MarketView for October 26

 

 

Summary

 

Whether it was driven by rumors or fact, the crux of the matter is that share prices were higher with all three major equity indexes chalking up nice positive gains. Nonetheless, it is still true that progress was slow by the Europeans in trying to reach some sort of a compromise as to what they plan to do to mitigate the problems initiated by Greece. But apparently the markets came away with the belief that some real progress is being made and investors took the news and ran with it, even if the reports from an EU summit were short on detail.

 

The euro zone aims to leverage its 440 billion euro bailout fund "several fold," but details are not expected until November. European leaders agreed on Wednesday to force banks to raise more capital by June next year, to protect against losses from any Greek debt restructuring and to try to contain the region's financial crisis.

 

Equity gains reigned during the afternoon as the news emerged, continuing the market's recent rally. The S&P has chalked up a 9.5 percent gain so far for the month on growing optimism for a deal to address sovereign debt and bank balance sheets in Europe.

 

Financials were among the best performers with JPMorgan Chase up 2.1 percent to $34.18 and U.S. Bancorp up 2.6 percent to $25.48.

 

Gains were curbed on the Nasdaq as Amazon.com fell 12.7 percent to close at $198.401 a day after forecasting a disappointing outlook for the current quarter on costs related to Kindle and other investments. Meanwhile among the Dow Jones industrial average stocks, Boeing added 4.5 percent to close at $66.56 after raising its outlook.

 

Visa shed 2.1 percent to $90.10 in extended trade after the San Francisco-based card processor posted fourth-quarter earnings.

 

With Europe dominating headlines, there is little question that earnings are a poor sister, having taken a back seat to the European crisis. Nonetheless, according to Thomson Reuters data, of the 206 companies in the S&P 500 that have reported earnings for the quarter, 72 percent have exceeded Wall Street estimates.

 

Economic data showed demand for durable goods rising at the fastest pace in six months in September and new homes sales for the same period the strongest in five months.

 

Volume on the three major equity exchanges remained strong with about 8.54 billion shares changing hands, a number that was well above the daily average of 8.01 billion shares.

 

A Bone from the ECB

 

The incoming head of the European Central Bank threw the euro zone a lifeline hours before a crucial summit on Wednesday which looked set to fall short of a definitive plan to tackle the bloc's debt crisis. Mario Draghi signaled the ECB would go on buying troubled states' bonds as leaders of the 17-nation single currency area struggled to agree a convincing set of measures.

 

Draghi, who will succeed Jean-Claude Trichet on November 1, made clear that measures could only be a temporary expedient and said it was up to governments to tackle the roots of the debt crisis that began in Greece two years ago.

 

However, his statement appeared to rebuff pressure from Germany's powerful Bundesbank for the ECB to end the bond-buying program which prompted the resignation of the two most senior German ECB policymakers this year.

 

The second euro zone summit in four days is unlikely to produce a detailed master plan despite Franco-German assurances that a "comprehensive solution" to two years of debt turmoil would be found.

 

Bank of Canada chief Mark Carney said he had received guidance that "that there will need to be subsequent meetings to provide more detail."

 

Dutch Prime Minister Mark Rutte urged decisive action now. "We need a real solution, we won't buy anything with mediocre compromises," he told reporters upon his arrival in Brussels. "We are in this job to take decisions. It's not easy, but it really has to happen."

 

Greek debt needed to be made sustainable, the bloc's rescue fund must be made strong enough to convince markets and Europe's banks had to be shepherded through "this difficult phase," Rutte said.

 

The leaders may agree on broad outlines but leave crucial details, including the numbers on a Greek debt write-down and on funds available for financial fire-fighting, for later negotiation among finance ministers.

 

A European Commission spokesman said there would not be detailed numbers on all aspects of the political agreement.

 

While there is consensus on the need for European banks to raise around 110 billion euros ($150 billion) in extra capital to withstand a potential Greek debt default and wider financial contagion, two other critical parts of the plan remain unclear.

 

Uncertainties also remain around complex plans to scale up the region's 440 billion euro ($600 billion) bailout fund, known as the European Financial Stability Facility, without allowing it to draw on the ECB. One proposal set to be adopted involves creating a special purpose investment vehicle (SPIV) to tap foreign sovereign and private investors, such as Chinese and Middle Eastern wealth funds, to buy bonds of troubled euro zone countries.

 

The EFSF said its chief, Klaus Regling, would visit China to meet with investors on Friday. But Chinese and European officials said there was no word yet on whether Beijing, which holds AAA-rated EFSF bonds and an estimated 600 billion euros in euro-denominated debt, would also put money into the SPIV.

 

The other proposed method for scaling up the EFSF involves using it to offer partial guarantees to purchasers of new euro zone debt. The two options may be used in combination.

 

German Chancellor Angela Merkel won a parliamentary vote of support for strengthening the rescue fund after warning in a dramatic speech that Europe was facing its most difficult situation since the end of World War Two.

 

"If the euro fails, then Europe fails," she declared, saying there was no certainty that the continent would then enjoy another 60 years of peace.

 

Merkel earlier told parliament that private bondholders would have to take a substantial write-down so that Greece's debt could be reduced to 120 percent of gross domestic product by 2020 from 160 percent this year. That implies a 50 percent "haircut" for private investors, which Greek Finance Minister Evangelos Venizelos was reported to have told Greek banks was the most likely outcome.

 

Jean-Claude Juncker, the chairman of euro zone finance ministers, forecast an eventual deal on a 50 percent write-off but officials said it might not be sealed on Wednesday and the banks wanted a menu of options for the bond swap rather than a single solution.

 

European leaders' pattern of responding too little, too late has spawned a wider economic and political crisis that threatens to undermine the euro single currency and the European Union project.

 

EU sources said detailed figures may not materialize until November 7-8, when EU and euro zone finance ministers hold their next regular meeting.

 

Also weighing on the summit was deep concern about Italy, which is now in the bond market firing line. Rome's inability to deliver a substantive plan for reforming its pensions system has raised doubts about Prime Minister Silvio Berlusconi's seriousness in tackling a crisis that threatens the euro zone's third largest economy.

 

Berlusconi was bringing to Brussels a "letter of intent" to his European partners on long awaited reforms, aides said, after his government nearly collapsed on Tuesday over their demands that Rome fulfill a pledge to raise the retirement age.

 

The letter was expected to contain only vague promises of economic reform rather than the firm undertakings sought by exasperated EU leaders in return for support for Italy's bonds.

 

Italy has the euro zone's largest sovereign bond market, with a public debt of 1.8 trillion euros, 120 percent of GDP. If it went the same way as Greece, Ireland and Portugal, the rescue fund does not have enough money to bail Rome out.

 

Draghi's statement appeared to supersede a dispute between Germany and France over how the ECB, the ultimate defender of the euro, should be involved in trying to resolve the crisis.

 

Paris had wanted the summit to endorse a continuation of the ECB's "non-standard measures" as long as Europe faces exceptional circumstances.

 

Merkel said Germany opposed a line in the draft summit conclusions urging the ECB to continue these measures. A euro zone source said the phrase would be dropped.

 

Durable Good Demand Strong

 

I have maintained for a long time that the economy was improving and would continue to improve through the fourth quarter. Additional evidence of that came on Wednesday with the latest data on durable goods.

 

The Commerce Department reported that orders for durable goods, excluding transportation items, rose a stronger-than-expected 1.7 percent last month after falling 0.4 percent in August. The gain was the largest since March.

 

At the same time, non-defense capital goods orders excluding aircraft -- a closely watched proxy for business spending -- rose 2.4 percent, which was also the largest increase in six months. Orders for machinery, primary metals, electrical equipment and computers and electronic products all rose solidly.

 

Demand for transportation equipment fell last month, reflecting weak autos and civilian aircraft Transportation orders fell 7.5 percent, the largest decline since April. Orders for motor vehicles and parts fell 2.7 percent, while civilian aircraft bookings tumbled 25.5 percent.,

 

Meanwhile, Thursday’s GDP report is expected to show an annual growth rate of 2.5 percent in the July through September period, according to the median of a Reuter’s poll. That would mark a sharp acceleration from the 1.3 percent logged in the second quarter.

 

New Home Sales Rise

 

The Commerce Department reported on Wednesday that new home sales increased 5.7 percent to a seasonally adjusted 313,000-unit annual rate. However, at the same time, the median price for a new home fell 3.1 percent to $204,400 last month, the lowest since October 2010, indicating the market was far from recovering. Prices were down 10.4 percent from a year earlier.

 

The percent change in overall sales last month was the largest since March, while the sales pace was the fastest since April. August's sales pace was revised slightly up to 296,000 units from the previously reported 295,000 units. In the 12 months through September, new home sales were down 0.9 percent.

 

The housing market recovery is being frustrated by a glut of unsold properties and an unemployment rate that has been stuck above 9 percent. In a bid to shore up the sector, the government on Monday expanded its refinancing program to help homeowners who owe more than their houses are worth.

 

It is estimated that the easing of terms for the refinancing program by the regulator of mortgage finance giants Fannie Mae and Freddie Mac could help up to one million so-called underwater borrowers who have made payments on time but have been unable to refinance.

 

The Commerce Department report showed the median sales price for a new home fell 3.1 percent last month to $204,400 last month, the lowest since October 2010. Compared to September last year, the median price was down 10.4 percent.

 

At September's sales pace, the supply of new homes on the market fell to 6.2 months' worth, the lowest since April 2010, from 6.6 months' worth in August.

 

Meanwhile, applications for U.S. home mortgages rose last week as demand for both purchases and refinancing perked up, the Mortgage Bankers Association said in separate report.

 

Gold Rises

 

Gold hit one-month highs on Wednesday in its longest stretch of gains in over two months as once again investors sought the safety of bullion in the face of a euro drop and uncertain outcome to a key EU summit.

 

Spot gold was up by 0.9 percent at $1,716.39 an ounce by 11:26 a.m. EDT, after having risen by more than 1 percent earlier to a one-month high of $1,722.70.

 

Gold rose above $1,700 an ounce for the first time in a month on Tuesday, notching one of its biggest rally since 2008, fueled by the gloomiest U.S. consumer sentiment data in 2-1/2 years .

 

U.S. gold futures for December delivery were up $18 at $1,718.40 an ounce, having seen their largest traded volume in a week on Tuesday at nearly 200,000 lots, or 20 million ounces, topping the 30-day rolling average level of daily volume by its widest margin in a month.

 

Also, open interest in December gold futures staged its biggest daily rise in three months on Tuesday, pushing open interest up by more than 12,000 lots, or 12 million ounces, to over 273,000 lots, a three-week high.

 

Short-covering by option sellers also boosted prices as COMEX November options are scheduled to expire at the end of the trading day. The $1,700 November call has been a popular bullish option play, traders said.

 

This week so far has seen the largest two-day rise in global holdings of gold in exchange-traded products since early August, having increased by over half a million ounces to 67.768 million ounces.