Saturday, March 28, 2015

Weekly Indicators for March 23 - 27 at

 - by New Deal democrat

My Weekly Indicator post is up at

Signals are very mixed.

Friday, March 27, 2015

Three very mixed forward looking signals from this morning's GDP revisions

 - by New Deal democrat

I have a new post up at

This morning's final revision to 4th quarter GDP actually contained 3 pieces of forward-looking news, and that news was decidedly mixed.

International Economic Week in Review: Euro Turnaround May Be In Process Edition

This is over at

Thursday, March 26, 2015

Housing is still a positive for 2015

 - by New Deal democrat

At the beginning of the year, I forecast continued growth, in large part due to lower mortgage rates and an improving outlook for housing.

My first update is up at  So far, so positive.

Wednesday, March 25, 2015

Kraft is a Great Company For Heinz to Purchase

     Today’s blockbuster news event was the announcement the Heinz and Kraft would merge.  Bloomberg provides a good,overarching analysis of the deal:
The deal creates a stable of household names -- everything from Heinz ketchup to Jell-O -- with revenue of about $28 billion. It also could presage more consolidation in the U.S. food industry, which is struggling to reignite growth. Buffett and 3G, the private-equity firm founded by Brazilian billionaire Jorge Paulo Lemann, previously teamed up to buy Heinz in 2013 and they cut costs, a strategy they aim to repeat with Kraft.
It’s impossible to argue against the logic of this deal.  Heinz, which, like Kraft, owns numerous iconic American brands, was taken private a few years ago.  Now that private equity has cut costs and increased the company’s efficiency, the next logical business step is to go into acquisition mode to increase the company’s product offerings and market footprint.  Not only do Kraft’s product offerings complement Heinz’s, but the companies can potentially achieve a large amount of synergy and cost savings from their respective positions as market leaders in the consumer staples industry.  The deal illustrates why numerous investors still have tremendous admiration for Buffet’s investing acumen.
     Let’s take a look under Kraft’s financial hood starting with their balance sheet.  Asset structure has been remarkably consistent for the last four years, with total assets fluctuating between $21-$23 billion and the composition of those assets remaining near constant levels.  In 2012 the company added $9.9 billion in long-term debt.  But, using their highest interest expense and lowest EBITDA readings for the last five years, interest coverage is still a healthy 4.74.  The current ratio stands at one.  While this would normally create a bit of concern,   receivables and inventory levels are firmly under control, indicating the company is very well managed financially. Finally, with a large consumer staples company like Kraft, a tighter balance sheet should be expected.   
     Kraft’s income statement shows why this merger has tremendous opportunities.  Top line revenue has stalled between $18.2-$18.6 billion for the last four years.  Their biggest problem is the ease with which consumers can purchase substitute goods -- an especially prevalent activity when overall wages have stalled.  There have also been some short-term issues.  Last year the company had a huge, 10% drop in their gross margin, which was entirely attributable to a recalculation of pension liabilities.  Without this loss, EPS would have been 4.82.  But with the loss, EPS was $1.74.  While the company also had an increase in SGA expenses, the overall level rose to one more consistent with recent history.  Because Kraft and Heinz are in the same business, the merger should create tremendous cost savings and synergy, leading to margin expansion over the next 1-3 years.
     Finally, free cash flow to the firm has fluctuated between $1.4 and $2.5 billion for the last five years giving the company ample funds to self-fund all of their activities.  And their cash investing needs, which are solely derived from plant, property and equipment investment, have been very predictable for the last five years; they’ve fluctuated between $440 and $557 million.     
     Kraft was a great company before the merger.  It was the owner of numerous brands that are a staple of the US market.  The company managed its assets incredibly well and literally printed money.  Now with the addition of another major US consumer staple company, the combination can achieve major cost savings by eliminating duplicative operations and achieving even larger economies of scale. 

Has the EU Finally Turned the Economic Corner?

This is posted over at

Tuesday, March 24, 2015

Five graphs to watch in 2015: second update

 - by New Deal democrat

At the end of last year, I highlighted 5 graphs to watch in 2015.  Now that we have all of the February reports, let's take another look.

#5.  Mortgage refinancing

After a mini-surge at the end of January (light brown in the graph below), The Mortgage Bankers Association reported that refinancing applications fell back to somnolence during February, due to higher interest rates (blue)  Mortgage News Daily has the graph:

Over the last 35 years, refinancing debt at lower rates has been an important middle/working class strategy.  There is little room left for that strategy. David Stockman had an interesting graph last week showing that in this expansion, wage growth and consumer spending have been almost perfectly correlated.  If mortgage refinancing stays turned off too long, and wages don't grow in real terms, then consumer spending falters and so does the economy.  

#4 Gas prices

Here is a graph of gas prices (blue, inverted and averaged quarterly) compared with real GDP (red) over the last10 years:

Once gas prices reach a critical point, roughly $4 a gallon in present real terms, GDP falters.  The cheaper gas prices are from that point, the more GDP can be expected to rise, with a slight lag.  In February, gas prices rebounded as expected over $0.30 from their late January bottom.  This is a typical seasonal increase and so is a neutral. All else being equal, by the 2nd quarter, this should be reflected in more positive real GDP.

#3 Part time employment for economic reasons

This is a graph of part time workers for economic reasons expressed as a percentage of the labor force:

In February this ratio continued to improve, bringing us equivalent to its levels in 1988, but still 2% (about 3 million) above the boom level of 1999 and about 1.5% (2.25 million) above the level of 2007.

#2 Not in Labor force but want a job now:

This moved in the wrong direction in February.  It is now about 900,000 above its post-recession low of November 2013 (just prior to Congress's cutoff of extended unemployment benefits) and some 1.9 million above its 1999 and 2007 lows.

#1 Nominal wage growth

After an anomalous decline in average hourly wages in December, and a big positive reversal in January, wages for nonsupervisory workers were totally flat in February.  Nominal wage growth YoY has now declined back to its post-recession low.

The decline in the last 6 months is  troubling.

Compare our present expansion with the previous three.  In the 1980s and 2000s, by the time we improved to 5.5% unemployment, nominal wage growth was approaching 3% YoY.  In the 1990s expansion, at worst wage growth was on the cusp of acceleration, but was nevertheless 3.5%. Unless wage growth starts to accelerate now, the pattern is not holding.

There have been a few interesting notes about the lack of wage growth.  The staff of the Federal Reserve has done a study indicating that the number of long-term unemployed plays an important role (since presumably these people are more desperate).  It has also been suggested that the disproportionate (compared to normal times) percentage of relatively highly paid employees (Boomers) retiring from the labor force, and being replaced by younger workers, is holding down wages.

Two months of data into the year shows two series positive (gas prices, involuntary part time employment), and no or little improvement in the other three (refinancing, discouraged dropouts from the labor force, and nominal wage growth).  Should wage growth not improve, and mortgage refinancing remain dormant, we are going to run into trouble, and I will be looking for other long leading indicators to start rolling over.

Monday, March 23, 2015

Microsoft is Still a Growth Story

I do already own the company.  But, this is not an invitation to either buy or sell these securities.  Do your own research and figure it out for yourself.
     It’s hard to believe that a company such as Microsoft could still be considered a growth story.  After all, a thirty-year old company that is dominant in their industry is usually considered “mature” – a corporation whose revenues grow incrementally at best.  However, this description does not apply to Microsoft which has had year-to-year top line growth between 5%-11% since 2010.  Buy-side analysis, however, does not end here.   Potential investors should avoid purchasing an issue when solid growth is not supported by a strong balance sheet or solid cash flow.  Fortunately for potential investors this tech company has a rock solid balance sheet and continuously strong free cash flow.  One additional factor is the company’s current dividend yield of 2.889% and five-year history of increasing dividend growth.  When these fundamental factors are added together, the decision to buy becomes a matter of when and not if.  And, as an analysis of the chart shows, the time to buy is now, as the security is trading about 5 points above is 1-year low.      
     Let’s begin our analysis by looking at their one-year price chart:
Microsoft rallied from May 2015 until early November, when prices started to slowly move lower.  They consolidated in a triangle pattern from mid-December to mid-January.  Prices broke through support at the end of January on a disappointing earnings report.  Since then, they have been consolidating between the lower and mid-40s.
     At these price levels, MSFT is slightly under-valued, as shown on this table from Morningstar:
MSFT is slightly under-valued on a PE, price/sales and price to book level.  This gives us room to move a few points higher which is increased slightly when you consider the company slightly outperforms their industry peers on ROA, ROE and net margin. 
     Let’s turn to their financials, starting with their balance sheet.  Like most tech companies whose primary asset is intellectual property, this is a beautiful financial document.  The current ratio is 2.45 while the quick ratio is only slightly lower at 2.24.  The company has been keeping a close eye on receivables, with their percentage of assets dropping from 15.1% in 2010 to 11.34% in fiscal 2014.  They also keep a ton of cash handy; they’re got $85 billion on their 2014 balance sheet, with most of their holdings in short-term securities.  Fundamental investors should like that their overall book value has increased from $46.175 billion in 2010 to $89.784 in 2014, which is almost a doubling in five years.  The only “drawback” is their increased use of long-term debt, which now totals $20.6 billion.  But with an interest coverage ratio of 50.8, it’s difficult to be concerned.  The balance sheet indicates they have ample liquidity and have kept receivables well-managed.  Their near-doubling in book value over a five year period also indicates they have shareholder interests at heart.  Finally, they most likely tapped the debt markets to prevent a high tax bill from repatriation of foreign holdings. 
     Their cash flow statement is no less impressive.  They’ve had free cash flow to the firm of between $22 billion and $29 billion over the last five years giving the company ample financial maneuvering room.  This allows them to self-fund most small acquisitions (those involving both companies and property) if they desire. 
     And finally, we have their income statement.  As mentioned in the opening paragraph, the company is growing between 5%-11%/year.  They did have a large 5% jump in COGS in their latest annual statement.  They offered the following explanation in their 10-K: “Cost of revenue increased mainly due to higher volumes of Xbox consoles and Surface devices sold, and $575 million higher datacenter expenses, primarily in support of Commercial Cloud revenue growth. Cost of revenue also increased due to the acquisition of NDS.”  This trend continued in their latest quarterly statement, increasing COGS by 8.1%.  While this is not an optimal development, it is partially caused by their move into cloud based computing, which most analysis (myself included) believe will provide solid growth avenues for the foreseeable future.  In addition, there are continued costs related to the Nokia acquisition, as they noted in their latest 10-Q: “Cost of revenue increased, mainly due to the acquisition of NDS.”  These increases should subside in the next 4-6 quarters.
     I have to admit that I have made my fair share of Microsoft jokes, even referring to them as the evil empire on more than one occasion.  But all kidding aside, it’s hard not to like the company.  They have solid revenue growth, a very strong balance sheet and the company literally prints money.  They’ve been increasing their dividend for the last five years, and have ample cash and potential revenue growth to continue this practice for the foreseeable future.  All these factors add up to a solid company.

International Economic Preview For the Week of March 23-27

This is over at