MarketView for February 29

 

 

Summary

 

Stocks slipped on Wednesday, snapping a four-day winning streak after comments from Fed Chairman Ben Bernanke disappointed investors hoping for some sort of an indication that additional stimulus could be forthcoming down the road. Bernanke offered a tempered view of the U.S. economy, pouring cold water on the notion that recent upbeat signs herald a stronger recovery. But he gave no hint of new asset purchases, which the Fed has used in recent years to boost growth.

 

The Fed chairman's comments drove the dollar up 0.7 percent against a basket of major currencies and sent materials lower. Gold fell 5 percent in late trading. Yet, the scope of the day's decline indicates only modest profit-taking after a five-month rally that has driven the S&P 500 up 8.6 percent since the end of December.

 

Reports suggesting more improvement in the economy helped to curb the day's losses as the Nasdaq briefly topped 3,000 for the first time since mid-December 2000. The Nasdaq's move follows the Dow's close above 13,000 for the first time since May 2008 on Tuesday, the latest in a string of new milestones for the market. The tech sector, which drove Tuesday's advance, helped lead the retreat, with the Philadelphia Semiconductor index down 1.6 percent.

 

For the month, the Dow gained 2.5 percent, the S&P 500 rose 4.1 percent and the Nasdaq climbed 5.4 percent. However, keep in mind that the year's rally has come on light volume, noting that hitting new highs could spark selling on technical triggers.

 

In February, the daily volume of shares changing hands on the three major equity exchanges averaged 6.87 billion shares. Last year, the average daily volume in February was 7.81 billion shares. Yet, Wednesday's volume flew in the face of the recent trend, with composite trading volume at the highest level since December 16 coming in at 8.3 billion shares.

 

Among reports that helped to limit losses, the Fed said in its Beige Book that the U.S. economy expanded modestly in January and through mid-February. Other economic data showed the U.S. economy grew slightly faster than initially thought in the fourth quarter, while the pace of business activity in the Midwest picked up in February to its highest level in 10 months.

 

The Chicago Purchasing Managers Index, with improvement in new orders and employment gauges, advanced the perception of a continuing recovery in key economic sectors. The Institute for Supply Management's national manufacturing report is due out on Thursday.

 

Among the day's decliners, Lufkin Industries fell 2.3 percent to close at $79.64 after the seller of oilfield pumping units and power transmission products said it will acquire UK's Zenith Oilfield Technology Ltd for about $127 million in cash.

 

Economic Data Continues To Support Growth Outlook

 

The economy grew slightly faster than initially thought in the fourth quarter and a gauge of factory activity in the Midwest hit a 10 month-high in February, pointing to underlying strength in the economy. Gross domestic product expanded at a 3 percent annual rate, the quickest pace since the second quarter of 2010, the Commerce Department said on Wednesday in its second estimate.

 

The reading, which was up from the 2.8 percent pace the government reported last month and reflected modest upward revisions to almost all components of GDP, added to the recent run of fairly upbeat economic reports. The tone of the GDP report was further bolstered by upward revisions to income and savings data, which should help support consumer spending in the face of rising gasoline prices.

 

A steady stream of fairly upbeat data ranging from employment to manufacturing has caused analysts to temper expectations of a sharp pullback in growth this quarter. First-quarter GDP growth is seen between 2 and 2.5 percent.

 

In another report, the Institute for Supply Management-Chicago said its measure of manufacturing in the Midwest region rose to a 10-month high of 64 in February from 60.2 in January. A reading above 50 indicates expansion in the regional economy. Activity was boosted by a jump in new orders to a near one-year high and a backlog build-up.

 

The report, which also showed regional factory employment at its highest since May 1984, was in stark contrast with a sharp decline in demand for long-lasting manufactured goods in January reported by the government on Tuesday.

 

The consensus is now that the Institute for Supply Management's report on overall manufacturing activity, to be released on Thursday, is expected to come in at around 55. Stocks on Wall Street initially rose on the data, but reversed gains to end lower amid disappointment that Federal Reserve Chairman Ben Bernanke gave no signal for further monetary stimulus. However, prices of Treasury debt, a traditional safe haven, fell on the signs of economic improvement. The dollar rose 0.7 percent against a basket of currencies.

 

Better economic data has reduced expectations that the Fed will ease monetary policy further by launching a third round of asset purchases, or quantitative easing, in order to drive down long-term interest rates and help boost economic activity.

 

Chairman Bernanke, in semi-annual testimony to Congress on Wednesday, offered no hints as to whether the U.S. central bank would undertake more bond purchases, but he said the labor market was far from normal. "Continued improvement ... is likely to require stronger growth in final demand and production," he said.

 

While data so far this year has been relatively upbeat, some of the gains reflect unseasonably warm weather. Analysts are watching gasoline prices, which early last year contributed to a softening in the economy that nearly pushed it back into recession.

 

Retail gas prices have jumped 12.6 percent, or 42 cents a gallon, since the start of the year and averaged $3.78 a gallon in the week through Monday.

 

A report from the Fed showed the economy expanded modestly in January through mid-February as hiring picked up a bit across several districts. Recent employment gains are helping the economy.

 

The GDP report showed consumer spending - which accounts for about 70 percent of U.S. economic activity - grew at a 2.1 percent rate in the fourth quarter, revised upward from 2 percent.

 

Real disposable income growth was revised upward to a 1.4 percent rate from 0.8 percent. The saving rate was raised to a much stronger 4.5 percent rate from 3.7 percent.

 

There were also modest upward revisions to business investment in capital goods and spending on home building. Investment in nonresidential structures was modestly weak. Still, the pace of business spending was the slowest since the 2007-09 recession ended. While a rebuilding of inventories added a hefty 1.88 percentage points to GDP in the last quarter, the increase was revised down to $54.3 billion from $56.0 billion.

 

Excluding inventories, the economy grew at a 1.1 percent rate, up from the 0.8 percent rate initially reported, but a sharp step-down from the third quarter's 3.2 percent pace. The report also showed exports were not as strong as previously thought, but imports were not robust, leaving a smaller trade gap that was less of a drag on growth.

 

Government spending was weak, hurt by a steep decline in defense outlays. Inflation pressures toward the end of the year were slightly elevated, instead of subsiding as the first report had said.

 

A price index for personal spending rose at a 1.2 percent rate instead of 0.7 percent. A core measure that strips out food and energy costs rose at a 1.3 percent rate instead of 1.1 percent. The Fed would prefer to see this measure nearer its 2 percent inflation target.

 

Bernanke Lukewarm on Economy

 

Federal Reserve Chairman Ben Bernanke on Wednesday offered a tempered view of the economy, pouring cold water on the notion that recent upbeat signs herald a stronger recovery. Bernanke told Congress that unless growth accelerated, the unacceptably high unemployment rate would not keep dropping. However, he stopped short of signaling further Fed bond purchases, dashing the hopes of some traders in financial markets who were betting on more monetary stimulus.

 

"The job market is far from normal," Bernanke said. "Continued improvement ... is likely to require stronger growth in final demand and production."

 

"The decline in the unemployment rate over the past year has been somewhat more rapid than might have been expected, given that the economy appears to have been growing during that time frame at or below its longer-term trend," Bernanke told the U.S. House of Representatives Financial Services Committee.

 

While the tenor of Bernanke's remarks was dovish, the lack of a direct allusion to the possibility of a third round of so-called quantitative easing undercut prices for stocks and government bonds, and hit gold prices hard. Gold slumped more than 4 percent, the largest one-day drop this year.

 

Sustaining a highly accommodative monetary policy stance is consistent with the Fed's goals of achieving full employment with low and steady inflation, Bernanke said. Asked whether the Fed was hurting savers with its easy monetary policy, Bernanke said a case could be made that interest rates should be even lower and that savers would benefit from a stronger economy.

 

"It is arguable that interest rates are too high, that they are being constrained by the fact that interest rates can't go below zero," he said.

 

Cleveland Federal Reserve Bank President Sandra Pianalto on Tuesday said it could take four to five years to ratchet the jobless rate down to about 6 percent.

 

Bernanke also addressed the recent rise in oil prices, which he said could both raise inflation for a time and curb consumption. "Gasoline prices have moved up ... (which is) a development that is likely to push up inflation temporarily while reducing consumers' purchasing power," he said.

 

Strong jobs and factory data since the Fed last met have eased worries growth would slow sharply early this year, and have scaled back expectations for a further easing of monetary policy. Some financial market participants thought Bernanke's nod to potential price pressures from energy costs, however qualified, marked a heightened level of vigilance on inflation.

 

Nervousness about oil supplies has pushed prices for crude to 10-month highs, although prices fell on Wednesday as data showed higher-than-expected oil inventories. Gasoline prices are rising toward $4 a gallon, posing a risk to the recovery. Average gasoline prices are now at nearly $3.72 per gallon, up from $3.37 a year ago. If tensions with Iran, a major producer, continue into the summer driving season, prices at the pump could rise even more.