MarketView for October 9

Summary

 

Wall Street rolled over and played dead for a seventh straight session on Thursday on the belief that recent moves by the world’s central banks to restore some degree of normalcy to the credit markets would not prevent what is expected to be major global recession. The bulge of sell orders, most of which were derived from program trading, left the Dow Jones industrial average below 8,600 for the first time since May 2003, and down almost 40 percent from its all-time closing high hit exactly one year ago. The NASDAQ and the S&P 500 each also fell to levels not seen in more than five years.

 

Bank and insurance stocks were hammered as the previous day's coordinated global interest-rate cuts and myriad other official actions to unfreeze money markets did little to increase confidence in the financial sector. The removal of the ban on short-selling undoubtedly contributed to Thursday’s decline. The three-month dollar Libor rate hit its highest point this year.

 

Shares of General Motors fell 31.1 percent to its lowest level since 1950 as concerns mounted that an industry decline that started in the United States was spreading across the globe. GM ended the day at $4.76, while energy stocks did their part to pummel the averages.

 

Exxon Mobil and Chevron led the Dow lower as the price of oil dropped below $87 a barrel on concerns a global slowdown would slam demand for energy. Exxon Mobil and Chevron closed down 11.7 percent to $68.00 and 12.5 percent to $64.00, respectively, as the price of oil fell more than $2 to settle at $86.59 a barrel in the regular NYMEX session. In post-settlement trading, U.S. front-month crude hit a 12-month low near $84 a barrel.

 

The steep declines came on the anniversary of the Dow's all-time closing high above 14,000. Thursday's steep sell-off capped the Dow and the S&P's biggest seven-day decline since the October 1987 market crash, and the NASDAQ’s worst seven-day decline since December 2000.

 

The Dow average has lost 2,271 points in the last seven trading days, its the worst ever in such a period. Since its record closing high a year ago today, the Dow is down 5,585 points, or almost 40 percent.

 

Morgan Stanley fell 25.9 percent to $12.45 on concern about the status of a planned $9 billion investment by Japan's top bank, Mitsubishi UFJ Financial Group Inc. But the bank said blame for the steep drop fell on short-sellers after the end of a temporary ban of shorting in financial stocks.

 

The market id manage to chalk up a small gain early in the trading day after IBM briefly raised hopes for the outlook for other technology companies. IBM ended the session lower, however, down 1.7 percent at $89, even after reporting solid results late on Wednesday.

 

Prudential Financial shares fell 23.2 percent to $33.27 after the life insurer said third-quarter profit would be cut sharply by losses on poorly performing annuity and investment products and a legal settlement charge. .

 

Jobless Claims Decline

 

The Labor Department reported on Thursday that new applications for unemployment benefits were down from last week’s seven-year high by 20,000 claims, although they still remain at a recession level 478,000 seasonally adjusted claims. According to the Department, Hurricanes Ike and Gustav were responsible for adding about 20,000 claims on a seasonally adjusted basis. That's down from approximately 45,000 the previous week.

 

The four-week average, which smoothes out fluctuations, rose to 482,500 claims, the highest reading on that statistic since October 2001. The number of ongoing unemployment claims rose to 3.66 million, making it the highest total in more than five years. Jobless claims have been above the 400,000 level, considered to be an indication of recession, for 12 straight weeks. Claims stood at 316,000 a year ago.

 

The Labor Department said in a separate report last week that the economy lost 159,000 jobs in September, the fastest pace of job cuts in five years. Employers have eliminated 760,000 jobs so far this year. The unemployment rate remained at 6.1 percent in September, up from 5.7 percent in July and 4.7 percent a year ago.

 

Crude Hits 2008 Low

 

Oil prices closed down Wednesday after touching their lowest level this year, pressured by a huge jump in U.S. crude inventories and more signs of dwindling demand.

 

Light, sweet crude for November delivery fell $1.11 to settle at $88.95 on the New York Mercantile Exchange. Oil at point fell to $86.05 — the lowest price since Dec. 6, 2007.

Crude has now fallen about 40 percent since surging to an all-time record $147.27 a barrel on July 11.

 

In a rare dose of good news for consumers, falling oil prices are starting to weigh on pump prices. A gallon of regular fell about 3 cents overnight to a new national average of $3.447 a gallon Wednesday, according to auto club AAA, a number that is 16 percent lower than the all-time record average of $4.114 set July 17, but well above the year-ago average of $2.765 a gallon. Still, should oil keep sliding, analysts say pump prices could edge back below $3 a gallon sometime next month.

 

Crude's losses Wednesday came as U.S. energy supplies swelled, reflecting both persistently weak demand and a recovery of Gulf Coast energy output following shutdowns prompted by Hurricane Ike last month.

 

U.S. crude inventories jumped by 8.1 million barrels last week while gasoline stocks surged 7.2 million barrels, the Energy Information Administration said in its weekly inventory report. Both increases far exceeded expectations. Meanwhile, demand for gasoline over the four weeks ended Oct. 3 was 5.3 percent lower than a year earlier, averaging nearly 8.8 million barrels a day, according to the EIA report.

 

Oil market traders bid down the price for oil on the news, seeing the excess supplies as another sign that U.S. consumers and business are cutting back on energy use.

 

But Wednesday's losses were limited by growing speculation that the Organization of the Petroleum Exporting Countries could cut output to keep prices from falling too hard. OPEC officials, worried about declining oil revenue, in recent days have urged members of the cartel not to pump too much crude in a bid to keep prices above $100.

 

There is disagreement over how an OPEC output cut would impact oil prices. While it could put a floor under falling prices by tightening world supplies, a deteriorating global economy will keep demand and therefore prices low. OPEC's decision last month to cut production by 520,000 barrels failed to halt oil's slide. The 13-member body is next scheduled to meet Dec. 17 in Algeria.

 

Oil prices came off their lows earlier in the day after the Federal Reserve and other central banks around the globe cut their key interest rates by half a percentage point in the latest emergency measure to stave off a world economic meltdown.

 

In its weekly report, the EIA said inventories of distillate fuel, which include diesel and heating oil, fell 500,000 barrels to 122.6 million barrels for the week ended Oct. 3. Analysts expected distillate stocks to rise by 1 million barrels.

 

At the same time, U.S. refineries ran at 80.9 percent of total capacity on average, a gain of 8.6 percentage points from the prior week. Analysts expected capacity to rise 6 percent to 78.3 percent.

 

Burning the Midnight Oil At Treasury

 

They are burning the midnight oil at the Treasury Department and not just to print money. The Department plans to start directly injecting capital into the banking industry possibly as soon as the end of October in exchange for passive investment stakes.

 

Using authority granted to it by last week's $700 billion market rescue legislation, Treasury would get common or preferred shares in the banks it capitalizes. However, do not look for the government to pick up seats on companies' board of directors in the voluntary capitalization program.

 

If the Treasury Department does inject capital into banks, an almost certain event, it would be following the playbook of the British government, which on Wednesday pledged up to $87 billion to shore up banks' capital in exchange for preference shares. The effect of injecting capital would be to boost banks' capacity to lend, thus complementing the bailout bill's objective of removing soured mortgage-backed assets weighing on banks' balance sheets.

 

Taking the path of purchasing those toxic mortgage-related products would take so long that it would reduce the intended effect due to the complexity of the program. However, a capital injection through share purchases would immediately put more cash for lending into the banking system. The next question is whether banks are willing to accept the government as a stakeholder in return for the new capital. Actually, they may not have a choice.

 

Furthermore, the injections would likely be made public; possibly inducing some reluctance among bankers to use it for fear that they would be identified as vulnerable institutions. In addition, it was unclear whether a bank that wanted to participate would have to agree to conditions like limits on executive pay and an end to "golden parachutes," or rich pay packets for departing executives.

 

While public fury remains high at what is perceived as excessive pay for financial firms, corporations are generally reluctant to cede control over compensation levels, perhaps especially so to the government.

 

Nonetheless, Paulson made it perfectly clear on Wednesday that he interprets the authority granted by the financial rescue package as sweeping and that he intends to make full use of it. He said most attention has focused on Treasury plans to buy distressed securities from banks but that he was not afraid to extend his new authorities. "We will use all of the tools we've been given to maximum effectiveness, including strengthening the capitalization of financial institutions of every size," he said.

 

AIG Roasted In Congress

 

The chairman of the Senate Finance Committee demanded an accounting from the Federal Reserve about reported lavish spending by American International Group after it received an $85 billion rescue loan. In a letter to Fed Chairman Ben Bernanke, Democratic Sen. Max Baucus of Montana said reports that AIG spent over $400,000 at a luxury hotel in California after the Fed gave it an $85 billion rescue loan were a cause for outrage.

 

"This kind of behavior is an insult to taxpayers, whose dollars are used to protect and preserve private companies," Baucus wrote in a letter in which he asked what procedures were in place to assess AIG executives' activities.

 

He also asked for a list of Fed employees who authorized or knew about the AIG retreat, as well as for an explanation why AIG was now receiving an extra $37.8 billion loan. On Wednesday, the Fed said it will take up to $37.8 billion in investment-grade securities from AIG in exchange for cash.

 

AIG defended itself by saying the retreat was hosted by a subsidiary, was planned months before it received the Fed loan last month, and was for independent life insurance agents.

Baucus asked Bernanke to explain what controls over AIG management the Fed is able to exert and requested that answers be delivered to the Senate Finance Committee by October 23.

 

The issue of the AIG retreat received a lively airing on Tuesday from lawmakers who blistered former top executives of the insurer at a Capitol Hill hearing.

 

"They were getting facials, manicures, and massages, while the American people were footing the bill," said Rep. Elijah Cummings, a Maryland Democrat on the House Oversight and Government Reform Committee.

 

Robert Willumstad, chief executive of AIG from June until he was replaced last month, told the oversight committee he was not aware of the retreat that included $200,000 in hotel rooms and $23,000 for spa services.

 

"...Had I been aware of it, I would have prevented it from happening," Willumstad said.

I guess AIG has also forgotten to mention that they have another such event already planned.