MarketView for January 23

Summary

 

Wall Street closed out a holiday shortened week with the S&P 500 index closing higher as as some of the beaten-up financials began to show some life on hopes of further aid from Washington, offsetting a disappointing outlook from General Electric. GE was the primary reason that the Dow Jones industrial average did not join the S&P and the NASDAQ in positive territory when the closing bell rang.

 

GE's stock dropped almost 11 percent after the economic bellwether reported a substantial drop in combination with a warning of an "extremely difficult" 2009.

 

News that President Barack Obama and his economic advisers will meet on Saturday fueled hopes that the new administration will put together another rescue package for the ailing financial sector.

 

For the week, the Dow closed down 2.5 percent, the S&P 500 chalked up a drop of 2 percent and the NASDAQ was down 3.4 percent.

 

The NASDAQ was the best-performing index, led higher on Friday by large technology companies, including Google, whose shares rose 5.9 percent to $324.70 after the company's quarterly earnings beat estimates.

 

JPMorgan Chase and Bank of America were among the top-performing financial stocks. JPMorgan rose 5.1 percent to $24.28 and gave the greatest support to the Dow, while Bank of America's was up 9.3 percent to $6.24. Citigroup was up about 12 percent to $3.47.

 

Chevron was also among the Dow's best performers as March crude oil futures ended the day up in excess of  6 percent, or $2.80 per barrel, to settle at $46. Chevron gained 1.2 percent to $70.82.

 

In the afternoon,, the Dow briefly turned positive and quickly climbed almost 30 points, rising as high as 8,152.59. But the blue-chip average couldn't overcome the drag of GE and concerns regarding the weak business outlook in 2009 for some major industrial companies.

 

United Technologies, which was downgraded to "market perform" by Bernstein Research, lost 3.2 percent to $47.41. Also weighing on the Dow was Caterpillar, which dropped 4.2 percent to $35.66 after rival Komatsu Ltd lowered its profit forecast for the year, citing a sharp decline in global demand.

 

Crude Sharply Higher

 

Oil prices were higher on Friday on evidence that OPEC is complying with the bulk of its record output cuts. Domestic sweet crude for March deliver settled up $2.80 per barrel at $46.47, while London Brent settled up $2.98 per barrel at $48.37.

 

The price rise  came after oil consultant Petrologistics estimated OPEC production would fall by 1.55 million barrels per day in January as part of the cartel's efforts to meet a 2.2 million bpd reduction agreed in December.

 

OPEC is reducing output in reaction to a slide of more than $100 in oil prices since July as global economic weakness slams energy demand. Further support came from forecasts for another cold snap. Meanwhile, government data released on Thursday showed crude and fuel inventories continued to rise sharply as the recession erodes demand. Nonetheless, the news about inventories was outweighed by anticipation for a multibillion-dollar economic stimulus package from the new Obama administration, which drove prices higher late Thursday.

 

Freddie Mac to the Well Again

 

Freddie Mac said on Friday that it expected fourth-quarter losses may force it to draw up to $35 billion from the Treasury Department to maintain a positive net worth. The estimated draw means Freddie Mac may post a loss exceeding the record $25.3 billion for the third quarter, which reduced shareholders' equity to a negative $13.8 billion.

 

The Treasury closed the deficit with a purchase of senior preferred stock, a facility formed by the government as it seized Freddie Mac and home funding rival Fannie Mae in conservatorship in September.

 

The amount of the capital infusion "reflects management's current estimate of the impact on the company's net worth in the fourth quarter," Freddie Mac said in a filing with the Securities and Exchange Commission. The request would be made by its regulator, the Federal Housing Finance Agency, Freddie Mac said. The actual draw could vary widely as it finalizes financial statements, it added.

 

Freddie Mac would be using about half of its $100 billion Treasury lifeline that was put in place to ensure the company can continue its role as provider of funds for domestic housing, which is in its worst downturn since the 1930s.

 

Other sources of funding have shriveled during the credit crunch, enhancing the importance of liquidity from Freddie Mac, Fannie Mae and the Federal Home Loan Banks. Delinquencies on loans backed by Freddie Mac rose 0.2 percentage point in December to 1.72 percent, more than double that at the start of 2008, the company said earlier on Friday.

 

Shares of Freddie Mac and Fannie Mae have traded mostly below $1 since September as terms of the conservatorship nearly wiped out common and preferred shareholders. The debt of the companies has been buoyed by a Treasury backstop, and a Federal Reserve purchase program. Treasury injections will likely keep the companies operating as government entities for years to come.

 

Freddie Mac in its filing also said it has agreed to let JPMorgan Chase assume servicing rights to mortgages formerly under the control of Washington Mutual Inc.

 

GE Profit Falls 44 Percent

 

General Electric reported a 44 percent drop in quarterly profit on weakness at GE Capital and its lighting and appliance units, and warned that 2009 would be "extremely difficult." Its shares tumbled nearly 11 percent to their lowest point since early 1996 over worry regarding GE’s ability to maintain its dividend.

 

GE Capital, the company's Achilles heel for the past year, remained the largest drag on its results, with profit tumbling 67 percent. GE's energy infrastructure unit, which makes electric turbines and windmills, was the highlight, recording 11 percent profit growth.

 

Chief Executive Jeff Immelt said on Friday that GE’s financial performance reflected brutal economic conditions. "We're planning for a really tough environment," Immelt told analysts on a conference call. "The recession is tough, the financial services crisis is worse."

 

Wall Street remains concerned that GE may have to sacrifice its $1.24 per share annual dividend,

and could lose its coveted top-tier credit rating, after Standard & Poor's lowered its outlook to "negative" in December.

 

Immelt, 52, defended the dividend, calling it "a good return to investors in this moment of uncertainty. But we're not straining in order to pay it ... We've got lots of cash."

 

GE shares closed down $1.45 to $12.03, making it one of the heaviest drags on the Dow. Over the past year, GE shares have tumbled about 60 percent, sharply outpacing the 32 percent fall of the Dow. The shares trade at 6.9 times forecast 2009 earnings, a sharp discount to the Dow's forward price-to-earnings ratio of 11.3.

 

GE said fourth-quarter net income fell to $3.72 billion, or 35 cents per diluted share, from $6.7 billion, or 66 cents, a year earlier, as the company closed out one of the toughest years in its 117-year history. Revenue fell 4.8 percent to $46.21 billion.

 

The company, the only original member to remain in the Dow, stood by its 2009 outlook.

 

GE has ceased providing numeric per-share profit targets, instead opting to spell out a "framework" for how its individual businesses will perform. That calls for profit at its infrastructure units and its NBC Universal unit to be flat to up 5 percent for 2009, with GE Capital profit down about 40 percent.

 

Company officials on a conference call said they raised their forecast credit losses at GE Capital to $10 billion for the year, up from a previous forecast of $9 billion. They also noted that infrastructure equipment orders, an indicator of future sales, declined 11 percent in the quarter.

 

Chief Financial Officer Keith Sherin expressed confidence in the company's order backlog. "In a macro sense, for the total company, we've done a very rigorous job of making sure that what we put in our plan we thought, even with the economic problems that people have and even with the financial liquidity problems, that people are going to take those orders," Sherin said.

 

Pfizer Looking To Acquire Wyeth

 

Pfizer is in talks to buy Wyeth in a deal that is likely to come in at about $67 billion. Pfizer will likely offer about $50 per share for Wyeth, but the price may change as negotiations continue throughout the weekend. At $50 per share, Wyeth would fetch roughly $66.6 billion.

 

Such an acquisition, which sources said could come within days, would help Pfizer cope with a major gap in revenue in 2011 when its blockbuster Lipitor cholesterol treatment will begin to face U.S. generic competition.

 

The deal, if it comes about, would diversify Pfizer into vaccines and injectable biologic medicines by adding Wyeth's big-selling Prevnar vaccine for childhood infections and Enbrel rheumatoid arthritis treatment. Pfizer would realize major cost savings by streamlining areas that overlap.

 

But the deal also raises questions about whether another huge acquisition is the right medicine for Pfizer, which has struggled after digesting two huge deals in the past decade. And it threatens to spark another round of layoffs in the drug industry at a time the U.S. economy is already on its knees.

 

Pfizer has secured roughly $25 billion in funding for the Wyeth. Getting financing for the deal helps Pfizer surpass one of the biggest hurdles amid tight credit markets. Pfizer would pay more cash than stock in the deal, but final details have yet to be finalized. Pfizer would pay two-thirds of the cost in cash and a third in stock for Madison, New Jersey-based Wyeth, The Wall Street Journal reported.

 

Talks were accelerating on Friday and a deal could be announced in the near term. Pfizer had $26 billion in cash and cash equivalents and short-term investments on its balance sheet, as of its latest quarterly filing. It had $16.3 billion in short-term borrowings and long-term debt.

 

One complication to the financing is that some of the cash on Pfizer's balance sheet is overseas and it would have to repatriate those funds to purchase Wyeth. Pfizer may be able to purchase Wyeth's international assets separately and thus avoid the tax and foreign-exchange complications of repatriating funds.

 

Wyeth shares closed up $4.91, or 12.6 percent, at $43.74, while Pfizer rose 24 cents, or 1.4 percent, to close at $17.45.

 

The question for investors, many of whom continue to hold the stock largely because of its industry-topping dividend, is whether another acquisition of that scale will revive Pfizer over the long term, or only temporarily boost results.

 

Ultimately, a huge acquisition could make it harder for the merged company to grow from its larger revenue base and to prevent bureaucracy from stifling innovation. Pfizer exemplifies the overriding problem for many large pharmaceutical companies, many of which have struggled to produce new blockbusters to replace those on which they lose exclusivity.

 

Wyeth's market capitalization as of Thursday was about $52 billion, so at $60 billion, the deal would represent a 15 percent premium. Pfizer was valued at about $118 billion. Aside from Enbrel, for which Wyeth shares rights with Amgen, and Prevnar, Wyeth also is developing experimental Alzheimer's disease drugs, which could be a major opportunity.

 

Pfizer would also gain Wyeth's large consumer health division that includes Advil. Pfizer's fortunes rose initially after its Warner-Lambert and Pharmacia deals thanks to huge merger-related cost savings, and outright ownership of Lipitor from Warner-Lambert.

 

Recently its performance flagged and shares dropped to more than 10-year lows in late 2008, after savings dried up and its $7 billion-a-year research budget failed to bear much fruit.

 

Pfizer, which reports fourth-quarter earnings next week, has said it expects 2008 revenue to be roughly similar to its 2007 revenue of $48 billion. It expects decent profit growth thanks to deep cost cuts.

 

Hard Times at Harley

 

Harley-Davidson said on Friday it will slash more than 12 percent of its workforce and close several plants as it struggles with a global pullback in demand for its motorcycles. News of the layoffs and restructuring came as Harley reported a sharper-than-expected contraction in its fourth-quarter profit. The results, which were pulled down by a big loss at Harley's in-house finance unit, hammered its already battered shares, sending them to their lowest level in more than 10 years.

 

Harley said it was taking several actions to cut costs, including plant closures that would result in the elimination of 1,100 jobs over the next two years. The company employed about 9,000 workers at the start of this year, according to its most recent annual report.

 

This was Harley's second round of job cuts in the last nine months. In April, the company said it was laying off over 700 workers in response to a slump which, at that point, was largely confined to the United States. In the most recent quarter, Harley said its net income fell 58 percent to $77.8 million, or 34 cents a share, from $186.1 million, or 78 cents a share, a year earlier.

 

Worldwide retail sales of Harley motorcycles fell 13.1 percent during the quarter, pulled down by a 19.6 percent drop in the U.S. But sales also fell in once-robust overseas markets, including Latin America, which saw a 28 percent decrease.

 

In response to the slowdown, Harley said it would slash its motorcycle production in 2009 by as much as 13 percent. Along with the production cuts, Harley said it would combine its two engine and transmission plants, consolidate paint frame operations into one facility and close its parts and accessories distribution center. In the future, Harley said it would use a third party to distribute those products.

 

The company said restructuring will cost between $110 million and $140 million over the next two years. But the savings may not begin paying off until 2011 at the earliest.

 

Harley’s finance unit, which accounted for about 15 percent of Harley's operating profit of $1.4 billion last year, relies on a healthy securitization market for both its operations and profits, and that market has been largely paralyzed as a result of the credit crisis.

 

The economic downturn has added to its problems. In the fourth quarter, higher projected credit losses at the unit forced Harley to take write downs of $35.1 million on retained securitization interests and $28.4 million on finance receivables held for sale.

 

The company's shares, which have lost 75 percent of their value since September, fell another 10 percent in early trading to $11.20.