After Hours Summary: KRNT -20.8% falls on weak guidance; BOC +3.5% higher on M&A newsAfter Hours Gainers:
Companies trading higher in after hours in reaction to earnings/guidance: None
Companies trading higher in after hours in reaction to news: AMTI +3.8% (to report top-line Phase 2 results from MARKET combination Trial of Oral AMT-101), ESTE +3.8% (stock offering), BOC +3.5% (acquires the internet service assets of Strawberry Comms), STAG +2.6% (names new CEO), LSI +1.2% (increases dividend), SRPT +0.8% (to share new clinical data and analysis for SRP-9001), DNMR +0.5% (to submit Part II application for loan guarantee under US DOE loan guarantee program), FTI +0.2% (to conduct iFEED study for Equinor), NEXA +0.2% (ramp-up activities at Aripuana have started), EPM +0.2% (CEO to step down), OIS +0.1% (names new COO)
After Hours Losers:
Companies trading lower in after hours in reaction to earnings/guidance: KRNT -20.8% (issues downside Q2 guidance)
Companies trading lower in after hours in reaction to news: FSP -4.8% (adopts a variable quarterly dividend policy), LMT -1.1% (awarded a $185.9 mln US Navy contract modification), VMW -0.2% (AVGO's deal to acquire VMW will move forward after rival bidder failed to emerge, according to Bloomberg)
Closing Stock Market SummaryThe stock market had growth concerns on its mind when it started today's session. When it ended today's session, it was wrapped up more in a feeling of inflation relief. Still, it was impossible to put a bow on that package, because the inflation relief was borne out of an expectation that global economic growth is going to weaken appreciably.
Nevertheless, things looked a lot better at the close than they did shortly after the open. At their lows of the morning, the Dow, Nasdaq, and S&P 500 were down 2.4%, 1.9%, and 2.2%, respectively. The Nasdaq would ultimately close up 1.8%, bolstered by strength in the mega-cap components. The S&P 500, meanwhile, eked out a 0.2% gain while the Dow Jones Industrial Average settled with a modest 0.4% decline.
The turnaround effort began right about the time European markets closed. Most bourses were saddled with large losses pushing 3.00% as recession worries took root in conjunction with the euro falling to a 20-year low against the dollar. EUR/USD traded down to 1.0235, bringing it close to parity with the greenback, but stood at 1.0267 (-1.5%) as of this writing.
That weakness bled into the U.S. market, sinking the cyclical stocks in the early stages of trading. Everything went lower, however, evidenced by an advance-decline line at the NYSE that favored decliners by a better than 6-to-1 margin. By the close, decliners led by a 9-to-7 margin.
The growth concerns were apparent in the underperformance of the cyclical stocks, yet they were most acute in the behavior of the Treasury and commodity markets.
The 2s10s spread inverted by a basis point. The 2-yr note yield settled its session down a basis point at 2.82% and the 10-yr note yield settled its session down eight basis points at 2.81%. Separately, WTI crude futures plummeted 8.1% to $99.34/bbl, unleaded gasoline futures dropped 9.0% to $3.34/gal, and copper futures fell 5.6% to $3.42/lb.
That move in the energy complex undercut the S&P 500 energy sector (-4.0%), but it became a relief point for the broader market seeking some inflation relief. If nothing else, traders latched onto the commodity price breakdown as a turnaround catalyst.
Some will call attention to the drop in the 10-yr note yield as another relief point, but it would be remiss not to add that the 10-yr note yield was sitting around 2.81% when stocks sold off at the open. The implication is that the commodity price action was the principal driver of today's turnaround action.
The Dow, Nasdaq, and S&P 500 all closed pretty much at their highs for the day. The S&P 500 was paced by the communication services (+2.7%), consumer discretionary (+2.3%), and information technology (+1.2%) sectors, which were led by the likes of Alphabet (GOOG 2277.74, +96.12, +4.4%), Meta Platforms (META 168.19, +8.16, +5.1%), Amazon.com (AMZN 113.50, +3.94, +3.6%), and Apple (AAPL 141.56, +2.63, +1.9%).
Today's worst-performing sectors were energy (-4.0%), utilities (-3.4%), materials (-2.0%), and industrials (-1.5%).
The Vanguard Mega-Cap Growth ETF (MGK) ended the day up 1.8%, whereas the Invesco S&P 500 Equal Weight ETF (RSP) closed down 0.3%.
Reviewing today's economic data:
- Factory orders for manufactured goods increased 1.6% m/m in May (consensus +0.5%) following an upwardly revised 0.7% increase (from 0.3%) in April. Shipments of manufactured goods rose 1.8% after increasing 0.6% in April.
- The key takeaway from the report is the understanding that order activity was much stronger than expected in May; however, the market isn't responding to that consideration so much as it is responding to the notion that order activity is apt to weaken in coming months as global economic activity slows.
Looking ahead, market participants will be focused on the May Jolts - Job Openings and June ISM Non-Manufacturing Index reports at 10:00 a.m. ET on Wednesday along with the release of the minutes for the June 14-15 FOMC meeting at 2:00 p.m. ET.
- Dow Jones Industrial Average: -14.8% YTD
- S&P 400: -19.4% YTD
- S&P 500: -19.6% YTD
- Russell 2000: -22.5% YTD
- Nasdaq Composite: -27.6% YTD
Ebitda: creative accounting did not end when debt was initially sold
Many loan term sheets lack definitions for ebitda allowing corporates to avoid breaching covenants
Accounting shenanigans that help companies raise money have a habit of reappearing in different forms.
For years, corporate borrowers, often private equity-owned, have relied on so-called adjusted ebitda in order to maximise their debt-raising capability. These fudges included so-called “add-backs” — one-time charges and the like — designed to give a fairer depiction of profitability. But some dubious add-backs included earnings that were speculative or not-so-aberrational. Juicing up ebitda this way enabled the company to take on even more junk loans and junk bonds.
The holders of such debt are getting another accounting lesson now. Many of those previous debtors seek to borrow additional cash, deploying the fuzzy math of ebitda profitability. According to a recent report from Moody’s, of 226 leveraged loan term sheets it reviewed for debt issuances in 2021 and 2022, over half lacked formal definitions for ebitda. This has allowed corporates keen to raise more debt, or pay out dividends, to creatively construct an ebitda measure that avoids breaching covenants.
Some adjustments look defensible, such as those based on wording from Big Four accounting firms that write “quality of earnings” reports. Still these numbers still do not equate with the audited historical figures in financial statements. More questionable add-backs include the profits from merger and acquisition deals contemplated but not yet completed and research and development charges that are usually regularly recurring.
Credit agreements historically contained “maintenance” covenants, which would result in a technical default if a company failed to maintain a certain amount of profit relative to debt. Such restrictions have appeared less frequently in the last decade.
However, more common are “incurrence” covenants that have requisite profit levels before raising more debt or pursuing other financial engineering. The increasingly fluid ebitda calculation is one aspect of the creativity employed by borrowers to raise more money. Lenders, including sophisticated hedge funds, are ostensibly victims of this game-playing. Then again, they freely bought this paper ignoring the risks they took on.
France repatriates children and mothers from Syrian camps
Shift from case-by-case policy comes as campaigners step up calls for return of remaining minors to Europe
France has repatriated 35 children and 16 mothers from detention camps in Syria for prisoners with links to jihadi groups, a shift in its long-held policy of very occasional returns that had been criticised by human rights groups and put it at odds with other European countries.
Since Isis fighters surrendered their last Syrian enclave in 2019, the last scrap of a self-declared caliphate that included neighbouring regions of Iraq, many of the women who had left their countries to join militant groups ended up in the camps.
Activists, relatives and organisations including the UN have sounded the alarm over the fate of children stuck in the Kurdish-run centres, where sanitary conditions are often dire. Many were either born there or were taken to Syria at a young age. About 150 French minors remain in the camps, and campaigners have urged all European governments to speed up the repatriation process.
France had remained an outlier in how to deal with the minors and their mothers. It had previously repatriated only a handful of children, mainly orphans or minors whose mothers had been forced to give up their parental rights, even after other European countries began to fly back families.
French anti-terror prosecutors said the newly repatriated children, including seven minors without guardians, had been taken into care. One child who is nearly 18 and suspected of having links to a terror group has been detained.
The women, who were either French nationals or had French children, had faced either arrest or search warrants and were being dealt with by judicial authorities, the French foreign office said.
Until recently the idea of repatriations on a larger scale had proved unpopular, French opinion polls showed. The country was still reeling from a series of terror attacks planned by Islamist cells in Syria, including the killing of 130 people at restaurants and a concert hall in Paris in November 2015.
Victims’ associations from the 2015 attacks had come out in favour this year of bringing children and their mothers back to France, however, coinciding with the trial of some of the perpetrators that sought in part to confront the traumatic chapter. The case was concluded with convictions for 20 assailants last week.
The repatriations also come after a long season of political campaigning and elections in France that has now drawn to a close, with Emmanuel Macron in the first months of his second presidential term.
Relatives of the French children welcomed the move on Tuesday, but said all of the minors still stuck in Syrian camps needed to be returned.
“We hope this repatriation signals the end of this abject ‘case-by-case’ policy, which comes down to sorting between children, separating brothers and sisters and tearing children away from their mothers who are abandoned in the camps,” the United Families campaign group said.
The UN’s children’s rights committee in February had backed calls from the French relatives of children in the Syrian camps for them to be returned to France, saying their lives were at risk from illnesses and violence.
Save the Children in March urged governments to step up repatriation efforts after Germany, the Netherlands, Denmark and other European countries that had been more amenable to larger returns began to fly out children and mothers. Belgium repatriated six mothers and 16 children from north-eastern Syria in June.
Norway strikes threaten to cut off gas supplies to UK within days
Europe’s energy crisis intensifies as Equinor begins shutting down oil and gas fields
Norway has warned that gas exports to the UK could be shut off this weekend if a workers’ strike escalates, with up to 60 per cent of the Scandinavian country’s supplies under threat from industrial action.
Equinor, Norway’s state-backed energy company, had already shut down three oil and gas fields since the strikes began on Monday evening over pay claims to compensate for rising inflation, in a move that helped propel European gas prices to the highest level in four months.
Norway’s Gassco, the state-owned pipeline operator, told the Financial Times on Tuesday that “in a worst-case scenario, deliveries to the UK could stop totally”, with striking workers planning to extend the shutdowns this Saturday to a key distribution hub that supplies the UK.
The threat to Norwegian supplies comes as European countries are already rushing to fill storage ahead of the winter. Europe has turned to Norway, traditionally its second-biggest gas supplier behind Russia, to plug the gap left after Moscow cut flows following its invasion of Ukraine earlier this year.
The UK has also become a key conduit for moving supplies on to Europe over the summer, with its export pipelines to Belgium and the Netherlands running at speed to send excess imports of liquefied natural gas and Norwegian supplies into continental storage ahead of the winter.
The supply drought has sent European gas prices surging, contributing to a sharp rise in costs for businesses and households. Benchmark European gas prices rose 6 per cent on Tuesday to €167 per megawatt hour, the highest level since early March and five times the level of a year ago.
The jolt higher in prices rippled into the foreign exchange market, with the euro sinking to its lowest level in two decades on concerns over how spiralling energy costs will affect the euro area economy.
The strikes that began on Monday evening will initially affect 89,000 barrels of oil equivalent a day of production at fields on Norway’s continental shelf. From Tuesday evening, workers plan to extend the industrial action to three more sites, meaning that the disruption is likely to grow to 13 per cent of Norway’s natural gas exports.
The union is threatening a more serious escalation of the strikes on Saturday that would force the closure or reduction of production at 14 sites and result in a 56 per cent drop in Norwegian gas exports if no resolution is found.
Gassco said Sleipner, a key distribution hub on the gas pipeline to Easington on England’s east coast, would be forced to close under the weekend strike plans. There would likely be a lack of gas to pump through an alternative pipeline to St Fergus in Scotland, it added.
Norway became the UK’s largest source of gas last year, according to industry body Offshore Energies UK, overtaking domestic production for the first time and meeting 42 per cent of all UK demand. Norway also meets about 25 per cent of total European demand.
The troubles for Norwegian supplies come as traders turn increasingly pessimistic that Moscow will resume the flow of gas through Nord Steam 1, the pipeline between north-western Russia and Germany, to full tilt once it comes back from maintenance due to start next week for 10 days.
State-backed Gazprom last month cut capacity by 60 per cent on the line, blaming technical issues linked to western sanctions, but has declined to utilise alternative pipeline routes to maintain supplies. Many European officials have accused Russia of weaponising gas supplies and warned that the continent needs to brace itself for further cuts.
Tom Marzec-Manser, an analyst at consultancy ICIS, said that while the UK would likely be able to cope short-term without Norwegian supplies due to low gas demand in summer, the timing would harm European efforts.
“UK has got lots of LNG imports coming in so should be fine, even if it creates some tightness in the market,” Marzec-Manser said. The UK is expected to receive four cargoes of LNG between July 10 and July 19.
“But for Europe as a whole this couldn’t really be happening at a worse time, outside the depths of winter, as we desperately need to fill storage ahead of the colder months,” Marzec-Manser added.
Goldman Sachs raised its European gas price forecast as it “no longer sees” a full restoration of gas flows from the Nord Stream 1 pipeline as the most probable scenario. It now sees TTF, the benchmark wholesale gas price in Europe, at €153 per MWh in the third quarter, up from €104.
In a sign of the crisis engulfing the European energy industry, Germany’s government drew up a law on Monday to take stakes in power companies that are suffering from the skyrocketing cost of imported gas.
Besides bringing in Norwegian supplies, Europe has been importing record volumes of LNG, largely from the US, to build up gas storage supplies ahead of winter.
The International Energy Agency said in its quarterly gas market report that the continent’s surging demand for LNG to replace Russian pipeline supplies has rippled around the world and led to an “exceptionally tight” global market.
Globally, the IEA now expects gas demand to decline 0.5 per cent this year and remain “subdued” until 2025 owing to higher prices, a sharp reversal of the pre-crisis trend when gas consumption was rising strongly and often replacing coal in power generation.
Rising Interest Rates May Blow Up the Federal Budget
In fiscal year 2020, at the height of covid stimulus mania, Congress managed to spend nearly twice what the federal government raised in taxes.
Yet in 2021, with Treasury debt piled sky high and spilling over $30 trillion, Congress was able to service this gargantuan obligation with interest payments of less than $400 billion. The total interest expense of $392 billion for the year represented only about 6 percent of the roughly $6.8 trillion in federal outlays.
How is this possible? In short: very low interest rates. In fact, the average weighted rate across all outstanding Treasury debt in 2021 was well below 2 percent. As the chart below shows, even dramatically rising federal debt in recent years did not much hike Congress's debt service burden.
This is an exceedingly happy arrangement for Congress. Debt is always more popular than taxes for the same reason starting a diet tomorrow is more popular than starting today. Austerity does not sell when it comes to retail politics; spending trillions today while merely adding to what seems like a nebulous, faraway debt definitely does. And American lawmakers are uniquely fortunate in this regard. As French finance minister Valéry Giscard d’Estaing infamously announced in the 1960s, the Bretton Woods monetary system created "America's exorbitant privilege." He understood how the US dollar's status as the world's reserve currency would allow America to effectively export inflation to its hapless trading partners while maintaining cheap imports at home. But he may not have fully grasped the political privilege which would accrue to Congress.
Is this privilege sustainable? That may well be the most important political question of the twenty-first century. As Nick Giambruno explains, our forty-year experiment in relentlessly lower interest rates may soon end regardless of what the Fed does. Markets and geopolitics are powerful forces. Inflation, huge projected deficits, economic sanctions on Russia, oil disruptions, and a diminished appetite around the world for propping up Uncle Sam forever all exert upward pressure on Treasury rates. The Fed proved it can and will serve as market maker and backstop for US Treasurys, with its sordid QE (quantitative easing) bond purchases after the Great Recession and its deranged response to covid. But it cannot force investors, even crony institutional investors, to buy American bond debt at rates well below inflation forever. This is not hypothetical; Giambruno notes how certain Treasury yields quietly rose five time just since the absolute lows of 2020.
If Treasury rates continue to rise, and rise precipitously, the effects on congressional budgeting will be immediate and severe. Even if we laughably assume total federal debt remains static at around $23.8 trillion (the publicly held portion of the $30 trillion), interest rates of merely 2 or 3 percent will cause interest expense to rise considerably. Average weighted rates of only 5 percent would cost taxpayers more than $1 trillion every year. Historically, average rates of 7 percent swell that number to more than $1.5 trillion. Rates of 10 percent—hardly unthinkable, given the Paul Volcker era of the late seventies and early eighties—would cause debt service to explode to over $2.3 trillion.
Interest on debt in the hands of the public at different interest rates (billions)
| Total debt in the hands of the public | $23,874. 2 |
| Interest rate | Interest expense |
| 1% | $238.70 |
| 2% | $477.50 |
| 3% | $716.20 |
| 4% | $955.00 |
| 5% | $1,193.70 |
| 6% | $1,432.50 |
| 7% | $1,671.20 |
| 8% | $1,909.90 |
| 9% | $2,148.70 |
| 10% | $2,387.40 |
Again, even 5 percent average rates would cause debt service to become the single biggest annual expenditure for Congress—ahead of Social Security ($1.2 trillion), Medicare ($826 billion), and the Department of Defense ($704 billion). The starting point for budget makers every year would be an interest expense totaling nearly half of realistic tax revenue. And keep in mind that these figures are for the existing federal debt, exclusive of the vast future deficits that are almost dead certain to happen. Seniors like entitlements, and the percentage of Americans over sixty-five is set to double by 2050. Republicans and Democrats like war, busy as they are installing more US troops in Poland and envisioning new aircraft carriers to patrol the Mediterranean (yes) and the South China Sea. What happens when the interest-bearing debt is $40 or $50 or $60 trillion?
At some point, given the sheer and utter profligacy of Congress, will the world demand junk bond rates to loan America another dime? Everyone knows the US will never pay its debts except nominally through inflation; everyone knows off–balance sheet entitlement promises cannot be kept in any meaningful way. Spendthrifts get cut off eventually, even those with powerful militaries and hegemonic currencies. This may not happen soon, if for no other reason than that the rest of the world holds trillions of US dollars too. But if American exceptionalism goes the way of the British Empire, this will be the reason why.
During the incontinent George W. Bush administration, Dick Cheney infamously chided Treasury secretary Paul O'Neill with the assertion "Reagan proved deficits don't matter." We see the same deluded thinking today among proponents of modern monetary theory, the idea that sovereign governments can command resources at will. This mentality pervades Congress, which in turn is rewarded by voters who want wars and welfare today without thought to future generations. They choose to believe the Cheneys and the MMTers, who tell them deficits and debt are essentially costless.
But debt and deficits do matter. We are about to find out how much they matter. The good news, and it is very good news, is that Americans soon may enjoy the benefits of compounding interest on savings (our grandparents can explain this to us). Civilization begins and ends with capital accumulation, the very thing politics and central banks attack with impunity. It is beyond time to reward savers and punish Congress.
Norilsk/Rusal: odd pairing hints at peak for industrial metal prices
Potanin and Deripaska would make an odd couple; any deal talk requires healthy scepticism
Wartime stresses can produce some unusual alliances. Consider the potential combination of Vladimir Potanin’s Norilsk Nickel with aluminium maker Rusal led by Oleg Deripaska. On Tuesday Potanin told Russian media that he would countenance a merger that created a national metals champion. That hints at domestic problems for both companies.
The two oligarchs are hardly friendly, having sparred publicly in the past. Deripaska has coveted more control over Norilsk’s cash flows for use by Rusal, which owns 26 per cent of Norilsk. The two have starkly different views, according to Potanin, about governing a publicly listed company.
A deal might reflect Potanin’s short-term concerns about toppy metals markets as a global recession approaches. Indeed, on current price estimates for this year, Citi believes that the value of all commodities — from metals to energy to agriculture — represent more than 13 per cent of nominal world GDP. That has not occurred since the early 1980s.
Norilsk is the world’s largest producer of refined nickel, which at $22,750 per tonne trades well above its production costs. Even high cost producers of nickel can make a decent living at these prices. While inventories at five weeks of consumption are historically very low, the supply of nickel ore (to make the metal) will grow by a fifth year on year in 2022. Meanwhile, stainless steel, which accounts for more than two-thirds of nickel demand, has tumbled towards one-year lows.
Creating a national champion from a nickel (and palladium) producer with Rusal, one of the world’s leading aluminium makers, does not immediately suggest cost benefits. What the combined group might have is more clout with the Russian state to finance any capacity growth longer term.
That sounds suspiciously like imminent nationalisation. Potanin’s comments hinted strongly that Norilsk dividends — its yield is in the low teens — are at risk. At the end of June, Gazprom, another national champion, chose to redirect any minority shareholder dividends to the Russian government.
Potanin and Deripaska would make an odd couple. Any deal talk requires healthy scepticism. Otherwise, it hints at future problems for oligarch owners of state resources.