FYI | Jul 26 2007
By Greg Peel
Question: What is the pattern in the following sequence? +21, -53, +82, -149, +92, -227, +68
Answer: Well that’s what everyone would like to know. These are the moves of the Dow in the last seven sessions, a period which roughly spans the quarterly results season to date. Volatility reigns as the push and pull between solid earnings and a credit crunch plays out. No two days have seen consecutive directional moves. The net is down 165 points, or 1.2%, from the start. In the meantime, the Dow has printed 14,000.
Last night the Dow clawed back 68 points, or 0.5%. The S&P was up 0.5% as well while the Nasdaq managed 0.3%. Nevertheless, losers outnumbered gainers by 10 to 7 across the whole NYSE board.
There were three major drivers of the Dow last night. Boeing posted a second quarter profit after a loss in the quarter last year. Merck announced a takeover of a smaller biotech with a diabetes drug, and Exxon bounced back following a 3% turnaround in the oil price. Outside the Dow, GlaxoSmithKlein posted a disappointing loss but appeased the market with a buyback announcement, sending its shares higher. Apple had a very mixed session after posting a 73% profit increase on the sale of iPods and iMacs. Uncertainty reigns over sales of the iPhone and whether AT&T’s numbers are right or Apple’s. In the end the market went with Apple, and sent the shares up 7% in the after-market.
But the big story of the day was Amazon.com, which had announced a tripling of its profits in the after-market on Monday. Amazon had been a pin-up for the dotcom boom, and at its height someone famously determined that were Amazon to sell every single English-language book existing in the world at the time, the earnings would still not justify Amazon’s share price. But it’s a different story in 2007, as actual profits led to the share price jumping a spectacular 24%.
While this all sounds very positive, the truth is Wall Street endured one of the most volatile intraday sessions in a while. So jumpy are traders that Apple shares actually traded down 4% in the after-market before turning around to be up 7%. The problem is, apart from trying to digest profit results too quickly, that the credit crunch pall is not getting any better.
Commentators are now suggesting that the credit markets have “shut down”. The question on The Street is “When is AAA not AAA?” and the answer is “When you can’t trust S&P to get it right”. The market has suffered a loss of faith in the ratings agencies, and as such has backed off entering into any credit deals at present. The benchmark for what lies ahead remains the Chrysler buyout, which is reportedly still struggling to sell bonds at 400bps over Libor (it was 375bps yesterday, 325bps originally). One commentator noted that Ford’s paper has blown out to 700bps over Libor, and it’s in better condition than Chrysler. Traders agree that if the Chrysler deal falls over, the market will not take it well. A similar problem is currently being experienced by Boots in the UK.
The bulls are starting to waver. There is a growing feeling among them that this market will have to go down some more before it can go up. It didn’t help when it was reported sales of existing homes fell 3.8% in June – more than expected, and the worst month in four years. The housing slump has entered a second down wave, and the suggestion is it will yet enter a third when the first ARMs start adjusting around October.
In the meantime, the average PE of the S&P 500 stands at 18x which is relatively modest. So hard has the financial sector been hit, that Bank of America is trading on 9x despite a 5.5% yield. Analysts are suggesting that there will yet be bargains, if chosen carefully.
There was another sharp move in US bonds overnight, as the ten-year yield slipped 5bps to 4.90%, likely driven by credit market concerns. The US dollar rallied against the euro and pound, but fell against the yen (a turnaround in the yen?). Gold, which has had a strong run, thus fell US$6.90 to US$674.70/oz. But it was really a case of who was leading whom.
While gold traders acknowledged that Tuesday night’s big Dow fall would have set off margin calls – forcing investors to sell gold for cash – the real news came out of London, where it was reported last week European central banks sold 18 tonnes of metal into the rising market. Having been relatively quiet for a while now, such central bank sales raise the question of whether attempts are once again in play to support the crumbling US dollar. Only this time the wall has shifted down from the US$690s to the US$680s. If this is the case, gold is once again going to struggle to rally much higher from here, and may yet suffer another loss of confidence. This is most likely what boosted the US dollar.
And the fall in gold came about despite a major turnaround in the oil price, which jumped US$2.32 or 3% to US$75.88/bbl following three successive down sessions. The rally came despite a rising dollar, and was sparked when the government suggested inventories were down last week (Lord give me strength).
A rising dollar was nevertheless bad news for base metals, which suffered overnight. Star performer lead finally lived up to its name by crashing 7% in New York. Not that such a move seems overly large in the scheme of things. Nickel was down 3%, aluminium and copper 1.5%, and zinc 1%.
There is a lot here for the local market to absorb today. The SPI Overnight was up 14 points after yesterday’s weakness. We have Lihir (LGL) and Santos (STO) posting quarterly reports while GUD Holdings (GUD) delivers its interim. We are getting close to the Australian half-year reporting season proper. Time for our own fun and games.
