After trying to move higher intraday, the markets ended flat ahead of the Italian referendum.

Weekly Statistics

Friday Statistics

The Italian constitutional referendum on Sunday is a major decision for Italy. The vote will significantly modify the 68-year old constitution. Forty-seven of the Constitution's 139 articles will be modified. It would change the composition of Parliament, the ways the laws are passed and the balance of power between the central government and the country's 20 regions. A yes vote would reduce the 315 Senate members to only 95, plus 5 members nominated by the president. The current requirement for the Senate and the lower house of Parliament to both pass an identical version of the same bill before it becomes law, would be removed. The lower house will pass most laws and the Senate would become more of a consultative body.

Prime Minister Matteo Renzi, wants a yes vote in order to concentrate more government authority in a smaller number of hands. If the vote is a no and the constitution remains unchanged, he has vowed to resign. Some opposition members have been promoting a no vote in order to force his resignation and topple the current government. Renzi has lost a lot of popularity in recent months and there may be quite a few people that vote no. If Renzi did resign, President Sergio Mattarella would consult with the various political parties and could decide to form a caretaker government or call for early elections.

However, a yes vote would be the equivalent of the Brexit vote for the Italian markets. The CEO of the Italian stock exchange said there are colossal short positions held by U.S. investors and the market would explode if there was a yes vote.

A no vote would promote political instability and banks, currently under severe pressure and in need of recapitalization, would find it difficult to raise capital under an unstable government. The vote will have repercussions in the rest of Europe where populism is surging after the Trump election and the sharp rise in violence as a result of the Muslim immigration.

U.S. markets could react sharply to the outcome of the referendum but it is difficult to know which way they would move. It will depend on the outcome and the impact to currencies. I would expect some significant volatility at the open but it should fade quickly.

In the U.S. the payroll numbers had little impact on the market. November saw 178,000 jobs added compared to consensus estimates for 175,000. Moody's had predicted 215,000. The October number was revised down from 161,000 to 142,000 and September was revised up from 191,000 to 208,000.

The unemployment rate declined 3 tenths from 4.9% to 4.6% and the low for this cycle. However, it was due to more discouraged workers leaving the workforce and fewer new workers entering the workforce. The labor force participation rate declined one tenth to 62.7% as the labor force declined by -226,000 workers. Those not in the labor force rose by 446,000 to 95,055,000.

Average hourly wages declined -0.1% after rising a total of +0.7% over the prior two months. The average hourly workweek was flat at 34.4 hours for the third consecutive month.

Analysts were surprised by the loss of 8,000 jobs in the retail sector heading into the holiday shopping season. Information technology lost 10,000 jobs and manufacturers lost another 4,000 jobs. Construction contractors were a high point with a gain of 19,000 jobs. Professional/business added 63,000, education/healthcare added 44,000 and leisure/hospitality gained 29,000.

The Nonfarm Payrolls disappointed compared to the blowout in the ADP numbers on Wednesday. ADP reported a gain of 217,000 jobs compared to estimates for 165,000 and the 147,000 created in October.


The ISM - NY current conditions index rebounded from 49.2 to 52.5 for November. That is the first reading in expansion territory over 50 in four months and significantly improved from the 47.5 in August. The employment component rose from 50.6 to 52.3. The six-month outlook rose from 56.9 to 60.8. The prices paid component rose from 55.6 to 69.2 and a five-year high. This is showing the rapidly rising inflation beginning to filter through the system. This report was ignored.

We had a very robust economic calendar last week and that left us with a void for the coming week. The only report of interest is the ISM services on Monday but it rarely moves the market. We have some filler reports on Tuesday with factory orders the most important if they come in as expected with a big 2% bump. After that the calendar is devoid of any material events until the Fed rate hike the following Wednesday.

The only Fed speakers are on Monday with the normal one-week pre FOMC quiet period starting on Tuesday. It does not make any difference that there are no speakers because the Fed will still hike rates. The CME FedWatch Tool is now predicting a 97.2% chance of a rate hike.



Internet music streaming company Pandora (P) saw its shares rise 16% after sources said it was open to selling itself. The report said the company was now willing to talk to SiriusXM, a company that tried to buy them in the past. The official word from the Pandora spokesman was that the company does not "comment on rumors or speculation." Bloomberg was reporting that Sirius XM chairman, Greg Maffei, recently made a fresh approach to Pandora. No prices were discussed. Previously Sirius offered $15 per share. Competition is increasing from sources like Spotify, Apple Music, Google Play Music and Amazon Music Unlimited. When they reported earnings, Pandora said active users had declined. Activist fund Corvex has a 9.9% stake and has been urging a sale.


Starbucks (SBUX) CEO Howard Schultz announced he was stepping down from the position and turning the company over to the current COO, Kevin Johnson, who will serve as president and CEO starting April 3rd. Schultz will become executive chairman and focus on innovation, design and development of the new Starbucks Reserve Roasteries around the world.

The premium Reserve Roasteries and Tasting Room stores are gigantic stores with dozens of comfortable seating areas more like a cozy den with overstuffed leather chairs, coffee tables, fireplaces, etc. Roastery sales rose 24% in 2016 and the average customer spends four times as much per visit than a typical Starbucks store. Schultz is currently focused on opening 30 of those stores in "influential" cities around the world. They are targeting 1,000 of the slightly lower scale Starbucks Reserve stores, which include espresso bars that make coffee in a variety of brewing methods.

Schultz was CEO from 1987 to 2000, when he resigned. He came back to rescue Starbucks from a depressed period in 2008 and has been CEO for the last 8 years. Schultz grew up in the projects in New York and his father was a blue-collar worker that never made more than $20,000 a year in wages. Schultz went to college on a football scholarship and was the first person in his family to go to get a diploma. After working in sales for Xerox and GM for a Swedish house wares company, he joined Starbucks in 1982 in the marketing department. The company only had four stores at the time.

Kevin Johnson is a great guy, aggressive and intelligent and this may be exactly what Starbucks needs, fresh ideas at the top.


Workday (WDAY) reported earnings of 3 cents compared to estimates for a loss of 4 cents. Revenue of $409.6 million beat estimates for $400.5 million. Unfortunately, they guided for Q4 at $428.8 million and analysts were expecting $433.6 million. The company also said some large contracts that had been expected to close in Q3 were delayed citing uncertainty over Brexit and the potential for a Trump administration to modify trade agreements. Workday was cut from hold to sell by Societe Generale. Shares fell $10 on the news.


Smith & Wesson (SWHC) reported blowout earnings of 68 cents compared to estimates for 55 cents. Revenue of $233.5 million rose 63.5% and beat estimates for $228 million. Gross margin was 41.8% compared to 29.3%. They guided for the current quarter for earnings of 52-57 cents and revenues of $230-$240 million. Analysts were expecting 59 cents and $237.74 million.

The CEO said firearm sales had been very volatile under president Obama and that was not expected to continue under a pro-gun Trump administration. They guided for "single-digit to high single-digit" sales growth in a "normalized environment." He did say more women were buying guns both for defense and for sport.

Shares had fallen sharply after the pre-election uncertainty but they fell off a cliff on Friday with a -12% drop of $3. Going from a 63% increase in revenue to high single-digits is a major drop in growth.


Gap Stores (GPS) reported a 1% drop in same store sales for November but that is significantly better than the 8% decline in the year ago quarter. Comps for Gap global fell -3% and Old Navy -2%. Banana Republic posted a 5% increase after a 19% decline in the year ago quarter. The company said the fire in the distribution warehouse in Fishkill NY in August knocked 3% off the overall comp sales in November because of lack of inventory and distribution capability. The company also said foot traffic at mall stores remains challenging. Shares fell -3% on the news.


Ulta Beauty (ULTA) reported earnings of $1.40 that rose 26% compared to estimates for $1.37. Revenue of $1.13 billion rose 24.2% and beat estimates for $1.108 billion. Online sales rose 59.1% and same store sales were up 13.6%. The company guided for Q4 revenues of $1.516-$1.541 billion, earnings of $2.08-$2.13 and same store sales to rise 12% to 14%. This company is growing very fast and profitably. They opened 42 new stores in the quarter. They ended the quarter with 949 stores. Unfortunately, we cannot play them in Option Investor because the options are so expensive. Shares spiked to $274 intraday but faded to close at $253 in the weak market.


G-III Apparel (GIII) confounded the earnings traders with earnings of $1.50 that missed estimates for $1.53. Revenue of $883.5 million missed estimates for $937.5 million. The company guided for the full year for earnings of $1.61-$1.71 and revenue of $2.43 billion. Despite the earnings miss, shares spiked 3% after falling to $24.41 at the open. Short interest of more than 14% apparently fueled the squeeze.


Oil prices rallied to $51.50 on Friday after a week of gains on the bogus OPEC production cut news. OPEC officially said it was cutting 1.16 million bpd starting in January to reach its 32.5 mbpd target. Cue the wild applause from traders long the market and stupid reporters that believed the headline spam.

Whenever OPEC does anything, there is always a catch. This is nothing buy a slight of hand trick to confuse the market. One of the important points left out of most of the reports about the cut is the timing. It starts in January and lasts only six months. The Saudi Arabian oil minister said they could discuss it again at the May 25th OPEC meeting and vote on extending it another six months if everybody agreed.

Secondly, the actual production cut is only about 300,000 bpd. In the graphic below the October numbers are from OPEC and that is what they based their reductions on by country. Note that the total of 32,997,000 bpd is significantly less than the 33.6 mbpd that the IEA claims was actually produced in October. I guess if OPEC fudges the starting number by 600,000 bpd than they can cut less to arrive at their future targets.

Note that Iran actually won approval to increase production by 90,000 bpd. That was quite a trick on their part since Saudi Arabia said they would not agree to any deal unless Iran cut production as well. Don't worry, OPEC members are only lying if their lips are moving.

Also note also that Libya and Nigeria are exempt from the cuts. They are also the nations that will be increasing production the most over the next six months. It is convenient they were left out of the deal. Libya plans to increase production by 349,000 bpd by the end of December. Nigeria plans to add 423,000 bpd by early 2017.

If you just believe the headlines, you probably thought OPEC actually accomplished something. However, in the graphic below there is only about 396,000 bpd less in 2017 than there was in October and remember, the October "quoted" number was 600,000 bpd under the IEA reported number. It is all a combination of misdirection and selective reporting by OPEC.


Lastly, they said non-OPEC producers were going to cut production by 600,000 bpd. Russia was the only major producer to step up and say, we will cut 300,000 bpd. Again, easy to say in front of a gaggle of reporters, easy to ignore in the homeland. Later an official in Russia said, I doubt we will be cutting any production. Another official said Russia would work "towards" cutting production in "2017" but no specific number or dates. They just wanted to make a big splash and once the ripples subside, they expect everyone to forget it because it is not going to happen. It is all politics and bravado. Russia previously announced they were going to increase production in 2017. They could just postpone that 300,000 bpd increase and claim they fulfilled their part of the deal. It is all smoke and mirrors.

I have not even touched on follow through by OPEC. They have never honored production limits and never will. You can say one thing in Vienna in front of the microphone and then go back to your home country and conduct business as usual. Back when they had a 30 million bpd quota, for two years they produced 32 mbpd and continued to claim at every meeting that the production quota was 30 million. "Move along, there is nothing to see here."

I am just amazed that oil traders have fallen for this scam once again. However, it has been so long since the last quota scam, the old army of traders has probably retired and a crop of newbies are running the trading desks.

Oil rose to $51.50 and several analysts are calling for $60 by the end of December. I hope they are right but I am very skeptical after living through multiples of these shell games over the last 25 years.


Active rigs only increased by 4 last week with 3 oil rigs and 1 new gas rig. If oil prices remain over $50, I would expect to see these numbers spike rather briskly over the next couple months. The key words in that sentence were "remain over $50" and that has yet to be proven.


 


 

Markets

We finally got a decent bout of profit taking. The selling was tame unless you were in Nasdaq stocks. The Nasdaq fell -152 points in two days and the selling may not be over.

The Russell 2000 completed a streak of 15 consecutive daily gains and then lost four days in a row. Friday was a fractional win of a half point but it was a gain. The Russell has pulled back to about 1,310 and appears to be resting before the next big move. There is psychological support at 1,300 where there was a little stutter step on the way up. I would look to be a buyer of the IWM ETF at the 1,300 level on the Russell.


The S&P tested support at 2,190 for the last two days but there is no assurance it is not going lower. The index closed 6 points off its intraday high for a gain of less than 1 point. That is hardly induces bullish conviction. The S&P could easily bounce from here or dip further to retest 2,175.

The overbought conditions have eased. Now we are in the testing phase where traders will be taking small positions to see if support is going to stick and sellers will be looking for intraday bounces as an opportunity. This is low volume sparring. However, Wed/Thr traded an average of 9.3 billion shares and Friday was just over 7.0 billion. There is still a lot of activity but no directional movement.


The Dow has been making new highs while the broader market indexes were selling off. The Dow made a new high on Thursday and closed only 21 points below that high on Friday. There have been some amazing one-day gains in a couple Dow components to produce those new highs.

Goldman Sachs (GS) gained 16 points in two days to add roughly 124 Dow points. UnitedHealth (UNH) gained 10 points to add roughly 75 points to the Dow. Since the Dow only gained 18 points total for the week you can easily tell who was carrying the load for the other 28 stocks. Those 28 were either marginally positive or negative for the week. What happens when GS/UNH quit surging? Will somebody else take their place?

Resistance is now 19,250 and support 19,065 and 19,000.



The Nasdaq did not decline on Friday but it was close. The 4-point gain was simply an accident after the index closed -19 points below its intraday high. If I had to bet, I would bet on a retest of support at 5,200. We had a very strong rally and only two days of declines. Those were some very strong declines but the sector rotation may not be over yet.

Resistance is 5,400 and a long way off from here.

The Nasdaq 100 never made a new high and has fallen back to just over critical support at 4,700 and I would not be surprised to see that tested next week.




Friday was a settlement day. The market was up for three weeks, down for one week and the overbought pressures have been relieved. Traders were squaring up positions and trying to decide what to do for next week. The Italian referendum headlines probably did not have a lot to do with retail trading but actively managed funds were likely holding off on establishing new positions until the results are known. They may have a better buying opportunity next week.

I believe the worst is over but I cannot guarantee it. If we get a decent dip on Monday, I would be a buyer of some index ETFs but I would probably avoid buying the big cap tech stocks. There may be more pain ahead for the big guys. That monster two day dip did give us some buying opportunities in select stocks but only if you can stomach the potential for a little additional volatility.

 



 

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Random Thoughts


The rally bloom is fading. Bullish sentiment declined -6.1% with the difference spread equally between the bearish voters and neutral voters. Nothing to see here. This survey ended on Wednesday.

Last week results


Do not install those apps! If you have an Android phone, you are at risk of downloading malware instead of an app. According to Check Point Software, malware designed to look like real Android apps has taken control of more than a million Google accounts since August. The new malware is called Gooligan but the fake apps have names like StopWatch, Perfect Cleaner, WiFi Enhancer, etc.

Gooligan is infecting 13,000 devices every day and can potentially infect about 74% of existing Android phones based on the Android 4 and 5 operating systems. The malware steals information including email addresses, authentication tokens, passwords, photos, documents, Google Drive and G Suite.

Check Point has a free online tool that will tell if your device has been infected. You can go HERE and enter the email address of your device and Check Point will tell you if your phone has been breached and what to do to clean it.


Let's say your company paid $100 million to build a Panamax container ship ten years ago. The Panamax classification was given to the maximum size ships that could pass through the Panama Canal. I hope you made a lot of money over the last ten years because your new container ship is now scrap.

Since the Panama Canal has opened its new expansion in June, it can now accept ships three times larger than the Panamax ships, which were the largest of their period. Bigger ships with three times the cargo capacity, have crushed freight rates. The cost to run both ships is roughly the same but with three times the cargo the shipping cost is significantly lower on the larger ships. The largest ships can carry more than 18,000 containers per trip. There are ships being designed today that will carry 27,000 to 30,000 containers but they will not be going through the canal and will not be completed until 2022-2024. By comparison the Panamax ships could only carry 4,000 containers.

In September, a 7-year-old Panamax container ship was being bid at $5.87 million for scrap. SEVEN years old! The value of Panamax ships fell -62% in 2016 alone. Previously the average age of scrapped container ships was 19 years.

There have been 151 container ships scrapped so far in 2016. That is twice the number scrapped in 2015. New environmental regulations requiring retrofitting are also pressuring the value of younger vessels. Shippers are hoping their retrofit requirements will drive a lot more ships to the scrap yard and lift shipping rates again. Currently, freight rates are at record lows. This is sparking consolidation in the industry with Maersk buying the seventh largest container carrier Hamburg Sud. Hamburg Sud operates 130 container ships. Maersk operates more than 605 container ships that travel more than 50 million nautical miles a year.



 

Enter passively and exit aggressively!

Jim Brown

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"If you dream small dreams, you may succeed in building something small. For many people, that is enough. But if you want to achieve widespread impact and lasting value, be bold."

Starbucks CEO Howard Schultz