indicators were largely positive. “On balance things are getting a little better in the economy,” the billionaire investor said.
Cooperman also noted that the Federal Reserve’s continued economic stimulus programs meant that there are no viable alternative to stocks for investors.
The Omega founder also weighed in on media group 21st Century Fox’s offer to acquire peer Time Warner Inc. in June.
“This is not a crazy deal. it’s a rational deal,” Coopeman said of the offer. “I don’t look at this as a crazy move.”
Cooperman will speak again at the conference later Wednesday. He will offer a fresh set of stock picks after selecting mostly winners at the event over the last three years.
July 14, 2014
By Michael Aneiro
Has the Federal Reserve been too slow in reacting to an improving economy and withdrawing its stimulus measures? That’s been the subject of some high-minded debate among economists and strategists in recent months. It was also the subject of a shouting match on CNBC’s Halftime Report today, with CNBC’s Rick Santelli doing most of the shouting. What makes that different than any Santelli segment on any other day, you ask? This time his CNBC colleagues really seemed to have finally had enough of Santelli, who came unhinged enough to storm off camera.
The segment built up with several minutes of escalating anti-Fed vitriol from Santelli, which his colleagues Scott Wapner and Steve Liesman tried to interrupt by engaging in a more genteel policy debate. After that proved ineffective, segment guest Paul Richards of UBS called out Santelli for simply spouting applause lines pandering to the commodities trading pit in Chicago where he’s based. That didn’t quiet Santelli either, and that’s when CNBC’s Josh Brown helped nudge his colleague over the edge by saying Santelli has pretty much been wrong about Fed policy and its effects for half a decade.
“Hey Rick, you already decided this wasn’t going to work five years ago,” Brown said. “Is some of your anger about confirmation bias?”
“I was right! I was right!” a red-faced Santelli erupted, before shouting “hasta la vista!” and stomping off camera, to more trading-pit applause.
Seems like Liesman had finally had enough too. “It’s impossible for you to have been more wrong, Rick,” Liesman said. “The call for inflation, the destruction of the dollar, the failure of US economy to rebound…. Every single bit of advice you gave would have lost people money…. There is no piece of advice that you’ve given that’s worked Rick. Not a single one.”
Alas Santelli eventually came back on camera, and unless the higher-ups at CNBC have grown equally tired of his shouting shtick, we’re all probably in for another half-decade of the same on-air histrionics. Here’s the full video:
JUL. 13, 2014, 10:34 AM
It’s almost impossible to ignore past performance when picking a mutual fund to invest in. Indeed, past performance is often the first thing a mutual fund will reveal about itself.
“The phrase ‘past performance is not an indicator of future outcomes’ (or some variation thereof) can be found in the fine print of most mutual fund literature,” writes Aye Soe, Director of Global Research & Design for S&P Dow Jones Indices. “Yet due to either force of habit or conviction, investors and advisors consider past performance and related metrics to be important factors in fund selection.”
Because of the way our brains our wired, we often believe that a mutual fund that did well in the past should therefore do well in the future.
But that’s a mistake.
Soe reviewed the performance of 687 actively managed domestic U.S. equity mutual funds.
“Very few funds can consistently stay at the top,” writes Soe. “Out of the 687 funds that were in the top quartile as of March 2012, only 3.78% managed to stay there by the end of March 2014. Further, 1.90% of the large-cap funds, 3.16% of the mid-cap funds and 4.11% of the small-cap funds remain in the top quartile.”
In other words, past performance was not an indicator of future outcomes 96.22% of the time.
Less than a quarter of the top performing funds were still at the top in the next year.
Prospective mutual fund investors often use their own lack of investing knowledge as an excuse for relying on past performance as an indicator. However, they might actually be better suited by just throwing a dart a list of mutual funds.
Read more: http://www.businessinsider.com/mutual-fund-performance-persistence-2014-7#ixzz37SIJT5Pe
After the excitement of the FOMC markets are ready to end the week on a whimper. We learned this week that the Fed was not concerned about inflation but I would argue that the market does not feel the same way. The Fed has been relatively accurate (I know plenty of folks who debate this but for the sake of actual data that we see on the headlines) so I guess I will give them the benefit of the doubt. But it will remain a hot topic and will have participants closely watching the bottom line and in particular expenses and cost of goods sold for the upcoming earnings season. Taking a look at key items next week:
1) PMI Prelims- Starting Sunday night and into Monday morning we will receive the preliminary Manufacturing and Services data for the U.S., China, and Europe. The data will roll out Sunday night and will help set the pace for trade when we open Monday. I think China will be the key here as that seems to be the biggest question mark. I would not be surprised to see a down tick in European data but I do not think that would have a major impact given the QE program on tap. Early expectations is for the U.S. to see a slight m/m decline from May.
2) The Ukraine- We are seeing headlines of Russia building back up on the borders and sending tanks across the board to support Separatists. We have seen this before so I do not want to jump to conclusions but it does bear watching. Of particular interest is the new Ukrainian President is set to sign a free trade agreement with Europe next Friday. Recall the issues originally blew up when the pro-Russian PM scrapped plans to sign the agreement. So we will need to see if this agreement once again sparks fighting.
3) U.S. Economic Data- Housing data will be prominent early as Existing Home Sales (Mon) and FHA and Case-Shiller Prices (Tue) hit wires. Also of note for housing, LEN (Thu) and KBH (Fri) will be reporting earnings next week. I think the number that will draw the greatest attention is the PCE Prices (Thu). The key is if this number is also ‘noisy’. Personal Income & Spending will also be released on Thursday.
4) International Economic Data- Sentiment data will dominate. We already mentioned the PMI numbers due out ahead of the U.S. market open. Toward the end of the week we have a steady run of European Business and Consumer surveys. Germany’s Ifo survey on Tuesday will also be watched. South Korea also has retail sales and Industrial Production reports due out Thursday which will be watched as a potential read through on semiconductor activity.
5) Iraq- Another geopolitical hot spot. Crude Oil will be closely watched with the CL Q4 attempting to break out above 106.
Sunday: Israel Industrial Production (6am); Japan Manufacturing PMI (9:30pm); China HSBC Manufacturing PMI (9:45am).
Monday, June 23
U.S. Economic Data: Markit Manufacturing PMI (9:45am); May Existing Home Sales (10am)… Earnings: MU… International Economic Data: Singapore Inflation (1am); BoJs Kuroda speaks (2am); France Manufacturing & Services PMI- prelim (3am); Germany France Manufacturing & Services PMI- prelim (3:30am); Eurozone Manufacturing & Services PMI- prelim (4am); Poland Retail Sales, Unemployment Rate (4am); BoE Credit Conditions (4:30am); Hong Kong Current Account, Inflation (4:30am); Israel Unemployment Rate (6am); Israel Interest Rate Decision (9am); Mexico Unemployment Rate (9am); Argentina Current Account, Q1 GDP (3pm)… Conferences: EU meets to discuss Ukraine; Citi London Financials; Roth Natural Resources; Goldman Sachs Business Services; Roth Healthcare; Morgan Stanley REIT.
Tuesday, June 24
U.S. Economic Data: Fed’s Plosser speaks (8:05am); April Case-Shiller 20-city Index (9am); April FHFA Housing Price Index (9am); May New Home Sales (10am); June Consumer Confidence (10am); Fed’s Dudley speaks (2pm); Treasury Secretary Lew to testify in front of Financial Stability Oversight Council… Earnings: CCL, WAG… International Economic Data: Finland Unemployment Rate (2am); Switzerland Trade Balance (2am); Germany IFO Business Survey (4am); Portugal Current Account (6am); Turkey Interest Rate Decision (7am); Turkey Business Survey & Capacity Utilization (7:30am); Brazil Current Account (9:30am); Brazil Foreign Direct Investment (9:30am); South Korea Consumer Confidence (5pm); Philippine Trade Balance (9pm)… Conferences: T & DTV testify in front of House Subcommittee on Regulatory Reform; UBS Pharma; UBS Small/Midcap; Global Hunter Energy; JMP Healthcare; Oppenheimer Consumer.
Wednesday, June 25
U.S. Economic Data: MBA Mortgage Index (7am); May Durable Goods Orders (8:30am); Q1 GDP-third estimate (8:30am); Petroleum Inventories (10:30am)… Earnings: BKS, LNN, MON, BBBY… International Economic Data: Germany Retail Sales, Consumer Confidence (2am); Spain PPI (3am); Italy Retail Sales, Consumer Confidence (4am); Argentina Industrial Production (3pm)… Conferences: Credit Suisse Basic Materials; TAP Investors Day.
Thursday, June 26
U.S. Economic Data: Initial Claims (8:30am); May Personal Income & Spending (8:30am); May PCE Prices (8:30am); Natural Gas Inventories (10:30am)… Earnings: LEN, SCHN, WGO, NKE… International Economic Data: Singapore Industrial Production (1am); Finland PPI (2am); France Business & Consumer Confidence (2:45am); Sweden PPI (3:30am); Norway Unemployment Rate (4am); Hong Kong Trade Balance (4:30am); U.K. Current Account, Q1 GDP (4:30am); South Africa PPI (5:30am); Brazil Unemployment Rate (8am); South Korea Retail Sales, Industrial & Manufacturing Production; (7pm); Japan CPI, Household Spending, Unemployment Rate, Retail Sales (7:30pm); Thailand Industrial Production (11:30pm)… Conferences: J.P. Morgan European Healthcare.
Friday, June 27
U.S. Economic Data: June Michigan Sentiment- Final (9:55am)… Earnings: CMC, FINL, KBH… International Economic Data: Ukraine’s Poroshenko to sign free trade agreement with EU; Germany Import Prices (2am); France PPI, Q1 GDP (2:45am); Spain Inflation, Retail Sales (3am); Switzerland Leading Indicators (3am); Turkey Consumer Confidence (3am); Sweden Trade Balance, Retail Sales (3:30am); Thailand Current Account (3:30am); Italy Business Confidence (4am); Spain Business Confidence (4am); Eurozone Business & Consumer Confidence (5am); Greece Business & Consumer Confidence (5am); India Deposit Growth, Bank Loan Growth (7:30am); Germany Inflation Rate (8am); Canada PPI (8:30am); Brazil Consumer Confidence (10am).
If Bob Olstein is right, the climate for takeovers is just beginning to heat up. The head of Olstein Funds said recently that “acquisitions are just at the beginning” and he’s telling investors he’s taking advantage of the trend by focusing on undervalued companies which become takeover targets.
On CNBC’s “Closing Bell” last Thursday, Olstein identified how to pinpoint these undervalued companies. “We go in and look for companies that are generating huge free cash flow,” he said. Olstein explained these companies must have a strong balance sheet and should be centered in a niche market where they are not properly valued because of short-term issues or misconceptions. Within 24 hours of that interview, three companies in Olstein’s portfolio, received takeover overtures: Covidien, Express and International Game Technology. Since inception of the Olstein All-Cap Value Fund, more than 30 companies in Olstein’s portfolio have been acquired.
For investors wanting to get a jump on the M&A game, he highlighted three undervalued companies that he believes should come into play if they remain at current prices:
Olstein’s Takeover Targets
Pet Smart:: Target Price $90.00
Teradata:: Target Price $58.00
URS:: Target Price $56.00
“If they stay at these prices, private equity or strategic buyers could move in and close the discount,” Olstein said. “Most investors prefer to run with the crowd and pile into the latest fads which can be a long-term recipe for investment failure. At Olstein we tend to buy companies before the acquirers because we will buy the temporary bad news which creates the valuation discounts and then ride out the storm. ”
Olstein invests like a private equity investor without paying the same premium paid. He believes Oracle or Hewlett-Packard could move in on a Teradata in the short term. Just Tuesday, Oracle was rumored to be in discussions to takeover Micros Systems, which jumped 20 percent in the last three days.
Olstein, of course, owns Micros shares.
—By CNBC’s Donna Burton
Disclosure: Olstein does not own shares of Oracle, HP or Teradata but his firm, Olstein Funds, does.