15th August 2017

Rathbones weekly review: Fighting the last war

Bombastic rhetoric from President Donald Trump and North Korean dictator Kim Jong-un punctured the recent calm of equity markets last week.

The S&P 500 had drifted along for 14 days without rising or falling more than 0.3% each day, according to a Deutsche Bank strategist. Such a long period of stasis for the US benchmark has never been recorded before. It is odd that markets were becalmed as nuclear tensions between North Korea and America were steadily rising. It took a fair few tweets and a North Korean threat to nuke Guam to noticeably shift the US share market on Thursday. The S&P 500 finished the week down 1.4% in dollar terms and the gold price rose 2.3%.

Meanwhile, Disney fired the first shot in a wholly different 21^st century war: by 2019 it will no longer show its films on streaming giant Netflix’s service. Disney, whose video business has been heavily wedded to a cable business model, plans to roll out its own internet streaming service sometime in 2019. It plans to create a similar platform for its ESPN sports network too, something that will have wide-ranging implications for the US telco industry. Investors have been concerned about the rising number of ESPN subscribers Disney is losing each month as customers cut the cord on cable TV contracts that are looking expensive compared with online rivals.

These cable networks are increasingly reviled by American customers, with many of them beating airlines to the bottom of consumer satisfaction surveys. Let that sink in: They fare worse than companies that have been videoed dragging bloodied customers out of paid-for seats. Bad service and high bills are the main gripes, along with aggressive selling tactics and potentially misleading teaser contracts. But if you want to watch sports, you have to have ESPN, and to have ESPN you have to buy cable. How quickly will disgruntled households drop cable if sport isn’t there to keep them hooked?

Ironically, Disney’s online strategy will still be dependent on the cable companies, which own most of the US internet infrastructure. The telcos’ triple and quad-play strategies – bundling up internet, TV, mobiles and fixed-line phones – led several large US companies to buy up the whole spectrum of communications in a bid to boost already large margins through economies of scale and cross-selling. Unfortunately for these companies, the average revenue from each telecom customer has fallen since the triple-play strategy was put in place. The US measure is about 10% lower than a decade ago, according to PricewaterhouseCoopers. Conditions are ripe for cable managers to make pricey and ill-advised acquisitions – several large deals have already been inked and more are rumoured.

After decades of unassailable dominance, cable conglomerates are finally meeting sustained competition: increased unbundling of channels and content by Amazon, Hulu, Netflix, Fox and others. Disney’s move may come to be seen as an inflection point for an outdated technology.

Source: FE Analytics, data sterling total return to 11 August; *Japan exchange closed on Friday.

Keeping the society affluent

On Wednesday the UK releases its average weekly earnings and unemployment rate for June. Wage growth has slowed considerably since late last year. From a high of 2.8% in the three months to 30 November, pay rose just 1.8% in the three months to May and economists predict this will be flat in the next announcement. Muted pay growth has been easily outpaced by inflation too. UK CPI was released on Tuesday – forecasts are for a 2.7% rise, a slight acceleration from June’s 2.6% rate.

This squeeze on people’s wallets is concerning for retailers. They are already fighting a bitter price war against online-only rivals offering the added convenience of home delivery. Traditional stores are contorting themselves to offer similar services alongside their physical businesses. Some are pulling it off much better than others, but the strain is showing on the margins of even the most prepared. To this ground campaign, add a shift in the way consumers think. Rather than spend money on things, many are taking advantage of much cheaper air travel and the pop-up businesses benefiting from our more mobile world to enjoy ‘experiences’.

Still, warm weather remains a sure-fire way to lure Brits out of their lairs. Retail sales spiked in June, with retail bosses lauding the decent days that drove people to update their summer wardrobes. Perhaps the more typical Albion summer temperatures have lured more tourists from the Continent – particularly as they have been sweltering under a heatwave. Who knows? Weather and consumer behaviour are as fickle as each other. Economists expect the pace of retail spending to low significantly in July, at just 1.4% higher than the same time last year. The figures come out on Thursday.

US retailers are finding things particularly difficult right now. Archetypal department store Macy’s dropped another 4% after last week’s results showed falling revenue. And that was light compared with Kohl’s 9% fall and Dillard’s 15% plummet. Outside main street retailing, US

companies have done much better. With 91% of US companies having reported, 69% beat sales estimates and a hefty 73% surpassed earnings forecasts, according to FactSet. Consumer confidence is difficult to gauge right now, with conflicting signals being recorded by the usually most reliable surveys. The University of Michigan Sentiment measure is next on the release schedule, due on Friday. Before then, the US Federal Reserve will on Wednesday reveal the minutes from last month’s meeting.

On Thursday, it’s the European Central Bank’s turn to publish the discussion of its latest meeting.

Bonds

UK 10-Year yield @ 1.06%

US 10-Year yield @ 2.19%

Germany 10-Year yield @ 0.39%

Italy 10-Year yield @ 2.03%

Spain 10-Year yield @ 1.45%

Julian Chillingworth
Chief Investment Officer

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