The Overnight Report: Steady But Uncertain

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By Greg Peel

The Dow closed up 7 points while the S&P was flat at 1314 and the Nasdaq rose 0.6%.

The Dow opened up 72 points higher last night, suggesting the oil-related pullback experienced this week is now being discounted and focus can re-settle on earnings reports. JP Morgan's quarterly result was well received, featuring a profit increase of 67% over the same period last year and US$1.28ps earnings compared to expectations of US$1.15ps. The financial sector has been sitting in the background a bit lately as the energy and material sectors have stolen the spotlight, so this result was a catalyst for a sector rally.

But it didn't last long. At the analyst conference call which followed the release, JP Morgan's CEO warned of stiff penalties to be paid by the bank shortly for improper mortgage foreclosures dating back to last year. The bank also put aside another US$1.1bn in provisions against fresh mortgage foreclosures, suggesting the ever weak US housing market is still weighing on bank earnings. JPM's share price thus retreated post the conference, and took the rest of the sector with it.

Bank of America will report on Friday night, following tonight's release from Google. Positive anticipation ahead of the Google result helped push the Nasdaq to outperformance last night.

After two days of solid falls, oil consolidated last night. West Texas added back US86c to US$107.11/bbl but Brent leapt back US$1.96 to US$122.88/bbl. Stronger oil prices helped energy stocks find a base last night.

March US retail sales data for the US were released last night, and the 0.4% jump showed a sharp slowing from the solid 1.1% gain in February. Economists had expected 0.5%, but the most telling sign was the impact of higher gasoline costs in the data. Take out gasoline, and sales rose only 0.1%.

Is the US economic recovery, already tenuous at best, beginning to slow again? The Fed Beige Book, released later in the session, suggested growth remains modest. Higher commodity prices were biting, noted many districts, and businesses were finding it difficult to pass price increases on to consumers. Most telling perhaps was the fallout from the Japanese earthquake, which has clearly impacted on the US economy despite initial dismissals of any major stumble.

While Hawaii was suffering from a drop in tourism, the pervading factor was a loss of delivery of goods and parts made in Japan and relied upon by US businesses. Unable to sell affected products, businesses thus saw a loss of revenues. While the wider expectation is that the Japanese recovery phase will be positive for overall global economic growth, the Beige Book has brought back into focus the fact that there will be an interim period of weakness as the ripples of lost production in Japan spread out across the oceans. 

Before those in charge of monetary policy made their latest observations, those in charge of fiscal policy were touting their credentials as well.

President Obama made a policy speech last night in which he pledged to reduce the budget deficit by US$4 trillion over 12 years. The Republicans had earlier made a similar pledge. Oh God it's happening already – the US is moving into election mode some 20 months out. And Australians can cringe with empathy in recalling that local parties are fighting a “my surplus will be faster than your surplus” battle which is pie in the sky enough on three-year projections. Obama's talking twelve. All we're seeing is both parties unzipping and dumping their deficit reductions on the table for all Americans to compare.

The speech nevertheless prevented Wall Street from closing down for a fifth straight session. No matter who ends up reducing the deficit, deficit reduction is a positive thing. The question then becomes: if fiscal policy is going to be restrictive, will the Fed feel safer in keeping monetary policy accommodative? It is worth noting here that on the release of the next Fed monetary policy statement on April 27, Ben Bernanke will hold one of his promised press conferences (he's prepared to give only four a year).

The upshot of all of the above was a US dollar index edging higher to US$74.98. Despite the tick up, oil rebounded from its earlier falls and gold edged up US$4.80 to US$1457.10/oz. The Aussie has recovered 0.7% to US$1.0500.

But it's a different story in base metals.

Base metals were in bullish mode last week which happens every week the annual CESCO metals conference is held in Chile. Miners love to talk each other up. But one notable concern to come out of the conference was that copper, at its giddy heights, is now seeing growing substitution into cheaper metals for manufacture. Then two days ago Goldman Sachs effectively called an end to the speculative commodities rally for now and base metals took a tumble. 

Last night, despite bounces in oil and gold, copper was down 2% and the other metals were around 1% lower. They had tried to bounce, but there met selling, suggesting the commodity fund bias is now to sell into strength. While “sell in May and go away” is a popular saying in the stock market, it also applies to the metals markets. Speculators buy metals in the low activity northern hemisphere winter months in anticipation of the pick up in activity in spring and into summer, which also implies rising prices. Then they take profits ahead of their own summer breaks, and the dip in activity the summer holiday period brings. That means selling May. And May's now not that far away.

There is thus a possibility metals are about to see a pullback before the September quarter when the cycle begins to repeat once more, given the level of speculation which has supported prices. It's also worth remembering that the northern summer is the “dark side of the moon”, as I call it, for gold demand given the big gap between the influential Indian and Chinese gift-giving seasons early and late in the calendar year.

When the money started exiting stocks last night as the financial sector turned tail, it went into US bonds. It was thus good timing for the Treasury for the second day running given its auction of US$21bn of ten-year notes. Demand was not quite as strong as for Tuesday night's three-year auction, but firm nevertheless. The ten-year yield dropped three basis points to 3.46%.

Earnings season has only just begun in the US, and great hopes are held, but very early on it seems a bit of uncertainty is creeping in. You wouldn't know it to look at the VIX however, which has slipped back once more to a “big figure” of 16. Yet again, fire insurance is cheap.

The SPI Overnight fell 9 points or 0.2%.

Today on the local bourse we'll see a production report OZ Minerals ((OZL)) along with Bank of Queensland's ((BOQ)) half-year result.

Rudi will be appearing today on Lunch Money on Sky Business at noon.

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