Monthly Archives: June 2014

The financial crisis and the renminbi

June 16, 2014 By in Asian economic development, China, economics, emerging markets, reserve currency, securities markets, Stock ideas Tags: , , , , , , , , Leave a comment

As I apparently never tire of writing, the financial crisis that came to a head five years ago has resulted in an extended period of emergency ultra-low interest rates.  The tried-and-true idea behind this is to give economic activity a boost by making loans carrying negative real interest rates readily available.  “Free” money should make anyone with a pulse willing to borrow and spend.

In the past, these low-interest periods engineered by the Fed lasted at most a year.  We’re now into year six of the current episode.

One result of this extremely long emergency period is that fixed income investors are currently lapping up low-coupon Italian, Greek…even Iraqi..sovereign debt.  And crazy (in my view) fixed income products like contingent convertibles, no-covenant junk bonds and pik (payment in kind) junk bonds, where interest is paid in new bonds, not cash, are all finding eager buyers, as well.

Another is that savers living on interest payments (increasingly Baby Boomers), who are in effect subsidizing the financial rescue, are suffering.  In fact, Millennials have just surpassed Boomers as the most important single demographic force in the US economy.

All of this is well-known.

Another development, though, which may turn out to be the most important in the long run, has escaped notice so far.  It’s the increasing acceptance of the Chinese renminbi in world trade and in investment.

Fifteen, or even ten, years ago, China was content with the fact that all of its trade was effectively done in dollars.  Beijing let Treasury bonds pile up in its coffers, to the point where it rivaled–and the surpassed–Japan as the largest creditor of the US.  It had become uneasy about this situation even before the financial crisis.  Stunned by the meltdown of 2008-09, China decided to offer its currency as a substitute for the dollar.

Until the past year or so, the renminbi has drawn pretty close to zero interest.   This is partly because at first it wasn’t easy for either foreigners or Chinese parties to use the renminbi in trade.  Also, foreigners can’t spend “offshore” renminbi in China itself.

Yes, the renminbi is easier to use today.  But I think a big reason the renminbi is suddenly extremely popular now is the very low-interest rate environment we’re in.  Multinationals with Chinese operations can save 3% – 5% by settling Chinese trade transactions in renminbi.  In other circumstances, this might not be worth the hassle.  But if your cash balances are earning effectively zero and if you have to buy a pik bond or Iraqi debt to get a 5%+ yield, then switching from dollar to renminbi trade settlement is a relative bonanza.

This movement seems to be feeding on itself.  It’s causing very rapid growth in renminbi use, admittedly from a low base.  I don’t think this development has any important immediate investment consequences.  But it could end up making a profound (negative) impact on the dollar and the euro if it continues–as I expect it will.  The ultimate result would be to make renminbi earners much more attractive as investments than they currently are.

The big investment question is when the inflection point will come, when the renminbi will begin to be regarded as a viable alternative to the dollar as the world’s reserve currency.  Perception will likely precede reality by a long stretch   …although I don’t think the tipping point will come this year or next.  I view this as something important to keep in mind, however, so we can recognize what’s happening if this trend develops faster than I now think it will.

 

Intel (INTC) revises up 2Q14 guidance

June 13, 2014 By in Current Market Thoughts, Industry Analysis, semiconductor manufacturing, Stock ideas, Strategy, Technology Tags: , , , , , , Leave a comment

rising guidance

I may have been a few days too early in my post suggesting trimming positions in INTC.  I still think the idea is right, but my timing now appears to have been less than optimal.  …oh, well.

How so?

After yesterday’s close, just before entering its quiet period on June 17th–where it won’t talk about near-term business prospects until releasing 2Q14 earnings on July 15th–INTC revised up its guidance for the quarter by a significant amount.

the details

Prior guidance was for 2Q14 revenue of $13.0 billion,  That figure rises to $13.7 billion, a +5% change.  It’s based on increased demand for business PCs.  The expected gross margin goes up by a percentage point, and expenses rise slightly, both because of increased unit volume.  The tax rate also increases from 27% to 28% for the remaining three quarters of the year.

Full year revenue expectations go from “flat” to “some” revenue growth.

significance?

For INTC, this is the first sign of life in its core PC operations for some time.  That’s probably more important than the fact that gross profits for the quarter are coming in about 7% higher than the company had expected.  The wording of INTC’s press release makes me think that this is a relatively recent development, and that the company is hopeful the increased sales are not a flash in the pan, but would prefer to wait at least another month before saying so.

The rising tax rate suggests to me that the new business is predominantly in the US.

If this sales increase is not just a blip, it has wider implications, as well.  It suggests that US corporations must be starting to feel pretty good about their business prospects.  Yes, there have been incredible advances in laptop performance and design over the past half-decade.  But during the recession and recovery, corporate PC upgrades have been low priority, “luxury” items–sort of like getting new office furniture.  A widespread move to get rid of  the old clunkers would imply a return to more normal spending patterns.

INTC shares are up by about 6% in pre-market trading.  It will be interesting to see if the strength lasts–and if the INTC press release sparks comments from PC makers.

 

 

the “dark pool” investigation

June 11, 2014 By in dark pools, Industry Analysis, Investment firms, the SEC Tags: , , , , Leave a comment

Someone with a Dungeons and Dragons background must have named them “dark pools.”  But they’re neither mysterious nor scary.  Dark pools are just off-exchange automated trading networks for stocks.

They exist for two reasons:

–the old school method of having a trader in a money management firm call up a broker and place a buy or sell order by phone is expensive.  And money managers have a legal obligation to obtain the lowest cost execution of their orders on behalf of clients.  So they have a positive obligation to seek out cheaper ways of doing business–which automated networks are.

–brokerage house traders won’t keep a money manager’s order secret unless the manager is exceptionally diligent.  This is a real hassle, and very time-consuming for the  money manager’s trading room.  But if you don’t pay extraordinary attention, your secret trading plans–which, after all, are your stock in trade–will be all over Wall Street in a nanosecond.

Automated trading networks have one–no, make that two–defects:

–they can be relatively illiquid, so that very large positions may not be able to be moved quickly, and

–many of the biggest of them are run by investment banks/brokerage houses.

This second characteristic is the reason for the current SEC investigation.

In a recent post, I wrote that Fidelity was exploring the possibility of forming its own automated trading network with other money managers, cutting out brokers altogether.  Its reason, I thought, was that computer=based high frequency traders were able to deduce Fidelity’s trading plans by analyzing dark pool data–and that Fidelity wanted to create a venue where they’d be banned.

It appears I may have been too high-tech in my approach.  The SEC investigation appears to focus on two possibilities, both of which are decidedly old-school brokerage behavior and both of which would violate the guarantees the automated network operators give to clients:

–the first is that the operators may have taken undisclosed fees from high-speed traders to allow their buys and sells to have priority over other order–essentially letting them front-run or scalp other participants

–the second is that operators may have taken the supposedly anonymous trading activity of high-profile participants and sold its details to others.  I say “sold” but in my experience, the compensation for such information would normally not be in cash but either in increased trading volume or higher per-trade fees.

Personally, I don’t think dark pools themselves are the issue.  I view them as part of the solution to a problem with how traditional brokerage/investment banks are run.  And the fact that the old system is breaking down makes these firms even less willing than normal to give clients an even shake.

It will be interesting to see how the SEC investigation progresses.

 

 

thinking about Intel (INTC)

June 10, 2014 By in Recent Market Action, semiconductor manufacturing, Stock ideas, Technology Tags: , , , , , Leave a comment

I became interested in INTC in late 2011, when it was trading at under $20 a share and yielding well over 3%.  It was a good news/bad news story, where it seemed to me that only the bad news was reflected in the stock.  So, although I’m a growth investor (one might argue that because I’m a growth investor), I was attracted to the stock on value grounds.

The bad news then–and the continuing bad news today–was/is that INTC had missed the boat on processors for mobile devices.

The good news had two aspects:

–INTC had realized what a horrible blunder refusing Steve Jobs’ invitation to develop chips for the iPhone and was working to correct it.  In addition,

–INTC had a lead of a least a year, maybe two, over anyone else in cutting edge process technology (smaller, cooler, less power-hungry).  That advantage,INTC said, would quickly put it back into the mobile game–maybe as soon as 2012, certainly by 2013.

I reasoned that at 5x cash flow, 8x earnings, proprietary technology and a 3% yield, there was little downside.  So I bought some and began to write about the story.

The stock went to just above $28 a share within six months or so.  As the stock approached $25, however, I had to change my investment thesis to something more than “more bad stuff is unlikely, good things might happen, and I was being paid about a 30-year Treasury yield to wait.”

I thought $35 was a possibility if–as Paul Otellini the then-chairman said it would–INTC developed mobile customers quickly. At the same time, I recognized that if the company did not show mobile progress there was risk that the stock would reverse at least some of its gains.

Whoops!

A year later, the stock was at $19.10, below its year-earlier low.  Mr. Otellini, who by this time had announced that 2013 would join 2012 in the “nothing good to report” column, was out as CEO and the search was on for someone with a greater sense of urgency about INTC’s predicament.

déjå vu all over again

Brian Krzanich, a process engineer and a 30+-year INTC employee, is now the CEO.  The profit profile for this year and next–flat–hasn’t changed.   I can’t imagine the dividend being increased, although I can’t conceive of it being cut either over any reasonable investment horizon.  The next sea change in process technology is looking to be so expensive (triple the cost of the previous jump) that even INTC won’t go it alone–implying that INTC’s current edge in processing skill won’t last forever.

Nevertheless, INTC shares are trading above $28 again and flirting with the 2012 high.

Why?

Part of this is because the overall market is up sharply since 2012.  But INTC has been outperforming since shortly after Mr. Krzanich took the helm.  I think there’s good reason for this.  Mr.Krzanich is proving very nimble at using INTC’s technology to forge partnerships to get INTC the mobile knowhow and distribution it needs.

I think INTC is now in hands better suited to deal with INTC’s weakness in mobile. than it was in 2011, when I first bought the stock  There’s a considerable chance, I think, that INTC will make a successful transition to smartphone and tablet supplier, with profit increases to show for it in 2016.  $35 a share still sounds like a good price target to me.

Nevertheless, as was the case in early 2012, INTC is no longer the “no-brainer” it was in late 2012.  I’ve just sold about 20% of what I bought under $20 and I’ll likely trim a bit more.