MarketView for November 19

 

 

Summary   

 

Stock prices moved sharply lower on Thursday as the day’s economic data pointed to a continuing weak recovery. The day's market sell-off was broad-based, with all but four of the stocks making up the Dow Jones industrial average ending the day in negative territory. Among other hard-hit sectors were financials, industrials and companies dealing with consumer discretionary spending.

 

At the same time, Wall Street’s sell side offered up a dim view on the semiconductor sector, which in turn sent technology shares sliding downward. Specifically, Bank of America-Merrill Lynch cut its 2010 growth outlook for the semiconductor industry on concerns over what they believe to be a rising inventory situation.

 

As a result, the firm downgraded 10 stocks, including Intel, Texas Instruments and Marvell Technology. The downgrades were a setback for those betting that the technology sector would fare better than others as the recovery takes hold. Chips are essential to a broad range of products, including computers and mobile devices.

 

Bank of America-Merrill Lynch said notions of a strong rebound for the semiconductor industry next year may not be realistic. Intel ended the day down 4.1 percent to close at $19.30, Texas Instruments fell 3.4 percent to close at $24.88, while Marvell Technology was down 5.1 percent to close at $15.27. Apple fell 2.7 percent to $200.51 and was a top drag on the Nasdaq.

 

Tech news took an even gloomier tone after the closing bell when Dell reported a slide in quarterly earnings. Dell's revenue missed Street expectations as sales to large business continued to struggle. Dell's shares were down 6.6 percent to $14.82 in after-hours trading. It had closed out the regular trading day at $15.87.

 

The end result of it all was that at the closing bell the S&P 500 index saw its worst one-day percentage decline in three weeks.

 

On the economic front, the Conference Board's index of leading economic indicators, a gauge of the economy's prospects, rose 0.3 percent to 103.8, putting that index at its highest point since September 2007. Unfortunately, the increase fell short of Wall Street's expectation, which was for a 0.5 percent increase.

 

The news was also not too encouraging as far as housing market was concerned. A record one in seven mortgages was in foreclosure, or at least one payment behind, in the third quarter. You could conclude from that data that the housing market's recovery will be an uphill battle.

 

The dollar's gain was another headwind for stocks as it pressured prices of natural resources such as crude oil and gold, thereby pushing down shares of companies such as Alcoa and U.S. Steel.

 

Front-month crude futures, which expire on Friday, settled down 2.7 percent or $2.12 per barrel, at $77.46.

 

Health insurance stocks fell a day after Senate Majority Leader Harry Reid released an $849 billion healthcare reform bill that analysts said would extend coverage to tens of millions of the uninsured.

 

Manufacturing Activity and Job Market Show Improvement

 

Manufacturing activity in the Mid-Atlantic region hit a two-year high in November, indicating the economic recovery was gaining momentum, while the trend in claims for jobless aid continued downward. The factory survey from the Philadelphia Federal Reserve Bank on Thursday eased fears of a slowdown in manufacturing after a report this week indicated that industrial output had a minimal gain last month as the effect of government stimulus faded.

 

The Philadelphia Fed's business activity index, one of the earliest monthly indicators of the manufacturing health, rose to 16.7 last month, the highest since June 2007. It was the fourth straight monthly increase. A reading above zero indicates growth.

 

In a separate report, the Labor Department announced that initial claims for state unemployment benefits were flat at 505,000 last week, but a four-week moving average of claims, a better indicator of underlying trends, dropped to its lowest point in almost a year.

 

Nonetheless, many on Wall Street remain fearful that the recovery will be sluggish because of rising unemployment. The jobless rate hit 10.2 percent last month, its highest in 26-1/2 years. High unemployment and excess industrial capacity have led the Federal Reserve to pledge to hold interest rates near zero for an extended period. Meanwhile, fixed mortgage rates sank to record lows last week, Freddie Mac said on Thursday, adding incentive for refinancing and home purchases.

 

U.S. Treasury Secretary Geithner told Congress' Joint Economic Committee he expected growth both in the fourth quarter and in 2010. "But as we press forward toward recovery, there is still much work to do not only to ensure that many more Americans see the tangible benefits of recovery, but also to help ensure that Americans are never again forced to suffer the consequences of a preventable economic collapse," he said.

 

Also encouraging, the number of workers still collecting benefits after an initial week of aid dropped to its lowest since March, although some of the decline may reflect workers exhausting their benefits. So-called continuing claims have fallen from a peak of 6.9 million in June. Meanwhile, new applications for unemployment benefits have dropped significantly from March's lofty levels, but remain above the 400,000 mark that would likely signal increasing payrolls.

 

Fed Maintains Inflation Is Benign

 

Federal Reserve officials said on Thursday that inflation is not an imminent threat and downplayed the consequences of a falling dollar. Philadelphia Federal Reserve Bank President Charles Plosser and Dallas Federal Reserve Bank President Richard Fisher both said an economic recovery was underway but noted risks to growth remain.

 

"It's not going to be zippy," Fisher said of the recovery, adding he is concerned growth will fall short of 3 percent next year and unemployment will remain high for a long time. With firms increasing neither hiring nor investing, "inflation is obviously not an issue," he said in an interview with Market News. "There is so much excess capacity out there."

 

Plosser, one of the Fed's biggest anti-inflation hawks, said the ailing commercial real estate market remains a problem as falling prices threaten small and medium-sized U.S. banks. While inflation is not a threat for now, the United States will have to look very hard at reversing course on rates as the economy strengthens, he said.

 

Fisher and Plosser are not currently voters on the Fed's policy-setting Federal Open Market Committee and will not rotate into voting slots until 2011.

 

With overnight rates near zero, the Fed this year turned to efforts to drive down other borrowing costs and jump-start growth by buying $300 billion in longer-term U.S. government debt, $175 billion in housing agency debt and $1.25 trillion in mortgage-backed securities.

 

Fisher said the Fed has to get back to conducting monetary policy in its "traditional" way as soon as possible. "The fact is we undertook this action (of buying MBS) with a purpose and we have to be purposeful in unwinding these actions," he said.

 

The Fed has said it will slow its MBS purchases and aims to complete them by the end of March 2010. Concerns have been raised in Asia and Europe that ultra-low U.S. interest rates and the falling dollar are fueling dangerous asset bubbles. The dollar hit a 15-month low this week.

 

Asked about the dollar, Fisher reiterated that while he paid attention to it, he did not expect it to have much inflationary impact unless its decline became disorderly. The dollar has fallen 7 percent so far this year and likely has become a funding vehicle for bets on higher-yielding currencies in growing emerging markets. Plosser said he was also not worried about dollar weakness.

 

"There's no particular reason you wouldn't expect the dollar to go back to where it was before the panic set in -- that is essentially all it has done at this point. I don't view that as anything particularly of concern," Plosser said.

 

The continuing expectation of a protracted period of lower interest rates has meant that waves of capital have moved overseas in search of higher returns. Asia, which was last in and first out of the financial crisis, has absorbed a lot of this investment, giving rise to asset bubble fears and worries policymakers will tighten capital controls.

 

So far, Brazil and Taiwan have taken action to curb capital inflows. But Plosser downplayed the threat of asset bubbles in Asia. "For the most part, the flows are not such that I consider them to be threatening or inconsistent with fundamentals," Plosser said. "The prospects for economic growth are stronger in Asia than in the U.S., and you would expect some of those flows."

 

Semiconductor Industry Hurt By Downgrade

 

Chip stocks were lower on Thursday after Bank of America Merrill Lynch downgraded the sector on a possible inventory correction, although two of Europe's top chipmakers were upbeat about recovery prospects. BofA Merrill Lynch lowered its 2010 growth forecast for the global semiconductor industry and downgraded 10 chipmakers, including Intel, turning more cautious on the group on expectations of a modest overshoot in global supply chain inventories.

 

"While we believe the correction will likely prove short and shallow, we think any hint of a correction in the supply chain could punish semiconductor stocks," BofA Merrill wrote in a note to clients.

 

The downgrade came two weeks after Morgan Stanley analyst Mark Lipacis noted that the good news for many semiconductor stocks had already been "baked in" and PC component suppliers would have a difficult time beating expectations.

 

German chip group Infineon was bullish on its fiscal 2010 outlook, saying sales could grow by more than 10 percent if the world economy continued to grow at its present pace. Dutch chip equipment maker ASML Holding NV, whose order book is viewed as a barometer for major chipmakers such as Intel or Taiwan Semiconductor Manufacturing, also said that it still expects order intake in October-December to be at least on the same level as in the previous quarter.

 

Nonetheless, shares in ASML closed down 6.14 percent after BofA Merrill Lynch downgraded the stock to "neutral" from "buy." At the same time, chip manufacturers worldwide are recovering from a prolonged downturn. Samsung Electronics, the world's largest maker of memory chips and LCD screens, in late October posted its best quarterly net profit and forecast a strong 2010 due to global turnaround in the sector.

 

Earlier this week, research firm Gartner raised its forecasts for the chip market in 2009, saying it now sees it falling 11.4 percent to $226 billion, compared with a previous forecast for a 17 percent fall. Next year Gartner sees the market growing 13 percent.

 

Taiwan's TSMC, the world's top contract chip maker, also posted its biggest quarterly net profit in a year last month and was bullish about future capital spending, aiming to invest $2.5 billion on upgrading its technology.

 

Geithner Defends AIG Bailout

 

Treasury Secretary Timothy Geithner defended the costly bailout of insurer AIG and urged swift regulatory reform to safeguard the economy from the failure of big financial firms. Testifying before Congress’ Joint Economic Committee, Geithner faced fierce criticism of his role in the rescue of American International Group in 2008, when he was president of the New York Federal Reserve Bank.

 

Geithner said AIG's failure posed as significant a risk to the economy as the collapse of investment bank Lehman Brothers, which sparked a panic that froze global trade and threatened to topple the entire financial system.

 

"The United States of America ... came into this crisis without anything like the basic tools countries need to contain financial panics," he said. "Coming into AIG, we had basically duct tape and string."

 

The AIG bailout has become a symbol of outrage over the failings of Wall Street and the government's $700 billion bailout fund, complicating the White House's efforts to get a regulatory reform bill passed. Congress has been wrangling over how best to revamp financial rules to give the government tools to prevent another crisis, while striking the right balance between clamping down on risky lending and hampering the flow of credit.

 

The U.S. House of Representatives Financial Services Committee has been working on a bill for weeks, and the Senate Banking Committee kicked off a similar effort on Thursday. Senator Richard Shelby, the top Republican on the Senate panel, said he would not support a bill put forward by Senator Christopher Dodd, the Democrat who chairs the committee, and called for a "complete rewrite.

 

Geithner said because the United States had no authority to seize and wind down complex financial firms that were in danger of collapse, it had no choice but to step in when the failure of AIG appeared imminent in September 2008.

 

Senator Charles Schumer, a Democrat, criticized Geithner for treading too softly on the controversial issue of China's yuan currency, which Schumer has long argued is intentionally undervalued.

 

Schumer and Senator Lindsey Graham, a Republican, on Thursday asked the U.S. Commerce Department to investigate whether China was manipulating its currency to give it a trade advantage.

 

Geithner used his testimony to press the case for action on reforms before momentum faded and argued that the largest institutions need oversight from a single, strong regulator.

 

"The regulation of the largest, most interconnected firms requires tremendous institutional capacity, clear lines of authority and single-point accountability. This is no place for regulation for council or by committee," he said.