Friday, October 14, 2011

Market Week Wrap-up

Trade The News Weekly market update: Market Week Wrap-up

- The rose colored glasses stayed on this week as Europe's efforts to contain the crisis and a handful of not terrible economic reports kept equity markets afloat. Volume remained notably light all week despite the kick-off of the fall earnings season, featuring an excellent quarter for Google and disappointing results from JPMorgan and Alcoa. In Europe, officials dribbled out more details of how they intend to contain the spiraling debt crisis. On Wednesday, the EU Commission rolled out initial bank recapitalization proposals, settling on saying capital ratios should be raised temporarily, and not settling on a specific figure though chatter suggested they will demand 9% capital ratios at banks. Meanwhile France and Germany continued to refine a range of proposals for utilizing the newly approved EFSF expansion and discuss how much of a haircut on Greek debt holdings their banks could withstand. All will be revealed at a special EU summit next weekend, and investors will be looking forward to the Troika report on Greece's reform efforts due in the middle of next week. On the data front, overall euro zone industrial production expanded at a decent rate in August, contrary to expectations. Trade data out of both the US and China was somewhat concerning: China Sept trade balance hit a four-month low, including a seven-month low in overall exports, while the US August trade report indicated the trade deficit declined in August, versus expectations in a slight increase. US Sept retail sales were not bad. In Asia, September CPI data was slightly softer than expected in both South Korea and China. US Treasury yields moved up this week as traders appeared more willing to add to risk positions. Treasury supply was also a factor, in particular a disappointing 10-year note reopening weighed on prices midweek. The US 10-year yield touched 2.25% for the first time since August. Equity indices saw their first two-week stretch of gains since the summer and closed at one month highs; for the week the DJIA gained 4.9%, the S&P500 surged 6%, and the Nasdaq rocketed 7.6%.

- Poor earnings out of JPMorgan limited the upside among the major US investment banks this week. The firm's headline earnings came in at $1.02, beating estimates, although the bank admitted itself that this figure was sweetened by a $1.9B debt valuation adjustment. Excluding this gain, JP Morgan's earnings dropped around 25% on a y/y basis. Revenue at JPMorgan's investment banking unit was down substantially on a y/y basis. On the conference call, executives said Q4 performance at the investment banking arm would be similar to Q3 results. The bank's private equity unit also racked up a $500M loss. Banks may also have been weighed on by the Federal Reserve and the FDIC releasing draft proposals for implementing the ban on proprietary trading by banks (the so-called Volcker rule) for public comment.

- Google comfortably beat expectations in its Q3 report on Thursday, based on strong growth in paid clicks and nearly 40% y/y growth in ad revenue. Executives also highlighted robust demand from emerging markets and strength in mobile and display advertising. Google also disclosed that it is planning to launch an MP3 music retailing store.

- PepsiCo met expectations in its Q3 report and reaffirmed its FY11 outlook. Executives warned that it was too early to offer an FY12 forecast, and also threw cold water on calls to separate the firm's snack and beverage businesses. The CEO emphasized that PepsiCo's success was tied to drinks and snacks units remaining integrated.

- Alcoa widely missed profit expectations in its Q3 results, citing the global economic slowdown for impacting demand and significantly eroding margins. Profit still showed y/y growth, but was lower than the firm's Q2 earnings. Executives still see Asia demand compensating for developed market weakness in 2011.

- Shares of Netflix see-sawed on news that the company has dialed back plans to split the DVD and streaming video businesses, following howls of protest from both users and tech analysts. Hulu's owners discontinued plans to sell the video platform following months of negotiations with potential bidders. Apple officially launched the iPhone 4S on Friday; earlier in the week announcing it had racked up one million pre-orders for the new model in the first 24 hours, leading some analysts to predict Apple could sell as many as 25M iPhones in Q4 (v 20M q/q).

- In deal news, Superior Energy Services agreed to buy smaller rival Complete Production in a cash-and-stock deal for about $2.6 billion, as the oil-field services company looks to expand its hydraulic fracking business. Discount chain 99 Cents Only agreed to be acquired by private equity firm Ares Capital for $22/share in cash, for a total deal worth $1.6B. And Dollar Thrifty said that it had completed its review of strategic alternatives without identifying any acceptable offers and plans to remain an independent company.

- The euro gained traction early on this week as participants were looking forward to positive developments in the euro zone crisis. France and Germany pledged last weekend to present a new plan for coping with the crisis that would include bank recapitalizations, a move which would likely underpin a Greek debt restructuring and larger private investor participation. The rhetoric boosted euro and other riskier currencies while softening the greenback. However on Tuesday, the Slovakian parliament's initial inability to pass legislation authorizing the enhanced EFSF dampened risk appetite, sending EUR/USD below the 1.36 level. After settling its internal political issues, Slovakia ratified the EFSF mid-week in a second vote, avoiding the necessity for an embarrassing work around by the other 16 EMU members who had already approved the EFSF expansion. European officials released their most detailed proposals yet for containing the crisis through the back half of the week, propelling EUR/USD above 1.3850 by the close of trade on Friday.

- The euro seems to be stuck between two different policy approaches: on the one hand there is the ECB, which is adamant against greater investor participation - the bank and outgoing chief Trichet made alarming comments to the effect that the crisis had reached systemic dimensions and forcing banks to pay more for Greece would hurt an already vulnerable financial sector. On the other hand, politicians, chiefly German officials, are advocating more private sector involvement that would mean higher haircuts. Negotiations on the details of how the EFSF and associated measures would be instituted continued all week in conference rooms and through media leaks. On Friday, as the G20 finance ministers met in Paris, there were reports the private haircuts on Greek debt could be anywhere from 30% to as much as 50%, though bankers were said to still be fighting for the original 21% haircut established in the July 21st accord. EU Commission Chief Barroso laid out a five-year recapitalization plan for European banks which left vague the provisions for 'perfect pure capital' and capital ratios. The euro's resilience was remarkable given that the banking sector continues to be very fragile, especially after Fitch downgraded UK banks and UBS while putting many others' ratings on credit watch negative, and S&P revised France's Banking Industry Country Risk Assessment (BICRA) rating to Group 2 from Group 1. Even S&P's downgrade of Spain on Thursday afternoon did not keep the overall risk-on atmosphere from helping the euro sustain its gains on Friday as Europe began loading the bazooka at the G20 meeting. Now traders are looking forward to the October 23 special EU summit, when the EU will officially reckon with the Troika report on Greece, which could be a reality check for the current euphoria with bearish implications for EUR/USD.

- Cable has traded steadily throughout the week since the restart of the QE2 in Britain. However, the cross seems to be helped more by the euro rally than UK fundamentals which continue to be weak. Fitch downgraded the UK banks but that did little to change the sterling's trajectory as Fitch cited the same reason as Moody's - the downgrade was not because of banks' fundamentals but because the government unwillingness to support the banks if it is needed. A welcome improvement was the narrowing of the country's trade balance which may help Q3 GDP. In other news, the EUR/CHF continued to hover in the upper 1.23 neighborhood on continuing speculation that the SNB could increase its floor in the cross from the 1.2000 level.

- After pivoting around 76.60 for most of last week, USD/JPY climbed above 77 to test 77.40 on Wednesday on widespread chatter that the BoJ would introduce a ceiling for the yen. The cross trailed back below 77 as no announcement was forthcoming, but a statement in the Japanese press by a government official on Friday morning sent USD/JPY right back to the 77.40 level. The official stated that the government would likely introduce measures to combat the strong yen as soon as next week in time to be included for the third extra budget.

- China returned to the spotlight after a week-long holiday with key developments in FX reform, trade, and inflation. After the US Senate voted to ramp up its pressure to punish China for keeping the yuan too low for too long, Beijing retaliated by weakening its currency setting for three consecutive sessions, sending USD/CNY midpoint above CNY6.37 from CNY6.34 record low. Amid these tensions, the US Treasury Department confirmed it would once again delay its semi-annual currency report as various congressmen continue to call for the report to name China a currency manipulator. On Thursday, September trade figures for China saw some moderate slowing in both imports and exports, as the overall surplus fell to a 4-month low $14.5B. Late in the week, China September inflation data was also somewhat soft, allowing PBoC additional scope for easing. CPI was in line with estimates at 6.1% but marked its 2nd consecutive decline, while PPI saw a 9-month low 6.5%. The remaining monthly metrics for September, along with Q3 GDP, are expected to be posted early next week.

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