14 May Capital 19 Catch-Up – May 14

The 2019 Wall St recovery tour hit a speed bump this week, as trade negotiations between the US and China became mired in arguments between the two participants over who had agreed to what. The US accused China of reneging on previous agreements and despite China’s denials full 25% tariffs were back on $200 billion worth of Chinese goods by the end of the week, with threats of further tariffs on another $325 billion dollars worth still to come.

The US took a stand and decided to flex its muscle last week. The economy is strong, with green shoots appearing all over the place, while the stock market is soaring at all-time highs after a brilliant start to the year. If you’re ever going to put pressure on trading partners for better conditions it’s when you are in a position of strength, and the US feel like they have little to lose.

And initially, that is true. China has no real retaliation options on the trade front because the trade balance is so lopsided. The US spends over $500 billion on Chinese goods, while China only imports around $120 billion of US goods. Chinese tariffs have mainly impacted US farmers, and the US government have announced they will be providing financial assistance for those impacted.

With higher costs for Chinese goods, there’ll initially be higher prices for US consumers over the counter. A 25% price rise is unsustainable for most retailers of course, so US importers will need to quickly find products from other countries to take the place of the Chinese products. And that’s not good for China, or for us here in Australia for that matter.

The US is China’s largest export market by far. It imports almost twice the amount as China’s number two trading partner Hong Kong, and four times as much as the 3rd ranked Japan. China can’t afford to have this particular trading relationship ruined.  So you would imagine they will have to buckle at some point. They’ll have to allow more US access to Chinese markets, as well as providing some sort of protections on US technology.

In the meantime, they’ll try and buy some time, play a little bit of chicken, and not try to give up too much to get the US back on side. We’re likely to see a little bit of volatility in the market while we wait for a resolution, but in the end, it will all get worked out. There’s too much at stake for China to be an outlier.

How did the markets respond?

The markets seemed to take the spat in its stride. Yes, it did move lower, but all in all, it was a non-event with many believing there would be a last-minute deal, and when that didn’t eventuate they assumed a resolution wouldn’t be too far away.  No one wants to miss out on the bounceback, but it will be interesting to see how Wall St’s nerve holds if there is any sort of escalation.

The benchmark S&P500 had only its fifth losing week of the year, falling 2.2%. For the Nasdaq, it notched up only its 3rd down week of 2019, losing 3%. It was its worst performance for the year so far. The Dow was 2.1% lower, while over in China the Shanghai Composite lost 4.5% for the week, despite a 3.1% up day on Friday. Not too bad for all concerned considering the drama.

So while it was hard to take our focus off the trade war, we had one of the most waited for IPO’s in history late in the week. And what a let down it turned out to be.

UBER

UBER (UBER) has speculated about listing for many years now, and finally, it’s time came as the market opened on Friday. Already expectations had dampened as the IPO price came in at the lower end of the scale at $45, valuing the rideshare pioneer at just over $82 billion. But there was still optimism to be had. It is extremely rare for an IPO of this size to have a losing day first up. In fact, according to Deallogic, of all the 53 companies that have listed with a valuation of over $10 billion, only 8 have closed lower at the end of their first trading day.

However, it wasn’t to be for Uber who opened lower and never traded higher than it’s initial $45 price tag. It eventually lost 7.62% to finish down at $41.57. It had raised $8.1 billion as part of the IPO, with $617 million of that disappearing on day one for the late investors. I imagine the board will be kicking themselves they didn’t get to market before smaller rival Lyft (LYFT), which is itself down at $51.08 after starting at its IPO price of $72.

For the rest of us, we can now pick it up for a nice discount to those that got in on the IPO, although you’d need to be a gambler. There’s just too much risk in my opinion. The nature of the industry means it’s very easy for competitors to gain a foothold by offering discounts, which means you have to match discounts just to be competitive. This will mean an ongoing problem with margins and difficulty in ever turning a profit.

Not to say they can’t do it, but I would want to see losses starting to turn around before I threw my own money aboard. In the 12 months to March Uber lost $ 3.7billion. It was the largest loss ever in the preceding year, leading up to a company’s IPO. At that rate, it’s going to be a long long wait until the can gain back the $76 billion valuation they had at the end of their first trading day.

Earnings Announcements

The biggest earnings announcement of the week was from Walt Disney (DIS), who impressed the market with a solid first quarter performance. Earnings came in at $1.61 per share, above the $1.57 analyst estimates, while revenue hit $14.92 billion, over and above the $14.53 billion expected.

More good news came as its blockbuster Avengers Endgame became the third highest grossing movie of all time, taking its box office tally to $723 million domestically. It is now within striking distance of the number two placed Avatar at $760 million, but a fair way off Star Wars: The Force Awakens in the number one spot, coming in at $936 million.

All bodes well for the company, which still has it’s Disney plus streaming service coming by the end of 2019. We’ve been saying all year the Disney is a good buy, and it’s still cheap. Even after the market beat this week, the price gain was stifled by all of the market turmoil. You can still pick up Disney for the same price as you could at the start of last week.

Walmart (WMT) will be the focus of this week’s earnings. The world’s largest retailer is the perfect indicator of US economic health. $1 in every $5 spent on groceries in the US is spent in one of their “hypermarket” stores. The retail behemoth has been working hard in recent years to increase their online presence against competitors such as Amazon (AMZN) and they are having more success than most.

Their size advantage when dealing with suppliers, as well as having the world’s largest client database, sets them up perfectly to be an online leader which can take on all-comers. They have been increasing revenue and e-commerce sales aggressively over the last few quarters and investors will be expecting more of the same. We want to see revenue jump to $125.24 billion, while profit is expected to slip after the purchase of e-commerce retailer Flipkart earlier in the quarter.

On the data front, we’ll see the Small Business Optimism Index come out on Tuesday. It will be interesting to see how much small business believe they will be impacted by the ongoing trade war. There’ll also be Retail sales on Wednesday, and the Philly Fed on Thursday. Take a look below for what to expect in more detail.

Hope you all have a great week.

Cheers, Paul.

Earnings:

• Tuesday: Ralph Lauren (RL), Stem Holdings (STEM), Sunworks (SUN)
• Wednesday: Beyond Meat (BYND), Cisco Systems (CSCO), Macy’s (M)
• Thursday: Children’s Place (PLCE), JC Penny (JCP), Nvidia (NVDA), Walmart (WMT)
• Friday:  Deere & Co (DE)

Economic Data:

• Tuesday: NFIB Small business index, Import price index
• Wednesday: Retail sales, Empire state index, Industrial Production, Capacity Utilization, Business inventories, NAHB  Homebuilders index
• Thursday: Weekly jobless claims, Housing starts, building permits, Philly Fed manufacturing index
• Friday: Consumer sentiment index