Evening Update

Markets Shrug Off Retail Sales Data

Stocks fought off news that many of the nation’s largest retailers saw disappointing sales trends last month to continue their rally. Helping to boost optimism was an announcement that weekly continuing jobless claims fell slightly, snapping an ugly trend, although the four-week average still rose. Also released today was an economic report showing that productivity in the US increased more than had been expected. Treasuries continued to sell off after release of this data, as traders now turn their attention to tomorrow’s much-anticipated labor report. In equity news, well over half of the retailers announcing monthly sales today missed the Street’s expectations, sparking fears that sales will continue to be weak as consumers pay down debt and spend less. Other companies making news today included Intel, who announced plans to acquire Wind River Systems, and Data Domain, who commented on the takeover battle surrounding its firm. In other news, former executives of Countrywide Financial have been charged by the SEC, Travelers Cos increased its profit targets, Ciena Corp, missed earnings forecasts, and ADC Telecommunications beat analyst earnings forecasts but announced that job cuts are on the way. In overseas news, both the European Central Bank and the Bank of England kept interest rates unchanged.

The Dow Jones Industrial Average rose 75 points (0.9%) to close at 8,750, the S&P 500 Index advanced 11 points (1.2%) to 942, and the Nasdaq Composite gained 24 points (1.3%) to 1,850. In average volume, 1.3 billion shares were traded on the NYSE, and 2.4 billion shares were traded on the Nasdaq. Crude oil rose $2.69 to $68.81 per barrel, wholesale gasoline increased $0.06 to $1.96 per gallon, and gold increased $17.63 to $980.70 per ounce.

Target (TGT $41) reported May same-store sales—stores open at least a year—dropped 6.1%, well below the decline of 4.3% that the Reuters estimate called for. TGT said sales for the month of May were somewhat below its expectations. Shares were flat.

Costco Wholesale (COST $48) fell after it reported May same-store sales fell 7%, which came in larger than the 6.4% drop that was expected by Reuters. Total sales for the month fell 5% to $5.5 billion.

Although the major retailers reported sales results for May, the world's largest retailer and Dow member Wal-Mart (WMT $51) did not as it has ceased providing monthly sales figures and will now report only on a quarterly basis. Separately, the company said it plans to create more than 22,000 jobs in 2009 to staff new or expanded stores in the US. WMT will hold its annual shareholder meeting tomorrow. The broad disappointments in the sector's same-store sales reports pressured shares of WMT, which closed flat.

However, the major department stores weighed in with their results and they were relatively better than expected, as Kohl's Corp (KSS $46) posted May same-store sales which fell 0.4%, versus the Street's estimate of a 3.8% decline. JC Penney (JCP $29) announced its comparable sales for May fell 8.2%, better than the 9.6% drop that was anticipated, while Macy's (M $13) reported same-store sales fell 9.1%, smaller than the analysts' estimates of -9.3%. Nonetheless, the pressure in the sector weighed on all three firms.

Meanwhile, inside the malls, retailers are under pressure, led by Abercrombie and Fitch (ANF $28), which is down over 10% after posting May same-store sales which tumbled 28%, worse than the 24% drop the Street had forecasted. Gap Inc. (GPS $17) is lower after announcing comparable store sales were down 6%, larger than the 5% decline that was anticipated, and Limited Brands (LTD $13) was also in the red after reporting same-store sales fell 7% for May, matching the decline the Street expected.

Outside the retailers' reports, M&A news is making headlines after Dow member Intel (INTC $16) agreed to acquire all outstanding common stock of software maker Wind River Systems (WIND $12) for $11.50 per share, or about $884 million. WIND climbed nearly 50% on the announcement while INTC also booked gains.

Elsewhere, Data Domain (DDUP $33) said it is reviewing the counter offer coming from EMC Corp (EMC $13) to acquire the company for $30.00 per share. DDUP said its board is not making a recommendation with respect to the EMC offer and it is reaffirming its recommendation with regard to a merger with NetApp (NTAP $19), which sweetened its offer to acquire the firm yesterday. Shares of all firms were higher.

The SEC has charged former Chairman and CEO Angelo Mozilo of Countrywide Financial with insider trading, while former COO David Sambol, and former CFO Eric Sieracki are being charged with securities fraud for failing to disclose the firm’s deteriorating lending standards in its 2006 annual report. The SEC is charging that Mozilo sold hundreds of millions of dollars worth of Countrywide stock in late 2006 and 2007 while telling investors the company's prospects were good. A criminal investigation into the company is still ongoing, and details of that probe remain unknown.

Travelers Cos. (TRV $43), the newest addition to the Dow Jones Industrial Average, was higher after the insurer raised its earnings guidance for the year. Operating income is now projected to be $4.55-4.95 per share, an increase of $0.05 from its previous outlook. TRV also announced that it has initiated buying its own shares after capital and liquidity have been better than expected.

Ciena Corp (CIEN $11) managed modest gains despite reporting a loss of $0.25 per share in 2Q that was worse than the loss of $0.09 that analysts had expected. The communications firm saw its revenues cut by approximately 40% during the quarter to $144 million. Management noted that “customers continue to spend cautiously” and visibility into the second half of the year “remains limited.”

ADC Telecommunications (ADCT $8) announced that its 2Q earnings ex-items beat analyst expectations, coming in at $0.05 per share versus the projected gain of just $0.01 per share. Sales for the network equipment maker fell by 30% to $275 million. Management credited sales in China with its strong performance, while noting that spending in Europe remained “significantly below” last year’s level as customers there struggle with the recession. Although details have not been finalized, ADCT warned that it is planning job cuts in an attempt to reduce expenses. Shares were higher.

Treasuries fall as jobless claims ease and productivity increases

Treasuries finished the day lower as yields continue to rise. The yield on the 2-year note rose 4 bps to 0.95%, the yield on the 10-year note soared 17 bps to 3.71%, and the yield on the 30-year bond jumped 13 bps to 4.58% today. The recent sell-off in Treasuries has been the worst ever in such a short period. To some degree, this is a welcome development, as rising rates reflect optimism about an economic recovery. The trick is for the reversal to not get out of hand as rising borrowing rates intensify the delinquency crisis and put potholes on the path to banking system recovery. This underscores the pressure on the Fed to push for low Treasury yields until the banking system is healthier. In some ways, the biggest implication of higher yields could be on the Obama agenda, with Congress pressured to respond to rising deficits and their consequences as Fed Chairman Ben Bernanke noted in his comments to the House Budget Committee yesterday when he stressed that long-term government deficits threaten financial stability. In this respect, the sell off in Treasuries could reduce the odds of health care legislation along with other spending programs.

Weekly initial jobless claims (chart) fell by 4,000 to 621,000, versus last week's figure that was upwardly revised by 2,000 to 625,000. The Bloomberg consensus called for claims to reach 620,000. The four-week moving average rose by 4,000 to 631,250, and continuing claims unexpectedly eased modestly from a record level, falling 15,000 to 6,735,000, versus the forecast of 6,855,000. This marks the first time continued claims declined since the week of January 3rd and the first time in 17 weeks that they did not set a record, according to Reuters.

Final nonfarm productivity (chart) rose at a 1.6% annual rate in 1Q, higher than the Bloomberg forecast of 1.2%. Output fell 4.0% versus the same period a year ago. Unit labor costs rose 3.0%, versus a 2.9% estimate, and the number of hours worked declined 5.8% versus last year.

Labor report will cap off weekly economic data

Nonfarm payrolls will be reported tomorrow, and the expectation is that payrolls fell 520,000 in May, a decrease from the 539,000 level reported in April. The unemployment rate is forecasted to increase to 9.2% from 8.9%. The four-week average of initial jobless claims has come down from peak levels, but the impact of the automotive industry’s problems is just starting to come into play, with job losses expected from auto suppliers, dealers and manufacturers.

However, the unemployment rate is a lagging indicator, typically peaking seven months after a recession ends, on average. Additionally, the stock market is forward-looking, typically bottoming before the recession ends. As Schwab's Chief Investment Strategist Liz Ann Sonders describes in her article “Characteristics of an Economic Recovery,” the Lehman collapse last September, and the related devastating chain reaction in employment and production may now be reversing. At least for a period, cyclical, shorter-term forces trump secular, longer-term forces, and there’s an 80% correlation between the depth of the recession and the first year of growth. However, Liz Ann cautions that while the recession may be ending, the process is likely to be bumpy. Also, there remains a risk of a W-shaped cycle (a “double dip”), due to the impact of consumer deleveraging, and the risk of a rise in commodity prices and/or longer-term Treasury yields.

Consumer credit will also be released tomorrow, forecasted to show a decline of $6.0 billion in April, after falling $11.1 billion in March.