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he economic reports on Monday were far less important compared to the jobs and wages data released by the U.S. Department of Labor, but we are getting a sense of January’s U.S. services and non-manufacturing economy. IHS Market released its services sector reading, and the Institute for Supply Management (ISM) released its non-manufacturing reading. It should also be considered that these are the non-manufacturing readings because the United States is a services and non-manufacturing economy.
The PMI Services Index for January, released by IHS Markit, was shown as a final Services Business Activity Index of 53.3 on a seasonally adjusted basis in January. The consensus estimate from Bloomberg was 53.3, and the report was lower than the 53.7 reading in December. The data were collected from January 12 to January 26.
IHS Markit noted that the upturn in output softened but remains in solid territory despite being the slowest growth since April of 2017. New business actually expanded at the fastest pace since September of 2017, and order backlogs increased at the strongest rate since March 2015.
IHS Markit also identified some jobs and price pressure. Their view is that job creation remained solid as firms increase their workforce numbers in response to greater activity requirements. January also indicated a further rise in input costs faced by service providers to the fastest since last September. IHS signaled that a number of survey respondents linked the latest increase to higher raw material costs, especially fuel costs, and the average prices charged also increased further in January and the pace of inflation quickened. The final seasonally adjusted IHS Markit U.S. Composite PMI Output Index fell to 53.8 in January, after having been at 54.1 in December.
ISM Non-Manufacturing was 59.9 for January. The December reading was 55.9, and the Bloomberg consensus estimate was 56.2. The Non-Manufacturing Business Activity Index rose two points to 59.8%, reflecting growth for the 102nd consecutive month. The New Orders Index jumped by 8.2 points to 62.7%.
There were gains in jobs and employment in the ISM report as well. The Employment Index jumped 5.3 points in January to 61.6%. The Prices Index increased by two points to 61.9% in January, indicating that prices increased in January for the 23rd consecutive month.
According to the ISM report, 15 non-manufacturing industries reported growth in January after two consecutive months of pullback. Three industries reported contraction in January: Information; Other Services; and Professional, Scientific & Technical Services. The majority of respondents’ comments were positive about business conditions and the economy, and they also indicated that recent tax changes are bringing a positive impact on their businesses.
Prior to the mixed reports here, both reports already had been cooling off lately on the headline data. While the reports were mixed and in different directions, both readings remained handily above the breakeven line of 50 to indicate that growth was still there
PROBLEMS WITH THE FED
The Federal Reserve took a step to curb the growth of Wells Fargo & Co. (NYSE: WFC) in the face of a number of abuses by the bank. It is still too early to say to what extent the move eventually will affect the bank’s bottom line or stock price.
The Fed announced:
Responding to recent and widespread consumer abuses and other compliance breakdowns by Wells Fargo, the Federal Reserve Board on Friday announced that it would restrict the growth of the firm until it sufficiently improves its governance and controls. Concurrently with the Board’s action, Wells Fargo will replace three current board members by April and a fourth board member by the end of the year.
In addition to the growth restriction, the Board’s consent cease and desist order with Wells Fargo requires the firm to improve its governance and risk management processes, including strengthening the effectiveness of oversight by its board of directors. Until the firm makes sufficient improvements, it will be restricted from growing any larger than its total asset size as of the end of 2017. The Board required each current director to sign the cease and desist order.
The pressure from a government agency to replace the board of a public company is highly unusual. The government has not taken similar actions against banks since the financial meltdown.
The Fed’s announcement added:
In recent years, Wells Fargo pursued a business strategy that prioritized its overall growth without ensuring appropriate management of all key risks. The firm did not have an effective firm-wide risk management framework in place that covered all key risks. This prevented the proper escalation of serious compliance breakdowns to the board of directors.
The Board’s action will restrict Wells Fargo’s growth until its governance and risk management sufficiently improves but will not require the firm to cease current activities, including accepting customer deposits or making consumer loans.
The Fed also sent letters to each current Wells Fargo board member confirming that the firm’s board of directors, during the period of compliance breakdowns, did not meet supervisory expectations. Letters were also sent to former Chairman and Chief Executive Officer John Stumpf and past lead independent director Stephen Sanger stating that their performance in those roles, in particular, did not meet the Federal Reserve’s expectations.
LATE ENGINE DELIVERY
FEBRUARY NEWSLETTER 2
If General Electric Co. (NYSE: GE) has a bright spot as its stock price continues to decline, it is that the Aviation segment has been providing solid revenues and profits while the company’s Power segment struggles. Not a good time for a glitch in the Aviation group.
Aviation Week & Space Technology reported Friday that GE’s GE9X jet engine that will power Boeing Co.’s (NYSE: BA) new 777X passenger jet has discovered a “minor design issue” in the new engine and some maintenance-related problems with the company’s CF6 engines that power the company’s 747-400 flying testbed.
GE has delayed the first flight of the GE9X engine, but the company said the delay does not affect the schedule for the engine’s certification or it first flight, currently targeted for February of next year.
GE said it is working with Boeing to “protect the schedule.” GE had hoped for a first flight by the end of this year.
According to the Aviation Week report, the lever arms that actuate rows of variable stator vanes (VSV) need to be changed. The report goes on:
Although no further details of the specific problem with the VSV arms have emerged, they are believed to be associated with the discovery of exceedance loads on part of the design. As this is an external mechanism on the outside of the [high-pressure compressor] case, it means GE is faced with developing a mechanical fix rather than a far more serious—and complex—problem concerning flows inside the engine.
The problem was found during test runs of the second GE9X engine, while the fourth engine is the one mounted on the flying testbed. The testbed engine was scheduled to meet an official Federal Aviation Administration test later this year that runs the engine at “triple red-line conditions (maximum fan speed, maximum core speed and maximum exhaust gas temperature) to evaluate the engine at its operational limits.”
This photo shows the GE9X mounted on the 747-400 flying test bed.
Source: General Electric Co.
GE is currently building three-more of the engines, bringing the total to eight. Two engines are undergoing testing at other GE facilities.GE stock trade down about 1% early Monday morning to $15.47, after posting a new 52-week low of $15.44. The stock’s 52-week high is $30.59, and the consensus 12-month price target is $19.23.24/7 Wall St.
While the stock market was punished on Friday and could be in for more selling this week, oil held its ground for the most part, with West Texas Intermediate crude still trading above the $65 a barrel level. For worried investors, it may make sense to jettison stocks that have big gains and start to look at a sector like energy, which probably still has solid potential for the rest of 2018.
In a new and very extensive research report, Deutsche Bank initiates coverage of U.S. exploration and production stocks. Of the 17 companies the firm started coverage on, 11 are rated Buy and six are rated Hold, and many are in the Permian Basin. While the analysts are positive on the sector, they temper that by remaining cautious on the overall macro outlook, as oil has put in a stellar run. The report noted this:
We note that despite being in one of the most valuable parts of U.S. shale, these stocks are trading at a discount to long-term average levels. In part this reflects the recent investor debate on whether shale can create value and return cash flow to shareholders. Based on our estimates and our analysis that supports our macro outlook, we believe our coverage offers >25% return and should generate free cash flow in 2019 and beyond at our long-term WTI price of $57 a barrel.
We screened the 11 stocks rated Buy for the firm’s three top picks and also found two additional companies that have outstanding potential.
This top Permian Basin play for more aggressive accounts is also a top pick at Deutsche Bank. Diamondback Energy Inc. (NASDAQ: FANG) is an independent oil and natural gas company headquartered in Midland, Texas, and focused on the acquisition, development, exploration and exploitation of unconventional, onshore oil and natural gas reserves in the Permian Basin.
Diamondback’s activities are primarily focused on the horizontal exploitation of multiple intervals within the Wolfcamp, Spraberry, Clearfork and Cline formations.
Wall Street analysts have noted in the past the company’s top-tier asset base, solid accretive additions and financial discipline, which they think allows for not only continued solid cash flow, but could put the company in play as a takeover target. Diamondback continues to drill some of the most economical wells in the United States as efficiencies improve, costs decrease and activity remains in the better regions.
The Deutsche Bank price target on the stock is $162, and the Wall Street consensus target is $145.55. The shares closed Friday at $122.46, down 4.18% on the day.
This is a smaller capitalization stock for aggressive investors to consider, as well as another of the top picks at Deutsche Bank. Parsley Energy Inc. (NYSE: PE) is an oil and gas producer with 227,000 net acres in the Permian Basin. The majority of acreage sits on the Midland side of the basin, but the company also holds a small acreage position in the Delaware Basin.
The company had 222 million barrels of oil equivalent of proved reserves at the end of 2016, of which 61% was oil. Through strategic acquisitions and acreage swaps, it has grown its acreage position since its initial public offering and has over 7,900 horizontal locations across multiple prospective zones.
Parsley is a catalyst rich and a Permian Basin pure play. The company has some of the strongest wells in the basin, generating returns that are among the best in the industry. Parsley is also rapidly de-risking its drilling inventory and is well-positioned to continue to beat its strong growth projections.
The $38 Deutsche Bank price target is in line with the consensus price target of $38.70. The stock closed trading Friday down 2.65% to $23.13.
TOP ENERGY PLAYS