- Trading was lackluster and choppy as the DJIA lost ground on the week for the
first time in a month and commentators speculate whether the rally was growing
long in the tooth. Recall that the DJIA returned to positive territory YTD for
the first time since early January just last week. Green shoots were observed
in positive German ZEW sentiment and the Philly Fed business outlook readings,
but they didn't prove to move markets higher. Instead the spotlight was on
hefty new government programs to address health care and overhaul financial
market regulations. And although bullish commentators have not vanished from
the scene, pessimistic voices seemed stronger than ever. Goldman Sachs Chief
Economist said he still sees the potential for a market correction over next
several weeks, and PIMCO's El-Erian insisted it is wrong to assume return of
"business as usual" despite the recent stability. On the bright side,
reports emerged this week that GM is likely to emerge from bankruptcy a month ahead
of schedule, by mid July. For the week, the S&P 500 fell 2.6%, the DJIA
dropped 3% and the Nasdaq Composite slipped 1.7%.
- Monday's disappointing June Empire Manufacturing index (-9.41 v -4.60e)
spooked investors, as the survey of manufacturing conditions in the North East
indicated much steeper declines than expected instead of another sign of
improvement. The Philadelphia Fed Index on Thursday provided a stark contrast
to the earlier data, with its survey of business conditions dramatically better
than expected (-2.2 V -17.0e). The May housing starts and buildings permits
data came in slightly above estimates, rising at the fastest rate in three
months. On Wednesday the May Consumer Price Index was barely positive on a m/m
basis, while the y/y figure showed the biggest annual drop in the series since
1950. The data provides evidence that the recession is keeping inflation in
check and could raise concerns about deflation, depending on one's point of
view. Initial jobless claims remained above the 600K level for the 20th week in
a row, while the continuing claims fell on a w/w basis for the first time in
six months. Some commentators observed that the improvement in the latter might
have had more to do with benefits running out for long-term unemployed than any
uptick in hiring, however.
- The Obama Administration rolled out a major overhaul of the US financial regulatory system this week.
Treasury Secretary Geithner and White House advisor Larry Summers primed the
pump on Monday, releasing some details of the proposal in a Washington Post
editorial piece. Then on Wednesday, President Obama officially announced the
new program in a policy speech, noting that his proposals aim for "careful
balance" and that scrapping the old regulatory system would be a
"mistake." The salient points of the plan foresee the regulation of
all derivatives contracts, requiring originators to retain interests in
asset-backed securities ("skin in the game"). Systemically important
firms will face "stringent" supervision by the Federal Reserve and a
new Council of Regulators with broad responsibility for policing the entire
financial system for risky products. A new consumer financial protection agency
would be created to set rules for mortgage lending, hedge funds will be required
to register with the SEC and the Office of Thrift Supervision would be
dismantled under the plan. Congress will begin digesting the plan in July,
although key player Rep. Barney Frank said that he does not expect Congress to
finish its work on the legislation before the end of 2009. Note that across the
pond, EU leaders agreed to establish new pan-European financial watchdogs, with
some limited authority over UK affairs.
- TARP repayments, master trust data and multiple S&P ratings downgrades,
not to mention the potential for more regulation, have kept pressure on
financial names this week. The ten financial institutions that won approval to
repay TARP last week moved to return the funds to the Treasury on Wednesday.
Monthly master trust data from the major credit card issuers showed a broad
trend toward higher charge offs but lower overall delinquency rates, although
it is worth noting that delinquency rates have moved lower in part due to
recent accounting rule changes. S&P downgraded ratings and outlook on 22 US banking names on Wednesday, noting that
operating conditions for the industry are becoming less favorable,
characterized by greater volatility in financial markets during credit cycles
and tighter regulatory supervision. The downgrades encompassed numerous
super-regional banks, including such institutions as Wells Fargo, Fifth Third,
BB&T, KeyCorp, and Capital One.
- Earnings from FedEx and monthly order data from Caterpillar provided
ammunition for economic recovery skeptics. While FedEx's earnings soundly beat
expectations, its guidance for next quarter was substantially below analysts'
forecasts, as the recent run-up in fuel prices would have a significant
negative impact (several airlines echoed concerns about rising fuel costs this
week, including US Airways and Lufthansa). Caterpillar's three-month retail
sales in North
57%, compared with declines of 51% and 41% in April and March, respectively.
- Potash names had their growth potential questioned, after German fertilizer
manufacturer K+S slashed its 2009 sales forecast to 4-4.5M tons from 6M due to
weak demand. The company said there were no signs of recovery in European
demand, putting pressure on prices. UBS shined some light on the solar industry
in a sector report, raising its 2010 global demand estimates thanks to the
emerging recovery in China and the US, but also lowering its solar module
price estimates to near marginal cost.
- US Treasury prices started off on a firmer footing after a wild few weeks in
bond trading, featuring a surge in yields to 8-month highs. With the G8 and
BRIC meetings thoroughly telegraphed to markets and offering little in the way
of surprises, as well as no coupon supply scheduled for auction, US yields
moved lower for much of the week. Note also that S&P said the US government's AAA rating was unlikely to
change anytime soon. December fed fund futures have seen the odds of a rate
hike by year's end move back below 50% for the first time since the release of
May non-farm payrolls.
- The stronger than expected Philly Fed reading as well as the first
week-over-week decrease in continuing jobless claims since January set a floor
in rates on Thursday, when afternoon trade saw prices come under further
pressure from mortgage-related selling and the US Treasury's announcement of
$104B in supply. This amount surprised some observers, given the increase in
the size of the 5- and 7-year note auctions. Bond prices opened lower on Friday
but quickly reversed course, buoyed by some risk aversion flows after Moody's
placed California's A2 rating on watch for a possible downgrade. Bids came into
the long end of the curve and the benchmark yield stabilized just above 3.75%
while the long bond is gravitating towards 3.5% as the week came to a close.
Outside of the coupon supply traders are also looking ahead to the FOMC rate
announcement and Fed Chairman Bernanke's testimony before Congress regarding
the BofA/Merrill deal. Both are expected in the middle of next week.
- In currencies, the price action was choppy but muted as EUR/USD bounced
around in a narrow 250-pip range. Persistent reserve currency comments aimed at
the dollar made USD forex trading a game of "headline roulette" as
government officials continued to express their opinions on the topic. There
were plenty of cautious comments on economic conditions from officials and
central bankers throughout the week, but their impact paled in comparison to
the EU Summit draft statement on Friday stating the Euro Zone economy was on
course for a "sustainable recovery" and reports that the IMF would
raise its 2010 global growth forecast to +2.4% from +1.7% prior.
- Economic data around the world continues to paint a mixed picture of the
global economy. In Germany, the ZEW Economic Sentiment survey
registered its highest reading since May 2006 while the DIHK Business Survey
cuts its forecast for 2009 German GDP to -6.0% from -3.0%. In the US, the initial jobless claims remained
above the 600K level, while continuing claims declined for the first time in
months (and made the largest weekly decline since Nov 2001), although some
commentators believe the improvement had more to do with benefits running out
for long-term unemployed rather than any uptick in hiring. The World Bank
raised China's 2009 GDP forecast to 7.2% from 6.5%,
although former PBoC adviser Li Yang said he expects the global economy needs
at least five years to fully recover from the recession. In addition, China's Minmetals said Chinese commodities
demand will be flat for the next one or two years.
- In Europe the Maastrict Stability Pact issue is
simmering as the recession adversely impacts the finances of member states. The
French budget minister said his country's 2009 deficit-to-GDP ratio could hit
6%, which is well above the 3% level permitted by the pact. The German Finance
Minister said his country's deficit could exceed the EU limit of 3% of GDP
through 2012. The 2010 Netherlands budget deficit is forecasted at 6.7%.
ECB's Gonzales-Paramo insisted that the current Maastrict Stability Pact has
the flexibility it needs to work and that its rules should not be changed.
- The Swiss Franc was in focus late in the week on rumors of another round of
intervention. The Swiss Central Bank Chief Roth declared that EUR/CHF
volatility had diminished considerably and that the franc's gains were over,
sending the cross to toward 1.5000, a level that has not been violated since
the March 12th intervention. This declaration of victory prompted dealers to
wonder whether 1.50 was a line in the sand for additional intervention. Many
players noted that there were significant long EUR/CHF positions heading into
Thursday's SNB monetary policy decision. The Swiss National Bank's Jordan said the bank has no fixed FX threshold
and acknowledged some "nervous euro longs." The currency intervention
rumors surfaced on Thursday, with the Bank of International Settlements (BIS)
cited as the intermediary, sending EUR/CHF up to 1.5140, although the BIS, SNB
and the ECB had "no comment" on whether intervention had actually
occurred. Dealers are now focusing on the key resistance level of 1.5230, which
corresponds to the downtrend line from the 1.6330 highs made in late July 2008.
- EUR/USD began the week on a firm tone, testing key daily support around
1.3740, before moving quickly back over the 1.38 pivot level and toward 1.40
after a Kremlin aide said Russian President Medvedev would raise the reserve
currency issue at the BRIC summit after all. Range trading set in as various
central banks maneuvered around the issue, with China noting it wants a stable dollar while Russia reiterated the dollar would lose its
position as the dominant reserve currency. Asian sovereign names were allegedly
offering euros around 1.40 while Eastern European names were aggressive buyers
of the euro around 1.3800. The JPY exhibited some strength during the week,
with dealers fixing on news that Japan's public pension fund (the world's
largest) might sell JGBs to cover payments. Commentators say this could signal
the beginning of the end of Japan as a capital exporter. GBP/USD
maintained a firm tone against the major pairs thanks to higher CPI and RPI
inflation data, but price action in the cross was choppy and erratic at times.
EUR/GBP tested 0.8440 for fresh six-month lows. Down under, the RBA June minutes
stated that AUD strength has lessened the impact of stimulus measures.
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