Yves here. On the one hand, I’m leery of using single indicators to assess complex phenomena, like using blood pressure or cholesterol levels as the sole basis for judging health. On the other hand, as long as one understands their limits, key data points or developments can shed light on bigger issues.
As Wolf Richter argues, Cisco has been a harbinger of market turns, and he describes an earnings call which struck him as eerily similar to another inflection point, that of fall 2007. The real turn had been in the bond market in the May-July period, with Treasuries signaling a major technical break and weaker credits throwing in the towel in short order, then followed by the Bear Stearns hedge fund debacle confirming that something was seriously amiss in subprime-land. But the stock market typically takes 4-5 months to listen to what the bond market is saying (stock investors do have a point that these bond market downdrafts are sometimes false positives).
Now we have had a few days of investors getting rattled, although we’ve been here before with the Fed’s off again, on again taper talk. If the spate of cooler-than-a-few-weeks-ago news spooks the Fed a tad and it pushed the taper back, we may see another hurrah from investors. But the recovery in housing was to a significant degree based on low interest rates (just because PE guys weren’t using mortgages does not mean they weren’t using warehouse lines, and their planned REIT exits also benefitted from investors stretching for yield). Taper-talk has cooled that off a ton, and the combo plate of consumer deleveraging and the impact of the sequester is putting brakes on the economy. The Fed really can’t do much about this dynamic, having committed itself to ending QE at some point, but it could conceivably talk stocks back up a time or two more before the market recalibrates for a slowdown.
By Wolf Richter, a San Francisco based executive, entrepreneur, start up specialist, and author, with extensive international work experience. Cross posted from Testosterone Pit.
Cisco CEO John Chambers gushed with positive vibes during the earnings call on Wednesday: “unbelievably strong results,” is what he called the fourth quarter. He talked about record revenues. “We have strong momentum,” he said, “very solid execution,” that allowed the company to close “a very successful fiscal year.” But he lowered guidance, lamented the debacles in China and Japan, announced “workforce rebalancing” to axe 4,000 people, mostly middle managers – that’s 5% of the company’s global workforce – and estimated write offs of “up to $550 million.” Then he uttered the word “lumpy.”
He’d used that word before – to describe growth in the US during the earnings call on November 7, 2007, weeks after the S&P 500 and the DOW had set all-time highs, when the market was still jubilant and oblivious to the hissing from the housing bubble and the stench from the banks.
That November, too, Mr. Chambers brimmed with optimistic energy. It was a phenomenal quarter. Revenues jumped 17%. He talked about the factors that were “driving our current growth to these record levels,” and why they’d be able to maintain that growth. “Over the last 17 quarters, our growth in terms of orders at Cisco has averaged in the mid-teens,” he said. “This quarter continues that momentum. So, “with the appropriate caveats, our long-term guidance should be in the 12% to 17% range year over year.” Growth numbers from corporate nirvana. Then the appropriate caveats. “Probably as a surprise to no one,” he said, they were experiencing “some softness,” and growth in the US would be “very lumpy.” The Financial Crisis was next.
This time around, he was just as chipper. “Q4 was a record quarter on many fronts with record revenues of $12.4 billion and record non-GAAP operating income, record non-GAAP net income….” You get the idea. And then the first warning: “…despite the challenging macroeconomic backdrop.”
He is a unique gauge into the world economy: one, because of Cisco’s global reach, he can take the heartbeat of corporate and government demand around the world; and two, because he knows how to issue a warning.
As in November 2007, the warning was sandwiched between bouts of enthusiasm and talk of opportunity…. How Cisco was “leading many of the technology transitions” and tidbits like “revenue growth of over 30% in our wireless business.” He raved about the data-center cloud business whose revenue grew “over 40% year-over-year in the most recent quarter, and we’re not stopping” [not until Edward Snowden’s revelations appalled Cisco’s foreign customers; my take…. NSA Pricked The “Cloud” Bubble For US Tech Companies].
Product orders grew only 4% year over year. But in the US, there was “continued momentum,” with enterprise orders up 9%, commercial up 12%, and the public sector up 4%. Or at least a “solid minimum,” as he called it a little later. “This recovery is more mixed and inconsistent than the others I’ve seen,” he said.
Alas, in China and Japan, the second and third largest economies in the world, and in some of Cisco’s top emerging markets, including Brazil, the lumps appeared. In China, “we saw the same weakness many of our peers experienced,” he said, but the company was continuing “to work through the challenges,” and orders declined “only 6%.” And in Japan, where Abenomics has become the religion of salvation? “They’re down in the teens,” he said. Maybe down 15%?
The order debacle in China and Japan was woven around India, where orders jumped 19% – he wasn’t “doing back flips on any of the major countries” in Asia “other than India,” he explained. Mexico was up in the “double digits” and Europe 6%. But Brazil and Russia were “approximately flat.” So, on a macro basis, it would be a “mixed environment.”
It was that kind of dance. And so, he expected revenue growth to be “in the range of 3% to 5% on a year-over-year basis” – down from prior expectations of 5% to 7%, and down from the 12% to 17% range he’d offered as “long-term guidance” during the earnings call in November 2007, a month before all heck broke lose.
He saw an economic recovery that was “slower and more inconsistent” and global GDP that was “continuing to sit down for calendar year 2013.” And laying off 5% of the workforce? That was “just good business management,” given the “inconsistent data even in our own operations,” which was “more lumpy than I’d like to see.”
But he had a consolation. It wasn’t Cisco; it was the economy: “our peers in the high-tech industry, many of them are going flat or negative,” he said.
In 2007, it was the US where demand had been “very lumpy.” This time around, the US – which was “kind of the good news” – was “one of the strongest engines right now in the world.” But then he lamented GDP growth in the US, which “has been projected decelerating from what we would have thought just one or two quarters ago,” he said. And that’s where the warning hit: China and Japan were having deep problems, the US, the strongest engine in the world economy, was losing what little steam it had, and everything was connected, even more so than in 2007. So this could get tough.