Weekly Market Update Week ending August 21, 2009

Friday* Last Week Dec. 31 2008 1 Yr Ago
Dow Jones Ind. Avg. 9,483 9,321 8,776 11,430
S&P 500 1,023 1,004 903 1,278
Nasdaq 100 2,012 1,986 1,577 2,380
The Russell 2000 579 564 499 725
DJ STOXX Europe 235 229 198 278
Nikkei Index 10,238 10,597 8,860 12,752
Fed Funds Target 0-0.25% 0-0.25% 0-0.25% 2.00%
2-Year U.S. Treasury Yield 1.09% 1.05% 0.77% 2.31%
10-Year U.S. Treasury Yield 3.55% 3.57% 2.21% 3.83%
U.S.$ / Euro 1.43 1.42 1.40 1.49
U.S.$ / British Pound 1.65 1.65 1.46 1.87
Yen / U.S.$ 94.54 94.77 90.64 108.45
Gold ($/oz) $954.15 $948.55 $882.05 $837.00
Oil $73.19 $67.51 $44.60 $120.93
*Levels as of 12:40 a.m. PST
Year to Date (1/1/09 -8/21/09)
Dow Jones Industrial Avg 8.05%

S&P 500 13.27%

NASDAQ 27.61%

Russell 2000 15.97%

MSCI World Index 15.53%

DJ STOXX Europe 600 (euro) 18.40%

Year to Date (1/1/00 - 8/20/09)
90 Day T-Bill 0.14%

2-Year Treasury 0.46%

10-Year Treasury -8.29%

ML High Yield Index 38.01%

JP Morgan EMBI Global Diversified 21.24%

JP Morgan Global Hedged 0.10%



August 18

Housing Starts – New-home construction fell for the first time in three months, declining by 1.0% to an annual rate of 581,000 in July from a revised 587,000 in June. The unexpected drop was largely due to steep declines in multifamily units, which include condominium and apartment buildings. Producer Price Index – The Labor Department reported a 0.9% decline in producer prices in July, indicating that inflation will not be a concern for the Federal Reserve in the near future. Core producer prices, which exclude food and energy, fell 0.1% during the month.
August 20
Leading Indicators – The index of US leading economic indicators rose in July for the fourth consecutive month, climbing 0.6% following a revised 0.8% increase in June. The rise signals that the US economy has stopped shrinking and may be headed for an expansion.
August 21
Existing Home Sales – Sales of existing homes rose for the fourth straight month, jumping 7.2% in July to a seasonally adjusted 5.24 million annual rate. This marks both the largest month-over-month percentage increase in more than a decade and the measure’s highest level in nearly two years.
August 14 Consumer Price Index – Headline inflation was unchanged on a monthly basis in July but down 2.1% on a year-over-year basis, the most rapid rate of decline since 1950. Core inflation, which excludes food and energy, rose 0.1%, indicating that inflation will remain subdued for some time. Euro Zone CPI – European consumer prices dropped more than the estimated 0.6%. Prices fell 0.7% from a year earlier after declining 0.1% in June. Core inflation rate, which excludes volatile energy and food costs, eased to 1.3%. Euro Zone GDP – The euro zone GDP contracted by 0.1% in the second quarter—against economists’ forecasts of a decline by 0.5%. Demand for European exports is improving as government rescue packages and lower interest rates support spending. Germany & France GDP – German and French economies grew unexpectedly in the second quarter. GDP rose a seasonally adjusted 0.3% in both countries. 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. -->


Though the housing market appears to be stabilizing, there is still a substantial distance to travel before a full recovery. Total housing starts in July were dragged down by severe weakness in multifamily housing construction, which includes condominium and apartment buildings. On the upside, single-family home starts were strong, rising 1.7% in July to 490,000 after climbing 17.8% in June. The dramatic increase in existing home sales, which climbed 5.0% on a year-over-year basis, signals that the three-year housing slump may finally be bottoming. Despite these positive indicators, housing activity remains at historically weak levels, with sales 38% below their peak and distressed sales making up a large share of recent transactions. While economic improvement and affordability may continue to support housing sales in the near future, any sustained recovery will likely be sluggish as high unemployment levels threaten to continue to cause foreclosures.

US Treasuries sold-off this week, due to better-than-expected fundamental data and a strong equity market performance. Two-year on-the-run Treasury yields finished the week 15 basis points (bps) lower, 5-year yields rose 20 bps. The sell-off was more concentrated in shorter dated maturities, which caused the yield curve to flatten six bps for the week.
At the end of the week, the release of better-than-expected US existing home sales data for July accelerated the sell-off. This resulted in unwinding of recent long positions in short and longer dated maturities going into the weekend.
Large-Cap Equities
The stock market continued to trend higher reaching newer highs for the year on strong corporate earnings and better-than-expected economic data. The S&P 500 index rose 1.9% for the week, finishing higher five out of the last six weeks. Large-cap stocks 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 health care and the worst performing sector was information technology. In the headlines this week, American International Group Inc. rallied over 21% on news that the company expects to repay their government loans. On corporate earnings this week, Hewlett-Packard reported 91 cents per share, which beat analyst estimates of 90 cents per share. The company attributed the positive quarter to better cost management.
Corporate Bonds
Investment grade primary was somewhat active this week as several small infrequent issuers tapped the market. Watson Pharmaceuticals and Yum Brands both brought small multi-tranche deals across the five- and 10-year part of the curve. Both deals were heavily oversubscribed and performed nicely on the break. The supply calendar is likely to remain light until after Labor Day, which should be constructive on the secondary spreads.
Investment grade corporate spreads widened throughout the week as light trading volumes and a sluggish start in equities contributed to wider spreads. Both thin trading and a skeleton work crew have been conducive to exaggerated spread movement causing spreads to push out. Many investors have been apprehensive that the market has run too far too fast, causing some to sell into this rally and take chips off the table. The Barclays Credit Index Option-Adjusted Spread (OAS) finished the week at +221, wider by 8 basis points. Financials widened by 8 basis points (banks +10, insurance +10); industrials widened by 10 basis points (telecom +15, consumer non-cyclical +5, basic materials +12, capital goods +6, energy +12); and utilities widened by 1 basis point.
Mortgage-Backed Securities
Summer doldrums! Agency mortgages kept pace with Treasuries in a light trading week. Spread movement was benign with no headline story or economic data print to move the market by more than a few basis points. The mortgage market remains in a range as the US Government remedies to heal the financial system comes at a price to future economic growth. Within the mortgage market, Ginnie Maes remain well bid versus conventional mortgages as prepayment differences converge. Premium pass-throughs remain in vogue as money managers stay clear of Federal Reserve buying of production coupons. For the week, the 30-year current coupon mortgage spread versus the 10-year Treasury closed at 96 basis points.
Municipal Bonds
Apparently investors embraced last week’s theme (that shorter maturity bond yields have fallen to unreasonably low levels) and began selling – albeit slowly. From 3 to 5 years, AAA-rated GO bond yields rose 2-4 basis points. Meanwhile, six years and beyond saw bond yields move the opposite direction, finishing the week 5-6 basis points across the curve. In fact, 10-year AAA-rated municipal bond yields as monitored by Thomson Financial, hovered at 2.94% on Thursday, near their lowest level on record stretching back over 20 years. What encouraged the flattening trend? We saw slow secondary market trading activity and plenty of new deal activity this week, but nearly two-thirds of the total municipal bonds issued during the week were in the form of Build America Bonds (BABs), the taxable substitute for tax-free bonds in the longer part of the maturity spectrum. This included $1.2 billion in BABs from the Texas Transportation Commission. The bonds offered a maximum yield of 5.52% in the 30-year maturity, which is 1.2 percentage points above the comparable 30-year Treasury yields.
High-Yield Bonds
The high yield market is taking a well-deserved pause. For the first time in numerous months, there was no new issuance this past week as underwriters and issuers took a break from the torrid pace of new issuance over the past few months. The high yield market tone has subsided from July as investors digest the plethora of market information and economic data, much of it conflicting. For the month of August 2009 to-date, the high yield market total return as represented by the Merrill Lynch BB/B high yield index is up is 0.7%, a significant decline from the return series from the prior five months. It is quite natural for the market to take a “breather” from the neck-breaking speed at which the high yield market was travelling from mid-March 2009 through July 2009. Many investors are awaiting the return of normal trading patterns, when much of the market returns from their summer sojourn post the US Labor Day holiday on September 7.
Eastern European Equities
The CECE index of equities traded in Central Europe (Czech Republic, Hungary, and Poland) gained +4.0% this week, while the Russian stock index RTS went down -0.9%.
Emerging-market equities rose for the last two days with Polish stocks surging the most worldwide after a brokerage advised buying central European shares on prospects for an economic recovery. The WIG20 Index advanced 6.6% over the week. Bank Pekao and PKO Bank Polski contributed to the WIG20’s rally after the brokerage raised its recommendation on Polish, Czech and Hungarian stocks to “overweight.” According to strategists, growth expectations should improve in these three economies, as they benefit from the stronger-than-expected euro zone recovery.
Global Bonds and Currencies
The past week was as quiet one for major non-US sovereign bond markets, with both Bunds and Gilts closing stable to only slightly firmer despite generally stronger-than-expected data. The latest European business sentiment surveys suggested that confidence is improving more swiftly than expected, while in the UK, retail sales surprised on the upside, monthly government borrowing was much heavier than expected in July and the decline in the pace of UK inflation halted. Annual headline CPI was unchanged at 1.8% for the second successive month in July, compared with expectations of a slowing to 1.5%. One recent notable development in the UK Gilt market has been the significant downward pressure on short-term Gilt yields. Two-year Gilt yields ended the week 3 basis points lower at 0.89%, having fallen steadily from 1.3% early this month, on speculation that the Bank of England (BoE) may begin charging banks to hold reserves in a further bid to encourage them to lend. Such a step would mirror actions by Sweden’s Riksbank, which imposed negative rates on banks last month. The week also brought the surprising revelation that BoE Governor King wanted to boost the Bank’s bond purchases by even more than the £50 billion announced after the last Monetary Policy Committee meeting in early August. Along with two other committee members, King voted for £75 billion of purchases, but was overruled by the majority. Meantime, in Japan, the economy joined France and Germany in pulling out of recession in Q2, but this did not deter Japanese government bonds (JGBs) from also making minor gains across the curve on the week, thanks in part to a sharp correction in stock prices on Friday.
In currency markets the US dollar closing the week within its recent ranges against the Euro and Sterling, with both the latter currencies receiving only margin support from the generally stronger-than-expected data. However, the greenback closed down against the Yen, which received support from the positive Q2 GDP figures, weakness in Chinese equity markets and technical factors.
Emerging-Market Bonds
Emerging market dollar-pay debt spreads were unchanged as Friday’s rally reversed the widening during the week. Better-than-expected economic data in the US and Europe led to an equity rally that supported all risk assets.
In Mexico, the Central Bank left its benchmark interest rate unchanged at 4.5% as expected. The bank maintained its view that the economic recovery in Mexico would be gradual and dependent on the United States. Inflation remains contained allowing rates to stay lower in the medium term. 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 24

Hungary Quarterly Inflation Report
Aug 25

Consumer Confidence, S&P/Case-Shiller Home Price Index
Aug 26

Durable Orders, New Home Sales
Aug 27

Hungary Unemployment Data
Aug 28

Personal Income and Spending
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Market Reflections 8/20/2009

An overnight rally in Chinese stocks gave a boost to U.S. stocks where the S&P gained 1.1 percent to end at 1,007. The market didn't react to the day's batch of mixed economic news: disappointing increases in jobless claims but gains for the index of leading economic indicators and the Philly Fed manufacturing report. The dollar index was little changed at 78.38 as were long rates where the 10-year Treasury yield ended at 3.43 percent. Commodities didn't get much kick out of the gain in stocks with oil ending only slightly higher at $72.50.

Market Reflections 8/19/2009

Equities withstood a 4 percent sell-off in the Chinese market to end slightly higher at 996 on the S&P 500. However frothy the U.S. market may or may not be, with the S&P up 10 percent on the year, the Shanghai composite is up 60 percent on the year. Oil jumped $3 to $72.25 in reaction to stand-out draws in still swollen petroleum stocks. Other commodities showed little movement despite weakness in the dollar which reacted more to the gain in U.S. stocks, a gain that raised demand for risk, than the loss in China. The dollar index fell 0.7 percent to 78.50.

Market Reflections 8/18/2009

Highlights
Cost cutting helped two big retailers, Home Depot and Target, to beat estimates which together with strong economic data out of Germany eased risk premiums, feeding gains in equities and tripping losses for the dollar. The S&P 500 gained 1.0 percent to just under 990 while the dollar index fell 0.4 percent to end at 79.12. The combination of strong equities and the weak dollar gave a boost to commodities which benefit on signs of economic strength and on signs of inflation. Oil jumped about $3 to $69.

Market Reflections 8/17/2009

Traders were at loss to pin point why markets fell so steeply on Monday. Explanations included a delayed reaction to last week's disappointments for retail sales and consumer confidence along with reaction to weekend TV reports that the back-to-school season will be a flop. But Monday's hard economic data were very positive including gains for the Empire State and homebuilder reports and a big jump in the Treasury International Capital headline showing strong foreign demand for U.S. financial assets. Yet markets dropped anyway though in very thin volumes, a factor that often exaggerates swings. The S&P 500 fell 2.4 percent to 979.73 sparking talk of 950 as the next big level. The dollar gained as overnight losses in Asian stock markets tripped a run of risk aversion. The dollar index rose 0.6 percent to 79.29. Dollar strength and talk of economic weakness eased inflation premiums, reflected in commodities where prices fell back. Copper fell 7 cents to $2.74/lb while oil fell 75 cents to $66.75.