MarketView for August 13

Summary

 

Stock prices continued their downward trend on Wednesday as the credit crisis continued as a drag on the share prices of major investment institutions. Financial stocks fell for a second day on fears of more credit losses. The Texas securities commissioner said regulators were close to reaching a settlement that would force some banks to repurchase billions of dollars of the now-illiquid auction-rate securities at face value.

 

Adding to the negative view of the financial sector, four of Wall Street's biggest investment banks were downgraded by an analyst at Merrill Lynch & Co, who said the global credit crisis has worsened and may prompt investors to try to avoid the carnage.

 

At the same time a rebound in oil prices and weak outlooks being put forward by a number of retailers raised anxieties on Wall Street about the future of consumer spending. Retailers fell, after Liz Claiborne cut its 2008 earnings projection, citing economic concerns. At the same time, Macy's reduced its fiscal-year earnings forecast, warning that cutbacks in consumer spending could push sales down further at its stores. However, Macy’s which spent most of the session in the red, did manage to recover late in the trading day to end at $20.66, up 1.9 percent. Earlier, it had fallen almost $1 from Tuesday's close.

 

There were no sacred cows on Wednesday with Caterpillar earning a spot among the top drags among the stocks making up the Dow Jones industrial average after Deere & Co posted disappointing earnings. Deere's results added to evidence that the malaise from the housing slump was seeping into other areas of the economy.

 

Investors sold off shares of major banks and other financial firms, a day after JPMorgan Chase & Co (JPM.N: Quote, Profile, Research, Stock Buzz) said it had racked up an additional $1.5 billion in write-downs stemming from soured mortgage-related investments.

 

Merrill Lynch downgraded Citigroup, Goldman Sachs and Lehman to "underperform" and Morgan Stanley to "neutral". The Merrill analyst also cut his third-quarter and 2008 earnings forecasts and his price targets for those banks, as well as for JPMorgan Chase.

 

Another standout decliner was General Motors after Moody's cut its ratings on the automaker deeper into junk.

 

The NASDAQ managed to outperform the other indexes, helped out by Apple, whose shares rose following news it will expand sales of its iPhone in an alliance with Best Buy. Nvidia also helped out after the company announced late Tuesday that  it was undertaking a $1 billion stock-buyback program.

 

Crude Prices Rise

 

The price of crude oil futures for August delivery rose by $3 per barrel on Wednesday after a government report illustrated a major decline in fuel and crude inventories. Domestic sweet crude for August delivery settled up $2.99 per barrel at $116.00 after demand concerns sent prices down to a three-month low of $112.31 during intraday activity on Tuesday. London Brent settled up $2.33 per barrel at $113.47.

 

Gasoline stocks fell 6.4 million barrels in the week to August 8 as refinery throughput decreased, the Energy Information Administration said. Crude stocks fell by 400,000 barrels, the EIA data showed, while distillates inventories unexpectedly decreased. The inventory draw downs came after companies shut Gulf Coast facilities due to Tropical Storm Edouard.

 

Weakening demand, due to economic slowdowns, has weighed on oil, which has fallen sharply since reaching an all-time high of $147.27 on July 11. This was evident from the latest statistic indicating that Americans drove 4.7 percent fewer miles in June than they did a year ago as drivers cut back on trips due to high gasoline prices, the Transportation Department said on Wednesday.

 

The demand for crude fell by an average 800,000 barrels per day (bpd) year on year during the first half of 2008, marking the period the sharpest drop in 26 years, the EIA said on Tuesday.

 

Growth in emerging economies including China and India has sent oil demand surging over the past six years, sending crude up sevenfold at its peak. Additional support earlier this year came as investors rushed into commodities to hedge against inflation and the weaker dollar.

 

Support this week has also come from hostilities between Russia and Georgia, a key alternative supply route for oil and gas from the Caspian to Europe.

 

BP closed an oil pipeline and a natural gas pipeline running from its Caspian Sea fields through Georgia but said neither had been damaged. A third BP pipeline that runs through Georgia, the Baku-Tblisi-Ceyhan oil pipeline, was shut last week following an explosion in Turkey.

 

Crude Supplies Fall

 

The inventory levels of both crude oil and refined distillate products fell more than expected last week, taking Wall Street by surprise as imports took a hit from Tropical Storm Edouard, while gasoline logged a much larger-than-expected stocks fall as domestic refiners cut production,.

 

Gasoline inventories declined by 6.4 million barrels to 202.8 million barrels, more than three times greater than forecasts for a 2.1 million barrel draw, the Energy Information Administration said in its report for the week to August 8.

 

Stockpiles fell as gasoline production declined by 209,000 barrels per day. U.S. refinery crude oil runs were off 216,000 bpd at 14.82 million last week while refinery utilization slumped 1.1 percentage points to 85.9 percent, eclipsing a forecast 0.2 percentage point decrease, the report added. Weekly U.S. product imports fell 538,000 bpd, EIA noted.

 

Commercial crude oil supplies in the U.S. fell 400,000 barrels to 296.5 million barrels. The draw was twice analysts' projections of a decrease of 200,000 barrels. The fall came as imports of crude oil dropped 538,000 bpd last week, EIA said.

 

Supplies of distillate fuels, which include heating oil and diesel, showed a surprise draw of 1.7 million barrels to 131.6 million barrels. Analysts polled by Reuters had projected a build of 1.9 million barrels following 13 straight weeks of inventory builds.

 

A separate report by the American Petroleum Institute showed U.S. gasoline stockpiles dropped 5.9 million barrels last week. Crude oil stocks declined 2.0 million barrels while distillates logged a drawdown of 572,000 barrels.

 

Retail Sales Fall

 

Retail sales fell in July, thereby chalking up their weakest performance in five months, as a variety of economic woes combined to blunt the impact of billions of dollars in government stimulus payments.

 

According to a report released by the Commerce Department prior to the opening bell, retail sales were down 0.1 percent last month, the first decline since a 0.5 percent decline last February. The Street had been expecting a reading that was unchanged from the month before.

 

The weakness came after another decline in auto sales had Detroit faceing its worst sales month in 16 years. Automakers have been battered by the weak economy and record gasoline prices which have cut into demand for their profitable sport utility vehicles and pickup trucks.

 

If you exclude the autos, retail sales would have posted a 0.4 percent increase. While that was a positive reading, it was still the weakest showing for sales excluding autos in five months.

 

The problem is that much of July’s increase came from the large increase in sales at gasoline stations, which were up 0.8 percent. However, that increase reflected surging prices rather than increased demand. Gasoline pump prices hit an all-time high during the month at $4.11 per gallon. Without the rise in gasoline station sales, retail sales would have fallen by 0.2 percent in July.

 

For July, sales at department stores and other general merchandise stores rose by 0.3 percent, just half the 0.6 percent June increase. Sales at restaurants and bars, which have been hit hard by the current slowdown, were down 0.2 percent in July after a modest 0.3 percent June gain. Sales at furniture stores, which have been hurt by the steep slump in housing, rose by 1 percent in July but that followed a 1.2 percent decline in June.

 

The disappointing performance of retail sales means that consumer spending, which accounts for two-thirds of total economic activity, began the third quarter with a dismal start. At the same time, the outlook on the horizon looks bleak. Keep in mind that most of the economic stimulus payments, totaling $92 billion through the end of July, have been distributed. Furthermore, the stimulus payments had only a limited impact on consumer spending, the benefits being blunted by a surge in gasoline prices that was occurring at the same time.

 

Studies have shown that so far about only 20 percent of the stimulus checks have been spent with consumers choosing to save much of the rest of the payments. The administration argues that the checks will get spent in coming months, helping to lift economic activity for the rest of the year.

 

Private economists are not as optimistic. There is the opinion, held by this writer, that the effects from the stimulus will fade after the current quarter and activity in the final three months of this year and the first three months of next year will slump dramatically. Therefore, we believe that the gross domestic product will contract in both quarters, thereby fulfilling the classic definition of a recession.

 

Deere posts higher earnings

 

Deere & Co., the largest of manufacturer worldwide of farm machinery, reported on Wednesday that its third-quarter earnings increased 7 percent as high crop prices spurred stronger sales of tractors and harvesting equipment. The other side of the coin was that sales at the company’s consumer division, along with its construction and forestry equipment segments were lower. Add in the higher costs of raw materials, such as steel and rubber; hurt earnings to the degree that the company did not meet Street expectations, not that missing expectations is a critical factor.

 

Deere has benefited from soaring crop prices, driven by increased wealth and food demand from nations like China and India, along with higher consumption of corn-based ethanol for bio fuels. Farmers reaping rewards from higher food prices have been buying new equipment. Deere also has enjoyed an export boom as the dollar's decline overseas makes its machinery cheaper in most markets beyond North America.

 

Deere earned $575.2 million, or $1.32 per share, for the three months ended July 31, compared with $537.2 million, or $1.18 per share, during the same period last year. Quarterly revenue rose 17 percent to $7.74 billion.

 

Deere said equipment sales in the United States and Canada rose 6 percent during the quarter, while they gained 38 percent outside North America. According to the company, its agricultural equipment sales were up 35 percent during the quarter, bringing operating profit for that segment to $634 million.

 

Besides its green and yellow tractors and harvesting machines, the company makes construction and forestry equipment such as backhoes and excavators. It also manufactures consumer equipment including riding mowers, chain saws and snow blowers.

 

However, sales of its construction and forestry equipment fell 7 percent under pressure from a weak economy. The result was an operating profit of $93 million. Sales of commercial and consumer equipment dropped 1 percent, producing an operating profit of $91 million.

 

Deere said it expects equipment sales to jump by 21 percent for the full year and 29 percent for the fourth quarter of 2008. That would bring earnings to roughly $425 million, up from $422.1 million in the same period last year.

 

For the first nine months of the fiscal year, Deere said it earned $1.71 billion, or $3.89 per share, on $21 billion in sales. That compared with $1.4 billion, or $3.06 per share, on $17.9 billion in sales a year earlier. The shares are down about 23 percent since its last quarterly earnings announcement in May.