Monthly Archives: June 2014

the Employment Situation, May 2014

June 9, 2014 By in economics, employment, Employment Situation report Tags: , , , , , , Leave a comment

Last Friday, as usual, the Bureau of Labor Statistics of the Labor Department published its monthly Employment Situation for May 2014.

The numbers were good.  The economy added 217,000 net new jobs during May, made up of +215,000 in the private sector and +1,000 in government.  There was no revision to the March 2014 figure of +203,000 new positions.  April’s gigantic +288,000 new job gain was revised down by -6,000, but that’s not significant.

The strong figures reported by the BLS each month since February appear to have convinced Wall Street that the weakness seen in December and January was due to bad weather, not a reversal of the economic progress of the past year.

As a result, investors have shifted their attention away from employment gains to second-level issues, namely:

–annual wage increases are running at about +2%, a relatively low figure that indicates there still is considerable slack in the economy.  This is a good news/bad news thing.  Inflation in advanced economies is all about wages; +2% means employers feel labor is still plentiful.  Therefore, rising interest rates aren’t just around the corner.

On the other hand, given the half-decade-plus that the Fed has been applying enormous monetary stimulus in the US, you’d think there’d be a stronger pulse.

–the situation for the long-term unemployed, those doing part-time work because they can’t find full-time jobs, discouraged workers who have dropped out of the workforce, and Millennials looking for jobs hasn’t improved over the past year or so.

my take

The recent series of strong job gains show that the US economy is out of intensive care and is continuing to heal itself someplace else in the hospital.  Without help from fiscal policy–which is highly unlikely to come–this is as good as it gets.  As a result, I don’t think the employment figures will continue to play as important a role in stock market movements as it has from the beginning of the recovery until now.

From this point, the key will be wage gains.  A pickup from the current rate will be a strong indicator for the Fed to withdraw more of the emergency economic stimulus it has been applying.  In other words, wage gains will be a signal that interest rates are about to rise.

 

the European Central Bank (ECB) is now charging for overnight money storage

June 6, 2014 By in economics, negative interest rates Tags: , , , , Leave a comment

Yesterday, the ECB reduced interest rates across the board in he EU and pledged to provide extra financing at cheap rates for four years to banks that lend to consumers and businesses.  The real eyecatcher, however, was the central bank’s decision to reduce the rate it pays member banks on overnight deposits to -.10%.

What’s this all about?

The standard way for governments to fight economic slowdowns in the post-WWII world is to reduce interest rates until they’re substantially below the rate of inflation–and keep them there until recovery begins.  If the interest on a loan is, say, 3% and prices/salaries are rising at a 5% annual clip, the borrower is getting a 2% subsidy from the government just to take the funds and invest them.

The process is well understood and virtually always employed.

Two things are unusual about the current situation in the US and the EU.  One is that we’ve had negative real interest rates for such a long time.  In the US, for example, we’ve had negative real interest rates for over five years.  In a garden variety recession, rates might be negative for five months.

The second is what economists call the “zero bound” issue.  Conventional wisdom says that governments can’t/shouldn’t reduce nominal interest rates below zero.  This is partly because it sounds weird and the issue has seldom come up.  Mostly, though, it’s because the world has no experience with negative nominal interest rates.  The fear is that there will be unintended negative consequences of having the central bank set rates below zero.

On the other hand, there’s the quarter-century of economic stagnation in Japan to consider, where rates stayed above zero while the economy contracted slightly year after year.  Real interest rates remained strongly positive, as a result, depressing any sparks of economic progress–year after year.  Not a happy outcome.

In the case of the EU, overall prices are now rising at a mere +0.5%, with economist predicting that it is likely to contract further in coming months.  This is making Europe look increasingly like Japan circa 1990, when that country’s long-lasting malaise began.

So, the ECB has apparently concluded that negative rates don’t look so bad.

Market reaction so far seems to be that while the move has a certain shock value, rates are unlikely to move lower.  Quantitative easing, of the type now being “tapered” in the US is the likely next step.  But if so, why break the zero bound in the first place?  Maybe some idle cash now parked in euros will move elsewhere, thereby weakening the currency.  More likely, to me at least, is that someone on the ECB board needs to be convinced that all other avenues have been explored before commencing with QE.

If that’s correct, negative interest rates will remain a curiosity.  My guess is that any substantial economic impact will only come if the ECB lowers rates further into negative territory.

It’s certainly worth thinking about what might happen if the bank does so.

Macau gambling, May 2014

June 5, 2014 By in Casinos, China, Entertainment, Hong Kong, Macau, Stock ideas Tags: , , , Leave a comment

The day before yesterday, the Macau Gaming Inspection and Coordination Bureau (DICJ) posted the total monthly gambling “win” (the amount lost by gamblers) for the SAR’s casinos during May.  The results were below analysts’ expectations, causing a selloff in the US gambling stocks with Macau presence, and a minor negative ripple in the Hong Kong-traded Macau casino stocks themselves.

The year-to-date DICJ results are:

Monthly Gross Revenue from Games of Fortune in 2014 and 2013
Monthly Gross Revenue Accumulated Gross Revenue
2014 2013 Variance 2014 2013 Variance
Jan 28,739 26,864 +7.0% 28,739 26,864 +7.0%
Feb 38,007 27,084 +40.3% 66,746 53,948 +23.7%
Mar 35,453 31,336 +13.1% 102,199 85,284 +19.8%
Apr 31,318 28,305 +10.6% 133,517 113,589 +17.5%
May 32,354 29,589 +9.3% 165,871 143,178 +15.8%

Source: Macau Gaming Inspection and Coordination Bureau

What’s going on?

First of all, and least important, the market had been expecting a 10%+ year-on-year gain in aggregate casino win, based on weekly reports of business results provided by the casinos.  The falloff during the last few days of the month is most likely a random variation in the casino luck factor, one that will eventually be reversed.

More generally, the so-so rate of yoy gain in win is the result of two opposing factors.  On the one hand, increases is betting by mainland high-rollers, the almost exclusive focus of the Macau market over the past decade, have slowed to a crawl.  On the other, affluent mass-market gambling is rising sharply.  Mass market gamblers bet smaller amounts, but lose a much higher percentage of the amount bet than VIPs (who are more or less professional gamblers).  Mass market patrons want entertainment, not necessarily gambling profits, so they don’t watch what they’re doing so closely.  They also spend a lot more on things like restaurants, shows and shopping.  We’ll know more about non-gambling when June financial reports are released by the casinos, but non-gambling profits have been rising sharply from a small base.  It’s important to remember that in the salad days of Las Vegas, non-gambling amounted to half of casino industry profits.  So growth in Macau has potentially a long way to grow.

The overall Macau market is facing capacity constraints that will only begin to easy next year.  In a sense, the current lull in new capacity additions is ending up being luckily timed, since it coincides with a slowdown in the VIP market.

All in all, it seems to me that the March-May gains in casino win are more indicative of what the rest of the year will be like than January-February.

The related stocks have sold off by about 20%–more than I would have expected–in a flat Hong Kong market over the past few months.  Stocks like Sands China and Galaxy Entertainment, which have little VIP exposure and lots of mass market, have declined at least as much as Wynn Macau, which is in the opposite position.

I find the Macau stocks hard to figure out.  It’s not their profit potential, it’s the way they trade in the Hong Kong market.  The current situation of little capacity addition was well-known a year ago.  The VIP slowdown could equally well have been anticipated.  I think the mass market and non-gambling profit development has been much more positive this year than the consensus expected.  In other words, the negatives are no worse, and the positives are a lot better.  Yet the stocks went up last year and have sold off so far in 2014.

My take?  I’m in this for the long haul.  I sold my Wynn Macau quite a while ago and have been looking for a reentry point.  Not yet, though.  I continue to own Galaxy Entertainment and would own Sands China as well, if it were easier for a US citizen to buy.  I’m looking to add to my holdings, but am in no rush.

frontier markets: safer than emerging markets?–I don’t think so

June 4, 2014 By in ETFs Vs. Mutual Funds, frontier markets Tags: , , , , Leave a comment

On Sunday the Wall Street Journal published an article whose apparent conclusion is that frontier stock markets have not only better performance than emerging or developed markets, but they’re safer as well.

I don’t think this is right.

developed, emerging, frontier

The dividing lines between developed, emerging or frontier markets are a little vague, but basically they are as follows:

–Developed markets are in politically stable, high GDP mature countries that have large liquid stock markets and where there’s a long history of trading in different economic climates.  Think:  US, UK, Japan…

—Emerging markets are the next step down.  They’re in relatively politically stable countries whose stock markets offer a variety of sectors and names.  Under normal conditions, liquidity of large-cap names is good, although there may be restrictions on taking profits out of the country.   Think:  Taiwan, China, Brazil…

—Frontier markets are the countries with stock markets that don’t make the emerging markets cut.  They may be too small, not liquid enough, politically unstable…or just new.  Think:  Nigeria, Bulgaria…

performance

Over the past ten years,

the MSCI developed markets index has returned 5.16% annually.

the MSCI emerging markets index has returned 9.44% annually.

the MSCI frontier markets index has returned 5.35% annually.

Yes, frontier markets have had a fine past 18 months, but a lot of that is catch-up with other markets.

riskiness

Here’s where I really question the WSJ article.

It refers to a study distributed by LR Global, a tiny frontier markets specialist($200 million under management), to its clients.  The report measures weekly stock market volatility–the ups and downs of stock prices.  Such volatility is the standard academic measure of risk.  Its main virtues are that it’s simple, clearly defined and easy to calculate.  In my view, however, weekly price volatility has virtually nothing to do with what investors mean when they talk about the risks they are taking in investing…but that’s another issue.

LR points out that over the past ten years frontier markets have routinely been less volatile than emerging markets.  In addition, they have been less volatile than developed markets over the past three years.  LR’s conclusion:  frontier markets are safer than popular opinion would make them.

my take

I have two observations about this, both of which relate to liquidity:

–smaller markets, in my experience, have the appearance of stability because it can be difficult to trade in them.  In bad times in particular, bids for a stock may completely disappear–or come in for only a small number of shares and at a 20% discount to the previous trade.  Holders a choice between taking taking this price to sell , say, 10% of the holding (thereby devaluing the entire holding), or do nothing.  The easier choice is the latter.  So no trade happens, and the official stock quote remains unchanged.

–liquidity in small markets is very often mostly provided by foreigners trading with one another.  If they leave–and they may be gone for several years, liquidity dries up.  Volatility may be low, but that’s a bad thing, not a good one.

For individual investors in frontier market mutual funds that are part of a large, well-capitalized mutual fund complex, the liquidity issue is probably not crucial.  For anyone else, it deserves a lot of thought.

Personally, I have no burning desire to invest in frontier markets.  I don’t see what advantage I would have there.  But I don;t think that safety is one of the virtues of these markets.

 

Signet (SIG) buying Zales (ZLC): a takeover scorecard

June 3, 2014 By in activist investing, activist invstors, mergers and acquisitions, stock market, takeover rules Tags: , , , , , , , , Leave a comment

Last week, shareholders of mall jewelry company Zales (ZLC) voted to approve the takeover of the firm by its rival Signet (SIG).  SIG, a UK-listed company owns Kay and the more upscale Jared, as well as a number of (much less interesting, in my view) UK brand names.  The acquisition price is $21 a ZLC share, or about $670 million.

When I was working I liked luxury goods in general and the jewelry business in particular.  My portfolios contained Tiffany (TIF) and SIG more often than not, and Bulgari (now a part of LVMH) from time to time.  ZLC never.

What I’m primarily interested in today is to outline ownership percentages that are important in any US-based takeover.

1.  at 80% ownership, the acquirer can file a consolidated tax return, meaning losses in one part of the company can be used to offset otherwise taxable income in another.  As well, funds can pass freely from one part of the combined company to another without being considered (taxable) dividends.

2.  at 90% ownership, under the law in Delaware (where virtually every publicly traded US company is domiciled) the acquirer can force the other 10% to tender their shares.  Not having a minority interest makes running the combined company much easier administratively.  Specifically, the firm doesn’t have to concern itself with a tiny number of shareholders whose sole aim may be to become enough of a nuisance to be bought out at a higher price.

3.  at 90% ownership, dissenting shareholders do have the right to appeal to the Delaware Court of Chancery.  There, they can argue that they–but not the vast majority who have accepted the takeover offer–deserve a higher price.  Whatever the outcome, they are still compelled to sell their shares.

The process can be time-consuming.  It’s also risky.  The dissenters’ funds are tied up while the appeal is being heard–and if they lose, they’ll end up with the takeover price, less their legal expenses and will get the money maybe two years from now.

4.  SIG and ZLC are in the same industry.  If I understand US tax law correctly (a big “if”), this fact makes the accumulated tax losses of ZLC more readily available to SIG than would normally be the case.  This could be important, since my cursory reading of the ZLC 10-k suggests ZLC lost just under $500 million in the US during 2009-2012.  Those losses would be worth around $140 million to SIG if they could be used immediately, even if ZLC already used some of them in 2009 to recapture earlier taxes paid.

this may well be an interesting chancery court case

Several large institutional owners of ZLC shares have voiced their intention not to tender all/some of their shares to SIG and to seek a higher price in chancery court.  This may simply be bluster.  If not, I think the case will be an interesting one.

SIG has said that it expects to improve ZLC’s operating results by $50 million a year by using the SIG sourcing apparatus and by another $20 million by plugging ZLC into SIG’s administrative structure.  It expects a final $30 million from sales growth and repairs.  Then, of course, there’s that $140 million in potential tax benefits.

What I find interesting is that just about all this extra value is created by the fact that SIG is the new owner.  A private equity buyout, for example, wouldn’t have anything like the same positive effect, since it wouldn’t have the appropriate sourcing and repair infrastructure (I’ve visited the SIG diamond vault, by the way).  And their use of ZLC tax losses would be far more restricted.

Are minorities entitled to share in value being created solely from intellectual any physical property owned by SIG?  If it come to chancery court, the argument should be interesting.