Today's Tidbits

Derivatives Demand Flourishing
From Bloomberg: “The global derivatives market grew at the fastest pace in at least nine years during 2006 as the amount of contracts based on bonds more than doubled to $29 trillion, the Bank for International Settlements said today. Derivatives covering bonds and loans rose by $15 trillion last year, the Basel, Switzerland-based bank said on its Web site. The total amount of over-the-counter contracts whose value is derived from price changes of bonds, currencies, commodities and stocks, or events like interest rates or the weather rose 39.5 percent to $415 trillion, the biggest jump since the BIS began compiling the data…The actual money at risk through credit derivatives increased 93 percent to $470 billion last year, the BIS said. The amount at stake in the entire derivatives market is $9.7 trillion, according to the BIS…Interest-rate swaps remain the biggest part of the derivatives market, growing 15 percent to $292 trillion, compared with 38-percent growth the previous year…Growth in the overall derivatives market outpaced the previous record increase of 39.2 percent in 2003. Foreign-exchange derivatives rose 28 percent to $40.2 billion in 2006. Contracts based on commodities such as gold and oil expanded by 27.7 percent to $6.9 trillion.”

S&P 500 Sets New Record High Closing Level
From AP: “Wall Street reached another milestone during a muted session Monday, when the Standard & Poor's 500 index briefly passed its record close of 1,527.46 for the first time in more than seven years. The S&P 500, considered by market professionals the best indicator of stock performance, surpassed the mark shortly after noon following a fresh spate of takeover deals. The broad market index has lagged the Dow Jones industrial average in recovering from the prolonged stock slump earlier this decade… It is still well below its all-time trading high of 1,552.87 set on March 24, 2000, the day the index reached its record close… After 24 record closes for the Dow this year, the S&P has finally caught up.”[Note – The S&P 500 closed at 1525.1]

Changing Leadership in Equity Markets
From Merrill Lynch: “History suggests that large caps have a tendency to outperform small caps when the market narrows. Over the past six years, when market breadth has been historically broad, small caps have outperformed large caps. As market leadership has narrowed over the past twelve months, the performance between small and large has started to change. For the 12-month period ending April 30th, the S&P 500 has DOUBLED the performance of the Russell 2000! Investors need to increasingly monitor market breadth because the evidence continues to grow that the profits cycle might continue to slow. Equity markets have historically become increasingly "Darwinistic" when profits cycles decelerate and survival of the fittest determines stock market performance. Not only does this argue in favor or large caps, but it also argues in favor of growth. Historically, growth indices consisted primarily of high quality, stable earnings growth companies. During the technology bubble this changed and most growth indices consisted of low quality, cyclical growth stocks. When the market peaked in 2000, approximately 50% of the S&P/Citigroup growth index and 58% of the S&P/Citigroup value index were considered high quality. Today the statistics are starkly different. 61% of the S&P/Citigroup growth index is now considered high quality, but only 50% of the S&P/Citigroup value index is considered high quality. As the market has worked off the excesses of the technology bubble, growth indices have gradually returned to their original state. This most recent update shows that growth has become higher quality and more stable than in the recent past.”

From Bank of America: “Recent market action continues to support our view that large-cap US stocks are likely to extend their move to “catch-up” relative to small caps this year. The Russell 2000 index of small-cap stocks outperformed the S&P 500 by over 64% in the 6 years ended April 30, 2006. In the year since, the S&P 500 has reclaimed 7.4% of the deficit; we see another 7% to 10% as possible in 2007.”

Rising Natural Gas Costs Push Plastic Production to Middle East
From Bloomberg: “Saudi Basic Industries Corp., the world's biggest chemical company by market value, agreed to buy General Electric Co.'s plastics unit…Sabic has doubled sales since 2002, helped by its ready access to the world's biggest reserves of oil, used as a raw material for plastics and petrochemicals. GE, by contrast, put its plastics unit up for sale in January after the soaring cost of crude cut into earnings….Sabic's advantage will stem from its access to abundant sources of feedstock from state-owned Saudi Aramco, the world's biggest oil company. The chemical maker exploits the natural gas released during oil extraction and once burned at the wellhead to achieve costs lower than at U.S. and European competitors….[Sabic] has grown to become the largest public company in the Middle East…The government owns about 70 percent of shares, with the rest restricted to investors in Saudi Arabia and the five other states of the Gulf Cooperation council.”

MISC
From Dow Jones: [Treasury yields closed 1-2bp lower] “The dollar climbed against the yen and euro overnight, after a rebound in Asian equity markets, and the greenback held on to those gains during a New York session devoid of data… New York crude oil futures jumped to a three-week high Monday, rising above $66 a barrel amid continued concerns about dwindling U.S. gasoline stockpiles before the onset of peak summer demand.”

From CNN: “Gasoline prices soared to levels never seen before as even the inflation-adjusted price for a gallon of unleaded topped the 1981 record spike in price that had stood for 26 years.”

From HSBC: “Eurozone GDP growth surprised to the upside last year, and so did fiscal balances. For the Eurozone as a whole, the budget deficit narrowed to 1.6% of GDP, the best reading since 2000. Out of the big four EMU economies, the improvement in Germany was the strongest, in line with the pronounced pick-up in GDP growth, which more than doubled.”

From Goldman Sachs: “We have cut our [U.S.] federal deficit estimate for fiscal year (FY) 2007 to $165 billion (1.2% of GDP)…”

From The Financial Times: “Kuwait on Sunday removed its currency peg to the US dollar, throwing plans for a Gulf currency union by 2010 into doubt and raising the prospect that other oil-producing states might abandon long-held dollar pegs… revert to a basket of currencies to prevent the sliding dollar increasing the cost of imports, which has stoked inflation to more than 4 per cent, double the historic average… The dollar is expected to make up about 75-80 per cent of the new basket, reducing the third largest Arab oil exporter's exposure to the weakening dollar… other GCC states - Saudi Arabia, the United Arab Emirates, Bahrain, Qatar and Oman - are studying the move as an option to mitigate dollar weakness.”

From Barclays: “USD/CAD [Canadian dollar] has fallen this morning to levels last seen in the late 1970s…with commodity prices rallying once more…” [Note- this means the US dollar is weak and the Canadian dollar is strong.]

From Reuters: “The U.S. Securities and Exchange Commission is being briefed monthly by the Central Intelligence Agency about terrorists and other criminals active in global stock markets, Barron's said in its latest edition…less-developed securities markets have reported stock trading by terrorists to raise money. Criminals now intentionally disperse operations across different countries to avoid detection, Barron's said. For instance, residents of Hong Kong, Malaysia, Estonia and Latvia have hacked into U.S. online brokerage accounts and used the proceeds to bid up the price of their own stocks. The SEC recently asked the CIA for higher security clearances that would provide its commissioners even more highly classified information than they are now receiving in their regular intelligence briefings, the publication said.”

From RBSGC: “In general, the worst case historically for servicers is a massive yield curve inverting rally. This increases actual and projected prepayment speeds, hurting the value of servicing on the books. However, when interest rates rise, although prepayments are expected to slow down, the value of the longer duration hedges (including receiver swaps) decline at the same time as market participants need to re-hedge their books.”

From Deutsche Bank: “The Fed H.8 data showed a noticeable pickup in whole loan buying by US banks. Whole loan holdings in the 3 weeks ending May 9th increased by $25 bn. MBS holdings were roughly unchanged.”

From The Chicago Tribune: “About 10 percent of big pension funds now have stakes in hedge funds, the Casey Quirk consulting firm estimates, and that's expected to hit 18 percent in the next few years.”

From Barclays: “…we find the bulk of the deceleration [in owners’ equivalent rent] has been driven by the New York City metro area, where demand for rental properties appears to be easing as the housing market has picked up.”