Monday, October 25, 2010

Morning Note...


Futures are ~60bps higher this morning as U.S. markets – for the moment – inversely correlate to the USD (-70bps) weakness stemming from this past weekend’s G20 summit.  In economic news, this week’s biggest release will most likely be Friday’s first look at Q3 GDP.  In corporate news, Deutsche Bank announced it would lay off 5-10% of its workforce.  The Wall Street Journal front page discusses the potential elimination of popular tax breaks, like mortgage interest tax.  Worth noting that three more banks failed over the weekend, bringing the 2010 tally to 135.  In case you missed it, there was an interesting Anti-QE Op-Ed from Nobel-winning economist (and, of course, Amherst alum) Joseph Stiglitz in the weekend Wall Street Journal – please see quote section below for the text.  Also, Goldman’s Chief Economist predicts the Fed’s asset purchases may ultimately top $2 trillion.  In M&A news, CTV is up 35% after confirming it is in talks with the Carlyle Group.  Asia mostly higher overnight.  Europe holding on to slight gains.  Oil +170bps.  Gold +140bps.  USD -70bps.  In U.S. earnings news, ~30% of Q3 earnings are complete, and ~85% have beaten estimates.  For today’s releases, here is the cheat-sheet:

Financials:
= BOH: Ex one-timers EPS of 78c, in line with consensus and 1c better than MS est. NIM came in 16bp worse than expected, fees were ahead. Credit metrics slightly better than expected.

Industrials/Materials:
++ ROP: Reported 3Q EPS of $0.87 vs. cons of $0.79; good beat even ex the tax benefit; Guidance is ok, which shld be favorable for the stock
- Scania: Q3 disappoints; Negative read for the US truck mfrs; Truck order intake was disappointing beyond the usual seasonal weakness

Consumer/Retail:
++ LO: Volumes 5.8% and MS -1.7% and the street was closer to flat – Overall very strong qtr, Newport +2.9% strong as well, street was closer to flat.
+ RSH: Sales look great at the cost of margins – Comps 6.2%, 200 bps better but GMS were 45.4% which was 200 bps worse. (SGA offset the margins)
- BYD: EPS and Ebitda light – This was expected in our eyes and the stock is trading up because the miss isn’t that bad and they also walked from the other half of the Borgata stake (MGM)

Healthcare:
+ RDY – FQ2 11 results > MS on top line, margins and EPS (EPS beat by 7%, also aided by lower tax). Net, good set of results, MS forecasts continue to be signif. > cons 

Speaking on cheat-sheets, here’s a quick run down of the anticipated earnings releases this week (note the big names – BMY/DD/UBS/AFL/BRCM Tuesday, DB/CMCSA/PG Wednesday, MET/EL/MOT/MSFT/STD/XOM/DOW Thursday, CVX Friday):

– (10/25/10): ACH, AMGN, ATHR, BYD, COG, DRIV, IDTI, LO, MAS, MIPS, PCL, RSH, SLG, SNV, SOHU, TXN, VECO, VRTX

– (10/26/10): AFL, AGCO, AGNC, AKS, ALV, AMED, AMTD, ARG, ARMH, ATI, BIIB, BMY, BRCM, BXP, CBG, CENX, CHRW, CIT, CMI, CML, CNI, COH, CX, DD, DV, EPD, EQIX, F, FE, FFIV, HL, ILMN, JCI, KCI, KMB, LXK, MCK, MEE, MHP, MT, MYL, NBR, NOV, NTGR, NVLS, PCAR, PXD, RCL, RF, RFMD, SHW, TCK, TLAB, UA, UBS, UIS, VLO, WLT, WU, X

– (10/27/10): ACE, ADP, AEM, AKAM, ALL, AMX, AVB, BBD, BEC, CAVM, CCI, CMCSA, CMCSK, COP, DB, ENTR, ESRX, EXAS, FLS, GD, GG, HERO, HES, HLX, IDCC, IP, LM, LSI, NOC, NSC, NYB, OC, ODP, OI, PG, PTR, PX, RDWR, RRC, RYL, S, SAP, SKX, SLAB, SO, SOA, SYMC, TER, TMO, TQNT, TRN, V, VALE, VMED, WHR, WLL

– (10/28/10): ABX, AIXG, AMAG, APKT, AVP, BEN, BG, BMC, BX, CELG, CEPH, CERN, CL, CLF, CME, CSTR, DAN, DECK, DOW, DUK, EGO, EK, EMN, EXPE, EZCH, FO, FSLR, GNW, GT, HOT, IMAX, IMGN, IRM, ITMN, KLAC, LFC, LINE, LLL, LPS, LVLT, MCO, MET, MFE, MJN, MOT, MSFT, MTW, MWW, MXIM, NBL, NETL, NIHD, NXY, OCR, OMX, OSK, PLD, PMI, PNK, POT, PTEN, PWER, QCOR, RGC, ROVI, RTN, SFI, SID, SNP, STD, STRA, SUN, TEN, THOR, TSM, UTHR, VCI, VPRT, VRSN, WM, WMB, XOM, ZMH 

– (10/29/10): ACI, AXL, CI, CNX, CPN, CVX, D, EIX, EL, IBN, MRK, NDAQ, NEE, PGN, SNE, TOT, WY

Regarding the G20 this past weekend, here is the JP Morgan summary:

G20: The final communiqué touched on three key points: 1) FX; 2) trade; 3) IMF reform.  On the subject of global currencies, the final language was inline w/the draft leaks made to the press in the days leading up to the event.  No single currency was singled out and a commitment was made to adopt “more market determined exchange rates” and to “refrain from competitive devaluations”.  On trade, the US-proposed 4% limit for trade surpluses/deficits was rejected (as was expected) in favor of more general language (there was a commitment made to reducing “excessive imbalances”).  One of the most significant developments at the weekend summit was the reform of the IMF, granting emerging market economies are larger voice at the institution.  The key focus point for investors was on FX and there the outcome of the weekend was inline w/expectations (some may take the weekend as a neg. for the dollar given there was no explicit language aimed at strengthening the greenback; however, Geithner did reiterate a “strong dollar” policy on the sidelines of the event while the prospect of a smaller QE2 on Nov 3 and greater GOP control of the Congress, which could come w/it spending constraints, may keep a bid under the buck in the coming week). 

Elsewhere, I thought this strategy piece from Barclay’s late Friday afternoon summed up things nicely:

Next week marks the final 5 trading days of the month following 7 up weeks in the last 8 - given the recent run up in SPX (14% from the lows) - it might be worth buying downside protection given the following:

1)  over the past 14 months, we have seen the market drop 10x in the final 5 trading days of the month (see attached - avg of 4 up months 58 bps // avg of 10 down months -157bps)

2)  The week after Oct month end is probably the most anticipated news week of the year - FOMC QE II decision, results of midterm elections and the Oct Payroll report.  Given the recent rally, there is certainly the potential for a retracement on buy the rumor / sell the fact trading or an overall disappointment on the results

3)  Market starting to feel like it has stalled - has not been able to break through with any momentum the recent highs.  AAII Bull Bear ratio currently just below 2.0 - overlaying  SPX vs. this ratio has shown that readings near or above 2.0 have been good indicators of overbought territory going back to 2007

In the “random news” category, I thought this BBERG piece was interesting:

Pickup Sales Get a Boost From Surging U.S. Agriculture Industry 2010-10-25 07:46:42.831 GMT

Oct. 25 (Bloomberg) -- U.S. pickup sales are getting a boost from rising farm incomes, giving carmakers extra momentum as the auto industry recovers from the worst sales in almost three decades.

            * Jan-Sept. pickup sales rose 14% to 1.2m, according to researcher Autodata
            * The gain outpaced the 10% increase overall industry deliveries
* Jan-Sept. Sales of Ford’s F-Series pickups rose 31% Y/y to 386,000, according to Autodata
            * Deliveries of GM’s Chevrolet Silverado increased 17% to 267,000, and those of GMC Sierra rose 14& to 90,000.
            * Sales of Chrysler’s Ram slipped 1.6% to 140,900, according to Autodata

WSJ speculates BAC and C may have credit ratings cut at Fitch.  CITI ups RRI.  CITI cuts ATHN.  BCAP positive on cruise lines – ups CCL, RCL.  FBRC cuts MSFT, HD.  JEFF cuts ATHN, ANSS.  OPCO cuts PRXL.  UBSS cuts ETR.  Barron’s negative on RNOW.  C added to GSCO conviction buy list.  ODP higher on CEO departure. 

S&P 500 PreMarket 8:30am (last/% change prior close/volume): 

Today’s Trivia: When facing forward on a ship, which was is starboard?
                                                                                                                                                                
Yesterday’s Question: The majority of genetic research centers on human beings…but what is the 2nd most studied creature in genetic research?

Yesterday's Answer:  The second-most genetically researched creature is the fruit fly.   

Best Quotes:  From the Wall Street Journal weekend edition…

Why Easier Money Won't Work

The Fed risks fueling a destructive bond market bubble, while any gains from a weaker dollar will come at the expense of those to whom we hope to export.

By JOSEPH STIGLITZ

The Federal Reserve, having done so much to create the problems in which the economy is now mired, having mistakenly thought that even after the housing bubble burst the problems were contained, and having underestimated the severity of the problem, now wants to make a contribution to preventing the economy from sinking into a Japanese-style malaise. How? As Chairman Ben Bernanke announced last week, through large-scale purchases of U.S. Treasurys—called quantitative easing, or QE.
The Fed is right to be worried.
If high unemployment continues, America faces the risk of losing human capital as the skills of the unemployed erode. It will then become increasingly difficult to bring the unemployment rate down to anywhere near the levels that prevailed in the mid- and late 1990s, and the higher unemployment rate and lower output will make the current pessimistic budget projections of the Congressional Budget Office and the Office of Management and Budget look rosy.
The problem is that, with interest rates already near zero, there is little the Fed can do to restart the economy—and doing the wrong thing can do considerable damage. In 2001, (then) record-low interest rates didn't reignite investment in plant and equipment. They did, however, replace the tech bubble with an even more dangerous housing bubble. We are now dealing with the legacy of that bubble, with excess capacity in real estate and excess leverage in households.
Today, the Fed is paying too little attention to the transmission between the interest rates paid by government and the terms and availability of credit to small and medium-sized enterprises (SMEs). Large businesses are flush with cash, and small changes in interest rates—short-term or long—will affect them little. A banker rightly asks if such a business comes asking for money, "What's wrong with it?"
But it is SMEs that are the source of job creation in most economies, including the U.S. Many of these enterprises are starved for cash. They can't borrow money at the interest rate that big banks, big firms or government can. They borrow from banks, and many of the smaller local and community banks on which they depend are in dire straits—more than 800 are on the FDIC's watch list.
Yet even if the banks were willing and able to lend, lending to SMEs is typically collateral-based, and the value of the most common form of collateral, real estate, has fallen 30% to 40%. No wonder then that credit availability is so constrained. But QE in the form of buying U.S. Treasurys is not likely to affect this much. It will have some effect in lowering mortgage rates, and lower mortgage rates will put a little more money into people's pockets. Higher real-estate prices may also allow some SMEs to borrow more. But these effects, though positive, are likely to be small—so small as to make a barely perceptible difference in America's persistent unemployment.
There is another channel through which easing will have some positive effects: Equity prices are likely to rise. But for all the reasons just given, this is unlikely to have much effect on investment. Nor will most Americans, burdened with debt and diminished retirement accounts, likely embark on much of a spending spree. Nor should they. Doing so would only delay the deleveraging that is necessary if we are to have sustainable growth going forward.
There is another downside risk: QE may not even succeed in lowering interest rates, or lowering them very much. Given the magnitude of excess capacity, there is little risk of inflation today. But if the inflation hawks come to believe that the risk of future inflation is real, then they'll believe that short-term interest rates will rise. This will mean that long-term interest rates, even now, may actually rise, in spite of the massive Fed intervention, because long-term interest rates are based on expectations of future short-term interest rates.
QE poses a third risk: The bursting of the bond market bubble that the Fed is seeking to develop—the sequel to the tech and housing bubbles—will clearly have adverse effects on the economy, as we should have learned by now.
The advocates of QE point to another channel through which it will strengthen the economy: Lower interest rates may also lead to a weaker dollar, and the weaker dollar to more exports. Competitive devaluation engineered through low interest rates has become the preferred form of beggar-thy-neighbor policies in the 21st century. But this policy only works if other countries don't respond. They will and have, through every instrument at their disposal. They too can lower interest rates. They can impose capital controls, taxes and bank regulations, and they can intervene directly in their exchange rate.
Under the gold standard, there was supposed to be an automatic adjustment mechanism, as a country with a trade surplus would see an inflow of gold and an increase in prices, leading to an automatic real appreciation of its currency. It never worked as smoothly as it was supposed to, but in the modern economy with fiat money, the adjustment processes can be short-circuited even more easily. China, for instance, has sufficient control of its banking system and economy that it can simultaneously maintain a stable exchange rate that generates a surplus and prevents inflation.
Such policies may come with a price, but the price may be less than the alternative: the bankruptcies and unemployment that would follow from disruptive currency appreciation as the U.S. lets forth a flood of liquidity. That money is supposed to reignite the American economy but instead goes around the world looking for economies that actually seem to be functioning well and wreaking havoc there.
The upside of QE is limited. The money simply won't go to where it's needed, and the wealth effects are too small. The downside is a risk of global volatility, a currency war, and a global financial market that is increasingly fragmented and distorted. If the U.S. wins the battle of competitive devaluation, it may prove to be a pyrrhic victory, as our gains come at the expense of others—including those to whom we hope to export.