MarketView for June 9

MarketView

 

Events defining the day's trading activity on Wall Street

 

Lauren Rudd

 

Monday, June 9, 2008

 

 

 

 

Summary

  

Stock prices turned in a modest gain on Monday, especially when compared with Friday's nearly 400-point drop in the Dow Jones industrial average, as concerns about consumer spending and the housing market were eased by better-than-expected sales numbers from McDonald's and a surprising gain in pending home sales.

 

Financial shares were among the worst-performing sectors, dragged down by Lehman Bros., which forecast a $2.8 billion second-quarter loss and unveiled a plan to raise $6 billion to strengthen its capital. Another major decliner in this sector was Washington Mutual, which is seen incurring substantial losses that could hit as high at $27 billion into 2011.

 

Helping out the day's trading session was data indicating that pending sales of previously owned homes rose in April to the highest level in six months as foreclosed properties hit the market and sent prices plummeting.

 

Shares of McDonald's, the world's largest restaurant chain, gained $2.36, or 4.14 percent, to close at $59.31 after the restaurant chain indicated that same store revenues increased by more than previously estimated.

 

Riding on McDonald's coattails were Wal-Mart, up $1.20, or 2.06 percent, to close at $59.57, and Procter & Gamble up $0.70, or 1.07 percent, to close at $66.07.

 

The Dow also received a lift from Alcoa, a company that Barron's said over the weekend could jump if higher aluminum prices boost profits and if the company becomes a takeover target. Alcoa ended the day up $2.95, or 7.52 percent, to close at $42.17.

 

Apple weighed on the NASDAQ after the computer company unveiled the widely anticipated new version of the iPhone with faster Internet access and considerably cheaper, prompting investors to book their profits on the stock, which is up more than 50 percent from its lows of the year. Apple's shares ended the day down $4.03, or 2.17 percent, to close at $181.61.

 

Further weighing on the sector were remarks from Federal Reserve officials that suggested persistent inflation pressures may make it necessary to raise interest rates.

 

Dallas Fed President Richard Fisher told CNBC that global inflation pressures are unlikely to go away. New York Fed President Timothy Geithner, in separate remarks, said global inflation risks will probably require tighter monetary policy. Higher interest rates are seen as negative for banking shares.

 

Treasury Says It May Intervene

 

Treasury Secretary Henry Paulson said on Monday that he would not rule out intervening in currency markets to stabilize the dollar, but said the U.S. economy's long-term strength will "shine through" in the dollar's value.

 

"I would never take intervention off the table or any policy tool off the table," Paulson said in an interview with CNBC television. "I just can't speculate about what we will or won't do."

 

First of all, the current administration's economic policies in general and White House policy with regard to strengthening the dollar has a credibility gap as wide as the Grand Canyon. Secondly, government intervention in the currency markets has been shown time and again to be ineffective. It is like fighting the tape on Wall Street, it simply does not work. The markets will overwhelm any attempt with the end result is that the major players will reap a windfall profit.

 

Paulson, who heads for Japan this week to meet fellow Group of Seven financial chiefs from rich nations, did back-to-back interviews on CNBC and CNN television to face questioning about the dollar's plunge and soaring oil prices.

 

He said the Bush administration was "focused" on both the dollar and on oil prices, which hit a record on Friday before easing on Monday.

 

Paulson's comments on the dollar were reinforced separately by New York Federal Reserve Bank President Tim Geithner who told the New York Economic Club that no central bank can be indifferent to its currency's value.

 

Fed Chairman Ben Bernanke rattled financial markets last week by telling an international financial conference in Europe the U.S. central bank and Treasury were monitoring currency markets "in collaboration," which briefly braced the dollar.

 

However, later in the week European Central Bank President Jean-Claude Trichet hinted at hiking interest rates, effectively kicking the feet from under the U.S. currency's rally and raising questions about what message financial markets were supposed to take.

 

Paulson said on CNBC that he had "obviously noticed" Trichet's comments but refused any further comment.

 

The dollar rose against the euro and yen after Paulson refused on Monday to rule out intervention. There has been no intervention in currency markets by the United States since the Bush administration took office in January 2001.

 

Paulson conceded that record oil prices and $4-a-gallon gasoline were "a problem" for the U.S. economy but blamed it on supply and demand and declined to blame speculators for playing a role in soaring prices.

 

"My position, and I've looked at this very carefully, is I don't believe financial investors are responsible to any significant degree for this price movement," Paulson said on CNN.

 

Paulson said tax rebates of up to $600 per adult and $300 per child would help the U.S. economy, even if a significant portion is spent on purchases of dramatically more expensive gasoline. "If we hadn't had this stimulus check coming, it would be much tougher on the American consumer," he said.

 

Sure, with those checks they can buy about three weeks of groceries and gasoline.

 

Pending Home Sales Rise

 

April saw an increase in pending home sales of previously owned homes as foreclosed properties flooded the market and drove prices sharply lower, the National Association of Realtors (NAR) reported on Monday. According to the NAR, an index of contracts signed in increased 6.3 percent to a reading of 88.2 from an unrevised 83.0 in March.

 

However, there is some merit to the argument that the unexpected rise in pending home sales could be the result of statistical reporting issues being disrupted from an earlier-than-usual Easter holiday week. Specifically, the exceptionally early Easter meant that all the holiday disruption was in March, so April had more selling days than usual. Meanwhile, sales were still 13.1 percent below year-ago levels.

 

"Bargain hunters have entered the market en masse, especially in areas that have seen double-digit price declines," said Lawrence Yun, the National Association of Realtors' chief economist. Regions of the country that have seen sharp price declines, such as the West, are now seeing a sales recovery, he added.

 

In the West, feeling the greatest pain from the subprime mortgage crisis, pending sales rose 8.3 percent in April and they were up 4 percent from a year ago. Pending sales rose also in the Midwest and the South, but they were down in the Northeast. At the same time, the median home price fell 8 percent in April from a year earlier, according to the NAR, making it the second-largest price decline on record.

 

Lehman Raises $6 billion

 

Lehman Brothers on Monday raised $6 billion of capital selling $4 billion of its shares at below their market price, and $2 billion of convertible securities. The offerings dilute the holdings of existing shareholders. The sale came in tandem with an announcement that from Lehman that it expects to post a $2.77 billion quarterly loss from trades and hedges gone sour and vindicates Lehman critics who had said the investment bank had not written down assets enough and would need to raise more capital.

 

While having access to short-term funding at the Federal Reserve and having billions of dollars of assets at its disposal, means that a run on the bank is not seen as being likely, market difficulties and the need to maintain higher capital levels will likely constrain Lehman's profitability.

 

The $6 billion of capital on Monday follows a $4 billion convertible preferred share offering in the beginning of April. Yet, clients seem to be standing by Lehman for the most part. Speaking on a conference call, Chief Financial Officer Erin Callan said the company had "no material loss of lenders, clients or counterparties during the quarter."

 

Lehman sold 143 million shares, or $4 billion worth, at $28 a share. The bank also sold $2 billion of preferred stock that automatically converts to common shares in three years. The convertibles have an annual dividend of 8.75 percent.

 

Investors and regulators are skittish about write-downs, and are forcing banks and brokers to boost their capital levels relative to their assets by either shedding assets or raising capital.

 

In the case of Lehman, it had about 14 to 19 times as much debt outstanding as equity at the end of the second quarter, compared to more than 30 times at the end of the first quarter.

 

Lehman's lower borrowings relative to equity came in part from boosting capital and in part from selling off assets. Gross assets dropped by $130 billion, and net assets by about $60 billion during the quarter, Lehman said. Further reductions in assets relative to equity are not likely, Callan said.

 

Lehman projected a second-quarter loss attributable to common shareholders of $2.87 billion, or $5.14 per share, for the quarter that ended May 31. The loss compared with a profit applicable to common shareholders of $1.26 billion, or $2.21 per share, a year earlier, and $465 million, or 81 cents per share, in the first quarter.

 

Net revenue is expected to be negative $668 million, compared with positive $5.51 billion a year earlier, Lehman said. The company is set to report quarterly results on June 16.

 

Moody's Investors Service lowered its outlook on Lehman's "A1" senior debt rating to "negative" from "stable." It nevertheless called the capital-raising "a positive step in bolstering both the balance sheet and investor confidence."

 

Banking Losses Expected To Continue

 

The shares of the major banks continued to fall on Monday after several of the Street's analysts warned that the global credit crisis will cause loan losses in the sector to mount.

 

Lehman Brothers Inc analyst Jason Goldberg said the largest U.S. banks could post $79 billion of credit losses this year, 30 percent more than he had previously forecast and more than twice the year-earlier level, with many of the problems stemming from real estate.

 

While regulators have tried to boost market liquidity, Goldberg wrote that "we expect elevated loan losses and further loan loss reserve building to continue to weigh on near-term results."

 

Goldberg cut his 2008 earnings forecasts for more than 20 banking companies and lowered his price target for most of these, including Citigroup, Bank of America, JPMorgan Chase, Wachovia Corp and Wells Fargo.

 

Meanwhile, Washington Mutual saw its stock price fall to a 16-year low after UBS AG analyst Eric Wasserstrom predicted the savings and loan could face $27 billion of losses in all asset classes through 2011. He widened his full-year loss estimate for the thrift to $4.45 per share from $4, and cut his price target to $8.50 per share from $11.

 

Fears the credit crisis has much further to run were fanned when Lehman itself projected a $2.77 billion second-quarter loss, more than 10 times what the Street had expected.

 

Banks have been battered by mounting loan losses as the slumping economy, skidding housing markets, record oil prices, rising unemployment and tighter credit conditions make it harder for borrowers to stay current on their debts.

 

Exposure to subprime mortgage debt and structured finance products have already resulted in more than $400 billion of write-downs and credit losses industry wide since the middle of last year.

 

But credit problems once concentrated in lower-quality, subprime mortgages have spread into higher-quality loans. The weakness has already begun to filter into other kinds of borrowings, including credit cards and auto debt, as well as loans to commercial real estate developers.