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Friday Five: What Will the Fed Do Now?

Fri, 6 Feb 2015

With inflation still low, a faster rate hike is not a foregone conclusion, says Morningstar markets editor Jeremy Glaser. Plus, one step forward, one step back for Greece, and more.

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Video Transcript

Jason Stipp: I'm Jason Stipp for Morningstar. Welcome to the Friday Five, Morningstar's take on five stories in the market this week. Joining me for the Friday Five is Morningstar markets editor Jeremy Glaser. Jeremy, thanks for being here.

Jeremy Glaser: You're welcome, Jason.

Stipp: Up first this week, we got a jobs report on Friday. It was better than most expectations, and now all eyes went from the jobs report to the Fed.

Glaser: There really wasn't a lot to complain about in this jobs report. 257,000 jobs added, like you mentioned, was well above expectations. Big upward revisions to November's and December's numbers. Wage growth actually picked up a little bit, 2.2% from the previous month. The unemployment rate ticked up a little bit, but mainly because people were actually looking for jobs again--something that's a good sign for the economy.

So, a lot of positive things out of this report. And this really does put the spotlight very much on the Fed and [the question of whether] they going to raise rates. It seems like a lot of the focus is now turned to the June meeting as the one in which it seems most likely that they're going to make that first step to increase short-term rates. But I think that even though that might be the most likely outcome, investors shouldn't totally bet on that and totally count on it. Given that inflation is running well below their target [as well as] some of the other problems that are going on in the world, it's very possible that the Fed will say, "Even though we could raise rates right now and we see this improvement in employment, maybe we will wait a little bit longer to make sure the United States is not going to get caught up in some of the global problems."

So, I think trying to get the exact timing right is obviously very challenging, but it also doesn't really matter all that much for long-term investors. If it happens in June or if it happens later in 2015, the outcome over the long term will be very similar. You should be prepared for rates to rise eventually, but I think this report means it will happen a little bit sooner versus later. But it's definitely out there.

Stipp: Greece was in the headlines again. It seems like it's one step forward, one step back with this situation. So, what's the latest?

Glaser: We did get some positive news and some kind of negative news on the Greece front this week. On the positive front, I think we saw some softening of the rhetoric from the Greek finance minister. He really was going around to a lot of his counterparts through Europe, trying to talk about some of the things that they want to renegotiate. There was talk of a bridge loan maybe to buy some time for Greece to renegotiate some of these terms so they didn't have to do it in such a short period of time.

But on the negative side, his meeting with the German finance minister didn't go particularly well as far as we could tell, and that's obviously an incredibly important relationship. And the ECB said that they're not going to accept short-term Greek debt as collateral anymore, which could have an impact on Greek banks. And Greek banks did sell off pretty sharply on that news. On the ECB front, this isn't something that is going to put the Greek financial system in peril in the short term. They'll still have access to an emergency lending program from the ECB. The rates on that are a little bit higher than if they could post the Greek debt as collateral, but they'll still have access to that capital when they need it.

It does definitely send a signal from the ECB both to Greece, saying that if they do get out of this bailout program, there are going to be consequences--[the ECB isn't] just going to be a backstop no matter what. I think it also sends a signal to the rest of Europe--and Germany, in particular--that they do need to come up with a political solution to this problem. The ECB isn't just going to be someone who's going to paper over some of these problems; [Europe] needs to actually come to a solution that's going to be politically stable for years in order to get the bailout to really work. And I think the ECB was trying to send that signal as well.

Stipp: In stock news, Pfizer (PFE) announced that it's paying a pretty decent premium to acquire Hospira (HSP). What's our take on that deal?

Glaser: Damien Conover, our Pfizer analyst, thinks that it's going to be a good one for the pharmaceutical giant. They're spending $16 billion for the maker of these injectable drugs, and he thinks that this will really widen Pfizer's already wide moat--that it will give them a way to really continue to leverage their salesforce, there global reach, with even more products. This is the kind of deal that really does make sense for them. They're not paying a cheap price by any stretch of the imagination, but it's not a ridiculous valuation.

And this really is the continuation of the health-care M&A trend that's been going on throughout 2014 and now into 2015. All of these companies really see scale as being part of their advantage. Sometimes, this seems to go in cycles where the health-care companies feel they're better off being more specialized, [and then other times,] they all come together and think it's better to be bigger. And definitely, bigger is better right now. There are really no signs that this is slowing down anytime soon.

Stipp: Twitter (TWTR) announced earnings, and the stock popped after they released their results. But maybe investors want to temper their enthusiasm a bit here.

Glaser: There was a really big rise in Twitter shares on Friday, 17% at one point. And this was on the basis of strong financial results from the firm. But Rick Summer, our Twitter analyst, thinks that you should really look at that active-user growth as well. That's an important metric [for thinking] about the future of Twitter. That only grew 1.4%, sequentially. That's a slowdown from the growth rate they had seen previously. I think it really points to a key problem for Twitter, which is getting the scale that the other Internet giants, the Facebooks and Googles of the world, have to make themselves that one-stop shop for advertisers.

They're just not there. They continue to be a niche product. They seem to really be having problems moving out of that niche and into a broader market. We're skeptical, and we really aren't sure that they're going to be able to get that scale. That really is going to hold back results over time. It doesn't mean that Twitter is not a good company or that Twitter is not going to continue to get advertising dollars or continue to grow. But it's not going to get the kinds of numbers that maybe those other Internet giants do. And that really holds back our thinking on the company a bit. As the shares pop like this, they really don't look attractively priced right now.

Stipp: Finally, a rare wide-moat retailer, L Brands (LB), showed its strength this week in results.

Glaser: L Brands is one of those rare retailers that does have that wide economic moat, and they're the parent of Victoria's Secret and Bath & Body Works. This week, they really showed that they're continuing to push forward with mid-single-digit comp sales and that margins are continuing to increase. Bridget Weishaar, our analyst on the company, thinks they're going to be able to continue to do this as their strong brands and their economies of scale are going to help them continue to move these metrics forward.

It's also nice to see management instituting a lot of shareholder-friendly practices. The dividend was increased by almost 50%; there's a $2 special dividend on top of that; they're instituting a pretty big share-repurchase program. So, they are really returning this cash to shareholders where it's appropriate and they're investing in their brands where it's appropriate. This seems to be a company with a bright future. Unfortunately, right now, the shares are not attractively priced, which is the story with a lot of names in the market right now. But it's a good one to watch.

Stipp: Thanks for your insights for investors, Jeremy.

Glaser: You're welcome, Jason.

Stipp: For Morningstar, I'm Jason Stipp. Thanks for watching.

 

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