Merger Mania and Microsoft


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by Deidra Krys-Rusoff

Senior Vice President

Disappointing corporate earnings forecasts outweighed a Microsoft surge and increased deal activity to end the week basically flat for the S&P 500, Dow Jones, and NASDAQ. Worldwide stock markets also turned in lackluster performances for the week. The U.S. dollar climbed to a seven-month high while the euro fell to its lowest level since March, after Draghi noted that quantitative easing is unlikely to come to an abrupt end. Bond yields were slightly lower, with the benchmark 10-year Treasury trading at 1.75 percent on Friday afternoon.

Merger Mania

Time Warner shares surged as much as 11 percent on a report that AT&T is in advanced talks to acquire the company. Time Warner’s CEO, Jeff Bewkes, has made it known that he is a willing seller if he receives a fair offer, which is expected to be in the $100-plus-per-share range. Time Warner is the beneficiary of newly booked affiliate fee agreements to distribute its Turner Networks CNN, TBS, and TNT content to Comcast, Charter, and Direct TV, which was acquired by AT&T last summer. The deal is attractive to AT&T due to its evolution from a regional phone company to a telecommunications giant in search of content ownership. We would not be surprised to hear of additional offers from Apple, Google or Amazon over the weekend, as all three have been rumored to have interest in acquiring the company. AT&T’s shares sold off about 3 percent on the news.

Qualcomm Inc. is reported to be in talks to buy NXP Semiconductors NV for $110-plus-per-share after a Qualcomm completes a review of NXP’s finances and operations. Qualcomm is targeting NXP for their automotive technology presence. The deal is expected to be announced on October 26, when NXP’s releases their quarterly earnings report. Qualcomm’s price jumped about 3 percent today, while NXP sold off about 3 percent.

British American Tobacco PLC made an unsolicited $47 billion bid for full ownership of Reynolds American today, sending shares of Reynolds up 13 percent. British American Tobacco and Reynolds have recently collaborated to share vapor technology, which is seen as a less harmful alternative to traditional cigarettes. Today’s bid seems to overcome historical reluctance for firms to acquire American companies due to legal liability and may pave the way for further consolidation within the tobacco industry. Philip Morris International, Imperial Brands and Altria are also trading up on the news.

Microsoft Shares Soar

Microsoft shares soared over 5 percent to a record high of $60.45 after announcing first quarter sales and earnings. Microsoft investments in data centers and productivity apps, resulted in stronger-than-expected demand for cloud-based software and services. Strong sales and a lower-than-expected tax rate also added to the results that positively surprised analysts.

Our Takeaways for the Week

  • Merger activity has picked up in response to the slow economic environment
  • Microsoft was a standout in a mixed earnings season


Mark Kralj Quoted in The Bulletin


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No Recession on horizon in Central Oregon, nation 

Panelists talk strengths, threats to local and national economy

by Stephen Hamway, The Bulletin 

Published Oct 21, 2016 at 12:01A

Central Oregon’s economic expansion has slowed, but that doesn’t mean another recession is around the corner, according to the panel at the annual Economic Forecast Breakfast, presented Thursday by the Bend Chamber of Commerce.

“A recovery doesn’t die of old age,” said panelist Mark Kralj, a principal member of Portland investment firm Ferguson Wellman Capital Management and one of three panelists.

The forecast, held at the Riverhouse on the Deschutes convention center, centered around potential pitfalls for Central Oregon, from sluggish national economic growth rates to Measure 97, which will appear on Oregon ballots in November.

Kralj and fellow panelist Tim Duy, professor of economics at the University of Oregon and director of the Oregon Economic Forum, described the national economy as “muddling along.” Duy added that both Central Oregon and Oregon overall are outpacing the national average, thanks in part to an increase in manufacturing and technology jobs.

“There’s no reason we should think this is going to stop anytime soon,” Duy said.

Roger Lee, panelist and executive director for Economic Development for Central Oregon, said the number of manufacturing jobs in Deschutes County rose by more than 37 percent from 2010 through 2015. Kralj cited a poll released by the Bay Area Council, a business-sponsored advocacy group in the San Francisco Bay Area, which suggested that more than one-third of that region’s residents want to leave. Bend and Oregon overall have been among the recipients of migration from the region. Additionally, Redmond Airport has seen a significant uptick in passenger arrivals and departures, an indicator of economic activity in the region.

“We’re really hitting on all cylinders as far as air service in Central Oregon,” Lee said

Because of the growth in the region, Bend has a new set of problems to worry about, including rising housing demand and increased pressure on Bend-La Pine Schools, which is now the fifth-largest school district in the state, according to Lee.

Lee identified Measure 97 and a potential bursting of the tech bubble as issues to keep an eye on going forward. If the tech bubble bursts, fewer companies will migrate to Oregon, Lee said. He added that Measure 97, which would tax gross sales for business with Oregon sales over $25 million, could result in the loss of 37,000 private sector jobs.

“I don’t think anyone would argue that we don’t need other revenue sources,” Kralj added. “But we don’t need to attack it with a sledgehammer, and, unfortunately, I think that’s what (Measure) 97 does.”

While there were concerns about another national recession earlier in the year, thanks to issues in the energy sector, Duy said that was unlikely to happen for the foreseeable future.

“There’s no rule of law that says we have to have a recession,” Duy said.

— Reporter: 541-617-7818,


Times They Are A-Changing


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by Jason Norris, CFA
Executive Vice President of Research


A Nobel Prize for Bob Dylan couldn’t buoy the markets this week. Uncertainty in China and a rocky start to earnings season resulted in a down week for stocks. While equities rallied on Friday, the S&P 500 ended the week down close to 1 percent. Pre-announcements from Honeywell, Dover and Fastenal weren’t a positive way to start the week; however, bank earnings and a positive retail sales report on Friday alleviated some concern.

As we head into the last two months of the year – which also happens to coincide with what many pundits describe as an “unprecedented” election – we are often asked where would we put money? We recently reduced our equity exposure and added to bonds, not so much as turning bullish on bonds, but buying some as insurance to the volatility. However, looking back to 1950, stocks usually perform well in these periods. The chart below from Strategas Research Partners highlights the average return of the S&P 500 during the fourth quarter in a presidential election year.


Weakness in the first part of October seems to be the norm with a little bounce back in the last 10+ weeks of the year. While this is only an average, at least history is on the side of remaining long equities.

Another weakness in the market was healthcare. While we have not and will not make a call on the election, our base case (as is with most investors) is the Democrats retain the White House, Republicans will retain the House and the Senate is a wildcard. The events a week ago, and recent polling showed increasing odds that the Democrats may take the House. With all three branches in Democratic control, regulatory risk in the healthcare space would increase. This spooked investors, resulting in a 3 percent sell-off in the space. While we are wary of the headline risks, we still believe it is too early to sell the stocks and maintain exposure. Historically, healthcare stocks earn a premium valuation (price/earnings multiple) to the broad market. The chart below shows that with the sector trading under 15x earnings and a 10 percent discount to the market, healthcare is at the “cheaper” end of its historical range.


We believe, especially now, that this is still warranted to be overweight healthcare stocks based on the underlying growth prospects. Earnings growth for the S&P 500 is roughly 1 percent for 2016 and the healthcare space offers just under 10 percent growth. With the stocks at a discount to the market, we continue to view the healthcare space positively.

Our Takeaways for the Week

  • Volatility will remain high into the end of the year; however, equities are still attractive
  • Headlines are a short-term risk to healthcare stocks, but we believe growth should trump them


The Contagion of Scary Clowns


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by Brad Houle, CFA
Executive Vice President

Mixed economic data led to weaker stock markets around the world this week. U.S. equities were down around less than 1 percent, while international benchmarks were modestly negative as well. One would expect with negative equity markets that interest rates would have dropped as well, but that was not the case with 10-year Treasury yields rising to 1.73 percent from 1.56 percent.

 The Contagion of Scary Clowns

This week we have been following the “scary clown story” with great interest although it seems to be more of hysteria than an actual threat. Allegedly, menacing people dressed as clowns are being sighted across the nation, causing an uproar in various communities. The more attention the story gets in the media, the more scary clowns will be sighted as is seems to feed on itself. Financial contagion can also feed on itself. We have been receiving questions about what is going on at Deutsche Bank and whether the situation will cause a broader contagion akin to Lehman Brothers, which helped to start the great recession in 2008. Deutsche Bank’s stock is down more than 50 percent this year and it is causing some anxiety in the European financial markets. Deutsche Bank was founded 146 years ago in 1870 with approval of the King of Prussia and has $2 trillion in assets. What has happened to this bank that has survived two world wars and the most recent financial crisis is a combination of events that has shaken the confidence of investors. Profitability for Deutsche Bank has been challenged recently due to low or negative interest rates and sluggish growth in Europe. One of the ways that banks make money is to loan out deposits and earn an interest rate spread between the money paid on deposits and the interest earned from the loan. This manifests in a metric called the net interest margin which is the aggregate profits earned by the bank from lending. With negative or zero interest rates this spread gets compressed and the earnings of the bank drop, which in turn causes the stock price to fall.

When a bank’s stock price is in a freefall it erodes confidence in the bank and can cause a run on assets in various ways. Just like the fictional bank in the movie, “It’s a Wonderful Life,” depositors can line up to withdraw their assets, causing a liquidity issue. This is not currently happening at Deutsche Bank and we do not expect it to. However, if a bank needs additional capital, a falling stock price can make it more difficult to get the necessary funds via an additional stock sale.

Adding fuel to this fire has been a proposal by the U.S. Department of Justice that Deutsche Bank pay a $14 billion fine to settle charges a surrounding mortgage-backed securities issued by the bank. The alleged wrongdoing occurred as a result of mortgage-backed securities that were issued around the time of the financial crisis and had credit quality issues. While Deutsche Bank has said they will not settle at this amount, it is strange irony that a fine from alleged wrongdoing in the financial crisis is now causing Deutsche Bank additional stress and in turn citing some to question the viability of the bank.

Ultimately, the German Government would most likely step in to save the bank if the crisis at hand deepens. While this would be wildly unpopular in Germany, the bank is indeed too big to fail and allowing it to fail would benefit no one. The upside to this crisis is that it is shining a light on one of the pitfalls of negative interest rates and the European Central Bank is starting to rethink the policy.

Our Takeaway for the Week:

  • Slow growth and low rates continues to challenge global banking profitability
  • Rates seem to be rising in the U.S. in anticipation of Fed tightening in December
  • We are continuing to monitor the situation with Deutsche Bank