Market Week Wrap-up
- The new year in markets began where the old year left off, with investors
focused squarely on Europe. US and European markets were closed on Monday for
the New Year's holiday and opened higher on Tuesday, thanks to some better
Germany employment and Chinese PMI data, plus a strong US ISM manufacturing
report. However S&P's threat to downgrade the sovereign ratings of leading
euro zone nations, especially France, continue to cast a long shadow and have
curtailed greater risk appetite in the market. Rumors that the S&P
downgrades were imminent contributed to equity downdrafts all week. In
addition, there were reminders of weakness in Italy and Spain, as yields on the
10-year debt of both nations remained elevated (the Italian yield exited the
week above 7%). Italian bank UniCredit was forced to sell new shares at a steep
discount to shore up its credit base, driving big declines among European
banking names. In addition, there were reports that the Spanish region of
Valencia would delay a bond payment. On Friday the US December non-farm payroll
report came in at +200K and the private payrolls number was +212K, topping both
consensus estimates and the November numbers (+120K and +140K, respectively).
These totals are still not near the levels many analysts say are needed to
begin really replacing the jobs lost over the last several years, but the
upward trend of new job growth is encouraging. There was a flurry of new
developments at the Fed. In the minutes of the Dec 13th FOMC meeting, the Fed
disclosed that it would provide a Summary of Economic Projections (SEP) four
times a year starting in January. Later the Fed's Bullard said the FOMC is very
close to implementing an inflation target. The four recent Fed dissenters
rotated off the FOMC (hawks Fisher, Plosser and Kocherlakota, and the dove
Evans), to be replaced by a more dovish slate of voters (Pianalto, Lacker,
Lockhart and Williams). Chairman Bernanke commented that it would be
appropriate to bring foreclosed homes into the rental market to help dampen downward
price movements. Note that there were also rumors that the White House was
planning a large-scale mortgage refinance plan, which was later denied. Late
Friday, however, Freddie Mac announced that the FHFA had directed it to extend
forbearance to unemployed borrowers for up to 12 months, which could affect up
to 10% of delinquencies on mortgages administered by Freddie. Front-month WTI
crude spent most of the week above the $100 handle as the Europeans prepared
fresh sanctions against Iran, which held naval exercises in the Strait of
Hormuz and generally rattled its scimitar. Brent hit $113. For the week the
DJIA gained 1.2%, the NASDAQ rose 2.7%, and the S&P 500 tacked on 1.6%,
thanks largely to big gains on the first trading day of the year.
- Another group of companies discloses troubling pre-earnings guidance this
week. Barnes & Noble slashed its FY12 outlook to a fairly large loss. The
change was due primarily to a shortfall in the expected sales of NOOK ebook
readers coupled with more investment in the technology as management lays plans
to spin off the NOOK business. Eli Lilly offered a grim look at 2012, warning
that both its earnings and revenue totals would disappoint market expectations.
Executives further warned about patent expirations on some of the company's
largest products, most notably the antipsychotic Zyprexa and the antidepressant
Cymbalta. Refiner Tesoro said it would report a big loss in its Q4 and slashed
its FY11 outlook. Contributing to the net loss was an extremely weak margin environment
in California and the collapse of the WTI-Brent spread. Alcoa announced that it
would close or curtail 12% of its total aluminum smelting capacity, with a
charge to Q4 earnings of $0.15-0.16. The company also said it would accelerate
actions to reduce the escalating cost of raw materials.
- The December same-store sales (SSS) were on the whole better than expected,
however promotional discounts ate into profits and many firms lowered guidance
for the final quarter of the year. The discount chains TJX and Ross Stores
attracted thrifty Christmas shoppers and beat comparable store expectations by
wide margins. Meanwhile, the Gap continues to bleed away sales, reporting its
sixth straight month of y/y same store sales contraction. Interestingly American
Eagle Outfitters, which abandoned providing monthly SSS reports, said its comps
were up 12% in the Nov-Dec period. AEO also slashed its Q4 guidance by about
25%, citing promotional activity. Target had a very bad month, with comps
dropping to +1.6%, their lowest level since spring. Target also cuts its Q4
guidance, on softer holiday sales. Department stores also generally
outperformed expectations, with the notable exception of Kohl's, whose comps
were in the red for the second consecutive month.
- US Treasury yields finished the week above where they closed out 2011, but
the selling was subdued considering the better US jobs data. The benchmark
10-year yield briefly topped 2% following both the ADP and non-farm payrolls
figures, but weakness emanating out of Europe kept an underlying bid in US
government paper. Corporate issuance was particularly robust with more than
$12B in paper coming to market, for the most active week since last summer.
Banks on both sides of the pond were aggressive in their efforts to get out
ahead of more than $230B in US corporate debt roll-overs coming due in 2012
(this compares to $195B in 2011). According to data from Barclays, approx €794B
of European sovereign bonds will need to be issued in 2012 (above the long-term
average, but less than 2010's record €952B in sovereign issuance). The
Independent reported that the world's top economies will need to roll over a
combined total of $7.6T in 2012, with Japan requiring the most at $3T and the
US needing $2.8T.
- Currency traders cannot tear themselves away from the deepening crisis in
Europe, where everyone is nervously waiting for the rating agencies to pull the
trigger. Absent the looming sovereign downgrades, there was the potential for
more risk appetite, in the form of some slightly improved final December
manufacturing PMI data in European and Asian nations, plus the good showing in
the December US employment data. As the first week of the year rolled on,
dealers became keenly aware of a breakdown in the risk on/weak dollar trend --
typically throughout 2011 the dollar was sold on any return of risk appetite,
however this correlation appears to be falling apart as investors have bought
the greenback on any sign of overall strength.
- EUR/USD began 2012 with an updraft taking the pair back above 1.30, from the
2011 year-end closing level of 1.2970. However, the continued focus on the
sovereign situation hammered the euro in the back half of the week, as
pessimism and the shifting dynamic with the dollar sent the pair down to 1.2700
level last seen in August of 2010. In a sign of the stress, the ECB deposit
facility continued to hit record highs, closing the week with a whopping €455B
parked in the facility. With the prospective of weeks and months of further
consultations over Europe's new fiscal integration plans ahead even as yields
on Spanish and Italian debt remain elevated, there is plenty of pessimism. The
Centre for Economic and Business Research (CEBR) began the year by forecasting
that the euro would lose a member in 2012. Reports that the Spanish region of
Valencia was late in making a bond payment also highlighted these concerns. The
EUR/JPY cross continued to hover at 11-year lows, unable to sustain any
momentum above the 100 level. The cross tested 98.30 by the end of the week.
- Europe's emerging economies were also in focus this week. In Turkey, the
central bank is maneuvering to aid a soft landing for the nation's cooling
economy while also warding off the shocks from Europe. The Turkish Central Bank
was selling elevated amounts of USD for TRY in order to support the lira
throughout the week. After ratifying a new law that weakened its central bank,
Hungary's government took heat all week from both markets and European Union
officials. In addition, there were growing questions about the nation's ability
to finance itself in public markets. This week the forint was testing fresh
record lows against the euro, approaching the 325 level on Wednesday, before
backing off again. The yield on 10-year Hungarian sovereign paper hit its
highest level in two and a half years, testing above 11.20%, while 5-year CDS
hit fresh all-time highs above 725bps.
Notable economic data out of Asia was limited to Australia's November trade
report, which showed continued deceleration in basic materials shipment
activity. Coming in at a 9-month low surplus of A$1.38B, the trade report's
components also revealed a 4-month low in exports to China and a 7-month low in
the exports of iron ore. The Reserve Bank of Australia is not meeting this
month, while fixed income markets are pricing in a slight probability of
another cut in February.
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