MarketView for May 19

MarketView

 

Events defining the day's trading activity on Wall Street

 

Lauren Rudd

 

Monday, May 19, 2008

 

 

 

 

Summary

 

Wall Street ended the day with no real direction on Monday after weakness in the technology sector reduced the day’s market's enthusiasm over a report that suggested the economy could still be growing. In particular, comments from SanDisk detailing soft sales helped pull stocks off their highs and sent tech shares lower.

 

The Conference Board's leading economic indicators report showed a 0.1 percent rise for April, following a similar uptick in March. The index, aimed at predicting economic activity in the next three to six months, had the Street believing that although the economy is weak, it is nonetheless positioned for recovery.

 

The Conference Board reported that the economy while weak could miss falling into a full recession. The Board reported that its index of leading indicators rose for the second straight month in April, coming in 0.1 percent higher while the same increase in March remained unrevised.

 

Government bonds were higher as the rally in stocks cooled. The yield on the benchmark 10-year Treasury note, which moves opposite its yield, fell to 3.83 percent from 3.85 percent late Friday. The dollar rose against most other major currencies, while gold prices also climbed higher.

 

Energy prices appeared to be somewhat under control on Monday. While many of Wall Street’s players remain mindful of the rising price of oil and its effect on consumer spending, Wall Street seemed somewhat unfazed as oil advanced but didn't top its record trading high set Friday. Light, sweet crude rose 76 cents to settle at a record $127.05 per barrel on the New York Mercantile Exchange.

 

Financial shares pulled back after the market came off its highs. Merrill Lynch fell $1.14, or 2.33 percent, to close at $47.71, while Lehman Brothers ended the day down 85 cents, or 1.95 percent, to close at $42.79.

 

In other corporate news, Microsoft has renewed talks with Yahoo about a possible deal to bolster the companies' position in the online search and advertising markets. The companies appear to be exploring possible arrangements outside of a direct tie-up.

 

General Motors saw its share price rise after one of its largest suppliers reached a tentative labor deal with the United Auto Workers. The agreement with American Axle & Manufacturing may end a nearly three-month strike by 3,650 U.S. hourly workers. GM ended the day up 19 cents, or 0.92 percent, to close at $20.87.

 

"These data certainly reflect a weak economy, but not one in recession," Ken Goldstein, a labor economist at the group, said in a statement. "Moreover, the small increases in the Leading Index in both March and again in April could be a signal that the economy may not weaken further."

The coincident index, a measure of current conditions, was unchanged in April and March, while the lagging index rose 0.1 percent in April and 0.4 percent in March.

 

Dollar Rises

 

The dollar rose on Monday, rebounding from a 2-1/2 week low against the euro. The euro fell to $1.5508, down 0.4 percent from late Friday, after hitting a 2-1/2 week high of $1.5632 earlier in the global session.

 

The dollar also rose 0.6 percent to 104.60 yen and 0.7 percent to 1.0552 Swiss francs, in large part because of a 0.1 percent rise in the Conference Board's index of leading economic indicators. In addition, the minutes from the April meeting of the Federal Reserve are due on Wednesday, and Wall Street will look for additional confirmation that the Fed has finally moved to the sidelines.

 

That's reassuring news for the dollar as oil prices continue to surge to new records. Of concern is the continued rise in oil prices. OPEC is collecting more money and putting less into U.S. Treasuries.

 

Elsewhere, the dollar was down 0.6 percent against its Canadian counterpart at C$0.9920, while the Australian dollar scaled a 24-year peak of $0.9564, boosted by firm commodity prices, before easing to $0.9533.

 

Now the big question is inflation. Inflation worries would keep the market focused on U.S. producer price data due on Tuesday. However, robust readings from the German ZEW and IFO sentiment indexes due this week could boost the euro by reinforcing the case for the European Central Bank to leave rates on hold a while longer rather than cutting them. Oil has contributed to uncomfortably high euro-zone inflation as well. In an interview with BBC on Monday, ECB President Jean-Claude Trichet reiterated that containing inflation needs to be policy makers' top priority.

 

Euro zone interest rates stand at 4 percent, and most analysts expect the ECB to hold them there to fend off inflation. The Bank of Japan is widely expected to keep interest rates at 0.50 percent at a two-day policy meeting that starts on Monday.

 

Municipals Keep Their Tax Deduction

 

The Supreme Court ruled on Monday ruled that cities and states can keep offering special tax breaks on their municipal bonds, a decision that preserves a top incentive for investors in the $2.5 trillion municipal bond market.

 

The 7-2 high-court ruling reversed a Kentucky appeals court decision that said it was unconstitutional for the state to grant tax breaks on interest from bonds issued in Kentucky while taxing interest from bonds issued in other states.

 

The high-court decision was an important victory for municipal bond issuers in most states. It allows them to keep a valuable tool for holding down financing costs for public projects. Without the special tax breaks, municipal bond issuers would have to compensate investors with higher interest rates.

 

All told, 42 states follow Kentucky's practice, and a Supreme Court ruling to uphold the lower court decision would have forced them to change their systems, with each state having to decide either to tax interest on in-state bonds or give breaks to out-of-state ones.

 

The ruling also prevented a massive revaluation of the market.

 

The decision, with Justices Anthony Kennedy and Samuel Alito dissenting, overturned a Kentucky appeals court ruling that Kentucky's tax breaks violate the Commerce Clause of the U.S. Constitution.

 

"For the better part of two centuries states and their political subdivisions have issued bonds for public purposes, and for nearly half that time some states have exempted interest on their own bonds from their state income taxes, which are imposed on bond interest from other states. The question here is whether Kentucky's version of this differential tax scheme offends the Commerce Clause. We hold that it does not," Justice David Souter wrote for the court majority.

 

During oral arguments in November, justices tangled over whether municipal bonds were commodities like manufactured goods or were simply methods used to finance government work.

 

Those who support the tax breaks say they keep the costs of debt manageable for the small governments and school districts issuing the bonds. Because the breaks attract investors, issuers can pay lower yields on the bonds.

 

Kentucky residents George and Catherine Davis brought the lawsuit against their state, saying that the practice violates the Commerce Clause of the U.S. Constitution, which gives the federal government power to regulate trade among states. For the clause to work, states cannot erect trade barriers, the lawsuit maintained.

 

So Who Is Right

 

The end to the credit crunch is still not in sight, European Central Bank President, Jean-Claude Trichet and Warren Buffett, the world's most famous stock market investor, warned on Monday.

 

"These are demanding times, challenging times... It is an ongoing, very significant market correction," Trichet told BBC radio in Britain. Buffett, whose years of shrewd investing have earned him the nickname "the sage of Omaha", struck a similar tone at a news conference in Frankfurt. "I'll talk about the United States. I don't think the effects of the credit crunch are far from over at all. I think there will be rippling secondary, tertiary effects."

 

However, Deutsche Bank's Chief Executive Josef Ackermann was quoted as saying, "I think that we are getting closer to the end of the financial crisis. It is not fully over yet, but the signs from the United States are encouraging."

 

With market turbulence persisting, Trichet added governments and financial decision makers needed to keep an iron grip on oil and food price fuelled inflation.

 

"We have this accumulation of the oil shock, the food and agro-products shock... Price stability and credibility in price stability in the medium term is the best way to have a high level of sustainable growth and sustainable job creation."

 

Trichet also warned governments not to make the wrong moves and risk the knock-on "second round effects" of inflation, such as higher wages, which followed the last oil price shock in the 1970s. These, he said, had "enshrined the high level of inflation for a long period of time" and led to mass unemployment in Europe.

 

While some of the 15 euro zone countries look in danger of following the U.S. into a sharp economic slowdown, near record inflation in the region has given the Frankfurt-based central bank little room for maneuver with regards to interest rates which have been on hold at 4 percent for the last 11 months.

 

Microsoft Back In The Ring

 

The word on the Street is that Microsoft has proposed an alternative but complex deal to Yahoo that involves just buying Yahoo's search business, rather than the entire company. As part of the deal, Microsoft would also buy a minority stake in what remains of the company after Yahoo sells its Asian assets.

 

Yahoo owns about 40 percent of China's Alibaba, and Yahoo Japan, assets it considers strategic. However, Alibaba has been lining up investors to help it buy back the Yahoo stake. Under the new proposal, Microsoft would take a passive minority stake in Yahoo after it spins off the Asian assets

 

The proposal is little more than an outline reflecting Microsoft's thinking, and does not yet put a value on Yahoo's search business. On Sunday, Microsoft said it was talking with Yahoo about an alternative transaction.

 

Apart from the search unit, which is Yahoo's strongest franchise, the company also owns a display advertising business and several Internet media properties, including Yahoo News, photo sharing site Flickr.com and Yahoo Mail. Meanwhile, Microsoft ended the day on Monday down 53 cents, or 1.77 percent, to close at $29.46, while Yahoo ended the day up 2 cents, or 0.07 percent, at $27.68.

 

Lower Results At Lowe’s

 

Lowe's reported an 18 percent decline in first-quarter earnings on Monday as the moribund housing market and soft economy hurt sales, and it cut its full-year profit forecast, sending its shares lower.

 

The second-largest home improvement chain behind Home Depot also reduced its sales-growth forecast for this year and said earnings for the current quarter would trail the year-earlier level.

 

Earnings came to $607 million, or 41 cents a diluted share, for the quarter ended May 2, compared with $739 million, or 48 cents a share, a year earlier.

 

The home improvement sector has been hurt as consumers curb big-ticket renovations in the face of falling home values, tighter credit requirements and higher prices for basic items such as food and gasoline. As a result, Lowe's earnings have fallen for the past three quarters, while Home Depot's quarterly earnings have declined for more than a year.

 

Lowe's quarterly sales fell 1.3 percent to $12 billion. Sales at stores open at least a year, or same-store sales, fell 8.4 percent. Wet, cooler weather hurt demand, and no product categories had same-store sales increases in the quarter, Lowe's said. The average purchase fell about 3 percent. Gross margin contracted to 34.69 percent of sales from 34.99 percent a year earlier, as higher fuel prices raised the cost of goods sold.

 

Lowe's said it gained market share in the first quarter and expects to benefit as weaker building-products suppliers struggle in the current economic slowdown. It now expects full-year profit per share of $1.45 to $1.55, down from its forecast of $1.50 to $1.58 a share in February. Total annual sales are now expected to rise about 1 percent, down from a previous forecast of a 3 percent rise.

 

The retailer forecast profit of 54 to 59 cents a share for the second quarter, down from 67 cents a share a year earlier, on a total sales increase of about 1 percent, with same-store sales falling 6 to 8 percent. Lowe’s shares ended the day down 64 cents, or 2.67 percent, to close at $24.25.