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  1. Home
  2. / Investing
  3. / Stocks

Draghi's End Game and a 3-Way Battle Shapes Up in the Cloud: Market Recon

Plus, Intel results crush expectations and Starbucks solidifies its comeback.
By STEPHEN GUILFOYLE
Jul 26, 2019 | 08:21 AM EDT
Stocks quotes in this article: GOOGL, AMZN, MSFT, ORCL, INTC, SBUX, ABBV, AON, CL, MCD, TWTR

This is Jeopardy

Wednesday was interesting. Higher prices on higher volume. How encouraging.

So what happens on Thursday? Lower prices on even higher volume. Is that bad? Well, it ain't all lollipops and rainbows, gang.

On Wednesday, small-caps and the semiconductors led the way higher. On Thursday, these two very different groups led the way for a second day.

How can that be? What commonality do a large group of smaller domestic companies, many credit-reliant with no currency exposure whatsoever, have with a globally exposed group of large-caps, heavily reliant on cross-border commerce, with much exposure to both capex and exchange rates? (Run the "Jeopardy" theme in your head. I'll wait here.)

The answer is that both groups react, or even overreact, to anything impacting economic growth, but for different reasons. Outgoing European Central Bank (ECB) President Mario Draghi, usually quite the silver-tongued wordsmith, uncharacteristically unnerved markets on Thursday. The ECB signaled intent to reduce the already negative overnight deposit rate as soon as September.

Pushing on a string? Unless tiered in some way. Is that the end of European banking? See above lollipop comment.

Will the European Central Bank be forced to follow the Swiss example? Short answer: yes. The ECB also signaled a likelihood of resuming what we know as QE, or quantitative easing, the purchasing of sovereign debt with magically created currency in order to reduce borrowing costs while bloating the monetary base. How to target these purchases? Include equities? Include debt or equities outside of the European Union? Whatever it takes, right?

The Game Afoot

Draghi actually said that for the Eurozone a third-quarter rebound was "less likely now." Oh, and he said something about Europe getting "worse and worse." Silver does tarnish, you know. 2

About 28% of the European economy is export-reliant, gang. You understand what this is, right? Draghi is prepping Europe for a currency war that will be directed in just a few months by Christine Lagarde. He's the artillery. She's the infantry. The problem is that too many U.S. economists see the projected Federal Reserve rate cut next week as unnecessary because they look at decent domestic macroeconomic data, and having never been punched in the mouth, they don't understand the threat from abroad.

This misunderstanding of the game afoot was compounded on Thursday, as June Durable Goods Orders printed at outstanding month-over-month growth. While these numbers do reveal renewed business investment that suggests potential growth, data for May was revised significantly lower, fattening exacerbating headline sequential growth.

Place this in context with June Industrial Production that at the headline was weak, but within, showed solid manufacturing production, and it becomes easy to miss the forest for the trees. While regionally Philadelphia tells a nice manufacturing story and New York seems to show some growth, both Richmond and Kansas City fell off of a cliff, while the national Markit Flash sits right on the fence at an even 50. Futures in Chicago pricing in the trajectory of the Fed funds rate moved the probability for a third cut this year down to roughly even money. Algorithms in New York pick up on this. Hence, a selloff for small-caps.

This is as simplified as I can make it. Best part? Our first look at second-quarter GDP hits the tape here on Friday morning. The Atlanta Fed reduced its outlook on Thursday in response to that "solid data" to 1.3% from 1.6%. That said, consensus among private sector economists is really just about 1.8% or 1.9%, with more than a few expecting a print of 2.0% or higher. A bucket of money will move this morning on this number.

It Did Not Help

It certainly did not help that the Chinese Ministry of Commerce published a letter that seemed to almost chastise the U.S. for "cold war" thinking ahead of renewed trade talks between the planet's two largest economies next week. No mention in the letter, by the way, of China's military flying strategic bombers over the airspace of U.S. allies earlier this week. Just sayin'.

Thursday Night Fights

By now most of you know that Alphabet Inc. (GOOGL) crushed expectations for profitability on a rebound in revenue growth. Overall, Amazon.com Inc. (AMZN) saw a similar rebound in revenue growth, yet a substantial decline in earnings growth, at least partially explained by higher costs associated with an effort to make one-day delivery the norm for Prime members using the e-commerce service, something a firm like Alphabet does not have on its plate.

There is so much information required for one to take in and understand that I can't go there in Market Recon for fear of losing my readership. That said, investors who find themselves either miffed by overnight weakness in Amazon or elated by overnight strength in Alphabet -- or a little bit of both -- need to understand two major points that really do stand out.

For the Amazon crowd, the firm cut guidance for third-quarter operating income to a range spanning $2.1 billion to $3.1 billion. This is versus industry consensus of $4.38 billion. That's a bitter pill to swallow for shareholders of a firm valued at "just" 51x forward-looking earnings.

Yes, Amazon is still possibly the greatest U.S. public corporation of all time. The "death star," the "great disrupter." That said, since the firm has become regularly profitable, it becomes more and more like a regular company for investors. Still a growth stock? Of course. Only unlike many growth stocks, any spending that squeezes margin now matters more than it once did. (BTW, Alphabet and Amazon are holdings of Jim Cramer's Action Alerts PLUS charitable trust. So is Microsoft, which comes next.)

Cumulonimbus

In addition, after Microsoft Corp. (MSFT) reported and investors saw how well that firm had performed, as well as how well Microsoft's Azure cloud computing platform had performed, many had expected a blow-out quarter for Amazon's Amazon Web Services (AWS). The thought was that either they both crushed it or there would be a noticeable fight over market share.

Net sales for AWS grew 37.2% year over year (to $8.381 billion), which is excellent. It's just that this is down from 49% growth for the same period a year ago, and that operating expenses associated with AWS grew 40.2% year over year, again, squeezing margin.

Meanwhile, over at Alphabet, the segment labeled as "Google Other" (really, Google, this is the best you could come up with?) printed 40% year-over-year growth (to $6.181 billion), easily beating expectations. The driver for this growth was GCP (Google Cloud Platform), Hmmm.

While we were watching for a business cloud market share fight between Azure and AWS, did GCP sneak in and steal Amazon's lunch? The jury is still out, as I think that I need to see this develop over another quarter or so, but it's key to note that Thomas Kurian, CEO of Google Cloud, took that job in January after leaving the position of president at Oracle Corp. (ORCL) , where he was since the mid-1990s. Is it a change in leadership that eventually turns a two-horse race into a three-way battle? Could be.

In Other News

-- Intel Corp. (INTC) crushed second-quarter expectations for earnings per share on a contraction in revenue that, in turn, beat expectations. The news here is twofold. First, the rumored sale of Intel's smartphone modem business to Apple Inc. AAPL in a $1 billion deal is now hard news. The deal closes sometime in the fourth quarter. Intel raised revenue guidance for both the third quarter and the full year above consensus. With the POC (proof of concept) business growing at just 1% in the second quarter, I have some doubts. As a shareholder, I have been waiting for the Apple shoe to drop and the shares are trading 7% above my target in the overnight session. I probably sell at least part of my INTC long here on Friday.

-- Starbucks Corp. (SBUX) beat fiscal third-quarter expectations on both the top and bottom lines. The thing that is interesting here are that comp sales just crushed what Wall Street was looking for in both the U.S. and... wait for it... China. Not to mention, emerging markets as well. Is Starbucks back? Chart says they already were. Margins rose in the U.S., too, BTW.

Economics (All Times Eastern)

08:30 - GDP Growth Rate (Q2-adv): Expecting 1.8% q/q, Last 3.1% q/q SAAR.

13:00 - Baker Hughes Oil Rig Count (Weekly): Last 779.

The Fed (All Times Eastern)

Black-out period.

Today's Earnings Highlights (Consensus EPS Expectations)

Before the Open: (ABBV) (2.20), (AON) (1.87), (CL) (.72), (MCD) (2.05), (TWTR) (.19)

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At the time of publication, Guilfoyle was long AMZN, AAPL and INTC equity.

TAGS: Earnings | Federal Reserve | Interest Rates | Investing | Stocks | Food & Drink | Semiconductors & Semiconductor Equipment | Software & Services | Technology | E-Commerce | Real Money

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