Market Insider Trader Talk with Bob Pisani

The retail business is shrinking dramatically. While Amazon and Google and Wal-Mart duke it out for retail supremacy on the internet, vast swaths of the retail space have been reduced to micro-cap status, with tiny market valuations that make it impossible to borrow money and fund economic expansion.

Amazon and Wal-Mart are the two giants of the retail space, with market capitalizations of $464 billion and $241 billion, respectively. But 60 percent of the roughly 97 stocks in the Retail ETF (XRT) now have market capitalizations below $3 billion, which qualifies them for small-cap status.

Small-Cap Retailers
(Market Cap)

American Eagle Outfitters: $1.9 billion
Dillard's: $1.6 billion
J.C. Penney: $1.1 billion
Chico's: $991 million
Barnes & Noble: $541 million
Express: $430 million

J.C. Penney has a roughly $1 billion market cap. Some have even descended to micro-cap status, now valued at $300 million or less:

Micro-Cap Retailers
(Market Cap)

Cato: $347 million
Francesca's: $283 million
Fred's: $233 million
Hibberts: $231 million

Here's a delicious irony: Amazon's old rival, Barnes & Noble, now has a market cap of $540 million. Amazon has a market cap approaching $500 billion.

That means Amazon has a market value roughly 1,000 times its old rival.

And those are the ones that have survived.

Ken Perkins at Retail Metrics noted that at least two dozen retailers have gone bankrupt in the past two years, including The Limited, Wet Seal, RadioShack, Payless and Gymboree. Many that are left are ghosts, trading under $10 per share.

"Amazon has essentially leapfrogged the entire industry and came up with a lot of other innovative ideas ahead of everyone else, particularly Alexa," Perkins told me.

Will any of this ever change?

Wednesday morning, The New Yorker published a long article, "Who Owns the Internet?" — where writer Elizabeth Kolbert argued, "It is troubling that Facebook, Google parent Alphabet and Amazon have managed to grab for themselves such a large share of online revenue while relying on content created by others. Quite possibly, it is also anti-competitive."

Indeed, there has been a growing chorus arguing that Amazon and Google are simply too large, from USC professor Jonathan Taplin, who authored the book, "Move Fast and Break Things: How Facebook, Google, and Amazon Cornered Culture and Undermined Democracy," to NYU Stern School of Business professor Scott Galloway — a founder of advisory firm L2 — who has received considerable attention for a lecture he gave in July, in which he argued that Amazon, in particular, should be broken up.

Cooper Smith, who advises retail clients with Galloway's firm, L2, thinks we may be years away from a serious discussion on breaking up Amazon, but he advises retailers to not sit around and wait for that to happen.

He thinks Wednesday's announcement that Wal-Mart is partnering to sell some of its products on Google Home is significant for struggling retail survivors: "A lot of luxury brands like LVMH, which has refused to touch Amazon with a 10-foot pole, are talking about banding together to create a new luxury e-commerce space. Amazon hasn't been able to disrupt that market yet. Google and Facebook are the platforms with the reach, those are the alternative platforms that would help brands and retailers reach consumers without having to partner with Amazon."

Chris Horvers, retail analyst at JPMorgan Chase, was on CNBC Wednesday morning with a similar sentiment: "Wal-Mart's move to enable voice ordering and linking the history is really important. The idea is if we can get the Home Depot's and the Costco's to enable that and the Target's to enable that same feature, you start to develop an alternative platform to Amazon. ... We need to create an alternative site where the rest of retail can go and create critical mass from a customer's perspective."

That's likely one reason many retailers are trading up Wednesday.

James Maguire Sr., a titan of the Wall Street trading community, has died at age 86.

He served Wall Street for over 60 years beginning in 1949 (the Dow Industrials was 181 when he started), working on the New York and American stock exchanges.

Maguire ran the specialist firm Henderson Brothers for many years, which he sold to LaBranche around the run of the century, and was later a specialist for Barclays. He traded the stock of The Washington Post, but perhaps most famously he was the specialist for Berkshire Hathaway and was a good friend of Warren Buffett.

His kindness was legendary, which I experienced personally. When I came on the floor 20 years ago, he allowed me to stand next to him for hours to watch him trade Berkshire. He introduced me to Buffett at a time when Buffett rarely spoke to the press.

Here is what Buffett wrote to me Monday on Maguire's passing:

"As a very young kid, I was fascinated by the NYSE, an infatuation intensified by my visit there in 1940 as a 9-year-old. I read everything available about the operation of the Exchange, and even wrote a paper about the specialist system when an undergrad at Wharton.

"So when Dick Grasso came calling in the mid-1980s to talk about listing Berkshire, I was more than receptive. There were technical problems, involving a change in the 'round lot' rules, but, as you would expect, Dick found a solution. He then asked me who I would like as a specialist and after checking around it was obvious that the choice should be Jimmy.

"We immediately became the best of friends and I labeled him the 'World's Greatest Specialist.' He also was the world's greatest guy.

"Jimmy and [and wife] Diane would come out to the Berkshire annual meeting and we would have a blast. He would give me elaborate lectures — in front of Diane — warning me that she should be banned from our jewelry store. (In truth, he loved to buy her something special.) Diane likes to make customized belts and Jimmy proudly gave me a beautiful creation of hers featuring Berkshire products.

"Jimmy was an original and his passing leaves a big hole in the heart of everyone who knew him. I'll be singing 'Wait till the Sun Shines, Nellie' on New Year's Eve in his memory."

Maguire was widely respected for his wit, wisdom and leadership. He was renowned for his professorial demeanor, often wielding a baton to point to important stock information on the screen above him.

"We used to call him 'The Chief,' because he always knew the answer to everything," UBS' Art Cashin, a friend of his for many decades, told me Monday morning.

Trading was mixed early on, but at roughly 11:18 a.m. ET word came from Washington news site Axios that the White House was prepared to fire Bannon, the chief strategist. The S&P, which was down 5 points, promptly rallied 7 points in a matter of minutes and another 5 points over the next hour. When The New York Times confirmed that Bannon was leaving at about 12:40 p.m. ET, the market moved up another 5 points.

In an interview with the American Prospect earlier in the week, Bannon had made a big point about stressing his battles with President Donald Trump's chief economic advisor, Gary Cohn, and Treasury Secretary Steven Mnuchin, seemingly painting himself as a populist arrayed against the "globalists."

But the markets clearly preferred ex-Goldman executive Cohn for the stability he provides. How much? Stocks dropped on Thursday on erroneous reports that Cohn might leave the White House, and have rallied on confirmation that his arch nemesis Bannon is gone.

Floor traders, who are overwhelmingly Republican, cheered here at the New York Stock Exchange when it was reported that Bannon was out. (Though, some later said part of that cheering was due to the departure of a colleague.)

They want a concerted effort to raise the debt ceiling, pass a budget resolution and then move rapidly to tax cuts. Friday's gains is the market's way of saying investors believe tax cuts are still alive.

The S&P started moving down after 1 p.m. ET, shortly after Breitbart's Senior Editor Joel Pollack tweeted #WAR, implying Bannon and/or Breitbart may launch attacks against Cohn and Mnuchin.

The markets ending anywhere in the green would be a big victory for bulls and would reinforce the strategy that it is still safe to buy the dips.

Are the markets in trouble?

Not yet, but there's some cracks. We've seen something in the last two weeks we haven't seen in some time: a succession of selloffs.

Last week, we saw a familiar phenomenon: a brief 1 percent dip in the market that turned around within a couple days. But on Thursday we had another bout of selling that is starting to do some technical damage. The small-cap Russell 2000 and the Dow Jones transportation index have both broken through their 200-day moving averages, a major technical indicator.

Almost half of all NYSE stocks are below their 200-day moving average.

Several events have come together to cause this:

1. Trump leadership doubts. Who knew there was a Gary Cohn premium in the market? The markets drifted lower Thursday morning on a rumor that Cohn, the director of the National Economic Council and President Trump's top economic advisor, might resign. The White House later said he was staying. More importantly, it's getting harder to pull together a tax reform bill with the president's own party in revolt. Later in the day on Thursday, the market took another dip lower when Sen. Bob Corker (R-TN) told reporters that the president had yet to show the "stability" or "competence" necessary to be a successful leader. There is still a Trump premium in the markets. Traders are still very focused on tax cuts and believe that Congress and the White House have to first negotiate an increase in the debt ceiling and a new budget before turning to tax reform. Increasing doubts on the ability to execute the plan are bound to ruffle stocks.
2. The stock market is not cheap, and leadership looks tired. There's no doubt that stocks are expensive: about 18 times forward (12-month) earnings expectations, above the historic norm of roughly 16. The big market leadership stocks like the FANG names (Facebook, Amazon, Netflix, and Google parent Alphabet) have had huge gains this year but are showing signs of exhaustion: Amazon, for example, is 11 percent off its recent high but is still up 28 percent for the year.
3. Earnings may be topping. Earnings have been strong this year, but they may starting to top for this cycle. After reporting gains of 15.3 percent and 12.0 percent in the first and second quarter, respectively, the S&P 500 is now expected to post a gain of only 6.7 percent for the third quarter, with fourth quarter expectations rebounding to a gain of 12.2 percent. Part of the problem: big expected gains in earnings from the energy group are not materializing because of low oil prices. Retail stocks are disappointing as the companies struggle with shrinking margins.
4. The Federal Reserve, which has been such a help for years, is now mostly perceived to be neutral for stocks. As we saw from the minutes of its most recent meeting released on Wednesday, the Fed is in a real quandary. It can't get too hawkish because inflation is below its target and will likely continue to be. But a benign Fed is largely priced into stocks. The risks to stocks is on the downside, in the event the Fed misplays its hand and raises rates too aggressively.

The next few days will be an important test. All this year, people have been set to buy the dips —and there haven't been many of them. That hasn't happened today. People are getting burned after buying last week's dip, so they are not getting the same reward they used to get. It's interesting that the S&P took a dip to a new low at the end of the day when it dropped below the low from last week (2,437).

Makes sense: once you get burned a few times, it's tougher psychologically to buy the dip.

Look, we've had a huge run in the market. Now is the right time to get a pullback. With buyers on strike due to seasonal low volume, issues with Presidential leadership, and sheer exhaustion of market leaders after a strong year, it makes sense for stocks to pull back some. For the moment, the risks outweigh the benefits.

What's a pullback? In today's context, 5 percent would be notable. We haven't had that in a long time — you have to go back to Brexit in June, 2016.

A 5 percent drop from the recent closing high of 2,480 would bring us to 2,356, which would bring us back to the levels last seen in May.

Seems like a long time ago, doesn't it?

After a stellar earnings report, with a surprising 1.3 percent gain in same store sales, Target shares are up only 3 percent today, after dropping 23 percent for the year.

Huh? Target not only beat expectations, it raised full-year numbers by nearly 10 percent. But the stock is up a measly 3 percent. That tells you that the investing public is not that impressed.

A number of retailers have also reported a sequential improvement in business, including Home Depot, Kohl's, JC Penney, and Nordstrom.

But there's no significant rally in retail. Target trades at $56; it started the year around $73.

Yesterday there were dozens of retailer stocks trading at 52-week lows, including JC Penney, Buckle, Bed Bath & Beyond, Mattel, L Brands, Under Armour, Penske Automotive, Hibbert Sports, Cato, Express, Francesca's Holdings, DSW, and even retail REITS like Tanger Factory Outlets.

Absent some sudden mass rush to the stores, it's unlikely we will see a notable rally in retail until the fall, if at all. The reason: retailers are facing "revenue cliffs" and margin compression this year and it's not clear to investors where the bottom is.

You can see this with Target, which after reporting $73.7 billion in revenue in 2016 is expected to report revenue of $69.4 billion this year, a decline of nearly 6 percent.

It's the same story with most other retailers, but particularly department stores, all of which are looking at mid-single digit declines in revenue.

It's been another ugly day for "Big Energy," with 52-week lows again for everything across the board, including big oil like Exxon Mobil; oil service names like Schlumberger and Halliburton; exploration and production names like Hess, Apache, Anadarko and Noble Energy; and drillers like Ensco, Transocean, Rowan and Nabors.

What's going on? Another epic miss on oil prices is causing traders to push down their earnings expectations for big oil, and they're not done yet. And it's the price of oil that determines the price and the valuation of oil companies.

Go back to January, when analysts were confidently predicting oil would be close to $60 by the third quarter. Instead, it has been mired in the $45 to $50 trading range, and dipped as low as $42 in the middle of June. And it's happening again, with oil now at a 3-week low.

Oil and oil stock prices are very closely correlated. Oil company earnings were supposed to rebound big-time this year and be the major contributor to earnings for the S&P 500, but with oil well below expectations, analysts have been aggressively taking down third quarter earnings estimates.

At the beginning of April, earnings for the oil group were expected to be up a whopping 222 percent for the period ending Sept. 30th, but now they're expected to be up only a little more than half that, at 132 percent.

So now you have two big problems with energy stocks. First, despite the price drops there's still not a compelling valuation for oil companies because no one knows if oil is going to go up or down from here.

The second problem is just as serious: how do you get anyone interested in the energy story, even with stocks at new lows?

Energy stocks are now only about 6 percent of the weighting in the S&P 500. But the S&P is at all-time highs. If I am a big investor, if I'm a big hedge fund, or a large actively-traded mutual fund at Fidelity or Vanguard, why do I care about energy when I have tech (22 percent of the S&P) and financials (15 percent) moving?

Why do I care, even with prices depressed, when a lot of people are now saying shale will permanently depress oil prices, as it has with natural gas?

This is the question that the oil bulls have to answer.