What a few days it's been for what is supposed to be a relatively quiet time in the market.
Historically, August trading volumes dip amid summer vacation time and while that happened this week, the lower volume we've had was caused by other factors. Amid the dearth of economic data, while still sorting through several hundred earnings reports out this week, it was international issues that took center stage and caused more investors than usual to sit on the sidelines.
Over the last few years, the mentality has been to buy the dips and for the most part that has worked rather well. Many saw last week's drop that pushed the market into oversold territory as an opportunity. But fighting between Israel and Hamas, Russia's one-year ban on a number of food and agricultural imports from the U.S., the EU, Australia, Canada, and Norway and word that the Obama administration has authorized airstrikes against Islamic militants in northern Iraq have all put a combined weight on the market's chest. While we've heard a few scoff on hearing the Russian ban, the country is the second-biggest importer of chicken from the U.S. Even though Russia only accounts for 7% of total U.S. poultry export volume, down from as much as 40% in the 1990s according the National Chicken Council, news of the ban hit Tyson Foods (TSN) and Pilgrim's Pride (PPC) shares.
It just goes to show that while you tend to think revenues, earnings and economic data are the drivers of businesses and stock prices, international tension can come along and serve up a healthy plate of disruption and uncertainty for stocks.
During periods of increased volatility, for some the natural reaction is to panic sell, while others sit on the sidelines. The prudent investor will look at the fundamentals and wait to strike should the risk-to-reward tradeoff become favorable, if not compelling. Looking at a chart of the S&P 500, it's shaping up to look much like it did this past February when winter storms battered the country and brought economic activity to a grinding halt. While we could recount recent ISM and Markit Economics data that point to a better second half than the first half for the U.S. economy, the latest monthly Wall Street Journal forecasting survey of 43 economists finds real gross domestic product is slated to grow at an annual rate just shy of 3% in the second half of 2014.
That's far better than the 2% the economy registered in the first half (and yes, we would expect it to be revised lower once we have the second and third reads on 2Q 2014 GDP). When matched against a 4% selloff in the S&P 500, opportunities in oversold companies like United Parcel Service (UPS), Paccar (PCAR), General Motors (GM), and Parker-Hannifin (PH), to name a few, are likely to show up on investor screens. The latest American Association of Individual Investors (AAII) sentiment poll showed a move in bearishness to its highest level in nearly a year, but those peaks tend to reflect recent pullbacks and, as history has shown, buying opportunities.
Aside from the duration of international issues, the two wildcards in the second half of the year will be the consumer and housing. We continue to see a strapped consumer amid a number of rising costs and related price increases and that will weigh on housing, which has been a bigger drag on the economy than many thought back in January. While current forecasts still call for 1.01 million homes to be built this year vs. the annualized average of 953,000 through the first half of the year, Versace has adopted Hawkins' wait-and-see approach. As we watch the 10-year Treasury yield dive below 2.45%, one has to think something other than low mortgage rates is suppressing the domestic housing market.
The message as we wrap this week is to be far more selective, but recognize where opportunity lies: between the mismatch between falling stock prices and favorable fundamentals. If we were to get little different news, we suspect investor focus would return to fundamentals and while it may make for boring television, it's great for investing.
Here are several notables over the last week.
Like we see every earnings season, there were a number of high flier. Disney (DIS), Michael Kors (KORS), AOL (AOL), Expedia (EXPE),and Coach (COH), but also more than a few that fell short of analyst expectations, including Orbitz Worldwide (OWW), Zynga (ZNGA), Time Warner (TWX) and Target (TGT). Even though Coach reported better-than-expected earnings, we think Herb Greenberg would agree with us that it's hard to get overly excited about a retailer that reported "only" a 17% decline in same-store sales in North America vs. an expected decline of nearly 21%.
Several companies, including Mondelez International (MDLZ), International Flavors & Fragrances (IFF), Bank of America (BAC), Walgreen (WAG) and Aqua America (WTR) announced dividend increases this week.
Following the urge to merge trend we've seen over the last several months, we saw two higher-profile would-be pairings fall apart in Twenty-First Century Fox (FOX) and Time Warner and Sprint (S) and T-Mobile US (TMUS).
Those two falling outs did not curb the M&A trend as several were announced this week including Cerner (CERN) buying Siemens Health Services for $1.3 billion cash and Gannett (GCI) acquiring the remaining portion of Cars.com it did not own for $1.8 billion. Also this week Gannet announced it would split into two publicly-traded companies, with one side focused on its broadcasting and digital business and the other side focused on its publishing business.
But Hawkins is raising a yellow warning flag on the M&A activity as, according to Thompson-Reuters, global M&A transactions through the first six months of 2014 increased to a level not seen in seven years, with volume as of June 26 at $1.75 trillion, a 75% year-over-year increase for the first six months vs. $2.28 trillion for all of 2007. But this time around, unlike in 2007, the deal leaders are more blue-chip and cash-rich, with strong balance sheets. While Hawkins prefers the healthy balance sheet nature, she is concerned that such an increase in activity is often a warning sign that we're nearing a market top. Whether she's paranoid or prophetic remains to be seen.
That's a wrap for this week, but be sure to check back Sunday night for The Week Ahead.