TheChek News Flow

Closing Market Summary: Stocks End Mixed Despite Upbeat Earnings

The major averages began the abbreviated week on a mixed note as the Nasdaq added 0.7% while the Dow Jones Industrial Average shed 0.3%. For its part, the S&P 500 rose 0.3% as eight of ten sectors finished in thegreen.

Stocks began the day with solid gains but the early strength faded quickly when the S&P 500 was unable to extend above the 1850 level during the opening minutes. That rejection emboldened sellers, who promptly drove the indices to their lows. Adding insult to injury was the fact that today's'mostly better-than-expected earnings failed to entice buyers.

On that note, 16 out of the 17 companies that reported this morning met or exceeded their Capital IQ consensus estimates. Forest Laboratories (FRX 68.00, -0.74), Halliburton (HAL 49.78, -0.88), and Dow components Johnson & Johnson (JNJ 94.03, -1.03), Travelers (TRV 85.00, -1.47), and Verizon (VZ 47.68, -0.68) all beat estimates but settled lower.

The notable weakness among the three Dow members pressured the price-weighted index, which had to contend with losses in 18 of its 30 components. The second-largest member, IBM (IBM 188.43, -1.66), lost 0.9%ahead of its earnings report set for an after-hours release.

One name that rallied following its earnings beat was Delta Air Lines (DAL 32.08, +1.01). The stock jumped 3.3%, which provided support to the Dow Jones Transportation Average (+0.6%). However, the industrial space was unable to keep pace with the broader market as the top sector component, General Electric (GE 26.29, -0.29), lagged after announcing a pair of acquisitions.

Similar to industrials, consumer discretionary (-0.2%) and financials (+0.1%) lagged while the remaining cyclical groups—energy (+0.5%),materials (+0.6%), and technology (+0.5%)—finished ahead of the broader market. Notably, the materials sector was boosted by Dow Chemical (DOW 45.93, +2.86), which surged 6.6% after Third Point took a big stake in the company and called for a spinoff of its petrochemical business.

On the countercyclical side, telecom services (-0.7%) lagged while consumer staples (+0.3%), health care (+0.5%), and utilities (+1.2%) outperformed. The health care sector received support from biotechnology as the iShares Nasdaq Biotechnology ETF (IBB 251.99, +4.56) rose 1.9%. In turn, this also factored into the outperformance of the Nasdaq Composite.

Treasuries ended modestly lower with the 10-yr yield up one basis point at 2.83%.

Participation was a bit above average as 740 million shares changed hands at the NYSE.

Tomorrow, the weekly MBA Mortgage Index will be released at 7:00 ET.

* Nasdaq +1.2% YTD  * Russell 2000 +1.1% YTD  * S&P 500 -0.3% YTD  * DJIA -1.0% YTD

IBM Q4 Earnings Preview

Top Points:

IBM is scheduled to report fiscal fourth quarter earnings today after the close. There is a conference call scheduled for 4:30pm ET (the co typically guides in the press release). Capital IQ Consensus Estimate calls for Q4 non-GAAP EPS of $6.00 on revs of $28.3 bln. The co is expected to guide for FY14 EPS where consensus stands at $18.01. Co reaffirmed its objective to achieve at least $20 of operating EPS in 2015 ($19.97 FY2015 Capital IQ Consensus Estimate).  On last quarter's earnings call, mgmt noted that hardware performance in China accounted for all five points of the constant currency decline in the growth markets and for 1.2 points of the 1.6 points of constant currency decline for all of IBM. Co has already taken mgmt action to improve performance. Mgmt had confidence that they could get this back on track; they expected a change in trajectory starting in Q4 and stated that it will be back to growth early in 2014. Mgmt also noted that the co has a strong pipeline in software and that they expect improvement in software rev growth and double-digit growth in profit in Q4. Last week, IBM announced plans to commit over $1.2 bln to significantly expand its global cloud footprint. The co plans to have data centers in all major geographies and financial centers with plans to expand in the Middle East and Africa in 2015. Earlier this month, the co confirmed that it will establish the IBM Watson Group, a new business unit dedicated to the development and commercialization of cloud-delivered cognitive innovations. The co will invest more than $1 bln into the Watson Group.  On Oct 29, the co authorized $15 bln in additional funds for use in the co's stock repurchase program. This amount was in addition to ~ $5.6 bln remaining at the end of Sep 2013 from a prior authorization. 

Key Points from Last Quarter: 

Co reported Q3 earnings of $3.99 per share, excluding non-recurring items, $0.03 better than the Capital IQ Consensus Estimate of $3.96; revs fell 4.1% y/y to $23.72 bln vs the $24.8 bln consensus. The two services segments generated $14 bln in rev, declining 3% as reported but at constant currency return to growth of 1%. Pre-tax profit was up 17%, and pre-tax margin expanded by 3.3 points. Total backlog was $141 bln, up 2% at spot rates but up 6% at constant currency. Global Technology Services segment rev was $9.5 bln, down 4% or down 1% at constant currency. Global Business Services rev was $4.6 bln, flat as reported and up 5% at constant currency. · Looking at other segments, revs from the Software segment were $5.8 bln, up 1% or 2% at constant currency. Revs from the Systems and Technology segment totaled $3.2 bln for Q3, down 17%, down 16% adj. for currency, and growth markets performance drove two thirds of the rev decline, about half of which was China. · The Americas' Q3 revs were $10.3 bln, down 1% y/y (flat, adj. for currency); EMEA revs were up 1% to $7.3 bln (down 2% adj. for currency); Asia-Pacific rev were down 15% y/y (down 4% adj. for currency) to $5.5 bln.  The co's total operating (non-GAAP) gross profit margin was 49.1% vs 48.1% in 3Q12, with increases in Global Technology Services, Global Business Services and Global Financing. 

Analyst Comments: 

Earlier this month, Stifel noted that 2013 was a difficult year for IBM and near-term fundamentals are likely to remain challenged, particularly in hardware and growth markets. Software should grow within the expected 3-4% range, though could remain lumpy, and services fundamentals should continue to improve as strategic initiatives reposition the business play out and economic fundamentals improve. Last week, IBM was upgraded to Buy from Outperform at Credit Agricole; tgt was raised to $225 from $215. 

Options Activity:

Based on IBM options, the current implied volatility stands at ~ 23%, which is ~ 43% higher than historical volatility (over the past 30 days). Based on the IBM Weekly $187.50 straddle, the options market is currently pricing in a move of ~4% in either direction by weekly expiration (Friday). IBM puts are outpacing calls by a factor of 1.5:1 (~25.1K calls traded vs ~37.3K puts). 

Technical Perspective:

Technically, this bluechip has been an under-performer with a loss of -20% off its March 2013 peak. Price also displayed relative weakness throughout the latter half of the year as it slid back to its 2-year lows near 175/172. Buyers defended the stock along those lows with decent rally into year-end, but right now in January the down-sloping 200-day moving average along 191 is acting as key resistance. In response to earnings, buyers need to prove that Oct/Dec "double bottom" along the 172/175 zone was legit and lift prices back over the 200-day ma towards the $200-level. Such action would break the multi-month downtrend in effect off the 2013 highs. Failure to do so could result in prices sliding back towards 180 and lower. Watch for initial support along the current Jan lows near the 182/183 zone.

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Carrefour Names Colony Capital’s Barrack to Board 2014-01-21 17:31:15.149 GMT

By Jim Silver Jan. 21 (Bloomberg) -- Colony CEO Thomas Barrack Jr. will replace Sebastien Bazin for remainder of term, until AGM to approve 2015 results, co. says on website. * NOTE: Bazin is Accor chairman, CEO

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To contact the editor responsible for this story: Jim Silver at +1-212-617-7342 or jsilver@bloomberg.net

Rumor Round Up

Rumor Activity started out the week slow. * There were reports that Lenovo (LNVGY) in discussions to purchase IBM's (IBM) server business. * There were reoprts that Standard Chartered (SCBFF) may be a takeover target. * Silicon Graphics (SGI) strength attributed to speculation that SGI would benefit from a LNVGY / IBM deal.

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Emerging Market FX ‘Instability’ a Sign Not All Is Right: Gross 2014-01-21 16:18:38.672 GMT

By Greg Chang Jan. 21 (Bloomberg) -- Pimco’s Gross says on Twitter: “Emerging Market currency instability suggests all is not right in this levered financial marketplace.” * Link to post: {NSN MZREJ3BE5TS0 <go>}

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To contact the editor responsible for this story: Greg Chang at +1-415-617-7076 or gchang1@bloomberg.net

Special Situations: Alstom (ALO FP)

Asset disposals more important than results – BUY OPPORTUNITY

ALO FP: 24.00; Short-term initial target; Eur 26.00 January 21, 2014 Alstom reported 3Q FY2013/2014 results. The key take-away for us is the change in margin and cash flow guidance vis-à-vis the previous guidance. As per the latest guidance, ALO expects (i) the operating margins to decline "slightly" for the 2014/2015 period from the current level of ~7.0%. Previously (as of Nov 2013), ALO was guiding for a gradual increase in operating margins to 8% over the next two or three years. (ii) Negative cash flow for 2013/2014 period vs a previous positive expectation.

Certainly, the lowered guidance on operating margins is negative for the stock. The latest guidance suggests that the targeted margin recovery to 8.0% is pushed back further past 2016. We believe that this development is likely to force ALO management to push for more aggressive cost saving/restructuring measures to improve margins. In our previous report, we suggested that ALO’s cost cutting targets were not as aggressive as Siemen’s targets, hence room for a more aggressive stance. Also, a pickup in sector activity in Europe is likely to benefit ALO share price disproportionately vis-à-vis its peers. Hence, we believe that substantial downside risk to margins is limited.

On a balance sheet perspective, we note that ALO continues to target non-core asset sales, which according to the management is generating substantial interest from potential buyers. ALO is planning to generate €1Bn to €2Bn via asset sales and the management seems very optimistic (in today’s conference call) in achieving this target. Hence, guidance on negative cash flow does not worry us as we believe that the above asset sales should support the balance sheet flexibility of the group.

On a relative valuation basis, ALO seems fairly valued given the current estimates in its sector. ALO is also cheap vs SIE. ABBN seems to be slightly undervalued vs. ALO and SIE. Despite the fair valuations for ALO, we believe that upside to the share price could come in the form of higher than expected cost savings, aggressive non-core asset sales and pick-up in order activity. Hence, we set a short term price target of €26. This could increase north of €30, if the margin recovery picks up. On the other hand, we believe that downside from the current share price is limited. On this basis, we would remain buyers of ALO at current price levels. Risk Adjusted Efficient Price The table below shows our "efficient" price estimate for ALO. We estimate a target price of €25.9 assuming three scenarios:

· Bull Case estimates a target price (using our relative valuation model) of €28.5 assuming ALO achieves its stated OP Margin target of 8.0%.

· Base Case estimates a target price of €24.7 assuming that ALO experiences a slight improvement in OP Margin from 7.0% to 7.30%.

· Bear Case estimates a target price of €21.5 assuming that ALO OP margin drops to 6.5%.

Risk Adjusted Price.€ [cid:image003.jpg@01CF16C8.228ED510]

In other words, the correction brought about by the disappointing numbers is excessive in our view. We expect the stock to settle toward Eur 26 in order to be efficiently priced within the sector, and we recommend buying the stock in order to realize the valuation arbitrage. FULL REPORT ATTACHED