Tag Archives: Banks

article 3 months old

The Overnight Report: Paddy And The Gekko

By Greg Peel

The Dow closed down 24 points or 0.2% while the S&P fell 0.2% to 1197 but the Nasdaq jumped 0.6%.

Initial relief flowing from news of the Irish bail-out, which is understood to involve some E80-90bn from the EU-IMF emergency fund, wavered last night as Moody's alerted the market that the shifting of bank debt onto the government balance sheet could result in a “multi-notch” downgrade to Ireland's current Aa2 rating.

Unlike Greece, which earlier in the year took a E110bn hand-out before the preemptive emergency fund was established in response, Ireland's woes lie more with its banks which are haemorrhaging from a collapsed property market rather than a simple case of overblown budget deficit. The deficit is nevertheless substantial, so taking on the banks' bad loans only serves to exacerbate the situation. Hence Moody's always helpful concern.

Further destabilising news came from the Irish Green Party which announced last night it would abandon the ruling Coalition of which it is a junior but necessary member once the bail-out funds were in place and the new 2011 budget had been passed. This move will force a general election in January.

Last night's action reminded markets that an organisation as useless and incompetent as Moody's can still impact on sentiment and that politics is as much a part of sovereign risk as debt itself. Irish bond spreads blew out again as talk resurfaced of an inevitable restructuring of Irish bonds (haircuts for bondholders) and Portuguese bonds also copped the same treatment on suspicion.

If that weren't enough, news came through that the FBI had raided the offices of three US hedge funds in what is understood to be the beginning of a more wide-spread attack on alleged insider trading. Gordon Gekko is back on our screens and back in our world, it would seem. It is suggested the investigation will not be contained to a couple of rogue funds but will spread right up to the major banks and brokerages.

Here we go again.

What has traders most concerned is that the raids represent a “Madoff response”. Given the SEC was so embarrassed by its extraordinary incompetence and arguably criminal negligence in ignoring mounting evidence of the Madoff Ponzi scheme, it has come back with all guns a-blazing and is now likely to try and find a red under every bed. The problem with “insider trading” is that while certain abuse is clear as crystal, there are grey areas in between that which is non-public inside knowledge and that which represents full public disclosure.

For example, it is common practice for stock analysts to get on the phone and chat with officers at the company which is being analysed. An example would be for a retail analyst to ring David Jones in December and ask “How's business looking this week,” and get the reply “Mate, the place has been chocka, we're flat out keeping up”. On this information the analyst might consider raising his earnings forecasts.

Now – is that “inside trading”? It's certainly common practice. And any member of the public, arguably, could go into a DJs store and draw the same conclusion. Had the officer told the analyst “Mate, keep it under your belt, but we're going to be announcing a big profit upgrade next week,” and the analyst acted upon the tip, then that would clearly be insider trading. Between the extremes, it becomes less clear. It is understood the FBI's accusations involve “networking” in which traders attempt to glean information from companies which may, or may not, be “inside” depending on what is inconclusive current legislation and interpretation of that legislation.

If the raids represent a fresh interpretation of what constitutes inside information, then look out.

While the above developments saw the Dow down around 150 points at lunch time, the weakness was not sustained. Clearly there are those who see buying opportunities each time Wall Street dips. One thing we do know is that for all the investigations and law suits which have transpired post-GFC to date, little has actually resulted in terms of share price impact. Goldman Sachs had to pay a US$550m fine but they covered that out of petty cash. And law suits that are brought can tend to drag on for many years.

European fears saw the euro dip once more following its previous bail-out bounce and it was down 0.7% to just over US$1.36. The US dollar index thus ticked up to 78.64 but the Aussie was also a little stronger since Friday night at US$0.9888.

Gold unsurprisingly jumped US$13.20 to US$1366.70/oz while base metals copped the hit, with all bar aluminium falling around 2%. Oil slipped US25c to US$81.51/bbl.

If you want to sell Treasuries then it's always good to pick a day when sovereign debt issues across the pond are a talking point, and as such the US Treasury's auction of US$35bn of its always popular two-year notes received solid demand, albeit the 0.52% settlement yield was up from the record low 0.40% last month. Foreign central banks bought 38% which matches the running average.

The only economic data release of the day was the Chicago Fed national activity index for October, which rose to minus 0.28 from minus 0.52 last month. This implies improvement but still contraction in this zero-neutral measure.

The SPI Overnight fell 27 points or 0.6%.

The SPI move seems a bit steep compared to Wall Street but perhaps it represents a QR National ((QRN)) hangover. The transport stock hit the board yesterday and surprised all and sundry by not dropping below its $2.55 listing price. I've heard no rumours that the Queensland government was in buying to ensure it looked good, although we know that for such a big Australian company a local institutional take-up of only 54% is way below most Aussie large-caps. 

It just goes to show you only need say “China” to a foreigner and he will start drooling, whereas the locals are wary of the amount of assumed Chinese growth over the next how ever many years already built into the price. Retail investors stayed away in droves. 

[Note: All paying members at FNArena are being reminded they can set an email alert specifically for The Overnight Report. Go to Portfolio and Alerts in the Cockpit and tick the box in front of The Overnight Report. You will receive an email alert every time a new Overnight Report has been published on the website.]

article 3 months old

The Monday Report

By Greg Peel

There are three concerns affecting the mood across global stock financial markets at present. One is the parlous state of Ireland's banking system and government debt, another is the fear China will tighten monetary policy and slow the world's boom economy, and the other regards an increasingly heated debate over whether QE2 is constructive, destructive, or simply a waste of money.

As I have alluded to often enough in Overnight reports and elsewhere, concern over China to me seems misplaced. Beijing indicated at the beginning of 2010 that 12% GDP growth was too strong and threatened a bust to follow the boom particularly as real estate prices ran out of control. A more stable growth rate of 8% was targeted, and all through 2010 Beijing has been quietly tightening monetary policy by various means in order to gradually lower GDP growth towards the target figure. The September quarter GDP came in at 9.6% and economists are forecasting 8.7% for the December quarter.

In other words, things are playing out just as Beijing has intended. There are no surprises here. During the depths of the European crisis earlier in the year, Beijing sat tight. Fears that Beijing would continue to slow its economy just as Europe's economy was crumbling were also misplaced. And better a long period of stable growth in China than a volatile boom-bust cycle as far as all the world is concerned.

The major European economies have actually been performing much better than expected, despite a contradictorily strong euro which has been simply an offset to an artificially weaker US dollar. The PIIGS have nevertheless continued to hang by gossamer threads, as evidenced by Ireland's now rapid descent. Earlier this year, after much political brouhaha, an EU-IMF emergency fund was put in place for exactly this purpose.

And so it is that the Irish finance minister has now informed the world that his government would indeed be seeking “assistance” (don't call it a “bail out”, that's bad spin) from the emergency fund to at least shore up the tiltering banks, which have suffered from the burst bubble of Irish real estate, and perhaps to help reduce the budget deficit as well. Numbers between US$60-120bn have been touted but the figure is yet to be settled. The point, however, is the world has been assuming at least one European implosion all year, and here it is – covered.

As for QE2, well that's the stuff of more lengthy stories.

Late last week Beijing moved to yet again increase the reserve ratio for banks – the second such move in as many weeks – in order to further stem the flow of funds into the economy and particularly into real estate speculation. The move provided relief on Wall Street where a second 2010 interest rate hike had been feared. Why Wall Street fears such a hike, which is looking increasingly inevitable sooner rather than later, is unclear. It is also likely Beijing will move to incrementally revalue its currency off the back of rate rises, perhaps before the year is out, which should appease the Americans.

All of the above was in focus on Friday night on Wall Street when the stock markets opened weaker from the bell but recovered during the session to a relatively flat close. The Dow closed up 22 points or 0.2% while the S&P added 0.3% to 1199.

The US dollar slipped back slightly to 78.40 and the Aussie ticked up to US$0.9861. Gold held steady at US$1353.50/oz and commodities were marginally weaker. The US ten-year bond rate was steady at 2.87%.

The SPI Overnight rose one point.

US bonds will be very much in focus this week as the Treasury auctions US$99bn of two, five and seven-year notes into a market that no longer appears to fear the Fed. The Fed began buying bonds for QE2 in the open market last week, and the pattern was that the market stood aside, allowed the Fed to get the day's worst rate (highest price), and then promptly sold again to push yields higher. This is a new game, so it will be interesting to see how the rest of the world reacts to this week's auctions.

Thursday in the US is Thanksgiving for which the country shuts down and the Friday is an early close on the markets for what is an otherwise nothing day given 99% of Wall Street will take a four-day weekend. Friday is, however, known as “Black Friday” as it is the first day in the year in which retailers who have been stocking up all year for Christmas actually see their books return to the black as the shoppers hit the stores in earnest. At least they hope they hit the black.

The abbreviated week means a lot of economic releases have been squashed into three days. 

Tonight sees the Chicago national activity index, and then Tuesday will bring existing home sales, the Richmond Fed manufacturing index, and the final revision of US third quarter GDP – the one which includes data from all of July, August and September. The previous revision came in at 2.0% growth and economists are expecting at least 2.2% to be reached in the final spin of the wheel.

Then on Wednesday it's all of personal income and expenditure, durable goods orders, the FHFA house price index, and the final UMich consumer sentiment survey for November. And the Fed will release the minutes of the meeting which finally brought us QE2.

Elsewhere, the UK will also make a revision to GDP on Wednesday and on the same day the increasingly important German IFO business sentiment survey will be released.

In Australia it's a relatively quiet week for data, with third quarter construction work done and the CBA-HIA housing affordability gauge due out on Wednesday. Thursday is third quarter private sector capex, which is one of the most important data points followed by the RBA in its monetary policy decisions.

It's the busiest week in the year for AGMs this week, although only a handful of larger-cap companies feature. The highlight on the local market will occur today with the listing of QR National ((QRN)), which is set to list at $2.55 at the very bottom end of the original $2.50-3.00 range. Even at that level, analysts suggest the issue is probably overpriced, so will QR National be another Myer?

Two points to note are that QRN is the biggest listing since Telstra so index funds will need to carry stock regardless (although the stock is not immediately included in indices), and that the Queensland government is retaining a large minority holding and intends to play market-maker to ensure it doesn't lose the next election based simply on a weak QRN share price. There may be a limit to the downside. 

FNArena editor Rudi Filapek-Vandyck will be appearing on Lunch Money on the Sky Business channel on Wednesday at noon.

For further global economic release dates and local company events please refer to the FNArena Calendar.

article 3 months old

Wrapping The Australian Bank Results

By Greg Peel

[The recent articles Australian Banking Sector Update and Westpac Fails To Excite are prologues to this epilogue.]

“Credit growth remains muted,” noted Commonwealth Bank's ((CBA)) management at its quarterly update on Monday, “reflecting sustained de-leveraging and ongoing caution on the part of both the consumer and the business customer”.

If ever there were a statement that best sums up the state of the Australian banking sector at present, that's it. And CBA's first quarter (September) was over before the RBA hiked its cash rate this month.

Having now learned banking results of one form or another from all of National Bank ((NAB)), ANZ ((ANZ)), Westpac ((WBC)) and Commonwealth along with the two leading regional banks and the hybrid that is Suncorp-Metway ((SUN)), the only conclusion is that “it's tough out there”. Ostensibly all the banks are facing (1) weak credit demand as (2) funding costs rise and (3) subdued operational earnings as (4) operating costs increase.

The press and politicians have had a field day with what appeared to be huge jumps in bank sector profits, but they're all idiots and the reality is that outside of bad debt provisions quarantined in FY10 being brought back to bottom line earnings in FY11, bank profits would have been pretty poor. Let's look at the CBA result.

In the September quarter, CBA actually surprised brokers by producing even “some” pre-provision profit growth, in the order of 2% from the previous quarter. This was despite a 4 basis point contraction in the net interest margin (NIM) – one might say a bank's raison d'etre – to an all-time low of 2.15%. CBA was able to offset the effect of margin contraction on profits by pulling back on discretionary spending, and the 4bp NIM contraction was net of a 7 basis point increase in funding cost offset by raising lending rates in areas other mortgages.

With all the visceral frenzy being whipped up in the outside world over banks this past month, bank analysts treated the CBA result as one might a stoic 50 being scored by a previously injured batsman who'd returned to play on after having retired hurt. Small earnings forecast increases followed from most analysts, but even those are putting faith in that which CBA itself putting faith – that the second half of FY11 will see the long awaited recovery in credit demand because it just ain't gonna happen in the first half.

Of course, since the close of reporting dates, and even since all of the NAB, ANZ and CBA releases, all the banks have moved to reprice their mortgage rates by up to 20 basis points above the RBA's cash rate move. While the source of all the lynch mob anger, the out-of-cycle hikes have had little impact on analysts who had expected exactly such all along, other than most had conservatively assumed only 15bps of added hikes. The repricing confirmations have made no difference to expectations of subdued bank profit growth ahead at least until, hopefully, things start to look a little rosier as we enter calendar 2011.

So if that hope takes care of point (1) above, the repricing goes some way to sorting out point (2). Deutsche Bank, for one, calculates CBA's 20 variable mortgage rate addition will add 8bps to the group NIM, for example. But of course the offset of raising NIM's is that it can only come at the expense of already weak credit demand. CBA noted de-leveraging is still the trend in both retail and business banking, especially for Small and Medium Enterprises. Higher rates are not going to spark any confidence to re-leverage.

So this will ensure that point (3) remains the state of play until such time as, for whatever reason, demand does begin to pick up. Fortunately banks are seeing growth in their lending “pipelines” (credit applied for but not yet drawn upon) which is how they can make the claim that growth is ahead. Given banks don't lend much to mining companies, there is no clear link between Australia's commodity-led GDP growth expectations and the expectations for bank profits.

The banks can point to falling unemployment as encouragement, but then this is still to make an assumption that employed workers will once again become credit card and short-term loan junkies as they were in the pre-GFC era. As for housing finance, well we can argue till we're blue in the face about whether there is or isn't a housing “bubble” in Australia and whether or not it will pop, but I'm happy to stick my neck out and say that the house price “boom” is over for now. Maybe for a while.

On the cost side, Westpac's Gail Kelly addressed point (2) in an interview on America's CNBC this morning by yet again reiterating that her bank's funding cost will not see a peak until 2012 when it begins to replace post-GFC “expensive” longer term bonds with new bonds at cheaper rates, rather than replacing the “cheap” bonds still providing funds at present with more expensive ones.

In the case of (4), all banks are currently in some process of spending money to upgrade computer systems and so forth which is just as natural part of life in an era when new hardware and software are already redundant the minute it's ready to be switched on. And such requisite spending is coming at a time when earnings growth possibilities are limited. Westpac, for one, intends to offset some of this cost by “increasing productivity” which is PR spin for cutting its workforce. Even then, these “productivity” gains will be initially costly given payout requirements.

The good news is that the Big Banks have all been able to bring back more of the bad and doubtful debt (BDD) provisions than analysts had expected at this stage, which largely reflects a lower peak and more rapid fall in BDDs than previously expected post-GFC. But the “rapid” part is now over. CBA has pointed to ongoing increases in BDDs in the business lending division and a more limited rate of decline from here in group BDDs.

Outside the Big Four, the BDD situation is not quite as comfortable. Analysts are still worried that the regional banks are overexposed to further BDD growth and under-provisioned, while Suncorp surprised analysts yesterday by actually announcing an increase in BDDs in the quarter when all other banks are enjoying declines. The bank cum insurer surprised analysts even more by announcing it had at the same time reduced BDD provisions, and Macquarie, for one, pointed to alarming anecdotal evidence of the parlous state of the Queensland residential property market in reiterating its negative view on SUN.

All of the above is not a scenario in which you'd expect a central bank to raise really, is it? But oh yes – iron ore.

So where does analyst consensus on the Big Four sit now, post all the results? Well let's have a look at our updated table:

The first thing that leaps out is the the Big Two of the Big Four look like lukewarm porridge at the moment. Analysts agree that the premiums individually deserved by the Big Two over peers are about right now, and without any pressing capital issues post the Basel III requirements there's not a lot to be concerned about, but then nothing much to be inspired by either. Indeed, I have never previously seen even one complete set of Hold ratios at any time I've ever updated this table, and now there's two.

For the Small Two of the Big Four, it's clear ANZ remains the pin-up bank. Unless you hold a contradictory view to everyone else and believe ANZ has run its margin superiority race already, which is Macquarie's view. NAB, on the other hand, has the analysts largely polarised. It all comes down to just how quickly one believes business credit demand can rebound, as that is most important to NAB.

As a rule of thumb from past experience, analysts will tend to be content with Hold ratings right up until upsides to targets start exceeding the 10% mark. That's why double digit upsides do not always attract Buy ratings from everyone. 

article 3 months old

Suncorp Suffers From Weakening Credit Quality

By Chris Shaw

Queensland bank-insurer Suncorp-Metway ((SUN)) yesterday updated the market on its trading for the first quarter of FY11, the results showing reasonable performance with respect to core bank trends, but with more mixed results elsewhere.

As JP Morgan notes, the market update indicated growth in mortgages is returning to system levels, with management confident the improved momentum can carry on into next year. Margin performance has also been solid and funding and capital levels remain strong, while within the non-core bank the run-off of non-core assets is now $2.3 billion ahead of schedule.

The disappointing element of the update for RBS Australia was an increase in absolute impaired non-core bank assets of $325 million, the broker attributing this to the inclusion of the the group's exposure to Austexx, the parent company of DFO, in the impaired category.

There was also an uptick in bad and doubtful debts generally to $92 million for the quarter, something RBS saw as disappointing given recent trends had been more positive. The broker expects bad and doubtful debt charges will remain volatile on a quarterly basis, but BDDs should continue to trend lower.

One issue causing some concern for UBS is the update by Suncorp-Metway implies while loan growth trends remain solid, there has been a weakening in credit quality. Credit Suisse also picked up on this, at the same time noting the update suggests an expected realisation of operational improvements in the general insurance business is coming more slowly than had been anticipated.

The other news to come from the trading update was Suncorp-Metway has sold Tyndall Investments to Nikko Asset Management, with the deal to be completed early in 2011. Credit Suisse notes Suncorp-Metway will receive $80 million in cash upfront, a $5 million access payment paid over four years and an additional $30 million after three years if an option to extend a commitment to Nikko is exercised.

On Credit Suisse's numbers, the sale will generate a loss of around $30 million, but the option deal could offset some of this loss in the future. JP Morgan suggests the Tyndall assets were sold too cheaply, though the positives are the sale is not particularly material for the group overall and it does help simplify the life insurance operations.

Post the trading update there have been some minor revisions to earnings forecasts, UBS cutting its earnings per share (EPS) forecast by FY11 by 4% to reflect higher bad debt charges. The broker is now forecasting EPS of 65c this year and 81c in FY12.

Credit Suisse in contrast cut its EPS forecasts by less than 1% in both FY11 and FY12 to 90.6c and 106.6c respectively. The broker remains well above the market with its forecasts, the FNArena database showing consensus EPS estimates for Suncorp-Metway of 73.9c in FY11 and 89.7c in FY12.

Only Credit Suisse has changed its rating post the trading update, downgrading to a Neutral rating from Outperform previously. The change is a valuation call, the broker noting Suncorp-Metway has outperformed the S&P/ASX200 Accumulation Index by 8% since its full year profit result in August.

Overall, the FNArena database shows Suncorp-Metway is rated as Buy and Hold three times each and Underperform once, this courtesy of Macquarie. Valuation is an issue for Macquarie, the broker's other concern being emerging negative anecdotal evidence on the health of the Queensland residential property management.

Rising interest rates could exacerbate this, so Macquarie retains its negative view post the trading update. Citi in contrast continues with its Buy rating, noting long-term trends remain favourable and Suncorp-Metway continues to execute its simplification strategy.

RBS Australia agrees, pointing out at current levels Suncorp-Metway is trading at more than 11% below its own price target of $10.43, which implies good value. The consensus price target according to the FNArena database stands at $10.01, which is little changed from prior to the trading update.

Shares in Suncorp-Metway today are weaker in line with the broader market and as at 2.10pm the stock was down 17c at $9.26. Over the past year the shares have traded in a range of $7.56 to $9.76 and the current share price implies upside of a little more than 8% to the consensus price target in the FNArena database.

article 3 months old

Next Week At A Glance

By Greg Peel

With QE2 now a done deal attention has returned to Europe and its debt problems. It's not that Europe's debt problems have suddenly resurfaced, it's just that the world has been distracted for a few months waiting for QE2 and selling down the US dollar. Now we have the US dollar bouncing again as the euro falls and PIIGS sovereign debt spreads blow out once more.

Into this environment the EU, and specifically the eurozone, will tonight provide a first estimate of third quarter GDP. Next week in Europe will also see important releases in the form of trade balance, inflation and the ZEW sentiment index.

It's also inflation week in the US next week and it's inflation, or lack thereof, that QE2 is specifically targeting. As well as the monthly PPI and CPI, next week will see business inventories, industrial production, housing starts, housing sentiment, leading indicators and the manufacturing indices of New York and Philadelphia.

There's a remote chance something meaningful might come out of the G20 meeting tonight or over the weekend, but it's only remote.

Next week in Australia sees little in the way of economic data with vehicle sales, Westpac's leading index and the quarterly wage cost index the highlights. But we'll also learn what on earth the RBA was thinking in raising rates via the release of that meetings' minutes on Tuesday.

Speaking of banks, next week will also see a trading update from Commonwealth ((CBA)) to wrap the banking outlook for the time being while Incitec Pivot ((IPL)) will report full-year earnings and James Hardie ((JHX)) its interim. The week will also be filled with a few million AGMs. 

For a more comprehensive preview of next week's events, please refer to "The Monday Report", published each Monday morning. For all economic data release dates, ex-div dates and times and other relevant information, please refer to the FNArena Calendar.

article 3 months old

The Overnight Report: Precious Metals Plunge On Margin Increase

By Greg Peel

The Dow fell 60 points or 0.5% while the S&P dropped 0.8% to 1213 and the Nasdaq lost 0.7%.

It is important to appreciate that the volume of metals traded as paper each day, via the Comex and other futures exchange markets across the globe, exponentially exceeds the amount of physical metal traded. Typically, some 97% of all futures contracts are closed out or rolled over before expiry, leaving only about 3% which result in actual physical delivery. It is also important to note that metals futures markets close at 2pm New York time (as does final trade in London base metals).

While exchange-traded funds, which are supposed to be backed by actual metal, have become extremely popular in recent years, futures contracts are still the instrument of choice for the experienced speculator. To trade futures, one need only put down an initial deposit, and then face a margin requirement each day if price moves are adverse. Futures can thus be used to promote leveraged positions.

Before 2pm NY last night, spot gold had gained around another US$16 to US$1424/oz and spot silver another US$1.70 to US$29.40/oz as momentum in precious metals demand rolled on. But after the Comex bell, the exchange informed members that as at the close of trade tonight increases in deposits and margins on silver contracts would come into place. The deposit on speculative positions would rise from US$6750 to US$8775 and the daily margin from US$5000 to US$6500. Margins on hedge positions were also raised. 

Exchanges increase margins every now and again when anxiety rises over futures open interest vis a vis underlying metal inventories and the subsequent danger of default if delivery requests were to surge. Obviously precious metal speculation has hit euphoric highs recently. Hence the margin changes.

On the announcement, spot silver began to plummet and at 8am Sydney time was down over US$2.80 to be down US$1.18 in 24 hours to US$26.54/oz. Gold took silver's lead and fell near US$35 to be down US$18.60 in 24 hours to US$1389.60/oz. With speculation, and indeed hedging, via futures markets about to become a lot more expensive, spot markets will suffer the impact accordingly.

When the precious metals were hitting their highs so too were base metals in London. Copper was up 1.6% in a session which saw gains of 1.5% to 4% across the spectrum. But base metals do not trade around the clock and so there was no sympathy flow-through from the precious metal announcement. It is not beyond the realms, nevertheless, that copper futures could also be hit with similar margin increases.

Strength in London base metals was put down to Chinese buying ahead of this week's data releases and the resultant speculation that chimes in afterward. Precious metal momentum was driven by more worry over Europe. The euro and pound both fell last night to send the US dollar index up another 0.9% to 77.72.

The Aussie fell a cent to US$1.0025.

US stocks had struggled all session as profit-taking continued post QE2. Financial stocks, which had been driven up most ahead of the Fed announcement, led the falls. Late in the session, metal stocks began to respond to movements in the spot metal markets. Hence the weak close on Wall Street.

Last night's Treasury auction of US$24bn of ten-year notes was very well received and the 2.63% settlement was lower than expected. Foreign central banks bought 57% compared to the 43% running average – the highest ratio since 2003. However the ten-year yield finished 10 basis points higher on the night at 2.67% as the bond market worried about tonight's auction of US$16bn of thirty years. With the Fed not intending to buy the longest bond, traders fear demand may be very weak.

The SPI Overnight fell 12 points or 0.3%.

Today sees the release of Australian housing finance data and the Chinese trade balance. 

[Note: All paying members at FNArena are being reminded they can set an email alert specifically for The Overnight Report. Go to Portfolio and Alerts in the Cockpit and tick the box in front of The Overnight Report. You will receive an email alert every time a new Overnight Report has been published on the website.]

article 3 months old

The Monday Report

By Greg Peel

After the dust had settled on the excitement of QE2 and a Republican Congressional victory last week, Friday night's trade on Wall Street was all about adjusting to the new age of a Fed-backed stock market. Poor economic data don't matter, because the Fed will step up QE2 if necessary, and if the data are good and the QE2 total ends up being less than assumed, well that just means the US economy's performing better than expected.

After the big run on Thursday night it was never going to be a surprise if Wall Street took a breather on Friday night. It was only right at the death that the Dow kicked into positive territory to close up 9 points. The S&P was a bit more definitive with a 0.4% gain to 1225, leaving the previous April high of 1217 behind. Financial stocks have a strong weighting in the S&P and the steeper QE2-driven US yield-curve is good news for banks which borrow short and lend long.

It was nevertheless jobs night, and the addition of 151,000 new jobs in October comfortably exceeded expectations of around 80,000. It was a further positive that the private sector alone added 159,000 jobs. We are now clear of the census worker distortions that have been the feature of US jobs results for most of the year.

It was one of the best monthly jobs results in a while, but one has to remember there is a population growth factor to consider. There is also the drag effect that if conditions improve, a number of workers who had given up will re-register as unemployed and start actively seeking work again. As it was, the US unemployment rate remained stuck on 9.6%. This failure to move the needle took a bit of gloss off the raw numbers.

The September pending home sales number was also a disappointment with a drop of 1.8%. August pendings had risen 4.4% and economists had again expected a positive number. The fall is being blamed on the current mortgage foreclosure mess, in which new buyers of foreclosed property may find that foreclosure overturned as invalid and the property returned to the previous owner. But September's number was nevertheless down 25% on September '09, and 32% down from the April expiry of Obama's extended home buyer tax credit. Stand by for some renewed fiscal stimulus to accompany the Fed's monetary stimulus. Money is no problem – the printing presses will look after that.

So Friday's numbers were somewhat mixed providing little reason to buy, but there's no point in selling into QE2 support.

The steady stock market belied what was quite a big bounce in the US dollar on Friday night. Following Thursday's 0.5% fall, the US dollar jumped back 1.0% which would normally mean a weak stock market.

The bounce can likely be attributed to some short-covering on the supposedly good jobs number, but there was also the effect of a weaker euro on the day. Germany's September industrial orders showed a surprise 4% fall, while Irish sovereign debt spreads blew out yet again. Economists are now concerned that the very strict austerity measures being imposed in Ireland in order to cut the budget will also kill economic growth, thus putting the budget under pressure from the other side of the ledger.

The euro-centric nature of the US dollar bounce was further evidenced by a slight rise in gold – up US$2.40 to US$1394.30/oz – which is unusual in the face of such a big dollar move, and a stable Aussie, which finished Friday down only slightly at US$1.0155.

Commodities were also relatively steady on Friday night. Oil rose US36c to US$86.85/bbl while base metals were mixed on small moves in London.

The SPI Overnight took it's cue from the S&P in rising 4% or 18 points.

It's a relatively quiet weak for US economic data this week. Wholesale inventories are released on Tuesday and the monthly trade balance and Treasury budget on Wednesday. Thursday is the Veteran's Day holiday which sees banks and the bond market closed and stocks and futures open. Friday wraps up with the first U-Mich consumer sentiment survey for November.

Of more interest will be this week's auction of US$72bn of three and ten-year Treasury notes and thirty-year bonds. Not only is the Fed now a substantial buyer of bonds, the volume on offer is falling each month. The ten-year yield seems pretty much stuck around the 2.5% mark at present, and the question is whether it can really go much lower. More demand for stocks now?

It's a monthly data week for China this week with the trade balance and property prices out on Wednesday and inflation, investment and retail sales numbers along with industrial production out on Thursday. How the numbers flow will determine whether or not Beijing again raises rates before year-end.

In Australia it's a week for bank economists to earn their keep. Today sees the ANZ job ads report, Tuesday the NAB business conditions and confidence survey and Wednesday the Westpac consumer confidence survey. Wednesday also brings housing and investment finance numbers, and on Thursday it's our turn to learn the unemployment rate. Economists are expecting a tick down from 5.1% to 5.0%.

After a bit of a pit stop last week the AGM juggernaut fires up again this week in Australia and will really be hitting its straps over the next three weeks. Dulux ((DLX)) and Orica ((ORI)) report full-year results today, SPN Ausnet ((SPN)) provides its interim on Wednesday and Optus owner SingTel ((SGT)) releases its quarterly on Thursday.

Please note that the US reverted back to standard time over the weekend, meaning the NYSE will now close at 8am Sydney time through to March rather than 7am as has been the case since Australia switched to summer time a month ago. 

For further global economic release dates and local company events please refer to the FNArena Calendar.

article 3 months old

The Overnight Report: All The Way With Uncle Ben

By Greg Peel

The Dow jumped 219 points or 2.0% while the S&P rose 1.9% to 1221 and the Nasdaq gained 1.5%. The S&P 500 last night pushed through its April peak at 1217 to mark a new two-year closing high.

In March 2009, Ben Bernanke put a shingle outside the US Federal Reserve that said “Free Money Here”. The markets were at the depths of their despair following Lehman and having cut the funds rate to zero the previous December, Bernanke had no choice but to go to the next phase of monetary stimulus. Thus QE1 was implemented to the tune of US$1.7 trillion. In rough terms it was the equivalent of cutting the funds rate further, down to negative 1.5%.

QE1 is still sitting on the Fed's balance sheet, and flows from maturing assets such as mortgage securities are simply being reinvested into Treasuries. As of yesterday, an additional US$600bn of Treasuries will be purchased, with room for more. That's another negative 0.75% equivalent. So let's say that while the RBA cash rate is now 4.75%, the Fed cash rate is minus 2.25%.

From March 2009, the Dow rallied 70% until the European crisis intervened. This time there have been months of anticipation that QE2 would be needed, so prior to the announcement yesterday the Dow had already rallied 17% from its August low before the Fed first hinted at QE2.

How much more upside is there this time?

In the shorter term, one might say that Wall Street is now in a win-win position. If economic data from here continue to be weak (jobs report tonight, for example) then Wall Street knows the Fed can simply up the ante. If the data are strong, suggesting QE2 could be downgraded, well that doesn't matter. Strong data means strong economy means strong share market anyway. The only question is as to whether much of the upside has already been accounted for by the market.

On last night's moves, you'd have to say no.

It would be misleading, nevertheless, to call last night's stock market move a “rally”. The indices simply opened up from the bell almost at the level of where they were to close. The US had time to think about the implications of the Fed announcement and Asian and European money was also ready to respond as well. The result was simply a QE2 step-jump, which some put down to the figure of US$600bn being a bit more than the US$500bn popularly anticipated.

But having said that, volume on the NYSE big board was, at 1.4bn, about 50% better than the recent running average. There was new money coming in. The new money was further assisted by the unwinding a pre-announcement options protection. If those who hold put protection sell back to market-makers, those market-makers have to buy stock to reverse their hedges. The VIX volatility index last night fell over 5% to 18.5. It had already fallen 10% immediately after the Fed announcement on Wednesday. Its post-GFC low is 15 which was marked in April just before the European crisis hit.

If you were looking to play “sell the fact” last night, in any financial market, you would have been run down by a steamroller. Are the sellers waiting for a better opportunity? The S&P did spend some time trying to get through the 1217 previous high mark last night before a very late kicker.

With the Fed having made its much anticipated move on Wednesday, it was up to both the European Central Bank and Bank of England to make any necessary policy response at their respective scheduled meetings last night.

There were no surprises when the ECB kept its rate steady at 1%, given it has actually been winding back post-crisis monetary stimulus. President Jean-Claude Trichet did not suggest any concern over the strong euro at this stage and told reporters he did not support “disorderly” moves in currency markets. Bit of a niggle there?

Nor did the BoE shift from 0.5%. Suggestions in earlier months that the UK central bank would be forced to implement its own QE2 seem now to have been put to bed given recent economic data have proven surprisingly resilient to strict fiscal austerity measures.

So no new fronts from across the pond in the Currency War. Across the other pond however, the Bank of Japan began its two-day extraordinary policy meeting yesterday and it is tipped that further monetary stimulus will be announced today to resupply the War in the Pacific. The BoJ has already announced QE measures and has intervened directly in the yen, which continues to push through multi-decade highs against the greenback.

Which it did again last night. The US dollar index fell 0.5% to 75.91. And all hell broke loose.

Parity? Aw yeah I remember parity. Seems so long ago now with the Aussie up over a cent last night to US$1.0161. Never mind yesterday's weaker than expected Australian economic data.

Blue skies were smiling in precious metals, as gold leapt 3% or US$43.60/oz to US$1391.90/oz and silver jumped 5.5% to US$26.25/oz.

It was a case of hang onto your hats in commodities, as oil rose 2% or US$1.54 to US$86.28/bbl and over in London aluminium jumped 1.7%, copper and tin 2.5%, lead 3% and nickel and zinc 4%.

Might one expect that if money poured into the stock market, some of it must have come from the bond market? No, no, no. Not when the Fed will be buying another US$600bn of 2-10 year Treasuries to add to what it has already been buying. The benchmark ten-year yield plunged 11 basis points to 2.48%. The twos were down one bip to 0.33% and the thirties were up one bip to 4.06%.

The US yield curve has steepened yet again. This is great news for banks, because they borrow short and lend long. But what a steep yield curve indicates is inflation expectations. The potential id to the QE2 ego is steep inflation, even hyperinflation, down the track. As one respected hedge fund manager said on CNBC this morning, “don't forget it costs about a trillion to buy breakfast in Zimbabwe”.

That is the grave fear held by many, and if you take CNBC interviewees as a sample set the statistical reality is that it is the crusty old hands who are shaking their heads in despair and the young bucks who are “all the way with Uncle Ben!”. QE2 cynics are also waiting for the new dollar bills to fly straight out across the oceans to bolster other nation's economies rather than America's. Why is the Aussie now at US$1.01? Just look at the implied 7% differential in the respective cash rates.

The SPI Overnight was up 74 points or 1.6%.

It's jobs night tonight in the US but hey – who really cares? Forecasts are for 60,000 new jobs but the signals are mixed. Wednesday's ADP report showed about 25,000 more jobs added than expected but last night's weekly new jobs claims number showed an increase in dole claimants of 20,000 which was 7,000 more than expected.

But good is good and bad is good now in the Age of QE2.

[Note: All paying members at FNArena are being reminded they can set an email alert specifically for The Overnight Report. Go to Portfolio and Alerts in the Cockpit and tick the box in front of The Overnight Report. You will receive an email alert every time a new Overnight Report has been published on the website.]

article 3 months old

Westpac Fails To Excite

By Greg Peel

Westpac's ((WBC)) full-year result yesterday marked the last of the big bank earnings season, albeit Commonwealth ((CBA)) which runs on a June full-year rather than September like the other three will provide a trading update on November 15.

Bank analysts had not been expecting anything spectacular from Westpac, and weren't disappointed. When the Australian government offered first home buyer stimulus in 2009 and the RBA dropped its cash rate to 3%, it was Westpac and CBA in particular who rushed to gobble up the spoils in an attempt to balance out “risky” business loans with “safe” mortgages. The two gobbled up more mortgages as well by acquiring St George and BankWest respectively. But a small child will continue to eat too much cake until he regrets it later.

Pretty soon the two big retail lenders realised they were offering home loans to people who would never have been otherwise able to afford a home but for the fact mortgage rates were historically the cheapest they'd ever been and the government was effectively paying the deposit. While not exactly US-style “subprime”, the loans were very much at risk from the inevitable rate hikes that must one day follow. And these people never actually had any equity in the first place.

First the banks responded by requiring at least some portion of a deposit to come from savings and not from the government. Then late last year once the RBA had already hiked twice, Westpac drew the ire of politicians and the public by hiking its standard variable mortgage rate (SVR) by 45 basis points to the RBA's 25. All Westpac was doing was saying “we have enough mortgages now, thank you”. Between Westpac and CBA, the two ultimately controlled 75% of all Australian mortgages.

So what was CBA telling us yesterday by doing exactly the same thing? Well, apart from flipping the bird at Comrade Joe and an incumbent Treasurer now scrambling to be seen to be doing something effective, CBA was suggesting its retail loan book was dragging on its earnings growth at a time when funding costs were rising such that the only way to restore margins was to make a solid independent rate hike, or an “asset repricing” as the jargon goes. Higher margined business loan demand is still foundering as the cash rate rises and the housing market has stalled.

For a discussion on politics and rising bank funding costs, see Australian Bank Sector Wrap from last week.

We are waiting with baited breath now to see what Westpac will do this time. There is only one thing the politicians and public are focused on this week – Westpac's 84% jump in headline profit. That and the fact it intends to reduce costs by axing staff. You've gotta hand it to the biggest of the Big Banks – their PR departments must be run by retired Centurion tank drivers.

But as far as bank analysts are concerned (not geniuses by any means, but at least they have some inkling of what they are talking about), the Westpac result was either in-line with or slightly better than expectations. Any “beat” was mostly due to a slightly larger amount of unneeded bad debt provisions being brought back to the earnings line, although there was some surprise in that Westpac's fourth quarter net interest margin ticked up ever so slightly (3 basis points). Its second half margin nevertheless fell 9 basis points from the first half, which reflects Westpac's ongoing cry that net offshore funding costs are on the rise and please won't somebody listen. Even the RBA disputes this fact (more fodder for Comrade Joe) but only because funding costs now are lower than they were earlier in the year. But Westpac, like every other bank, is still carrying pre-GFC funding at cheapo rates that will be soon rolling off and into history. So its net funding cost will continue to rise, according to the bank, into FY12.

In the meantime, Westpac's loan growth for FY10 was a soft 1% but that's what hiking by 45bps in December was intended to achieve. It's deposit growth – the source of “cheap” local funding – was at 3% growth lower than its peers. It's revenue was down 3% in the half.

Profits from money market trading were down 22% in the second half which is unsurprising given everything's now settled down volatility-wise. At the end of the day, half of Westpac's underlying earnings result came from cash earnings and the other half from bringing back bad and doubtful debt provisions. Those BDDs are just profits retained in FY09 and released in FY10 which qualifies the 84% profit “jump”.

The good news is that Westpac's capital position is sound based on the new Basel III requirements. That has allowed the bank to increase its dividend payout ration and thus its yield for shareholders.

The bad news is that there's not much excitement ahead for the big retail banks, as far as most analysts are concerned. The only joy will come from independently raising SVRs so as to reprice the existing loan book. Neither Westpac, who it is assumed will announce its rise shortly, nor CBA, are looking to attract more mortgages. The one's they have are now suffering from 1.75% worth of RBA cash rate increases alone.

New business loans would be nice, but as the recent data suggested business credit demand growth remains negative even this far past the GFC. The only comfort here is that the tide appears to be slowly turning given the rate of contraction in demand has become less negative. Analysts are putting a lot of faith in such demand soon returning, but the banks will be weathering higher funding costs while they wait for this outcome.

Analysts also consider it a positive that Westpac is in the process of reducing costs. Westpac's “productivity “ strategy is, of course, code for “please clear your desk and hand security your pass card on the way out”. But costs were still rising in the fourth quarter, so Westpac had better get cracking. Oh – it is.

In general, analysts found nothing to be upset about in Westpac's numbers or forecasts, but then they couldn't find anything to suggest outperformance ahead either. Most prefer the smaller ANZ ((ANZ)) and National ((NAB)) as they have less exposure to the retail banking drag. Macquarie bucks the trend however, preferring the two big banks for the same reason given the greater benefits the two will glean from “asset repricing”.

Macquarie nevertheless has only a Neutral rating on Westpac, and today has downgraded CBA to Neutral as well. Where the two differ as far as Macquarie is concerned is in capital base. Westpac's is comfortably inside Basel requirements, but CBA is going to have find underwriters for perhaps its next four dividend reinvestment plans in order to stay above limits. An underwritten DRP is akin to a backdoor capital raising. This implied dilution sees Macquarie downgrade its CBA earnings forecasts.

And Macquarie has today downgraded ANZ from Neutral to Underperform. The analysts are not as keen as their peers on the bank which has proven to be this season's star performer given they believe the star performance is now behind ANZ and there can only be a let-down from here.

ANZ management has itself confirmed that institutional lending margins have turned and the latest data, as noted, show business loan demand remains weak. Macquarie thus expects ANZ's margin gap to fall back towards its peers from now on. Given ANZ's share price has run up since the announcement of its result last week, Macquarie has decided value no longer exists.

For Westpac, the FNArena database brokers are all lined up like little black ducks on Hold positions, and that's with all assuming an additional SVR rate hike of at least 15bps above the RBA. At $25.20, the consensus target price is offering only 7.4% upside. Brokers usually need about twice that for a Buy rating.

Come the CBA update in a couple of weeks I'll fully wrap the banking sector assessment.

article 3 months old

The Overnight Report: All Hail The Grand Old Party

By Greg Peel

The Dow closed up 64 points or 0.6% while the S&P rose 0.8% to 1193 and the Nasdaq added 1.1%.

The Dow Jones underperformed the broad market S&P 500 largely because of a weak quarterly result from drug giant Pfizer, but in essence the only driving force that mattered on Wall Street last night was building anticipation, as America headed to the polls, that the Republican party will win back control of the House and maybe even the Senate as well.

In simple terms, a Republican-led lower house is expected to at the very least water down various Obama initiatives on health, environmental restrictions and financial regulation, among others. And importantly, the president's as yet unconfirmed tax hike policy will struggle to gain traction.

Such concessions would mean a boost for the majority of sectors, as well as for personal investors, and that's exactly the way Wall Street was playing it last night. The Dow opened strongly and maintained a tight range through to the close. However, once again an attempt to settle above the April closing peak of 11,205, to thus mark a new two-year high, was thwarted. A late dip saw the Dow close at 11,188 despite 11,219 having been reached in the early afternoon. Above the 11,205 mark the sellers are lined up.

Election speculation has now taken precedence over QE2 speculation if for no other reason that Wall Street is weary of speculating about the Fed. A level of QE2 is “baked in” the market, and whether the announcement sees a small number to begin with with a promise of more to come as needed, or a large number off the bat, is no longer any cause for anxiety. The announcement would have to be wildly different from these two opposing scenarios to have any impact on market perception.

However, it is not yet clear whether any announcement that meets with expectation will also be met with relief buying or, on the other hand, selling of “the fact”. That 11,205 wall in the Dow looks like concrete at the moment, but a substantial breach may scare the sellers or shorters off.

The US dollar is nevertheless responding as if QE2 were a given and as if the oft suggested overdue bounce is mere piffle. Last night the dollar index fell 0.75% to 76.71 to hover just above the January low which was marked just before the European crisis hit. The low before that was just under 75 in November, ahead of the Dubai scare, and the low to beat all lows was just above 70 immediately after Lehman.

Interestingly, last night's dollar drop did not propel the Aussie through parity, just yet. At US$0.9990 the Aussie is little moved from yesterday's trade when the RBA surprised with its rate hike. Clearly parity for the Aussie is staunch resistance.

On the subject of the Cup Day rate rise, if one reads back through both the RBA's October statement and the minutes of that meeting the hints are clearly there. The statement suggested rates will “have to rise at some point” and the minutes suggested the situation was “finely balanced”. The impression is given that the only thing holding back the RBA in October was ongoing European uncertainty. While Europe has become no less uncertain in the interim, other than lasting another month without collapsing, the RBA had indicated that it couldn't wait around for ever. Having been caught out in early 2008, the central bank was determined to launch a preemptive strike against the inflation pressures created by the commodity boom. The weaker September quarter inflation numbers were clearly not enough to swing the fine balance. Nor stable house prices, nor weakening credit demand, nor the knowledge that the banks would most likely have increased their rates independently if the RBA had held off.

Nor was the strong Aussie, which could be anywhere by tomorrow including through parity, considered enough of an inflation dampener. Nor was Australia's “two-speed” economy, to which Glenn Stevens alluded in his statement, enough for the RBA to decide maybe one more month of watching and waiting would be okay.

Following CBA's 45 basis point SVR hike to the RBA's 25, Comrade Joe is now Hero Of The People. Westpac ((WBC)) reports today, so stand by for its rate hike, with NAB and particularly ANZ potentially likely to be more subdued.

But back to the US.

The bond market again saw buying last night pushing the ten-year yield down four basis points to 2.59%. Gold was somewhat timid, adding only US$4.70 to US$1356.30/oz despite the big drop in the US dollar.

Oil rose US95c to US$83.90/bbl while copper, lead and zinc all posted 1% plus gains and aluminium 2% plus, while nickel and zinc were steady.

The SPI Overnight rose 13 points or 0.3%

Nothing much else now matters, other than confirmation of the US election results, ahead of 2.15pm New York time tonight (5.15am Sydney). Let slip the QE2.

[Note: All paying members at FNArena are being reminded they can set an email alert specifically for The Overnight Report. Go to Portfolio and Alerts in the Cockpit and tick the box in front of The Overnight Report. You will receive an email alert every time a new Overnight Report has been published on the website.]