MarketView for July 14

 

 

Summary  

 

Despite an ebullient mood after yesterday’s announcement following the close of regular trading that it far exceeded expectations in its quarterly earnings report and subsequent sales guidance, trading was  restrained after the Federal Reserve made it clear that additional measures may be needed to combat a weakening economy. Nonetheless, Intel still managed to chalk up a 1.7 percent gain on the day to $21.36, helping to keep the Dow Jones industrial average and Nasdaq in positive territory.

 

The minutes of the Fed's June meeting indicated that officials are more concerned with the pace of economic recovery. That added to jitters stoked by a weak report on June retail sales.

 

In other economic data, the Commerce Department reported that June retail sales were down 0.5 percent.

 

Bank stocks also ranked among the biggest drags, with JPMorgan down 0.3 percent to $40.35. Smaller banks also fell, including Zions Bancorp, which lost 3.6 percent to $23.33, while Regions Financial fell 3.1 percent to $7.15. A congressional watchdog agency warned that smaller banks that received government bailout money are likely to run into trouble repaying it and may become vulnerable to takeovers.

 

The pharmaceutical sector registered a healthy reaction to news about GlaxoSmithKline. The pharmaceutical company’s shares rose 1.8 percent to $36.35 after the FDA said its diabetes drug Avandia should be allowed to stay on the market in some form. The decision by the Food and Drug Administration's panel reduced the threat of more litigation, which could have followed a ban of the drug.

 

Fast-food chain operator Yum Brands gave a full-year profit outlook late on Tuesday that was below expectations. The stock fell 1.2 percent to $41.00.

 

Fed May Look to Additional Easing

 

Federal Reserve officials felt last month they should be ready to consider additional steps to boost the U.S. economy if an already softening outlook took a noticeable turn for the worse.

 

"As a result of the change in financial conditions, most participants revised down slightly their outlook for economic growth," minutes of the June 22-23 meeting of the Fed's policy panel released on Wednesday said.

 

"The committee would need to consider whether further policy stimulus might become appropriate if the outlook were to worsen appreciably," they said.

 

At the same time, the Fed should continue to test ways to withdraw some of the massive amounts of credit it has pumped into the financial system, officials at the central bank agreed.

 

Fed officials trimmed their forecasts for growth this year to a range of between 3 percent and 3.5 percent from the 3.2 percent to 3.7 percent they projected in May.

 

They see the unemployment rate, which stood at 9.5 percent in June, averaging about 9.2 percent to 9.5 percent in the fourth quarter, little changed from their previous quarterly forecast.

 

Yields for the 30-year Treasury bond fell on the news as investors ratcheted back expectations for a tightening in U.S. monetary policy next year.

 

The Fed had struck a cautious tone about the economy in a statement it issued after its June meeting, saying only that the recovery is "proceeding." It renewed its promise to hold benchmark rates, which are near zero, at exceptionally low levels for an extended period.

 

The minutes showed Fed officials also revised down modestly their outlook for inflation. Some participants in the meeting saw risks that inflation might slide lower, and a few were worried about a dangerous deflationary spiral. The minutes revealed that the Fed in general saw the flagging of the recovery as modest enough not to call for any additional easing beyond what is already in place.

 

Retail Sales Fall

 

According to a report released by the Commerce Department Wednesday morning, retail sales fell for a second straight month in June and businesses wary of ebbing demand barely raised inventories in May, more evidence the economic recovery has slowed in recent months. Specifically, retail sales fell 0.5 percent, the result of weak receipts at automotive dealers and gasoline stations, the Commerce Department reported. The decline outstripped the 0.2 percent fall economists had expected and followed a 1.1 percent drop in May.

 

The data comes on the heels of an unexpectedly wider trade deficit in May and prompted economists to trim growth forecasts for the second quarter. The back-to-back declines in sales followed seven straight months of gains that had been helped by government incentives.

 

The retail sales was the latest in a series of weak data -- from home sales to factory activity to hiring -- that suggest the recovery from the most severe recession since the 1930s is softening a bit earlier than economists had expected.

 

Minutes of the U.S. central bank's June 22-23 minutes showed policy-makers felt they should be ready to consider additional steps to boost the economy should the outlook worsen. Fed officials trimmed their 2010 growth forecasts.

 

Despite the moderation in the recovery, some economists argued against fears the economy could slip back in recession.

 

After strong gains in the first quarter, consumer spending is losing steam as households grapple with a 9.5 percent unemployment rate and sluggish income growth. In June, earnings slipped as employers trimmed working hours. Slackening demand may already be making businesses wary of building inventories, an exercise that has been largely behind the economic recovery that started in the second half of 2009. Business inventories barely rose in May as sales fell for the first time since March 2009.

 

The sluggish recovery and high unemployment have become a headache for President Barack Obama and his fellow Democrats on Capitol Hill, who face a struggle to maintain majorities in the House of Representatives and Senate in November elections.

 

Last month, motor vehicle and parts purchases dropped 2.3 percent. Excluding autos, retail sales dipped 0.1 percent last month after dropping 1.2 percent in May. Although the report showed weakness in some key categories, "core" retail sales, which exclude autos, gasoline and building materials, rose 0.2 percent after slipping 0.1 percent in May.

 

Core sales correspond most closely with the consumer spending component of the government's gross domestic product report. But given that core sales for April and May were revised down, analysts lowered their expectations for consumer spending growth in the second quarter.

 

Last month, receipts at gasoline stations fell 2 percent after dropping 2.5 percent in May on lower prices. Declining energy costs handed import prices their biggest decline in June in nearly 1-1/2 years, a separate report from the Labor Department showed. The weak energy costs and general price declines have some economists worried the economy could be flirting with deflation.

 

Tying in with a recent decline in home construction, sales of building materials and garden equipment fell 1.0 percent last month, extending the prior month's 9 percent drop.

 

The housing market distress was also highlighted by a fall in demand for home purchase loans to a 13-year low last week. Refinancing demand also slid despite near record-low mortgage rates, the Mortgage Bankers Association said.

 

Yum brands Sees Higher Inflation in China

 

Yum Brands expects higher labor and commodity costs in the restaurant operator's key China market in the second half of 2010, company executives said on Wednesday. "We now expect very high labor inflation for the second half of the year," Chief Financial Officer Richard Carucci said on a conference call with analysts. Yum, the parent of the KFC, Taco Bell and Pizza Hut brands, reaps 35 percent of its profit from its China division.

 

China labor costs were up $12 million in the first half of 2010, and Yum expects labor costs to increase $32 million in the second half, the executives said. Labor costs rose 14.9 percent in the second quarter of 2010, up from 14.2 percent in the second quarter of last year. Yum executives said wage inflation was a little less than typical in China last year, and 2010 has been a catch-up year with higher-than-normal inflation.

 

Yum executives said it was difficult to quantify how the company could benefit if Chinese workers have more cash in their pockets but agreed that the country's growing middle class creates opportunities for higher restaurant sales and growth in its China division.

 

Yum on Tuesday raised its 2010 earnings growth forecast to 12 percent from 10 percent, based on the company's strong growth in the first half of 2010.

 

But that was below the roughly 14 percent growths assumed, on average, by analysts. This prompted some on Wall Street to call the outlook conservative, and Yum shares fell about 3 percent on Tuesday.

 

Yum's China division saw $30 million in commodity deflation in the first half of the year. Executives expect to see $15 million in commodity inflation in the second half, with most of the rise coming in the fourth quarter. For the balance of the year, Yum expects a foreign exchange benefit from China of around $10 million. That would be partly offset by a $5 million hit from other international operations.