Monthly Archives: June 2011

thoughts on the International Energy Agency release of strategic oil reserves

June 24, 2011 By in Current Market Thoughts, economics, emerging markets, Energy, Industry Analysis, Recent Market Action, Stock ideas Tags: , , , , , , , , , , Leave a comment

the IEA action

Yesterday, the International Energy Agency (IEA), an organization of oil consuming countries, announced its 28 member nations have agreed to release 60 million barrels of their collective emergency oil supplies, at the rate of 2 million barrels daily for thirty days starting early in July.  The idea is to offset upward pressure on the oil price that might arise during the summer high point in demand.

The extra oil, which represents a bit less than 4% of the total government reserves of the IEA, is ostensibly to replace crude lost to world markets by fighting in Libya.

The agency has done this twice before.  The first time was when Iraq invaded Kuwait in 1990; the second was after Hurricane Katrina.

Of the 60 million barrels, North America (read, the US) will supply half, Europe 30% and Asia the rest.  Each country will decide for itself how it will achieve its goal.  The US intends to release crude oil from the Strategic Petroleum Reserve.  Japan, in contrast, is simply going to reduce by three days the amount of refined petroleum products that refiner/marketers are legally mandated to maintain.  This presumably will ultimately lead to decreased purchases of crude by Japanese oil companies.

a stop-gap measure

The release of petroleum reserves is a stop-gap measure.  It appears to have been well-timed enough to be shaking some speculators out of their long positions in oil futures, and may therefore get the world through the summer months with lower gasoline prices.  But the move is also reminiscent of the ultimately futile attempts of the signatories to the Bretton Woods currency agreements to defend fixed exchange rates.

structural issues

In the case of oil, two structural issues stand out:

–the increasing affluence of the developing world means ever higher demand from these countries for fossil fuels for power generation and for transportation, and

–the US, the only developed country without a sensible energy conservation policy, consumes almost a quarter of the petroleum the world produces, even though it  represents just over 4% of the population of the globe.

effect on stocks

The initial reaction from financial markets is that the IEA action is bad for oil stocks and good for consumer names, especially in the US.  To some degree, I think this is the right response.  But production-sharing agreements signed between the big international oil companies and producing nations over the past twenty years call for progressively increasing percentages of oil sales revenue to go to the nation rather than the oil company as prices rise.  So the negative effect of the current price fall will likely be less than markets expect.  Also, the IEA move is more a temporary reprieve than a problem solution for hard-pressed consumers.

As a result, I think that, as it unfolds in the coming weeks, the IEA move will prove a better occasion for selling US retail stocks whose customers are ordinary Americans and buying oil names that it is to do the opposite.

 

the Fedex 4Q11 earnings report: blue skies ahead

June 23, 2011 By in Current Market Thoughts, earnings conference calls, economics, emerging markets, Industry Analysis, Recent Market Action, Stock ideas, Strategy, Transport Tags: , , , , , , , , Leave a comment

the results

FDX reported quarterly results for its 4Q11 (the FDX fiscal year ends in May) before the start of trading in New York yesterday.  The company posted earnings per share of $1.75, up 31.5% year on year, on revenues of $10.6 billion, a 12% gain vs. sales in the fourth quarter a year ago.  The numbers, which Wall Street typically forecasts with a very high degree of accuracy, exceeded analysts’ eps estimates by $.04.

eye-popping earnings guidance for fiscal 2012

In the same earnings release, FDX gave its initial earnings guidance for 1Q12, as well as for fiscal 2012 as a whole.  For the full fiscal year, the company expects to earn $6.35-$6.85 per share;  for 1Q12 it thinks it will have income of $1.40-$1.60. Taking the midpoint of both ranges, that would imply profit growth for the full year of about 35%, and for the first quarter of about 25%.

These are eye-popping numbers.  They reflect:

–the strength of FDX management,

–the company’s high gearing to world trade, which responds in a high-beta way to world economic growth, and

–FDX’s significant exposure to international markets, which the company thinks will approach half of total revenue, and represent the majority of the firm’s profits, this year, for the first time in its history.

the stock

Let’s say the earnings guidance signals that FDX really thinks $7 a share is within reach for the fiscal 2012.  That would imply that the stock is now trading at around 13x forward earnings, or a slight premium to the market.

I’ve owned FDX on occasion over the years.  My overall take is that the management is excellent, but that the stock is so widely followed and respected that it seldom trades at a bargain price.  My first instinct is that the shares do look cheap today.  But glancing at the issue’s multiple relative to the market during the past decade, this is about where FDX normally trades.  So I’m sitting on my hands for the moment.

the FDX economic outlook

Transport and logistics companies are interesting in themselves.  But there’s also a second reason they’re so widely watched.  Because they have such intimate knowledge of the production plans of their customers, they have an unusually good understanding about how the economy is faring in the areas where they operate.  With its long experience, and its position as the premier global air transport firm, FDX has a particularly advantaged view.

Here’s what it’s expecting over the coming twelve months:

–“moderate” economic growth, with the rest of the world doing better than the US,

–acceleration of growth as the year progresses.  Why?

ο  FDX thinks that 40% of the current “soft patch” is due to the the negative effects of the earthquake/tsunamis in Fukushima during March.  The company can already see activity picking up, however.

ο  Higher oil prices caused another 40% of the slowdown, in FDX’s view.  The oil price has been falling for two months, however, in large part because consumers have reacted by using less.  FDX expects oil to stay at today’s level or lower–exhibiting the same behavior it has in similar circumstances in the past.

ο  The remaining 20% is negative sentiment, based on the previous two factors.  FDX expects sentiment will gradually recover as consumers see supply-chain recovery in Japan and lower petroleum prices.

my comments

Two things strike me about the FDX report.  First, the company’s economic forecast sounds very much like the one Fed Chairman Bernanke outlined yesterday.  Second, even a so-so economic environment is enough to allow well-managed companies to make very large profit gains–implying good stockpicking will be well-rewarded in the current environment.

 

 

 

US unemployment, cyclical or structural?: the latest round

June 21, 2011 By in Constructing a Portfolio, Current Market Thoughts, economics, employment, Strategy Tags: , , , , , , , , Leave a comment

the Siemens interview

Yesterday’s Financial Times contains a report of the paper’s interview with Eric Spiegel, the head of US operations for the German industrial conglomerate, Siemens.

Asked about the employment situation in the US, Mr. Spiegel comes down squarely in the structural camp.  He makes the following comments (some in the video of the interview, but only summarized in the written article):

–Siemens wants to hire 3,200 workers in the US right now

–all of these jobs require at least a college degree, some require more advanced education

–Siemens has recently begun to use recruiters to find workers to fill these jobs (by luring workers from other firms), because the company can’t find what it needs through internet job boards or resume submissions.  “There’s a mismatch between the jobs…and the people that we see out there.”

–in the Carolinas, Siemens is retraining laid-off textile workers to manufacture gas turbines, adapting the traditional manufacturing apprentice program of in-house training the company uses in Germany to do so.

The article also refers to a recent Manpower “Talent Shortage” survey, according to which 52% of US employers queried say they’re having trouble finding job candidates with the skills needed to fill open positions.  A year ago, only 10% were having this problem.  Other recent employment research says that employers are now willing to pay to relocate new employees, since they can’t find suitable local candidates.

implications for stocks

The Siemens interview suggests that the US is much closer to full employment than a 9% unemployment rate would suggest.

If companies want to continue to expand at full employment, the only way to get workers for their new plants is to bid them away from other employers by offering higher wages.  But this is how wage inflation starts.  And in an advanced economy like the US, wage inflation is the crucial component in overall inflation.

The orthodox remedy to nip incipient inflation in the bud is to raise interest rates to a level where expansion becomes financially unattractive.  Doing this is unequivocally bad for bonds.  History shows, however, that stocks can advance modestly while rates are going up.

On the other hand, one of the sectors that will be hit worst by rising rates is construction–one of the few employment sources for the low- or unskilled workers who make up the bulk of the unemployed.  Also, higher rates typically mean lower house prices and higher payments on variable-rate mortgages.  In a perverse way, it’s fortunate that the economy is only moving ahead slowly, so that any rate rises will likely be more modest than has historically been the case (which is a minimum of 175 basis points).

To my mind, all this has two implications for US stocks:

–the forces that have led the bull market to date, that is, non-US exposure + consumption by the more affluent, will likely keep their front-row role, and

–while the already-employed may be on the cusp of enjoying substantial wage increases, the lot of the chronically unemployed may well deteriorate over the coming year or two.  This is a social problem that fiscal policy from Washington is best suited to deal with.

MGM China (HK:2282) came public on June 7

June 20, 2011 By in Asian economic development, Casinos, China, earnings conference calls, economics, emerging markets, Entertainment, Hong Kong, Industry Analysis, Stock ideas Tags: , , , , Leave a comment

the IPO price

The offering price for the 760 million shares in the offering was HK$15.34, at the absolute high end of the range of HK$12.36 -HK$15.34 determined by the Hong Kong Stock Exchange..

a secondary offering

As I’ve written in more detail in other posts, this IPO is unusual in that it does not involve the sale of primary shares (ones newly issued by the company).  Rather, it’s a secondary offering.  That is, all the shares being sold to the public come from the already-existing holdings of company equity holders.  In this case, the sole seller is Pansy Ho, who owned 50% of MGM China before the sale.

fundamentals

According to the offering documents, MGM China lost money in 2008 and 2009.  It earned HK$1.566 billion last year.  It projects that at a minimum it will have a profit of HK$1.4501 billion for the six months ending June 30, 2011.  This would equate to eps of $.38 per share.

Let’s assume MGM China earns $.80 a share for the full year of 2011.  The offering price would then represent a multiple of 19x current year earnings per share.  When the offer’s pricing range was being set in mid-May, a 19x multiple represented parity with, or perhaps a slight premium to, the multiple investors were awarding to Wynn Macau (HK: 1128), the company I regard as the market leader–and the highest multiple casino stock on the Hong Kong exchange.

early price action

After trading briefly above the offering price, 2282 ended its first day trading at HK$15.16, on volume of a tad below 77 million shares.  It closed overnight in Hong Kong at HK$13.12, or about 14% below the IPO level.

I don’t regard this decline as particularly surprising, since the entire casino sector in Hong Kong has under gone a sharp correction that began in early May (Wynn Macau, for instance, is now trading at about 15x earnings).  What’s more noteworthy is the investment bankers’ ability to get the MGM China issue off at an unusually high price.

my take on the stock

I haven’t seen any sell-side research on MGM China.  The offering documents suggest, however, that the sales pitch for the company is that it represents a blending of the best of East and West–the local market knowledge and connections of Ms. Ho and the technical know-how about glitzy upmarket gaming of MGM Resorts International, which now has a controlling 51% interest in MGM China.  There’s a whole laundry list of related-party transactions between Ms. Ho and 2282 in support of this idea.  The documents do refer to the regulatory problems Ms. Ho has encountered in the US.  But they point out that she has never formally been declared to be “unsuitable” to hold a casino license in the US–although MGM appears to have ceased operating in Atlantic City to avoid this result.

I’m not sure the synergies the market seems to expect will work out.  It’s not 100% clear to me how Ms. Ho will balance her obligations to MGM China with those to the much larger Ho family-controlled rival, SJM.  I’m also not convinced that many talented Las Vegas executives will want to link their fortunes to the Ho family.

Whatever qualms I may have about the Ho family connection, however, MGM and the Hong Kong market–where the price of MGM China shares will ultimately be decided–appear to have none.  In addition, the Macau gaming market appears to me to be still in the rapid growth phase where the rising tide lifts all boats.  So I suspect that despite the fact I won’t be a shareholder the stock will be an above average performer in the Hong Kong market from this point on.