MarketView for July 23

The major equity indexes moved higher on Wednesday as financial shares climbed on hopes lawmakers will approve a rescue plan for mortgage finance companies Fannie Mae and Freddie Mac. Adding to the upward momentum was another decline in the price of crude oil. At the same time, financial shares also benefited from word that President Bush dropped a threat to veto the housing rescue bill, clearing the way for measures aimed at stabilizing the battered housing market, which has been the source of huge losses for financial companies.

 

Removal of the presidential veto threat spurred investors to snap up shares of Fannie and Freddie, the top two U.S. housing finance companies, which would receive an emergency government lifeline under the bill.

 

Oil prices fell more than $4 after government data showed a big increase in inventories of gasoline, which in turn helped out companies sensitive to higher fuel costs, such as retailers and airlines if the decline holds.

 

Robust results from AT&T, a Dow component, indicated stronger-than-expected wireless growth that helped send technology shares higher. Apple led the NASDAQ higher after AT&T, the exclusive U.S. network carrier for the iPhone, said the launch of the iPhone 3G was strong.

 

But earnings reports painted a mixed picture. A drop in the shares of Boeing, another Dow component, kept gains in check on the blue chip index after the plane manufacturer reported a larger-than-expected drop in earnings. Caterpillar fell after JPMorgan downgraded the company, citing the possibility that demand may slow further in North America and Europe.

 

Home builders also headed higher on optimism about the housing bill, pushing the Dow’s home construction index up 3.5 percent. Shares of Toll Brothers were also higher.

 

The Securities and Exchange Commission's clampdown on certain types of short selling in financial companies has resulted in some hedge funds reversing the popular long-oil/short financials trade profile, heightening gains in financial stocks and the decline in oil.

 

On the economic front, Federal Reserve said in its Beige Book that the pace of economic activity slowed somewhat through mid-July.

 

Crude Prices Fall Again

 

The price of crude oil fell again on Wednesday, the result of growing fears that high prices and a weak economy are resulting in less demand for refined products. Light, sweet crude for September delivery settled down $3.98 at $124.44 per barrel. The August contract expired Tuesday at $127.95. September Brent crude settled down $2.45 at $127.10 per barrel on the ICE Futures exchange in London.

 

A weekly report by the Energy Department's Energy Information Administration offered further evidence that rising prices have reduced the demand for fuel. For example, gasoline purchases over the four weeks ended July 18 were 2.4 percent lower than a year ago, averaging more than 9.3 million barrels a day.

 

The drop in the demand for gasoline was echoed in a report from the Federal Reserve on regional economic conditions that showed the country mired in sluggish economic growth and rising prices.

 

The Energy Department report showed that gasoline stockpiles increased by 2.9 million barrels last week, far more than Street expectations. The decline in crude inventories was less than forecast.

 

Oil prices came under further pressure as the dollar strengthened against the euro, giving investors less reason to seek haven in commodities as a hedge against inflation and a weakening U.S. currency.

 

Meanwhile, concerns that Hurricane Dolly might affect U.S. oil and natural gas platforms in the Gulf of Mexico dwindled as it made landfall near South Padre Island in Texas as a Category 2 storm. The Minerals Management Service reported that only about 4.7 percent of production, about 60,000 barrels a day, has been halted because of the storm.

 

Until recently, traders used almost any perceived threat to supply as a reason to push prices higher. Oil prices, which reached a high above $147 per barrel less than two weeks ago, have declined in price during six of the last seven sessions.

 

Liquidity problems at oil and asphalt transportation and storage provider SemGroup LP may have helped trigger the recent sell-off. A number of the company's subsidiaries filed for reorganization under Chapter 11 on Tuesday. In the bankruptcy filing, the Tulsa, Okla.-based company described what it called a "severe liquidity crisis" caused by demands for massive amounts of more money from brokers to cover large bets it had amassed on futures and options. Those demands grew increasingly tough to meet as energy prices rose and Wall Street's credit problems mounted.

 

On July 16, a day after oil prices began to fall, the company transferred its trading account and in the process recognized $2.4 billion in losses as it became clear it could not cover its trading positions.

 

A threat by Nigeria's main militant group Wednesday to destroy major pipelines in the oil exporting country within 30 days did little to slow crude's decline. The group said it had not been part of an alleged $12 million payment to militants to protect pipelines.

 

At the gas pump, prices continued to decline. A gallon of regular dropped more than a penny to an average of $4.042 nationwide, according to auto club AAA, the Oil Price Information Service and Wright Express. Diesel fell 0.6 cent to $4.802.

 

In other Nymex trading, heating oil futures lost more than 6 cents to trade at $3.6127 a gallon, while gasoline futures shed over 7 cents to $3.0762 a gallon. Natural gas prices fell more than 7 cents to $9.992 per 1,000 cubic feet.

 

Fed Notes Slower Growth, Rising Prices

 

The Fed's new snapshot of business conditions, released Wednesday in the so called “Beige Book, “ underscored the challenges confronting the Fed as it tries to get the economy back on track.

 

Growth and inflation barometers turned worse in the summer, according to the report. Information from the Fed's 12 regional banks around the country suggested that "the pace of economic activity slowed somewhat since the last report" issued in June, the Fed report said.

 

Consumer spending -- the economy's lifeblood -- was reported as "sluggish or slowing" in nearly all the 12 Fed regions, although the government's tax rebate checks spurred sales for some items, especially electronics. Sales at many other stores, particularly for housing-related goods, were typically characterized as "weak or falling," however.

 

Looking ahead, "the outlook for retail activity was also generally downbeat," the Fed report said. Sales expectations were described as "grim" among retailers in the Dallas Fed region and "subdued" in the Atlanta region. Auto sales were characterized as "almost uniformly weak" across all Fed regions. Sales were especially poor for SUVs, trucks and some minivans.

 

On the manufacturing front, activity declined in many Fed regions. Production of housing-related goods, such as construction equipment, wood products, home furnishings and heating and cooling systems were particularly hard hit. On the positive side, though, overseas demand for U.S. exports remained "generally high."

 

The drooping value of the U.S. dollar, which makes U.S.-made goods and services cheaper and more attractive to foreign buyers, has helped to boost export growth. That export growth has been a key force keeping the economy afloat.

 

The Dallas region noted strong overseas sales of high-tech products. The Fed regions of Cleveland, Richmond, Chicago and Kansas City all reported continued high demand for exports.

Meanwhile, food manufacturers in the Fed's San Francisco region said they are continuing to operate at, or near, full tilt because of persistently high demand.

 

Turning to inflation, all Fed regions described "overall price pressures as elevated or increasing," the Fed report said.

 

Businesses continued to be hit by rising prices for fuel, metals, food and chemicals, among other things. Many Fed regions said manufacturers planned to raise prices to customers as a way of coping with the higher production costs. Some worried about a drop in customer demand and overall sales volume because of price hikes.

 

Some companies in the Philadelphia Fed region indicated that sluggish demand has made it difficult to raise prices. Meanwhile, some businesses in the Atlanta region were hesitant to pass along their higher costs as price increases because of cutbacks in discretionary spending by consumers.

 

Retail prices went up in several Fed regions. In the Kansas City region, for instance, companies reported higher prices at hotels, restaurant and resorts. Chicago retailers reported raising prices charged to consumers in response to higher wholesale prices.

 

By contrast, the Fed regions of New York and Cleveland reported relatively stable retail prices. One major retail chain in New York said that while costs under existing contracts were not up substantially, "some escalation in prices was expected within the next year," the Fed report said.

 

On the jobs front, most Fed regions said employment conditions were about the same or slightly weaker. Employers have cut jobs for six straight months as they try to keep work forces lean amid the economic slowdown. Housing, credit and financial problems all have weighed on growth. The unemployment rate, at 5.5 percent in June, is expected to climb in the months ahead. Wage pressures, meanwhile, were described as "generally modest."

 

Businesses in the Fed regions of Cleveland, Atlanta, Chicago and Kansas City reported very little upward wage pressures, except for very skilled workers and those in the energy field. But the Boston and Dallas regions said more workers were requesting higher wages to supplement cost of living increases.

 

Charles Plosser, president of the Federal Reserve Bank of Philadelphia, has warned that the Fed shouldn't wait for signs of something like that to emerge before taking corrective action. Plosser, an inflation hawk, has warned that the Fed might need to start to raise rates sooner rather than later to thwart inflation -- even if the economy stays fragile.

 

The Fed's survey is based on information supplied by the its 12 regional banks. The information was collected before July 14.

 

Amazon Reports Excellent Results After The Closing Bell

 

After the closing bell, Amazon.com reported that its quarterly net income doubled on a 41 percent rise in revenue, helped by higher operating profit margins. The online retailer posted second-quarter earnings of $158 million, or 37 cents per share, as compared to $78 million, or 19 cents per share a year ago. Revenue in the quarter, which is seasonally the slowest, rose to $4.06 billion.

 

Amazon, which has been lowering prices on many goods to spur purchases during the economic downturn, reported a rise in operating profit margin to 5.3 percent of total sales from 4.0 percent a year ago.

 

Valued at 45 times projected 2008 earnings, Amazon shares trade well above many Internet stocks, including Google as well as brick-and-mortar retailers with big online divisions like Wal-Mart, Target and Best Buy at 17, 13 and 12 times projected earnings, respectively.