Daily Insight

It looked like markets were going to set aside the Wal-Mart (WMT) earnings surprise yesterday and focus on the retail sales and jobless claims. Futures markets had indicated a positive triple-digit open, but had a tepid open on the economic news only to fall 60 points in the first half hour of trading.

Throughout the day, the Dow and crossed between positive and negative territory almost a dozen times, but ended on a positive note. Just as with yesterday, there was no single defining event to point to, but appears to be nothing more than increased optimism about the economy.

Market Activity for August 13, 2009

On the plus side, there were three pieces of good news to look at. First, the market was happy to see the WMT news. Analysts had expected the retail giant to report earnings of $0.85 per share and instead WMT surprised the market to the upside and announced actual earnings of $0.88 per share. The stock gained $1.37 per share, or 2.71 percent.

I am often asked why the market gets so excited over just a few pennies. The answer is that it is a few pennies per share. WMT has almost 3.9 billion shares outstanding, so this earnings announcement means that WMT’s profit for the quarter was $117 million more profit than analysts had expected. That’s why those pennies are worth so much!

The second piece of good news was that John Paulson of the bought $168 million shares of Bank of America (BAC). Who is John Paulson, you ask? He is a renowned hedge fund manager who not only foresaw the subprime crisis, but turned $2 billion of his client’s money into $15 billion in 2007 by betting against housing. His results were more modest in 2008, earning only 37.6 percent while the market fell 37 percent.

In short, it’s a big deal when he makes a move. Unlike a lot of the bets on the subprime market which were done with securities without much transparency, he had to file his new ownership stake in BAC. He is now the fourth largest shareholder and he has already made a good deal of money on the buy.

Just because he has bought shares, doesn’t mean they are a buy today, though. His purchases were between $6.82 and $14.17 (the high and low during the second quarter) and the stock now trades at $17. That means he has earned between 20 and 150 percent on his trade, which isn’t bad for a $1 billion plus investment.

The third factor in yesterday’s jump was the continued evidence that credit markets are getting back to normal. One of the more technical measures of credit markets is the LIBOR-OIS spread. While it’s probably not critical to explain what these two rates are, suffice it to say that spreads have tightened to what most consider normal levels.

The negative factors weighing on the market were the retail sales and jobless claims data. As we mentioned yesterday, retail sales were expected to be positive, but fell by 0.1 percent instead. Even worse, retail sales ex autos, fell by 0.6 percent. This is considered a broad measure of consumer spending, which, in turn makes up roughly 70 percent of economic activity. Obviously, consumers are still concerned about job losses and stagnant incomes and are continuing to tighten their belt.

The jobless claims showed that 558,000 Americans filed initial claims for jobless benefits last week. While you can’t get more timely than last week, initial jobless claims are discounted to some degree because they can be so volatile. Plus, economists were expecting 545,000 claims, so the number wasn’t too far from expectations. The four-week moving average was 565,000.

Futures are unchanged following the release of the Consumer Price Index (CPI) data, which showed that the cost of living in the U.S. was unchanged month-over-month. Year-over-year the index that tracks inflation fell 2.1 percent, a bigger decline than expected. Peter will pick apart the releases for you on Monday. Until then…

Have a great weekend!


David Ott, Partner

Fixed Income Recap

Treasuries opened mostly flat yesterday, before weak July retail sales data sent bonds higher. The headline number posted -.1% for July, compared to +.8% expected. Stripping out autos the number was still a disappointment, -.6% compared to +.1% expected. The biggest contributor to the upside was from the automotive sector, which was not surprising considering the popularity of the cash for clunkers program, but was more than offset by weakness in gas station and building materials sales.

Bonds leveled off mid-morning before the strong auction results boosted prices going into the afternoon. $15 billion of 30-year bonds were sold at a high yield of 4.541%, with a bid/cover of 2.54. The bid/cover is the ratio of bids to the amount actually sold to bidders, and is used as a gauge of demand. Yesterday’s auction was considered strong compared to an average of 2.43 over the past four 30-year auctions.

As I write July CPI has just posted no change MoM and +.1% Ex Food & Energy, in line with expectations. Bonds have rallied on the news. More on this number on Monday.


Cliff J. Reynolds Jr., Investment Analyst

Wal-Mart beats earnings expectations

Wal-Mart’s earnings beat the consensus earnings view on strong international growth and efficient inventory management.

Excluding currency effects, revenue grew 2.7%, led by the international segment’s 12% increase. This is a trend we can expect to continue as the company penetrates developed and emerging international markets. The company hinted during the conference call that they may continue to be on the prowl for acquisitions that could boost international growth.

U.S. revenue was weaker, with same-store sales falling 1.5%, which was partially a result of stimulus checks the year-ago period benefited from. The third quarter should have an easier comparison and, thus, show some improvement.

Operating margins improved 0.3 percentage points sequentially to 7.6%.

Management said that the Wal-Mart customer is still being pinched by the recession, evidenced by less spending at the end of the month, using more cash than credit, and buying basics and putting off discretionary purchases.

Wal-Mart has gained market share thanks to their low-cost reputation, but it is difficult to know whether or not their new customers will trade up once the economy improves. In attempt to keep customers coming back, Wal-Mart has focused on its shopping environment by remodeling stores with less clutter and better merchandising.
WMT shares finished the day +2.71%
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Peter J. Lazaroff, Investment Analyst

Harris proves analysts wrong

On Tuesday I wrote that several analysts had downgraded Harris because they believed weakness in the company’s tactical radio business would cause the firm to miss earnings estimates and lower guidance.

Turns out these guys were way off and Harris easily beat earnings estimates and also boosted the low end of their full-year earnings forecast. The raised outlook was a very significant upside surprise relative to expectations.

Revenues for the quarter rose 4% to $1.29 billion, compared with the average estimate of $1.21 billion. Orders rebounded significantly in all three businesses and, more importantly, the steep fall-of in orders expected in the high-margin tactical radio unit (RF Communications) did not materialize.

Management said increasing U.S. troop levels in Afghanistan provided RF Communications with the most significant boost in orders across all of Harris’ business segments. This is somewhat ironic because increasing troop levels in Afghanistan was the main reason multiple analysts lowered future revenue forecasts for Harris’ tactical radios.
HRS shares finished the day +12.14%

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Peter J. Lazaroff, Investment Analyst

Daily Insight

Major market indexes broke a two day losing streak with a powerful rally based on … well, it’s hard to say. All of the post-mortem articles about yesterday’s rally attribute the rally to statements from the Federal Reserve, but the Bernanke & Co. didn’t come out with their announcement until 2:15 and the market had been surging since 10 am.

When the rally first got started, the gains were attributed to better than expected earnings from Macy’s. It’s hard to see how this could really push the market, though, since this is a distressed mid-cap stock, the source of improvements were related to cost cutting in spite of weak sales, and it still lost money for the quarter.

In my opinion, a strong rally from a weak data point indicates that markets are not trading on fundamental values at the moment. Just as markets were unjustified in their 25 percent drop earlier this year, the 50 percent rally from the low in March seems to have allowed optimistic euphoria to carry a day like yesterday even when it doesn’t seem well founded.

Market Activity for August 12, 2009

Even though the Fed announcement didn’t end up carrying much weight in the stock or bond market yesterday, the news was good. (There was a rally after the announcement, but it faded back to pre-announcement levels before the end of the day.)

First, it was reassuring to hear the Fed say that “economic activity is leveling out,” which fits with the conventional wisdom that the recession is ending. The bigger news, though, is that the Fed is removing one of the lifelines by announcing that it would not purchase more Treasury bonds after October.

To keep interest rates low across the board, the Fed engaged in a massive buying spree in the mortgage, treasury and agency bond markets. This is known as quantitative easing because it injects liquidity into the economy. They couldn’t push interest rates below zero and this was a strategy that the U.S. had not engaged in before but had it been done in other parts of the world, most notably Japan.

By announcing the end of the Treasury program, the Fed is signaling that they are beginning to withdraw the support that they had put in place during the crisis. This isn’t to say that everything is fine and dandy, though, because many of the lifelines are still in place and the Fed will still own all of the Treasury bonds that they bought, they just won’t be buying any more.

In addition to saying that the economy seems to be stabilizing and that the Treasury purchase program will end in October, the Fed was clear that they do not view inflation as an immediate threat. Their exact language remained unchanged - that inflation will be ‘subdued for some time.’

Markets are set to open higher this morning, though some early enthusiasm has been reduced with the retail sales data from the Commerce Department. Earlier, markets showed a triple-digit rise for the Dow based on earnings news from Wal-Mart.

Retail sales fell 0.1 percent in July, despite the ‘cash for clunkers’ program that was so successful it ran out of money in the first week. Retail sales ex-autos fell by -0.6 percent, well below expectations. Retail sales are an important measure of broad consumer spending patterns, so this may put more of dent on the markets as the bell rings.

Have a great day!


David Ott, Partner

Fixed Income Recap

FOMC
The FOMC pleased the market yesterday with its comments following two days of meetings that concluded Tuesday. The most important topic this time around, which I have touched on pretty heavily this week, is the Fed decision on Treasury Purchases and other forms of quantitative easing. Before yesterday’s comments, the Fed’s Treasury purchases were scheduled to conclude before the end of September. The Fed has decided to extend the purchases to the end of October, while leaving the original $300 billion target unchanged. The other two programs – $1.25 trillion in MBS and $200 billion in agency bonds - will end in December as originally scheduled.

This is a good sign from the Fed. They are reluctant to talk exit strategies at this point, which I think is appropriate, but by coming out and telegraphing how the security programs will end the Fed is taking a step in that direction. In the Fed’s eyes, the US economy is stabilizing enough to not warrant such an aggressive program, so slowing the pace down can be viewed as a type of easing. I know that may be a little bit of a stretch but it’s still a positive sign.

The Fed sees that, “economic activity is leveling out”, a positive change from, “the pace of economic contraction is slowing”, in the June meeting statement. We also got the standard, “The Committee… continues to anticipate that economic conditions are likely to warrant exceptionally low levels of the federal funds rate for an extended period.”

The Fed pretty much gave the market what they wanted. They outlined the end of the Treasury purchase program, noted that they see the contraction coming to an end and more or less left it at that.


Cliff J. Reynolds Jr., Investment Analyst

Fixed Income Recap

Despite the strong 3-year auction and weakness in stocks the short end was unable to break out of its pre-FOMC deadlock. The 3-year was already a little higher by the time the $42 billion auction drew to a close and was mostly unchanged by the results, but finished the day a few bps tighter than the auction level.

Eyes will be on the Fed today as the market waits for the committee’s comments regarding bond purchases. They will for sure comment on the progress, but the Fed might not be perfectly clear about whether they plan to shutter the Treasury program after the last of the $300 billion is spent in September or extend it to the end of the year. At this point I think the Fed needs to come out and be pretty clear here. People are certainly expecting to hear something meaningful one way or another, so I fear that saying nothing could just throw a wrench into this market, which would not be good.


Cliff J. Reynolds Jr., Investment Analyst

Daily Insight

Following a steep run-up in recent weeks on the strength of better-than-expected earnings, stocks fell for the second consecutive day as investors take pause amid a lull in new economic data and focus attention on today’s Fed policy decision. It is widely expected the Fed will hold interest rates steady at near zero, but the group’s economic assessment will be closely studied to determine the state of the economy.

All ten sectors finished lower with financials dropping the most on concerns that the sector’s earnings may pull back and the possibility of higher interest rates. Volume was relatively low with only 1.2 billion shares trade on the Big Board.


Market Activity for August 11, 2009
Productivity and Wholesale inventories

Productivity surged between April and June, increasing at an annual rate of 6.4%, marking the largest gain in almost six years and easily beating the Bloomberg forecast of 5.5%. The growth was not a result of improving production, but rather a result of employers cutting the number of hours worked faster than the decline in output. These efficiency gains, however, provides the basis for a recovery in corporate profits and investment in the second half of 2009 – aggressive cost-cutting helped many companies exceed earnings expectations last quarter despite weak sales. Solid productivity growth also keeps the lid on prices and inflation, which gives the Fed justification for keeping rates lower for longer.

Meanwhile, unit labor costs fell 5.8%, the biggest decline since 2000 and far more than the expected drop of 2.5%, which may be read as a positive signal for the employment since companies may not need to layoff as many workers as sales stabilize.

Wholesale inventories showed a 1.7% decline in June, larger than the expected 0.9% drop. Durable goods, particularly in the professional equipment sector, led the decline. Total sales rose 0.4% thanks to a 4.5% boost in the automotive sector. The inventory-to-sales ratio – the amount of time it would take to deplete inventories at the current sales pace – improved from 1.28 months in May to 1.26 months in June. No surprise that after ten straight months of decline, inventories sit at the lowest level in more than two year. Companies’ hesitancy to restock in the face of weak demand has added to the severity of the downturn, but retail volumes are showing signs of stabilizing and there is a strong possibility that production will ramp up with even the slightest increase in demand.

Rising productivity and falling inventories fits well with the general consensus that a big inventory rebuild is going to boost both GDP and corporate profits. The inventory destocking in the second quarter took away from GDP, so even if inventories are flat in the third quarter, the drag to GDP would disappear. This idea that the inventory dynamic may mathematically provide a temporary boost to GDP is valid, but the sustainability of such an upturn is seriously questionable because inventory can again be a drag on future GDP if it is slowly depleted. In other words, people won’t necessarily buy stuff just because its there.

In our minds it all still hinges on consumer demand, which will be slow to recover in light of a weak job market, stagnant wages, and falling home values. Without strong consumer demand, any inventory dynamic that boosts third-quarter GDP won’t be lasting, and the odds of a letdown in the fourth quarter or 2010 become greater.


FOMC
The markets will be carefully attuned today to the Fed’s meeting statement, searching for clues regarding how soon and how aggressively the Fed can withdraw its support of the economy. The statement released following the June 23-24 FOMC meeting showed a modest upgrade of their assessment of the economic, which in turn lowered the probability of deflation even though the statement indicated, “Inflation will remain subdued for some time.” Today’s remarks will likely continue to reflect cautious optimistic view so as not to spark inflation concerns.

The first Fed rate increase is not likely to occur until late 2010 or even 2011. Historically, the Fed has never lifted rates when unemployment was rising, it has always occurred when unemployment started to move substantially lower. Despite last week’s July employment report showing improvement, sub-par growth will keep the unemployment rate higher than in a typical recovery. As a result, policy makers are expected to be extremely measured in their removal of policy accommodation.


Have a great day!


Peter J. Lazaroff, Investment Analyst

Amgen (AMGN) trades higher in advance of FDA panel

Amgen (AMGN) shares received a boost just two days before the FDA votes whether to support denosumab as an osteoporosis treatment in post-menopausal women and to help prevent bone loss in treat cancer and prostate cancer patients on hormone therapy.

The shares rallied after a study released showed that denosumab prevented fractures and strengthened bones in men taking hormone therapy for prostate cancer. Almost exactly a month ago, AMGN released encouraging Phase 3 trial results for denosumab in breast cancer patients.

A potential blockbuster like denosumab could eventually generate $2 billion to $3 billion of annual revenues, which could help take the pressure off Amgen’s other drugs, which are facing higher scrutiny from the FDA as well as increased competition from both branded and biosimilar (generic biologic) drugs.

AMGN shares finished the day +2.56%
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Peter J. Lazaroff, Investment Analyst

Analysts get bad signal from Harris (HRS) radio business

Harris Corporation (HRS) is down more than 6% today as analysts anticipate poor earnings results, which are due to be released after the close of trading on Wednesday, and lowered earnings guidance.

The concerns in several analyst reports are centered on the company’s tactical radio business, known as RF Communications. RF Communications’ radios are like the iPhone of walkie-talkies. Mainly used by the military, the radios are encrypted to prevent eavesdropping and have the ability to send data and videos. Aside from working with the military, RF Communications has a public safety and professional communications business.

This high-margin business segment was a major driver of Harris’ earnings for the past several years, but is now faced with order delays that are largely a result of the change in administration and the shift in military focus to Afghanistan from Iraq.

HRS shares finished the day -7.84%

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Peter J. Lazaroff, Investment Analyst

Daily Insight

Stocks got off to a slow start this week as investors questioned the S&P 500’s highest valuation, relative to earnings, since December 2004. Commodity producers and retailers were the main culprits dragging down the S&P 500. Meanwhile, the increasing VIX index showed that options trades are betting that the S&P 500’s rally won’t last through September.

I received a lot of feedback yesterday regarding my discussion on REITs and the accompanying write-up on our blog, some of which were requests to add U.S. REITs to the performance table. Ask and you shall receive…

Market Activity for August 10, 2009



FOMC

The Federal Reserve’s policy makers meet over the next two days and will likely discuss their quantitative easing measures, which helped unfreeze credit markets by holding down yields on Treasuries. When the Fed unveiled its strategy, deflation was the market’s primary concern. Now that credit costs are returning to pre-crisis levels and recovery expectations are growing, the inflationary risk posed by the Fed buying Treasuries is a bigger risk to bond prices than its exit from the market.

The market is concerned that the money printed to fund the program will fuel inflation, and we would likely see a positive reaction to the Fed’s nonrenewal of their quantitative easing program. Exiting this program would provide a clear signal to the world that the Fed is determined to control inflation before it starts. Low inflation makes Treasuries’ coupon payments more desirable, keeping yields in check longer. This is especially important during a period in which foreign buyers, particularly China, are apprehensive about the value of their investments in U.S. debt. We need these foreign buyers to help soak up the record issuance of U.S. government debt to cover the cost of putting a floor under the economy.

While ending the quantitative easing program should calm some of the inflation fears, these purchases could still lead to inflation pressures on a longer horizon and, appropriately, inflation expectations might come earlier.

The other always important topic being discussed will be the Fed’s target for the federal funds rate, which broadly influences borrowing costs. For some of the newer Daily Insight readers, the federal funds rate is an overnight rate banks use to lend to each other. The federal funds rate serves as a benchmark for all other short-term interest rates including the prime rate, the benchmark for most consumer and commercial lending, and short-term Treasuries.


Fed funds rate and stock prices
Over most of the past 50 years, changes in the fed funds rates have been a very good predictor of future stock prices. Using research from Jeremy Siegel’s Stocks for the Long Run, the table below shows the returns on the S&P 500 Index following a change in the fed funds rate over 3,6, 9, and 12 month periods. The benchmark represents an average of all the time periods in each particular sample – for example, the average of every 3-month time period between 1955-2006.


As you can see, the Fed’s actions have a dramatic effect on stock prices. Stock returns following an increase in the federal funds rate are significantly less than average, while stock returns are significantly higher than average when the federal funds rate decreases. Now, I know some people will glance at this table and think they can beat the buy-and-hold strategy by buying stocks when the Fed is lowering rates and selling stocks when the Fed is increase rates. But if you look at the entire table, this trend (like all trends) is hardly foolproof. Since 2000, the impact of the Fed’s interest rate changes on the stock market has been the complete opposite of the historical record.

Why has this occurred? It is possible that investors have become so accustomed to watching and anticipating Fed policy that the effect of its tightening and easing is already priced into the market so that the impact of Fed actions extend over a period of a few days rather than over several months. After all, if investors expect the Fed to do the right thing to stabilize the economy, these expectations will be built into stock prices far before the Fed even begins to take stabilizing actions.

Of course, there is no perfect explanation for the runs of good or bad returns in the stock market. If you spend enough time data mining, then you will find all sorts of apparent trends in historical data. As Burton Malkiel, author of A Random Walk Down Wall Street, so eloquently stated: “Technical results have been tested exhaustively…The results reveal conclusively that past movements in stock prices cannot be used to foretell future movements. The stock market has no memory. The central proposition of charting is absolutely false, and investors who follow its precepts will accomplish nothing but increasing substantially the brokerage charges they pay.”

For more commentary on the Fed funds rate, check out Cliff Reynold's Fixed Income Recap.


Have a great day!


Peter J. Lazaroff, Investment Analyst

Fixed Income Recap

Yesterday was without an economic release resulting in a slow, low volume day in bond land. The snail like pace will continue today as most of the market is waiting to hear if the FOMC will say anything big following the conclusion of their policy meeting on Wednesday.

It’s a foregone conclusion at this point that the Fed Funds rate will remain where it is for this meeting, a target rate of 0-.25%, but futures have shown an uptick in amount of people expecting an increase soon. Current data show that the market is leaning toward an increase in the Fed Funds rate to .50% by the January 27 meeting. If that were correct it would mark the first increase in the rate since June 2006 when it topped out at 5.25%, and would also be the first adjustment to the rate since December 2008 when it was floored.

Shorter-term yields have been on a steady rise since early July when the 2-year reached .904% on July 13. The same bond was yielding 1.222% after yesterday’s rally from 1.302% at the close of last week. While long term yields react more to inflation expectations, short term yields are more sensitive to Federal Reserve policy, and the recent rate movement is showing this increased chance of a Fed policy reversal. It is important to note that the recent selloff in the short end can be partially attributed to poor auctions in late July, but expectations for a reversal in Fed policy coming sooner rather than later made that section of the curve unfavorable at lower yields. The FOMC comments tomorrow, retail sales data on Thursday and CPI on Friday could make for a bumpy ride later this week.

CIT
Just to touch on a brief piece of news from last Friday that I missed in yesterday’s recap, CIT announced that it will be suspending dividends on its preferred stock effective immediately. CIT hasn’t had to pay preferred dividends since June 15, but since one of its issues was due to go ex on Friday they announced the suspension of dividends for all preferred stock. This is no surprise to the market - the market prices for the issues were unaffected by the news – but the move is expected to save CIT $50 million dollars each quarter, a drop in the bucket compared to the $10 billion in debt that is scheduled to come due in the next 18 months. The company currently has no prospects for refinancing their maturing debt, and has also drawn on the final $1 billion of the $3 billion in emergency financing they secured on July 20.


Cliff J. Reynolds Jr.

Quick Hits

• Corporate Earnings Are No Sign of Recovery
• Investing: Hold or Fold, but Don’t Waver
• Fed does not need more powers
• Big Macs and Moving Debt to Asia
• July Jobs Numbers Not All Their Cracked Up to Be

Daily Insight

Stocks finished the week strong as better-than-expected employment data gave investors reason to believe the recession is over. Nine of ten sectors gained, with the only loser in the broad-based rally being the energy sector. As you can see below, all domestic equity asset classes made solid gains but I want to make special note of REITs’ performance since they are not listed in the table.

REITs (real estate investment trusts) had a particularly impressive performance last week (up 16.80%) as investors anticipate some of the financially stronger REITs to shift from defense to offense. Faced with a deteriorating commercial real estate market and hundreds of billions in debt coming due in the next few years, REITs have generally been shunned by investors in 2009. However, REITs have been raising capital by slashing dividends, issuing new equity, and buying back their public bonds at steep discounts. Financially strong REITs have offered attractive yields for several months, but now REITs are getting a boost from investors as they prepare to unleash billion dollar-war chests to fund acquisitions of troubled properties on the cheap. To read more about this, check out my post on our blog from last week by clicking here.

Market Activity for August 7, 2009
Dissecting Friday’s Data

Much to everyone’s surprise, the unemployment rate actually fell in July, hitting 9.4% from 9.5%. Although this report continues to support the view that the recession ended in the summer of 2009, the decline in the unemployment rate was not a product of job creation, but rather due to people dropping out of the work force. If people drop out of the labor force, the unemployment rate can decline because fewer people would be considered jobless.

The July household survey showed the civilian labor force shrinking by 422,000 and employment falling 155,000. That translated into 267,000 fewer people listed as unemployed. The labor-force participation rate fell 0.2 percentage point in July to 65.5%. Once the economy improves, these people will likely return to the workforce, which will result in the unemployment rate climbing higher – for example, people who decided to return to school during the downturn will eventually return to the job search and help push unemployment higher.

Another factor that could keep the unemployment rate elevated is the considerable degree of structural unemployment, evidenced by the 53.5% of those unemployed because they have lost their jobs permanently – the highest figure since this data has been tracked. Structural unemployment, as opposed to cyclical unemployment, is caused by changes in the economy rather than the business cycle. The high number of people permanently laid off reflects the excess capacity that had developed in the economy over recent years in areas such as construction, financial services, retail trade, and auto production/sales. Even as the economy recovers, these displaced workers will likely be unemployed for a prolonged period.

The point to take away here is that we shouldn’t get ahead of ourselves. The improving trend of the labor market cannot be denied, but businesses are not about to start hiring people. Businesses will want to make sure that a sustained economic recovery is here before doing any substantial hiring. For this to happen, demand will need to improve – a process we believe will continue to be a slow one as households contend with weak income growth and balance sheet issues for some time.

Speaking of consumers’ balance sheet issues, the Friday’s consumer credit report showed borrowing by U.S. consumers dropped in June for the fifth straight month, the longest series of declines since 1991. Consumer spending, which accounts for about 70% of the economy, will take time to recover as households put off major purchases in light of a weak job market, stagnant wages, and falling home values.


Where do we go from here?

It seems like a long time ago when stocks were priced for the possibility that the global banking crisis would shut down the world’s financial infrastructure. Being a forward-looking indicator of the economy, stocks rallied since March in anticipation of the end to the recession. But it’s a bit of a head scratcher that stocks are now rallying because the recovery that stocks themselves predicted comes true.

The point I’m trying to make here is that it’s easy to be greedy here and pretend that the crisis never happened. But, it did happen. As a result, the financial system was left crippled and the government has taken on trillions in debt which will threaten the world economy with inflation and higher tax rates. I’m not necessarily saying that stocks can’t continue their progress – although they seem overdue for a small correction following the 50% jump from the March lows – but it would be foolish to think everything is back to normal and stocks will quickly return their 2007 highs.

Patience and discipline is crucial for all investors in this environment.


Have a great day!


Peter J. Lazaroff, Investment Analyst

Fixed Income Recap

Stocks were juiced to new highs for the year on better than expected employment numbers. Nonfarm payroll employment declined by 247,000 in July on a seasonally adjusted basis, much better than the -325k expected. June’s data was revised upward from -467k to -443k.

The main reasons for the better than expected numbers include a 28.2k addition to automotive manufacturing payrolls during a month that historically cuts some due to planned summer shutdowns, this surprise increase is exacerbated by the seasonal adjustment. Federal Government payrolls increased 12k and several service sectors were better than expected but unfortunately too much of the positive surprise compared to what was expected seems to be one time in nature. The auto industry has “cash for clunkers” to thank for the pop last month but that shaping up to be short lived.

Last week was the worst for Treasuries since the March of 2003. Yields were up across the curve every day but one last week to their highest levels since mid-June as investors continue to shed Treasuries in exchange for riskier investments like stocks and corporate bonds. The 5-year credit default swap index, which measures the cost that investors are paying for protection against default for 125 different companies, is at its lowest levels since May 30 2008.

The FOMC will meet this week, and while it is expected to leave the Fed Funds Target Rate unchanged at 0-.25%, a large question mark remains over the future of the Fed’s open market operations. Recent fedspeak has shown some member’s hesitation to increase the amounts dedicated to buying Agency MBS and debentures along with Treasury bonds, fearing the price instability that could ensue if the Fed does too much to keep rates low. Nonetheless it stands to be a heated topic and if the Fed comes out and states that all programs will end as scheduled it will mark the first real tightening of monetary policy during this latest cycle. But that is probably wishful thinking on my part. Something to the effect of, “We will continue to monitor market conditions before making a final decision” is more realistic. Especially considering the next meeting on September 23 will likely be the Fed’s final chance to extend the Treasury program before it completes.

Treasury supply for this week looks like this:
· Tuesday - $37 billion 3-year notes
· Wednesday - $23 billion 10-year notes
· Thursday - $15 billion 30-year bonds


Cliff J. Reynolds Jr., Investment Analyst