Communication Breakdown

Communication breakdown
It’s always the same
I’m having a nervous breakdown
Drive me insane!

– Led Zeppelin

Get ready for Communication Breakdown Wednesday! At a financial conference in St. Louis this week we get a parade of Fed Governors weighing in on policy and the economy. Investors can expect to come away more confused trying to read between the lines of cryptic Fed speak. Kicking off the proceedings will be keynote speaker New York Fed President Williams at 9:25 EST. Williams is already dealing with falling morale at the New York Fed after his recent decision to oust Simon Potter head of the markets desk and Richard Dzina who ran the financial services group. The dust still hasn’t settled following the purge in late May.

The Federal Reserve needs a communications director. Often after the Fed acts or makes a formal press release, a parade of talking Fed Heads do their best to confuse investors telling us what they would do different. Even when they are on the same page they often differ on the mechanics and pace of policy. On Wednesday we’ll have to live through the nightmare 4 times with Williams followed by Bowman, Kashkari and Evans. Later in the day the Beige Book will come out giving us a summary of current economic conditions. The Fed needs to speak with one voice. Investors have enough on their plate. A Federal Reserve that isn’t confident in their decisions only adds to the confusion.

Walking the street

On most Sunday afternoons you’ll find me in front of a computer scanning the screens for upcoming data and fresh viewpoints from the street. Michael Wilson Chief Equity Strategist for Morgan Stanley this week puts out an important piece weighing in on the Elephant in the Room, slowing corporate earnings growth. This is an issue we’ve been speaking to for some time and this week’s chart isn’t much different from the last 4 we’ve put out. Earnings estimates for the S&P 500 continue to slip lower. Even more concerning is FactSet data showing that estimates for all 11 sectors have declined for the first two months of the quarter. At this pace earnings will go negative year on year by December.

Mr. Wilson points out that 70% of PMI data around the world is under 50 or in contraction. Of course, none of this is surprising given the current trade war between the U.S. and China. I’ll avoid any political statement as readers have wide diverging views on present policy. However, it appears the tide of sentiment has turned here in the United States. A recent Wall Street Journal poll showed 60% Americans believe China is an economic and military adversary, significantly higher than the 47% registered last year. Given that dynamic we’re going to be dealing with this for some time regardless of the election outcome in 2020.

Atlas Shrugs?

Of course, holding up the world like Atlas is the U.S. consumer who for the moment doesn’t appear to be putting away their wallet. The last couple of retail sales reports were very strong followed by outstanding earnings from two of the largest Target [TGT] and Walmart [WMT]. You can bet all eyes will be on the next retail sales release on the 13th of this month.

Of course, a big part of the consumer’s ability to spend is employment. Friday we get a look at August and whether the good news still holds. We’re late in the employment cycle along with unemployment sitting at just 3.7%. Maybe more useful would be any significant change in unemployment claims which to date still are subdued.

Sentiment is fragile

Given the fast-changing trade dynamic it’s fair to say that while consumer sentiment is strong, it’s also fragile. The latest round of tariffs kicked in over the weekend. 15% tariffs on tools and some apparel items are in place while the 15% on $150 Billion of smartphones, laptops and other electronic items are postponed until December 15th to avoid impacting the holidays.

Alphabet pulls out of China

The most under reported story of last week and maybe the most significant development since the trade war started comes from Alphabet [GOOGL] following its announcement to move the manufacturing of their pixel smartphone from China to Vietnam. It’s significant in the sense that this could be an early sign that China is losing the war over supply chains. We’ve seen several reports suggesting that moving supply chains and or manufacturing of high-tech goods to Vietnam was difficult if not impossible. Vietnam doesn’t have the infrastructure or skilled labor to meet the demand or, so we’ve been told. Now we find out that Alphabet, one of the smartest companies on the planet is doing just that. Buried in the story is the fact that Samsung is already there. Dell [DELL] and HP [HPQ] are also moving some manufacturing as well.

With sentiment against China increasing on both sides of the aisle, CEOs are going to think long and hard about capital commitments to a supply chain or factory in China. They often cost $Billions to implement with a potential lifespan measured in decades. This story has legs and, if it picks up steam, could at least accelerate the end game.

*At the time of this article some funds managed by the author were long TGT and GOOGL.

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Equities Contributor: David Nelson, CFA CMT

Source: Equities News