MarketView for November 10

 

 

Summary

 

The major equity indexes rebounded on Thursday from the previous session's steep losses, the result of positive corporate and economic news and a lack of any sort of a clear worsening in Europe's debt crisis. Italy paid its highest yield in 14 years to sell 12-month debt in an auction. Worries remained its borrowing costs were unsustainable. In Greece, former European Central Bank vice president Lucas Papademos was appointed to head the country's new crisis coalition.

 

Nonetheless, trading was volatile and volumes were thin, with about 7.3 billion shares changing hands on the major equity indexes, below last year's daily average of 8.47 billion shares as turmoil in Europe's bond markets kept alive fears that the crisis could still engulf Italy.

 

The CBOE Volatility index .VIX fell 9.2 percent, giving back some of the gains it posted on Wednesday, its biggest day since mid-August. The VIX is up 9 percent so far this week.

 

There was a brighter picture in the corporate arena, as Merck raised its dividend and Cisco reported strong earnings, reinforcing the view that corporate America is showing strength even as problems in Europe weigh on investors' minds. Merck was ;up 3.5 percent to close at $34.97 after the pharmaceutical giant raised its quarterly dividend by 11 percent, its first increase since 2004.

 

Cisco was up 5.7 percent to close at $18.61 and was the largest gainer among the Dow Jones industrial 30 stocks after the network equipment maker's earnings exceeded Street estimates combined with a forecast of higher revenue and profit expectations.

 

Crude oil gained 2.1 percent, helping to lift energy shares. Oil and gas producer Hess Corp added 4 percent to $63.85, while United Technologies rose 1.3 percent to $77.47. 3M added 1.7 percent to close at $80.32.

 

After the market closed, Walt Disney added 2.9 percent to its share price reaching $35.65 in extended trading after reporting fourth-quarter revenue that exceeded expectations. Nordstrom fell 4.1 percent to $47.61 after the retailer failed to increase the upper end of its full-year profit forecast.

 

Thursday's economic data had new U.S. weekly jobless claims falling to their lowest level since April, while the trade deficit unexpectedly shrank in September to its narrowest level since December.

 

Green Mountain Coffee Roasters pressured the Nasdaq, sliding 39 percent to $40.89 after its quarterly revenues came in less than expected.

 

Unemployment Number Falls As Does the Trade Deficit

 

New claims for unemployment benefits fell last week to their lowest since early April and the trade deficit unexpectedly shrank in September, pointing to a slight improvement in the economy.

 

The Labor Department reported Thursday morning that initial claims for state unemployment benefits fell for the second straight week, down 10,000 to a seasonally adjusted 390,000. Weekly jobless claims still remain well above pre-recession levels and have dipped below 400,000 -- a threshold many economists believe signifies improving labor market conditions -- only 10 times over the past year. A Labor Department official said a freak fall snowstorm that kept many people housebound in the Northeast did not affect initial jobless claims.

 

Although the labor market is still a long way from recovering from the deep 2007-2009 recession, the data does reinforce the view that a definite recovery is underway.

 

In a separate report, the Commerce Department said the seasonally adjusted U.S. trade deficit shrank to $43.1 billion in September. That was its narrowest since December thanks to record-high exports and suggests the U.S. economy closed the third quarter a little stronger than many expected. Also, imports from China fell 2.5 percent from a month earlier, although that reading was based on non-seasonally adjusted figures.

 

Bernanke Defends the Fed

 

Defending the Federal Reserve on the turf of his harshest critics, Fed Chairman Ben Bernanke on Thursday said the Fed was "intently" focused on lowering unemployment and warned that strains from Europe could trigger global economic shocks.

 

"For a lot of people, I know, it doesn't feel like the recession ever ended," Bernanke said at a town hall-style forum at an Army base outside of the Texas border town of El Paso.

 

"I'm not a believer in the Old Testament theory of business cycles. I think that if we can help people, we need to help people."

 

The Fed, and Bernanke in particular, has drawn fire from conservatives fearful the central bank's aggressive easing of monetary policy could debase the U.S. dollar and send inflation soaring. Two of the harshest critics are Texans and Republican presidential candidates: Governor Rick Perry and Representative Ron Paul.

Paul authored a book titled "End the Fed," while Perry has equated Fed policy with treason and suggested Texans might treat Bernanke "pretty ugly" if he were to visit.

 

Bernanke, who met troops returning from Iraq at 2:45 a.m., used the military backdrop to defend the central bank's aggressive policies and rebut charges it was recklessly spending government money. Several soldiers asked how simmering euro zone sovereign debt turmoil might affect the U.S. economy, and Bernanke told them it was important European leaders contain the crisis, which some see as the main risk to the U.S. recovery.

 

"Although the Fed would obviously do all that we could to maintain stability and to keep monetary policy as easy as necessary to try to minimize the damage, I don't think we would be able to escape the consequences of a blow-up in Europe," he told his audience of 175 military personnel and family members.

 

Bernanke, who has called the high level of long-term unemployment in the United States a national crisis, made clear that policymakers were still focused on lowering the 9 percent jobless rate, but he warned it will take time to bring it to more normal levels.

 

"We at the Federal Reserve have been focusing intently on supporting job creation. Supporting job creation is half of our marching orders, so to speak," he said.

 

The Fed's other mandate is to keep inflation in check. Bernanke said inflation should moderate and remain close to the Fed's preferred level of 2 percent or a bit less for the foreseeable future.

 

The central bank cut benchmark borrowing costs close to zero in December 2008 and has bought more than $2.3 trillion in bonds to try to spur a more vigorous recovery.

 

Bernanke defended the Fed's unconventional bond-buying.

 

"It is important to understand that this type of activity isn't the same as government spending," he said, explaining that the central bank would either sell the securities back into the markets or hold them to maturity. He also pointed out that the Fed's portfolio earnings helped reduce the federal budget gap. He also dismissed Paul's views on abolishing the central bank. "The Federal Reserve is not perfect ... but at this point, if you look around the world, you see no alternative."

 

Bernanke, who looked relaxed as he fielded questions from an audience largely dressed in olive camouflage fatigues, came into office in 2006, when George W. Bush was president, vowing to throw more light on the operations of the long-secretive central bank. Many analysts think he accelerated his efforts in an attempt to insulate the Fed from popular anger.

 

While Republicans have warned about inflation, Democrats have decried bailouts for banks during the financial crisis.

 

EU Headed For Long Recession

 

The European Union warned Thursday that the 17-country Euro zone could slip into "a deep and prolonged recession" next year as the debt crisis shows alarming signs of spinning out of control.

 

The EU's economic watchdog, the European Commission, said its central forecast is that the euro zone will grow by only a paltry 0.5 percent in 2012. That's way down on the 1.8 percent prediction it made in the spring.

 

The warning is the first acknowledgment of the possibility of a double-dip recession in Europe, a development that could hit the global economy hard. The Commission said "a deep and prolonged recession complemented by continued market turmoil cannot be excluded," given the uncertainty over whether countries will implement spending cuts and reforms.

 

The sharp cut in the forecast comes as the Euro zone’s debt crisis has spread to Italy, the single currency bloc's third-largest economy. The interest rate on Italy's 10-year bonds has reached the same 7 percent level that eventually forced Greece, Portugal and Ireland to request multibillion euro bailouts.

 

Speculation Premier Silvio Berlusconi will be replaced by leading economist and former Commissioner Mario Monti once he officially resigns has helped calm the market mood somewhat Thursday, but interest rates remain much higher than just a week ago.

 

And although Greece named Lucas Papademos, former vice president of the European Central Bank, as interim prime minister, there are still doubts over whether the country can sustain its massive debt in the long run.

 

The Commission's half-yearly predictions also warned that unemployment in the EU would be stuck at 9.5 percent for the foreseeable future. That's even higher than the 9 percent rate in the U.S.

 

The report also contained some worrying figures for some individual member states. Italy is unlikely to fulfill its promise of balancing its budget by 2013 if recently promised austerity and reform measures aren't implemented. According to the forecast, which does not take into account the most recent promises, Italy will still run a deficit of 1.2 percent, with debt close to 119 percent of economic output. And growth is set to slow to 0.1 percent next year, down from 1.3 percent forecast this spring.

 

Berlusconi has come under so much pressure that he promised to resign as soon as the new budget has been passed. The Commission this week started a verification mission in Rome to check on Italy's efforts. The International Monetary Fund is due to follow soon.

 

Several other states that have so far not been caught up in the debt storm will soon risk sanctions under new EU spending rules if they don't implement additional measures to get their budgets control. The countries that may face sanctions first are the Euro zone nations of Belgium, Cyprus, and Malta, as well as Hungary and Poland, which do not use the euro.

 

Under the new rules, set to come into force in mid-December, sanctions for countries that break the caps on budget deficits and debt levels become more automatic, in an effort to prevent a worsening of the debt crisis.

 

Fears of EU Split Widen

 

The political and economic crisis in Italy spurred fears of a split in the euro zone with borrowing costs for Europe's third biggest economy at unsustainable levels and the bloc unable to afford a bailout.

 

EU sources told Reuters that French and German officials had held discussions on a two-speed Europe with a smaller, more tightly integrated euro zone and a looser outer circle.

 

The discussions among senior policymakers, still in the realms of the theoretical, have focused on how to protect the euro zone from breaking up via tighter common policies which some members may by unable or unwilling to live with.

 

A German government spokesman said on Thursday that Berlin was not pursuing the idea of a smaller euro zone.

 

Asian shares fell more than 3 percent after similar falls on Wall Street and in Europe as investors took fright at the accelerating sovereign debt crisis and at buck-passing among European leaders and institutions.

 

The risk premium on all southern European government bonds over safe-haven German Bunds continued to rise at the opening on Thursday ahead of an Italian treasury bill sale seen as a major test of the country's ability to fund itself.

 

The European Central Bank's hardline chief economist told governments not to expect the bank to rescue them with unlimited funds, despite its efforts to stabilize runaway bond markets.