U.S. stocks declined for a second-straight session as what’s occurring in the international arena is affecting investor sentiment again.   News that Spain’s banking trouble hasn’t magically disappeared and worries that China will fail to administer a soft landing as it works to combat soaring property and food prices – both major risks we’ve talked about for a while time now – offset better-than-expected domestic economic data. 

As a result of the concerns, basic material and energy shares led the broad market lower.  Utilities, financials and consumer staples were the day’s out-performing groups. 

Mid and small-cap stocks have taken it on the chin over the past two sessions, which isn’t a good sign for the near-term direction of the market but it’s too early to make that assumption just yet.  Mids are down 2.5% and smalls by 3.5% over the last two days.

Long-end Treasury yields backed up about 10 basis points to a two-week high after two of three of yesterday’s major economic releases surpassed expectations – the 5-yr to 2.05%, the 10-yr to 3.46% and the 30-yr to 4.61%. 

Touching on Asia for a moment (I’ll get to Spain below), what the Fed has done is export inflation to the Asian economies as the aggressive policy stance has increased speculation within the commodities market – flooding U.S. dollars into the system also results in massive capital flows into those economies; we’ve seen this game before.  Sure, weather events in several parts of the globe have played a role in pushing food prices higher and China’s massive stimulus program has also been a major factor.  (The Chinese government injected roughly $1.4 trillion, or 28% of GDP, into their economy since 2009.)  But the Fed has played a huge role and now those economies will continue to unwind that stimulus in order to thwart social uprisings.   The global recovery has been engineered like never before, and such massive short-sighted policy carries  a payback effect. 

Still, the adverse effect the international news had on trading was mild and as we discussed yesterday this most recent slump in stock prices is hardly a blip on the screen relative to the rally we’ve seen since that August 27 Bernanke speech.  The fact that this is only the tip of worry over Chinese tightening was evident by the fairly slight 0.46% decline in the CRB Index.  Commodity prices are likely to take a significant hit when the concern becomes more acute – this is why we’ve surmised that commodity prices are likely to move down again before extending the move higher.   These are issues that need to be considered as we look 6-12 months out. 

Market Activity for January 20, 2011

Spain’s Cajas and Europe’s Kick-the-Can Fest

The WSJ reported Wednesday night that Spain is planning on injecting more capital into the cajas – the segment of their banking system (accounting for 40% of assets) that look like banks on the outside (well sort of, they look more like cafes) but more closely resemble government slush funds on the inside. 

The eurozone’s peripheral economies still must deal with the heightened risk that a run on the banks may occur as governments are finding their previous efforts feckless.  Spain says this latest bailout fund could need $130 billion.  Well, they’ll have to borrow those funds, which is on top of the $165 billion they need this year just to roll maturing debt – those are huge amounts for a $2 trillion economy. 

The EU and IMF are going to do everything they can to thwart the worst of the eurozone’s debt crisis from occurring, but this issue is going to get worse before it gets better.  Kick it down the road all you want, but the ultimate cure is either several years of above-trend growth or serious debt restructuring.  The latter is far more realistic and that means losses for the banks and other investors.  Losses?  Oh the humanity, no one’s supposed to accept losses in this sudden era of perpetual government backstops.  Yes, it’s true; eventually everyone understands the government backstopping game is not a solution but merely that which delays.

Jobless Claims

The Labor Department reported that initial jobless claims slid 37,000 to 404,000 last week (much better than the expectation of 420K).  This comes off of that 30,000 increae that followed the back-to-back holiday weeks, always tough to adjust for. 

The four-week average fell 4,000 to 411,750.

Continuing claims were mixed again as the standard issue of claims (covering the first 26 weeks), fell 26,000 to 3.861 million, while emergency level of claims (that extend benefits out to as long as 99 weeks) rose 29,125 to 8.538 million.  This follows negative revisions to the prior week’s reading as standard claims fell 240K (not the 250K initially reported) and emergency claims rose 141K (not the 128K reported last week).  Nevertheless, while total continuing claims remain sky high, the trend has been improving – particularly for the standard measure.

On initial claims we find that the trend has not moved to the sub-400 level that the Christmas holiday week appeared to suggest, but the pop back to that 450K level didn’t hold either. It remains unclear whether the four-week average is going to move even closer to the 400K mark or back to that 425K level that was present prior to the Christmas/New Years weeks.  My feel is that the latter will occur.  Forty-three states/territories reported that initial claims rose with just 10 reporting a decrease.  During the normal upturn in the labor market we’d see bout half that number reporting increases.

Existing Home Sales

The Commerce Department reported that existing home sales jumped in December just as the October and November pending home sales figures had predicted – pending sales are contract signings and the transaction is officially counted when the contract closes. 

Sales of previously-owned homes rose 12.3% to 5.28 million seasonally-adjusted at an annual rate (SAAR) -- much better than the 4.87 million expected.  This is the best result in seven months as sales dipped to a 15-year low in July and failed to get back to the high-end of the four-million mark until November.   This move above five-million SAAR corresponds with the record low in mortgage rates hit in October.

Single-family sales rose 11.8% to 4.64 million SAAR, which is close to the 15-year average of 4.76 million. 

The official number of homes available for sales fell a large 180,000 to 3.02 million, but add in even the low-end of the shadow inventory range of 4-7 million units and quite the glut exists.

The months worth of supply has improved substantially over the past two reporting months too, down to 7.8 – the 25-year average is 6.9 months worth.   So long as sales remain at the level seen in December, then the figure may hold this level.  Remember, this doesn’t include the homes that still must hit the market as the foreclosure process has been delayed.

The median price of an existing home (single-family) was essentially, slipping $1,600 to $169,300.

Bottom line, this is a good report but over the next couple of reports we’ll see if this latest upshot in sales is the beginning of a new trend or another one off. 

I heard someone make the comment that these sales resulted from the fear that the last hoorah of ultra-silly rates has run its course.  But that doesn’t make sense as the run up in rates didn’t occur until December, and these December sales were contracts signed in October and early November.  Where were rates then?  Well the 30-year fixed mortgage hit its all-time low of 4.21% in October and averaged 4.30% for the time period in which these contracts were signed.  The sales were a function of those ultra-low rates.  Over the next couple of home sales reports we’ll have to deal with the reality that applications to purchase a home have slid 10% over the past six weeks.

Philly Fed

The Federal Reserve Bank of Philadelphia’s gauge of factory activity within the 3^rd Fed district eased in January but remained at a strong level.   The measure dipped 1.6 points to 19.3 (a bit below expectations) after November’s 20.8, which was revised meaningfully lower from the 24.3 initial print. 

The breadth of the report was impressive as new orders, number of employees and the average workweek all either rose to hot levels or remained well in expansion mode.  Even unfilled orders improved substantially – most other regional manufacturing reports have shown order backlogs in contraction mode, which leaves little room for error if new orders falter. 

The prices paid figure remains the trouble spot as it jumped to the highest reading since the commodity-price spike in the summer of 2008.  Prices received jumped too, following what we saw in the Empire report.  Firms, where they can, are certainly passing costs down stream. 

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Have a great weekend!

Brent Vondera, Senior Analyst

Phone: 636-449-4900