Evening Update

Traders Take Profits as Fed Minutes Give Caution on Pace of Recovery

Financials led the market lower in trading today, despite a positive reception to a common stock issue by Bank of America to address the capital raise mandated by the government stress test. Stocks reacted negatively to the release of the April FOMC meeting minutes, which highlighted the downside risks to the economy and noted the potential need for more asset purchases to spur a more rapid pace of recovery. In earnings news, Dow member Hewlett-Packard released an in-line earnings report and reaffirmed its full year earnings outlook, while Analog Devices, Phillips-Van Heusen, Target, Ann Taylor Stores, and Deere & Company all saw their profits fall but less than analysts had been expecting, and Toll Brothers issued bullish commentary about the state of the housing market. In economic news, mortgage applications increased last week and Treasury Secretary Timothy Geithner spoke before the Senate Banking Committee about the progress of the government’s programs in restoring credit markets. Treasuries were higher, taking cue from the FOMC minutes which raised the possibility of further Fed asset purchases.

The Dow Jones Industrial Average lost 52 points (0.6%) to close at 8,422, the S&P 500 Index fell 5 points (0.5%) to 903, and the Nasdaq Composite declined 7 points (0.4%) to 1,728. In moderate volume, 1.7 billion shares were traded on the NYSE, and 2.3 billion shares were traded on the Nasdaq. Crude oil gained $1.94 to $62.04 per barrel, wholesale gasoline was unchanged at $1.81 per gallon, and gold rose $13.55 to $938.60 per ounce.

Bank of America(BAC $12 ¹) issued 825 million shares after yesterday’s close, at an average price of $10.77 per share, which was slightly lower than Tuesday’s closing price of $11.25. The stock has risen more than 250% from the 25-year low of $3.14 that was reached on March 6. BAC was able to raise $13.5 billion in yesterday’s issue as the bank continues to address the gap of some $34 billion on its balance sheet, in accordance with directions from the US government after the recent bank stress tests. Shares were higher.

Dow member Hewlett-Packard (HPQ $35) closed lower after it reported 2Q earnings ex-items of $0.86 per share, in-line with analyst estimates as measured by Reuters. Hewlett-Packard, the world’s largest seller of PCs, saw revenues drop 3% to $27.4 billion during the quarter, also matching analyst expectations. HPQ added that on a constant-currency basis, sales were actually up 3%, although CFO Cathie Lesjak stated that it's still "too tough to call" whether PC sales have hit a bottom yet. For full-year 2009, management maintained its earnings forecast of $3.76-3.88 per share. In terms of sales, management narrowed its guidance range from negative 2-5% to negative 4-5% growth this year.

Deere & Company (DE $44) released 2Q EPS of $1.11, down 38% year-over-year, but ahead of the $1.07 analysts had been expecting. Sales from the world’s largest maker of farm equipment dropped 17% to $6.75 billion. Revenues in the company’s agricultural equipment division, its largest, were relatively strong, down only 4%. Meanwhile, revenues in DE’s commercial and consumer division plunged 24% and the construction and forestry equipment division saw sales plummet 55%. Deere’s finance arm reported a 56% drop in quarterly profit. Management lowered its full-year 2009 guidance to $1.1 billion from $1.5 billion, citing uncertain market conditions. Shares rose.

Chip designer Analog Devices(ADI $24) posted 2Q earnings of $0.21 per share, down sharply from $0.45 in the same period a year ago, but higher than the $0.09 EPS that analysts had been expecting. Revenues were down 27% to $474.7 million. Management commented that these results "were better than planned as we benefited from increased sales to communications infrastructure and consumer customers, and a general abatement of inventory reductions by our customers." For the third quarter, ADI expects sales growth to be roughly flat on a sequential basis, and earnings from continuing operations should be between $0.17-0.19 per share. Analysts had been forecasting EPS of $0.11 for 3Q. Shares of ADI ended up over 15%.

Phillips-Van Heusen(PVH $28) released 1Q EPS ex-items of $0.53, above the $0.47 that the Street had forecast. Sales fell 7% to $557 million, which exceeded the high-end of the company’s guidance. Sales in the Calvin Klein licensing division rose 1%, while global licensee royalty growth was 6% on a constant-currency basis. PVH revised its full year earnings guidance by raising the low-end of the range. The company is now guiding to 2009 EPS between $2.05-2.30, excluding approximately $10 million of pre-tax costs associated with the company’s restructuring initiatives. Management expects “the difficult economic conditions will continue during the second and third quarters of 2009, with a moderate improvement taking place in the fourth quarter of the year.” Shares closed lower, erasing early gains.

Target (TGT $43) shares were higher after the company announced 1Q EPS fell 7% to $0.69, which was better than the average analyst estimate of $0.60. Revenue growth was nearly flat for the US’s second-largest discount chain, with total sales up 0.2% to $14.8 billion, while same-store sales growth in the company’s retail segment was down 3.7%. Management had already preannounced earlier this month that results would be significantly higher than what Wall Street expected after management made moves to control expenses and reduce price discounts.

Ann Taylor Stores(ANN $8) said it lost $0.04 per share in the first quarter, excluding restructuring charges, which was less than the loss of $0.13 that the Street forecast. Revenues fell 28% to $427 million. Same-store sales tumbled by 30.7%, with the company’s Loft stores dropping 24.2%, and Ann Taylor stores slumping 42.7%. Ann Taylor President and Chief Executive Officer Kay Krill described these sales results as “very soft,” reflecting the fact that the aspirational luxury sector is being particularly hard hit by the recession, although conditions in the Loft division appeared to improve as the first quarter progressed. ANN expects some improvement in the second half of the year, although sales are likely to “remain under significant pressure.” Shares of ANN fell.

Toll Brothers(TOL $19) reported preliminary 2Q revenues of $398.3 million, above the consensus estimate of $387 million. Despite the 51% year-over-year decrease in home building revenue, the company reported that signed contracts rose 119% in units and 133% in dollars quarter-over-quarter. Signed contracts typically increase sequentially due to seasonality, and the first quarter was particularly weak, but CEO Robert Toll said that “we have a few reasons for cautious optimism,” saying the “most encouraging is recent deposit activity,” with same-store deposits exceeding FY2008 in seven of the past nine weeks. The CEO added that “upscale home buyers have postponed buying decisions over the past three years,” and a renewal of confidence, combined with record affordability could release pent-up demand, and “we believe that more buyers are beginning to enter the housing market.” In order to control costs, the company continues to decrease its community count by reducing the number of lots it controls and mothballing some sites in expectation of reviving them when market conditions improve. Shares closed lower, erasing early gains.

Mortgage applications rise, Geithner gave update on programs to unfreeze credit markets

In economic news, the US MBA Mortgage Application Index rose 2.3% to 915.9 for the week ended May 15. This follows an 8.6% drop for the prior week, in an index that can be quite volatile on a week-to-week basis. The Refinance Index increased 4.5%, while the Purchase Index fell 4.4% to 254. The Mortgage Bankers Association (MBA) said the average 30-year mortgage rate declined again, falling 7 basis points to 4.69%, which is near the record low of 4.61% that was reached at the end of March.

Treasury Secretary Timothy Geithner spoke this morning before the Senate Banking Committee and gave an update of the various programs the government has initiated to unfreeze credit markets. He reported that the TARP has $123.7 billion remaining, including $25 billion in expected repayments over the next year. Geithner noted that access to the government’s TARP funding will be re-opened for current participants seeking to reapply for additional capital, as well as for smaller banks with total assets under $500 million. Meanwhile, the Term Asset-Backed Securities Loan Facility (TALF) has recently been extended to include certain legacy assets in an attempt to address the “dislocation” in the commercial real estate market and prevent a potential “damaging chain of events” in that market. Previously the TALF program was only available for newly issued securities. Finally, the Public Private Investment Program (PPIP) is expected to begin operations “over the next six weeks,” as the Treasury is evaluating a group of finalists from over 100 fund managers that have applied to be a part of the program. Geithner ended his speech by discussing the need for regulatory reform, calling for “new tools” to avoid “disorderly liquidation” of financial institutions that fall outside the traditional banking system.

Elsewhere, crude oil inventories fell more than expected, falling by 2.1 million barrels, versus the Bloomberg forecast of a 400,000 barrel decrease, and gasoline stockpiles plunged 4.3 million barrels, more than three times what was forecasted. Combined with refinery disruptions and a falling U.S. dollar, prices continue to climb ahead of the holiday weekend. The U.S. dollar has been declining in a flight from safety, as investors have been willing to take more risk in their portfolios.

Fed negatively revises economic forecast and leave open further asset purchases, Treasuries rise

The minutes from the April Federal Open Market Committee (FOMC) meeting were released midday, and while the Committee said there was tentative evidence that the pace of contraction was starting to decline, the quarterly update to their economic forecast was revised lower and a majority of the participants believed risks were skewed to the downside and subject to greater-than-average uncertainty. Members continued to expect a recovery to begin in the second half of 2009 and many believed the risk of a protracted period of deflation had diminished. The forecast for GDP in 2009 was revised to a range of -2.0% to -1.3% from -1.3% to -0.5% in January, with the unemployment rate of 9.2% to 9.6% from 8.5% to 8.8%, and personal consumption expenditure (PCE) inflation of 0.6% to 0.9% from 0.3% to 1.0%. Forecasts for GDP growth and the unemployment rate in 2010 and 2011 were also negatively revised. Most participants expected the economy to take five or six years to converge to longer-term sustainable growth combined with unemployment and inflation consistent with the Fed’s dual objectives.

While participants believed the asset purchases should be continued at the amounts previously announced, and some believed that a further increase in the total amount might be warranted to spur a more rapid pace of recovery, all agreed with waiting to see how the economy and financial conditions responded to prior policy before adjusting the timing or amount of purchases, as well as the need to carefully monitor the size and composition of the Fed balance sheet in light of conditions.

The timing and amount of Treasury purchases has been under close scrutiny, and recent commentary from Fed Chair Ben Bernanke indicated the Fed was not targeting a particular interest rate, but rather to help repair private credit markets. Treasuries rose after the minutes were released, on the expectation that further Fed purchases could be forthcoming. The yield on the 2-year note lost 5 bps to 0.83%, the yield on the 10-year note fell 5 bps to 3.19% and the yield on the 30-year bond decreased 7 bps to 4.14%.

Tomorrow’s economic calendar includes initial jobless claims, which are expected to improve to 625,000, the leading indicators index is expected to be 0.8% and the Philadelphia Fed Index, which is forecasted to improve to -18.0.