Earnings season hit its stride this week, although the effect on markets has been hardly salutary. Trading in US equities was highly volatile, with the leading indices whipsawing back and forth in the absence of any overall negative or positive theme. The DJIA spent most of the week above 10,000, but closed out on Friday below this key psychological level. Economic data played a minor role, with most attention paid to another brace of mixed housing numbers. September housing starts and building permits fell below August levels, while the September existing home sales data over 9% sequentially. With the holiday season imminent, a National Retail Federation poll showed that US consumers plan to spend 3.2% less on a y/y basis on holiday shopping in 2009, stating that "Americans are not ready to declare an end to the recession." Meanwhile, third quarter GDP reports from China and the UK impacted FX and bond trading. China's GDP growth was stronger than the prior two quarters at +8.9% (though slightly below consensus), while a dismal UK GDP data reading of -0.4% shocked investors and took the wind out of sterling. The Fed confirmed this week that it has been testing reverse repo operations for several months, calling it a critical part of its eventual exit strategy, although it declared that the tests do not signal any imminent policy shift. Note it was just last weekend that Barron's implored Fed Chairman Bernanke to raise the Fed Funds Rate to 2%, and later in the week the FT speculated that Fed governors may soften their commitment to the zero rate policy via wording in the FOMC statement. For the week, the DJIA fell 0.2%, the S&P 500 declined 0.8% and the NASDAQ Comp slipped 0.1%.
Tougher government regulation of telecommunications and the financial industry occupied Washington this week. It was hard to avoid news of moves by the Treasury's "pay czar" Feinberg to slash executive compensation at TARP recipients and examine even wider restrictions on pay at banks. The Fed began its own review of pay in the financial sector, noting that up to 28 large banks would face special "horizontal" compensation reviews. On the Hill, the House Financial Services Committee voted in favor to speed up implementation of elements of the Consumer Financial Protection Agency. The FCC moved closer to adopting "net neutrality" as official policy, with exceptions for "reasonable" network management needs.
On Wednesday Morgan Stanley was the final big banking firm to report earnings. Morgan blew out estimates and returned to profitability after three quarters of losses. Morgan Stanley's CFO insisted that putting losses behind the bank is not a relief but an affirmation of its strategy. Leading regional banking name Wells Fargo also crushed expectations, although many commentators have expressed concern that the bank continues to rack up more non-performing assets and higher provisions for credit losses. Dick Bove spooked markets on Wednesday afternoon with a big reversal on Wells Fargo following the bank's report. Bove, who had initially called Wells Fargo a big winner just after the earnings came out, seemed to change his mind by afternoon and downgraded the name to a sell upon closer examination of loan loss figures. The regional banks appear to be splitting into groups of winners and loosers, with solid results from Bank of New York and US Bancorp, and more losses from Fifth Third, KeyCorp and SunTrust.
Many quarterly earnings reports are apparently repeating the pattern established in the prior earnings season: EPS meets or exceeds consensus expectations while revenue results lack the surge in sales that would indicate a firm economic recovery. A look at the DJIA components which reported results this week illustrates the point. Thanks to a big tax benefit Caterpillar's earnings were nearly an order of magnitude better than the consensus view, while revenue fell short of expectations. DuPont's earnings outperformed while revenue fell somewhat short. Other leading names are in the same boat: Honeywell's EPS was slightly better than expected, while revenue missed the consensus view somewhat. The firm's CFO said top-line performance will remain challenging. Railroad Burlington Northern also had solid earnings but underwhelming revenues, while its forecast for next quarter was weaker than expected. Oil services name Schlumberger was in line with earnings expectations and revenue was a hair below expectations. Boeing's loss was a bit steeper than anticipated and revenue missed expectations. The aerospace giant also took a hammer to its 2009 guidance, citing the continuing problems in its 787 Dreamliner and 747-8 projects.
Tech earnings continued to be an exception to the rule. Apple yet again surprised to the upside, beating top- and bottom-line expectations handily, and even exceeded "whisper" numbers. On the conference call, Apple executives said
The military-industrial complex had a solidly profitable third quarter. Dow component United Technology, Northrop Grumman and Lockheed Martin all beat earnings expectations, although LMT's revenue was a bit behind the Street. Big pharma had a good Q3, as evidenced in reports from Merck, Novartis, Schering-Plough and Bristol-Myers. Earnings at all three firms were more or less in line with expectations, although Bristol-Myers and Novartis were a bit behind on the top line.
With corporate earnings in the spotlight, Treasury yields have quietly moved higher this week as the liquidity driven rally across a broad spectrum of asset classes appears to be taking a breather. Next week the Treasury returns after a two week hiatus with a record $44B in 2-year, $41B in 5-year and $31B 7-year notes up for grabs, alongside $7B in 5-year TIPS. Although higher, yields have broadly speaking remained range-bound. The 2-year yield managed to test the 1% mark for the first time in October after the FT reported that FOMC members were considering altering their commitment to keeping rates at the zero bound for "an extended period" in an effort to manage inflationary expectations. The 10-year Note is only a few basis points away from the 3.50% level (not tested since late September) while the 30-year Bond finished the week above the 4.25% mark.
The UK surprised many by failing to join Germany and France in technically escaping recession on Friday, posting its 6th successive quarter of negative growth. The considerably worse than expected reading meant the deepest downturn for the UK since records began in the mid 1950's and has heightened expectations for an expansion of quantitative easing from the Bank of England next month. US GDP data is due Thursday, and whilst the market is expecting a firmly positive reading (and by extension, an end to the US recession) the potential for both upside and downside surprises will number provide further event risk for bond traders next week.
Strong corporate earnings in the US and rising commodity prices around the world helped drive the euro to fresh highs against the greenback and the Swiss Franc this week. There was also a fair amount of talk regarding shifting away from the USD as a reserve currency following last week's heated debate. Former US Secretary of State Kissinger commented that China's goal was to dislodge the dollar's position at the heart of the global monetary system, noting that any moves to alter the dollar's reserve status would be made over a long period. PBoC Governor Ma noted that dollar weakness would trigger domestic inflation in China, leading to vague reports that China was looking to help curb USD weakness. The EU EcoFin conclave sent a letter to the chairman of the G20 stating that economic recovery was increasingly apparent and fears of a prolonged recession were fading. The unexpected GDP contraction in the UK took the wind out of sterling and sharpened the debate over a potential expansion of the BoE's £175B QE program. By Friday, dealers couldn't help but notice that the interest yield differentials between US and Germany have been trending in favor of the euro, as the benchmark 2-year yield spread moved towards the 50bps, its highest spread since early June.
EUR/USD tested and then broke above the 1.50 level mid week on continued chatter that Eastern European names were buying euros and that Russia was seeking to reduce the USD weighting in its currency basket to 33% from 55%, although Russian Central Banker Ulyukayev said he sees the weak dollar as a correction rather than devaluation. EUR/USD hit a high water mark around 1.55, a level last seen in early August 2008 before consolidating around 1.50. The German Export Assoc (BGA) believes the euro could rise toward $1.60 over the next few months before settling down to a 1.45-1.55 range. French Presidential Advisor Guaino commented that a sustained bout of EUR/USD above 1.50 would be a disaster for European industry. GBP/USD maintained a constructive tone throughout the week into the UK Q3 GDP data, climbing past a 14-month downtrend line of 1.65 before giving up its gains because of the weak GDP figures.
USD/JPY progressively over the course of the week despite BoJ's Hayakwa comments that Japanese companies were not asking the government to do something to weaken the yen. The BoJ released its quarterly regional report, noting that the economy remains severe in some regions but is improving overall. The currency's weakness late in the week was attributed to press reports that the BoJ expects continued deflation in Japan through 2011, when the Core Consumer Price index is projected to decline for the third consecutive year. The carry-trade sentiment rose a bit for the yen as dealers noted that the report was another indication that the central bank would keep interest rates near zero for the time being.
The trading week in Asia centered on economic data out of China mid week, where the Q3 GDP reading was released concurrently with the monthly industrial production, retail sales and inflation metrics. Despite the multi-month highs across these figures, markets expressed mild disappointment, with the Shanghai Composite extending its losses in the wake of the data. The 8.9% GDP reading was a one-year high, but came in just short of expectations of 9.0%. Industrial production hit a 14-month high at 13.9% and topped estimates of 13.2%, but fell short of the earlier press whisper number of 14.1%. Inflation is declining more slowly and retail sales met expectations.
The rhetoric from the Chinese government was barely optimistic: officials stated the economy still faces insufficient external demand and warned that building up domestic demand remains challenging. Moreover, NDRC researcher Wang said the fundamentals of China's economic recovery are still not sufficient, and top central bank advisor Fan Gang urged policy makers to maintain fiscal stimulus through 2010.
On the monetary front, the minutes of the latest Reserve Bank of Australia policy meeting shed some light on the central bank's decision to become the first G20 nation to raise interest rates. The RBA's focus revealed growing concerns over inflation bottoming at much higher level than previously expected and possibly rising again in 2011. In addition, the RBA forecasted economic growth will return to trend in 2010, and could rise to above-trend levels by 2011. Policymakers also did not appear to be fazed by the rally in AUD, suggesting the Aussie dollar rise reflects improving market sentiment and may actually help to contain inflation.
Trade The News Staff Trade The News, Inc.
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