MarketView for November 16

Summary 

The key equity indexes fell dramatically on Tuesday as the prospect of more European bailouts and worries China will rein in inflation prompted investors to abandon risky assets. Asset classes have become increasingly entwined since Wall Street anticipated the Federal Reserve's announcement of further quantitative easing. Now it seems that the name of the game is to unwind what have turned out to be overly risky positions.

The developments, especially questions about Ireland's financial stability, caused a spike in the dollar, which hit commodity prices. That in turn sent equities lower, with natural resources companies leading the way down. One result was a slide in stocks such as Alcoa, which ended the day down 2.8 percent to close at $13.03. Ireland, which is grappling with a battered banking sector, said it was discussing stabilization measures with its European partners, while China is expected to unveil food price controls and crack down on commodity speculation to contain inflationary pressure.

Exxon Mobil fell 2.2 percent to $68.94, while domestic crude oil futures settled down 3 percent at $82.34 per barrel. Gold and other metal prices also fell as the dollar index rose 0.9 percent. 

The Chinese media reports increased expectations that China will further tighten monetary policy to help fight inflation.

The CBOE Volatility Index .VIX, known as Wall Street's fear gauge, climbed 11.8 percent to 22.58, its highest close in more than a month.

The S&P 500 index found support around the 1,176 level, which is roughly the 23.6 percent Fibonacci retracement of the benchmark's recent rally from the 2010 low in July to its more than two-year high hit earlier this month. After rallying nearly 13 percent through September and October, the S&P 500 has given up nearly 4 percent since November 5.

Continued speculation over whether the Federal Reserve will spend all of the $600 billion it had earmarked for its latest round of quantitative easing also pressured the market.

St. Louis Fed President James Bullard said in an interview with Bloomberg Radio the central bank would scale down its planned purchases of Treasury bonds only if there was a strong economic improvement.

Global developments overshadowed a favorable corporate picture as Wal-Mart and Home Depot raised their profit forecasts for the year. The two companies were the only Dow stocks to chalk up some positive numbers. Wal-Mart added 0.6 percent to $54.26 after it also forecast positive same-store sales for the holiday season. Home Depot rose 1 percent to $31.71, though it cut its full-year sales outlook.

Volume on the exchanges had about 9.67 billion shares being traded on the New York Stock Exchange, the American Stock Exchange and Nasdaq, as compared to last year's estimated daily average of 9.65 billion.

Substantial Drop in Wholesale Prices

Core producer prices recorded their largest fall in more than four years in October and industrial output was flat, underlining concerns at the Federal Reserve about low inflation amid moderate growth.

The data appears to support the Fed’s November 3 decision to ease monetary policy further even though the 0.6 percent drop in the core Producer Price Index largely reflected the annual introduction of new motor vehicle models.

Stripping out the sharp declines in vehicle prices, core producer prices -- which exclude volatile food and energy costs -- would have risen by 0.2 percent, the Labor Department said on Tuesday, a modest gain consistent with the economy's sluggish growth trend and tepid domestic demand.

The overall decline in the core index was the biggest since July 2006 and followed a 0.1 percent gain in September. A similar increased had been expected in October.

The weak inflation report ignited a rally on the Treasury debt market, where the 30-year bond posted its biggest one-day gain. Ongoing concerns over Ireland's debt crisis and tight credit in China eroded risk appetite. The dollar moved above a seven-week high against the euro.

Concerns that low inflation could spiral into a damaging phase of deflation prompted the Fed to ease monetary policy further, a step that will see it buy $600 billion worth of government bonds through the middle of 2011. The measure has been criticized due to signs that the recovery from the worst economic downturn since the 1930s is regaining some strength after losing momentum in the summer.

Despite brighter signs, soft demand is forcing retailers to continue with price discounting to lure customers. Wal-Mart said on Tuesday there were indications consumers were still shopping paycheck-to-paycheck. Still, cost cutting helped it to a higher quarterly profit.

Home improvement chain Home Depot also reported earnings that beat expectations, but it softened its full-year sales forecast.

A separate report from the Fed showed industrial production was flat last month, short of economists' expectations for a rise of 0.3 percent, largely because of weak utility output that reflected unusually warm weather. But manufacturing production rose 0.5 percent, its biggest gain since July.

It is unlikely that the annual introduction of new vehicle models have a noticeable impact on the consumer inflation numbers due out on Wednesday. Core consumer prices are expected to have edged up 0.1 percent after being flat in September.

The core PPI felt the effect of a 4.3 percent decline in the price of light motor trucks and a 3 percent drop in prices for passenger cars. In the 12 months to October, core prices are up only about 1.5 percent.

While core prices fell sharply, overall prices received by farms, factories and refineries were up 0.4 percent, but well below expectations for a 0.8 percent gain. Wholesale prices increased 0.4 percent in September. Although the upward pressure from rising commodity prices is starting to make its way into the data, it is unlikely to feed through to consumer prices in a meaningful way.