Weekly Markets Review 02-22-2010

February 22, 2010

“It does not matter whether a cat is black or white so long as it can catch mice.” - Deng Xiaoping, former leader of China
The major market indices finished higher last week. The DJIA, S&P 500 and Nasdaq finished rose 3%, 3.13% and 2.76%, respectively. Value outperformed growth, and the small-cap Russell 200 index gained 3.42%. The 10-year Treasury yield closed up 10 bps.
The biggest surprise of the week was the decision by the U.S. Federal Reserve Board to raise the Discount Rate, the interest rate it charges banks for emergency loans, by a quarter of a percentage point, or 25 basis points, to 0.75%, from 0.50%. The unanimous decision to boost the rate has no real impact on the more widely watched federal funds rate, which is expected to remain between 0% and 0.25% for the foreseeable future. Still, many see the move as a precursor to a tightening of government credit.
Even with everything going for stocks—low interest rates, government stimulus, improved earnings—the party seems to have opened its door to an uninvited guest: Europe’s sovereign debt problem. Why should U.S. investors care about Europe's sovereign debt? It's actually pretty simple. Europe's burgeoning debt troubles are causing a mass exodus from the euro, and that money is going into U.S. dollars. As the dollar rises, our companies' exports become more expensive - and that inevitably has the effect of undermining the overseas profits of our multinational corporations.
In other words, if the dollar keeps rising, we'll discover that U.S. corporate earnings may well have peaked in the 2009 fourth quarter. Or we could find that they didn't actually peak, but will grow a lot more slowly, which is just as bad.
That's probably why the shares of major U.S.-based international companies such as The Coca-Cola Co. and Colgate Palmolive Co. have stalled lately. They're on a treadmill: No matter how much their business improves in the United States, it's being undermined and offset by the same amount overseas.
So, as long as Europe continues to deal with its family issues, the dollar will continue to rise, so causing stocks to remain stuck for the time being. Stay tuned…
Equity Markets Review
* Following reports suggesting that Greece used currency swaps and other instruments to lower the amount of debt reported on its government balance sheet, fellow eurozone countries have given the country one month to balance its budget. European Union countries want to avoid a bailout of Greece unless absolutely necessary.
* December's trade balance was -$40.2B vs. -$36.8B expected and -$36.4B prior. Exports rose 3.3% to $142.7B. Imports rose 4.8% to $182.9B.
* Numbers released Feb. 16 by the U.S. Treasury Department show that while overall demand for U.S. Treasury securities grew in December 2009 by $16.9 billion, China was a major seller of short term securities, also known as T-bills, reducing its overall holdings by 4.3 percent -- China's largest drop on record. The selloff means that Japan, a net buyer of the debt in December 2009, is once again the largest holder of U.S. Treasury debt with $789.6 billion in holdings.
* The Treasury officially recognized the loss of its $2.3B investment in CIT Group yesterday. Despite the loss, the Treasury expects the cost of TARP to continue to fall and expects to turn a profit on aid provided directly to the banking sector. To that end, PNC announced yesterday that it had completed its TARP payment by redeeming $7.6B of preferred government shares, and Fifth Third Bancorp will "most likely" repay its $3.4B of TARP funds in the second half of the year.
* The IMF plans to start selling 191.3M metric tons of gold in the open market as part of a plan announced last year to diversify its sources of income and increase its resources. To avoid disrupting the gold market, the sales "will be conducted in a phased manner over time."
* President Obama gave the long-suffering U.S. nuclear industry a solid boost this week when he announced $8 billion in government loan guarantees in support of a new nuclear power plant in Georgia.
* The U.S. Department of Labor announced Feb. 18 that seasonally adjusted initial unemployment claims for the week ending Feb. 13 numbered 473,000, up 31,000 from the previous week's revised figure. The four-week moving average for initial claims was 467,500, down 1,500 from the previous week's revised average.
* Late Thursday, the Fed unexpectedly raised the discount rate to 0.75% from 0.5%, a move it hopes will encourage banks to borrow from the private market. The Fed said the increase, the first in the discount rate in over three years, doesn't reflect a change in monetary policy and is "not expected to lead to tighter financial conditions for households and businesses."
* The Conference Board said its index of leading economic indicators, a forecast of future economic activity, rose 0.3% in January. The increase is lower than both the 1.2% increase reported in December and November’s 1.1% gain. January’s figure was below the 0.5% gain expected by economists polled by Thomson Reuters.
* S&P downgraded Blockbuster two notches to CCC yesterday, calling the company "vulnerable to default," though it has adequate near-term liquidity.
* Procter & Gamble said it expects stronger sales in coming months as it launches a flurry of new products, from India to Brazil to the U.S., but acknowledged that profits won’t grow as quickly over the long term as previously thought, reported The Wall Street Journal
* Walgreen announced yesterday that it plans to buy drugstore chain Duane Reade in an all-cash deal valued at $1.075B, including debt. The deal will lift Walgreen, the largest U.S. drugstore operator, into the top spot in New York City, and puts pressure on rival CVS Caremark to make an acquisition that will accelerate growth. Rite Aid which lags a distant third behind Walgreen and CVS in terms of marketshare, could be a possible target of a CVS bid.
* A nuclear-power joint venture owned by NRG Energy Toshiba and a Texas utility ended a legal dispute yesterday, paving the way for one of the first new U.S. nuclear-power projects in decades to move forward.
* Schlumberger is said to be in advanced talks to acquire Smith International with an announcement possible in the coming days. A deal, which could be worth around $9B, would create an oil-services giant with twice as much revenue as nearest rival Halliburton.
* Barclays said its annual profit more than doubled, a sign that the bank's purchase of Lehman Brothers' North American assets in September 2008 has begun to see results.
* Merck, which completed a $41-billion acquisition of Schering-Plough in early November, reported that its fourth-quarter profit increased to $6.49 billion from $1.64 billion a year earlier. To generate promised cost savings, the drug maker also announced plans to lay off 15% of its global work force.
* Kraft Foods reported that its fourth-quarter profit more than tripled amid strong sales in developing markets, moderating commodity prices, and efforts to reduce costs.
* Whole Foods’ fiscal first-quarter earnings jumped 79% as sales at stores open at least one year rose for the first time in six quarters. The retailer posted a profit of $49.7 million, compared with $27.8 million a year ago, a sign that discounts and a refocus on natural foods are paying off.
Weekly Sector Review
The sectors of the U.S. economy, as well as the S&P 500, have performed as follows:
Last Week’s Returns:
Information Technology… 2.68%
Materials… 4.18
Consumer Staples… 2.75
Utilities… 3.64
Consumer Discretionary… 3.46
Financials… 4.05
S&P 500… 3.13
Industrials… 4.39
Healthcare… 1.99
Telecommunications… 0.83
Energy… 2.99
Spending America Into Ruin, Eric Margolis (article highlights)
* The U.S.’s current total proposed annual military budget is nearly $1 trillion.
* To understand the immensity of one trillion dollars, one would have had to start spending $1 million daily soon after Rome was founded and continue for 2,738 years until today.
* workers); and veteran’s costs. Add $75 billion (nearly 2.5 times France’s total defense budget) for 16 poorly functioning intelligence agencies with 200,000 employees who keep tripping over one another.
* The Afghanistan and Iraq wars ($1 trillion so far) will cost $200–$250 billion more this year, including hidden and indirect expenses.
* Obama’s Afghan "surge" of 30,000 new troops will cost an additional $33 billion – more than Germany’s total defense budget.
* The Pentagon colossus now accounts for half of total world military spending.
* China and Russia combined spend only a paltry 10% of the U.S. on defense.
* There are 750 U.S. military bases in 50 nations and 255,000 service members stationed abroad, 116,000 in Europe, nearly 100,000 in Japan and South Korea.
Chinese Tightening A Positive
Markets have reacted negatively in recent weeks to moves by China’s government to slow its booming economy. While there are always risks in such an attempt, it’s important to maintain a balanced perspective. First, avoiding a boom-bust in China’s economy is in everyone’s interest. Second, a slowdown in China would have only very small direct impacts on the United States since U.S. goods exports to China in 2009 accounted for just 0.5% of U.S. GDP. And, third, slower Chinese growth, by cooling recently hot global commodity prices, might even be seen as a positive for the U.S. economy. Looked at from a logical perspective, Chinese tightening moves may not be as scary. (source: JP Morgan Asset Management)
Sports, Culture & Politics
* Why Washington Can’t Fix Healthcare… Link to http://www.realclearmarkets.com/articles/2010/02/15/why_washington_cant_reform_healthcare_97634.html
* Effective Sept. 1, when U.S. forces, under orders from U.S. President Barack Obama, are expected to cease all combat operations in Iraq and transfer full authority to Iraqi forces, Operation Iraqi Freedom will officially conclude. The new name of the U.S. mission in Iraq will be Operation New Dawn, symbolizing a new phase in U.S. military engagement in the Middle East. (Stratfor)
* As of Monday, the U.S. Olympic Team has won 25 medals in Vancouver, more than half of its total winnings in Salt Lake City, formerly the best U.S. winter Olympic performance ever. According to The Wall Street Journal, the U.S. team threatens to turn this into an unexpected “romp” with all of the success its having.
The weekend’s top-five box office performers as reported by The New York Times were:
1) Shutter Island, Paramount, $40,200,000
2) Valentine’s Day, Warner Bros., $17,160,000
3) Avatar, Twentieth Century Fox, $16,100,000
4) Percy Jackson…, Twentieth Century Fox, $15,300,000
5) The Wolfman, Universal, $9,846,000

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