The Overnight Report: Fifth Day Fails

This story features MIRVAC GROUP, and other companies. For more info SHARE ANALYSIS: MGR

By Greg Peel

The Dow closed up 3 points while the S&P was unchanged at 1025 and the Nasdaq lost 0.1%.

The market opened strongly last night in an attempt to post a fifth day of rallies, pushing the Dow to up 82 at 11am. On a day of relatively solid volume, it was again two sectors – financials and energy – which accounted for the bulk of index points. Volume in number-of-shares was nevertheless once again skewed by extraordinary volume in the terrible twins. Fannie Mae jumped 40% on the day and Freddie Mac 20%.

To Wall Street, these companies represent the equity equivalent of junk bonds. Both are mortgage lenders “sponsored” by the US government and now majority-owned by the US government but for a handful of remaining floating shares. For all intents and purposes they are technically insolvent, and at least one financial analyst has set a 12-month target price of $0 on both. But as risk appetite creeps back into Wall Street, the penny dreadful punt is on the government not breaking up, restructuring or shutting down these operations but either taking so long to make a decision, or simply deciding not to do anything, such that both can trade their way back to solvency given enough time.

Trading in the twins flows on from similar recent activity in majority government owned insurer AIG. The new AIG CEO declared he wanted to rebuild the company, whereas his predecessor was more about splitting it up to pay the bills. But when trading from very low share price values (Fannie was up US50c to US$1.70 last night) enormous volumes serve to create the illusion of major activity in financials while making little impact on the S&P 500 cap-weighted index.

Back in the real world, the rally was snuffed out late morning when one respected bank analyst released a report warning against investing in regional banks. In 2008, 28 banks or savings institutions failed in the US. In 2009 to date, 81 have failed. Rochedale Securities’ Richard Bove predicted last night that a further 150-200 banks will fail before the crisis abates, putting a great strain on the Federal Deposit Insurance Corporation. The FDIC, which insures US bank deposits up to US$250,000, may have to go to the Fed and extend its line of credit. More ominously for the sector, the mandatory contribution made by all banks to the FDIC pool may need to be increased.

With the financial sector leading the market back down, and profit-taking suddenly seeming like a good idea after four days of rally and some new fifth day intra-day highs in individual stocks, Wall Street retreated back to its starting point.

As stocks retreated investors moved into the bond market, sending the yield on the ten-year down 9 basis points to 3.46%. But the big buyer in the market last night was the Fed, which has as yet only covered US$262bn of the US$300bn of its scheduled quantitative easing program. Traders were surprised by the size of Fed interest in an auction of shorter-dated notes given it has extended the time frame for completion of the program to end-October. In theory, purchases should be spread thinner. Perhaps the Fed was concerned about the rest of this week’s auctions.

Massive US Treasury debt auctions have become almost run of the mill lately, but this week’s substantial offerings are unusual in they jump the maturity gun. Normally new Treasury auctions are set to coincide with maturity dates of previous issues, allowing bond traders to roll over their investments. This week’s auction – a record total of US$109bn in twos, fives and sevens over the next three days – is scheduled ahead of maturity dates, meaning traders will have less funds available to play with. Is this what the Fed was worried about? Normally bond yields rise ahead of auctions (prices fall) as traders set themselves ahead of a rush of new supply.

While the stock market continues to scale its lofty heights there is always half an eye out for the day the world decides it no longer wants to buy US debt.

The US dollar ticked up slightly last night on stock market weakness to 78.22, sending gold down US$12.70/oz. While that seems disproportionate, traders noted a big drop for the week in open long positions held in Comex gold futures, possibly reflecting more fear of regulatory changes to position limits than an actual gold price drop. The Aussie was actually up slightly to US$0.8386.

Oil again pushed higher early in the session, providing that further impetus for the energy sector. It hit a 10-month high before retreating with the stock market later in the day and closed up US48c to US$74.37/bbl.

Base metals were mixed, although driven by what traders describe as all fund buying rather than any participation of note from the real metals industry. While copper was again sought, lead was the star.

One of the wildcards considered by commodities analysts when they attempt to assess demand/supply metrics in the global market is the ongoing policy in China to shut down its own supply for environmental reasons. It’s always hard to get a reliable handle on what’s going on in China anyway, and bowing to global pressure to cut emissions for the sake of all the world has never been something China has been quick to do. However, if China’s in no hurry to think globally, it now realises it must act locally. When it was revealed the children of Shaanxi province in central China were suffering from lead poisoning the government decided to begin shutting down the lead smelters in neighbouring Hunan province – the centre of Chinese lead production.

The result is that China remained a net importer of lead in July, and that news sent lead up 7% last night in London. Copper gained 1% while the rest were mixed.

I’d like to have a bit of what the local market was on yesterday, but with no follow-through from Wall Street last night the SPI Overnight was off 22 points or 0.5%. Let’s hope the big jump in US home sales doesn’t turn into something else when US government stimulus for homebuyers expires.

Earnings watch today includes Mirvac ((MGR)), Origin ((ORG)), Oil Search ((OSH)), Suncorp-Metway ((SUN)) and Virgin ((VBA)).

For the full list of reporting dates and major economic data releases please refer to the FNArena calendar.

A final note: I’m sure the ASX must be much relieved it no longer has to agonise over its conflict of interest in profiting from the very market it regulates. All we need now is for ASIC to shock the world and become something less than mostly useless.

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