Brennaman’s Four Points for the Week August 11, 2014

1.      Equity Market Correction Did not materialize – Just A Return to Volatility – The market last week opened with a bang then settled into a simmering morass of fear, uncertainty and doubt.  The combined news from the Middle East (Israel, Gaza and Iraq) and the continued threat from Russia / Ukraine threatened to upset the already tepid trading levels in U.S. Markets.  Bottom line is by Friday the market as measured by the S&P 500 was essentially flat for the week and still positive for the year (5.8%).  Earnings this past week were a broad mix of surprises and disappointments.  In the Mega-Cap space Citigroup continues to underperform due to their settlement with the U.S. Justice Department slammed their earnings, resulting in net income per share of only $0.03.  Without the settlement the income would have been $1.24 beating estimates handily.  Therefore the stock was up on the announcement.  It makes you wonder what will make a stock’s price go down if legal troubles and low income does not do it.

2.      Economic Situation – No Big Change But Things Are Moving in the Right Direction – We are still trying to come to grips with the 2d quarter GDP growth of 4% after the dismal showing in the 1^st quarter of (-2.1%).  No doubt we will see a downward revision of the 2d Qtr. number but that is to be expected.  We are seeing improvement in many key leading and lagging indicators that indicate that the slow recovery is gaining momentum.  Unemployment is holding at 6.2%, capacity utilization rate is approaching historical levels and office space utilization is improving in key urban markets.  Not everything is coming up roses as we are still observing employment participation rates moving in the opposite direction as we would expect in a recovery.  We feel part of this movement is a two decade plus improvement in production efficiency through technology and an increased focus on lean operations in all industries.  Also an area of concern is the weak level of wage growth and the high level of long-term unemployed population in the country.  If the economy continues on this course and inflation remains within the FED’s target area (2%), the FED will stay on the sidelines after they stop the bond-buy-back program in October.  I keep saying it:  Do Not Fight the FED!

3.      Agriculture – As If A Continuing Draught Was Not Enough; Putin Decides on a Hunger Strike For Russia –   The simmering situation in Eastern Ukraine took on another look last week as Vladimir Putin decided to strike back at the coalition against Russia’s actions in the eastern half of the Ukraine.  He announced late last week that he was banning for one year all imports from the U.S., The European Union and several other players for their part in placing sanctions on Russian exports and imports.  While this will cause a significant price drop in many agricultural commodity categories, especially in the EU, who does this really hurt?  Russia cannot produce enough food for the population as it is (imports on average 40% of all food categories).  This is one of the reasons that the eastern half of Ukraine sis important to Russia as it is a significant source of agricultural products for export to Russia and other countries (It is important to remember that during the Soviet era Ukraine provided greater than 40% of the agricultural production for the Soviet Union – Putin remembers).  At the beginning of this week Putin may be pulling back from the brink of invading Ukraine but as the Ukrainian Army makes headway in reasserting control will Putin stay on the sidelines?  Not a bet I am willing to take.

4.      HealthCare in America – Law of Unintended Consequences – Every action has an equal and opposite action (Newton’s Third Law of Motion) or as I like to paraphrase it there is always an unintended consequence to an action taken by an individual or in this case the Federal Government.  As time marches by we see different turns in the unfolding of the Affordable Care Act implementation.  The latest installment (too numerous to list) involves unexpected profits.  Yes, profits (and costs to insurers) that were unforeseen.  Namely, hospitals and other providers have seen a dramatic spike in requests for service across the board in terms of demographics and services needed.  Increased surgeries (elective and emergent), the fulfillment of delayed care as previously uninsured / underinsured seek treatment as well as other care (maternity and geriatric).  Who are the beneficiaries?  Hospitals, urgent care providers and local physicians are bearing the “brunt” of the increased activity and reaping gains.  Who is footing the bill?  Insurance accompanies participating in the healthcare exchanges and the U.S. Government (you and me).  I am not complaining, as a renovation in our health care system was and is still needed, but the real unintended consequence will be higher premium rates in 2015 and beyond as the cost structure has to be balanced.  So, will the Affordable Care Act actually produce affordable healthcare?  Capitalism will win out and the heavy hand of the government will intervene.  Hence the law of unintended consequences.

 “It is the highest impertinence and presumption, therefore, in kings and ministers to pretend to watch over the economy of private people, and to restrain their expense. They are themselves, always, and without any exception, the greatest spendthrifts in the society.”  Adam Smith

Have a good week and watch for children as school starts this week everywhere.

Steve