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Washington Worries: Tax Concerns Could Dog Market Amid Slew of Earnings

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November 9, 2017

(Thursday Market Open) The menu this morning features two specials: department store earnings and tax policy. This looks like a breakfast the market might have a little trouble digesting, as both items seem to be pulling down stocks in pre-market trading.

Senate Republicans plan to release their tax proposal today as department store results start rolling in with Macy’s (M) and Kohl’s this morning and Nordstrom (JWN) this afternoon. It’s the Walt Disney (DIS) show after the close.

Some of this morning’s weakness could stem from fears of the tax plan not getting done, perhaps in part because of Democratic electoral victories on Tuesday. The Senate will debate its plan next week while the House votes on the House Ways and Means Committee’s plan. There’s a sense that the tax reform ball is rolling down the hill toward Thanksgiving and the holidays beyond, but what’s ultimately in the final version remains to be seen.

Take all the tax news with a grain of salt. As we’ve talked about, people are looking for something to trade on, but investors might want to be prudent about trading Washington, D.C., hearsay. People tend to get emotional about these things, even though nothing is finalized.

Also on the political front, President Trump’s trip to China continued, with the announcement of $250 billion in new and existing deals between U.S. and Chinese companies. Some of the companies included were Boeing (BA), General Electric (GE), Qualcomm (QCOM), Goldman Sachs (GS), and Ford (F), according to TheStreet.com.

Getting back to earnings, Macy’s (M) shares fell slightly in pre-market trading after the company missed Wall Street analysts’ expectations for Q3 revenue and recorded a drop in same-store sales. The company did beat Wall Street’s earnings projections, and confirmed full-year guidance. M said in a press release that it saw better gross margin performance, and added that its loyalty program and online presence could help drive holiday sales.

Around the corner at Kohl’s (KSS), shares plunged nearly 10% as earnings per share failed to meet analysts’ projections. However, same-store sales and revenue climbed year-over-year.

The thing to keep in mind with both KSS and M is how sharply they’re already cutting margins, and how they’re moving “Black Friday” sales up earlier and earlier. The question is at what point do they stop sacrificing margins for sales, and it’s tough for them to compete with Amazon (AMZN) because of their brick-and-mortar real estate. One reason M might be faring a little better in the market this morning is because the company has stepped up to take a lot of its medicine already through store closings.

Walt Disney (DIS) enters its earnings this afternoon amid reports from several media outlets that it had been in talks with 21st Century Fox (FOX) to purchase a large portion of the latter’s entertainment businesses. Aside from an update on the FOX talks, investors might want to pay attention to the DIS call for new insight into the company’s studio entertainment and ESPN segments, both of which have struggled recently. DIS has been shifting strategies as its media networks segment has faced declining revenue and profits, which management has largely attributed to ESPN.

All the major indices posted new record highs Wednesday as six of 11 sectors gained and two others finished about flat. Again, financials came in weak, losing ground for the fourth day in a row. The yield curve continues to flatten, and that might be hurting bank shares. Some analysts noted, too, that Republican losses in Tuesday’s elections might be hurting banks amid fears that Republican attempts to cut regulations on the industry could get clipped if Democrats gain power.

Some of the leading sectors Wednesday included consumer staples, real estate, and telecom. Wal-Mart, a consumer staples name, gained more than 1% after a positive report from a Wall Street analyst.

There was some breaking news on the mergers and acquisitions front Wednesday as the Financial Times reported that the Department of Justice would require Time Warner (TWX) to sell CNN before being acquired by AT&T (T 33.15, +0.10). Shares of TWX fell sharply on the news, and T’s CEO said he had no intention of selling CNN, according to a CNBC report. The situation looks fluid.

Crude oil took a pause Wednesday after the weekly U.S. stockpiles report from the Energy Information Administration reported a surprise build of more than 2 million barrels. U.S. production topped 9.6 million barrels a day, near historic highs reached in 2015. Friday’s weekly rig count could be interesting.

For economic data lovers, this week’s a bit of a yawner. There hasn’t been much all week, and today the only important one is wholesale inventories for September at 10 a.m. ET. Tomorrow brings Michigan Sentiment for early November. Wall Street analysts look for a reading of 100.5, down slightly from the prior 100.7 but still near 13-year highs, according to Briefing.com.

Russell 2000

FIGURE 1: A STUDY IN CONTRASTS.

The Russell 2000 (RUT) index of small stocks is down about 2% over the last month, as opposed to steady gains to record highs posted by the S&P 500 (SPX, represented here by the purple line) during the same time span. A number of factors play into this, including less exposure for small stocks in export markets. Data sources: FTSE Russell, Standard & Poor’s: Chart source: The thinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results    

Bunds And Bonds: Fed funds futures still point toward nearly 97% odds of another Fed rate hike by the end of the year and economic data remain mostly solid, but U.S. 10-year bond yields can’t seem to get out of their own way. After propelling from near 2% to nearly 2.5% earlier this fall, they’ve pulled back to the low 2.3% range and seem stuck there the last few days. It’s a little hard to diagnose the continued weakness in yields unless it has something to do with weight from even lower yields overseas. The benchmark German bund yield traded at 0.31% Wednesday, near two-month lows. It could be the same story we’ve continued to see this year, with European investors gravitating toward U.S. bonds for better yields causing bond prices to rise and yields to fall.

Should Multinationals Fear Yen Weakness? U.S. investors might want to take note of the weaker yen, which coincides with a recent rise in the U.S. dollar vs. a basket of foreign currencies. The dollar is on a slow but steady climb, up 4% since early September. U.S. multinationals appear to have benefited to some extent from dollar weakness that we saw in Q3, but the fall in the yen is worth watching for its possible negative impact on U.S. companies’ Q4 exports. U.S. companies sell a lot of aircraft, medical devices, electrical machinery, and pharmaceuticals to Japan, according to the Office of the U.S. Trade Representative.

Small Stocks Struggle: While major indices posted record highs again and again over the last few weeks, small stocks in the Russell 2000 (RUT) index just haven’t been as glowing. The RUT is down about 2% since early October, and up less than 9% year-to-date vs. nearly 16% for the S&P 500 (SPX) Index. Why the discrepancy? Some analysts think it could be because smaller companies typically sell more of their goods domestically, where they haven’t been able to benefit as much from the weak dollar and growth in overseas economies. Others say the tax plans being floated in Congress might benefit bigger corporations more than small businesses, meaning investors might be parking more of their money in the big guys to possibly take advantage. Another idea: Small stocks might be doing worse than bigger indices simply because the info tech sector — this year’s market leader — isn’t as well represented in the RUT as in bigger indices.

Good Trading,
JJ
@TDAJJKinahan

Economic Calendar

FIGURE 2: THIS WEEK'S ECONOMIC CALENDAR.

Source: Briefing.com

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