MarketView for October 16

Summary 

 

Stock prices moved sharply higher in the last hour of trading as bargain hunters and bottom fishers went to work in earnest. Discount retailers, such as Wal-Mart and healthcare companies drove indexes higher on the idea that those particular companies will prove more resilient in an economic downturn.

 

Energy companies and materials, which were mauled in the sell off on Wednesday, rebounded, even as the price of oil fell below $70 a barrel. Among energy companies, Exxon Mobil rose 11.4 percent to $69.45. Chesapeake Energy Corp shares rose 12.3 percent to $18.35 after the company said it has obtained a $460 million line of credit for its natural gas gathering and processing unit, helping to ease investor worries about liquidity.

 

Yet, the day proved also to be an extremely volatile session, with the Dow Jones industrial average swinging in a range of 700 points. Monthly options expirations were likely a major contributor to the day’s volatility.

 

During the regular session, financial shares underperformed the market. Citigroup fell 2 percent to $15.90 after it reported its fourth straight quarterly loss due to loan losses and write-downs for complex and risky debt.

 

The price of crude oil futures for November delivery settled down more than 6 percent, ending the day below $70 per barrel after weekly government inventory data reflected sliding demand.

 

Microsoft saw its share price rise 6.8 percent to $24.19 after chief executive Steve Ballmer said a Web search advertising deal with Yahoo still makes economic sense and may yet be possible, though the two sides are not in any discussions. Shares of Yahoo rose 10.6 percent to $12.99.

 

In trading after the closing bell, Google shares rose 7.5 percent after reporting better than expected results.

 

Industrial Production Lowest Since 1974

 

The Federal Reserve reported on Thursday that industrial production, for the month of September, fell 2.8 percent to its lowest level since 1974, reflecting fallout from hurricanes Gustav and Ike. The decline comes on the heels of a 1 percent drop in August. The decline was the largest since December 1974, when output fell 3.5 percent.

 

The Fed estimated that disruptions related to the hurricanes accounted for about 2.25 percentage points of the total drop in industrial production in September. In addition, a strike affecting the commercial aircraft industry also was a factor in the poor showing, accounting for around a half percentage point of the overall decline, the Fed said.

 

Crude oil and natural gas production in the Gulf of Mexico were suspended because of the hurricanes, contributing to the hit to overall industrial output, the Fed said. Hurricane related shutdown of petroleum refineries and petrochemical producers also factored into the drop. Other manufacturing industries reported outages from the storms, which also held back production last month.

 

Still, even before the hurricanes hit, manufacturing has been feeling the pain of the housing collapse, credit problems and weaker demand from the slowing economy. Demand for housing related goods and construction materials have been particularly hard hit as the housing slump has dragged on.

 

It Could Be Grim For A While

 

Economic growth could be restrained for as long as a few years by "unprecedented" problems in financial markets, Gary Stern, President of the Minneapolis Fed and a voting member of the U.S. central bank's monetary policy-setting Federal Open Market Committee this year said on Thursday.

 

"We should anticipate further declines in employment and softness in most components of demand for goods and services," said. "In view of the scope and severity of the recent financial shock, the restraint on economic activity stemming from credit market headwinds could exceed the experience of the 1990s," he said. He termed the 1990-1991 recession "brief but not especially mild."

 

Stern did not indicate whether he favored another big cut to the federal funds rate at the FOMC's next scheduled meeting on October 28-29. Financial markets currently see a cut of either one-quarter or one-half percentage point from the current 1.5 percent level of the benchmark overnight lending rate.

 

"Depending on how one reads the data, financial headwinds restrained the pace of the ensuing expansion of the early 1990s from 12 to 36 months. Something similar is certainly conceivable today," Stern said.

 

Stern said the economy faces pressure from the ongoing decline in home prices and high inventories of unsold houses, a string of drops in payrolls, the negative wealth effect of a falling stock market and deterioration in credit availability.

 

Positive U.S. economic growth logged in 2007 and the first half of 2008 "do not tell the whole story," he concluded.

 

On a more cheerful note, Stern said the bulge in energy and commodity prices that peaked in July "is apparently behind us" and that inflation should recede.

 

That comment came on a day when September U.S. consumer inflation was reported unchanged and core prices, stripped of food and energy, rose an unexpectedly low 0.1 percent.

 

Stern said the Fed's actions to date, from severe cuts to lending rates to massive efforts to pump liquidity into the financial system, had been on target but not yet successful in restoring stability, and would take time:

 

"The Federal Reserve has responded to unprecedented times with equally unprecedented actions ... Despite these initiatives, financial markets remain unsettled, and some institutions continue to experience funding pressures."

 

Stern said that in light of the toll that the housing market crisis and its aftermath had taken on the economy, it was worth another think about how the Fed dealt with developing asset bubbles, including preemptive interest rate hikes.

 

"Identification of excesses in asset prices, although challenging, does not appear to be beyond the realm of possibility," he said.

 

Actions taken to rein in bubbles -- when increases of certain asset prices seemingly outstrip economic fundamentals -- "are likely to require raising interest rates earlier and probably more than otherwise would be the case" and would likely be unpopular, Stern said.

 

"Nevertheless, as the anti-inflation experience of 1979-82, for example, illustrates, it is possible to build considerable support (as then Fed Chairman Paul Volcker did), or at least tolerance, for policies that some considered risky and unappealing," he said.

 

CPI Unchanged In September

 

The Labor Department reported on Thursday that consumer prices were unchanged for the month of September as retreating costs for gasoline, clothes and new cars helped to offset rising prices for items such as food and medical care. September’s reading came on the heels of a 0.1 percent price decline in August.

 

However, those two months offered a rare reprieve. Consumer prices have been moving higher for most of the year, rising by 1.1 percent in June. As a result, paychecks aren't stretching as far, straining consumers.

 

When energy and food sectors are stripped out, "core" prices rose by just 0.1 percent in September, an improvement from a 0.2 percent advance in August. The latest showing on inflation was better than Wall Street expected.

 

So far this year, consumer prices are up at an annualized pace of 4.5 percent, faster than the 4.1 percent increase for all of 2007. Core prices in the first nine months of this year have increased at a pace of 2.4 percent, matching the rise for all of last year.

 

The higher inflation seen for most of this year, however, does mean that Social Security paychecks will be fatter next year. Social Security benefits will go up 5.8 percent next year, the largest increase in more than a quarter century.

 

Google Reports Good Numbers

 

Google reported quarterly earnings that were ahead of expectations withstanding the deepening economic turmoil. Web traffic and revenue growth were strong in all major parts of the world, Chief Executive Eric Schmidt said in a statement.

 

"While we are realistic about the poor state of the global economy, we will continue to manage Google for the long term," he said.

 

Net income for the third quarter rose to $1.35 billion, or $4.24 a diluted share, from $1.07 billion, or $3.38 per share. Excluding employee stock compensation costs and one-time items, profit rose to $1.56 billion, or $4.92 per diluted share from $1.47 billion, or $4.63 per share, a year earlier. Revenue, including commissions paid to affiliated advertising sites, totaled $5.54 billion, up 31 percent from the year-earlier quarter but up only 3 percent from the second quarter of this year.