Wednesday, April 28, 2010

Morning Note...

Futures are ~60bps higher this morning as perhaps the U.S. benefits from a “flight to quality” stemming from weakness overnight in Asia and weakness this morning in Europe.  Additionally, we’re likely – perhaps even more so given yesterday’s sell-off – to see continued accommodative monetary policy from the Fed as it releases its FOMC statement at 2:15pm today.  Overseas, Greece short-term (2-yr) bond yields surged as high as 24% and its CDS widened to record levels, but markets seem to have calmed as the EU & IMF are expected to broaden support of Greece well ahead of its highly-anticipated May 19th debt roll.  Toward that end, Germany’s Angela Merkel is due to speak at 10:45am EST today.  Also, in a move reminiscent of some of the worst times in American markets, Greece today banned short-selling through June 28th

Greece’s securities regulator banned short selling on the Athens stock exchange for two months from today after shares slumped yesterday and Standard & Poor’s Ratings Services downgraded the nation’s credit rating to junk. “The Capital Markets Commission, taking into account the extraordinary conditions prevailing on the Greek market, decided a ban on short selling on the Athens exchange,” the Athens- based Hellenic Capital Market Commission wrote in an e-mailed statement today. The ban is effective today through June 28, it said.  (BBERG)

Also worth noting – for what it’s worth – that Italy cancelled a bond auction earlier today.  In earnings news, Broadcom (BRCM; +3%) beat by 11c and guided Q2 higher…Flextronics (FLEX; -5.5%) beat by 1c but missed on revenues…Corning (GLW; +2.5%) beat by 10c and beat on revenues…Conexant (CNXT; -4%) missed by 1c…RF Micro Devices (RFMD; +3%) beat by 5c and beat on revenues…

Regarding Goldman…wow, that was some theatre yesterday.  While most cynics – including myself – see the entire thing as a political charade to garner public support for either financial reform or to generate “tough on Wall Street and their excesses” stance ahead of mid-term elections, someone quoted in Bloomberg news made a great point about the public’s view of all this, calling it a “Rorschach blotter test” for Main Street.   Essentially, you will see what you want to see:  do you have more contempt for incompetent politicians, who failed to regulate properly pre-crisis and who cry “wolf!” in hindsight driven by a politically-motivated self-preservation instinct?  Or do you despise the smarmy, “smarter-than-anyone-else-in-the-room,” power-suited Goldman cultists?  For my part, I was simply amazed at where the leverage seemed to lie during the testimony – the Goldman guys showed absolutely no fear nor intimidation at the hands of our legislative leaders.  In front of Congress (and really, how many people have ever testified before Congress?), these guys calmly stalled or walked the Senators through complicated structures with feigned patience or even interrupted Senators at times.  It was really something to see.  My takeaway?  I am not sure it plays well with Main Street, but it was clear to me that the alpha-dogs in the room were the Goldman suits.  Doesn’t mean they were right, or will be viewed as behaving ethically, but it was apparent these guys had a bit of Colonel Jessep’s (minus the breakdown and the screaming) “above the law” incredulity to their swagger.

Regarding the bigger picture, and how sovereign debt concerns might also affect the U.S., I found this note from Sprott Asset Management very well-written:

To believe that the US sets the benchmark for sovereign debt credit ratings is preposterous. While we have written ad nauseam about the excessive debt issuance by the United States, we found a recent update written by United States Government Accountability Office (GAO) to be particularly instructive. The update noted the US's budget deficit equivalent to 9.9% of GDP in 2009 - the largest 10 since 1945 - and stated that without significant policy changes the US government would soon face an "unsustainable growth in debt".

This was not news to us. It goes on to state, however, that using reasonable assumptions, "roughly 93 cents of every dollar of federal revenue will be spent on the major entitlement programs and net interest costs by 2020." This is news! In less than ten years, using reasonable assumptions, there will essentially be no money left to run the US government - 93% of all tax revenues the US government collects will go to pay social security, Medicare, Medicaid and the interest costs on their national debt. This implies no money left over for defense, homeland security, welfare, unemployment benefits, education or anything else we associate with the normal business of government. And the US government is rated AAA!?

The historian Niall Ferguson recently wrote that, "US government debt is a safe haven the way Pearl Harbor was a safe haven in 1941." It's hard not to agree given the foregoing statements by the GAO.

For the Fed-watchers (note today’s 2:15pm statement release), BTIG’s Mike O’Rourke expects a 50bps tightening of the discount rate to be announced:

The Exit Strategy.

The warm up for the exit strategy has been the Fed’s “normalization” policy during Q1 of this year.  This consisted of the wind down, or scheduling the wind down of the remaining emergency programs, and restoring the Discount Rate to a spread above the Fed Funds rate.  Currently, only 50 basis points of that traditional 100 basis point spread has been restored.  We expect the FOMC will raise the Discount Rate the additional 50 basis points at tomorrow’s meeting, restoring the spread. 

The Exit Strategy has been outlined by Chairman Bernanke on several occasions, the most recent of which was Congressional testimony a month ago.  During that testimony, the Chairman invoked the E&E language in combination with the qualifiers but then followed with “In due course, however, as the expansion matures, the Federal Reserve will need to begin to tighten monetary conditions to prevent the development of inflationary pressures.”

The big question has always been which will occur first: the shrinking the Fed’s balance sheet, thus reducing  the QE liquidity  (in the form of Bank Reserves) in the system, or tightening by raising the Interest Rate on Excess Reserves in combination with the Fed Funds target rate.  The Chairman has repeatedly discussed temporarily draining liquidity using reverse-repos and term deposits (CDs for banks) as measures to drain liquidity from the system by tying up those excess reserves.  Since both measures are temporary, when the agreements mature, the Fed can roll them or if weakness materialized in the system, return the liquidity to the system.  If all goes well, the FOMC than can focus on permanently draining liquidity.  

Finally, given words like “Greek contagion” and “crisis” (which I think has now overtaken “Katrina” as the most printed word of the last ten years) splashed across worldwide headlines, it’s always worth checking into recent news regarding gold.  I found this piece from CSFB particularly interesting:

On the wires from the World Gold Council: Central Bank sales have only sold 7.2 tonnes of gold within the CBGA3 agreement as of September 2009.

We have long held the view that Central Bank sales will decline going forward.  We restate our view with regard to the main drivers of the supply-and-demand equation in 2010:

“We believe that the 2010 gold market will likely be dominated by the demand side of the equation. We believe that the possible muted and/or decline in year-on-year investment demand for ETFs will play a pre-eminent role as a swing factor in our supply-and-demand balance in 2010. Jewellery, industrial and dental demand will likely strengthen marginally year on year. The secondary supply of scrap will depend on the gold price but will probably remain above 50% of mine supply. Central banks will likely become net purchasers while de-hedging will reduce significantly as the major players in this arena accelerated their de-hedging activities in 2009.
On the supply side, our analysis of global mine production indicates that the current year-on-year decline in global mine production will likely be halted until 2013-2014, mainly as a result of the large number of projects that are due to be commissioned over the next five years. We expect that global production, the fourth production cycle since 1900, will be in decline from around 2013-2014 as global exploration discovery is unlikely to be sufficient to replace production.

Our supply-and-demand equation indicates that before speculative investment is taken into account there was an oversupply of around 500 tonnes in 2009 and a large oversupply of around 650 tonnes is looming in 2010. Muted investment demand which results in a large supply-and-demand surplus together with a change in the economic environment and market sentiment point to a downward correction in the gold price from the highs reached at the end of 2009. A downward correction in the gold price will also likely trigger a sell down of speculative positions, which in turn, will likely catalyse the downward pressure on the price.

We believe that the gold price is currently being bolstered by the Greek sovereign risk crisis and seasonal high factors. In the long term, we believe that the gold price will likely resume its upward trend".

Finally, if you missed the PBS show Nova last night, you missed a great documentary on your mind and its wiring relative to issues of money and competition, featuring Robert Shiller, a slew of University of Chicago “rationalist” economists, Nobel Prize winner Vernon Smith, and Jeremy Grantham.  Highly recommended and very relevant.  Check it out on demand if you can…  here’s the link:

FIS beats by 1c.  BEN earnings were 2c light but beat on revenues.  BCAP ups BBG, XEC, MMM, NTY.  BCAP cuts FST.  CSFB ups SPP.  CSFB cuts F.  GSCO ups WPI.  GSCO cuts FORM.  JEFF ups TLAB.  MSCO ups UPS.  RBCM ups CSCO, BRCD, CIEN.  BARD ups AME, FPO.  OPCO defends OLN, cuts BWLD.  UBSS cuts DELL.  AMAG misses by 30c.  RHI cut at BARD and tgt lowered.  SMCI reports in-line.  PNRA reports in-line.  OC beats by 27c.  PMTC beats by 1c.  ISSI beats by 5c.  CCUR misses by 17c. 

Asia lower overnight.  Europe lower but improving.  USD -35bps.  Gold +20bps.  Oil +45bps.

S&P 500 PreMarket 8:30am (last/% change prior close/volume): 
ROBERT HALF INTL         28.50    -9.24%  29650
LINCOLN NATL CRP         32.58    +6.30% 300
TYCO ELECTRONICS       31.00    +6.16% 4700
MANITOWOC CO            14.25    -5.82%  5625
AMERICAN CAPITAL        6.20      +4.73% 12200
TELLABS INC                  9.02      +4.52% 31400
ROCKWELL AUTOMAT     63.50    +3.64% 4990
CINTAS CORP                28.44    +3.46% 797
UNISYS CORP                31.87    +3.44% 800
THERMO FISHER            55.50    +3.39% 7700
GOODYEAR TIRE            14.50    +3.2 %  11425
MASCO CORP                16.12    +3.2 %  14852
AMERICAN INTERNA       38.50    +3.02% 211364
BROADCOM CORP-A       35.80    +2.81% 46498
JONES APPAREL             23.30    +2.73% 700
OFFICE DEPOT INC         7.25      +2.69% 43268
NORTHROP GRUMMAN    68.96    +2.65% 100
HESS CORP                   65.00    +2.6 %  2950
MEMC ELEC MATER        15.58    +2.5 %  200
CIENA CORP                  18.00    +2.45% 21990
US STEEL CORP             57.78    +2.03% 59621

Today’s Trivia:  What U.S. airline carries the most passengers? 
Yesterday's Answer:  Entomology is the scientific study of insects and etymology is the study of the history of words. 

Best Quotes:  “Good Morning - Anyone else find it interesting that the Oversight committee yesterday kept referencing the book "Going short"?   I doubt that they read that massive binder they dropped in front of the three guys from Goldman, but I'm sure they all saw the "Blindside" and thought Sandra Bullock was great.   EU says that debt restructuring "Not an option" for Greece.   This comes after yesterdays downgrade to Junk where the S&P stated that holders of Greek debt could lose 265 billion, and recover only 30 to 50%.  Really got the market rolling.  The market has bounced this morning, following a reversal in Euro markets. FOMC at 2:15 eastern time.  According to our records, yesterday reflected the second largest one-day increase in new short positions in SPZs since Feb 2009.  The SPX put/call ratio jumped to 1.97 from 1.73, mostly driven by customer demand for protection from the sell off and the desire to lock in profits.   The markets appear to be at a reflection point.   The easy money has been made, and we are now going to see the rubber meet the road.    Folks will have to get back to picking stocks smartly, look for sector rotations.   1200 level of resistance.  Have a good day.”  --BofAMLCO trader note 

“Global stocks are off meaningfully, China's doing the best (down roughly .50%), while several European indices are off over 2%.  SPX futures are marginally lower, but well off the worst levels after the EU said "restructuring Greek debt is not an option, their needs will be met on time" in the last hour.  Also Greece  has banned short selling thru June 28th.

Yesterday's sell off was the second worst of the year, and 3rd worst in the last 6 months as measured by intraday peak to trough.  The move lower is being viewed as a referendum on Greece being a European issue, not just a Greek issue, meaning most now believe sovereign issues with Spain, Portugal, etc are a function of "when", not "if".  It's worth putting May 19th down in your calendar, as that's when Greece must roll 8.5B euro's worth of debt.

Yesterday's volume was the 3rd highest since going back to September, which is a bit surprising given many were glued to CNBC for 3 hours.  That being said, our financial team notes ETF volume was 48% higher than its' 5 day average, and 43% of yesterday's total volume.  That, combined with the Russell not underperforming like most would expect in a de-risking tape likely means investors were selling what was easiest to raise cash (ETF's).

The VIX was up over 30% yesterday, making it the biggest one day jump in 18 months (although clearly this move was off a much lower base).  But when equity traders are fixated on the VIX and CDS, it reminds of scarier times.

So other than earnings, there's really only two things worth watching today.  1.  The European equity close 11:30 ET  and 2.  The Fed statement.  There are zero expectations for a rate hike or wording change (extremely low rates for an extended period), but look for them to "upgrade" the economy as a precursor to changing wording in the future.”

--RBC trader note

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