MarketView for August 26

Summary   

Wall Street left stocks little changed on Wednesday, despite solid reports on new home sales and durable goods orders. Nonetheless, the major equity indexes managed to just squeeze over the line into positive territory by the closing bell for the third consecutive day.

After a five-month run-up that has pushed the S&P 500 index up 52 percent from its 12-year closing low on March 9, the bear segment of Wall Street’s community continues to question the rally's strength even as economic data points to improved demand.

During July, sales of new homes rose at their fastest pace in 10 months, the Commerce Department's data showed on Wednesday, but the impact on the broader market was muted as some market players said it has already been factored in.

Durable goods excluding transportation rose 0.8 percent, below expectations, although overall durable goods orders posted the largest jump since July 2007, another Commerce Department report showed.

Nonetheless, industrial stocks fell somewhat, in part because China said it would take steps to curb overcapacity among steel and cement producers.

In earnings-related activity, Williams-Sonoma closed up 11.3 percent at $17.21 after the retailer posted a surprising second-quarter profit.

One of the top drags on the Nasdaq was Apple, down 1.2 percent at $167.41. However, topping Nasdaq's list of the largest percentage decliners was Concurrent Computer after the company indicated that it expects lower spending trends to continue in the first quarter. Concurrent’s shares ended the day down 17.6 percent, closing at $4.63.

Economic Data Remains Upbeat

Sales of new homes hit their highest level in 10 months in July and orders for long-lasting manufactured goods surged, offering fresh evidence a modest economic recovery was taking shape. The Commerce Department on Wednesday said sales of new single-family homes rose 9.6 percent from June to an annual pace of 433,000 units, the highest rate since September. It was the largest gain since February 2005 and it reduced the supply of unsold homes on the market to its lowest level in more than 16 years, another sign that housing activity had stabilized after a three-year slump.

A report showing mortgage applications rising for a second straight week, with demand for refinancing loans reading their highest level since early June, suggested home sales are still rising.

New orders excluding transportation climbed 0.8 percent in July for the first successive three-month advance since the first quarter of 2006. Even more encouraging, shipments of durable goods increased 2 percent.

In a third report, the Commerce Department said a surge in demand for aircraft pushed orders for durable goods up 4.9 percent last month, the largest advance in two years. The demand for transportation equipment rose 18.4 percent, the largest gain in three years, as civilian aircraft orders at Boeing increased and the government's "cash-for-clunkers" program, which gave buyers discounts to trade-in old gas guzzlers for new fuel-efficient cars, lifted auto demand. However, non-defense capital goods orders excluding aircraft -- a closely watched proxy for business spending -- slipped 0.3 percent in July after rising 3.6 percent the previous month.

The data was the latest to show that the economy's worst recession in 70 years was over or close to it, although the recovery could be restricted somewhat by sluggish consumer demand, owing to high unemployment. Highlighting the tight squeeze on households, a survey showed Americans will cut their travel plans for the summer-ending Labor Day holiday dramatically this year to save money.

While the housing sector appears to be recovering from a three-year slump, there are fears it could falter if a government tax credit of up to $8,000 for first-time home buyers is not extended. The credit is due to expire at the end of November. The inventory of new homes available for sale fell 3.2 percent to 271,000 units in July, the lowest since March 1993. At July's sales pace, that would be a 7.5-month supply, the lowest since April 2007.

Crude Prices Fall

The price of crude oil futures slipped on Wednesday, extending hefty losses from the previous session as rising crude stockpiles outweighed other positive economic data. Sweet domestic crude futures for October delivery fell 62 cents to settle at $71.43 a barrel, after falling $2.32 on Tuesday. Brent crude settled down 17 cents per barrel at $71.65.

The Energy Information Administration (EIA) reported on Wednesday that crude stocks in the world's largest energy consumer rose by 200,000 barrels last week due to a rebound in imports. The increase in stockpiles defied expectations for a 1.1-million-barrel drop, reigniting worries over soft recessionary demand.

Oil traders have been taking the opportunity to lock-in profits after crude touched the psychologically important $75 mark this week, crowning a nearly 130 percent jump in prices from the lows at the turn of the year. However, the failure to break through that key $75 level may signal that prices have topped out, with demand for oil still depressed by the global economic slowdown and murky signs of a broad recovery.

Venezuela's oil minister Rafael Ramirez said OPEC is unlikely to raise output at its September meeting, despite concerns from some quarters that oil prices are too high for a still fragile global economy. OPEC member Nigeria said later in the day it would not push for any change in output at the meeting, scheduled for September 9 in Vienna.

Higher Interest Rates Not In The Cards

The economy is in the early stages of a recovery but it is premature to start considering raising interest rates, Federal Reserve Bank of Atlanta President Dennis Lockhart said on Wednesday.

"I would not speculate on the timing. I would simply say that it is too early to be contemplating a rise in the fed funds target Lockhart told reporters. He was referring to the Fed’s overnight lending benchmark, which is currently pegged between zero and 25 basis points.

Some critics fear this ultra-low rate, together with the billions of dollars the Fed has flooded into credit markets to stop them seizing up last year during a global financial panic, means it should tighten policy sooner rather than later. "I am in the camp that believes that because of a somewhat subdued, if not lackluster recovery, that it would be advisable to be patient with that," he said. Lockhart is a voting member of the Fed's policy-setting committee this year. The Fed has doubled its balance sheet to around $2 trillion since the September collapse of investment bank Lehman Brothers pushed the financial system to the brink of failure.

Lockhart said that he expects the balance sheet to start to shrink of its own accord next year as bank demand for emergency Fed lending facilities eases. But he did not favor expanding Fed purchases of mortgage agency debt at this stage, although he did not rule it out if warranted, and was open-minded about tapering off the $1.45 trillion buying program rather than letting it end on December 31, 2009 as currently is the Fed's stated plan.

"The central issue is what we call the cliff effect ... stopping a program abruptly without signaling to markets a tapering off," he said. "I am personally aware of and concerned that market distortions could ensue from a poorly communicated exit from the MBS (mortgage backed securities) program, so I think it is very important that we condition the markets for whatever policy we chose to follow," he said.

Lockhart said that an economic recovery was in its early stages, but cautioned against expecting growth to quickly lower high U.S. unemployment. "My forecast for a slow recovery implies a protracted period of high unemployment," Lockhart said.

Unemployment stood at 9.4 percent in July and is expected to peak at 10 percent later this year as companies slash payrolls in the face of the longest recession since the 1930s Great Depression.

Lockhart said he expected inflation to remain contained, but also acknowledged that policymakers could not afford to leave simulative policies in place for too long. "The challenge my colleagues and I face is navigating between the risk that early removal of monetary stimulus snuffs out the recovery and the risk that protracted monetary accommodation stokes inflation expectations that could ultimately fuel unwelcome inflationary pressures," he said. The Fed must deal with this tension, particularly in coming quarters, as we pursue our dual mandate of price stability and maximum employment," Lockhart said.