August 14, 2009 Weekly Markrt Update

MARKET LEVELS
Friday* Last week Dec. 31, 2008 One year ago
Dow Jones Industrial Avg 9,251 9,370 8,776 11,616
S&P 500 996 1,010 903 1,293
NASDAQ 1,972 2,000 1,577 2,454
Russell 2000 561 572 499 754
DJ STOXX Europe 600 (€) 229 231 198 286
Nikkei Index (¥) 10,597 10,412 8,860 12,957
Fed Funds Target 0%-0.25% 0%-0.25% 0%-0.25% 2.00%
2-Year Treasury Yield 1.04% 1.30% 0.77% 2.43%
10-Year Treasury Yield 3.52% 3.85% 2.21% 3.89%
U.S. $ / Euro 1.42 1.42 1.40 1.48
U.S. $ / British Pound 1.65 1.67 1.46 1.87
Yen / U.S. $ 94.65 97.57 90.64 109.74
Gold ($/oz) $946.95 $954.95 $882.05 $806.63
Oil $70.59 $70.93 $44.60 $115.01
*Levels reported as of 9:00 am Pacific Standard Time
MARKET RETURNS
Year-to-date (1/1/09-8/14/09)* Year-to-date (1/1/09-8/13/09)
Dow Jones Indus Avg. 5.41% 90 Day T-Bill 0.15%
S&P 500 10.32% 2-Year Treasury 0.54%
NASDAQ 25.03% 10-Year Treasury -8.88%
Russell 2000 12.27% ML High Yield Index 38.97%
MSCI World Index 16.39% JPM EMBI Global Diversified 20.77%
DJ STOXX Europe 600 15.28% JP Morgan Global Hedged -0.61%
*Returns reported as of 9:00 am Pacific Standard Time
RECAP OF THE WEEK'S ECONOMIC RELEASES
August 11 Wholesale Inventories – Wholesale inventories fell by 1.7% in June as distributors were able to move out
excess stockpiles. The July drop was almost twice as large as the predicted 0.9% decline and marks
the tenth consecutive month of decreases.
August 12 Trade Balance – The US trade deficit widened by 4.0% to $27.0 billion in June after unexpectedly
narrowing to $26.0 billion in May. Exports and imports increased by 2.0% and 2.3%, respectively,
signaling that the global economic slump may be coming to an end.
FOMC Rate Decision – The Federal Open Market Committee announced that it will maintain the
target range for the federal funds rate at 0.0 to 0.25% and that economic conditions are likely to
warrant exceptionally low levels of the federal funds rate for an extended period. In addition, the
Committee will gradually slow the pace of its purchases of Treasury securities and anticipates
that the full amount will be purchased by the end of October.
August 13 Retail Sales – Despite a boost from the government's cash-for-clunkers subsidy, US seasonally adjusted
retail sales fell 0.1% in July, the first decline in three months. The drop indicates that consumer demand
will likely remain weak even in the face of government stimulus measures.
Business Inventories – Business inventories fell by 1.1% in June, slightly less than the 1.2% drop in
May. This marks the eighth consecutive month of inventory declines larger than 1.0% and indicates that
higher demand may be clearing away unwanted supply.
Import and Export Prices – Import prices fell by 0.7% in July, largely due to price decreases for both
petroleum and nonpetroleum products. Export prices decreased by 0.3% in the same month as a result
of lowered agricultural export prices.
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.
OVERVIEW ___________________________________________________
The Federal Reserve left its benchmark interest rate unchanged in a range between 0.0% and
0.25% at the conclusion of its August meeting on Wednesday. In its policy statement, the Fed
reiterated that economic conditions were likely to warrant a low federal funds rate for an
“extended period,” despite signs that the US economy is “leveling out.” The central bank also
discussed exiting parts of its credit easing program, suggesting that it may end its Treasury
purchase program in October when it has exhausted the $300 billion allocated for this purpose.
Going forward, the evolution of the economic data will play a key role in driving the Fed’s next
move. The 0.1% July drop in retail sales indicated that consumers are choosing to build savings
and pay down debt rather than increase spending, underscoring our expectation that real GDP
growth will remain at 1-2% for most of 2010. In this environment, we anticipate that the Fed will
leave short-term interest rates on hold until mid-2010 until it begins the process of gradually
raising its overnight rate to 1% by the end of next year.
US MARKETS:
TREASURIES ________________________________________________________________________________
• US Treasuries had a strong performance this week, backed by better-than-expected
auctions in 3-year, 10-year, and 30-year bonds. Two-year on-the-run Treasury yields
finished the week 25 basis points (bps) lower, 10-year yields rallied 35 bps.
• At the end of the week the combination of unchanged consumer prices and lower-thanexpected
consumer confidence, expressed via the University of Michigan survey index,
accelerated this rally. 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-yr notes
and 10-yr bonds tightening by 10 bps over the last five trading days.
LARGE-CAP EQUITIES___________________________________________________________
• The stock market fell for the first time in five weeks due to weaker-than-expected economic
data releases. The S&P 500 index fell about 1.3% for the week. Large-cap stocks
outperformed small-cap stocks. In terms of style, large-cap growth stocks outperformed
large-cap value stocks. The best performing sector was health care and the worst
performing sector was consumer discretionary. Earnings season continues to wind down
with retail companies dominating this week’s announcements. Wal-Mart Stores Inc reported
quarterly earnings of 88 cents per share, which beat analysts’ estimates of 86 cents per
share. The company attributed the positive quarter to cost reductions and better inventory
management. Shares of WMT rose almost 3% on the news.
CORPORATE BONDS _____________________________________________________________
• Investment grade primary activity continued its torrid pace during the first half of the week.
Money continues to pour into the high grade credit space despite Treasury yields falling
most of the week. For the first time in some time now, several new issues that priced this
week are actually trading wider to where they initially priced. Many investors think that the
widening is temporary as lower Treasury yields dampened interest from absolute yield
buyers. Thin summer trading also contributed to the move wider adding to the notion of
some that the widening was merely a function of the market running too far too fast.
• Investment grade corporate spreads tightened slightly on the week even though it felt like
most of the market was trading sideways on very thin volumes. Range-bound spread levels
should stay at least until post Labor Day weekend. It does feel like we have reached a point
where the buy-everything-you-can-get-your-hands-on mentality has given way to a more
rational approach. The Barclays Credit Index Option-Adjusted Spread (OAS) finished the
week at +213, tighter by 3 basis points. Financials tightened by 9 basis points (banks -7,
insurance -11); industrials widened by 1 basis point (telecom +3, consumer non-cyclical -1,
basic materials +9, capital goods -2, energy +6); and utilities widened by 1 basis point.
MORTGAGE-BACKED SECURITIES _______________________________________________
• Agency mortgages kept pace with Treasuries in the rally back to the middle of the range.
The mortgage market weathered a slew of economic reports and headline events that
offered mixed views on the direction of interest rates. This lack of direction is an ideal
environment for mortgages as rates have oscillated in a narrow 25 basis point range. Thirtyyear
current coupon pass-through spreads closed unchanged versus Treasuries at 94 basis
points. Although the production coupons experienced quiet spread movement, activity
picked up for the higher coupon agency mortgage market. The relatively benign
prepayment report has enticed investors to pay up for premium mortgages opting for an
attractive alternative to short government and corporate products.
MUNICIPAL BONDS _____________________________________________________________
• After closing in on its steepest levels on record, the municipal bond market yield curve
flattened this week. Yields on short maturity bonds edged higher and longer maturity yields
dipped lower. We are hearing – and seeing – investor interest sour for the front end of the
municipal market. An example will help explain why: a 2-year municipal bond yielding just
0.68% did not seem all that appealing as “risk-free” Treasury yields ratcheted up to 1.30% at
the end of last week. As a result, municipal investors held on to cash, shifted their focus
across markets (into taxables) or moved further out along the municipal curve. In addition,
the flood of Build America Bonds (BABs) serves as a substitute for long-term tax-exempt
issuance. Investors continue to anticipate this relative scarcity of longer term municipal
bonds in the markets, bidding up prices and sending yields lower. This helped push the yield
curve flatter. By Thursday, two-year AAA-rated bond yields rested at 0.71% and 30-year
bond yields fell to 4.62%.
• The pace of new supply kicked up a notch on the week as a flurry of deals hit the market.
One highlight was the $775 million Bay Area Toll Authority, San Francisco Bay Area Toll
Bridge Revenue Bonds. The Aa3/AA/AA- credit offered a maximum yield of 5.12% in the
2044 maturity and was met with heavy demand from investors.
HIGH-YIELD BONDS ____________________________________________________________
• The high yield bond market remained firm with bonds generally well-bid in August. The
relatively positive economic data (for example, declining unemployment rate) and the
continuing equity rally has resulted in continuing market momentum for high yield. The
broad Merrill Lynch high yield index is up 1.65% for August to-date and the Merrill Lynch
BB/B index is 1.3% for the month to-date. Similar to the past five months, it is the typically
CCC-rated segment of the market that is up the most as some investors continue to reach
for yield. High yield mutual funds continue to receive significant inflows, as investors
maintain their positive view of the asset class. The inflows this week totaled $713 million.
Surprisingly, given the time of the year, the high yield new issuance remains strong, with
over $5 billion of deals pricing this week. New deals included a $1 billion financing for
Case New Holland, the agricultural and construction equipment company, and a $1.3 billion
bond deal for Sprint Nextel, one of the largest wireless telecommunication companies.
INTERNATIONAL MARKETS:
WESTERN EUROPEAN EQUITIES __________________________________________________
• European stocks went down this week. The sectors with the worst performance were
auto & parts (-3.9%) and food & beverage (-1.1%). Volkswagen (-21.0%) pulled
down the performance of the entire sector as the takeover of Porsche is now
finalized. On the other hand, Porsche gained 11.2% as a result. Chrysler creditors
were granted permission to sue Daimler (-2.2%) over $9 billion in transfers. The food
& beverage sector suffered from high unemployment rates and cost conscious
consumers. The entire sector is suffering under hard price competition, especially
breweries. Heineken (-3.8%), Coca Cola (-3.3%) and Nestle (-3.1%) performed the
worst.
• The best performing sectors were real estate (+5.3%) and utility (+2.8%). A group of
Indian and Gulf investors is considering a take-over of Derwent London leading to an
increase of its stock by +10.2%. British real estate continues to show good growth,
specifically Land Securities (+6.6%) and Brit Land Co (+6.4%). In the utility sector,
Endesa (7.7%) profited from rising energy prices. In Germany, E.ON (+5.6%) and
RWE (+2.6%) benefited from a recovery of the sector overall.
EASTERN EUROPEAN EQUITIES __________________________________________________
• The CECE index of equities traded in Central Europe (Czech Republic, Hungary,
and Poland) gained +0.6% this week, while the Russian stock index RTS went down
-1.9%.
• The euro zone’s two largest economies, Germany and France, unexpectedly returned to
growth in the second quarter, hauling Europe out of its worst recession since World War II.
This reduced the drop in the 16-nation bloc’s GDP to just 0.1%, helping it outperform the
US and the UK. Global stimulus measures to battle the deepest slump since the Great
Depression have boosted demand for European exports and government packages are
supporting spending at home. Government and household spending were among the main
drivers of second quarter growth in Germany and France. This is also good news for the
economies of Emerging Europe, as trade with Western Europe is an important component
of their growth story.
GLOBAL BONDS AND CURRENCIES _____________________________________________
• The past week was a particularly good one for shorter-dated sovereign bonds in most
markets, supported by equity market jitters early in the week, weaker than expected US
retail sales and jobless data and by indications from the US Fed that rates will remain low
for an ‘extended period’. Two-year Bunds finished the week more than 20 basis points
lower, in line with developments in the US Treasury market, despite unexpected news that
both the French and German economies expanded modestly in Q2 after four successive
quarters of contraction. Short-dated UK Gilts received an extra fillip from the release of the
Bank of England’s (BoE) quarterly Inflation Report. Two-year Gilt yields fell more than 30
basis points on the week after the BoE said that the UK’s recovery will be ‘slow and
protracted’, suggesting that its accommodative policy stance will remain in place for some
time. The buoyant mood filtered up the European and UK yield curves but gains were most
modest in the 10-year zone. The Japanese government bond (JGB) market had a quieter
time than the other sovereign markets, with the short end of the JGB curve closing virtually
unchanged and longer-dated JGBs only a few basis points firmer on scepticism about the
sustainability of the Japanese recovery.
• In currency markets the US dollar was generally weaker against its major crosses
following the Fed’s hint that rates would remain at current low levels. At the same time, the
Euro received a boost from the better-than-expected French and German Q2 GDP data.
The Australian and New Zealand dollars also rose against the greenback due to firmer
commodity prices and mounting speculation that these countries will lead the rise in rates.
Sterling lagged, closing the week lower against the dollar, on disappointment at the BoE’s
cautious comments on the UK’s economic outlook.
EMERGING-MARKET BONDS ____________________________________________________
• Emerging market dollar-pay debt spreads widened this week as risk appetite receded. The
Federal Reserve meeting, however, delivered a statement that was in line with
expectations and reinforced investors' expectations that the global economic recovery is
under way.
• In South Africa, the Central Bank cut its benchmark interest rate by 50 basis points from
7.50% to 7%, a surprise to the market as no change had been expected. The cut was
based on the continued weakness in the South African economy and signs that inflationary
pressures are easing. Local bonds rallied on the news.
NEXT WEEK'S ECONOMIC RELEASES
August 17 Turkey May Jobless Figures
August 18 Producer Price Index, Housing Starts, German ZEW Economic Sentiment
August 19 Crude Inventories
August 20 Leading Indicators, Poland July Inflation
August 21 Existing Home Sales

Market Reflections 8/13/2009

The cash-for-clunkers program packed less of a belt than was expected, making for a grim retail sales report that showed declines across components. But the disappointment was offset by stable jobless claims data and positive GDP readings, not negative readings, out of Germany and France. Strong earnings from Wal-Mart didn't hurt. The S&P 500 rose on day, gaining 0.7 percent to 1,012. The strength in Europe made for losses in the dollar with the dollar down 0.5 percent to 78.43. Copper, driven by Chinese stockpiling, is taking the lead in the commodities group, ending at a 2009 high of $2.88 for a 10 cent gain. Other commodities also held firm. The Treasury, despite its massive debt, wound up another successful quarterly refunding with strong demand for 30-year bonds where the yield fell 12 basis points on the day to 4.42 percent.

Jobless claims A ray of sun or false hope?

Jobless Claims
Released on 8/13/2009 8:30:00 AM For wk8/8, 2009

The rate of layoffs is heavy but steady as first-time jobless claims were little changed in the Aug. 8 week, at 558,000 vs. 554,000 in the prior week. The numbers, in a plus, are a little bit below the four-week average, which is at 565,000. Continuing claims fell steeply, down 141,000 for data in the Aug. 1 week to 6.202 million. But the decline is hard to read, reflecting either new hirings and/or the expiration of benefits. The economy may be in recovery or at least is steady but the outlook for the jobs market, and how far it lags, is a serious concern for the economic outlook and for policy makers.
Market Consensus Before AnnouncementInitial jobless claims fell 38,000 to a much better-than-expected level of 550,000. Businesses appear to have made their major cuts in labor costs in earlier weeks and are now trimming fewer jobs. Continuing claims, however, rose 69,000 for the July 25 week to 6.310 million, indicating that it is still hard to get rehired.
DefinitionNew unemployment claims are compiled weekly to show the number of individuals who filed for unemployment insurance for the first time. An increasing (decreasing) trend suggests a deteriorating (improving) labor market. The four-week moving average of new claims smoothes out weekly volatility. Why Investors Care
Weekly series fluctuate more dramatically than monthly series even when the series are adjusted for seasonal variation. The 4-week moving average gives a better perspective on the underlying trend.

Market Reflections 8/12/2009

Markets showed little reaction to today's FOMC statement which hints at an end to quantitative easing, a minus for assets with risk premiums but offset by the prospect that interest rates will remain low for an extended period. The dollar ebbed back and forth before ending slightly lower with the dollar index at 78.82. Gold, which has a pronounced risk premium against inflation, showed nearly no reaction, ending at $946. Stocks held onto opening gains, gains that follow two days of profit taking, with the S&P ending up 1.2 percent to 1,005. Treasuries ended little changed with the 10-year yield at 3.71 percent.

Market Reflections 8/11/2009

Talk is centered on whether or not there's too much enthusiasm in the stock market. But even the most cautious aren't calling for too big a retracement given that the economy is now stabilizing. Profit taking pushed the S&P 500 down 1.3 percent in quiet trading to 994.35. Selling was concentrated in financials on talk that defaults remain a risk and are a growing risk for commercial real estate. Demand was very strong for the Treasury's 3-year note auction, good news ahead of 10-year and 30-year auctions tomorrow and Thursday. The 3-year yield ended 6 basis points lower at 1.72 percent. The dollar index ended little changed at 79.15.

Market Reflections 8/10/2009

Action was quiet Monday ahead of what promises to be a busy week that includes an FOMC statement, retail sales, consumer prices, and industrial production. Stocks ended little changed with the S&P holding over 1,000. Dollar buying extended into Monday's session after Friday's better-than-expected jobs report continues to raise talk of rising U.S. interest rates. The dollar index rose 0.4 percent to 79.24. There wasn't much action in commodities though copper did hit a 2009 high at $2.82/lb before backing off to $2.75. Many are saying copper, which has nearly doubled this year on strong Chinese buying, is the commodity headliner of the year. Oil ended steady at $71 with gold also steady at $945.

Week ending August 7, 2009 Market Update

.staticlist li { font-size:11px;}
.market_level th { height:39px;background-color:#B4B4B4;color:#FFFFFF;font-size:11px;font-weight:bold;text-align:center;vertical-align:bottom;padding-bottom:3px;}
.market_level td { color:#707070;font-size:10px;height:30px;border-bottom:1px solid #707070;text-align:right;padding-right:16px;}
.market_returns th { color:#707070;font-size:12px;height:30px;border-bottom:1px solid #707070;text-align:right;padding-right:16px;color:#333333;font-weight:bold;}
.market_returns td { color:#707070;font-size:10px;height:30px;border-bottom:1px solid #707070;text-align:right;padding-right:16px;}

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.

MARKET REVIEW:8/6/09

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.

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.

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.

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.

Weekly Market Update,Week ending July 31, 2009

July 31, 2009
MARKET LEVELS
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
MARKET RETURNS
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
RECAP OF THE WEEK'S ECONOMIC RELEASES
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
euro.
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
revisions.
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.
US MARKETS:
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
higher.
• 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
3.00%.
• 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.
INTERNATIONAL MARKETS:
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
elsewhere.
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
data.
• 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.
NEXT WEEK'S ECONOMIC RELEASES
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
©2009 Payden & Rygel. All rights reserved

Market Reflections 7/30/2009

Investors looked past a jump in initial jobless claims, reacting instead to company news including strong earnings from handset maker Motorola and Goodyear. The S&P 500, which is approaching 1,000, rose 1.2 percent to end just over 985. The week's big push to curb speculation now includes proposed legislation that would regulate over-the-counter derivatives including credit default swaps, which many have blamed for adding to volatility during the post-Lehman meltdown. Financial reform efforts have also been aimed at separating credit units from industrial conglomerates, but the efforts don't appear to threaten GE Capital. Key lawmaker Barney Frank said it would be a mistake for GE to spin off the unit, comments that improved confidence in the unit and in GE itself which jumped nearly 10 percent on the news and which helped to feed the day's rally.
Clarification from Chinese officials that the government is not seeking to limit loans fed a big rally in commodities including copper which rose 3 percent to end at $2.54/lb. Volatility in oil continues with WTI jumping 6 percent to $66.50. Gold ended slightly firmer at $936. Treasuries rallied on the day following a very strong 7-year auction that capped a giant week of new supply and followed weak auctions earlier in the week. The 7-year yield fell 5 basis points on the day to end at 3.24 percent.

Market Reflections 7/29/2009

Big losses in China's stock market, triggered by government plans to limit lending, sent commodity prices down overnight and made for a rough U.S. opening. A steep 2.5 percent headline drop in durable goods didn't help either, even though the results were skewed, as they often are, by month-to-month swings in aircraft orders. Outside of aircraft, the report points to diminishing rates of decline echoed later in the day in a wider view by the Fed's Beige Book which points to very modest growth in the second half. The S&P 500 fell 0.5 percent to just over 975.
The Treasury's 5-year auction proved a major flop as non-dealers stayed away. Treasuries had been rallying on equity losses but gains were trimmed and turned to minor losses with the yield on the 5-year note ending 4 basis points higher on the day at 2.64 percent.
The dollar index held onto its gains through the day, ending 0.8 percent higher at 79.51. Commodities were hurt by the dollar while oil was specifically hurt by a big build in weekly crude stocks. Oil sank through the day to end at $63 for a $4 loss. Gold lost nearly $10 to end at $931

Market Reflections 7/28/2009

HighlightsEconomic data was upstaged Tuesday by a rush of efforts to regulate the financial markets. The Commodity Futures Trading Commission said a prior report, one that did not blame speculators for last year's oil spike, is in error and that it will be looking into limiting positions in the market. Later in the day Senator Schumer said he will push for a bill to limit flash trading in which orders, often at the moment that economic data are released, are executed instantaneously through advanced trading systems.
Headlining the day's economic news was a second month of disappointment for consumer confidence. The Conference Board's report showed a new wave of deterioration in the assessment of the jobs market and on future income, results that point to very slow economic recovery at best. But the news didn't hurt the stock market much which is benefiting from a strong earnings season, underscored in Tuesday's session by very strong results at Amgen which helped the NASDAQ to outperform other indexes with a 0.4 percent gain to just over 1,975.
Treasuries were hurt but only slightly by a surprisingly sloppy 2-year auction, one that raises questions over 5-year and 7-year auctions that are still ahead this week. The yield on the 2-year ended at 1.08 percent, right at the high yield on the auction and vs. 1.04 percent at yesterday's close. The dollar index firmed 0.3 percent to 78.88 which pushed down commodities including oil that ended just above $67. Oil traders say the CFTC news is making customers reluctant to take on large positions in the risk that limits will be imposed. Gold ended about $15 lower at $940

Market Reflections 7/27/2009

It's been a very long wait but the worst for the housing sector really does appear to be over. New home sales rose strongly in June with supply down markedly, complementing a run of solid reports on housing starts and sales of existing homes. But the news did little for the stock market which appears to be weighed down by prior gains. And in contrast to last week, stocks were not helped by earnings as insurer Aetna and glass maker Corning both posted disappointments. The S&P 500 inched higher to end just over 980. Oil firmed to $68.50 with base metals the best performer of all, extending a run of strong gains. Treasury yields, pressured by a massive week of coming supply, rose slightly with the 10-year ending at 3.72 percent. Gold ended firmly at $955.
In special notes related to the bust, the SEC has made permanent the ban on naked short selling while Congress will consider curbing the credit default market. In a final note, a Gallop poll shows Americans think the least of the Federal Reserve, ranking it at the very bottom of nine U.S. agencies. There's a rising debate whether Ben Bernanke, whose chairmanship expires in January, should be reappointed to another term. Bernanke appears to be on the offensive, defending the "too big to fail" dictum at a town hall meeting on Sunday.

Weekly Market Update (7/24/09)‏

Payden & Rygel


July 24, 2009
MARKET LEVELS
Friday* Last week Dec. 31, 2008 One year ago
Dow Jones Industrial Avg 9,041 8,744 8,776 11,349
S&P 500 972 940 903 1,253
NASDAQ 1,952 1,887 1,577 2,280
Russell 2000 544 519 499 702
DJ STOXX Europe 600 (€) 220 211 198 282
Nikkei Index (¥) 9,945 9,395 8,860 13,603
Fed Funds Target 0%-0.25% 0%-0.25% 0%-0.25% 2.00%
2-Year Treasury Yield 1.01% 0.99% 0.77% 2.61%
10-Year Treasury Yield 3.67% 3.65% 2.21% 4.00%
U.S. $ / Euro 1.42 1.41 1.40 1.57
U.S. $ / British Pound 1.64 1.63 1.46 1.99
Yen / U.S. $ 94.82 94.19 90.64 107.33
Gold ($/oz) $952.73 $937.50 $882.05 $928.05
Oil $65.99 $63.56 $44.60 $124.74
*Levels reported as of 10:00 am Pacific Standard Time
MARKET RETURNS
Year-to-date (1/1/09-7/24/09)* Year-to-date (1/1/09-7/23/09)
Dow Jones Indus Avg. 3.02% 90 Day T-Bill 0.13%
S&P 500 7.64% 2-Year Treasury 0.49%
NASDAQ 23.81% 10-Year Treasury -9.91%
Russell 2000 9.01% ML High Yield Index 32.74%
MSCI World Index 11.35% JPM EMBI Global Diversified 18.07%
DJ STOXX Europe 600 10.74% JP Morgan Global Hedged -1.29%
*Returns reported as of 10:00 am Pacific Standard Time
RECAP OF THE WEEK'S ECONOMIC RELEASES
July 20 Leading Indicators – The index of US leading indicators rose in June for the third consecutive month by 0.7%, following a revised 1.3% gain in May. This marks the first three-consecutive-month increase since 2004.
July 21 Bernanke Testimony before Senate – As part of the central bank's semiannual report on
monetary policy and the economy, Federal Reserve Chairman Ben Bernanke outlined possible
exit strategies from quantitative easing and emphasized that massive inflation could be avoided.
July 23 Existing Home Sales – Sales of existing homes rose for the third straight month, indicating a possible end to the four-year housing slump that precipitated the recession. Purchases increased 3.6% to an annual rate of 4.89 million in June, the highest level since October 2008.
July 24 University of Michigan Consumer Confidence - The Reuters/University of Michigan final index of consumer sentiment fell in July to 66, down from 70.8 in June. The decrease, the index’s first in five months, is likely due to continued weakness in the labor market and falling home values.
PMI Manufacturing & Services – The euro zone recorded the slowest rate of contraction since last summer, with the composite index rising to 46.8 (from 44.6 last month).
OVERVIEW ___________________________________________________
Chairman of the Federal Reserve Ben Bernanke’s July 21 testimony before Congress was meant to assure those concerned about the long-term inflationary impact of Fed policy that the central bank was prepared to mop up liquidity when the time comes. However, Bernanke emphasized that "accommodative policies will likely be warranted for an extended period." In other words, the Fed is on hold and will remain so until an economic recovery is firmly in place.
Bernanke also outlined three possibilities for the Fed's exit strategy from quantitative easing: the natural unwinding of Fed credit facilities as improving financial conditions lead private sector participants to provide credit to market participants, selling Treasury bills and depositing the proceeds with the Federal Reserve, or offering term deposits to banks—analogous to the certificates of deposit that banks offer their customers. These measures provide the Fed with latitude to tighten monetary policy before an inflation problem emerges. Those who believe the build up of reserves on bank balance sheets is inflationary are only correct if those reserves are lent out. Inflation is a by-product of too much money chasing too few goods. Currently, plenty of money exists on bank balance sheets, but no one is using it to buy or invest. If the money is not being lent out, there is no inflation problem. Put another way, the Fed is pushing on a string. Banks are probably reluctant to lend because they are reserving excess capital against assets of questionable value that they already have on the r balance sheets. Hopefully, this will change as the economy begins to post positive economic growth rates in the third and fourth quarters and confidence begins to return.
US MARKETS:
TREASURIES ________________________________________________________________________________
• Although daily volatility in Treasury yields remained high, the week-over-week change was minimal as investors balanced the modest improvement in economic data and appreciation in risk assets against the outlook for sluggish growth and company specific credit concerns. Agency spreads continue to maintain their narrow levels relative to Treasuries as market participants gain increasing confidence in viewing the agency credit risk as supported by the US government. Yield directionality takes its cue next week from a full slate of economic data, including home sales, durable goods, GDP and claims data.
LARGE-CAP EQUITIES___________________________________________________________
• The stock market rallied for the second consecutive week and reached new highs for the year due to strong corporate earnings. Both the S&P 500 index and Dow Jones Industrial Average were up over 3.5% for the week. Small-cap stocks outperformed large-cap stocks for the week. In terms of style, large-cap value stocks outperformed large-cap growth stocks. The best performing sector was materials and the worst performing sector was consumer staples. So far this earnings season, approximately 35% of the companies in the S&P 500 have reported earnings. Among these companies, 74% of them have beaten expectations. If this pace continues, it will be the highest proportion of consensus beats since 1993. Some notable companies that reported positive earnings this week were Caterpillar, Starbucks, Apple, eBay, Ford, and AT&T.
CORPORATE BONDS _____________________________________________________________
• Investment grade primary activity picked up noticeably albeit midway through earnings season. Corporate earnings have surprised to the upside across most sectors, adding fuel to an already technically supportive market. CIT’s state of affairs has yet to be determined which has caused a wide range of trade prints. One notable deal this week included a multi-tranche $1.95 billion deal from Boeing who came to the market after reporting second quarter earnings were well above the consensus expectations.
• Investment grade corporate spreads continued to tighten on improving corporate performance and recovering economic conditions. The current imbalance between incredibly strong demand and insufficient supply is rising, fueling the current state of affairs in the corporate bond market. The Barclays Credit Index Option-Adjusted Spread (OAS) finished the week at +247, tighter by 20 basis points. Financials tightened by 28 basis points (banks -34, insurance -22); industrials tightened by 20 basis points (telecom -27, consumer non-cyclical -17, basic materials -31, capital goods -16, energy -17); and utilities tightened by 18 basis points.
MORTGAGE-BACKED SECURITIES _______________________________________________
• Agency mortgages outperformed Treasuries as yields hovered in a narrow trading range. The
current environment is ideal for mortgages as conflicting signals on the economy and monetary
policy leave the bond market directionless. Mortgage spreads narrowed and demand from the US Government and money managers absorbed the steady stream of supply from originators. For the week, the 30-year current coupon versus the 10-year Treasury closed at 95 basis points.
MUNICIPAL BONDS _____________________________________________________________
• The municipal bond market was roughly unchanged over the last week. Two-year AAA-rated general obligation (GO) bond yields finished a 0.74% -- a difference over last week of just 1 basis point. Tenyear AAA-rated bond yields hit 3.00% compared to 2.99% last week. A slowdown in new issuance volume coupled with continued demand from retail buyers kept the forces of supply/demand balanced. However, relative to Treasuries, municipal bonds continue to richen, especially at the shorter-maturities. Two-year AAA-rated municipal bonds now yield just 70% of 2-year Treasuries, as Treasury yields rose this week across the curve.
• By Friday, the California legislature appeared close to a budget deal. While the new budget may allow the state to tap the short-term capital markets and ease its cash flow problem temporarily, the budget plan may come at the expense of schools, local governments and agencies. The state’s GO bonds received a boost this week though, with both tax-exempt GOs and taxable GOs narrowed in spread to high grade state GOs and US Treasuries, respectively, as investors anticipated the budget’s approval over the course of the week.
• New deals this week included the $800 million New York City Transitional Finance Authority (TFA) tax secured bonds (Aa2/AAA/AA+). The 2038 offered a maximum maturity of 5.04%.
HIGH-YIELD BONDS ____________________________________________________________
• The high yield market has regained some momentum, which had dissipated in the latter half of June 2009. The Merrill Lynch BB/B high yield constrained index is up 2.1% in July to-date. Reacting to a strong start to the second quarter earnings season, with major equity indices up 10% since July 10, the high yield market has been bid up again with some of the quarterly earnings season uncertainty now removed. Most of the larger, bellwether high yield issuers will not report second quarter earnings until somewhat later but the earnings trend has been positive for the larger Fortune 1000 companies and is expected to carry-over into high yield land. The more solid tone to the high yield market has resulted in the new issue market remaining open in late July, a historical rarity as the market by this stage of the summer typically begins to wind down. Slightly in excess of $1 billion in new deals were issued this week, with the Los Angeles-based homebuilder, KB Homes, issuing $265 million of 8 year bonds with a 9.1% coupon and a spread of 575 basis points over comparable duration Treasuries. The new deals this week were generally well received and most of the deals traded up at break. The high yield market continues to receive inflows, with inflows this week into high yield mutual funds totaling a significant $566 million, a sizable increase from last week’s sub $100 million inflow print.
INTERNATIONAL MARKETS:
WESTERN EUROPEAN EQUITIES __________________________________________________
• European stocks went up this week by +11%. French building materials company Saint Gobain
(+15.6%) gained on news of a EUR 400 million cost-cutting program. French construction company Alstom (+12.4%) also gained after it won a EUR 110 million contract to supply metro cars to Brazil.
Among the companies that did not do as well were Finnish mobile telecommunication equipment company Nokia (-0.5%) on a negative downgrade from Fitch. French food processing company Danone (+1.5%) failed to match the market rally despite announcing that profit for first half of 2009 was up 3% on lower milk prices and better sales.
EASTERN EUROPEAN EQUITIES __________________________________________________
• The CECE index of equities traded in Central Europe (Czech Republic, Hungary, and
Poland) gained +10.3% this week, while the Russian stock index RTS went up +9.5%.
• Iceland, the European country which fell as one of the first victims of the global financial crisis, may seek European Union (EU) membership. Despite its historical opposition to EU accession, it appears that the tide is shifting in favor of the organization after the combination of overleveraged banking sector and a major global recession led to massive sell-offs in the country’s stock and currency markets and a political crisis. As the country’s level of economic development is far superior to other Eastern European countries that are waiting to become members (Turkey, Macedonia, Albania, etc.), it is likely that Iceland will bypass them to become the Union’s twenty-eighth member.
GLOBAL BONDS AND CURRENCIES _____________________________________________
• Major non-US sovereign bond markets extended their recent losses in the past week, as risk
aversion continued to subside and equity markets approached their highest levels this year.
Although the latest European business sentiment surveys data showed stronger-than-expected
rises in confidence amongst manufacturers and other firms, Bund market losses were modest, as were those in the Japanese market, with yields rising only a few basis points across the curve in both cases. UK Gilt yields rose more sharply, thanks to some surprisingly strong retail sales data, a more upbeat tone in the latest minutes from the Bank of England’s Monetary Policy Committee (MPC) and comments from an MPC member which reinforced fears that the Bank would announce the suspension of its quantitative easing program at its August meeting. News that second quarter UK GDP contracted by 0.8% (-5.6% annually), twice the forecast decline, provided some support for Gilts late in the week, but yields still finished the week up about 16 basis points across the curve.
• Risk aversion remained the dominant theme in currency markets in the past week, weakening the US dollar and the yen against the major crosses. High yield currencies such as the Turkish lira and the Australian and New Zealand dollars were the main beneficiaries, with the latter two further supported by steadily rising commodity prices. Sterling also rose against the greenback following the rise in retail sales figures, the improvement in the tone of the MPC minutes and speculation that quantitative easing may be coming to an end.
EMERGING-MARKET BONDS ____________________________________________________
• Emerging market dollar-pay debt spreads tightened this week supported by improved investor sentiment and the rally in equities and commodity prices. New issuance appetite remained very strong as companies in Colombia, Brazil, Chile, Korea and Russia tapped the international capital markets successfully.
• Monetary easing continues in emerging markets but central banks are signaling the end of the cycle is close. The Central Bank of Brazil reduced the SELIC benchmark rate by 50 basis points to 8.75% as expected. The 8.1% unemployment rate in June was lower-than-expected indicating the recent improvement in industrial production and retail sales is also making its way to the labor markets. The market does not expect any more rate cuts this year.
• Moody’s raised Philippines’ foreign currency debt rating to Ba3 from B1, citing the relatively high degree of resiliency of the country’s financial system and external payments position to the global financial crisis. The rating agency remains cautious on the Philippines’ budget deficit, but expects it to be financed from domestic and foreign sources.
NEXT WEEK'S ECONOMIC RELEASES
July 27 New Home Sales, Hungarian Central Bank Meeting
July 28 Consumer Confidence, S&P/Case-Shiller Home Price Index, Poland CPI
July 29 Federal Reserve’s Beige Book, Poland Central Bank Meeting
July 31 GDP

Market Reflections 7/22/2009

A rush of earnings Wednesday followed the second-quarter theme -- more favorable than expected. But the results, led by Apple and Starbucks, weren't enough to move the market where the S&P 500 was little changed, ending just below 955. Most markets were little changed including the dollar index which ended fractionally lower at 78.74. Oil ended above $65 with gold above $950. A second day of testimony from Ben Bernanke was uneventful though the chairman stressed that unemployment is the Fed's biggest concern

Market Reflections 7/21/2009

Ben Bernanke is prepared to keep interest rates low for an extended period, enough not to risk cutting short the recovery. Things appear to be returning to normal as the Fed chairman expects liquidity needs to keep fading and made no mention of quantitative easing. Stocks didn't react much to the comments with the S&P 500 up 0.4 percent to end just under 955. But the distancing of the risk of higher interest rates tripped demand for Treasuries where the 10-year yield fell 15 basis points to 3.46 percent. The dollar index firmed slightly to just under 79.

Market Reflections 7/20/2009

A third straight solid gain for the LEI as well as reports that business lender CIT has reached a deal with bondholders boosted the S&P 500 to its highest close since November, at 951.13 for a 1.1% gain on the day. The move into risk pressured the dollar with the dollar index down 0.7 percent to 78.87. Demand for risk along with the weakness in the dollar made for strong gains in commodities with oil ending near $64.50 and gold near $950.

Credit Spread Recap

Updated: 20-Jul-09 10:39 ET
The 10-Year Treasury sold off dramatically last week as it gave up 36 bps to close at a 3.65% yield - a decline of over 10%. However, prices are still up significantly from when the yield hit 4.00% on June 11, 2009.
The mortgage spread narrowed 44 bps from 191 bps to 147 bps as mortgage rates dropped from 5.20% to 5.12% and the 10-Year yield rose.The 2-10 Year yield spread rose 25 bps to 265 - again mostly a result of the sell-off in the 10-Year Treasury.
The TIPS spread moved up just 1 bps this week to settle at 178 bps. So while Treasuries came under pressure, inflation expectations may not be the driving force.Instead, Treasury yields may be moving higher as the flight-to-safety trade starts to abate with "good" news developing with regard to California's budget talks and CIT's possible short-term financing deal.
The spread between the ML High Yield Master II to the 10-Year Treasury narrowed 28 bps as corporate bonds improved in light of reasonably good earnings reports.
Treasuries will likely continue to come under additional pressure this week as some of the bad news becomes "less bad."However, we still believe that the U.S. economy is facing some major hurdles in its race towards growth.
Overall macro factors will likely keep yields somewhat in check, but we continue to expect a retesting of the 4.00% yield over the coming months.
Briefing.com

Weekly Market Update : Payden & Rygel

July 17, 2009
MARKET LEVELS

Friday* Last week Dec. 31, 2008 One year ago
Dow Jones Industrial Avg 8,738 8,147 8,776 11,447
S&P 500 940 879 903 1,260
NASDAQ 1,885 1,756 1,577 2,312
Russell 2000 520 481 499 697
DJ STOXX Europe 600 (€) 211 197 198 276
Nikkei Index (¥) 9,395 9,287 8,860 12,888
Fed Funds Target 0%-0.25% 0%-0.25% 0%-0.25% 2.00%
2-Year Treasury Yield 1.00% 0.90% 0.77% 2.49%
10-Year Treasury Yield 3.64% 3.30% 2.21% 3.99%
U.S. $ / Euro 1.41 1.39 1.40 1.59
U.S. $ / British Pound 1.63 1.62 1.46 2.00
Yen / U.S. $ 94.21 92.54 90.64 106.28
Gold ($/oz) $938.68 $913.05 $882.05 $957.43
Oil $63.89 $59.89 $44.60 $129.29
*Levels reported as of 11:00 am Pacific Standard Time

MARKET RETURNS

Year-to-date (1/1/09-7/17/09)* Year-to-date (1/1/09-7/16/09)
Dow Jones Indus Avg. -0.43% 90 Day T-Bill 0.13%
S&P 500 4.11% 2-Year Treasury 0.61%
NASDAQ 19.55% 10-Year Treasury -8.86%
Russell 2000 4.10% ML High Yield Index 29.66%
MSCI World Index 6.56% JPM EMBI Global Diversified 16.66%
DJ STOXX Europe 600 6.21% JP Morgan Global Hedged -0.89%
*Returns reported as of 11:00 am Pacific Standard Time

RECAP OF THE WEEK'S ECONOMIC RELEASES

July 14 Retail Sales – The Commerce Department announced a 0.6% rise in retail sales in June, up from the unrevised 0.5% increase in May. The rise was largely due to a jump in automobile sales and higher energy prices.
Producer Price Index - The Producer Price Index was up 1.8% in June, following an increase of 0.2% in May. The rise far exceeded the 1% forecast and marked the index’s biggest uptick since November 2007.
Euro Zone Industrial Production – The euro zone recorded the first increase in industrial
production in nine months (+0.5%). The numbers missed expectations of around +1.5%.
Industrial production was at -17.0% this time last year.
German ZEW Index – Expectations for economic activity declined from 44.8 to 39.5 over the last month in Germany. After eight consecutive increases, the current level lies still high above the average of 26.3.
July 15 Consumer Price Index – Headline inflation rose 0.7% in June versus 0.1% in May. Core inflation, which excludes food and energy, rose by 0.2% in June after increasing 0.1% in May. The acceleration in headline inflation was largely caused by a sharp increase in energy prices.
UK Housing Market – The RICS survey found that housing prices started to increase for the first time in 20 months in the UK. There are still small declines in prices but a shift is foreseeable.
July 16 Initial Claims - First time unemployment claims for the week ending July 11 fell by 47,000 to 522,000, the lowest level since January. The sharp drop is largely due to seasonal adjustments and the fact that General Motors and Chrysler shut down plants months before traditional July closings.
July 17 Housing Starts – Housing starts rose unexpectedly, climbing 3.6% to an annual rate of 582,000 in June from 562,000 in May. Though the month-over-month increase underscores the view that the housing market may be stabilizing and that the US economy is beginning to recover, housing starts were still down 46% on a year-over-year basis.

OVERVIEW ___________________________________________________

Inflation data released this week suggest that price pressures remain subdued. The headline consumer price index (CPI) was up 0.7% in June from the prior month, but the index is 1.5% lower than it was last year at this time. The volatility in the headline number has been driven by energy prices, which peaked at $145/barrel last July before tumbling to $63/barrel today. Core CPI inflation, which excludes food and energy prices and accounts for roughly 75% of the overall price level, has remained stickier at 1.7% yearover- year. However, core inflation could drift lower in the coming months due to declining shelter costs.

The rate of increase in the Owners' Equivalent Rent (OER), which measures what owners give up by occupying instead of renting their homes, has been falling. In June 2008, OER was up 2.6% from year ago levels compared to a 1.9% increase in June 2009. The OER accounts for about 24% of the headline inflation index and 30% of the core inflation index so it plays an important role in driving the overall price level. With the national rental vacancy rate at a near-record 10.1% and unemployment levels rising, rents, and the OER, will likely remain low for the rest of the year and keep inflation at bay.

US MARKETS:

TREASURIES ________________________________________________________________________________
• Treasury yields rose this week and the yield curve steepened as the longest-dated bonds sold off the most. A strong rebound in equities from last week’s drop coupled with reasonable earnings and economic data drove the move to higher yields. In addition, stronger-than-expected Consumer and Producer prices had a sociable impact on the long end. Agency spreads continue to stay near their tightest levels as investors become more comfortable with the idea that agency debt is government protected.

LARGE-CAP EQUITIES ___________________________________________________________

• The stock market rallied for the first time in five weeks spurred by better-than-expected second quarter earnings from some of the largest S&P 500 companies. Goldman Sachs, JP Morgan, Intel, Google, IBM, and General Electric all surprised on the upside. The S&P 500 index jumped about 6% for the week with large-cap stocks underperforming small-cap stocks. In terms of style, large-cap growth stocks underperformed large-cap value stocks. The best performing sector was materials and the worst performing sector for the second straight week was telecommunication services. In the headlines this week, Goldman Sachs reported second quarter earnings of $4.93 per share, which trumped analyst estimates of $3.65 per share. The company attributed the strong quarter to record quarterly revenues in trading and stock underwriting.

CORPORATE BONDS _____________________________________________________________

• Investment grade primary activity was quiescent once again as second quarter earnings dominated investors’ attention. Notable deals this week included Carefusion, a spinoff of Cardinal Health, which came to the market with a $1.5 billion three-tranche deal that priced around +300 to Treasuries and Goldman Sachs who tapped the market with a $1 billion three-year deal priced at +212.5 over the 3-year Treasury after they reported better-than-expected second quarter earnings. We expect issuance to remain light throughout earnings.
• Investment grade corporate spreads tightened most of the week on the heels of several factors. Higher overall yields, decent earnings and lack of issuance all contributed to tighter spreads. CIT’s fiasco this week did not have a material negative effect on credit spreads. CIT bonds have been without a doubt the most traded name this week; however, broker and bank securities have tightened due to strong second quarter results from Goldman and JP Morgan. The Barclays Credit Index Option-Adjusted Spread (OAS) finished the week at +267, tighter by 6 basis points. Financials tightened by 5 basis points (banks -9, insurance flat); industrials tightened by 9 basis points (telecom -16, consumer non-cyclical -6, Basic Materials -20, Capital Goods -3, Energy -5); and utilities tightened by 9 basis points.

MORTGAGE-BACKED SECURITIES ________________________________________________
• Mortgages outperformed Treasuries as yields drifted higher back to the middle of the recent trading range. Agency 30-year mortgage spreads compressed 10 basis points to their narrowest levels of the summer. Mortgages also enjoyed a favorable environment for risk taking as equity and credit markets rebounded on better-than-expected economic data. Credit sensitive mortgage products shrugged off rating agency downgrades to rally ahead of this week’s subscription on the legacy Term Asset-Backed Loan Facility (TALF) assistance program. The 30-year current coupon versus the 30-year Treasury closed at 96 basis points.

MUNICIPAL BONDS _____________________________________________________________
• The tax-exempt yield curve steepened this week, with shorter-maturity bond yields falling 5-10 basis points and yields on longer maturity bonds rising slightly. Municipal bond yields, especially in the front end of the yield curve, have moved well below comparable Treasury yields. For example, two-year AAArated GO bonds now yield 75 basis points or 0.75%-just 79% of the two-year Treasury yield at 0.95%. A few key factors continue to favor municipal bonds though, including a relatively light summer issuance calendar, the overall slump in municipal issuance compared to a year ago and fresh investor money pouring into municipal bond funds. Also, for the second consecutive week taxable municipal bonds, such as the California Build America Bonds (BABs), saw a surge in demand from investors.
• Moody’s Investors Service lowered the state of California’s credit rating by two notches from A2 to Baa1 on Tuesday afternoon. On Wednesday and Thursday, the state’s Build America Bonds (BABs) traded tighter in spread to Treasuries by about 20-30 basis points. Tax-exempt California State General Obligations’ spreads to AAA-rated GOs tightened by 5 basis points on the week. It is interesting to note that 70%+ of tax-exempt buyers are households, while 97% of CA BABs buyers at new issuance in April were institutional investors. This may explain the difference in trading activity between the two markets. While a budget plan would not solve California’s near-term cash flow problems, it could alleviate the cash crunch by allowing the State to enter the market and issue revenue anticipation notes (RANs) or revenue anticipation warrants (RAWs) instead of issuing IOUs to vendors.

• The notable new issuance this week was dominated by Build America Bonds deals. Highlights included the Illinois Municipal Electric Agency Power Supply System Revenue Bonds (A1/A+/A+) that offered yields of 240 basis points over comparable Treasuries in the 2039 maturity. The North Carolina Turnpike Authority (Aa2/AA/AA-) also issued a slate of $353 million BABs, coming to market at +240 basis points to comparable Treasuries in the 2039 maturity.

HIGH-YIELD BONDS _____________________________________________________________
• The generally positive second quarter earnings from the larger US financial institutions (Citibank, Goldman Sachs and JP Morgan) have benefited the equity markets, with major equity indices up 4-5% this week, but have not had a materially positive impact on the high yield market. The financial uncertainty surrounding CIT (a major component of high yield indices since being downgraded to high yield status in May 2009) has negatively impacted high yield bond holders who own the CIT bonds. In addition to the issues surrounding CIT, the high yield market is cautiously viewing the developing second quarter earnings season. While the broad high yield market still appears to be flush with cash, inflows into high yield mutual funds have been exhibiting slowing trends over the past few weeks and were less than $100 million this week. The new issue market has also exhibited a moderating trend, with less than $1 billion in new issue high yield bonds pricing this week and the forward calendar of new deals relatively thin.

INTERNATIONAL MARKETS:

WESTERN EUROPEAN EQUITIES __________________________________________________
• European stocks went up this week. The sectors with the best performance were autos & parts (+18.4%) and basic resources (+14.1%). BMW (+13.7%) has decided to accelerate production after cutting the work week at its German plants. Porsche (+22.8%) seems to have solved the biggest hurdles in terms of their outstanding debts and a solution in the takeover action with VW (19.6%) is in sight. Xstrata, the world’s fourth-largest copper producer, climbed +18.6% due to merger activities. Stabilizing metal prices contributed to a good performance in the entire sector.
• The worst performing sectors were technology (+3.6%) and travel & leisure (+3.6%). Nokia’s
performance (-6.7%) was in line with expectations, but the company disappointed with a negative outlook due to price competition in the sector. Opap (-4.1%), a gambling company, missed its profit target after Greece imposed new taxes on gaming. Accor (-1.8%), Europe’s largest hotel operator, suffered from reduced business travel during this recession.

EASTERN EUROPEAN EQUITIES __________________________________________________
• The CECE index of equities traded in Central Europe (Czech Republic, Hungary, and Poland)
gained +9.2% this week, while the Russian stock index RTS went up +10.7%.
• Hungary sold its first debt to foreign investors since last year’s International Monetary Fund (IMF) bailout, taking advantage of the world’s strongest bond market rally to borrow €1 billion. Investors expressed interest to buy €2.9 billion of securities, nearly six times the €500 million the government initially planned to raise. The government lured buyers by offering a yield of 6.79% on a five-year debt, more than 5.9% over existing euro-bonds due in May 2014. Hungary became the first European Union nation to receive IMF aid last year as its bond market froze and a slide in the forint pushed up refinancing costs on foreign-currency loans.

GLOBAL BONDS AND CURRENCIES _______________________________________________
• Major non-US sovereign bond markets closed the week 5-10 basis points weaker following gains in global stock markets. The US Federal Reserve’s relatively upbeat assessment of the US economic outlook and news of a pick-up in the pace of economic growth in China in Q2 dampened global bond market sentiment, although the week’s European and UK inflation data provided some relative support for these markets and allowed them to outperform US Treasuries. The flash estimate of Euro-zone June inflation showed inflation turned negative last month, declining 0.1% on an annual basis, while the UK’s annual inflation rate dipped to 1.8%, below the Bank of England’s (BoE) 2% target, for the first time this cycle. Gilts were also assisted by speculation that the BoE may extend its quantitative easing program at its next policy meeting and by a further rise in UK unemployment to an all time record. In Japan, Prime Minister Aso announced a general election at the end of August, which is expected to end
the ruling Liberal Democratic Party’s domination of post-war Japanese politics. But this had little impact on Japanese government bonds (JGBs). Neither did the Bank of Japan’s decision to maintain its zero interest rate policy and extend its quantitative easing measures by three months to end December. Japanese government bonds finished the week a couple of basis points weaker across the curve.
• In currency markets the US dollar was marginally weaker against the Euro and Sterling, undermined by the improvement in risk appetite and news that China’s foreign exchange reserves reached a new high in the second quarter. The easing in risk aversion hurt the yen more and it closed the week about 0.5% lower against the greenback.

EMERGING-MARKET BONDS ____________________________________________________
• Emerging market dollar-pay debt spreads tightened this week on the back of strong economic data in China and better-than-expected US corporate earnings that led to a rally in equities. Increased investor risk appetite supported new bond supply from several state-owned companies in Colombia, Qatar, Korea and Kazakhstan.
• Monetary easing continues in emerging markets but central banks are signaling the end of the cycle is close. The Central Bank of Turkey reduced the key overnight borrowing rate by 50 basis points to 8.25% but the statement was less dovish than at the previous meeting. Mexico also cut the repo rate by 25 basis points to 4.50% and indicated it would pause going forward to monitor economic data.
• Moody’s raised South Africa’s foreign currency debt rating to A3 from Baa1, citing sound
macroeconomic policies and a build-up in foreign exchange reserves which stood at US$ 35.76 billion atthe end of June.

NEXT WEEK'S ECONOMIC RELEASES
July 19 German Producer Price Index
July 22 Mortgage Applications
July 23 Existing Home Sales, Poland June Net Inflation Figures
July 24 University of Michigan Consumer Confidence, German IFO Business Climate Index

Market Reflections 7/16/2009

Continuing talk over strong results at Intel and the prospect of improving PC demand continued to push the stock market higher where the S&P 500 rose nearly 1 percent to just over 940. IBM and Google added to the upbeat run of earnings, both easily beating estimates in news after the close.

Economic data was mixed: big improvements in jobless claims were dismissed as seasonal quirks tied to GM and Chrysler; Treasury International Capital data showed a net outflow of foreign investment but Chinese investment in Treasuries continues to rise; the Philadelphia manufacturing sector is improving for the most part but very slowly. Perhaps the clearest news was a solid gain in the housing market index which more and more is pointing to recovery for the sector.

Reports that CIT Group, refused a bailout and poisoned by toxic assets, will file for bankruptcy tomorrow had little effect on the market. Talk was optimistic, noting that the government must be confident that the financial sector and economy can comfortably absorb the failure. A member of the S&P 500, CIT is a major business lender, or at least apparently was

Market Reflections 7/15/2009

Strong earnings from Intel and Goldman Sachs together with an upbeat economic assessment in the latest FOMC minutes sent stocks back to levels last seen in late June, before that month's disappointing jobs report. In a big rally, the S&P 500 rose 3% to just over 930. Economic data was less upbeat headed by another decline in industrial production but also including an Empire State report where declines are becoming marginal. Money moved into commodities with oil ending under $62 and gold ending over $940. Demand for the safety of the dollar fell back, another reason for the gain in commodities. The dollar index ended at 79.30, down 0.7 percent. Money also moved out of Treasuries where the 10-year yield rose 12 basis points to 3.59 percent

Market Reflections 7/14/2009

Strength in retail sales and exceptionally strong earnings at Goldman Sachs reawakened spirits which have been dulled by two months of disappointing economic news and consolidation in the stock market. The S&P rose 0.5 percent to just over 905. Gains would probably have been stronger if not for some soft spots in retail sales including a fourth consecutive month of declines outside of autos and gas stations, two categories that were very strong in June. Demand for safety eased making for a 10 basis point rise in the 10-year Treasury yield to 3.45 percent. Most commodities were steady with oil at $59.50 and gold at $925. Base metals, however, jumped on news of a rise in EMU industrial production. Copper rose 5 percent to $2.29/lb.

Market Reflections 7/13/2009

Talk that Goldman Sachs will post strong earnings tomorrow gave a big lift to stocks on Monday where the S&P rose 2.5 percent to just over 900. Until today safety had been the watchword, and the gains in stocks dried up demand for Treasuries where yields were up as much as 6 basis points on the 10-year to 3.36 percent. Commodity prices didn't show much reaction with oil steady under $60 and gold firm at $920. The dollar index dipped 0.2 percent to 80.01.