MarketView for July 17

 

Wall Street decided on Thursday that maybe life as we know it is not coming to an end and stock prices rallied across the board as oil prices dipped again and several unexpectedly strong earnings reports added to the day’s momentum. While not wanting to be a doomsayer, be aware that the rally may not hold on Friday, given disappointing results released after the closing bell by Google, Microsoft and Merrill Lynch.

 

Oil prices fell more than $5, dropping below $130 a barrel for the first time in over a month. The steep decline in oil eased some concerns about the threat of inflation on an already fragile domestic economy.

 

Shares of JPMorgan were up $4.86, or 13.52 percent on the day to close at $40.80, in the regular trading session after the bank reported that its earnings fell less than expected on resilient stock and bond underwriting revenue. Bank of America was up $3.83, or 16.89 percent, to close at $26.50, while Citigroup ended the day up $1.50, or 9.11 percent, to close at $17.97.

 

However, after the closing bell in extended trading, Merrill Lynch saw its shares fall 4 percent to $29.50, the result of a much larger-than-expected quarterly loss. The disappointment was even greater in the technology sector, with Google and Microsoft missing expectations. S&P 500 and NASDAQ futures fell, pointing to a lower open on Friday.

 

Even IBM, which posted stronger-than-expected results, was unable to hold on to gains in after-hours trading, given the negative sentiment about the sector. That sharply contrasted with the positive tone in the regular session, which included excellent gains in Fannie Mae and Freddie Mac.

 

It was interesting to note that Freddie Mac was able to successfully completer its second debt sale following Sunday's announcement of a rescue plan for the two huge housing finance companies. Fannie Mae's stock ended the regular trading day up $1.68, or 18.16 percent, to close at $10.93, while Freddie Mac closed up $1.50, or 21.96 percent, at $8.33.

 

United Technologies was among the companies posting stronger-than-expected quarterly results. Shares of the diversified manufacturer ended the day up $3.59, or 5.87 percent, to close at $64.70. Shares of Huntington Bancshares ended the up $2.29, or 40.25 percent, to close at $7.98 after the Midwestern regional bank posted second-quarter results.

 

BlackRock rose $29.31, or 16.38 percent, to close at $208.26 on higher-than-expected earnings and optimistic prospects for the coming months.

 

Coca-Cola and eBay also exceeded Street earnings estimates. However, shares of Coca-Cola, fell $2.00, or 3.82 percent, to close at $50.34 on mounting evidence that the weakening economy is taking a toll on its performance.

 

Shares of eBay were down $3.90, or 13.88 percent, to close at $24.20 after the Internet auctioneer issued a cautious near-term outlook that led to downgrades by Wall Street analysts.

 

Single Family Homes Down 5.3 Percent

 

The Commerce Department reported Thursday that housing starts of single-family homes declined by 5.3 percent in June, to a seasonally adjusted annual rate of 647,000 units, the weakest performance for that statistic since January 1991, although a change in New York laws helped stimulate apartment building.

 

Construction of multifamily units rose 42.5 percent in large part because of a change in New York City building codes that spurred a wave of applications to build apartments in that area. Taken together, the number of single and apartment starts rose by 9.1 percent to an annual rate of 1.066 million units. The total increase was viewed as an aberration that did not give a true picture of the continued weak state for the housing industry.

 

Private economists were not enthusiastic about by the housing report, however, stressing that the data was being skewed by the one-month spurt of activity in New York that was magnified by the fact that the government adjusts one-month changes to annual rates. Analysts predicted that housing will continue to be under strains for the rest of the year.

 

The troubles in housing, combined with related turmoil in the financial sector attributed to billions of dollars of losses on mortgage loans, are dragging down the total economy, raising risks of a recession.

 

The report on housing construction showed that applications for building permits, considered a good sign of future activity, rose by 11.6 percent to a seasonally adjusted annual rate of 1.091 million units. However, this increase was also skewed by a big rise in the volatile apartment sector. Permits for multifamily construction soared by 39.4 percent while permits for single-family homes fell by 3.5 percent.

 

Look for builders to continue to slash construction as they struggle with an extremely difficult environment. The National Association of Home Builders said Wednesday that its survey of builder sentiment fell to a record low of 16 in July, down from 18 in June,

 

That decline reflected all the problems facing the housing industry at the moment from a weak economy that is pushing down employment and consumer sentiment to surging mortgage foreclosures which are dumping more homes on an already glutted market.

 

Google Misses

 

Google reported a weaker-than-expected 35 percent rise in quarterly net profit due to lower interest income and higher expenses for foreign currency hedges, driving its shares down 7 percent on Thursday. While other Internet companies have been suffering from a weakening economy, Wall Street has come to count on Google to deliver positive revenue and earnings surprises over and above consensus expectations each quarter.

 

Net income for the second quarter rose to $1.25 billion, or $3.92 per diluted share, from the year-earlier quarter's $925 million, or $2.93 per diluted share. Excluding stock-based compensation costs, profit was $4.63 per share. Gross revenue rose 39 percent to $5.37 billion, matching the average of analyst estimates ranging from $5.16 billion to $5.62 billion.

 

Chief Executive Eric Schmidt said on a conference call that traffic and revenue have held up well despite uncertain economic conditions. Apparently the earnings miss was unrelated to its online advertising business or the health of the economy. Instead it was various financial maneuvers the company took to manage its cash during the quarter that caused a sharp drop in what it calls "other income and expenses" to $57.9 million from $137.1 million a year ago.

 

Chief Financial Officer George Reyes cited lower yields on cash holdings as it braced for higher interest rates, and the costs of acquiring advertising technology company DoubleClick. Google also spent more to hedge foreign currency exposure, as more than half of its revenue now comes from abroad.

 

For the quarter, Google's own sites accounted for 66 percent of revenue, similar to that of the March quarter and up slightly from 64 percent in the June quarter a year ago. Ads on Google partner sites produced 31 percent of revenue.

 

International revenue rose to 52 percent of revenue from 51 percent in the first quarter and 48 percent in the second quarter of last year.

 

Earnings Higher At IBM

 

IBM reported a 22 percent increase in quarterly earnings, well exceeding Street expectations as it raised its 2008 forecast, the result of increases by emerging markets in the use of its services, software and equipment to expand and larger countries turned to technology to save money.

 

IBM posted a 12 percent rise in service contract signings, a business in which it leads the world, and said major Western countries were buying technology to reduce costs, as well as manage risks and compliance.

 

IBM Chief Financial Officer Mark Loughridge indicated that the company’s domestic business grew in the quarter, the weak dollar helped IBM and that currency hedges would help it mitigate any strengthening of the dollar next year. It was difficult not to say IBM was ahead on reaching its 2010 profit target, he concluded. As a result, the company is widely seen as a defensive play for investors in a troubled market.

 

IBM reported that its second-quarter net income was up to $2.77 billion, or $1.98 per share, from $2.26 billion, or $1.55 per share, a year ago. Revenue rose 13 percent to $26.8 billion. Currency gains added 7 percentage points to the growth rate, IBM said.

 

IBM raised its 2008 earnings forecast to at least $8.75 from a previous outlook of at least $8.50, taking it ahead of the Wall Street average view of $8.54.

 

IBM gets about two-thirds of its revenue from outside the United States. Recurring revenue from services and software contracts accounts for about half its business, providing a buffer from sharp turns in the economy. New signings in the quarter reached $14.7 billion.

 

Due to its stability, many investors view IBM shares as a safe haven in tough economic times. The stock is up about 17 percent this year. IBM trades at about 13 times next year's expected earnings per share, compared with about 11 for rival Hewlett-Packard Co.

 

IBM managed to post strong sales in the United States and the rest of the Americas region even as the economy slowed due to the banking crisis and slowdown in construction and retail sectors. Sales in the Americas region rose 8 percent to $10.9 billion. Growth was 6 percent after currency adjustments.

 

Revenue from Europe, the Middle East and Africa rose 20 percent to $9.8 billion, or 7 percent after currency adjustments. IBM's revenue in Asia rose 16 percent or 6 percent after currency adjustments, to $5.3 billion.

 

Income from continuing operations rose 22 percent to $2.8 billion. The year-earlier results included a gain from the sale of a printing unit that the company has since divested. Without that gain, income from continuing operations would have been up 26 percent.

 

Higher Earnings At Microsoft

 

After the close of regular trading on Thursday, Microsoft posted a lower-than-expected quarterly earnings and outlook for its current quarter, citing a "tough" environment. The company, which is locked in an on-again, off-again pursuit of Yahoo, lowered its fiscal 2009 forecast range while slightly increasing its revenue outlook for this year.

 

"It's what I would describe as a tough environment. It's clear other companies around us are suffering," Microsoft Chief Financial Officer Chris Liddell said in an interview with Reuters. "It hasn't hurt us significantly." For the current quarter, Microsoft forecast earnings per share to range from 47 cents to 48 cents on revenue between $14.7 billion to $14.9 billion.

 

The world's largest software maker has weathered a soft U.S. economy by ramping up sales to emerging markets and offering a diverse set of products aimed at corporate customers and consumers.

 

Microsoft reported a net profit of $4.3 billion, or 46 cents per diluted share, in its fiscal fourth quarter ended June, up from a profit of $3.04 billion, or 31 cents per diluted share, in the year-ago period. Revenues increased 18 percent to $15.84 billion.

 

The earnings were a penny per share below the forecast of analysts, on average, of 47 cents per share but the revenue beat their forecast of $15.65 billion in the June quarter.

 

On the plus side were strong demand for Windows 2008, the flagship software at its server and tools division. The profit growth looked even bigger due to a $1.06 billion charge that Microsoft incurred during last year's June quarter to fix problems with its Xbox 360 game console.

 

Since Microsoft went public with its unsolicited bid to buy Yahoo on February 1, the stock is down 16 percent, as of the close of trade on Wednesday. Microsoft lowered its full-year estimates to an earnings range of $2.12 to $2.18 per share on revenue from $67.3 billion to $68.1 billion. Its previous estimates were for earnings per share in a range from $2.13 to $2.19 and revenue of $66.9 billion to $68 billion.

 

The Windows division posted a 15 percent increase in revenue, helped by adoption of its new Vista operating system. The unit's performance was a disappointment when revenue came in lower than expected due to an inventory build-up of computers and a lack of progress in its ongoing battle against piracy. Microsoft forecast Windows division revenue to grow between 9 and 10 percent this fiscal year.

 

Liddell said the company's online advertising business was being hurt by the difficult economic environment. Microsoft will make additional investments in its online services business unit.