Please read the important notice at the bottom of this commentary.

Earnings season is in full swing. The general run of S&P 500 companies are doing better than expected but it's not all roses and champagne. The strength in earnings is firmly centered on domestic-focused business and the outlook for growth is still deteriorating. Last week a little more than 25% of the S&P 500 reported, next week another 168 companies or 33.6% of the index is set to deliver their results. This will bring the total to 80% and just about seal the deal in terms of what we can expect this reporting cycle.

With 44% of the S&P 500 reports in the bag, 77% are beating EPS consensus and 61% are beating revenue consensus. That's the good news, the bad news is that the blended rate of earnings growth fell over the last week. The reason for the decline in earnings growth is mostly due to a change in reporting from Boeing but it also reflects a bifurcation among S&P 500 companies. On the one hand, there are those companies who do most of their business in the U.S., on the other, there are those who don't. Those companies who do most of the business in the U.S. are reporting a 3.2% increase in EPS growth while those who don't are posting double-digit declines.

The worst part perhaps is that the outlook for future growth continues to decline. The consensus estimates for three of the next four quarters fell by an average -0.3%. Consensus for 3rd quarter growth is near -2.0% and may reach -4.0% at the rate it is falling. The consensus for the 4th quarter is now below 5.0% and will likely drop into the low single-digits before too long. This brings the 2019 blended rate down to 1.7% but there is a ray of light. The declines in 2019 estimates are helping to prop up 2020 estimates.

Last week's data was good. The data still shows slowing from last year's levels but it is at least holding steady in expansionary territory and some even accelerated. The housing data was spotty, existing home sales fell but new home sales rose, but this is consistent with trends and conditions. New homes are too expensive for a lot of homeowners in need of upgrading so they choose to stay where they are or, like me and my family, add on. This situation is likely to weigh on existing home sales over the next year or more.

The jobless claims data shows the labor market is still rocking along. Both initial and continuing claims dropped in the last week and are heading toward their long-term lows. Over the past year, the trend in these figures has changed from declining to sideways. There is no sign yet of a break down in the labor market, I think this is a sign there is no more slackness in the market. The total claims figures are the same, total claims did not fall as much as expected this spring but I don't think they are about to affect reversal. At worst, I think the total number of people getting unemployment benefits will track to the side this year and next.

The star report last week was the 1st estimate for the 2nd quarter GDP. The estimate is 2.1%, subject to two revisions, but better than expected. Positive contributions from Personal Consumption Expenditures and government spending were offset by weakness in investment activity and exports. Imports, which are a subtraction from GDP, rose further impacting the decline. Notable, the PCE price index jumped to 2.3% from 0.4% in the 1st quarter and is up 1.8% at the core. This is not high enough to raise concern at the Fed but neither is it low enough to force their hand with a cut.

Next week's economic calendar is the busiest I've seen in quite a few months. On top of the FOMC meeting, it is the turn of the month which means important macro data. It's hard to say which will be the most important, not counting the FOMC meeting. The PCE Price Index, the monthly and most current version, is due out on Tuesday before the Fed meeting. The data bundle including ADP, Challenger, the employment components within the ISM reports, and the NFP, is mostly due out after the meeting.

What we're looking for is positive job growth and upward pressure on wages, if we have that I'm still optimistic the economy will weather the trade-war storm. The risk is in the PCE data, the employment data is still steady and stable if not strengthening, so the Fed will be more focused on inflation I think. The PCE Price index has been tracking around 1.6% headline and core the last few months, a deviation from that is a possible market mover in terms of FOMC outlook.

The FOMC will be meeting Tuesday and Wednesday this week. The market is still pricing in a 100% chance of 25 bps cut if not a little more. With the data the way it is, I still think the expectation of rate cut is too high. The FOMC might cut rates but if they did it would be a preemptive move and the committee is not one to act hastily. An uptick in PCE prices on Monday might be enough to stay their hand, allow them time to be patient, and see if the economy slows any further. This meeting comes with a press conference so Mr. Powell will have plenty of opportunities to explain the decision whatever it may be. The FedWatch Tool is still showing a high chance, greater than 50%, of three cuts by December. After this meeting, I expect we'll see this change dramatically.

The cause for economic slowing is the trade war and that is not going to end soon. White House officials are expected in China early next week for several days of discussions but Mnuchin says they have serious differences to work out. Larry Kudlow went on the record saying no great deal should be expected and I think that is right on. Hedge fund manager Kyle Bass said this week it's possible no deal can be reached, the gaps are too wide in some areas, and I don't think he'll be the last to chime in on that theme. The reality is China and the West don't do things the same way and China is in no hurry to change.

Brexit reemerged as a threat to the global order this week. Euro-skeptic Boris Johnson was ushered in as the UK's next prime minister and already making moves toward a no-deal Brexit. Johnson has long been an advocate of leaving with or without a deal and won his position on that platform. He's already reached out to the EU and gotten the expected response, the deal with May is the only deal the EU wants, which sets the stage for the UK to exit the EU this October.

Four-fifths of FAANG has reported and so far the results are mixed. Netflix disappointed investors two week's ago, this week it was Amazon's turn. Amazon fell short of EPS estimates and provided a weaker than expected forward cashflow outlook sending shares down about -2.0% on Thursday. This is not what an earnings-growth hungry market is looking for despite the near -20% increase in YOY revenue. Bezos and Amazon continue to reinvest capital into future growth and that is what is hurting EPS, once the market gets over that shares of AMZN will pop back up to hit new highs.

Facebook reported better than expected EPS and revenue. The company showed sharp gains in ad revenues despite the repeated scandal over user privacy. EPS would have been much stronger if not for the $2 billion FTC settlement. Revenue rose 28%, mobile ad revenue rose nearly 100%. Daily and monthly active users each rose 8.0%, total cash on hand rose to $48 billion. RBC reiterated its outperform rating after the release. RBC says FB could be in a period of re-rating as the worst fears (regarding scandal etc) were not realized.

Appl reports on Monday. Apple is expected to report quarter to quarter and YOY declines in both revenue and earnings.

Goodyear Tire & Rubber reported a miss on revenue and earnings. The company cites lower volumes and the impact of currency conversion as the leading causes. Tire unit volume fell 4% and OE unit volume is down 11% as slowing production of vehicles impacts demand. Segment sales showed the least weakness in the U.S with most centered in Europe, Emerging Markets, and Asia-Pacific. Margins also slipped across all categories helping the stock to move lower by nearly -10%.

McDonald's moved higher after it reported strength in global markets. The iconic hamburger chain says comps are up more than 6.5% globally led by strength in the U.S. The company CEO says he is energized by the success of the Velocity Growth Plan and expects to build on that success this year. The move to fresh beef, value-added deals, and strength in some emerging McMarkets all contributed.

AbbVie reported revenue was slightly lower from last year and shares moved up 2.0% anyway. The company was able to grow EPS 13% despite the revenue headwind and falling sales of Humira. Strength in the hematological oncology segment and a new drug called Skyrizi offset other weaknesses. The company was able to raise its full-year guidance because of the strengths and that is what has the stock moving. Shares are trading near the long-term low set earlier this year but appear to be forming a bottom.

Nestle reported 3.6% organic sales growth for the quarter and sent its shares up 3.0%. Net profit fell though due to the divestiture of U.S. business last year. That said, the U.S. market was the strongest performing segment. The company CEO says sales should continue at this pace in the second half of the year and EPS will improve, margins are widening and expected to accelerate by the end of the year.

Twitter reported a mixed bag that included better than expected revenue but weaker than expected revenue. The market-moving number within the report was daily active users which came in well above expectations. Total ad engagements were up 20% YOY and are the real driver of revenue. Shares jumped more than 10% on the news and set a one-year high.

The Boston Beer Company reported revenue up more than 16% YOY and a substantial EPS beat. The company says EPS is $2.36 and that beat consensus by $0.39 or 20%. Strength in results was driven by demand, shipments, and depletions which allowed for improved guidance. The company now expects full-year EPS in a range of $8.30 to $9.30, $0.30 higher than previous. Shares of the stock advanced more than 3.0% to set a new all-time high.

The Indices

Index action this week was mixed. Where one index is hitting a new all-time high another is still wrestling with resistance, where one index formed a strong bullish candle another formed an indecisive one. What this means is the market is still out synch, not all sectors are moving in tandem, rotation is the name of the game. The tech-heavy NASDAQ Composite made the biggest advance, just over 2.26%, and formed the strongest candle. The index formed a strong green candle that hit and closed at a new all-time high so it looks like the rally will continue. The caveat is that the indicators continue to tease at correction, divergences in MACD and stochastic do not confirm higher prices.

The broad market S&P 500 posted the second-largest weekly advance at 1.65% and an equally bullish-looking candle. The index set a new all-time high midweek and again on Friday but the move looks extended and ready to correct. The indicators are divergent from the new high and suggest underlying weakness that may lead to a deep correction. The caveat is that the market could continue to drift higher with the absence of active sellers. Until the selling starts we're still in an uptrend.

The Dow Jones Transportation Average advanced 1.63% by the end of the week but it did not set a new all-time high, far from it. The Transports are still about 7.5% below the previous all-time high and don't look like they will set a new one soon. The index is struggling with resistance at the 10,500 level that appears strong. The indicators are consistent with sideways, range-bound trading so I don't expect much if a move higher does come. The next target for resistance at 11,000 is also well below the all-time high and potentially strong.

The Dow Jones Industrial Average posted the weakest numbers this week, only 0.14%. The blue chips formed a medium-sized spinning top doji as market participants try to decide what to do next. The indicators are bullish and suggest upward drift of prices is possible but they are also both divergent from the recent high. The 27,000 level is the first target for support and so far it is holding. A fall below this level would be bearish and may take the Dow down to 26,000 real quick.

The market has been moving up on hopes and expectations for some time. The indices are trading at all-time highs and looking a little extended. I see a correction brewing and once again we're at a juncture at which one could form. Next week is important for at least four reasons, any one of which could spur the animal forces into action. It is possible that the FOMC is the most important event on the list but its hard to say, earnings, the data, and trade talks in China could are all potential market-movers.

The market has climbed a wall of worry and is nearing the top. The worries are all rooted in the trade war and the worst has not come to pass. The expectation for aggressive FOMC rate-cutting was fueled by an expectation for economic slowing due to the trade war that has not materialized. The FOMC expectation was driven to extremes by comments by Powell and Williams in regards to the possible need for stimulus but what they said was hypothetical, the Fed remains patient and data-driven. Sentiment has since pulled back from those extremes but hopes for easing are still too aggressive.

The Q2 GDP shows slowing activity but not as much as feared, data since then shows economic stabilization and hints of reacceleration. That may be confirmed in the data this week and therein lay the problem for the Fed, do they act without knowing? Except for the PCE, the key reports all come out after they make their decision. A single 25 bps cut would reverse the December hike and put policy back where it should have been all along, more than that is a risk in itself. They won't want to do too much in case the economy is stabilizing, if not they can always do more next time. So, while one cut is a possibility, even likely, but two are not and that carries true for me out to the end of the year. I think one is all we'll get.

Until then, remember the trend!

Thomas Hughes

End of an Era

It is with great sadness that I write these comments. After more than 20,000 commentaries, articles and newsletters over the last 22 years, I am ceasing publication of the Option Investor family of newsletters. Health issues are preventing me from continuing. I have tried for a year to find someone competent to take over as editor. However, I have been unable to find anyone I thought was capable and that I would be willing to trust to continue the publications.

This has been a labor of love for the last 22 years. I have had fantastically loyal readers, some for 20 years or more, and I appreciate your support. I always joked I would probably die in my chair while writing a market wrap. I am 72 and now closer to that possibility than I care to think about. Ceasing publication rather than passing the baton to someone else is traumatic for me but things do not always work out as we wish.

Thank you again for your past support! Enter passively and exit aggressively!

Jim Brown