Friday, May 7, 2010

Morning Note...

Keeping it short and sweet, apologies, but there are plenty of moving parts to watch this morning… Futures up ~50bps as markets digest yesterday’s unprecedented market slide (and some trade cancellations out of the NASDAQ), U.K. elections leading to a “hung Parliament,” German ratification (at least in the lower house) of the Greek bailout, riots in Greece, and a blowout jobs number.  Let’s start with jobs… The Unemployment Rate came in at 9.9% versus the 9.7% estimate.  The Official Change in Nonfarm Payrolls blew away the estimate, coming in at +290k versus +190k expected.  Average hourly earnings and average weekly hours were unchanged.  Interesting to note that futures were +1% just ahead of the positive jobs data and have sold off to +50bps after.  Sell the news, perhaps?  Or was the jobs “whisper number” more like +400k?

Regarding Greece, what may have started this week's debacle was the ECB's Sunday night statement saying this was a "Greek specific, one off" issue vs. a broader EU credit issue.  Clearly the market felt like the ECB didn't "get it".  To that extent, the ECB may have finally woken up, as news wires report that the ECB is holding a conf. call with 47 European banks.  In other news, G7 finance ministers will discuss Greek situation today during a morning conference call.  Both Bloomberg and Reuters are reporting that Japanese Finance Minister Kan has said that the ministers are unlikely to call for forex intervention, but does not speculate further about the call.  Also, German March Industrial Production was better-than-expected, and the Bank of Japan announced last night that it would pump 2 trillion yen (~$21.8B) into the financial system to help stabilize markets. The emergency measure represents the bank's first same-day repurchase operations since December when credit concerns at Dubai World sparked a global flight out of higher-yielding assets. The injection was the largest since December 2008, the last time the BOJ lowered its target interest rate.  Note that GS shareholder meeting is today.  Will there be a settlement with the SEC, or won’t there?  Regarding the U.K., here’s the Bloomberg story:

Pound Plunges as U.K. Election Fails to Produce Clear Winner 2010-05-07 10:21:42.637 GMT
May 7 (Bloomberg) -- The pound sank the most since 2008 against the euro and bonds tumbled as the U.K. election failed to produce an outright winner, fueling concern that measures to tame the budget deficit will be delayed. The currency fell to a 13-month low against the dollar and gilts dropped after David Cameron’s Conservatives fell more than 30 seats short of winning a majority in Parliament. Losses on 10-year gilts pushed the yield up by the most since October. Business Secretary Peter Mandelson said his Labour Party government should have a “first go” trying to remain in power, while Cameron said Labour had lost its “mandate to govern.” “People are increasingly taking fright as to the unfolding political backdrop,” said Jeremy Stretch, a senior currency strategist at Rabobank International in London. “Gilt yields have rocketed. That’s not a particularly ringing vote of confidence, and sterling is reacting accordingly as well.” The pound plunged 2.5 percent against the euro, the biggest slump since December 2008 based on closing prices, to 87.42 pence as of 11:08 a.m. in London. It fell 1.4 percent to $1.4629, after plunging to lowest level since April 2009.  The currency pared its decline after Liberal Democrat leader Nick Clegg said the Conservatives, who have pledged to cut the deficit more quickly than the other parties, deserve the first chance at forming a government. Clegg’s party is Britain’s third-largest and may hold the balance of power. The difference in yield, or spread, between 10-year gilts and equivalent-maturity German bonds widened to 119 basis points, the most since August 1998, according to Bloomberg generic data.

Sitting on the front lines yesterday, the feel was this… the -2% market fade to -4% was relatively orderly and – given our 80% rally off the March 2009 lows – was really no great surprise given the images on TV of Greek riots and the “wall of worry” facing equity markets.  But that move from -4% to down more than 8% was lightning fast, and – to be honest – scared the hell out of people, myself included.  That was not normal action – not in a “fair and orderly” marketplace.  Unfortunately we don’t know the answers to yesterday’s key question after the close:  was it real?  Was it an error?  Was it computer driven?  Are algo and high frequency traders to blame?  I am not going to speculate at this time simply because there are more experienced and more intelligent people than me worth reading who will pour through the data and hopefully give us all answers.  But I can tell you this – there is no way, given that move yesterday, that you come into today with more confidence in the market mechanics and infrastructure than yesterday.  The take-away, at some level, has to be mistrust of markets, politicians, et. al.  Right?  (As mentioned above, it is worth noting, by the way, that the NASDAQ said it will cancel trades of 286 securities that fell or rose more than 60% from 2:40pm yesterday.)  I dunno…for my part, it makes me think about the unclear and unstable times we live in, and takes me back to tangible assets and precious metals, to be honest.  Doesn’t that simply have to be a portion of everyone’s portfolio when you see the “clear and transparent” U.S. markets tick down 9.8% in a day, real or not??  (See more on this in the quote section below.) By the way, gotta love CNBC, trotting out Nouriel Roubini at the first sign of market panic.  Yesterday they had him on the phone in real time and today he’s a guest panelist. 

Asia lower overnight.  Europe down 1%.  USD -15bps.  Oil -50bps.  Gold +35bps. 

S&P 500 PreMarket 8:30am (last/% change prior close/volume): 
RADIOSHACK CORP        18.73    -5.59%  2500
COGNIZANT TECH-A       46.95    -3.69%  6160
AUTODESK INC              31.63    +3.5 %  1200
DIRECTV-A                    36.11    +3.35% 400
GEN GROWTH PROP       16.35    +3.22% 831136
MGIC INVT CORP            8.99      +2.98% 22000
CONAGRA FOODS           24.50    +2.9 %  600
FIFTH THIRD BANC         13.99    +2.79% 19392
OFFICE DEPOT INC         6.00      +2.74% 4075
COMERICA INC               40.35    -2.61%  14550
EXPEDIA INC                  23.66    +2.6 %  300
UNITEDHEALTH GRP       29.96    +2.46% 100
FORD MOTOR CO           12.07    +2.46% 4300881
DYNEGY INC-A                1.28      +2.40% 100
JDS UNIPHASE               11.20    +2.38% 147886
AMERICAN INTERNA       37.62    +2.37% 366806
EATON CORP                 69.57    -2.34%  160
LEXMARK INTL-A            35.38    -2.18%  200
CAPITAL ONE FINA         43.98    +2.11% 1750
ALTERA CORP                24.45    +2.09% 322
CVS CAREMARK COR      35.95    +2.01% 450

Today’s Trivia:  By the time you are 75 years old, how many years will you have spent sleeping? 
Yesterday's Answer:  Sir Galahad was known for virtue and purity. 

Best Quotes:  BCAP trader commentary –

“With the S&P 500 trading down 3.24% yesterday is shouldn't surprise anyone that futures are currently up 65 bps.  That was clearly an enormous move and it will be really tempting for a number of investors to look at their screens and try and figure out what companies are "on sale."

As things quieted down after the close last night and we took a look back at our flow the themes became even more apparent.  As we mentioned yesterday, we did NOT see a lot of mutual fund selling until AFTER 3pm (believe it or not).  Moreover, we saw very little short selling.  However, what we did see was DRAMATIC risk reduction from the hedge fund community in major size.  In fact, at one point late in the afternoon a custom basket we made of popular shorts almost went unchanged on the day.

Given the fact that there still seems to be no clear understanding of "exactly" what happened between 2:30pm and 3:00pm, I think from a psychological perspective it will be really tough for investors to be aggressively seeking risk into the weekend irrespective of the result from the employment number at 8:30am.  I think the vast majority of money managers will not feel the need to "be a hero" and will be quite comfortable waiting to make larger bets until things make a bit more sense.  Keep in mind the P&L swings everyone had to stomach yesterday (good and bad).  THATS WHY I THINK A DRAMATIC RALLY TODAY IS A REALLY UNLIKELY SCENARIO.  With that being said, I will be bidding for retailers today 1) because I want to supply liquidity and I think my clients will be more likely to sell than buy today and 2) because I think that will work with a little patience (don't worry, Im good at hedging!)

To address exactly what happened yesterday everyone is going to have a different theory.  My from standpoint my best guess is that it was a "system issue" but it wasn't anyones fault.  Electronic markets (and this is not my specialty) only have so much bandwidth.  We see it all the time in individual stocks.  You try and execute an order in a stock with news out (or an LBO rumor etc) when everyone is trying to do the same thing and the system essentially pauses and then the stock "gaps" in the direction everyone was going.  My analogy would almost be like a damn breaking in a river.  Im thinking there was such big risk reduction going on at the same time that basically happened in the S&P 500 which is a scary thought for the marketplace.  However, I guarantee you that quantative type traders are quite frustrated they missed incredible opportunities yesterday in stocks like PG and ACN that had mind boggling moves.  I would expect that community of investors to be layering the S&P 500 companies with bids way below the market in alot of names "just in case".  Unfortunately, the stat arb community has had performance problems (from what I understand) and they are typically supply a lot of the liquidity on a daily basis for the marketplace. 

Did anyone see the VIX yesterday?  The CBOE S&P Volatility Index is was up 31.6% and is now up over 50% in the last 3 trading days.  If investors are looking to protect their portfolio's they are going to have to pay up for it in a major way.  For example, the 10 day historical volatility of the MVRX index is literally double that of the 100 day historical volatility (and current implied vol is WAY higher than that). 

Other asset classes will continue to trade with really high correlation to equities as the Euro is rallying back sharply versus the USD and chatter of a emergency G7 meeting is helping sovereign credit move in from the wides.”

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