Friday, August 7, 2009

Week ending August 7, 2009 Market Update

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Week ending August 7, 2009

Friday* Last Week Dec. 31 2008 1 Yr Ago
Dow Jones Ind. Avg. 9,389 9,172 8,776 11,431
S&P 500 1,013 987 903 1,266
Nasdaq 100 2,004 1,979 1,577 2,356
The Russell 2000 753 557 499 713
DJ STOXX Europe 231 225 198 287
Nikkei Index 10,412 19,357 8,860 13,125
Fed Funds Target 0-0.25% 0-0.25% 0-0.25% 2.00%
2-Year U.S. Treasury Yield 1.32% 1.12% 0.77% 2.43%
10-Year U.S. Treasury Yield 3.88% 3.48% 2.21% 3.93%
U.S.$ / Euro 1.42 1.43 1.40 1.53
U.S.$ / British Pound 1.67 1.67 1.46 1.94
Yen / U.S.$ 97.55 94.68 90.64 109.44
Gold ($/oz) $957.03 $954.00 $882.05 $873.05
Oil $72.54 $69.45 $44.60 $120.02
*Levels as of 12:40 a.m. PST

Year to Date (1/1/09 -8/7/09)

Dow Jones Industrial Avg 6.98%

S&P 500 12.13%

NASDAQ 27.08%

Russell 2000 14.63%

MSCI World Index 15.11%

DJ STOXX Europe 600 (euro) 16.29%

Year to Date (1/1/00 - 8/6/09)

90 Day T-Bill 0.14%

2-Year Treasury 0.29%

10-Year Treasury -10.10%

ML High Yield Index 38.72%

JP Morgan EMBI Global Diversified 21.06%

JP Morgan Global Hedged -0.85%

August 3

Construction Spending – Construction spending rose unexpectedly in June by 0.3% after dropping 0.8% in May. The increase was mostly due to a record level of spending on public buildings.
ISM Manufacturing – The Institute for Supply Management’s factory index rose to its highest level since August 2008, increasing to 48.9 in July from 44.8 in June. Though readings below 50 signal a contraction, the significant uptick far exceeded expectations and underscores the possibility of a third-quarter recovery in manufacturing.
Auto Sales - Auto sales rose to a seasonally adjusted annualized rate of 11.25 million in July, spurred largely by the government's $2 billion cash for clunkers program. The July figure is the highest this year, but remains significantly lower than the 12.60 million July 2008 level.
Euro Zone PMI – European manufacturing and service industries contracted at the slowest pace in a year in July. The composite index of both industries rose to 47 from 44.6 in June, the highest reading since August 2008 and above estimates of 46.8.

August 4
Personal Income and Spending – Personal income fell 1.3% during the month of June due to the absence of one-time stimulus payments that pushed personal income up by 1.3% in May. Spending rose 0.4%, but fell 0.1% after adjusted for inflation.
Pending Home Sales – The pending home sales index, based on sales contracts on existing homes, rose 3.6% in June after a revised 0.8% gain in May. The index is up 6.7% on a year-over-year basis due to historically low mortgage interest rates, affordable prices, and large selection.

August 6
Germany Factory Orders – German factory orders posted their biggest increase in two years in June. Orders adjusted for seasonal swings and inflation jumped 4.5% from May—the most since June 2007 and the fourth successive monthly gain. Orders are still 25.3% lower than a year earlier.

August 7
Unemployment Rate – The US economy shed 247,000 jobs in July as the unemployment rate fell to 9.4% from 9.5% in June. The drop in the unemployment rate is largely due to a decrease in the civilian labor force participation rate, which declined by 0.2% in July to 65.5%.
June 5 Employment – Nonfarm employment declined by 345,000 in May, the smallest decline in 8 months, beating forecasts of 520,000 job losses. During the same period, the unemployment rate exceeded estimates, rising from 8.9% to 9.4%, the highest unemployment rate since 1983. February 6 Employment Report – The US economy shed 598,000 jobs in January and the unemployment rate rose to 7.6%, which is its highest level since 1992. -->

The US economy shed 247,000 jobs in July 2009, which is less than half the average of 556,000 jobs that were lost each month during the first half of the year. At the same time, the unemployment rate edged down slightly from 9.5% to 9.4% marking the first decline since April 2008. The improvement in the labor market is the latest signal that the US recession is easing. Looking ahead, we expect positive economic growth in the third quarter to translate into a gradual increase in hiring by year end. Given our expectation that real gross domestic product will increase at an annual rate of around 3% in the third quarter, we expect the economy to begin generating an average of 100,000 jobs per month by year end. Unfortunately, this is still below the 150,000 jobs that are necessary to absorb new entrants to the labor force. Therefore, the unemployment rate will continue to rise through the first half of 2010 before peaking somewhere around 10%.

Treasury Bonds
Interest rates moved markedly higher this week, representing a parallel shift across the yield curve of 30 basis points. Driving rates higher was an upside surprise in economic data (GDP and nonfarm payrolls) and a growing sense that the market is trying to move past the prospects of a prolonged dampening of global growth. Agency spreads have continued their march tighter with maturities less than two years offering no incremental yield pick up to Treasuries.
Large-Cap Equities
The stock market rallied for the fourth consecutive week reaching a 10-month high as better-than-expected economic data and strong corporate earnings provided evidence of an improving economy. The S&P 500 index rose about 2.5% for the week. Large-cap stocks modestly underperformed small-cap stocks. In terms of style, large-cap growth stocks underperformed large-cap value stocks. The best performing sector for the second straight week was financials and the worst performing sector was telecommunication services. As earnings season winds down, companies in the S&P 500 index continue to surprise on the upside as 3 out of every 4 companies who have reported have beaten analysts’ estimates. This week, Cisco Systems reported better-than-expected quarterly earnings of 31 cents per share, which beat analysts’ estimates of 29 cents per share. The company attributed the solid quarter to cost reduction and improving order trends.
Corporate Bonds
Investment grade primary activity ignited this week as issuers undertook the task to meet the insatiable demand and the nonstop flow into the high grade credit space. Improving economic data has led to optimistic financial markets causing investors to become more confident. This cycle will continue until we reach the pinnacle of consumer sentiment and start reallocating into other asset classes. The broken record continued this week as almost every new issue was well oversubscribed and performed incredibly in the secondary market. • Investment grade corporate spreads tightened despite a vast amount of issuers tapping the new issue market. Several months ago when a new issue hit the market it would cause secondary issuers in that name/tenor/sector to drift wider due to the new issue concession. These days, however, new issue is pricing appropriately and gapping in on secondary trading because everyone is buying to fill their intended position. The Barclays Credit Index Option-Adjusted Spread (OAS) finished the week at +216, tighter by 15 basis points. Financials tightened by 24 basis points (banks -19, insurance -36); industrials tightened by 15 basis points (telecom -11, consumer non-cyclical -13, basic materials -14, capital Goods -20, energy -13); and utilities tightened by 8 basis points.
Mortgage-Backed Securities
Agency mortgages lagged Treasuries as yields backed up on stronger-than-expected economic reports. The underperformance is not an alarm and a welcomed breather from weeks of favorable market action and spread tightening. For the last six months, agency mortgages have been the product du jour for risk-averse investors that desire an alternative to low yielding Treasuries. As the economy recovers, market participants should start to scale out of their agency mortgage holdings in favor of riskier bond sectors and equities. Some of that trade has already occurred as corporate credit and emerging market have posted very strong absolute and relative returns in 2009. Fortunately, the US Government continues to support the mortgage market by steadily digesting originator supply keeping mortgage spreads in check versus Treasuries. A drop in volatility and a benign rate environment also should help buoy agency pass-throughs. For the week, the 30-year current coupon versus the 10-year Treasury widened by 10 basis points to 100 basis points.
Municipal Bonds
A steep yield curve continues to be one of the most notable features of the current municipal market environment. Two-year AAA-rated bond yields fell 2 basis points to 0.66% while 30-year AAA-rated bond yields fell 1 basis point to 4.66%. That means the difference between a 2-year bond and a 30-year bond is 400 basis points, or 4 percentage points, an unprecedented difference. A large part of the story is driven by municipal bond investors’ worries over liquidity, credit and inflation risks. As a result, investors are hoarding cash in the front part of the yield curve keeping shorter-maturity yields extraordinarily low. However, this trend may come under pressure as Treasury yields back up in the wake of today’s better-than-expected employment report and the relative value of taxable alternatives tempt tax-exempt investors.
New deals this week included the $825 million North Texas Tollway Authority (A2/A-) Build America Bonds (BABs). The bonds featured a 2049 final maturity and priced at +230 basis points, or 2.3 percentage points, above the 30-year Treasury yield. The issuer also issued a $600 million tax-exempt bond deal, which offered a 6.34% yield in the 2039 maturity. The deal was generally well received by the marketplace. One example of this is that for the BABs deal by the end of the week the spread over Treasuries had narrowed to +230 from +210.
High-Yield Bonds
High yield started off the month of August with a very firm tone. The broad index was up 1.5% and was 50 basis points tighter to Treasuries as earnings have generally come in better-than-expected. Triple-C rated bonds continue to lead the way with that portion of the market being up nearly 3% heading into Friday. Despite being in middle of the doldrums of summer, six new deals priced this week for a total of $1.4 billion and liquidity remains robust.
Western European Equities
European stocks went up this week. The sectors with the best performance were real estate (+8.9%) and banks (+6.8%). In the real estate sector, Klepierre (+19.9%) benefitted from strong revenues reinforcing financial flexibility. Segro (+13.6%) announced it will go ahead with the £250 million-share sale to help purchase Brixton after the company’s board agreed on takeover terms. In the banking sector, KBC Group, Belgium’s third largest bank by assets, reported surprising positive earnings. Natixis (+35.4%) performed well due to persistent speculations about withdrawal from the exchange.
The worst performing sectors were healthcare (-0.2%) and retail (+0.1%). Elektra AB (-5.6%), Fresenius (-4.7%) and Elan (-4.5%) lost the most in the healthcare sector this week. As cyclical branches observe big gains, investors draw funds out of this anti-cyclical sector. In the retail sector, Delhaize Group (-6.4%), Metro (-5.0%), and Colruyt (-1.6%) were the worst performers. The sector is still under pressure from the recession and it is lagging other sectors as consumer spending remains at low levels while the general outlook is improving.
Eastern European Equities
The CECE index of equities traded in Central Europe (Czech Republic, Hungary, and Poland) gained +1.7% this week, while the Russian stock index RTS went up 6.2%.
In a reflection of investors’ improving attitudes towards emerging markets, the cost of insuring against developing debt defaults has fallen below industrialized governments. Credit-default swap prices for emerging markets are falling amid signs that their economies are recovering faster than those of developed nations. In addition, Brazil, Russia, India and China now hold $3 trillion in reserves, almost half of the world total. The annual cost of protecting holdings in Turkey’s bonds has fallen by half, sinking below New York City swaps, while 11 years after Russia defaulted; investors demand less to insure its debt than California’s.
Global Bonds and Currencies
The past week was a mixed one for major non-US sovereign bond markets. European government bonds fared worst, with yields rising by almost 30 basis points at the shorter end and by about 15 basis points at the longer end of the curve. These moves came partly in sympathy with losses in the US Treasury market. Some upbeat European business sentiment data also weighed in Bunds. There was no surprise in the European Central Bank’s decision to leave monetary policy unchanged at its Governing Council meeting held in the past week, but Bund market sentiment was damaged by hints from ECB President Trichet that the Bank is about to revise up its economic forecasts to show growth turning positive sooner than previously forecast. UK Gilts had a better week. Two-year Gilt yields rose only slightly and 10-year yields closed the week about 5 basis points lower following the Bank of England’s (BoE) surprise decision to extend its quantitative easing program by £50 billion to £175 billion - market expectations were that the Bank would either make no increase or else increase its bond purchases by a more modest £25 billion. The BoE’s unexpectedly generous move served as a reminder that although there are clear signs that the UK economy is over the worst of the downturn, the recession has been deeper than expected and activity remains weak and in need of encouragement. In Japan, government bonds finished the week little changed as investors await the result of the forthcoming general election scheduled for month end.
In currency markets, the week’s main event was the further weakness in the yen against the dollar. Elsewhere, the greenback was relatively flat against the Euro and the Sterling, after Sterling came off it recent highs following the BoE’s unexpected decision to extend its quantitative easing program. Speculation that the Reserve Bank of Australia will be the first central bank to hike rates provided support for the Australian dollar against the US dollar, especially after Australian employment data came in stronger than expected.
Emerging-Market Bonds
Emerging market dollar-pay debt spreads tightened this week as economic data releases in the US continued to surprise on the up side. Most notably, the better-than-expected employment data in the US gave a renewed boost to risk assets.
Moody’s affirmed Mexico’s Baa1 foreign and local currency sovereign ratings. In a press release following the announcement, the ratings agency stated that they anticipate the corrective fiscal actions to be undertaken by the sovereign to be sufficient to prevent a significant deterioration in government accounts in 2009 and 2010. This was taken positively by market participants, with the currency reacting most favorably.
In Indonesia, the Central Bank cut its benchmark interest rate by 25 basis points from 6.75% to 6.50%, in line with expectations. It is widely expected that this marks the end of their easing cycle, which has brought 300 basis points in rate cuts since last December. Local bonds were a little weaker following the news. Next week, the economic data calendar will lighten up in the United States. Thursday’s report on retail sales will likely garner the most attention as investors and economists seek to gauge the impact of the deterioration in the labor market on consumer spending. In global markets, both the United Kingdom and euro zone will be reporting on retail sales. The UK also has new data on industrial production. -->
Aug 10

Czech Inflation and July jobless rate, Turkey June Industrial Production
Aug 11

Wholesale Inventories
Aug 12

Trade Balance, FOMC Rate Decision, Euro Zone Industrial Production
Aug 13

Retail Sales, Euro Zone GDP
Aug 14

©2009 Payden & Rygel. All rights reserved.
Consumer Price Index, Euro Zone Inflation

Market Reflections 8/7/2009

A better-than-expected July jobs report, showing a slowdown in job losses and a dip in the unemployment rate, gave a lift to the bulls, pulling money off the sidelines and into the stock market where the S&P 500 gained 1.3 percent to 1,010. Gains or not, money managers continue to complain that clients remain tight fisted. While money moved into stocks it moved out of the safety of Treasuries where yields were up 10 basis points across most coupons. The 10-year yield ended at 3.85 percent. Strong signs for the U.S. economy did not make for a movement out of the safety of the dollar which instead rallied on expectations of stronger asset yields. The dollar index jumped 1.2 percent to 78.94. Commodities showed little reaction with oil slightly lower at $71 and gold also slightly lower at $957.


Investors took a pause from recent buying to digest the latest economic news, including sluggish retail sales in July. A
larger-than-expected drop in new unemployment claims also left investors wondering whether Friday’s jobs report would show
signs of improvement in the employment outlook. The Dow fell 0.27%, the Nasdaq tumbled 1.00%, and the S&P 500 retreated
0.56%. Bond prices were mixed. The yield on the benchmark 10-year Treasury note rose to 3.76%, up from 3.75% late Wednesday.
Energy futures also edged lower. A barrel of light sweet crude fell $0.03 to settle at $71.94 on the Nymex.

Thursday, August 6, 2009

Market Reflections 8/5/2009

Failure of the ISM non-manufacturing report to extend improvement, let alone show erosion as it did, is a setback for the economic outlook. The ISM now thinks its manufacturing report, which had been lagging non-manufacturing, will be the first to show month-to-month stability. The ISM sees its manufacturing index, boosted by an easing in inventory draw and/or a slowing in layoffs, hitting 50 either this month or September.But the ISM news isn't scaling back growth predictions from Goldman Sachs which sharply raised its second-half GDP estimate to plus 3.0 percent. The prediction largely offset the ISM results with the S&P 500 showing limited change on the day, down 0.3 percent at 1,002.69. Commodities held strong with base metals posting big gains and oil, despite a heavy build in weekly crude data, ending higher, just short of $72. Treasuries were whipped sawed this way and that, first up by the ISM then down by Goldman. Underlying everything is the certain prospect of heavy supply, punctuated by the day's record $75 billion quarterly refunding announcement. The dollar index ended fractionally lower at 77.61.

Some interesting questions

The trend is your friend. Price is the final arbiter. Market prices are reality. If you fail to respect the information contained in those last three short sentences you usually end up trying to find a source of funds to start another trading account.

But, despite those truths we can’t help asking some why’s:
1) Why is the euro at $1.43 when it’s clear the currency is creating huge pressures within the Eurozone, straight-jacketing countries like Spain with 20% unemployment, and hurting the export machine of Germany thanks to falling currency prices for its two major competitors, US and China?
2) Why do people believe Chinese economic numbers when a whole host of seemingly bright people who have seen China up close and personal tell us said numbers are mostly fabricated?
3) Why does oil surge above $70 per barrel when oil companies who know the market better than anyone tell us there is ample supply and little demand on the horizon?
4) Why is there so little anecdotal evidence among the people in your town suggesting the bottom in the recession is here?
5) Why do some emerging market currencies whose countries are 2-3 clicks away from sovereign bond default surge against the US dollar?
6) Why does the US government continue to eat the seed corn of entrepreneurism when new business and the jobs created therein are the only way to revive the US economy long term?
7) Why does the Japanese yen act as a safe haven while Japan’s debt-GDP towers over other all industrialized countries?
8) Why does everyone love gold even though it has risen only about 10% since it peak in 1980, while the Dow is up about 10-fold since then?
9) Why do we think enormous stimulus will work everywhere else when it hasn’t worked at all in Japan?
10)Why do so many believe the US will lose its currency reserve status when there is no real competitor currency out there to take over that role?
11)Why does the US government confiscate taxpayer money in order to subsidize US citizens who buy Japanese cars?
12)Why is it that former US Presidents now never seem to just fade softly into the night?

All these, and many other things, are a seeming mystery to me. But, as they say, if it were easy we’d all be rich.

Wednesday, August 5, 2009

Market Reflections 8/4/2009

Markets took a breather on Tuesday with the S&P ending fractionally higher at just over 1,005. A drop in personal income, reflecting one-time stimulus checks paid out in the prior month, didn't the hurt market, and the market didn't get any help from a jump in pending home sales, the latest indication of recovery for the housing sector. Commodities were little changed with oil at $71.50 and gold near $970. The dollar index ended slightly higher at 77.73 while the 10-year Treasury yield ended at 3.68 percent.

Tuesday, August 4, 2009

Market Reflections 8/3/2009

A big jump in the ISM manufacturing index, together with a surprise rise in construction spending and big gains for vehicle sales, fed a 1.5 percent rise in the S&P which ended over 1,000 at 1,002.63. Gains in the ISM exceeded expectations with new orders and production showing special strength, strength that points to slowing layoffs and an easing need to draw down inventories. Construction spending got a big boost from single-family homes, a gain adding to building evidence that the housing sector has hit bottom and may now be on the rise. And it was cash for clunkers that gave a big boost to auto sales, pointing to strength in next week's retail sales report.
Some of the biggest gains were in commodities where copper was a standout, jumping 8 percent. Grains also showed big gains with corn up 6 percent. Oil rose nearly 4 percent to just under $71.50. Demand for commodities reflects expectations of improved economic demand together with the need to hedge against inflation including dollar-related imported inflation. The dollar index fell 0.7 percent to 77.58. The appetite for risk made for weakness in the Treasury market where the 10-year yield jumped 15 basis points to 3.63 percent.

Sunday, August 2, 2009

Weekly Market Update,Week ending July 31, 2009

July 31, 2009
Friday* Last week Dec. 31, 2008 One year ago
Dow Jones Industrial Avg 9,164 9,093 8,776 11,378
S&P 500 987 979 903 1,267
NASDAQ 1,987 1,966 1,577 2,326
Russell 2000 559 548 499 715
DJ STOXX Europe 600 (€) 225 220 198 284
Nikkei Index (¥) 10,357 9,945 8,860 13,377
Fed Funds Target 0%-0.25% 0%-0.25% 0%-0.25% 2.00%
2-Year Treasury Yield 1.12% 1.00% 0.77% 2.51%
10-Year Treasury Yield 3.52% 3.66% 2.21% 3.95%
U.S. $ / Euro 1.42 1.42 1.40 1.56
U.S. $ / British Pound 1.67 1.64 1.46 1.98
Yen / U.S. $ 94.66 94.79 90.64 107.91
Gold ($/oz) $951.25 $951.35 $882.05 $914.07
Oil $67.80 $66.55 $44.60 $124.08
*Levels reported as of 10:00 am Pacific Standard Time
Year-to-date (1/1/09-7/31/09)* Year-to-date (1/1/09-7/30/09)
Dow Jones Indus Avg. 4.42% 90 Day T-Bill 0.14%
S&P 500 9.28% 2-Year Treasury 0.30%
NASDAQ 25.99% 10-Year Treasury -9.37%
Russell 2000 11.98% ML High Yield Index 35.90%
MSCI World Index 12.88% JPM EMBI Global Diversified 18.93%
DJ STOXX Europe 600 13.39% JP Morgan Global Hedged -0.98%
*Returns reported as of 10:00 am Pacific Standard Time
July 27 New Home Sales – New homes sales rose 11% to a seasonally adjusted annual rate of 384,000 in June,
surpassing expectations of a 350,000 annualized rate. This increase marks the fourth straight month
that new homes sales have risen, underscoring views that the housing market may be bottoming.
July 28 Consumer Confidence – Confidence among US consumers fell for the second consecutive month
in July, reflecting concerns about the rising unemployment rate. The Conference Board’s
confidence index dropped to 46.6, down from 49.3 in June.
S&P/Case-Shiller Home Price Index – The S&P/Case- Shiller home price index rose 0.5% in May, the
first gain since July 2006. While house prices were still down 17% from a year earlier, the month-tomonth
increase is evidence that the housing downturn may be easing.
July 29 Durables Orders - New factory orders for durables fell 2.5% in June due to a plunge in civilian aircraft
orders. Though the decline was worse than the 0.5% forecasted drop, the core measure of new orders,
which excludes transportation, advanced 1.1% in the month, following a 0.8% rise in May.
Federal Reserve's Beige Book – The Fed reported that though the pace of economic contraction has
moderated and begun to stabilize, aggregate employment is still declining, loan demand remains weak,
and business and consumer spending growth is sluggish.
July 31 Gross Domestic Product (GDP) Second-quarter GDP declined at a 1.0% annual rate, largely due to
weak consumer spending and business investment. The result was above market expectations and
represented a dramatic improvement from the prior two quarters.
Euro Zone Unemployment Rate - The jobless rate in the nations that use the euro currency rose to 9.4%
in June, its highest rate in ten years. The number of unemployed has risen by more than 3 million
workers over the past year.
Euro Zone Consumer Price Index - The flash estimate for annual headline inflation dropped to -
0.6% in July from -0.1% in June. This is the second negative reading since the launch of the
OVERVIEW ___________________________________________________
The Commerce Department reported that US economy shrank at an annual rate of -1% in the
second quarter of 2009. Real gross domestic product (GDP) has now declined for four
consecutive quarters for the first time since the Commerce Department began keeping records
back in 1947. Still, the second quarter was a dramatic improvement over the prior two quarters
when the economy contracted at annual rates of -5.4% in Q4 2008 and -6.4% in Q1 2009 after
Looking forward, there is good reason to believe that real GDP growth will turn positive in the
current quarter as businesses move to rebuild inventories adding to the already positive effects
of a shrinking trade gap and increasing government spending. Beyond that, the question will be
whether a sustainable rebound in private demand will materialize before the impact of the
trillions in fiscal and monetary stimulus fade in late 2010.
TREASURIES ________________________________________________________________________________
• US Treasuries were mixed this week, with shorter dated maturities under pressure due to
weak auctions in the 2-year and 5-year part of the yield-curve. Two year on-the-run
Treasury yields finished the week 12 basis-points (bps) higher, 5-year yields ended 5 bps
• A different scenario turned out in the long end of the US Treasury curve, with 10-year and
30-year Treasuries rallying 15 and 20 bps respectively on the back of a surprisingly strong
7-year auction and a higher-than-expected Q1 2009 GDP downward revision to -6.4%. This
resulted in unwinding of short positions in longer dated maturities and the re-emergence of
curve flattening trades, with the yield spread between 2-year notes and 10-year bonds
tightening by 27 bps over the last five trading days.
LARGE-CAP EQUITIES___________________________________________________________
• The stock market rallied for the third consecutive week and continued to reach new highs for
the year due to strong corporate earnings. The S&P 500 index rose about 1% for the week.
Large-cap stocks underperformed small-cap stocks. In terms of style, large-cap growth
stocks underperformed large-cap value stocks. The best performing sector was financials
and the worst performing sector was energy. So far this earnings season, about 66% of the
S&P 500 companies have reported earnings with approximately 75% of these companies
beating estimates. The most notable companies that surprised on the upside this week
were ConocoPhillips, Amgen and Visa. In the headlines this week, Microsoft and Yahoo
reached a 10-year search agreement. The agreement will require Yahoo to exclusively use
Microsoft’s search engine Bing.
CORPORATE BONDS _____________________________________________________________
• Investment grade primary activity reverted back to normalcy as earnings continue to
dominate investors’ attention. There were several large infrequent issuers who tapped the
market this week. Macquarie Group LTD, an international investment bank, came to the
market with a $1 billion five-year priced at +475bps over the five-year Treasury. Capital
One also came to the market with a $1 billion 30-year that priced at +586bps over the 30-
year Treasury. Both deals were well oversubscribed confirming there is not enough bond
supply to meet the voracious demand.
• Investment grade corporate spreads tightened once again as light issuance and betterthan-
expected earnings added to the positive sentiment most investors have of the
economic outlook. The imbalance between supply and demand continues to be a major
factor contributing to the tightening we have experienced recently. The Barclays Credit
Index Option-Adjusted Spread (OAS) finished the week at +231, tighter by 16 basis points.
Financials tightened by 16 basis points (banks -14, insurance -28); industrials tightened by
20 basis points (telecom -24, consumer non-cyclical -13, basic materials -24, capital goods
-21, energy -17); and utilities tightened by 15 basis points.
MORTGAGE-BACKED SECURITIES _______________________________________________
• Agency mortgages love a range bound interest rate environment. Mortgage spreads on 30-
year pass-throughs continue to grind tighter as supply was absorbed by steady buying from
the Federal Reserve and Asian central banks. Lower volatility and an improving
prepayment story also helped mortgages outperform Treasuries and agencies. Within the
sector, favorable technicals have lifted Ginnie Mae mortgages over their Fannie Mae and
Freddie Mac conventional cousins. For the week, the 30-year current coupon versus the
10-year Treasury narrowed by 3 basis points to 90 bps.
MUNICIPAL BONDS _____________________________________________________________
• Another month comes to an end and investors in the municipal bond market remain
undeterred from owning high quality, short maturity municipal bonds. Case in point: the twoyear
AAA-rated general obligation (GO) bond yields are just 56% of comparable US
Treasury yields—their lowest level versus Treasuries on record. While part of this is driven
by a rise in Treasury yields, strong demand remains in the front end of the municipal yield
curve. Meanwhile, ten-year AAA-rated GO bond yield held steady this week at around
• The California Legislature resolved its 2009-2010 budget crisis – at least on paper – and the
Governor signed it into law this week. The market responded with elation. Yields on
California GO bonds dropped dramatically compared to high grade GO bonds, with the
difference between CA GO bond yields and AAA-rated GO bond yield narrowing by nearly
50 basis points to 120 bps through Thursday. This spread measure had surged as high as
200 bps at the height of the crisis last month.
• New deals this week included the $250 million Metropolitan Water District of Southern
California, Water Revenue Build America Bonds (BABs). The Aa2/AAA/AA+ credit offered
yields of +220 bps to 10-year US Treasuries for the 2025 maturity and +200 bps to the 30-
year Treasury for the 2039 maturity (which has a par call in 2019). Next week also could be
interesting with the North Texas Toll Authority set to issue $800 million in BABs with a
single, 40-year bullet maturity. Early price talk on this issue is in the +250 bps range to the
30-year Treasury.
HIGH-YIELD BONDS ____________________________________________________________
• After a slow start to the month of July, the high yield bond market has regained
momentum and finished the month in strong form. The Merrill Lynch high yield index is
up 5.3% for the month. The recent rally has been driven, in large part, by the strong
monthly performance of global equity markets, with major US equity indices, such as the
S&P 500, up over 12% since July 10. The recent equity and credit market rally has been
based on generally strong second quarter 2009 earnings from the large US corporations.
Similar to earlier periods, the high yield rally has been concentrated in the more risky
CCC-rated end of the market; CCC and below rated bonds are up 9.5% in July and up
62% year-to-date 2009. It appears that the risk rally of April and May 2009 has resumed
in July. Despite the late stage in the summer cycle, the high yield new issue market
remains relatively active, with over $4 billion in deals pricing just this week. Ford Motor
Credit, the finance arm of Ford Motor and a high yield rated company, issued $1.75 billion
of bonds with a three year maturity. The Ford Motor Credit bonds were priced to yield
10.9% at issue. The high yield market continues to receive significant cash inflows, as
investors are attracted to the asset class. High yield mutual funds received $530 million of
inflows this week, the fifth straight week of inflows.
WESTERN EUROPEAN EQUITIES __________________________________________________
• Western European stocks went up this week by +2.3%.
• Stocks in Western Europe climbed to their highest point since last-year’s post-Lehman selloff
on expectations of better earnings as the global recession’s grip gets looser. In the
meantime, European consumer prices fell by -0.6% as compared to last year on lower
energy prices, beating analyst expectations of a -0.4% fall, while unemployment rose to
9.4%. The combination of lower prices and continued slack in the economy highlighted that
the risk of deflation in Europe is still on the agenda.
EASTERN EUROPEAN EQUITIES __________________________________________________
• The CECE index of equities traded in Central Europe (Czech Republic, Hungary, and
Poland) continued to rally, gaining +5.8% this week, while the Russian stock index
RTS went up +0.5%.
• Bad news continued to come out of the Baltics. Lithuania’s GDP contracted by -22.4% in the
second quarter of the year, significantly worse than first quarter’s revised -13.3% contraction
and consensus expectations. The worst GDP decline for the European Union is a sobering
reversal of fortune for the Baltic country, which, together with Latvia and Estonia, made up
the Union’s fastest-growing “troika” earlier in the decade. The country’s stock market has
significantly lagged its peers so far this year, despite a strong rally in emerging markets
GLOBAL BONDS AND CURRENCIES _____________________________________________
• Most major non-US sovereign bond markets managed to make gains in the past week, even
as global equity markets hit fresh highs for the year. The bulk of their progress was made
late in the week following the release of the US second quarter GDP data, which showed
unexpectedly persistent weakness in personal consumption. Month-end purchases to rebalance
indexed bond portfolios also helped to push yields lower. The week’s data was
mixed. Unemployment climbed to new cyclical highs and deflationary pressures persisted in
both Japan and Europe. Indeed in Europe, the flash estimate for annual CPI dropped to -
0.6% in July from -0.1% previously, whilst the slowdown in money supply growth continued
apace. However, on the positive side, Japanese industrial production rose for the fourth
consecutive month, the European Commission’s latest economic sentiment surveys all
showed further steady improvement, while UK house prices continue to rise from their lows
and mortgage lending expanded further. By the end of the week, 10-year Bund and Gilt
yields were about 16 basis points lower. Japanese government bonds made more modest
gains, in part due to the outperformance of Japanese stocks over the week and in part
because the Japanese market was closed for the week before the release of the US GDP
• Currency markets spent a relatively subdued week, leaving the dollar slightly weaker against
the euro, the yen and sterling after investors focussed on the disappointing aspects of the
US GDP data. The greenback was also lower against most of the commodity currencies as
commodity prices recovered and the People’s Bank of China provided assurance that it
would maintain its current easy policy stance. The New Zealand dollar proved the exception
however. It underperformed after the central bank warned that rates may fall further.
EMERGING-MARKET BONDS ____________________________________________________
• Emerging market dollar-pay debt spreads widened marginally this week on the back of profit
taking and a lighter new issue calendar.
• The Central Bank of Hungary surprised the market with a larger-than-expected 100 basis
point cut of its benchmark interest rate from 9.5% to 8.5%. Most analysts had been
expecting a cut of 50 basis points. The strengthening of Hungary’s currency, the Forint, over
recent months in line with improved risk appetite has allowed the Central Bank to deliver a
cut of this magnitude in order to address the poor domestic growth scenario.
• In Brazil, the minutes from the Central Bank’s meeting released this week, revealed that
inflation expectations remain below or at the center of the of 4.5% target and indicated that
the Central Bank will be on hold for the foreseeable future. They cited continued idle
capacity in both the industrial sector and the labor market as reasons for the benign inflation
outlook. Local bonds remained stable, while the Real was one of the best performing
currencies of the week.
Aug 3 Construction Spending, Auto Sales, July PMI (Hungary, Czech Republic)
Aug 4 Personal Income and Spending, Pending Home Sales
Aug 5 Factory Orders
Aug 7 Nonfarm Payrolls, Unemployment Rate
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