Need To Know News

Equity markets, after digesting Poole’s comments with regards to last week’s sell-off, are tanking into the close as bonds catch a strong bid. Poole’s speech noted that the FED nor the market “do not know the full implications of last week’s stock market declines and increases in risk spreads. Market reactions last week may be overdone, or perhaps not. We just do not know”. These comments, although likely meant to soothe the market, have injected a bit of uncertainty as evidenced by the rotation out of stocks and into fixed income.

The USD put in a mixed performance today with sharp losses against STG, a 15 pip gain on the EUR and CHF and loss of about half a handle vs JPY. It is not yet clear how vigorously the JPY carry trade will be re-deployed, especially if losses in equities continue as funds may find themselves in need of dollars to cover losses.

Crude oil rallied today with front month crude settling up $1.12 after jumping to $78.28 during the session. Unleaded Gas was up 5.5 cents, Heating Oil gained 3.5 cents but Natural Gas sold off nearly 30cents, likely in response to massive storage supply.
Metals were narrowly mixed today but will likely catch a bid if equities and interest rates continue lower tomorrow.

Tomorrow’s data include the Mortgage Banker’s Association Applications (7am EST) for the week ending 27 July – these data are unlikely to reverse last week’s data reflecting a 3.6% drop in applications. Challenger Y-O-Y Job Cuts at 7:30am EST – June data came in at -17.0% and ADP Employment Change for July at 8:15am EST – consensus is 100k against 150k in June. At 10am EST Pending Home Sales are estimated to have fallen 0.5% M-O-M versus -3.5% last time round. ISM Manufacturing and ISM Prices Paid are out at 10am EST and are expected at 55.3 and 67.0 respectively.

USD is flat to mixed on the day, with the biggest disparity in Cable up 103 pips to 2.035. The USD Index dropped 82 ticks to 80.765, though is still off last Friday’s low of 80.117. An ease in credit concerns globally increased the demand for higher yielding currencies and a re-initiation of the carry trade. The USD picked up some strength when Consumer Confidence for June came in at a higher than expected 112.6 vs. the consensus estimate of 105. December interest rate futures lowered the likelihood of a near term rate cut. Dec Euro$ deposit have factored in a full rate hike before years end; Dec Fed Funds show an implied rate of 5.09% indicating a 64% likelihood of a cut before year’s end.

GBP/EUR is up 84 pips to 1.4867, helped by the carry trade and increased bets that the BOE will have multiple rate hikes before year’s end. Dec interest rate futures in the UK show an implied yield of 6.18%. This increase may be due to yesterday’s report from The Centre for Economic & Business Research in the UK reporting that recent flooding in the South may add up to .5% to inflation. GfK Consumer Confidence for July came in at a lower than expected -6 vs. the consensus estimate of -4. It appears that recent rate hikes are restraining the economy but with these recent inflationary developments it is likely the BOE will enact monetary policy to control inflationary pressure.

The EUR is down vs. all major currencies as today’s releases showed a drop in Euro-zone economic confidence, unemployment and estimated YoY CPI. These releases suggest the ECB’s current benchmark is restraining price pressure and unemployment, while the decrease in economic confidence suggests the potential for slowed growth under tighter economic circumstances. The ECB is expected to hold its benchmark steady at 4% when it meets Thursday. French Minister for European Affairs Jouyet mentioned today that the ECB should position itself better to react to FX volatility and he doesn’t believe the free market should determine currency levels. He feels the ECB should be more transparent and make decisions that are in favor of growth and competitiveness. He claimed that it isn’t his intention to influence the ECB or question its independence.

JPY is lower against all of the higher yielding currencies today as a shift toward riskier assets leads to more yen borrowing to finance even riskier assets. Japanese Housing Starts came in at a much higher than expected 6% vs. the -3.5% consensus estimate, while YoY Construction Orders came in at 26.4% crushing the consensus estimate of 1.6%. These releases reflect the benefits of the BoJ’s low borrowing costs and recent JPY depreciation, as a cheaper JPY appears to be a positive influence on manufacturing and home building. It is still uncertain what the BoJ will do during its next policy meeting. Continued growth will lend support to the rate hike argument but recent deflation may leave the BoJ with its hands tied.

Speaking today at a luncheon in remembrance of economist Milton Friedman, St. Louis Federal Reserve President William Poole, (an FOMC member) emphasized the need for the Fed’s policy to be more predictable and transparent, in order to avoid market shocks and ensure stability. Poole repeated the previous remarks of Fed President Bernanke regarding the importance of well-anchored inflation expectations. “Central bank behavior to anchor expectations of low and stable inflation is the single most important aspect of policy predictability.” He also said the central bank should hold firm to policy, regardless of short-term consequences to unemployment and bond and stock markets.

With regards to the recent drops in the markets, Poole said, “The Fed doesn’t know, and market participants do not know either, the full implications of last week’s stock market declines and increases in risk spreads. Market reactions last week may be overdone, or perhaps not. We just do not know.” On the possibility of Fed action, Poole said “The Fed should respond to market upsets only when it has become clear that they threaten to undermine achievement of fundamental objectives of price stability and high employment, or when financial-market developments threaten market processes themselves. The Fed should not try to substitute its judgments for the market’s judgment on appropriate security prices.”

Poole was optimistic about inflation expectations, saying, “Expectations now quite well-anchored and policy adjustments are not themselves disturbances to the market.” He said the Fed continuously monitors changes in inflation expectations and that the economy functions differently when inflation expectations are well-anchored; when poorly anchored, interest rate control can be dangerous and destabilizing. He also said there need be little or no uncertainty about Fed behavior the day before an FOMC meeting. More predictable policy promotes efficient decisions in the private sector.

Poole also commented on the market’s ability to stabilize itself, saying, “the decline in long Treasury rates last week surely helped to stabilize markets relative to a situation in which those interest rates were held fixed by monetary policy. If Fed had been pegging long rates, the flight to quality last week would have required the Fed to take funds out of the market.” Poole said that would have been a destabilizing response to market fears concerning housing and the subprime mortgages market. “Most of these upsets stabilize on their own, but some do not. I’m not saying the Fed should ignore what happened last week- we need to understand what is happening.” He did say the Fed shouldn’t permit uncertainty over policy to add to existing uncertainty and that the Fed funds futures market will reflect the probable course of economic growth and inflation, and will adjust as the outlook becomes clearer. “The market is making judgment on security prices, stabilizing the economy without the Fed having to lead the way.”

US sells $26 billion in 4-week bills @ high 5.055%, awarding 59.50% @ high

bill bid-to-cover: 2.50

Index futures were all indicating higher in pre-open trade helped the GM earnings announcement that flogged expectations at 2.29 per share vs an estimated $1.08 per share. Marathon oil also beat earnings estimates by 12 cents/share coming in at $2.25 per share. Treasuries began the day down across the board amid continued unwinding from last week’s rally. The USD was mixed, while energies and metals were higher across the board.

DOW futures traded up 105 point ahead of JUNE PCE data indicating a decrease in the MoM core number to 0.1% vs. 0.2% estimated. Post PCE and the slew of other releases (housing prices fell, sales were off, construction spending was down, etc) The knee-jerk on the data pulled the DOW off it’s highs but has not discouraged the bulls with the DOW up better than 90 after falling to the positive mid-30s. European equities strengthened with the FTSE up 154. and the DAX up 127 on the day. The dollar was bid behind some of the data but has returned to narrowly mixed into the afternoon.

The S&P/Case Schiller Index 20 came in at -2.8% vs. f/casted
- 2.9% ;- the 0.1% higher than expected number did not impress the markets as indices turned lower behind the data.

The Chicago Purchasing Manager came in lower than expected at 53.4 vs. 58.4 consensus indicating a continued weakness in production. While equity indices were unmoved by the data the 30-yr turned positive while the remainder of the curve stayed marginally lower.

Markets paid more notice to the unexpected increase in Consumer Confidence at 112.6 vs. the 105 consensus estimate. JUNE Construction Spending fell 0.3 vs. the consensus estimate of 0.2%. Indices got a boost from the former release as DOW futures climbed over 125 points. The 30 yr maintains a bid tone up about 8 to 10 ticks on the day as the shorter dates trade marginally lower or unchanged.

Crude is trading up $1.08 at $77.91, Unleaded is up 3 cents to 211.50, Heating Oil is up 2.5 cents to 209.07 and Natural Gas is lower by 13 cents to $6.36. Metals are higher across the board.

The Conference Board U.S. consumer confidence index leaped to an almost six-year high of 112.6 in July from an upward revised 105.3 in June (originally reported as 103.9). The median forecast for the July index was 105.0, so the result was much stronger than expected.

The expectations sub-index of the overall confidence index jumped to 94.8 in July from a revised 88.8 in June (originally 87.9).

The present situation sub-index soared to 139.2 in July from a revised 129.9 in June (originally 127.9).

According to the Conference Board, “The rebound in Consumer Confidence has catapulted the Index to its highest reading in nearly six years (August 2001, 114.0). An improvement in business conditions and the job market has lifted consumers’ spirits in July. The Present Situation Index is also at a near six-year high (August 2001 144.5). Looking ahead, consumers are more upbeat about short-term economic prospects, mainly the result of a decline in the number of pessimists, not an increase in the number of optimists. This rebound in confidence suggests economic activity may gather a little momentum in the coming months.”

The proportion of those reporting jobs as “plentiful” jumped to 30.5% in July from a revised 27.6% in June (originally reported as 27.0%). Earlier results for this key measure were 29.1% in May, 29.0% in April, 30.3% in March, 27.8% in February, and 29.6% in January. The July result suggests that Friday’s payroll gain for the month will be a solid one. The median forecast for nonfarm payrolls calls for about a 130K advance in July after the 132K rise reported for June. Today’s news suggests that the increase could be even larger than that, and will observe Wednesday’s ADP survey with much interest.

The Chicago Purchasing Manager Business Barometer fell to 53.4 in July from 60.2 in June. Earlier readings were 61.7 in May, 52.9 in April, 61.7 in March (a confusing reading at a time when other manufacturing indictors were soft due to the inventory adjustment), 47.9 in February and 48.8 in January.

The July index level was 5-points below the median forecast of a decline to 58.4 (which followed a June result that was almost 3-points above expectations at the time and a May result that was almost 8-points higher than anticipated).

Reports relating specifically to the manufacturing sector have recently pointed to an end to the inventory adjustment and consequent firmer activity. In general, we expect to see factory output growing at a moderate pace in the months ahead as production and demand move reasonably in synch. In this type of environment, readings for PMIs such as we saw for the Chicago index in May and June are too high. The July index, on the other hand, is a little lower than we think is sustainable, although this could well be a correction from earlier unsustainable responses. Market expectations for Wednesday’s July ISM manufacturing composite index are for about a one-half point decline from the solid 56.0 reading posted in June. Our own estimate is for a larger drop to 54.5, for the same reason its was no surprise to see the Chicago index come well off its recent highs.

The value of June construction spending declined 0.3% following an upwardly revised May increase of 1.1%. The decline was weaker than the 0.2% increase that most analysts had expected. Private residential construction continued to push the construction numbers down, declining 0.7% in June, its 16 consecutive monthly decline. However, private nonresidential construction increased only 0.3% in June following a 2.8% increase in May. That was its weakest performance since January. Private spending on office, lodging and educational construction continued to increase but was partly offset by declines in the value of new construction for manufacturing structures, communications and power facilities. Public construction expenditures were unchanged in June, following a 2.3% increase in May. That reflected a decline in federal construction expenditures and a small increase in state and local spending. New street and highway construction declined as did new construction of public health care and educational facilities. Construction of other infrastructure, such as water and sewage facilities and transportation-related projects showed increases.
www.census.gov/constructionspending
Kathryn Kobe NTKN, Washington DC

Consumer Confidence (Jul): 112.6

Survey: 105           Revised: 105.3

NAPM-Milwaukee (Jul):  57

Prior: 66

Chicago Purchasing Manager Index for July: 53.4
Survey:  58.4             Prior:  60.2