Evening Update

Dubai Bailout and Energy Acquisition Fuel Bulls

The week started off in style as stocks benefitted from some increased economic optimism that followed the announcement that Dubai will receive a $10 billion bailout from Abu Dhabi, and after Dow member Exxon Mobil revealed that it will acquire XTO Energy for about $41 billion. In other equity news, Citigroup reached an agreement with US regulators to pay back $20 billion of the loans it took from the government’s TARP program, while the European Commission reported that it was optimistic in its discussions surrounding Oracle’s proposed takeover of Sun Microsystems, and Cadbury rejected Kraft’s takeover bid for the UK confectioner. Treasuries were mixed with no economic reports released today, but the economic calendar will ramp up tomorrow, headlined by the start of the Federal Reserve’s two-day monetary policy meeting.

The Dow Jones Industrial Average rose 30 points (0.3%) to close at 10,501, the S&P 500 Index added 8 points (0.7%) to 1,114, while the Nasdaq Composite gained 22 points (1.0%) to 2,212. In light volume, 1.1 billion shares were traded on the NYSE and 1.8 billion shares were traded on the Nasdaq. Crude oil was $0.36 lower at $69.51 per barrel, wholesale gasoline lost $0.01 to $1.83 per gallon, and the Bloomberg gold spot price increased $8.80 to $1,124.20 per ounce. Elsewhere, the Dollar Index—a comparison of the US dollar to six major world currencies—was down 0.3% to 76.33.

Citigroup (C $4) announced that it has reached an agreement with the US government and its regulators to repay US taxpayers the $20 billion held in preferred securities that were loaned to the company through the Treasury’s Troubled Asset Relief Program (TARP) and to terminate the loss-sharing agreement with the government. The company said the securities transactions planned to facilitate the repayment include the immediate issue of $20.5 billion in capital and debt, including $17 billion in common stock and $3.5 billion of tangible equity units—comprised of prepaid common stock purchase contracts and subordinated notes. Citigroup’s CEO Vikram Pandit said the company planned to exit TARP only when it was convinced that it was prudent to do so. Pandit added that, “By any measure of financial strength, Citi is among the strongest banks in the industry, and we are in a position to support economic recovery.”

Citigroup received a total of $45 billion in TARP funds as a result of two separate cash infusions, but the government agreed to convert $25 billion of preferred stock held in the TARP into common stock, giving the government over a 30% stake in the US financial firm. The Treasury announced that it will begin unwinding this stake by selling up to $5 billion of its common stock that it holds, with the remaining amount set to be sold “in an orderly fashion” over the next six to twelve months. An official at the Treasury said the government could see a profit of $13-14 billion on the investment in the bank. Additionally, the company announced that it has decided to issue $1.7 billion of common stock equivalents to employees in lieu of cash they would have otherwise received. The company expects to take an approximate $8 billion pre-tax loss and expects a net reduction in annual interest expense of approximately $1.7 billion. Shares were lower.

In M&A news, Dow member Exxon Mobil (XOM $73) announced that it will acquire natural gas producer XTO Energy (XTO $48) in a deal valued at $41 billion—including $10 billion in debt—aimed at enhancing XOM’s position in the development of unconventional natural gas and oil resources. The all-stock transaction will involve XOM issuing 0.7098 common shares for each common share of XTO, representing a 25% premium to XTO’s closing price on Friday. The acquisition is subject to XTO stockholder approval and regulatory clearance. XTO was up nearly 15% on the day and fellow energy issues were higher on increased speculation that more consolidation in the sector may be in the offing. Share of XOM, however, were lower.

Shares of Sun Microsystems (JAVA $9) were solidly higher after the European Union’s executive Commission said it was optimistic about a “satisfactory outcome” of Oracle’s(ORCL $23) pending $7 billion takeover offer of JAVA. The comments follow ORCL’s announcement that it has engaged in “constructive discussions” with the European Commission regarding the concerns expressed by the Commission about the acquisition, in particular the maintenance of MySQL as a competitive force in the database market. ORCL reported that in order to further reassure the Commission it made several commitments pertaining to MySQL, including keeping competition open for users of MySQL storage engine architecture. Shares of ORCL were higher on the day.

In M&A news across the pond, Cadbury(CBY $52) reported that it has received interest from other potential suitors as it rejected Dow member Kraft Foods’ (KFT $27) 10 billion pound ($16.2 billion) bid to acquire the UK confectioner. The announcement came as the company boosted its sales and margin targets for the next four years. KFT issued a statement saying it was reviewing CBY’s reply and that it was confident that its offer was in the best interest of shareholders for both companies.

Fed meeting headlines the week’s economic calendar

Treasuries were mixed as there were no major reports scheduled on today’s economic calendar. The yield on the 2-year note rose 5 bps to 0.85%, the yield on the 10-year note was flat at 3.55%, while the yield on the 30-year bond fell 2 bp to 4.49%.

Tomorrow, the economic calendar will kick into gear with several key releases, highlighted by the release of the Producer Price Index for the month of November. The headline figure is expected to increase 0.8% month-over-month (m/m), following October’s smaller-than-expected gain of 0.3%, while excluding food and energy, the core rate is expected to follow last month’s unexpected decline by rising by 0.2% for November. Amid the backdrop of benign inflation pressures, which has provided the Federal Reserve with some wiggle room to keep its loose monetary policy deployed in order to focus on the employment side of its dual mandate, traders will be looking for any signs of pricing pressure making their way through the manufacturing process, possibly catching the eye of Fed officials. The Federal Reserve will meet this week and is not expected to change the fed funds rate, and given the fact that Federal Reserve Chairman Ben Bernanke has suggested that inflation could move lower from here, anything short of a surge in prices at the wholesale level likely will not have a huge impact on sentiment. However, the PPI—the first major inflation report of the month—could have an impact on retailers as the release depicts prices at which finished goods are purchased by these firms and can have an impact—if they choose to pass on the costs—on consumers, which are vital to the economy as they account for three-quarters of economic growth. However, since we are ensconced in the holiday shopping season, any pass through to the consumer may be limited as retailers are offering “deep discounts,” competing for sales of the recession-scared consumers. The Consumer Price Index, released on Wednesday, forecasted to increase 0.4% and 0.1% on the headline and core levels, respectively, will help paint that picture of how price changes morph throughout the manufacturing process into what the cash register tape reads at retail stores.

Also out tomorrow will be the release of industrial production and capacity utilization, forecast to rise 0.5% and improve to 71.2%, respectively, for the month of November. As the sun of the government’s “Cash-for-Clunkers” has set, traders will be looking to see if signs emerge that show whether or not the economic recovery continues to gain traction. The report will be released by the Federal Reserve on the same day as the Federal Open Market Committee (FOMC) begins its two-day monetary policy meeting and could have an impact on the language of the FOMC’s monetary policy statement on Wednesday, possible cluing traders in on when the Committee may begin the difficult task of raising interest rate in a matter timely enough to stave off inflation without sacrificing its other dual mandate of promoting full employment. The employment implications of the production aspect of the report will likely be in focus as growing production could foreshadow future hiring as companies will need to higher more workers if any late-year or holiday demand induces production growth, as productivity is surging.

As well, the December Empire Manufacturing Index is expected to rise to 24.00, and the NAHB Housing Market Index for December is anticipated to tick slightly higher to 18.

Dubai injection aids debt anxiety overseas

After rocking financial markets last month with its announcement that Dubai World—a privately-held holding company for the government of Dubai—was requesting a “standstill” on $26 billion in debt, the member of the United Arab Emirates said its neighbor Abu Dhabi will provide $10 billion in aid to help meet upcoming debt obligations, $4 billion of which was due today. The injection puts Abu Dhabi’s total support at $25 billion.

On the economic front in the European region, a report showed UK home prices fell 2.2% month-over-month in December, after declining 1.6% in November, and employment in the eurozone fell 0.5% quarter-over-quarter in 3Q. Moreover, a separate report showed eurozone industrial production declined 0.6% month-over-month in October, after gaining a downwardly revised 0.2% in the previous month and compared to the 0.7% decline that economists surveyed by Bloomberg had forecasted.

In Japan, the Tankan Large Manufacturers Index posted a -24 reading in 4Q, an improvement from the -33 number it reached in the previous quarter, and a better-than-expected level than the -27 that economists had forecasted. However, the negative number the Japanese manufacturing sentiment index posted continues to depict that pessimists still outweigh optimists and according to Bloomberg, the survey showed confidence among the nation’s large manufacturers increased by the smallest amount since the economy emerged from the recession. Additionally, the report noted that companies planned to reduce capital spending.

Looking at tomorrow’s international economic calendar, the Consumer Price Indexes in the UK, France, & Spain are expected, as well as retail sales in the UK.