Saturday, April 11, 2009

Weekly Market Wrap Up

Equity trading has been relatively subdued this week, with little key economic data on offer, earnings season barely begun and volume light ahead of the Easter holiday weekend. Automakers moved along their restructuring plans, while banks got a shot in the arm from a positive pre-release from Wells Fargo. March same-store sales were as dismal as ever, with the normally stalwart Wal-Mart forced to cut Q1 EPS guidance. PIMCO CEO Mohamed El-Erian commented he would not be surprised if equities retested lows and government bonds are "not worth owning," while White House Econ Advisor Larry Summers said the US economy is still facing "substantial downdrafts." In the meantime, investors await earnings reports from JP Morgan, Goldman Sachs and Citigroup next week that may prove that Summers and El-Erian are pessimists or confirm their grim predictions. For the four day week, the S&P 500 rose 1.6%, the DJIA gained 0.8%, while the Nasdaq Composite, which is now up 4.8% year to date, was up 1.9%. Notably the VIX volatility index, a measure of fear in the stock market, closed Thursday at its lowest level since September 26 as risk appetite returned.

The endgame for US automakers moved closer this week. On Monday, Ford completed its debt restructuring initiatives, exchanging $9.9B in debt for cash and equity. By Friday GM had reportedly whittled down its offer for bond holders to a paltry 10-20% in equity and no cash, but has not yet managed to close a deal, magnifying the specter of bankruptcy, though GM still insists that is only one potential option.

Trading has been choppy for the tier-one banks, with analyst calls, media research, government action and finally Wells Fargo's big guidance call pushing share values around all week. On Monday, Calyon Securities threw a wet blanket on the sector, initiating most of the major banks (with the notable exceptions of Goldman and Morgan Stanley) with sell ratings. Calyon analyst Mike Mayo said the banks were still wrestling with fallout from the credit crunch, forecasting that loan losses across all structured asset classes would rise to 3.5% from 2.0% by the end of 2010. On Tuesday, the WSJ wrote that after a strong start in 2009, banking shares may be due for a pullback due to uncertainty over book values, which may fall due to uncertainty banks can earn an ROE above the current 13% cost of equity. In the same vein, the IMF said the toxic assets held by financial companies could rise to $4T, with the deterioration in US-originated assets reaching $2.2T by the end of next year. The SEC took a step toward restoring some form of the uptick rule mid week, unanimously approving the release of staff proposals for restricting short selling for a 60 day public comment period. Another incremental positive for banks came in a NY Times report that all of the 19 major US banks that have been subjected to the government “stress test” will likely pass that review.

Then on Friday, Wells Fargo offered a Q1 earnings forecast that was double the consensus estimates and a revenue number $1B higher than expected, sending its own shares up 24% and the rest of the leading banks up 5% or more. Bank of America shot up around 30% on the news. Recall that the current equity market rally began a month ago after Citigroup, JP Morgan and Bank of America made positive comments regarding their own first quarter forecasts. Wells Fargo's CFO said strength in the company's traditional banking businesses, strong capital markets activities and exceptionally strong mortgage banking results were behind the improved forecast. In a CNBC interview, he said the bank was “a lot closer to bottom,” and noted that relaxation of mark-to-market rules had little to do with the positive pre-announcement.

Two big merger stories impacted trading during the week. On Monday, Sun Microsystems broke off talks with IBM over the latter's $7B acquisition offer, rejecting IBM's $9.40/shr offer as too low. The state of the deal, which some had called “at the brink of collapse,” remains unclear. Later reports indicated that Sun's CEO Jonathan Schwartz had favored the IBM offer, but a board faction led by Chairman and co-founder Scott McNealy had opposed it. Pulte Homes' offer for Centex rocked the home builders on Wednesday. The deal would create the nation's biggest homebuilder, with Pulte paying $3.1B to for the acquisition. Moody's put the ratings of both firms on review for downgrade, noting that both firms have considerable land holdings hanging around their necks, which would be a heavy weight for the combined entity to carry in the worst market for homes in decades.

Alcoa kicked off the earnings season after the close on Tuesday with its second consecutive quarterly loss, missing consensus earnings estimates by a hair while beating revenue targets. Other earnings reports were mixed among a trickle of mid-cap names. More market bellwethers are due to report next week, including Intel, Google, Goldman, J&J, and GE.

In fixed income, US Treasury prices spent most of the week moving in the opposite direction from stock prices. Unlike the case in currencies, the risk appetite dynamic between bonds and equities has held to form. Supply continued to be a concern, with another $53B in notes announced on Monday, but more outright purchases by the Fed and well received 3- and 10-year auctions later in the week kept prices in check for the most part. The benchmark 10-year yield finished out the week just a few basis points above where it began, pinned near 2.9%. The week also saw continued improvement in interbank lending rates with the 3-month USD labor falling back towards 1.13%

With very little economic data to play off of, currency trading began the week closely tied to trends in the equity markets. The greenback and yen benefited from renewed risk aversion trades as stocks declined. Heading into the long Easter weekend liquidity concerns seem to be taking center stage, helping break down the traditional equity/currency correlations. Stocks have rallied hard helped by the financials and the Wells Fargo guidance; the dollar has built on gains across the board while the yen crosses have held up nicely, as well.

The weakness in the euro has been most noticeable. EUR/USD has drifted back toward its lowest levels in a month, nearing levels not seen since before the Fed's quantitative easing announcement. Dealers are calling the pre-QE level of 1.3130 as a key point and noting that any breech could bring purported options barriers below 1.30 into play. Citigroup echoed some of that sentiment Friday when it noted the euro could fall back to 1.2750 by early next week in thin Easter holiday trade. EUR/GBP has moved below 0.90 for the first time in over a week. A fresh round of sovereign Eastern European downgrades along with unsettling headlines about acrimonious protests in Georgia and Moldova are not helping either.

Crude has gained a foothold back above the $50 level, helped by the weekly DoE data. Front-month copper continues to trade at multi-month highs, moving back up and through $2. The firmer picture on some of the most economically sensitive commodities is helping the Aussie, Kiwi and Loonie charts build a base against the Greenback, with the Aussie and Kiwi moving back up toward levels not seen since the end of 2008. USD/CAD has drifted away from multi-year highs above 1.30.

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