FYI | Oct 31 2007
By Greg Peel
For the past week US stock markets have maintained a positive bias as good news is good news and bad news means a Fed rate cut. The only point of debate has been as to whether the Fed will cut by 25 or 50 points tonight. Around 2.15pm NY time the market will know, but whereas 25 points has been considered a given, the Wall Street Journal put the cat among the pigeons last night by suggesting the Fed deliberations will actually be over 0/25 points and not 25/50 points.
The question here is as to whether or not the Fed acted in September in anticipation of the sort of poor economic data and financial sector news that’s been coming out ever since, and hence went the big 50 points in September instead of 25. On that basis, the argument is that this month may not need another cut but perhaps December could see 25 points if there are no signs of improvement.
That little morsel of food for thought (although the WSJ has not been the first to air such an opinion) set a negative tone for stock markets. The Dow was in the red all day, and accelerated losses in the last half hour to be down 78 points, or 0.6%. The S&P was down 0.7%. Put that together with Monday’s 63 point rally and we really haven’t moved that much in the pre-Fed zone.
The Nasdaq did not respond as significantly, closing virtually unchanged. Tech stocks were boosted yet again by flagship Apple which announced its new Mac operating system Leopard (the counter to Vista for PCs) had sold 2 million units since Friday. Once again the tale of two markets.
Rate cut doubt manifested itself in the Fed futures market, which moved from being more than 100% sure of at least a 25 point cut to being only 92% sure. (You can be more than 100% if you add in a ratio of those expecting 50 points). But 92% is still a hefty figure, and general belief on the floor is that recent economic data have actually been a lot worse than the Fed may have anticipated (take woeful housing numbers and Merrill Lynch’s result as examples) and that 25 is still the safe bet.
Apart from the number itself, traders will be closely scrutinising the accompanying Fed statement. In September the Fed omitted its usual “balance of risk” paragraph, choosing to simply suggest it was unsure of where things were headed. Normally the Fed would add some bias in the statement, suggesting which way the economic trend was running. Hence the market may not get the big 50 points tonight, but might get 25 points with an accompanying “conditions may yet deteriorate further” type statement which would then all but lock in expectations of another 25 point cut in December. If this is the case, then the reaction on Wall Street should be positive. If there is no cut, the reaction would be pretty negative indeed.
Poor economic data maintained their flow last night, led by the October consumer confidence measure which fell to 95.6 from 99.5 in September – the third consecutive fall and the lowest reading in two years. And the Case-Shiller house price index suffered its fastest ever monthly rate of decline in August (before the first Fed cut) in its seven-year history, showing prices had declined by 4.4% for the year. These numbers will not be lost on the FOMC, which began its two-day rate meeting last night.
Another interesting September quarter earnings release last night came from Dow component Proctor & Gamble – maker of consumer staples such as toothpaste, washing powder et al. As a seller of consumer staples, P&G’s earnings are non-cyclical – ie consumers will always buy toothpaste, recession or not. P&G’s profit was up 14% for the quarter, which was healthy, but the company warned in its guidance that the December quarter will not be so rosy because of increasing input costs, particularly energy and raw materials. Did anyone say inflation, Mr Bernanke?
After an extraordinary surge in October, it was time for the oil price to give something back last night. While there was no new news on the Turkey-Iraq front, storm-ravaged Mexico announced it was now back to full production, expectations grew that the next US inventory number would show an increase, and Goldman Sachs put out a Sell recommendation.
Goldmans’ analysts have become the gurus of oil ever since they made a US$105/bbl call two years ago and everyone laughed. They’re not laughing now. And given Goldmans was the only US global investment bank of note to actually make money through the credit crunch, what ever its analysts say now is given a lot of cred. Goldmans advised its clients last night that it was selling out of its long oil futures position.
Oil fell US$3.15 to US$90.38/bbl. The fall came despite yet another weak night for the dollar, and it had its impact elsewhere. A trigger-happy gold market went into sell mode, knocking off US$9.30 to be US$781.60/oz. Silver reversed its recent strength and fell US37c to US$14.11/oz. The Aussie is hanging in somewhere around US$0.92.
Base metals followed oil’s lead in London, with aluminium and nickel falling 1%, copper and zinc falling 3%, and lead falling 4%.
The SPI Overnight was down 27 points.
Another interesting report last night came from a company called DryShips – a bulk carrier of “dry” commodities such as iron ore, metals and grains across the world’s oceans. As one might imagine, it’s been an amazing year for DryShips as the commodity boom has exposed an undersupply of bulk carriers and such companies have been able to virtually name their own price on freight costs. DryShips’ share price has risen from $13 to $130 in 2007.
But last night the company noted that freight charges in 2008 are likely to pull back somewhat. While there has been a rush across the globe to build new ships, you don’t just bang out bulk carriers like Chevrolets. So it’s not so much the supply side that is affecting DryShips’ view, but expectations of an easing of growth in emerging market economies. DryShips’ shares fell 14%, and dragged down other bulk carrier stocks with them.
