The Overnight Report: Dubai Forgotten

This story features WESTPAC BANKING CORPORATION. For more info SHARE ANALYSIS: WBC

 By Greg Peel

The Dow rose 126 points or 1.2% while the S&P rose 1.2% to 1108, just below the previous 1110 high, and the Nasdaq added 1.5%.

It was a valuable wake-up call and a brief scare, but last night Wall Street shrugged off the last remnants of Dubai as it surged back towards recently established highs on the first day of the month. Volume was reasonable but not spectacular.

It was monthly performance of manufacturing day across the globe over the last 24 hours, and despite a couple of dips here and there Wall Street was happy with the October results. Australia opened the proceedings with a fall from 51.7 to 51.2. China followed with a rise from 55.4 to 55.7. Europe also rose, from 50.7 to 51.2 while the struggling UK saw a drop from 53.4 to 51.8. The US also saw a drop, from 55.7 to 53.6.

On first glance, one might not call these results too flash, particularly considering every region had a rise in September. But one must note that a number above 50 represents expansion of the manufacturing sector, such that relative values represent the pace of expansion. In other words, while Australia, the UK and US all suffered drops in their indices, these meant only a slowing of the pace of expansion, not contraction per se.

Even Wall Street was happy with the US number, given 53.6 still means expansion. But China once again dominated proceedings with its accelerating result. And hence last night was a case of back to business as usual, with Dubai fading in significance and the prevailing thematic returning – emerging markets are leading the charge out of the GFC, taking the baton while developed economies slowly overcome their problems. This means a return to the risk trade, and that means selling US dollars.

With no sign of Japanese intervention yet, and a little kicker from a certain rate rise downunder, the US dollar index slipped back to 15-month lows last night at 74.34. This means commodity prices up, US export opportunities up, and, of course, Wall Street up. The start of the new month brought in fresh investment.

Adding to local US enthusiasm was the October pending home sales number, which leapt 3.7% to its highest level in three and a half years. October marked a nine-month winning streak for pending home sales – a streak not seen since 2001. October vehicle sales were a bit to the soft side, but cash-for-clunkers effectively “stole” sales from the future – being now – so economists are not surprised.

The fall in the US dollar sent gold racing back up to its highs, up US$16.50 to US$1196.10/oz. Silver flew 3.5% to US$19.08/oz. Nickel and tin sat quietly in London, watching copper jump 1%, aluminium 2%, zinc 3% and lead 5%. The commodity funds piled back in.

Oil rose US$1.58 to US$78.86/bbl.

The return to favour of commodities had material and energy stocks running on Wall Street, but gains were felt across the board except for one certain sector. It was a weak day for financials.

Banks have led the rally from March both in the US and Australia, leading to stretched valuations. In Australia it has become a tradition to switch from resources to banks and banks to resources – the two most highly capitalised sectors in the index – at various times until one becomes overbought and we all switch back again. The very solid run in Australian banks has recently come to at least a temporary end (let’s just take out the Dubai downs and ups) and as the US dollar continues to slide resources are back in favour. In the US, rising unemployment and mortgage defaults brings into focus the yet-to-be-seen peak in local bad debts, causing a bit of a rethink on US bank stocks and those valuations. And there is still the spectre of commercial property refinancing commitments looming over the next two years.

Yesterday the RBA effectively called the Australian economic downturn over, simply by use of the past tense. “In Australia,” said Glenn Stevens in his monetary policy statement, “the downturn was relatively mild”. Previous statements were very much present tense considerations. This is enough to suggest we can look forward to more and regular interest rate rises in 2010. Over 24 hours, the Aussie rose over a cent to US$0.9263.

I noted last week that while Australian banks were little exposed to Dubai, a global bounce-back in credit spreads as a result of Dubai would, if sustained, increase Australian bank funding costs. With our twin deficits, Australian sovereign debt is not without risk, and the Dubai scare did cause a blow-out. It was thus interesting to note that Westpac ((WBC)) yesterday risked incurring the wrath of Wayne Swan (which is a bit like risking a broken finger nail) by increasing its variable mortgage rate by 45 basis points to the RBA’s 25.

It is unlikely this big jump was a pure Dubai response. However, with the peak of banks’ loan maturities being at around four years, it is at that maturity banks seek offshore funding. Thus as we move forward in time, Australian bank funding is being rolled over at higher spreads from those four, three, two etc years ago. Having slaughtered the non-Big Four competition post-GFC, the big banks can now risk independent jumps in loan rates. Westpac knows that its three main competitors must also follow. These rises do not bode well for Australians who have recently picked up tight mortgages at low variable rates, particularly if government grants were involved in deposits.

The SPI Overnight was up 51 points or 1.1%.

There are no Australian data releases today, and I note yesterday’s close in the ASX 200 at 4719 leaves 140 points to conquer to reach the previous high.

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