MarketView for May 18

 

 

Summary  

 

Stock prices moved sharply lower on Tuesday, as the potential for greater financial regulation sent bank stocks sliding downward. At the same time there was rising concern over the sustainability of the global economic recovery.

 

In Washington, several Republicans will vote with Democrats to wrap up debate on the sweeping reform of financial regulations and move toward final passage, Senate Majority Leader Harry Reid said. Key senators reached a compromise on the balance of power between state and federal officials on bank oversight that could clear away a long-standing obstacle to passage of a landmark Wall Street reform bill in the U.S. Senate.

 

Officials in Germany added to the uncertain future for banks when they suddenly moved to ban naked short selling in the stocks of the country's 10 most important financial institutions. Naked short selling occurs when an investor sells shares without borrowing them first. At the same time the euro reached a four-year low following the news and amid ongoing worries that deep cuts to government budgets will dampen euro-zone growth.

 

Goldman Sachs added to the negative tone when it said in a note to clients that the current financial reform bill's changes could shrink banks' normalized earnings per share by 20 percent.

 

Shares of technology companies, which tend to rely heavily on overseas sales, were also among the day’s biggest losers as indicated by Intel, down 2.7 percent at $21.43.

 

Adding to worries over growth were cautious outlooks from Wal-Mart, signaling that the recovery in consumer spending might not be as strong as hoped. Wal-Mart reported better-than-expected results, driving its stock higher. At the same time, the discount behemoth also forecast that second-quarter earnings could fall short of expectations, while same-store sales for the period could drop. Wal-Mart closed up 1.8 percent at $53.70.

 

The S&P 500 ended just below 1,121, which had served as a support level marking the 50 percent Fibonacci retracement of the benchmark's decline from its highs in late 2007 to the more than 12-year low hit in March 2009.

 

Housing Starts Rise

 

Housing starts hit a 1-1/2-year high in April, but a drop in building permits to a six-month low implied the housing market recovery may struggle to gain momentum without more government aid. The end of the popular tax credit is also likely put a damper on the housing market along with a deluge of foreclosures.

 

Housing starts rose 5.8 percent to an annual rate of 672,000 units in April, the Commerce Department said. This was the highest since October 2008, just a month after the collapse of investment bank Lehman Brothers. They were lifted by a 10.2 percent rise in groundbreaking for single-family homes to a rate of 593,000 units. This followed a 2.1 percent gain in March. Starts in the volatile multifamily segment tumbled 18.6 percent to a 79,000-unit annual pace, partially reversing the prior month's 24.4 percent surge.

 

The gain last month likely reflected a rush by prospective homeowners to take advantage of a federal tax credit for home buyers before the April 30 deadline to sign contracts. They have to close the purchases by the end of June to qualify for the credit. Groundbreaking had increased 5 percent in March.

 

Building permits fell 11.5 percent to a 606,000-unit pace last month, the lowest level since October 2009. With the housing market still shaky, inflation subdued and worries about Europe hanging over markets, it is increasingly likely that the Federal Reserve will extend its low interest rate policy into next year.

 

Cleveland Federal Reserve Bank President Sandra Pianalto said on Tuesday inflation expectations remained well anchored. "Many of my business contacts continue to talk about wage and price reductions, not increases," she said.

 

Despite the drop in permits after two straight months of gains, analysts are cautiously optimistic that home construction will hold up and believe a combination of low mortgage rates and an improving labor market will partially fill the void left by the end of the tax credit.

 

Permits lead housing starts by one to two months. A National Association of Home Builders survey on Monday showed home-builder sentiment rose to its highest level in more than 2-1/2 years in May on the strengthening economic recovery.

 

Investment in new home construction contracted in the first quarter after two straight quarters of growth. A flood of foreclosed properties is hampering the housing sector's recovery from a three-year slump. Last month, building completions increased to 769,000 units, while the inventory of total houses under construction fell to a record low 482,000 units.

 

June to See New Market Curbs

 

New rules to curb stock trading when markets fall uncontrollably will likely go into effect in June for the largest stocks. The plan was crafted by the SEC and the major U.S. exchanges in response to the unexplained "flash crash" on May 6 that drove the Dow Jones industrial average down some 700 points within minutes.

 

The new restrictions known as circuit breakers will apply to all stocks in the Standard & Poor’s 500 index, while exchange-traded funds (ETFs) are excluded.

 

Regulators and the exchanges have been under intense pressure to zero in on what triggered the May 6 meltdown and to find ways to uphold market integrity. A circuit breaker or a mechanism to halt trading across markets and in a single stock has emerged as one of the key solutions to protect investors.

 

The breakers will act as "speed bumps to help the market adjust quickly to the high levels of volatility," SEC Chairman Mary Schapiro said.

 

The SEC and exchanges are proposing a circuit breaker that would halt trading in a stock for five minutes if it fell more than 10 percent in 5 minutes. The breakers would likely apply between 9:45 a.m. and 3:35 p.m. EST, ending in time for the Big Board’s closing auction. The trial period will last six months ending in December.

 

The new curbs would align markets more closely to European markets, which have more muscular safeguards. Circuit breakers at the London Stock Exchange, for example, are based on the liquidity and volatility of individual stocks.

 

Regulators have been sifting through more than 17 million trades that occurred around the time the market went into free-fall. So far, they have discounted initial theories such as a computer hacker or terrorist activity. They have also dismissed the idea that a so-called fat finger triggered a large erroneous trade. But no single cause has been articulated, now 12 days after the drop.

 

Circuit breakers that would halt trading across all markets are also being considered. This would give investors time to digest any news and adjust trading strategies. There are already broad index-based breakers in place, but those were not tripped when the market shot down and then recouped some of its losses in less than 20 minutes that afternoon.

 

Regulators are mulling breakers that would temporarily stop trading when the broader market falls 5 percent. That is tighter than the minimum 10 percent threshold already in place.

 

Hewlett-Packard Up on Results in After Hours Trading

 

Hewlett-Packard' announced quarterly results that exceeded Street expectations, resulting from solid demand for personal computers and servers and a resurgence in its printing business. The company also announced that it was raising its full-year earnings outlook. Look for Hewlett-Packard to ride a surge in enterprise tech spending in 2010, as businesses replace aged equipment.

 

According to the report, the company saw an 8 percent increase in fiscal second-quarter revenue from its printing division, up from 4 percent growth in the fiscal first quarter. The division accounts for about one-fifth of revenue but a third of operating profit. Higher-margin revenue from supplies climbed 6 percent from 1 percent previously.

 

Hewlett-Packard is now forecasting earnings, excluding items, of $4.45 to $4.50 per share in fiscal 2010. The company reported earnings of $2.2 billion, or 91 cents per share, in the fiscal second quarter ended April 30, up from $1.7 billion, or 71 cents a share, a year ago.

 

Excluding items, earnings were $1.09 per share. Net revenue increased 13 percent to $30.8 billion.