Evening Update

Stocks End October on a Down Note

Stocks took a large step backwards today, capping a volatile week. After yesterday’s 200 point surge in the Dow, the index gave back 250 points today as investors chose to lock in gains and assess whether valuations remain attractive following the tremendous rally since March. Economic reports were in focus today and all of this morning’s data either matched or beat expectations. The economic calendar yielded a decline in personal spending in the absence of “Cash for Clunkers” auto spending, a jump in the Chicago PMI, and a positive revision to the University of Michigan Consumer Sentiment Index – although it still showed consumers to be less optimistic in October than they had been in September. Treasuries were higher after the reports. In equity news, 3Q earnings releases showed more positive reports, this time from Chevron, MetLife, and Hertz Global. Some announcements in the tech sector coming from Asia were less positive though as Nintendo had to lower its guidance because of weak sales of the Wii, Sony raised its earnings outlook as cost-cutting efforts are counterbalancing poor sales, and Samsung said it expects strong demand but a negative currency impact on its profits next quarter.

The Dow Jones Industrial Average fell 250 points (2.5%) to close at 9,713, the S&P 500 Index lost 30 points (2.8%) to 1,036 and the Nasdaq Composite retreated 52 points (2.5%) to 2,045. In moderate volume, 1.7 billion shares were traded on the NYSE and 2.6 billion shares were traded on the Nasdaq. Crude oil was $2.87 lower at $79.87 per barrel, while wholesale gasoline was down $0.06 to $1.96 per gallon, and the Bloomberg gold spot price lost $1.80 to $1,045.20 per ounce. Elsewhere, the Dollar Index—a comparison of the US dollar to six major world currencies—was up 0.6% to 76.39. For the week, the DJIA declined 2.6%, the S&P 500 Index dropped 4.0%, while the Nasdaq Composite was lower by 5.1%.

Dow member Chevron (CVX $77) reported 3Q EPS ex-items of $1.72, topping the $1.47 that Wall Street analysts were expecting, with revenues falling from $76 billion last year to $45 billion, which was short of the $47.8 billion that the Street had forecasted. The oil and gas firm said the decline in revenues was primarily due to lower prices for crude oil, natural gas and refined products. Rival Exxon Mobil (XOM $72) cited similar factors in its earnings report yesterday, which missed analyst forecasts. Shares of Chevron were lower.

MetLife (MET $34) reported 3Q EPS excluding investment losses of $0.87, inline with the expectations of Wall Street analysts, and total revenues dipped 1% versus last year to $12.4 billion, which was above the $12.2 billion that had been predicted by analysts. The insurer said despite the current economic challenges, it experienced increased sales in a number of product areas in both the US and internationally, and it also benefitted from expense savings. Shares in MetLife were solidly lower though amid uneasiness regarding the firm’s investment losses, which totaled $1.4 billion, and after the company’s CFO said the company is still keeping more capital on the sidelines than it ordinarily would and he does not expect investment returns to stage a “springback recovery” in 2010.

Hertz Global (HTZ $9) reported adjusted 3Q EPS of $0.31, seven cents above the Street’s forecast, with revenues dropping 15.7% versus last year to $2.0 billion, which matched analyst expectations. The car rental firm said its earnings performance reflects sustained progress on expense management which offset soft, but improving, business travel demand and stabilizing equipment rental volume. Shares fell.

Nintendo (NTDOY $32) reduced its full-year profit forecast, blaming weak sales of its Wii gaming console. Net income will fall to 230 billion yen ($2.5 billion) this year, the videogame maker said. That will make it the first annual drop in profit in six years and also miss forecasts as analysts surveyed by Bloomberg had been expecting earnings of 270 billion yen on average. A lack of strong software titles for the Wii console was cited as a key factor in the weak results but the company was still upbeat about its prospects. "The message we can give to the market is that you have to look at our track record and believe that we can introduce software that will be a hit," the company’s President explained. Shares were slightly higher.

Meanwhile, fellow Asian tech bellwether, Sony Corp (SNE $29) reported its third-straight quarterly loss on weak cellphone sales and price reductions to its PlayStation 3 gaming console, although it did narrow its full-year loss forecast. Cautious demand and pricing pressure continue to hamper the company. "The trend for prices to come down will continue for some time to come," the company’s CFO said, citing lower-end television products in particular as a weak area. "We are quite cautious in foreseeing end-of-year sales," he added. "In the first quarter and second quarter there was an upside in sales, but the critical moment is the Christmas season and we are not too optimistic." For the full-year, the company said it now expects a net loss of 95 billion yen, compared with a net loss of 98.9 billion yen it suffered last year and its earlier forecast of a loss of 120 billion yen for this year as its cost-cutting efforts are helping to offset weak sales. Shares were down.

Rounding out the technology announcements coming out of Asia, Samsung Electronics (SSNLF $685) advanced after the world’s largest maker of memory chips reported favorable quarterly profits, but sentiment was tempered by a cautious outlook on the impact of the stronger South Korean won on its profits. All of the company’s businesses enjoyed significant improvement in operating profit during the quarter versus the same period last year, although the gain was the smallest in the company’s cellphone division, which contributes the largest share of the group’s revenue. The company said it expects further strong performance next quarter, although earnings are expected to decline on a sequential basis as a result of the stronger local currency.

Personal outlays match expectations, but consumer sentiment falls from September level

Personal income was flat in September, matching the Bloomberg estimate, and August was revised from a 0.2% increase to 0.1%. Personal spending fell 0.5% in September, also inline with the Bloomberg expectation, while August’s 1.3% rise was upwardly revised to a 1.4% gain. The savings rate increased from a downwardly revised 2.8% in August to 3.3% in September. The government’s “Cash for Clunkers” program to stimulate auto demand was largely to blame for the fall in spending. ”Purchases of motor vehicles and parts accounted for most of the decrease in September and for most of the increase in August,” the report said. As a result, spending on durable goods – which includes cars – fell 7.2% from last month’s level. Meanwhile, spending on nondurable goods – including products intended to last less than three years – actually rose 0.5% and spending on services increased 0.1%. That increase, although not large, appears to indicate that consumer spending is showing signs of stabilizing even without government support.

Also, the PCE Price Index, which is released with the income and spending data, fell 0.5% year-over-year in September, matching the consensus forecast, and August’s decline was left unrevised at -0.5%. The core PCE Price Index, which excludes food and energy, rose 0.1%, below expectations of 0.2%. Year-over-year, core prices moved 1.3% higher, inline with the consensus of economists surveyed by Bloomberg.

Elsewhere, the Employment Cost Index for 3Q rose 0.4%, inline with the Bloomberg consensus. Wages and salaries, and benefits, both gained 0.4%. The report should help keep the inflation side of the Federal Reserve’s dual mandate subdued, continuing to give the Fed leeway to keep its loose monetary policy intact, if it chooses, in order to ensure that the economic recovery is taking hold before it needs to begin raising interest rates. The FOMC will meet next week and are expected to leave the fed funds rate near zero, but traders will closely scrutinize the accompanying monetary policy statement.

Meanwhile, the final University of Michigan’s Consumer Sentiment Index improved from 69.4 in the preliminary report to 70.6 in October, above the Bloomberg forecast, which called for a increase to 70.0. Although the index was favorably revised, it was still below the 73.5 level it reached in September. The current conditions component of the report increased from 73.4 in September to 73.7, but the expectations component deteriorated from 73.5 to 68.6. Inflation expectations ticked higher with the one-year outlook rising from 2.2 to 2.9, while the five-year expectation rose slightly from 2.8 to 2.9.

Rounding out a busy day on the economic front, the Chicago PMI (chart) rose more than expected, increasing from 46.1 in September to 54.2 in October—a level depicting economic expansion, which comes from a reading above 50. The expectation of economists surveyed by Bloomberg called for the index to increase to 49.0. New orders jumped from 46.3 in September to 61.4 this month, and order backlog rose from 36.7 to 41.9.

Treasuries finished higher following the data. The yield on the 2-year dipped 8 bps to 0.90%, the yield on the 10-year note dropped 11 bps to 3.39%, and the yield on the 30-year bond decreased 10 bps to 4.23%.

October ends on a sour note

Stocks suffered a volatile week, with Thursday’s rally being the only positive day in an otherwise sea of red. The heavy losses this week ensured that the S&P 500 and Nasdaq both finished in negative territory for the month of October, although the Dow still clung to a slight gain for the month. Although news flow was not all positive this week, a large portion of the sell-off appeared to stem primarily from profit-taking, as investors grappled with the fundamental question of whether the 50% rally since March has outpaced the country’s improved economic conditions.

Economic news this week was heavy on housing data, and the S&P/Case-Shiller Home Price Index registered a smaller-than-expected decline of just 11.3% year-over-year in August. On a month-over-month basis, home prices even managed a small gain. Investors viewed the report with some skepticism though as the data is somewhat dated and represents prices from two months ago. A more timely reading of housing conditions – the new home sales report – was surprisingly weak, notching a 3.6% month-over-month decline in September. That report added to the growing uneasiness that the housing recovery may flounder once the government’s $8,000 first-time homebuyer credit expires. A proposal to extend that subsidy is being debated in Congress, although no decision has yet been reached. Elsewhere, the government released its first reading of the nation’s 3Q Gross Domestic Product (GDP) on Thursday and the 3.5% growth in the nation’s output was better than economists had expected, which sparked the only positive day on Wall Street in the past five.

On the equity front, more 3Q earnings reports streamed in, almost universally beating the average expectation of Wall Street analysts. Verizon Communications (VZ $29), Corning (GLW $16), TD Ameritrade (AMTD $19), US Steel (X $37), Procter & Gamble (PG $60), and Motorola (MOT $9) were among the many companies beating forecasts this week. Among the pockets of weakness revealed this week, health insurers such as Amerigroup (AGP $22), WellPoint (WLP $46), and Aetna (AET $27) all forewarned that rising medical costs will negatively impact their earnings next quarter, due primarily to more unemployed workers and a more severe flu season. Also, lower oil and gas prices and pressured refining margins weighed on the results of companies in the energy sector such as Valero (VLO $19) and Exxon Mobil.

Jobs and Fed meeting likely highlights in next week’s busy schedule

The two-day Federal Open Market Committee (FOMC) meeting next week concludes with the release of the statement mid-day Wednesday. No changes are expected to interest rate policy at the meeting. The only change made at the September meeting was that the Fed extended the timing of the mortgage-backed security purchase program, but minutes from the meeting showed that some believed an increase in the size of the program may be needed to reduce slack in the economy.

The ISM Manufacturing Index will be released Monday, forecasted to improve to 53.0 in September from 52.6 in August, indicating further expansion in the manufacturing sector. Wednesday brings the companion ISM Non-Manufacturing Index, expected to have increased to 51.6 from 50.9 in August.

The ADP Employment Change Report will also be released Wednesday, and while the report has not always correlated with the monthly trends in the government’s labor report, traders view it as another read on the employment situation. The forecast is that private sector employers shed 190,000 jobs in October after declining by 254,000 in September.

Nonfarm payrolls will headline the week on Friday, with the Bloomberg survey of economists forecasting payrolls fell 175,000 in October after an unexpected accelerated decline of 263,000 in September, and the unemployment rate is estimated to have increased to 9.9% in October from 9.8% in September.

Other releases on next week’s busy economic calendar include construction spending, pending home sales, factory orders, MBA Mortgage Applications, nonfarm productivity, initial jobless claims, wholesale inventory and consumer credit.

UK home prices rise, Canada GDP figures disappoint, Japan starts to remove stimulus

In economic data out of Europe, a report showed UK Home prices posted their first annual gain in 19 months. The average price of a home increased 0.4% to 162,038 pounds ($268,334), the sixth consecutive month-over-month increase, and approximately 2% higher than in October last year, the report said. That was the first year-over-year increase since March 2008. Home prices in the UK are now almost 20% below their peak in 2007, according to Bloomberg.

Meanwhile, the Canadian government reported that its GDP unexpectedly contracted month-over-month in August, falling 0.1% versus the expectation of economists surveyed by Bloomberg that called for output to grow 0.1%. Part of the weakness was attributable to maintenance work on the country’s oil and gas fields. "Oil and gas extraction fell 2.3 percent in August, as maintenance work at some crude petroleum facilities on the East Coast slowed production," the government said. That was not the only weak spot though, as manufacturing was also down 0.7% and the mining sector shrank 1.4%. The strength of the Canadian dollar was again blamed for some of the weakness in the country’s exports, more than four-fifths of which go to the US. “Like the governor of the Bank of Canada, we are concerned with volatility in our currency,” Finance Minister Jim Flaherty said.

In Asia, the Japanese central bank announced that it will remove some of its stimulus measures by ceasing to buy both corporate bonds and commercial paper at the end of the year. The Bank of Japan’s commercial paper buying auction last week received no bids for the third time in a row, and issuance rates for the paper are now lower than the cost of government borrowing, which central bankers have pointed to in recent statements indicating that the program could be coming to an end. The BOJ also today announced that it expects deflation in the country to remain through at least the end of 2011, which implies that interest rates may remain near zero for some time. "While Japan's economy is expected to remain on a recovery trend in fiscal 2010, the pace of improvement is likely to be moderate until around the middle of fiscal 2010," the bank said. "This is because the pace of recovery of the global economy is likely to remain moderate and also because, in Japan, pressures to adjust employment and wages are likely to remain, while effects of demand-boosting policy measures wane."