In a normal, quiet summer week we would be lazily considering consumer confidence and the Fed minutes. Instead, the escalating war of words between the U.S. and North Korea has claimed the agenda. Expect many to be asking,

Will the North Korea threat be the catalyst for a market correction?

Also See

• Q2/H1 Hedge Fund Letters - Letters, Conferences, Calls, And More
• Most hedge funds today are hardly even hedging; they are record net long equities
• North Korean Nuclear Conflict Would Cost US $5 Trillion Just On Reconstruction Costs

Last Week Recap

My notion that last week would feature a discussion of revised price targets was pretty good — for exactly one day! Global tensions claimed the attention of markets. Anyone looking for a reason to sell suddenly had one. This occurred despite good earnings and generally positive economic data.

The Story in One Chart

I always start my personal review of the week by looking at this great chart from Doug Short via Jill Mislinski. She notes the overall decline of 1.43% for the week. With Thursday’s big decline, the sequence of down days, and the accompanying headlines, it probably seemed like more.

Doug has a special knack for pulling together all the relevant information. His charts save more than a thousand words! Read the entire post for several more charts providing long-term perspective, including the size and frequency of drawdowns.

 

The Silver Bullet

As I indicated recently I am moving the Silver Bullet award to a standalone feature, rather than an item in WTWA. Last week’s deserving winner was Aaron Brown for an excellent analysis of the need for context in reading chart. The article also has a link to past winners and their work. I have another great candidate in mind. I hope that readers and past winners will help me in giving special recognition to those who help to keep data honest. As always, nominations are welcome!

The News

Each week I break down events into good and bad. For our purposes, “good” has two components. The news must be market friendly and better than expectations. I avoid using my personal preferences in evaluating news – and you should, too!

The economic news last week was generally positive.

The Good

• Mortgage delinquencies are at a ten-year low. (Calculated Risk).
• JOLTS report shows continuing strength in the labor market. This is not the best way to estimate overall job growth, although that is the typical interpretation. More importantly, check out the quits rate, (Washington Center for Equitable Growth).

And also, the Beveridge Curve, an indicator of where we are in the business cycle. (BLS)

• Wholesale inventories were slightly higher than expected. The skeptical Steven Hansen (GEI) notes the decrease in the moving average and the recessionary level of the overall series.
• Commercial real estate remains strong. (Scott Grannis).

• Inflation remained tame on both the wholesale and retail fronts. Once again, not all regard this as good news, but it meets our definition.
• Productivity for Q2 rebounded nicely with a gain of 0.9%.
• Small Business optimism increased again, continuing the post-election surge. (Calculated Risk).
• Q2 earnings continue to beat expectations, now growing at 10.1%. This is substantially better than expected at the end of the quarter (6.4%) or the start of the quarter (8.6%). (FactSet).
• Corporate executives see good conditions. These include a reasonable macro outlook, profit rebound despite sluggish GDP and DC gridlock, and low inventories (requiring restocking). (Avondale report on conference calls).

 

The Bad

• Rail data were mixed. Steven Hansen (GEI) cuts through the noise in the report with analysis of the “economically intuitive” data and the 4-week moving average.
  

• Hotel occupancy is lower. Calculated Risk reports a decline of 1.5%, to a level of 74.5%.
  
  
• No progress on raising the debt limit. Regardless of the actual outcome, the perception may have an effect. The WSJ reports that 22% of the economists see a government shutdown, with 17% see a default on obligations or missing some payrolls.
  
• Leading index for commercial real estate “stumbles.” Calculated Risk reports a 3% drop in the Dodge Momentum Index.
  

The Ugly

Financial illiteracy. My readers can answer these three questions, but 70% of Americans cannot.

Noteworthy

In our office, we enjoyed guessing the richest person in various states – getting past the obvious choice in Nebraska and Washington! The Visual Capitalist has something interesting almost every day.

 

The Week Ahead

We would all like to know the direction of the market in advance. Good luck with that! Second best is planning what to look for and how to react.

The Calendar

It is an active economic calendar. I continue to emphasize housing starts and building permits. Retail sales need a rebound – as expected. I do not pay much attention to the leading indicator release, but some swear by it. Several other releases have an impact on GDP calculations.

Briefing.com has a good U.S. economic calendar for the week (and many other good features which I monitor each day). Here are the main U.S. releases.

Next Week’s Theme

So much for the slow days and the Presidential and Congressional vacations! The North Korean situation has taken center stage, and will probably dominate through most of next week. Investors and pundits alike will be wondering:

Is the North Korean threat the catalyst for a market correction?

I studied the topic extensively to cull the most educational background material, still reflecting a range of opinion. Here are some viewpoints:

• Anyone who has been calling for a correction will inform you that “the time is now.” The claim is that a correction-ready market simply needs an excuse. Even Schwab (which has been correctly bullish) is worried that things might be “too good”.
• It is a paradise for doomsayers. Need a Survival Condo? Fifteen floors, “nuclear bomb resistant” and including luxury appointments. The cost is a mere $3 million.
• The market does not yet fear an actual nuclear outbreak – or else it would be down more. The Economist’s highly-regarded “Buttonwood” column got credit for a clever title: How do you solve a problem like Korea? It is a good story, with a review of past crises. As to the title, the Brits have not been watching the Capitol Steps!
• Art Cashin’s humorous story on why you buy the market when there is a nuclear threat. (It is all interesting, but scroll to the last 1:30 for the fun part).
• What are the North Korean nuclear capabilities? Estimate are 30-60 bombs including the potential for delivery as far as the US mainland. (CFR).
• What about China, Korea’s biggest ally and trading partner? The CFR has a great background piece.

  Beijing has consistently urged world powers not to push Pyongyang too hard, for fear of precipitating regime collapse and triggering dangerous military action. “Once a war really happens, the result will be nothing but multiple loss. No one can become a winner,” said Chinese Foreign Minister Wang Yi in April 2017, urging the United States and North Korea to show restraint.

  The specter of hundreds of thousands of North Korean refugees flooding into China is also a huge worry for Beijing.

• What could go wrong in a Trump Administration? War on the Rocks identifies and analyzes five specific risks.
• Meanwhile, the Administration nuclear policy is still under development.
• Fortune’s Alan Murray, in his excellent CEO Daily column, notes that President Trump has now become the “unpredictable one” in this relationship.
• Administration diplomatic efforts include a hard line, and soliciting Chinese support. (The Hill).
• Jeffrey A. Bader of Brookings emphasizes long-term thinking. He identifies 7 approaches that will not work.
• And what are the real options? A CFR Conference call highlighted experts on Japan and China, as well as the US. There is a good discussion, but no consensus choice. A key observation of these experts (and others) is the lack of clarity in the Administration viewpoint.
• What might be the effects on US GDP? James Picerno considers the elements of the problem for us to consider, but does not provide an estimate.
• And of course, we must consider public opinion. Here is the range of positions:

 

That is a lot to read! Please keep in mind that these are merely the top articles on this topic, selected for a range of viewpoints.

As usual, I’ll have more in my Final Thought.

Quant Corner

We follow some regular featured sources and the best other quant news from the week.

Risk Analysis

I have a rule for my investment clients. Think first about your risk. Only then should you consider possible rewards. I monitor many quantitative reports and highlight the best methods in this weekly update.

The Indicator Snapshot

 

The Featured Sources:

 

Bob Dieli: Business cycle analysis via the “C Score.

RecessionAlert: Strong quantitative indicators for both economic and market analysis.

Georg Vrba: Business cycle indicator and market timing tools.

Brian Gilmartin: All things earnings, for the overall market as well as many individual companies.

Doug Short: Regular updating of an array of indicators. Great charts and analysis.

 

Insight for Traders

We have not quit our discussion of trading ideas. The weekly Stock Exchange column is bigger and better than ever. We combine links to trading articles, topical themes, and ideas from our trading models. This week’s post, Buy the Dip or Abandon Ship, was our most popular ever. Blue Harbinger has taken the lead role on this post, using information from me and from the models. He is doing a great job.

Insight for Investors

Investors should have a long-term horizon. They can often exploit trading volatility!
Best of the Week

If I had to pick a single most important source for investors to read this week it would be a dead heat. This week’s modest market decline brought out plenty of doomsayers, whom you can find easily enough. Instead, I want to focus on some favorite sources who should probably read and perhaps quote each other, but apparently do not.

• Chuck Carnevale sees “extreme market conditions” which require investors to understand the drivers behind their investments – growth and value. He provides the supporting analysis we would expect.
• Josh Brown and Barry Ritholtz question whether the “buy and hold” investor will be able to stay the course.

Each is supporting a business model and questioning whether other approaches will work. While I frequently cite and applaud these sources, I see potential for avoiding the worst of the declines. It is a good question — and worth careful study.

Stock Ideas

Despite the new market records, there are plenty of ideas.

Brian Gilmartin shows how to take a deep dive when analyzing a stock. His study of Coke (KO) combines his trademark earnings analysis with a look at the Buffett involvement, the long-term record, the dividends, and the technical picture. Finally, he examines how this defensive position might fit in your portfolio. Time for a 20-year breakout?

Looking for bargains? It is not a bargain just because the price is lower! Blue Harbinger screens 100 stocks (the S&P 100) that were big losers on the week and finds three candidates. We already own two of the three. If you are going to buy cheap and unloved stocks, patience is needed!

Eddy Elfenbein is highlighted in a discussion of selected tech stocks. He has a wise and cautious outlook.

 

Dividends and Yield

David Van Knapp produces a “periodic table” of dividend champions emphasizing defensiveness. This is part of an ongoing series, intended to assist in comparing two characteristics of a stock.

Simply Safe Dividends is a good source who employs strong methods. Here is a little test. This week he looks at two dividend aristocrats, Clorox (CLX) and S&P Global (SPGI). Can you guess which he prefers? Reading both articles is educational as well as a source of ideas.

Personal Finance

 

Seeking Alpha Senior Editor Gil Weinreich has an interesting topic every day. This week he featured an idea that I have been nurturing for a long time – how to ask the right questions. His kind and wise words on this topic are quite helpful. I hope that readers will understand the need to consider what is NOT said and done as well as what is. I could have picked many examples, but I chose to discuss The Unsolved Mystery of the Cramer Rant. I have a lot of ideas that I do not see elsewhere; some of them might be helpful.

I read Gil’s excellent work every day and encourage you to do the same. While it is ostensibly directed toward financial advisors, it is fertile ground for individual investors.

I especially enjoyed his commentary on cuts in employer retirement support. As he frequently does, Gil raises a topic of importance both to advisors and to individual investors. I read it daily, and you will enjoy it as well.

Abnormal Returns has a special personal finance post each Wednesday. I especially enjoyed these two entries:

• How to stay motivated in retirement. This is a good discussion from someone who retired at 34!
• A money management app for couples. Honeydue tracks bills and payments, combining privacy and autonomy on some things while facilitating joint management on others.

  A key friction point the app aims to address is to enable users to choose how much information they share.

  “One of the hesitation points that we saw in a lot of the couples was that they didn’t necessary want to argue about the little things,” he explains. “Did you take Uber vs Lyft, The number one argument we read in a study was over frivolous purchases. So a lot of couples said that they want to goal set and plan but they don’t necessarily want to argue about did they make frivolous purchases. So one of the features we allow you to is we allow you to track your account balances but choose what you want to share.

I am nearing my 38^th anniversary with Mrs. OldProf. We agree that there are some things you just don’t want to know. (For example — the going rate for something called a mani-pedi? She retaliates by citing various “useless gizmos” that do things like test voltage and battery strength.)

Watch out for….

Netflix (NFLX). Barron’s has a comprehensive takedown as this week’s cover story. The basic idea is that Netflix mostly pays for content and the cash flow is not adequate for this need. There is an interesting analysis of content they own versus what they license. The conclusion is that the company is attracting viewers with a low price – one that does not really cover needs.

Blue Apron (APRN). Stone Fox Capital takes a cautious look at a story stock trading almost 50% lower than the IPO opening. Despite the promise, patience is warranted. They don’t like Snap either.

A debt problem at Chicago Bridge and Iron (CBI)? John Rhodes has an interesting take. (Quick quiz – does the company name reflect its location in Chicago, the making of bridges, or the use of iron?)

Final Thoughts

 

The escalation of threats and accusations about N. Korean arms raises a broader question: How should an investor think about geopolitical risks?

Many sources advise ignoring such news items, but that does not really work. You cannot avoid the headlines, but some education and analysis can be helpful. Serious investors who make their own decisions should inform themselves. Those who have delegated responsibility to advisors should be confident that they know what they are doing!

Here is my own current thinking – subject to revision as events change, of course.

Current Situation

Despite the change in Presidents and circumstances, there are many forces pushing for restraint. I especially like that China and Russia joined in the UN sanctions against N. Korea. This is unusual, and clearly positive. I am monitoring events, but not concerned about the media and political feast on this topic.

Market Relevance

I have written that this is not yet a “market story.” The key market fundamentals are solid, and not significantly affected by this news. Instead of my words, let’s see what the temperate and sensible Eddy Elfenbein thinks:

With the recent war of words over North Korea, investors are starting to feel anxious. The South Korean economy punches above its weight in the world economy. There are several prominent Korean corporations like Samsung and Hyundai. But in the last two weeks, the South Korea ETF(EWY) has lost more than 7%.

Over the past several months, Wall Street has brought back its old habit of freaking out in the short-term over something that turned out to be nothing major. Remember the Brexit panic? The S&P 500 had its biggest daily drop in nearly a year. But shortly after that, cooler heads prevailed and doomsayers were yet again proven wrong.

Nearly the same thing happened after last year’s election. At one point on election night, the Dow futures were down more than 800 points. The end of the world never came, and the Dow is sitting on a nice 20% gain since the election.

My point isn’t to defend or criticize any of these political events. Rather, I’m encouraging you not be swept up by unreasonable fears. Stock prices are like a global blood-pressure machine. Historically, the U.S. stock market has been able to rally during highly-unsettling times for the country and the world. Any drop in U.S. equity prices is good for stock-pickers.

Investment Action

There is no compelling reason for action. That said, in times like these some investors find it easier to maintain their positions if they hold a small hedge. 5% or so in gold or gold stocks or some out-of-the money puts might not be profitable by themselves. If they help an investor to feel more secure, it is much better than making a dramatic decision to sell all.

[Some readers might enjoy my recent short paper, Getting Back in the Market. This has more specific suggestions about attractive stock sectors and good tactics. The Top Twelve Investor Pitfalls will help with your plan. Understanding Risk might also be of interest. All are free at your request from info at newarc dot com].

What worries me…

• Perceptions about the upcoming debt limit issue. No signs of progress so far, and it will be hitting the headlines.
• The US/China relationship. The Korean situation has created an extra strain. Agreement on trade policy and currencies is important.

…and what doesn’t

• The Fed. That includes both rate increases at a reasonable pace and the planned balance sheet reduction. Expect these worries to be heating up before the annual Jackson Hole conclave.
• Recession worries. The strange stories from newly-minted experts are already starting to circulate.

[Answer to the trick question about CBI – none of the above.]

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