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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
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