Corporate Profits Revised Substantially Lower in GDP Revisions
From UBS: “The GDP revisions included large shifts in income away from corporations and toward households. On a Q4/Q4 basis, personal income growth was revised up to: 6.0% (was 5.8%) in 2006 and 5.4% (was 4.6%) in 2005. Consequently, the personal savings rate was revised up to 0.4% in 2006 (was -0.9%) and 0.8% in 2005 (was -0.3%). Meanwhile, corporate profits were revised down: now reported up 8.4% (was 18.3%) in 2006 (Q4/Q4) and 9.1% in 2005 (was 12.8%). For Q1, they are now reported up just 2.1%y/y (was 6.5%)—well below the nearly 10% pace reported for S&P500 EPS (see chart). (Unlike the S&P 500, the national income accounts include all companies.) The weak pace in profits growth helps explain the slowing in business investment recently.”
Mortgage Market Relative to Other Markets and Hedging Implications
From Merrill Lynch: “…because of the headlines about the problems in the housing market, most investors are probably unaware that high quality mortgage backed securities issued by Fannie Mae and Freddie Mac have actually appreciated recently. From June 15 to Thursday of last week, high quality mortgage backed securities had a total return of +1.2%. That certainly compares well with High Yield debt's return of -4%, and Emerging Market Debt's return of -1.8%. 10-Year Treasuries, of course the highest quality long-term debt, returned 3.7%. Thus, high quality mortgage backed securities have not outperformed Treasuries, but they have certainly outperformed lower quality high yield or emerging markets debt.”
From Barclays: “Last week saw a massive bull steepening, driven by a bona fide flight to quality. 2s and 5s rallied 28 bp on the week, and 10s and 30s were 19 and 13 bp lower respectively… Mortgages got crushed last week, with the 30-year 4.5s to 6s losing between 6 to 16 ticks against swap duration hedges, led by the discounts. The spike in volatility was by far the reason, hurting returns by 10-14 ticks. The curve, on the other hand, actually added 4-5 ticks in returns as it steepened. Over the month, MBS have now lost 8 to 18 ticks duration hedged. 15s did far better last week, losing just 2-3 ticks duration hedged… Swap spreads widened 4-8 bp across the curve last week, amidst a decline in liquidity… Both short- and long-dated options spiked last week, especially once rates rallied through technical levels. They are now near two-year highs for most contracts.”
From RBSGC: “It was the 1998-1999 credit meltdown which forced the street to look at OAS versus less volatile swaps rather than Treasuries. As has been the case recently, during credit driven rallies, swap spreads tend to widen and MBS trade on a much shorten duration making them difficult to hedge. In fact, we have been recommending hedging MBS with less volatile swaps rather than treasuries for particularly this reason. Based on our hedge ratios we estimate that MBS have underperformed 10-year swaps by only 18 ticks this past months compared to almost 42 ticks versus Treasuries. Another notable exception to the 1998 episode has been that MBS have not benefited to the same extent from a flight to quality from corporates in 2007 compared to 1998.”
From RBSGC: “…so far this year, bank deposits have shrunk back to YE 2006 levels, MBS holdings are lower, yet C&I loan growth continues apace. This is somewhat negative for MBS, and we believe the "mortgage shedding" will continue until the banks perceive a Fed ease is imminent…Mortgages had a tough year last week, as markets other than U.S. Treasuries decoupled and literally stopped trading during Thursday's stock market drop. FNMA 5.5s underperformed the 10Y UST by 24+ ticks from 7/20 to 7/26.”
Housing Problems Spilling Into Weaker Consumer Spending Data
From Goldman Sachs: “ …recent news has significantly strengthened the notion of spillovers from housing to consumption: a) Real consumption grew only 1.3% annualized in Q2. Some of this was clearly due to gas prices…But even with that adjustment the numbers are pretty weak. Moreover, the news for early Q3 remains mostly soft, despite the fact that gas prices have fallen 25 cents since late May. Auto sales in July were probably only around 16.0 million SAAR, and the anecdotal news coming out of retail has remained on the weak side…Market is worried about consumption as well (this downtrend precedes the equity market drop). b) In today's GDP report, consumption for Q1 and prior quarters was revised down. Partly as a result of this revision, the personal saving rate now shows a modestly rising trend over the past 1-2 years. This strengthens the notion that the decline in mortgage equity withdrawal is weighing on consumer spending growth, as we have been expecting. (MEW isn't included in disposable income, so a MEW-driven consumption decline leaves income unchanged, driving up the saving rate.) This would come as a surprise to Fed officials, who have generally downplayed the housing/consumption link. c) If you look at sales tax revenue at the state level, you see a significant slowdown that is mostly due to outright revenue declines in housing boom/bust states such as Florida and California. Moreover, Florida provides some data that break out taxable retail sales into different categories (durables, nondurables, recreation, construction supplies, etc.). These data show a broad-based drop, which supports the idea that the unfolding Florida recession isn't just due to construction but has an important consumer element as well -- just as the MEW story would predict. All this is so important because it's clear that housing will remain weak for the foreseeable future. Our estimate of a 5% decline in house prices this year looks to be on track, and next year is likely to show another decline. In that environment, the squeeze on consumers is likely to get worse, not better, and that reinforces the idea that growth next year will again be below trend.”
Home Foreclosures Expected to Reach 2 Million This Year
From Reuters: “U.S. home foreclosure filings rose 58 percent from the same period a year earlier with the trend likely to increase by the end of the year, RealtyTrac said on Monday…showing a foreclosure rate of one foreclosure filing for every 134 U.S. households…"If the current pace were to continue, foreclosure filings would surpass two
million by the end of the year, which would represent a year-over-year increase
of more than 65 percent," …California's foreclosure filing total was the highest among all states in the first half of 2007, while Nevada posted the country's highest foreclosure
rate, with one foreclosure filing for every 40 households. Foreclosure filings include default notices, auction sales notices and bank repossessions.”
From JP Morgan: “…delinquency rates on agency guaranteed mortgages continued to decline through May and indeed were at new cycle-lows…”
Vacant Homes Rise 50% in 2 Years As New Construction Exceeds Demand
From JP Morgan: “Total vacant units for sale are now up nearly 50% over the last two years, but the year-over-year rate of growth slowed sharply between 1Q and 2Q… Whether vacancies can fall further will in part depend on the path of housing starts and new home sales. This is because while new homes make up only 15% of vacant single-family units, they have contributed 36% of the rise in vacancies over the last year… Data …suggest that the new home sales report is underestimating the inventory level of new homes. This is occurring because if a sales contract on a new home is canceled, the new home sales report does not add that unit back into inventory (nor does it revise sales figures). According to the housing vacancies report, completed new homes for sale rose from 158,000 in 2Q06 to 256,000 in 2Q07, while the new home sales report shows a rise from 131,000 to 179,000 over the same period. The homeowner vacancy rate fell to 2.6% in 2Q from 2.8% in 1Q but is above the 2.2% rate from 2Q06. The rental vacancy rate fell to 9.5% in 2Q from 10.1% in 1Q and 9.6% in 2Q06.”
Banks Raising Hedge Fund Margin Requirements
From The Financial Times: “Investment banks are responding to rising credit concerns by imposing tougher lending terms on hedge funds, in a move that threatens to exacerbate investor unease in the financial markets. Prime brokerage departments at several investment banks have raised their margin requirements for certain hedge fund clients as they seek to insure themselves against the possibility of new hedge fund collapses as a result of the recent market turmoil… Financing terms for hedge funds are being tightened and this is forcing a further deleveraging of risk across global markets," …"Recently we have broadened our stricter standards to funds beyond those with exposure to US mortgage market. I'd say this is now a pretty broad-based retreat from leverage." The move could raise the pressure on parts of the hedge fund sector, since it comes at a time when performance at some groups has slumped as a result of recent market swings. The average hedge fund, across all strategies, returned just 0.8 per cent in June… Fixed income-focused hedge funds were the worst affected, returning just 0.2 per cent in June. If a hedge fund's performance deteriorates sufficiently, its prime broker's bank can demand that it sells assets to repay loans.”
Jobless Claims Good Indicator of Employment Growth as Productivity Slows
From JP Morgan: “Even as growth has been lackluster over the past year, most indicators of the labor market have remained healthy. The simplest explanation is that productivity growth has slowed. Another explanation is that the payroll survey has
overcounted jobs, particularly in the residential construction industry. This week brought the release of the 4Q06 Quarterly Census of Employment and Wages (QCEW), a
comprehensive count of employment that covers 98% of all jobs—the closest thing to a hard number in economic data. Through the end of last year, the payroll survey tracked the change in actual employment, as measured by the QCEW, remarkably well, suggesting that forthcoming benchmark revisions to payrolls will be negligible. Over that period, jobless claims behaved in a manner consistent with the payroll survey, supporting the contention that the claims data are a very useful high-frequency gauge of the health of the labor market. And claims have moved down through July, which is a positive signal on growth. The notion that construction payrolls are being grossly mismeasured also received little support from the QCEW, as the benchmark data were very close to the monthly survey data. Some have argued that the decline in residential investment without a corresponding decline in residential construction employment augurs a fall in jobs in that category and a bounce in productivity. However, nonresidential investment relative to nonresidential construction employment has surged. Taking the earlier argument at face value, this would foretell a surge in hiring and a fall in productivity. A better story is that the demarcation between residential and nonresidential construction jobs is clearerin the data than it is in reality.”
Asian Growth Accelerating Outside of China
From JP Morgan: “Recent indicators point to a powerful acceleration in growth in EM Asia. Although China’s growth surge has dominated the headlines, Korea’s 2Q real GDP growth of 7.0%q/q, saar and Singapore’s 2Q double-digit growth were both well above their recent trends. Monthly data from Taiwan also show a turn towards much stronger growth, with IP reaching a 22.3% growth pace last quarter; the rise in July export orders
indicated that this momentum is carrying into the current quarter. In these tech-driven economies, inventory drawdowns that were drags on growth around the turn of the year
have faded, and solid global demand for electronics equipment is now lifting output.
These solid growth numbers should give Asian central bankers more comfort to nudge policy conditions tighter, though their motivation is often not around core inflation (which stays generally well contained around the region).”
Unusual Stock Market Divergences Urge Caution
From Forbes: “Since last month, the Dow Jones Industrial Average has hit nine new record closing highs… and breadth has taken a decisive turn for the worse. The DJIA has closed higher in five of the past eight trading days, but declining stocks outnumbered advancing stocks in seven of those eight sessions. That type of negative breadth divergence has occurred only 15 times in 75 years--the majority of which were in bear markets. On Monday of last week, the DJIA hit a record high while declining stocks overwhelmed advancing stocks by a two to one margin. That ominous divergence has never occurred in the past 75 years of market history. Divergences are also appearing in major indexes, as the headline-grabbing DJIA has risen over 1,000 points in the past five months--but the small-cap Russell 2000 Index has slipped lower. If that isn't a flight to quality, we don't know what is! As a consequence, we are moving to a full bear market defensive mode… When the DJIA scores a new record high by closing up over 40 points, yet there are twice as many stocks closing down for the day as closing up, then something is wrong. When the DJIA closes higher in seven out of eight days, but breadth is positive (advancing stocks outnumber declining stocks) on only one of those days, then something is wrong. The "wrong" confirms that fewer stocks are participating and investors become more selective in stock purchases. Historically, this is known as "a flight to quality"--and it is clearly underway.”
Tighter Credit Reduces Stock Buybacks and Mergers – Reduce Market Support
From The International Herald Tribune: “As stocks raced to new highs this year, many investors felt their prices were justified by robust corporate earnings. They were only partly right. Other powerful forces were at work as well: corporate buybacks and mergers, both of which require access to E-Z credit. For instance, the Standard & Poor's Index Services Group estimated that almost $118 billion was spent on stock buybacks during the first quarter of 2007, up 17.5 percent from the $100 billion registered during the first quarter of 2006. In the first quarter, S&P said, 101 companies reduced their actual share count by at least 4 percent, while 72 cut their average diluted shares, used to determine earnings per share, by at least 4 percent. That means that at least 4 percent of the growth at those companies came from share count reductions, not operating earnings. The S&P data also show that information technology companies were the biggest buyers of their own shares, accounting for almost 23 percent of the total buybacks and 15 percent of the market value of that stock during the first quarter. Consumer goods companies were another major player in the repurchase arena last quarter, accounting for almost 15 percent of stock buybacks and 10 percent of the market value.”
Financial Stocks Under Pressure
From Bloomberg: “Moody's shares have declined about 10 percent in the past two weeks, extending their loss for the year to almost 20 percent… After peaking at about 511 points on May 23, the Standard & Poor's index of 92 U.S. financial stocks declined more than 10 percent through July 26, while the S&P 500 index fell just 2.6 percent. In the five years through the end of 2006, the financial index posted a total return of more than 56 percent, outpacing the 34 percent delivered by the benchmark index. Here's a scorecard of some of the world's biggest banks, from wherever the shares reached their high for this year compared with closing prices on July 26. Bear Stearns Cos. is down almost 28 percent. Royal Bank of Scotland Group Plc is down 21 percent. Deutsche Bank AG is down 18 percent. JPMorgan Chase & Co. is down 17 percent. Goldman Sachs Group Inc. is down almost 17 percent. Citigroup Inc. is down almost 14 percent. So much for the golden age of finance. ”
MISC
From Goldman: “Fear is sweeping through the financial markets, with a tightening of credit conditions prompting a broad based repricing of risk (i.e. a widening of spreads). The equity market has been the highest profile victim of the pullback in credit markets. The S&P 500 index fell roughly 5% on the week, with financial intermediaries the hardest hit sector…A key feature of the current turmoil is that credit has become scarcer, rather than simply more expensive. This could affect the real economy in at least three ways. First, it could exacerbate the already large overhang of unoccupied housing. Second, it could curb consumer spending through a combination of negative wealth effects, constraints on those who require access to smooth spending through a combination of negative wealth effects, constraints on those who require access to credit to smooth spending, and potential labor market contraction. Finally, tougher credit conditions could constrain capital spending and hiring by firms that depend on external financing.”
From The Financial Times: “Global banks are well-placed to withstand the weakening in credit markets but could face a squeeze on revenues if the situation worsens, according to a report Monday by Standard & Poor's, the ratings agency… S&P says an upturn in defaults "cannot be far away". Banks could - if the situation worsens - see "sizeable losses" relative to earnings and capital. In terms of revenues, they will no longer receive such substantial underwriting fees from leveraged finance activity.
From Business Week: “…it's not the Fed's job to bail out stock and bond investors. The Fed takes notice of the financial markets only when conditions there threaten to cause a genuine credit crunch—that is, when even credit-worthy companies and families can't borrow money. We're still far from that scenario. In the mortgage market, for example, prime borrowers are getting, if anything, even more offers of credit because lenders need to make up for their lost subprime business.”
From JP Morgan: “The shock waves currently reverberating through financial markets are putting monetary authorities in a tight spot, balancing the risk of a full-blown credit crisis against the risk of a decisive move up in inflation. However, for some countries,
inflation risks are turning into inflation realities, leaving little option but for higher policy rates in the coming months.”
From JP Morgan: “Strong economic fundamentals and high commodity prices had until recently insulated financial assets in emerging markets from the troubles in US credit markets. However, this changed dramatically this week, as the subprime woes finally
hit equity markets and investors took profits in emerging markets to offset losses elsewhere. This led to a massive 42bp widening in the EM bond index (EMBIG) spread this week. Moreover, in EM countries where appreciating currencies have been a disinflationary force allowing central bank to ease, the spread of the US credit market anxiety to EM’s raises the possibility of currency depreciation.”
From Market News: “In an interview with the Sunday Telegraph, Lord George, former governor of the Bank of England, claimed criticisms of China's handling of its currency were often misplaced. "The Chinese I speak to understand that in the longer term a stronger renminbi is good for the welfare of the Chinese people as a whole," George said. "It's the same argument the Americans used to use - a strong dollar is good for the US. "But their immediate priority is not improving the overall welfare, in terms of the overseas purchasing power, of the Chinese people. Their priority is to create jobs for all those coming off the land. That's a good thing for the Chinese economy and for the rest of the world. "They've lifted millions out of poverty in the last few years and they have recognised these concerns through the increasing flexibility of the renminbi. But they recognise that you can't change things overnight."”
From ASPO: “China [total oil]… Imports were 19.7% higher than a year earlier… making Tehran the largest supplier of crude to Beijing… China plans to build four levels of crude oil reserves made up of two parts - the government reserve and “enterprise storage.” The government reserve will be at two levels, a strategic crude oil reserve base by the central government, and an oil reserve base by local governments. The enterprise storage will also be at two levels, commercial oil reserve by the largest oil companies and oil storage by the medium and small ones.”
From Market News: “Treasury says it expects to hit the statutory debt limit of $8.965 trillion in early October and Paulson sends letter to Congress requesting an increase ‘as soon as possible.’”
End-of-Day Market Update
Treasuries retreated as the flight-to-quality buying eased after the equity market rallied. As of 4pm, two year yields fell 9bp to 4.58% while ten year yields fell a more modest 5bp to 4.81%, causing the yield curve to flatten. Swap and other credit spreads stopped widening (worsening), and finished the day tighter.
Stocks bounced. The Dow closed up 93 to settle at 13,359 after trading up over 130 points in the early afternoon. The S&P finished up 15 at 1474, and the Nasdaq improved by 21 points. The S&P is 3.9% higher since the beginning of the year, but is down 5.3% from its recent new high.
The dollar weakened slightly in the afternoon after trading around unchanged overnight. Versus Friday’s close, the dollar index has fallen 15 points to 80.80.
WTI oil futures rallied to set a new contract high of $77.33 earlier in the day, exceeding last summer’s high of just over $77, before settling back to close down 19 cents at $76.72.
Monday, July 30, 2007
Saturday, July 28, 2007
Economic Calendar - July 30 – August 3, 2007
Consensus Prior
Monday, 7/30No Data
Tuesday, 7/31
June Personal Income +.5% +.4%
Hourly earnings and hours worked both rose
June Personal Spending +.2% +.5% Auto sales were weak
June PCE Deflator YoY 2.3% 2.3%
June Core PCE MoM +.2% +.1%
YoY +1.9% +1.9%
Slightly lower growth than CPI
Hotel price gains have less impact on this index
2nd Qtr Employment Cost Index +.9% +.8%
Wages and salaries expected to grow +.9%
Benefit costs likely to rise after decelerating last quarter
Strong equity market gains reduced pension plan contribution needs
Above trend medical cost gains decelerating
YoY growth expected to hold steady at 3.5%, with wages picking up and benefits costs slowing over the past year
May S&P Case-Shiller Home Price Change 20 City -2.1%
July Chicago Purchasing Manager 58 60.2
Domestic demand has been weak
Auto demand has been weak
July Consumer Confidence 105 103.9
Slight improvement expected as most participation is early in month, when stocks were rising and gas prices easing
June Construction Spending +.3% +.9%
Residential construction expected to decline for 16th straight month
Non-residential and government demand continue to carry the load
Non-residential growth exceptionally strong in second quarter, but concerns credit tightening will squash future growth
Wednesday, 8/1
ADP Employment Change 100k 150k
Add 25k for government jobs
June Pending Home Sales -.3% -3.5%
Down 11% in last three months
July ISM Manufacturing 55.5 56
Prices Paid 66.5 68 ISM manufacturing reached a 14-month high in June
New orders hit a 16-month high in June
Deliveries have been increasing, suggesting fewer bottlenecks and less inflationary pressures
Regional indexes mixed in July
July Total Vehicles Sold 16M 15.6M
Domestic 12.3M 11.8M
Thursday, 8/2
Initial Jobless Claims 310k 301k
4 week average 308.5k
June Factory Orders +1% -.5%
Friday, 8/3
July Change in Non-Farm Payrolls 129k 132k
Manufacturing -15k -18k
Over the past three months, growth has averaged 148k per month
Jobless claims remain relatively low
76% of new jobs in 2007 focused on education, health services, food services, and government
July Unemployment Rate 4.5% 4.5%
Has ranged between 4.4 – 4.6% since last September
If labor force participation holds steady, unemployment rate may rise to 4.6%
Continuing claims have trended higher
July Average Hourly Earnings MoM +.3% +.3%
YoY +3.9% +3.9%
Peaked at 4.3% YoY last December
July Average Weekly Hours 33.9 33.9
Index of aggregate hours worked expected to rise +.1% MoM
July Non-Manufacturing ISM 59 60.7
Beige Book indicates strong demand for professional services
New orders slipped last month
Monday, 7/30No Data
Tuesday, 7/31
June Personal Income +.5% +.4%
Hourly earnings and hours worked both rose
June Personal Spending +.2% +.5% Auto sales were weak
June PCE Deflator YoY 2.3% 2.3%
June Core PCE MoM +.2% +.1%
YoY +1.9% +1.9%
Slightly lower growth than CPI
Hotel price gains have less impact on this index
2nd Qtr Employment Cost Index +.9% +.8%
Wages and salaries expected to grow +.9%
Benefit costs likely to rise after decelerating last quarter
Strong equity market gains reduced pension plan contribution needs
Above trend medical cost gains decelerating
YoY growth expected to hold steady at 3.5%, with wages picking up and benefits costs slowing over the past year
May S&P Case-Shiller Home Price Change 20 City -2.1%
July Chicago Purchasing Manager 58 60.2
Domestic demand has been weak
Auto demand has been weak
July Consumer Confidence 105 103.9
Slight improvement expected as most participation is early in month, when stocks were rising and gas prices easing
June Construction Spending +.3% +.9%
Residential construction expected to decline for 16th straight month
Non-residential and government demand continue to carry the load
Non-residential growth exceptionally strong in second quarter, but concerns credit tightening will squash future growth
Wednesday, 8/1
ADP Employment Change 100k 150k
Add 25k for government jobs
June Pending Home Sales -.3% -3.5%
Down 11% in last three months
July ISM Manufacturing 55.5 56
Prices Paid 66.5 68 ISM manufacturing reached a 14-month high in June
New orders hit a 16-month high in June
Deliveries have been increasing, suggesting fewer bottlenecks and less inflationary pressures
Regional indexes mixed in July
July Total Vehicles Sold 16M 15.6M
Domestic 12.3M 11.8M
Thursday, 8/2
Initial Jobless Claims 310k 301k
4 week average 308.5k
June Factory Orders +1% -.5%
Friday, 8/3
July Change in Non-Farm Payrolls 129k 132k
Manufacturing -15k -18k
Over the past three months, growth has averaged 148k per month
Jobless claims remain relatively low
76% of new jobs in 2007 focused on education, health services, food services, and government
July Unemployment Rate 4.5% 4.5%
Has ranged between 4.4 – 4.6% since last September
If labor force participation holds steady, unemployment rate may rise to 4.6%
Continuing claims have trended higher
July Average Hourly Earnings MoM +.3% +.3%
YoY +3.9% +3.9%
Peaked at 4.3% YoY last December
July Average Weekly Hours 33.9 33.9
Index of aggregate hours worked expected to rise +.1% MoM
July Non-Manufacturing ISM 59 60.7
Beige Book indicates strong demand for professional services
New orders slipped last month
Friday, July 27, 2007
University of Michigan Confidence Remains Elevated in Final July Reading
The final July University of Michigan Confidence Survey was able to maintain the majority of its improvement from June. The final July figure is 90.4, down from the preliminary estimate of 92.4, but considerably above the 85.3 final level for June. Lower future expectations were responsible for the softening in the July figure. Current conditions softened from 105.7 to 104.5 from the preliminary to the final reading, while the outlook fell to 81.5 from 83.9.
The number of consumers saying now is a bad time to buy a house rose the highest level since 1991.
Inflation expectations for the one-year outlook rose to 3.4% from 3.3%, while the 5-year reading held constant at 3.1% from the preliminary reading, which was an increase from the 2.9% level in June.
The number of consumers saying now is a bad time to buy a house rose the highest level since 1991.
Inflation expectations for the one-year outlook rose to 3.4% from 3.3%, while the 5-year reading held constant at 3.1% from the preliminary reading, which was an increase from the 2.9% level in June.
2nd Quarter GDP Close to Expectations Causing Little Market Reaction
Second quarter GDP figures show that growth rebounded from the weakness of the first quarter. GDP grew at a 3.4% annualized pace (consensus 3.2%), while the first quarter growth rate was revised slightly lower to +.6% annualized from +.7% previously reported. Versus the second quarter of 2006, GDP has grown +1.8% YoY, up from +1.5% in the first quarter of 2007, but down from the 3.2% pace of the second quarter of 2006.
Personal consumption fell dramatically to +1.3% annualized (consensus +1.5%) from 3.7% (revised down from +4.2%) in the first quarter. Durable goods demand rose +1.6% annualized while non-durable goods fell -.8% annualized in the second quarter. Services slowed to +2.2% annualized.
Gross private investment rebounded to positive territory for the first time since the second quarter of 2006, growing +3.1% annualized. Non-residential structures grew a huge 22% annualized, but the recent credit crackdown may slow this growth in the future. Residential construction fell for the sixth quarter in a row, falling an additional -9.3% annualized in the most recent quarter, which is a slowdown from the 16-20% pace seen in the prior three quarters.
Exports grew +6.4% annualized, relatively evenly divided between goods and services. The rise in exports was a major contributor to GDP this past quarter. Imports fell -2.6% annualized with services declining more than goods. Imports haven't fallen this much since the 2001 recession. Government consumption rebounded to the highest level in over a year, increasing +4.2% annualized. Defense spending rose +9.55 annualized.
Headline inflation moderated more than expected, falling to +2.7% annualized (consensus +3.4%) from 4.2% in the first quarter. Core inflation dropped to 1.4% in the second quarter, as expected, from 2.4% in the prior period.
Normally GDP numbers would be watched carefully by the market, but with all of the other uncertainty, they are not having much impact today. Ten year Treasury yields rose after the release, and are now up 2bp verus yesterday's close. On net, the numbers are a little better than expected and should support third quarter GDP growth, based on the smaller than expected increase in inventory growth, and larger than expected increase in fixed investment by businesses. The increase in exports and decrease in imports were also a boost, though the slowdown in consumer spending indicates the consumer may be weakening. The Fed is unlikely to react to this report.
Personal consumption fell dramatically to +1.3% annualized (consensus +1.5%) from 3.7% (revised down from +4.2%) in the first quarter. Durable goods demand rose +1.6% annualized while non-durable goods fell -.8% annualized in the second quarter. Services slowed to +2.2% annualized.
Gross private investment rebounded to positive territory for the first time since the second quarter of 2006, growing +3.1% annualized. Non-residential structures grew a huge 22% annualized, but the recent credit crackdown may slow this growth in the future. Residential construction fell for the sixth quarter in a row, falling an additional -9.3% annualized in the most recent quarter, which is a slowdown from the 16-20% pace seen in the prior three quarters.
Exports grew +6.4% annualized, relatively evenly divided between goods and services. The rise in exports was a major contributor to GDP this past quarter. Imports fell -2.6% annualized with services declining more than goods. Imports haven't fallen this much since the 2001 recession. Government consumption rebounded to the highest level in over a year, increasing +4.2% annualized. Defense spending rose +9.55 annualized.
Headline inflation moderated more than expected, falling to +2.7% annualized (consensus +3.4%) from 4.2% in the first quarter. Core inflation dropped to 1.4% in the second quarter, as expected, from 2.4% in the prior period.
Normally GDP numbers would be watched carefully by the market, but with all of the other uncertainty, they are not having much impact today. Ten year Treasury yields rose after the release, and are now up 2bp verus yesterday's close. On net, the numbers are a little better than expected and should support third quarter GDP growth, based on the smaller than expected increase in inventory growth, and larger than expected increase in fixed investment by businesses. The increase in exports and decrease in imports were also a boost, though the slowdown in consumer spending indicates the consumer may be weakening. The Fed is unlikely to react to this report.
GDP Revisions Show Economy Slowed Earlier Than Originally Reported
The government provided revised GDP figures for the past few years which indicate the economy grew considerably more slowly than originally reported. Every quarter going back through at least the fourth quarter of 2005 had revisions lower. The largest revision was a decrease of -.9% for the third quarter of 2006 which revised GDP for the quarter almost in half to +1.1% from +2% originally reported. GDP was revised lower based on less housing and business investment than anticipated, and slower consumer spending gains. Net, GDP for the years of 2004-2006 was actually .3% lower than initially reported, with 2006 seeing the largest revision lower (2.9% from 3.3%). The trend shows the economy began cooling in 2006 rather than 2007.
Note that the lower GDP also implies that productivity has deteriorated more than previously observed. Economists will be watching the employment figures for revisions to indicated whether hours worked also declined.
Headline inflation was revised slightly higher to 2.8% YoY over the three years, but core held steady at 2.2% YoY.
Note that the lower GDP also implies that productivity has deteriorated more than previously observed. Economists will be watching the employment figures for revisions to indicated whether hours worked also declined.
Headline inflation was revised slightly higher to 2.8% YoY over the three years, but core held steady at 2.2% YoY.
Thursday, July 26, 2007
Today's Tidbits
An Overview
From Handelsbanken: “Reports of an Australian hedge fund limiting redemptions, disappointing earnings news from two more home builders, and rumours of liquidity problems at a couple of broker dealers extended the flight to quality rally in Treasury bonds and sparked large downward adjustments in equities and a slid in the dollar against the yen. The principal result of this increase in the risk premium discounted in the markets was bullish steepening of the Treasury yield curve and a dip in equities below key resistance at 13500 and 1500 on the Dow and the S&P… Continued deterioration in the sub-prime market and the derivative securities bases on these assets has prompted a sharp widening in credit spreads, especially for high yield debt. The long over due rise in the risk premium discounted in the domestic bond markets has also spilled over into equities and into the foreign exchange markets developing a self supporting loop of bad news. The deleveraging of the financial markets carries important implications not only for investors but also for the broader economy. Specifically, the economies ability to weather the consolidation in residential investment experienced over the past two years with only a marginal cut back in the pace of employment reflects the fact that excess liquidity in the economy was simply channelled into unaffected areas of the economy by efficient markets. On the other hand, a narrowing of the credit channel associated with more cautions bank lending decisions and the recent financial market rationing of credit to the most risky borrowers will keep the economy from living up to the relatively upbeat consensus forecast… The dynamics of a new more academic leaning FOMC and a desire on the part of policy makers to distance themselves from the “Greenspan put” implies that an orderly widening of credit spreads is not likely force a rate cut. Only a bank funding cries is likely to force the Fed’s hands before inflation is back well within the Committee’s comfort zone. The ongoing normalization of risk premium will be allowed to run as long as a flow of liquidity though the economy is not unexpected chocked off. Three things that market participant should monitor to determine if financial conditions are spiralling out of control: 1) swap and CDS spreads, 2) the strength of the yen, and 3) the on-the-run/off-the-run spread in the Treasury market. The interest rate swap market and CDS markets are good measures of the perceived risk in the economy and, in particular, the financial sector. A rising yen will reduce the liquidity coming into the economy from overseas and is likely to accelerate the deleveraging of the markets. The on-the-run/off-the-run spread provides a window into the perceived risk among major financial market participants.”
From Deutsche: “…one day does not make a trend and while emotions ran high, feels as though none of the topical concerns are going away soon.”
From JP Morgan: “Agencies have been absolutely hammered w/ 10s 9bp wider on the
day and trading at ~L-9.75bp. Lost in all of the credit meltdown, EM has taken it on the chin, w/ the EMBI index 28bp wider. Interestingly, mtge pass-thrus have cheapened significantly on sprd to USTs and swaps over the past week and a half, but when adjusted for the move in vol they haven't cheapened nearly as much...at this point it looks like mtge sprd positions are largely a vol trade.”
Implied Volatility Rising as Concerned Investors Buy Insurance
From Lehman: “Treasury Vols SCREAMING HIGHER - have gapped/repriced higher multiple times throughout the day.”
From Bloomberg: “The benchmark for U.S. stock volatility surged to the highest in 13 months on concern that bond market turmoil triggered by the subprime loan crisis will lead to bigger price swings. The Chicago Board Options Exchange Volatility Index jumped as much as 29 percent to 23.36, the highest since June 2006. Higher readings in the so-called VIX, derived from prices paid for options on the Standard & Poor's 500 Index, indicate traders expect bigger stock-market swings in the next 30 days. ``When it shoots up that means there's a great deal of uncertainty,'' …The S&P 500's slide today of as much as 3.5 percent, which would be the biggest closing decline since 2003, is a ``pretty good jab to the ribs.'' Spikes in the VIX have coincided with stock-market declines. The index rose the most ever on Feb. 27, climbing 64 percent to 18.31, as the U.S. equity market suffered the worst rout in almost four years[ when the Chinese stock market sold-off]. The VIX has come within 2 points of 50 on only three occasions in the past decade. The first, on Oct. 8, 1998, came as losses mounted from Russia defaulting on its debt. It reached another peak 10 days after the terrorist attacks in September 2001, and again surged in July 2002 as fallout from Enron Corp.'s collapse drove down shares of its main lenders and former rivals. …``People are panicking,…Volatility usually rises when you have big moves in the market and moves down tend to be more violent than moves up.'' When the S&P 500 reached a record high on July 19, the VIX finished the day at 15.23. While the S&P 500 has gained four straight years, the VIX has fallen every year since 2002. In November, the index fell below 10 for the first time since 1994 and in December fell to a 13-year low of 9.39. The number of shares changing hands also increased, another sign of volatility. Some 2.28 billion shares traded on the New York Stock Exchange as of 3:27 p.m., 88 percent more than the same time a week ago. In the U.K., the London Stock Exchange said 798,800 trades were made today, the most ever at the bourse.”
From RBSGC: “…in this environment of credit panic and illiquidity, you have the few actually trying (or succeeding) to get out or buy protection having an exaggerated influence and confusing already opaque price discovery. Where are we on all this? After such a massive move we are more interested in where yields stall than if they can continue and therein lies the rub. It's largely about credit spreads and we see no recovery, let alone relief, in sight and we deem this an ongoing event and, most certainly, credit risk premium is a structural, not a temporary, restoration. Besides, as we look at market positions and harp on neutral exposure vis a vis duration, we know that the overweight is in credit. What makes this liquidity/credit crunch different from others is that the risk is embedded into so many different funds, investments, and not so concentrated as to reveal quickly if traumatically an Orange County or LTCM. The revelation will take longer, we suspect, and so support Treasuries for that period and then some.”
Increasing Worries About the Economy, But Fed Not Likely to Rush Bailout
From Merrill Lynch: “Today's durable goods orders data only looked good next to the home sales report. While we are going to very likely see a 3%+ GDP growth for 2Q tomorrow, the number seems inconsequential for a forward-looking financial market. Stocks and bonds had priced in the second quarter inventory-led bounce a while ago. Not only do we enter the third quarter with no momentum on the consumer spending side, but after today's durables report, we have no growth being built into capex either. At the same time, housing remains in a full-blown recession and the spike in the durable goods I/S ratio in June to 1.48x from 1.46x in May, should cloud the 3Q production outlook. We have taken our 3Q real GDP growth forecast down to 1.7% (from 1.9%) and believe risks are squarely to the downside…The economy is clearly softening and the weakness from housing is clearly spreading out. The Fed is probably going to have to at least shift to a de facto neutral posture at the coming FOMC meeting on August 7th, especially with the sharp widening in credit spreads, the downturn in the equity market and the general pullback in risk appetite and lending further clouding what's already been a subdued economic outlook.”
From Lehman: “Fears of subprime mortgage contagion and a deeper housing recession continue to rattle financial markets. Housing data were decidedly weak, with larger-than-expected declines in existing and new home sales. We see downside risks to our downbeat forecast:”
From Dow Jones: “Home builders set off new alarm bells on the distressed U.S. housing market, with D.R. Horton Inc. and Beazer Homes USA Inc. posting losses, while WCI Communities Inc. admitted it can’t find a buyer for the ailing company. Those weren’t the only signs of stress: Beazer got a new line of credit that’s half the size of its previous one, signaling a greater tightening of money available to the industry. All of this indicates the worst housing slump in years – one that has scared buyers and lenders as inventories and foreclosures mount - won’t end any time soon. And it’s at the root of
the concerns slamming the stock market.”
From Morgan Stanley: “The Fed will not cut rates until this repricing of risk becomes a systemic problem that impacts the market's access to liquidity and leverage. In other
words, a good old fashioned liquidity crunch. Furthermore, Bernanke is not going
to cut rates and reward investors who bought products with very little risk
premium. There is no Bernanke put, at least not yet.”
Chinese Economists Recommend China Discontinue Purchasing US Mortgages
From The Asia Times: “While China is eager to invest a portion of its US$1.33 trillion foreign-exchange reserve overseas, it is unlikely to take a chance on buying additional US mortgage-backed securities (MBS) as they are now considered too risky, Chinese economists said… Yi Xianrong, a senior economist and finance professor with the Chinese Academy of Social Sciences, a central government think-tank, attributed the previous surge of mortgage-backed securities bought by Chinese companies to inexperience in conducting risk assessments and their miscalculation of the US property market. "After seeing how the property prices in China kept soaring, these Chinese companies never thought of the US property market as having problems and they bought a lot of mortgage-backed securities, particularly in the past two years," Yi told Asia Times Online. "Apart from underestimating the level of risk, the better returns offered by MBS over US Treasury bonds also made the Chinese investors unable to judge the high risk of the US mortgage market."… Yi said some bond ratings agencies that advise investors, including Chinese, also purposely played down the MBS risk. "Some ratings agencies slapped investment-grade ratings on mortgage-backed bonds that they knew they were risky," he charged. Bond-rating agencies this month finally downgraded about $12 billion worth of subprime US mortgage securities, Yi said. Economist Shi Weigan echoed Yi's comments. "With a possible burst in the housing bubble in the US, it's not the right choice for Beijing to spend foreign-exchange reserve funds on the US mortgage-backed securities," Shi said.”
Federal Government Expected to Go On a Hiring Spree as Baby-Boomers Retire
From CNN: “193,000 jobs will open up between now and 2009, according to the report, which is based on a detailed survey of 34 agencies representing about 99% of the federal workforce. Most of the hiring is due to two big factors - the aging of the workforce and the war on terror. Nearly one-third of the government's 1.6 million full-time employees are expected to retire over the next few years, and they all need to be replaced. At the same time, more than 83,000 jobs are being added at agencies charged with protecting the United States, including 47,897 jobs at the Department of Homeland Security and 35,505 at the Department of Defense…About 86% of federal jobs are located outside the D.C. area, and more than 50,000 are overseas. Cities with the greatest concentration of federal employees include Norfolk-Virginia Beach, Baltimore, Philadelphia, Atlanta, San Diego, New York City, Chicago, Salt Lake City, Oklahoma City, and Los Angeles. Uncle Sam is willing to be generous to the right candidates, offering "recruitment bonuses, retention incentives, [and] relocation incentives," the report says. Some positions will pay new hires' graduate-school tuition, and many offer student-loan repayments - up to $10,000 per year for a total of $60,000 - in exchange for at least three years of government service.”
MISC
From Bloomberg: “The risk of owning bonds of Wall Street firms soared as concerns escalated that investment banks will be hurt by losses from subprime mortgages and corporate debt… confidence has been sapped after hedge funds run by at least seven firms reported or forecast losses after the rout in securities backed by subprime mortgages, some of which have lost at least half their value as defaults among the riskiest borrowers rise. Slumping demand for high-yield, high-risk debt forced almost 40 companies to rework or abandon bond offerings in the past three weeks.”
From Dow Jones: “Risk-averse investors have been increasingly balking at junk bond offerings meant to replace bridge loans, which are temporary leveraged buyout financing extended by the banks. This has fueled worries that Wall Street banks will find themselves on the hook for risky, longer-term financing.”
From Dow Jones: “The dollar’s month-long declines against the yen took a decisive turn for the worse Thursday as volatility in global markets had investors scrambling to unwind the popular yen centered carry trade strategy, sending the Japanese currency soaring against its major rivals. More rough weather in U.S. stocks and declines in U.S.
Treasury yields amid higher oil prices and weaker-than-expected economic reports pushed the dollar to as low as Y118.86 during the New York session. That’s its lowest level since April…”
From Citi: “Consensus forecasters have habitually overestimed advance US GDP readings in recent years. Actual outcomes have come in beneath consensus 10 of the last 12 times.”
From Dow Jones: “Wells Fargo & Co.’s, the nation’s second-largest home lender, said it will stop making subprime mortgages through brokers amid escalating late payments and defaults that have been plaguing the entire mortgage industry. The closing of the subprime “wholesale lending” business, which accounted for 1.6% of Wells Fargo’s total home mortgages of $397.6 billion last year, reflects “the turmoil” in the market for risky mortgages, said Michael Lepore, executive vice president for institutional lending at the San Francisco bank. The business’s returns, he added, “have been consistently
diminishing since the first quarter.” Wells Fargo will continue to offer subprime loans - or those to less-than-creditworthy borrowers - “in channels where the company has direct relationships with consumers,” the bank said.”
From USA Today: “States are taking the lead in trying to combat what the Federal Trade Commission reports is the biggest concern to American consumers — identity theft — by limiting the ways thieves can collect Social Security numbers and other personal data. Since January, at least 35 states have considered bills that would further restrict the use of Social Security numbers to identify individuals, some even calling to remove the number from documents such as paychecks and police reports, according to the National Conference of State Legislatures.”
From Dow Jones: “Ford Motor Co. surprised Wall Street in announcing its first
profit in two years…:
From Dow Jones: “The Chicago Fed Midwest Manufacturing Index - a measure of manufacturing output in Illinois, Indiana, Iowa, Michigan and Wisconsin - remained unchanged in June…”
From RBSGC: “…yesterday saw the mortgage servicer remittance reports come out and show further payment slowdowns on subprime -- no surprise, perhaps, but no relief either. And today has rating agencies downgrading more debt (S&P doing this to some more ABS).”
End-of-Day Market Update
Treasury prices soared on panic flight to quality buying initiated by speculative buying in the morning and joined by real money buying in the afternoon. The 2y Treasury yield has fallen 15.5bp to 4.56%, while the 10y yield has fallen 12bp to 4.78%, causing the curve to steepen.
Equities hit the skids on high volume selling. The Dow is closing down 312 at 13,474. The S&P 500 dropped 36 to 1489, and Nasdaq fell 49 to 2599.
The dollar gave back some of yesterday’s gains, which some are attributing to central bank buying yesterday. The dollar index slid .20 to 80.45. Gold fell a substantial $12, as investors sought liquid investments to sell for cash gains to cover margin calls.
NY Oil futures fell 93 cents after hitting new highs for the year earlier in the trading session. The high oil price is being used to explain some of the weakness in equities today.
From Handelsbanken: “Reports of an Australian hedge fund limiting redemptions, disappointing earnings news from two more home builders, and rumours of liquidity problems at a couple of broker dealers extended the flight to quality rally in Treasury bonds and sparked large downward adjustments in equities and a slid in the dollar against the yen. The principal result of this increase in the risk premium discounted in the markets was bullish steepening of the Treasury yield curve and a dip in equities below key resistance at 13500 and 1500 on the Dow and the S&P… Continued deterioration in the sub-prime market and the derivative securities bases on these assets has prompted a sharp widening in credit spreads, especially for high yield debt. The long over due rise in the risk premium discounted in the domestic bond markets has also spilled over into equities and into the foreign exchange markets developing a self supporting loop of bad news. The deleveraging of the financial markets carries important implications not only for investors but also for the broader economy. Specifically, the economies ability to weather the consolidation in residential investment experienced over the past two years with only a marginal cut back in the pace of employment reflects the fact that excess liquidity in the economy was simply channelled into unaffected areas of the economy by efficient markets. On the other hand, a narrowing of the credit channel associated with more cautions bank lending decisions and the recent financial market rationing of credit to the most risky borrowers will keep the economy from living up to the relatively upbeat consensus forecast… The dynamics of a new more academic leaning FOMC and a desire on the part of policy makers to distance themselves from the “Greenspan put” implies that an orderly widening of credit spreads is not likely force a rate cut. Only a bank funding cries is likely to force the Fed’s hands before inflation is back well within the Committee’s comfort zone. The ongoing normalization of risk premium will be allowed to run as long as a flow of liquidity though the economy is not unexpected chocked off. Three things that market participant should monitor to determine if financial conditions are spiralling out of control: 1) swap and CDS spreads, 2) the strength of the yen, and 3) the on-the-run/off-the-run spread in the Treasury market. The interest rate swap market and CDS markets are good measures of the perceived risk in the economy and, in particular, the financial sector. A rising yen will reduce the liquidity coming into the economy from overseas and is likely to accelerate the deleveraging of the markets. The on-the-run/off-the-run spread provides a window into the perceived risk among major financial market participants.”
From Deutsche: “…one day does not make a trend and while emotions ran high, feels as though none of the topical concerns are going away soon.”
From JP Morgan: “Agencies have been absolutely hammered w/ 10s 9bp wider on the
day and trading at ~L-9.75bp. Lost in all of the credit meltdown, EM has taken it on the chin, w/ the EMBI index 28bp wider. Interestingly, mtge pass-thrus have cheapened significantly on sprd to USTs and swaps over the past week and a half, but when adjusted for the move in vol they haven't cheapened nearly as much...at this point it looks like mtge sprd positions are largely a vol trade.”
Implied Volatility Rising as Concerned Investors Buy Insurance
From Lehman: “Treasury Vols SCREAMING HIGHER - have gapped/repriced higher multiple times throughout the day.”
From Bloomberg: “The benchmark for U.S. stock volatility surged to the highest in 13 months on concern that bond market turmoil triggered by the subprime loan crisis will lead to bigger price swings. The Chicago Board Options Exchange Volatility Index jumped as much as 29 percent to 23.36, the highest since June 2006. Higher readings in the so-called VIX, derived from prices paid for options on the Standard & Poor's 500 Index, indicate traders expect bigger stock-market swings in the next 30 days. ``When it shoots up that means there's a great deal of uncertainty,'' …The S&P 500's slide today of as much as 3.5 percent, which would be the biggest closing decline since 2003, is a ``pretty good jab to the ribs.'' Spikes in the VIX have coincided with stock-market declines. The index rose the most ever on Feb. 27, climbing 64 percent to 18.31, as the U.S. equity market suffered the worst rout in almost four years[ when the Chinese stock market sold-off]. The VIX has come within 2 points of 50 on only three occasions in the past decade. The first, on Oct. 8, 1998, came as losses mounted from Russia defaulting on its debt. It reached another peak 10 days after the terrorist attacks in September 2001, and again surged in July 2002 as fallout from Enron Corp.'s collapse drove down shares of its main lenders and former rivals. …``People are panicking,…Volatility usually rises when you have big moves in the market and moves down tend to be more violent than moves up.'' When the S&P 500 reached a record high on July 19, the VIX finished the day at 15.23. While the S&P 500 has gained four straight years, the VIX has fallen every year since 2002. In November, the index fell below 10 for the first time since 1994 and in December fell to a 13-year low of 9.39. The number of shares changing hands also increased, another sign of volatility. Some 2.28 billion shares traded on the New York Stock Exchange as of 3:27 p.m., 88 percent more than the same time a week ago. In the U.K., the London Stock Exchange said 798,800 trades were made today, the most ever at the bourse.”
From RBSGC: “…in this environment of credit panic and illiquidity, you have the few actually trying (or succeeding) to get out or buy protection having an exaggerated influence and confusing already opaque price discovery. Where are we on all this? After such a massive move we are more interested in where yields stall than if they can continue and therein lies the rub. It's largely about credit spreads and we see no recovery, let alone relief, in sight and we deem this an ongoing event and, most certainly, credit risk premium is a structural, not a temporary, restoration. Besides, as we look at market positions and harp on neutral exposure vis a vis duration, we know that the overweight is in credit. What makes this liquidity/credit crunch different from others is that the risk is embedded into so many different funds, investments, and not so concentrated as to reveal quickly if traumatically an Orange County or LTCM. The revelation will take longer, we suspect, and so support Treasuries for that period and then some.”
Increasing Worries About the Economy, But Fed Not Likely to Rush Bailout
From Merrill Lynch: “Today's durable goods orders data only looked good next to the home sales report. While we are going to very likely see a 3%+ GDP growth for 2Q tomorrow, the number seems inconsequential for a forward-looking financial market. Stocks and bonds had priced in the second quarter inventory-led bounce a while ago. Not only do we enter the third quarter with no momentum on the consumer spending side, but after today's durables report, we have no growth being built into capex either. At the same time, housing remains in a full-blown recession and the spike in the durable goods I/S ratio in June to 1.48x from 1.46x in May, should cloud the 3Q production outlook. We have taken our 3Q real GDP growth forecast down to 1.7% (from 1.9%) and believe risks are squarely to the downside…The economy is clearly softening and the weakness from housing is clearly spreading out. The Fed is probably going to have to at least shift to a de facto neutral posture at the coming FOMC meeting on August 7th, especially with the sharp widening in credit spreads, the downturn in the equity market and the general pullback in risk appetite and lending further clouding what's already been a subdued economic outlook.”
From Lehman: “Fears of subprime mortgage contagion and a deeper housing recession continue to rattle financial markets. Housing data were decidedly weak, with larger-than-expected declines in existing and new home sales. We see downside risks to our downbeat forecast:”
From Dow Jones: “Home builders set off new alarm bells on the distressed U.S. housing market, with D.R. Horton Inc. and Beazer Homes USA Inc. posting losses, while WCI Communities Inc. admitted it can’t find a buyer for the ailing company. Those weren’t the only signs of stress: Beazer got a new line of credit that’s half the size of its previous one, signaling a greater tightening of money available to the industry. All of this indicates the worst housing slump in years – one that has scared buyers and lenders as inventories and foreclosures mount - won’t end any time soon. And it’s at the root of
the concerns slamming the stock market.”
From Morgan Stanley: “The Fed will not cut rates until this repricing of risk becomes a systemic problem that impacts the market's access to liquidity and leverage. In other
words, a good old fashioned liquidity crunch. Furthermore, Bernanke is not going
to cut rates and reward investors who bought products with very little risk
premium. There is no Bernanke put, at least not yet.”
Chinese Economists Recommend China Discontinue Purchasing US Mortgages
From The Asia Times: “While China is eager to invest a portion of its US$1.33 trillion foreign-exchange reserve overseas, it is unlikely to take a chance on buying additional US mortgage-backed securities (MBS) as they are now considered too risky, Chinese economists said… Yi Xianrong, a senior economist and finance professor with the Chinese Academy of Social Sciences, a central government think-tank, attributed the previous surge of mortgage-backed securities bought by Chinese companies to inexperience in conducting risk assessments and their miscalculation of the US property market. "After seeing how the property prices in China kept soaring, these Chinese companies never thought of the US property market as having problems and they bought a lot of mortgage-backed securities, particularly in the past two years," Yi told Asia Times Online. "Apart from underestimating the level of risk, the better returns offered by MBS over US Treasury bonds also made the Chinese investors unable to judge the high risk of the US mortgage market."… Yi said some bond ratings agencies that advise investors, including Chinese, also purposely played down the MBS risk. "Some ratings agencies slapped investment-grade ratings on mortgage-backed bonds that they knew they were risky," he charged. Bond-rating agencies this month finally downgraded about $12 billion worth of subprime US mortgage securities, Yi said. Economist Shi Weigan echoed Yi's comments. "With a possible burst in the housing bubble in the US, it's not the right choice for Beijing to spend foreign-exchange reserve funds on the US mortgage-backed securities," Shi said.”
Federal Government Expected to Go On a Hiring Spree as Baby-Boomers Retire
From CNN: “193,000 jobs will open up between now and 2009, according to the report, which is based on a detailed survey of 34 agencies representing about 99% of the federal workforce. Most of the hiring is due to two big factors - the aging of the workforce and the war on terror. Nearly one-third of the government's 1.6 million full-time employees are expected to retire over the next few years, and they all need to be replaced. At the same time, more than 83,000 jobs are being added at agencies charged with protecting the United States, including 47,897 jobs at the Department of Homeland Security and 35,505 at the Department of Defense…About 86% of federal jobs are located outside the D.C. area, and more than 50,000 are overseas. Cities with the greatest concentration of federal employees include Norfolk-Virginia Beach, Baltimore, Philadelphia, Atlanta, San Diego, New York City, Chicago, Salt Lake City, Oklahoma City, and Los Angeles. Uncle Sam is willing to be generous to the right candidates, offering "recruitment bonuses, retention incentives, [and] relocation incentives," the report says. Some positions will pay new hires' graduate-school tuition, and many offer student-loan repayments - up to $10,000 per year for a total of $60,000 - in exchange for at least three years of government service.”
MISC
From Bloomberg: “The risk of owning bonds of Wall Street firms soared as concerns escalated that investment banks will be hurt by losses from subprime mortgages and corporate debt… confidence has been sapped after hedge funds run by at least seven firms reported or forecast losses after the rout in securities backed by subprime mortgages, some of which have lost at least half their value as defaults among the riskiest borrowers rise. Slumping demand for high-yield, high-risk debt forced almost 40 companies to rework or abandon bond offerings in the past three weeks.”
From Dow Jones: “Risk-averse investors have been increasingly balking at junk bond offerings meant to replace bridge loans, which are temporary leveraged buyout financing extended by the banks. This has fueled worries that Wall Street banks will find themselves on the hook for risky, longer-term financing.”
From Dow Jones: “The dollar’s month-long declines against the yen took a decisive turn for the worse Thursday as volatility in global markets had investors scrambling to unwind the popular yen centered carry trade strategy, sending the Japanese currency soaring against its major rivals. More rough weather in U.S. stocks and declines in U.S.
Treasury yields amid higher oil prices and weaker-than-expected economic reports pushed the dollar to as low as Y118.86 during the New York session. That’s its lowest level since April…”
From Citi: “Consensus forecasters have habitually overestimed advance US GDP readings in recent years. Actual outcomes have come in beneath consensus 10 of the last 12 times.”
From Dow Jones: “Wells Fargo & Co.’s, the nation’s second-largest home lender, said it will stop making subprime mortgages through brokers amid escalating late payments and defaults that have been plaguing the entire mortgage industry. The closing of the subprime “wholesale lending” business, which accounted for 1.6% of Wells Fargo’s total home mortgages of $397.6 billion last year, reflects “the turmoil” in the market for risky mortgages, said Michael Lepore, executive vice president for institutional lending at the San Francisco bank. The business’s returns, he added, “have been consistently
diminishing since the first quarter.” Wells Fargo will continue to offer subprime loans - or those to less-than-creditworthy borrowers - “in channels where the company has direct relationships with consumers,” the bank said.”
From USA Today: “States are taking the lead in trying to combat what the Federal Trade Commission reports is the biggest concern to American consumers — identity theft — by limiting the ways thieves can collect Social Security numbers and other personal data. Since January, at least 35 states have considered bills that would further restrict the use of Social Security numbers to identify individuals, some even calling to remove the number from documents such as paychecks and police reports, according to the National Conference of State Legislatures.”
From Dow Jones: “Ford Motor Co. surprised Wall Street in announcing its first
profit in two years…:
From Dow Jones: “The Chicago Fed Midwest Manufacturing Index - a measure of manufacturing output in Illinois, Indiana, Iowa, Michigan and Wisconsin - remained unchanged in June…”
From RBSGC: “…yesterday saw the mortgage servicer remittance reports come out and show further payment slowdowns on subprime -- no surprise, perhaps, but no relief either. And today has rating agencies downgrading more debt (S&P doing this to some more ABS).”
End-of-Day Market Update
Treasury prices soared on panic flight to quality buying initiated by speculative buying in the morning and joined by real money buying in the afternoon. The 2y Treasury yield has fallen 15.5bp to 4.56%, while the 10y yield has fallen 12bp to 4.78%, causing the curve to steepen.
Equities hit the skids on high volume selling. The Dow is closing down 312 at 13,474. The S&P 500 dropped 36 to 1489, and Nasdaq fell 49 to 2599.
The dollar gave back some of yesterday’s gains, which some are attributing to central bank buying yesterday. The dollar index slid .20 to 80.45. Gold fell a substantial $12, as investors sought liquid investments to sell for cash gains to cover margin calls.
NY Oil futures fell 93 cents after hitting new highs for the year earlier in the trading session. The high oil price is being used to explain some of the weakness in equities today.
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