The GENERAL MARKET
Investors Consumed by Trade Jitters
The main U.S. stock market benchmarks ended mostly higher on Friday as trade jitters continue to weigh on investor sentiment. Worries over a developing global trade war persisted at Wall Street. The trade tensions between the U.S. and major trading partners such as China and the European Union are intensifying.
At least all three main benchmarks finished off their best levels of the day towards the final minutes of Friday’s trading. The last session for the week also marked the annual reconstitution of the Russell Indexes, where the index provider makes rule-based changes to the composition of its indexes.
After extending its losing streak to eight days on Thursday, the Dow Jones Industrial Average regained its bearing on Friday. The blue-chip index advanced 119.19 points (+0.5%) to finish 24,580.89 but below the 25,000 threshold.
On Thursday, the S&P 500 Index suffered its biggest one-day drop since May 31 with 8 of the 11 primary sectors declining. However, the broader index gained 5.12 points (+0.2%) on Friday and 8 of the 11 sectors finishing higher. led by a 2.2% rise in the energy sector, a move that tracked a sharp rally in crude-oil prices.
Meanwhile, the Nasdaq Composite Index posted a record on Wednesday only to retreat by 68.56 points (-0.9%) on Thursday. It was its biggest one-day percentage drop since April 24 The tech-heavy index managed to climb 20.13 points (+0.3%) and close higher on Friday.
For the week, the Dow Jones ended -2.0% to mark its largest weekly decline since March 23 and its second straight weekly fall. The S&P 500 lost 0.9% over the 5-day period while the Nasdaq booked a weekly drop of -0.3%, ending its streak of weekly gains at four straight.
The Week’s Biggest Headlines
U.S. Senate Votes to Keep ZTE Ban
U.S. Senators crossed party lines and voted overwhelmingly to reinstate the country’s ban on Chinese equipment maker ZTE Corporation. The voting result is 85-10 in favor of the ban. The Trump administration granted key concessions to ZTE. Among them is the payment of a $1 billion, top management shakeup, and $400 million in escrow for future violations.
However, the U.S. Senate will undo the agreement. A group of lawmakers from both parties amended the National Defense Authorization Act to include an amendment to reinstate the sanctions against ZTE.
General Electric Loses Dow Jones Slot
General Electric Co. (GE) will be booted out of the Dow Jones Industrial Average effective June 26, 2018. The iconic American industrial conglomerate will be replaced by Walgreens Boots Alliance Inc. (WBA).
The change ends the tenure of the only remaining original component of the blue-chip index. It comes after more than a century. The price of GE shares has dropped more than half in the past year. David Blitzer of S&P Dow Jones Indices said the change would make the Dow a “better measure of the economy and the stock market”.
Fox Accepts Disney’s Counter Offer
21st Century Fox (FOX A) rejected Comcast Corp.’s (CMCSA) $65 billion all-cash offer but struck a new merger agreement with Walt Disney Co. (DIS). Disney sweetened its original $52.4 billion all-stock offer which Fox readily accepted.
The amended acquisition agreement stipulates that Disney would purchase Fox assets for $71.3 billion, comprising cash and stock. Comcast is still in a position to bid again because the provision in the agreement that the directors’ can evaluate a competing proposal has not been removed.
Amazon, Berkshire and JPMorgan Announces Head of JV
The company being formed by Amazon.com Inc. (AMZN), Berkshire Hathaway Inc. (BRKA), and JPMorgan Chase & Co. (JPM) will be headed by Atul Gawande, a well-regarded surgeon, and author. The companies jointly announced the appointment on Wednesday.
Gawande will be tasked to implement the plans that aim to cut U.S. employee healthcare costs. Amazon-Berkshire-JPMorgan said they would use big-data analysis and other high-tech tools to improve care and cut waste. The practicing general and endocrine surgeon at Brigham and Women’s Hospital will assume the post on July 9.
Energy Sector Highlights
OPEC to Increase Oil Production
The rally of energy shares on Friday helped the Dow Jones Industrial Average arrest its 8-day skid amid the series trade-related spats. The decision of OPEC to increase production output by 600,000 barrels per day triggered the rally. The additional volume is not expected to affect oil prices on the global market.
Exxon Mobil Corp. (XOM)
- After falling on Thursday, XOM rebounded the next day to the lead the rally of energy shares. News coming out from the OPEC meeting in Vienna pushed XOM higher by 2.12% from $79.69 to $81.38.
- Exxon Mobil, along with Chevron (CVX) contributed much of the gain by the blue-chip index. Oil prices enjoyed its best day since late 2016 after the Organization of the Petroleum Exporting Countries (OPEC) decided to raise crude production by a modest volume.
Chevron Corp. (CVX)
- CVX followed the same pattern of XOM this week. The stock price fell by -2.15% to $122.59 on Thursday then climbed back 2.04% during the next day’s rally. CVX finished the week at $125.10.
- Some analysts are saying that CVS is trading at a premium. Their outlook is positive based on the following key factors: 1) robust upstream portfolio; 2) focus on the high-return downstream value chain, and 3) improving financial position.
- The company has been funding massive capital-intensive projects, many of are now operational. In particular, Chevron’s upstream hydrocarbon production is predicted to grow with Gorgon and Wheatstone coming online. Chevron’s growth forecast for 2018 is in the range of 4% to 7%. Chevron will benefit from any surge in oil prices with its expanding upstream production.
- Their downstream assets should create an integrated value chain. These assets actively produce synergetic advantages for the company. In terms of liabilities, Chevron has the second-best debt position in the industry. Further, the company’s cash flow position vastly improved in the first quarter. So, the key takeaways for Chevron are better growth prospects, an integrated earnings model, and financial strength.
Royal Dutch Shell PLC (RDS.A)
- A climbed 4.41% on Friday to finish the week higher at $69.36. The company is turning out to be one of the highest quality names in the integrated oil and gas sphere. Actually, RDS.A returned more than 100% since its multi-year lows of 2016.
- The earnings of Royal Dutch Shell have surpassed expectations in each of the trailing four quarters. This Anglo-Dutch company is establishing itself as a major supplier of LNG. With a strong momentum, cash flow is expected to grow even further. Thus far, it has been a solid 2018 as its first-quarter upstream unit profit soared compared to a year-ago.
Banking Sector Highlights
Wall Street Banks Pass Federal Reserve Stress Test
- The nation’s biggest and publicly-listed banks in Wall Street will remain stable and are strong enough to continue lending even if the U.S. economy plunges into a severe downturn. This is the assessment by the Federal Reserve based on the results of the stress test conducted on 35 of the largest banks.
- The results released on Thursday showed remarkable data that could give bank stocks the momentum to outperform the market. Over the last 12 months, the banking sector has outperformed or has kept pace with the broader S&P 500 Index.
Top 5 Bank Stock Prices as of 06/22/2018:
Goldman Sachs Group Inc. (GS) $226.02
JPMorgan Chase & Co. (JPM) $105.75
Citigroup Inc. (C) $67.20
Wells Fargo & Co. (WFC) $53.94
Bank of America Corp. (BAC) $28.99
- The Fed’s annual simulation stress test used “severely adverse scenarios” namely: 1) economic recession; 2) plunging housing prices, and 3) double-digit unemployment. The results of this first phase of testing showed the banks would have more than enough capital to survive the combination of the severe hypothetical scenarios.
- Randal K. Quarles, the Federal Reserve’s vice chairman for supervision, said “Despite a tough scenario and other factors that affected this year’s test, the capital levels of the firms after the hypothetical severe global recession are higher than the actual capital levels of large banks in the years leading up to the most recent recession.”
- This is the second straight year that all the big United States banks were found to have enough capital to withstand a hypothetical recession. The ability of most banks to pass the stress tests with flying colors is an indication of how far Wall Street has come since the financial crisis.
- U.S. banks are riding high on tax cuts and recent moves to ease financial regulations. Most banks are eager to return more of their profits to shareholders. The stress test results suggest that regulators will approve the payment of dividends or share buybacks next week.
Biotechnology Sector Highlights
Biotech Sector Making a Big Push
iShares Nasdaq Biotechnology ETF (IBB)
- Biotechnology stocks made a big rally on Wednesday led by the iShares Nasdaq Biotechnology ETF which gained 1.7%. It is very evident that despite the trade war jitters, investor sentiment favors the sector is still increasing.
- A net flow of $76 million was pumped into the biotechnology sector last week. The inflows from the prior two straight weeks were $500 million. According to Baron’s, this is “a trend we haven’t seen in the biotech sector since September.”
Biotech Stocks Set to Led Rally
For individual stocks, three big biotech companies whose fundamentals are showing signs of remarkable progress appear set for a rebound. The factors that will push these stocks are: 1) more stable product pricing environments; 2) earnings improvement; and 3) successful new drug trials.
Hartaj Singh, an expert stock analyst from Oppenheimer, shares his top picks that will lead the biotech rally by the second half of 2018.
Vertex Pharmaceuticals Inc. (VRTX) $159.19 (+6.23% YTD)
Vertex is one of the industry’s top rare-disease drug franchises. This firm has had a string of positive earnings surprises in the past year. The trials for its regimen for cystic fibrosis patients have been going well.
Alexion Pharmaceuticals Inc. (ALXN) $127.57 (+6.67% YTD)
This biotech is also one of the industry’s premiere rare-disease drug franchises. Alexion is riding on a string of positive earnings surprises over the past. The latest is the 12% increase surprise for relentless execution.
Gilead Sciences Inc. (GILD) $71.07 (-0.80% YTD)
Gilead will greatly benefit from a much more stable pricing environment, particularly for its hepatitis C treatments. Investors’ interest is also increasing in the biotech’s nascent immunology and non-alcoholic steatohepatitis (a type of fatty liver disease) franchises.
The Week Ahead
Investor anxiety over a looming global trade war is understandable. The spurts of volatility in the market will continue but an all-out trade war might not actually materialize.
Even if the tariffs are announced, the implementation is not immediate. It will have to pass through a review process which could take months. Within the period, there is still a window for trade combatants to negotiate and avoid higher tariffs and prevent trade disruptions.
Further, the impact of higher tariffs will depend on its magnitude. But because fundamentals of economic and earnings growth are improving, it can counter the effects of tariffs.
The economic data to be released next week are as follows: durable goods orders on Wednesday; update on first-quarter GDP growth on Thursday; and consumer spending data for May and the University of Michigan Consumer Sentiment index on Friday.