Monday, April 19, 2010

Morning Note...

Futures are ~50bps lower this morning on continued fall-out from the SEC’s action against Goldman Sachs, weakness in China (-5% overnight), USD strength/EUR weakness, and the widening of European sovereign CDS, including Greece (15bps wider) and Portugal (8bps wider).  Overseas, today’s IMF/EU meeting in Athens (to discuss the specifics of the Greek bailout) has been cancelled due to the aviation difficulties in Europe, highlighting the travel difficulties in the euro-region.  Note that a Greek roadshow ahead of a USD-denominated bond offering later this week is due to kick-off.  At the moment, Greek bonds are trading lower.  In Asia, China was down overnight on news that the Chinese government will continue its efforts to stem the torrid growth of the economy, announcing more measures aimed at tempering speculation in the real estate sector.  In earnings news, C reported better-than-expected earnings and is trading flatish pre-market, while Eli Lilly (LLY) is lower after beating by 8c but missing on revenues and guiding futures estimates lower.  Also, HAL reported 28c vs. the 42c expectation, and is trading lower.

Regarding the SEC/GS situation, there are three things to consider beyond Goldman’s immediate risk from this particular SEC complaint.  First, there’s the possibility that other counterparties might pile onto to the Goldman complaint.  The real threat here are the sovereigns, as Germany and the UK have already noted that they may go after Goldman themselves.  Second, there’s the possibility that this “test-case” opens up other major banks (Deutsche Bank, Credit Suisse, UBS, JPM, BofAMerrill Lynch, et. al.) to risk of lawsuit, complaint, etc.  (And recall, there is a major political spin here ahead of midterm elections…this administration would revel in a “tough on Wall Street” stance designed purely to placate the Main Street voters.)  And third, given the “positive response” from Main Street to a major Wall Street firm facing embarrassment and chastisement (at least anecdotally – people outside the business seem to be saying “it’s about time”), the chances of Congress pushing through substantial financial regulation right now has to have increased…maybe even exponentially. 

Looking ahead, Goldman Sachs earnings tomorrow will obviously be very closely watched.  We are heading right into the heart of earnings season, as 1/3rd of the Dow Jones and 20% of the S&P500 are due to report over the next two weeks.  (See quote section below for more details on catalysts ahead)  It’s worth noting the interesting “parallel to Q4 earnings” as noted by JPM morning research:

Some investors are starting to notice some eerie similarities to the Q4 reporting period back in Jan: recall back then the market peaked on the Thurs of the first week of earnings season.  Back then, as now, #s came in great but were met w/selling pressure (GE and BAC, both of which exceeded forecasts, were for sale Fri even before the SEC headlines).  Also recall back in mid-Jan Washington was a headwind (as it was this week w/the SEC charges) as it was then that we first started to hear about the White House plan to tax a portion of bank liabilities.  The Bottom Line for this tape: stocks have had a big run and are very extended.  Earnings so far for this season have been great, but the reporting period has barely begun and the bar has been set very high.  The new headline risk w/the SEC charges will weigh on the market’s best acting group, the financials.  Technically, near term trend stays up above 1190, and 1175; the 20day on sp500 MA is 1183. 

Stepping back to assess the “big picture,” I thought this quote from former Sun MicroSystems CEO and Chairman Scott McNealy tucked into a small corner of this weekend’s Wall Street Journal was particularly enlightening.  In some ways, this says it all – it’s his response to the question “what would it take to get you off the sidelines and back running a company again:”

It must be private, never go public. There must be no upside investors other than me and the employees... I hope we can pull it off under those conditions because I would be thrilled to lead another group of smart engineers, without all the crap that goes into running a company today. I just don't want Congress telling me how much I should be paid or firing me.  I want to pretend I am back in the 1980s again.

In that spirit, here’s an editorial from Barron’s this weekend – longer than I normally post, but worth it:

What's Unsustainable About Debt? By THOMAS G. DONLAN
When will we own up to our fiscal responsibility?

WITH ALL POSSIBLE RESPECT TO THE MEMORY of Herbert Stein, who was expert in economics, politics and wit, the great man's most famous bit of wisdom is turning out wrong. Stein said, "If something can't go on forever, it will stop."

Contemporary American economists and politicians, however, are lined up against the end of the era of free money. Their interventions to prop up the sagging economy may never stop.

Stein's Law seems to be as futile a prescription as the similar maxim on free trade from the 18th-century physiocrats led by François Quesnay: "Laissez-faire, laissez-passer." A fair translation for customs agents and border guards would be, "Don't just do something, stand there."

Powerful French interests ignored the advice, and the Industrial Revolution passed by France for many decades. Powerful American interests ignore Stein's Law, even as they cite it. Rather than allow stock-market bubbles and housing bubbles and monetary bubbles to stop, bringing painful readjustment, they have rescued each bubble with another one.

They know better, as demonstrated by their constant use of the word unsustainable, applied to such things as high U.S. borrowing, low U.S. interest rates, the trade imbalance, sagging tax revenues, soaring spending on the elderly, military spending, oil imports, government salaries and pensions, health-care spending, the rising stock market, Saturday mail delivery, the nation's triple-A credit rating and the value of the dollar, to say nothing of Western civilization.

Honored in the Breach

Federal Reserve Chairman Ben Bernanke cited Stein's Law in a speech a couple of weeks ago and went on to say more about why he won't follow it:

"To avoid large and unsustainable budget deficits, the nation will ultimately have to choose among higher taxes, modifications to entitlement programs such as Social Security and Medicare, less spending on everything else from education to defense, or some combination of the above. These choices are difficult, and it always seems easier to put them off -- until the day they cannot be put off any more."

Truer words were never spoken, nor less acted upon by the speaker. Bernanke is the man who has done more to put off the day of reckoning than anyone else in the world, and he is providing liquidity by the supertanker load.

He assured the world that he intends to carry on:

"Today, the economy continues to operate well below its potential, which implies that a sharp near-term reduction in our fiscal deficit is probably neither practical nor advisable."

Instead, Bernanke thinks the U.S. should charm the world into extending more credit, by offering what he called "a credible plan for meeting our long-run fiscal challenges."

A plan -- not action. As Robert M. Bleiberg, who thundered from this page from 1955 to 1991, said many times, "One needn't be a flim-flam man to be a central banker, but it helps."

As if to demonstrate, Bernanke added: "Indeed, a credible plan that demonstrated a commitment to achieving long-run fiscal sustainability could lead to lower interest rates and more rapid growth in the near term."

A free translation: If we can con the world into thinking we are serious about curbing our deficits and reducing our debts in the future, the world's investors and savers will lend us even more money at lower prices right now. Then we will have more economic growth and we will curb our deficits without pain.

It's humbug. Economic growth comes from savings and investment, not credit-card consumption.

A New Record?

We have a lot of credit-card consumption from a federal deficit that is officially forecast to hit $1.6 trillion this year.

The Council of Economic Advisers last week issued its quarterly report on a small piece of the spending binge, last year's economic-stimulus act, which the council proudly described as "the boldest countercyclical fiscal expansion in American history."

The council reported that $202 billion has been spent and $160 billion delivered as tax cuts, stimulating the economy by $362 billion since last April, and that between 2.2 million and 2.8 million jobs have been "saved or created" as a result. These must be the good-paying jobs so much beloved by politicians and union activists, since the spending works out to more than $72,000 per job per full year. Weekly earnings in the private sector averaged $763 in January 2010 -- an annual rate of $39,676.

Similarly, the council's tally of additions to gross domestic product from the stimulus came out to about $250 billion, not $362 billion and not the $540 billion that might have been expected using a Keynesian multiplier of 1.5 times government spending.

Missing Money

Where has the rest of the money gone? That is a question that a macroeconomic model cannot answer. We may hypothesize that it went for saving, for debt repayment or for spending that did not create or save jobs. For examples in the last category, extended unemployment compensation, subsidies for unemployed persons' health insurance, and first-time home-buyer tax credits probably did not create jobs, except very indirectly.

Or, thinking dangerously, perhaps the psychological effects of the spending program were negative, so that economic activity and job-creation were lower than they would have been in the absence of a stimulus.

These are interpretations that would be hazardous to the Obama administration's health, so we emphasize that they did not come from the Council of Economic Advisers. But we conclude that macroeconomics, at least when it is in the service of politicians, is no less a flim-flam game than central banking.

We are confident that Stein's Law hasn't been repealed. It says we will have to stop this nonsense some day, and probably in the most unpleasant way possible. As hard as it may be to believe, we cannot do unsustainable things forever.

Toyota agrees to pay record $16M fine.  PIPR cuts CCC.  JPM cuts JNS.  LLY beats by 8c.  C beats by 15c.  CITI cuts PT.  NY Post reports RSH buy-out talks heat up. WEFA ups S.  STM to raise dividend.

Asia lower overnight.  Europe down 50bps on average.  USD +50bps.  Oil -275bps.  Gold -35bps. 

S&P 500 PreMarket 8:30am (last/% change prior close/volume): 
JANUS CAPITAL GR         14.15    -6.23%  661
FREDDIE MAC                1.43      -5.3 %  237124
MATTEL INC                  24.88    +4.36% 1500
FANNIE MAE                  1.19      -4.03%  252829
AKAMAI TECH                32.02    -3.61%  1651
MGIC INVT CORP            12.15    -3.57%  1450
NOBLE CORP                  39.21    -2.9 %  1110
ELI LILLY & CO               35.49    -2.87%  60235
SANDISK CORP              36.85    -2.36%  50755
COGNIZANT TECH-A       51.53    -2.35%  600
KING PHARMACEUT        11.30    -2.33%  300
MYLAN INC                    21.25    -2.30%  2500
MEMC ELEC MATER        15.90    -2.15%  2849
CIENA CORP                  17.27    -2.1 %  1270
ALLSTATE CORP            33.15    -2.07%  2886

Today’s Trivia:  What devastating domestic event took place fifteen (hard to believe…) years ago today? 
Yesterday's Answer:  In simplest terms, animals inject venom, but they can be poisonous to ingest.  Thus a snake is generally venomous in the sense that it injects its toxins when it bites.  But a blowfish is poisonous in the sense that eating it will kill you…  
Best Quotes:  “Some of the bigger sectors to focus on: 1) financials (we get C on Mon, followed by GS Tues and MS/WFC on Wed; there will be a slew of regional banks reporting earnings all week and CS will become the first European bank to post #s on Thurs); 2) tech – in hardware, people will watch IBM Mon night, AAPL Tues night, and EMC Wed night.  A slew of semi firms will post #s (inc. SNDK and QCOM).  The rest of the major internets are due to report (YHOO Tues, EBAY Wed, and AMZN on Thurs); 3) industrials – we will hear from ETN on Tues, UTX on Wed, DHR on Thurs, and HON on Fri; 4) health care – LLY kicks off the week Mon morning, to be followed by BIIB/UNH/JNJ on Tues, STJ/GENZ on Wed, and OSIP on Thurs); 5) telecoms (T on Wed and VZ on Thurs); 6) consumer (KO on Tues and PEP on Thurs; SBUX and MCD on Wed); 7) airlines (DAL on Mon, AMR on Wed, LUV/CAL on Thurs).  Away from earnings, a couple other major events in focus: 1) the Senate could start action on the financial regulatory overhaul legislation (Majority Leader Reid had said he would like to start action by the end of the week); 2) a delegation from the IMF, EU, and ECB will visit Athens on Mon to discuss the activation of the rescue package for Greece.  It’s due to be a relatively quiet week coming up on the economic calendar.  In the US we’ll get Durable Goods order, PPI and a few Housing datapoints (New & Existing Home Sales, MBA Mortgage Approvals and House Price Index). In Europe a few datapoints will hit for the Eurozone inc. ZEW, Industrial New Order and Consumer Confidence. From Central Banks, the Bank of Canada will hold a Meeting w/an Interest Rate Decision and the BoE will release the minutes from its recent meeting.  There will be a bunch of Fed speakers, inc. two appearances by Bernanke (he will give the opening remarks at a Chicago Summit at 9amET on Mon Apr 19 and will be appearing before a House hearing discussing Lehman on Tues Apr 20).”  --JPM “The Week Ahead”

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