Notable
• According to Nielsen data, July marked the first time Americans watched more content via on-demand streaming services than cable TV. Streaming services including Netflix, YouTube, and HBO Max captured 34.8 percent of total US television viewing time in July.
• Not surprisingly, top executives want work/life balance too, and they are joining the Great Resignation in large numbers due to the stress of recent years. According to an Advisory Board report, 774 US-based CEOs resigned this year—the highest number recorded in twenty years of tracked data.
• Data from the University of Nebraska’s US Drought Monitor shows that nearly 70 percent of the US is in an abnormally dry state, and roughly 40 percent is in a severe drought (or worse). Texas’s severe drought is causing cotton prices to skyrocket.
• In July, Germany’s Producer Price Index (PPI) was the highest in seventy years, increasing 37.2 percent year-over-year thanks to skyrocketing energy prices (up 105 percent since last July). Excluding energy, the country’s PPI grew by 14.6 percent. These dynamics suggest that companies operating in Germany are facing considerable profit margin pressure and that consumer prices will likely remain high for some time.
• According to Arbor Data Science, the average, inflation-adjusted price of college tuition has declined for the first time in thirty years in response to falling undergraduate enrollment.
Company Highlights
• Coloplast (CLPBY) – Like most companies, Coloplast is navigating truly remarkable inflation. The company manufactures most of its products in Hungary, where energy prices have reportedly increased by 400 percent year-to-date. Despite this inflationary headwind, Coloplast’s second quarter gross margins were 69 percent—up 1 percent from a year ago.
• Microsoft (MSFT) – Azure, Microsoft’s cloud computing service, reported 46 percent year-over-year growth in the second quarter—impressive for a company as large and established as Microsoft. Adoption of cloud services is not yet widespread; increasing use, which we believe is likely, should provide a tailwind not only to MSFT but also competitors including AMZN and GOOGL.
• Edwards (EW) – In Europe, Edwards recently received approval to market its PASCAL Precision transcatheter valve repair system for mitral and tricuspid regurgitation. The approval was widely anticipated and bodes well for Edwards as it seeks FDA approval by year-end.
• Apple (AAPL) – Over the last ten years, Apple has spent $522B to repurchase its shares, an amount which exceeds the market cap of most (494) companies in the S&P 500. With share repurchases garnering additional focus thanks to the new 1 percent tax on buybacks, the market is watching to see what prolific share repurchasers like Apple do.
• ConocoPhillips (COP) – Thanks to oil prices that are significantly above Conoco’s baseline assumptions, the company’s financial performance this year has been exceptional. Unlike many of its peers, Conoco does not hedge production, and it generates outsized returns when oil prices rise as a result. This year’s strong profits and cash flows prompted management to raise the company’s 2022 “total shareholder return” assumption by 50 percent, to $15B.
On Our Minds
In June, we discussed how the Federal Reserve (Fed) engages in restrictive monetary policies like rate hikes and quantitative tightening (QT) to tighten financial conditions. As financial conditions tighten, demand typically lessens, and economic growth slows. This is how the Fed aims to lower inflation.
By the end of the second quarter, financial conditions had been tightening at the fastest pace since the Global Financial Crisis in 2008. Minutes from the July Federal Open Market Committee (FOMC) meeting indicate the Fed was pleased with its progress to date: “Participants noted that the Committee’s credibility with regard to bringing inflation back to the 2 percent objective, together with its forceful policy actions and communications, had already contributed to a notable tightening of financial conditions that would likely help reduce inflation pressures by restraining aggregate demand.”
What a difference a few weeks makes! By the time the minutes were released three weeks after the FOMC meeting, financial conditions had already loosened dramatically and showed no signs of reversing. While many were quick to jump on the Fed for its inability to forecast and anticipate, these critics are missing the bigger point—financial conditions are now looser than when the Fed began its most recent rate hike cycle and QT program! Clearly, our current economic environment is not responding to the Fed’s efforts to reduce inflation.
So why are financial conditions looser now than they were a few months ago? A primary driver has been the equity rally that began in the middle of June. Some have attributed the rally to people anticipating a Fed pivot (i.e., pivoting towards a more accommodative monetary policy stance). But with inflation running at an annualized rate of 8.5 percent year-over-year in July, it should be clear that a Fed pivot is unlikely. If anything, easing financial conditions will push the Fed to engage in additional rate hikes; a 75-basis point rate hike in September appears feasible. If it transpires, it will mark the first time in history that the Fed has executed three consecutive 75-basis point rate hikes.