Weekly Market Wrap

Markets whipsawed lower then higher this week in an atmosphere of uncertainty as conflicting headlines out of Europe on Greece and mixed US data kept trading unsettled. The week began on a strong note, with China back in the mix after its week-long Lunar New Year holiday and Europe seemingly ready to disclose firm details about how much it would spend to save Greece. But the Greek situation quickly devolved back into rounds of accusations and vapid rhetoric, the US February Consumer Confidence index hit its lowest level in almost a year and the FDIC released a dire quarterly troubled bank list, all contributing to fresh risk aversion Tuesday morning. The FDIC increased the number of institutions being monitored by 27% q/q and noted its deposit insurance fund is now deeply in deficit, at -$20.9B compared to -$8.2B q/q. Markets steadied briefly on Wednesday as Fed Chairman Bernanke and Treasury Secretary Geithner testified on Capitol Hill. In his annual monetary policy report, Bernanke reiterated that the key rate was likely to stay low for an "extended period." Commenting on fiscal policy, Bernanke warned that the government's current budget path is not sustainable given CBO projections and said bond markets could get worried and drive up rates. Thursday saw steep declines in equity markets thanks to the softer than expected weekly claims data, weak ex-transport durables and another round of Greece jitters - then investors drove equities higher Thursday afternoon, recouping much of their earlier losses ahead of the second reading of US Q4 GDP on Friday morning. The US GDP data was a bit higher than the advance reading, hitting 5.9%. Meanwhile the UK managed to eke out a Q4 GDP rating that was a bit firmer than expected as well. But despite theses unexpectedly robust GDP numbers, uncertainty over the recovery remains. Fed Governor Pianalto said the recovery "does not feel like one" while BoE Governor Barker warned the UK could see another quarter of negative production (but would not describe this outcome as a "double dip"). For the week, the DJIA dropped 0.7%, the Nasdaq declined 0.3%, and the S&P500 fell 0.4%.

On Monday President Obama launched a fresh effort to bring healthcare reform back from the dead. The administration is prodding Congress to put together a package from the various bills that passed the House and Senate last year, which then may be pushed through using "budget reconciliation" (this parliamentary dodge would mean the legislation would only need a simple 50-vote majority to pass the Senate, rather than the 60 votes usually required). Obama's proposals include notable changes and additions to existing bills. His plans would limit increases on health premiums and do not include a public option, instead utilizing the health insurance exchanges to stoke competition. His proposals would also increase fees on drug makers, raises the threshold for taxing more expensive "Cadillac" plans (a concession to unions), and provides various tax cuts and tax credits. Large health insurance names have gained all week long on the news, while certain pharma and medical device names have lost ground.

A spurt of notable M&A deals was seen this week. Schlumberger confirmed widespread media speculation and announced it would buy Smith International in an all-stock deal valued at more than $11B. The deal is expected further consolidate Schlumberger's position as the leader in the oil-services industry, giving Schlumberger revenue double that of its nearest rival, Halliburton. Coca-Cola is acquiring the North American operations of its largest bottler, Coca-Cola Enterprises in a complicated cash, stock and debt deal (recall that late last year Pepsi acquired two of its biggest bottling partners). CKE Restaurants, which owns fast-food chains Hardee's and Carl's Jr., has agreed to sell itself to private equity firm Thomas Lee Partners for $928M in cash and debt, marking the continued recovery in leveraged buyout deals.

US housing data this week was not pretty, deepening fears that a weak real estate market could undermine the recovery. On Thursday, the December house price data missed expectations and declined again, then on Friday the January Existing Home Sales index fell to its lowest level since June 2009. Housing-related earnings reports added color to the outlook for housing. Homebuilder Toll Brothers reported a smaller-than-expected loss and raised its 2010 guidance for home deliveries to 2.1K-2.7K units from 2.0-2.75K units prior. Toll's CEO said that "while the housing market is still in choppy waters, the seas are getting calmer." Home improvement names Home Depot and Lowes came in modestly ahead of consensus estimates. Executives from both firms were very cautious on 2010: Lowes executives said that while the demand outlook may be improving, the company continues to plan conservatively. Home Depot was cautious about 2010, warning that no robust growth was seen as the US housing industry remains at distressed levels.

A raft of consumer-oriented companies wrapped up the December quarter earnings season this week. Mid-market department store names Target, Macy's and Sears Holdings were all more or less in line with expectations in earnings reports this week. Results from upscale department store name Nordstrom's were somewhat soft, although the firm's impressive y/y recoveries in comps and margins are worth noting. Barnes and Noble met analysts' targets, but warned that it would report as much as twice the expected quarterly loss next quarter and full-year results would be well under par. The Gap reported in line with expectations, hiked its 2010 dividend substantially and promised robust 2010 earnings and revenue growth. Wynn Resorts came in firmly ahead of expectations. Steve Wynn said his company was conservative regarding the Las Vegas outlook, and that Macau has had a "very good start" to 2010.

In Europe, the sovereign debt story shows no signs of going away, and although the spot light remains on Greece, contagion fears are lingering. Up to €5B in 10-year Greek bonds were expected to be priced this week in a key test of investor appetite for peripheral paper. But with the EU/German/IMF bailout seemingly stuck in stalemate, the 10-year Greek spread versus Bunds deteriorated back towards the 350bps area, forcing Greece to postpone the sale. Most analysts believe they will give it another try next week. Hope remains that some form of resolution is in sight as the Greek PM himself confirmed that the country's borrowing needs are only covered until March and German lawmakers have outlined how they could tap certain government owned banks to fund any potential emergency bailout.

Ultimately any new Greek issuance is likely to coincide with a second, deeper austerity package, but just how this would be sold to a public that has already taken to the streets in response to the first round of cuts remains a major question mark. Meanwhile both S&P and Moody's issued cautious statements regarding the country's credit rating. If Moody's were to recalibrate its credit rating to be comparable to the other two agencies, there is the possibility that Greek sovereign debt would become ineligible collateral for ECB repo operations at the end of the year. Such a move would certainly make it harder to find buyers for Greek sovereign debt, sending yields higher and only inflaming an already troublesome predicament. Finally, S&P even commented that Spain's outlook for weak economic growth could undermine fiscal programs, and forecasted the deficit to GDP ratio to stay above 5% for at least three more years.

In the US, the Treasury continues to raise money at an historic clip. Yields moved markedly lower despite $118 in coupon supply this past week. Demand at these auctions overall remains robust despite some consternation over the continuing trend that the percentage of awards going to indirect bidders remains elevated. Bond prices were also buoyed by a swath of generally softer than expected economic data that included housing, durables, and consumer confidence as well as a steady chorus of Fed speak that emphasized rates are going to stay low for an "extended period". The US benchmark 10-year yield has given back nearly 20 basis points since Monday and the 2-10 year spread has narrowed some 15 basis points from historically high levels above 290 bps.

The week in currency trading opened with markets poised for fresh risk appetite. With China back from vacation, the PBoC reiterated its pledge to maintain moderately loose monetary policy and proactive fiscal policy to support growth in an attempt to shape expectations following the reserve ratio increase just before the Chinese holiday. In Europe, weekend press articles speculated that Euro Zone states had a €25B aid package for Greece in the pipeline. Press reports also circulated about a Dubai World package from the Dubai Government. Euphoria and risk appetite waned quickly, as European officials shot down the aid speculation and investors had even more time to ponder the implications of the European peripheral debt situation. By mid-week risk aversion from various developments on both sides of the pond was benefitting the usual suspects, the USD and JPY related pairs. Slumping US consumer confidence, the Fitch downgrade of Greece's four largest banks, the FDIC's troubled bank list and more comments from the BoE were all factors. Adding a touch of the bizarre to an already tenuous situation, Greek officials complained that criticism of its finances was unwarranted as Germany had failed to compensate Greece for its occupation during World War II. According to the deputy finance minister, the Nazis "took away Greek gold that was in the Bank of Greece and never gave it back." Germany dismissed the comments as unhelpful.

EUR/USD managed to hold above the 1.36 handle after testing 1.3450 last week. Dealers had plenty of time to analyze the situation in Europe as news flow was light and data releases were sparse. The waves of risk aversion-provoking headlines failed to give the greenback enough momentum to push beyond established ranges. Options-related flows picked up, with chatter circulating about deep out-of-the-money option strikes getting good interest. Late in the week, European desks were noting option barrier exposure being opened up around the 1.25 area while New York desks commented on a 1.10 strike being shopped around a three-month play by a North American prop desk.

The dollar bid was not a one-way street, and the reserve diversification issue was circulating in the background. Unsubstantiated press rumors that China would buy 191 tons of gold being offered by the IMF made the rounds (despite the existing offers from another central bank). Nothing came of the reports, although a Chinese think tank loosely affiliated with the PBoC said China should keep buying gold over the long haul and advised that any price declines would present excellent buying opportunities. A spokesperson for China's Foreign Ministry stated that China would invest in reserves carefully and seek liquidity. He called on reserve currency nations to increase market confidence in their currencies (in reference to recent US TIC data that showed China's holding of US Treasuries have declined by over $34B).

In the UK, the BoE discussed the merits of increasing the scale of its asset purchases program and kept talking down the pound ahead of a policy meeting next week. Sterling slumped of off highs around 1.575 as dealers absorbed the dovish comments from BoE testimony in parliament on Tuesday. Each of the BoE members seemed to mention the benefits of weak sterling over and over again and dealers took the point. GBP was also impacted by pending gilt maturities and the related potential redemption flows. Between £2B and £3B will be repatriated over the next few sessions out of the total interest in excess of £8B of Gilt maturities and a quarter of the maturities are said to be held overseas. The UK GDP data was revised higher, moving the UK out of recession, although analysts said the improvement seemed led by higher government spending. Finally, towards the end of the week there was chatter circulating that a general election would be announced for May. An announcement must be made by June 6th at the latest.

Japan reported consistently strong economic data this week, starting with a January adjusted merchandise trade balance of ¥728B, the highest level since January 2008. The January retail trade numbers also grew at a surprising rate, up 2.9% m/m, for the biggest increase in the series since the summer of 2007. January Industrial production hit an eight-month high, +2.5% m/m, above the expected +1%. The government reported the pace of price declines continued to slow, with January CPI at an eight-month high, at -1.3%. The yen benefitted from risk aversion and the unwinding of historical carry trades, as well as chatter that the pending Dai-ichi Life IPO (set to be largest in Japan since 1997/98) was receiving overseas interest. JPY hit 11-month highs against the euro and pound pairs.

There was more chatter that the Chinese Yuan may be revalued. Dealers said there was plenty of talk that the Chinese government was conducting a series of stress tests of currency appreciation on labor intensive industries. There was also talk that China might be preparing to raise capital adequacy ratios to 11.5% from the current average of 11.0%. China Commerce Minister Yao said he cannot rule out a trade deficit within several months. Note the trade surplus has declined for three consecutive months, most recently falling to $14.2B in December, marked by faster import growth. The official data for China trade figures and new loans for Feb expected in 2nd week of March.

Trade The News Staff
Trade The News, Inc.

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