Evening Market Update

Plethora of Events Weigh on Equities

Stocks gained some steam in early afternoon action after bumping along the flatline early in the day, only to tumble into the close after Moody’s Investors Service downgraded the credit rating of Ireland, adding further jitters to the eurozone debt anxiety. The downgrade came amid already growing fears that the eurozone sovereign debt contagion may spread to larger European economies, while uncertainty regarding the US debt ceiling debate also added to a lack of confidence in the equity markets. Meanwhile, the minutes from the last FOMC monetary policy meeting released midday showed policymakers were split over additional stimulus. In equity news, Dow member Alcoa reported EPS that fell short of analysts’ estimates but beat on the revenue side and NCR Corp agreed to acquire Radiant Systems in a deal worth $1.2 billion. Meanwhile technology shares pressured the Nasdaq following disappointing outlooks from semiconductor companies Microchip Technology and Novellus Systems, while Cisco Systems may cut up to 10,000 jobs in an effort to streamline its operations. Treasuries finished higher, showing little reaction to a dip in small business confidence and a widening trade deficit, but reversing course following the debt downgrade.

The Dow Jones Industrial Average fell 59 points (0.5%) to 12,447, the S&P 500 Index lost 6 points (0.4%) to 1,314, while the Nasdaq Composite declined 21 points (0.7%) to 2,782. In moderate volume, 924 million shares were traded on the NYSE and 2.0 billion shares changed hands on the Nasdaq. WTI crude oil was $2.28 higher at $97.43 per barrel, wholesale gasoline gained $0.03 to $3.10 per gallon, and the Bloomberg gold spot price rose $14.80 to $1,568.28 per ounce. Elsewhere, the Dollar Index—a comparison of the US dollar to six major world currencies—was up 0.1% at 76.07.

Dow member Alcoa Inc. (AA $16) unofficially kicked off 2Q earnings season by posting profits ex-items of $0.32 per share, one cent short of the consensus estimate of analysts surveyed by Reuters. But the aluminum producer reported revenues, which grew 27% year-over-year (y/y) to $6.6 billion, topping the $6.3 billion that the Street was looking for. The company said, “Although the economic recovery is uneven, the overall outlook for Alcoa—and for aluminum—remains positive,” with demand for aluminum continuing to rise along with growth in its major markets. AA added that these factors support its projection that aluminum demand will grow 12% this year and will double by 2020. Shares were marginally lower.

In other earnings news, Microchip Technology Inc. (MCHP $33) was sharply lower after the chip company lowered its fiscal 1Q guidance, saying it expects revenues to be down about 1.5% quarter-over-quarter (q/q), from a previous outlook of a slight increase. Also, MCHP said EPS are expected to be in the range of $0.53-0.55, revised from an early forecast of between $0.58-0.62. The company said its sales activity during the quarter “did not progress as we originally expected,” citing a decline in its automotive business as a result lower production activities including supply issues from other manufacturers associated with the earthquake in Japan. Moreover, MCHP said its consumer business was “soft” as poorer global economic conditions resulted in low consumer confidence, while its computing business was also lower than expected, with reduced purchases by “multiple large customers” in this sector.

In related industry news, chip equipment company Novellus Systems Inc. (NVLS $32) finished solidly lower after reporting 2Q revenues of $350 million, missing the $352 million that the Street had forecasted. Also, NVLS issued a disappointing outlook for 3Q orders, citing that its customers at the foundry segment are turning more cautious on equipment orders. The sales and guidance is more than offsetting its 2Q EPS results that exceeded analysts’ expectations by three pennies.

In M&A news, NCR Corp. (NCR $19) announced that it has reached a definitive agreement to acquire Radiant Systems Inc. (RADS $28) for $28.00 per share in cash, with an equity purchase price of $1.2 billion. NCR said the deal, which is expected to close in 3Q, is anticipated to be accretive to its earnings in 2012. NCR was lower, while RADS was over 30% higher.

Meanwhile, Bloomberg reported that Cisco Systems Inc. (CSCO $16) may cut up to 10,000 jobs, or 14% of its workforce, as many as 7,000 by the end of August, in an effort to pare costs and exit less-profitable businesses as it continues to lose market share to its competitors. A spokesperson for the network-equipment maker said it “will provide additional details of cost reductions, including layoffs, on our next earnings call,” referencing the earnings call scheduled in early August. Shares of CSCO were higher.

Small business confidence wanes, trade deficit widens, Fed minutes

The NFIB Small Business Optimism Index surprisingly slipped in June, dipping from 90.9 in May to 90.8, compared to the expectation of economists surveyed by Bloomberg, which called for the index to increase to 91.2. The unexpected dip came as the number of firms reporting expectations of higher sales and a better economy deteriorated, offsetting plans to increase capital spending and hiring, while forecasts for increased inventory came in unchanged.

Elsewhere, the trade deficit expanded more than expected, widening to $50.2 billion in May from a modestly favorable revision of $43.6 billion in April, versus the estimate of economists, which called for the deficit to widen to $44.1 billion. Exports declined 0.5% month-over-month (m/m) to $174.9 billion, while imports increased 2.6% m/m to $225.1 billion. The price of imported crude oil rose from $103.18 per barrel in April to $108.7 per barrel in May, and the quantity of imported oil rose 9.1% m/m to 275.3 million barrels.

Treasuries moved higher following Moody’s downgrade of Ireland, with the yield on the 2-year note down 1 bp to 0.36%, the yield on the 10-year note 3 bps lower at 2.89%, while the 30-year bond yield declined 2 bps to 4.18%.

The minutes from the April Federal Open Market Committee (FOMC) meeting were released midday, which revealed that along with the Fed’s downgraded economic assessment, a few members noted that if economic growth remained too slow to reduce the unemployment rate and if inflation returned to relatively low levels after the effects of recent transitory shocks dissipated, “it would be appropriate to provide additional monetary policy accommodation.” However, the report showed a few Committee members viewed an increase in inflation risks as suggesting that “economic conditions might well evolve in a way that would warrant taking steps to begin removing policy accommodation sooner than currently anticipated.”

Also, despite its reduced economic outlook and some discussion of further policy accommodation, today’s report showed the Fed mostly agreed on the progression of returning to normal policy, but gave no indication when this will occur. To begin the process, the Fed said it will likely first cease reinvesting some or all payments of principal on securities purchased during its QE2 program, then the Committee will modify its guidance on the path of the fed funds rate and will initiate temporary reserve-draining operations aimed at supporting the implementation of increases in the Fed Funds rate. The next step in the process will be to begin raising its target for the fed funds rate, which will be the primary means of adjusting the stance in monetary policy. After the first increase in the fed funds rate, sales of agency securities will likely commence, with the timing and pace of sales being communicated to the public in advance. The Fed noted that once sales begin, the pace is expected to be aimed at eliminating holdings of agency securities over a three-to-five year period, with the size of its securities portfolio normalizing over a period of two-to-three years.

Finally, the Committee agreed to observe a blackout period on monetary policy communication that begins on the Tuesday morning of the week prior to each regularly-scheduled FOMC meeting and ends on the Thursday following the meeting. During the blackout period, participants will refrain from expressing their views about macroeconomic developments or monetary policy issues in meetings of conversations with members of the public.

The only other items on tomorrow’s US economic calendar are the Import Price Index, forecasted to decline 0.6% m/m in June following a 0.2% gain in May, and MBA Mortgage Applications.

Debt contagion concerns remain overseas

Concerns that the eurozone sovereign debt crisis may spread to larger European economies continued to hamper sentiment overseas. The uneasiness was focused on the possibility that the crisis, which has forced bailouts of smaller peripheral eurozone nations of Greece, Ireland, and Portugal, could reach the larger nations of Spain and Italy, which have debt levels that far exceed the peripheral nations. Meanwhile, European finance ministers held talks again today on constructing a new financial rescue package for Greece and a consensus agreement among officials appears elusive as key eurozone players continue to be at odds on the best way to help the debt-laden nation get its debt obligations under control. However, in a statement released by the 17 euro governments involved in the summit, the finance chiefs pledged to create a new master plan to end the crisis “shortly,” without setting a timetable. The mood was tempered somewhat after Italy successfully conducted a debt auction, which raised its target capital amount in one-year bills, but yields the nation will have to pay rose. Also, reports that the European Central Bank (ECB) stepped in the secondary markets to buy debt of Italy and Spain helped sentiment, but the ECB did not comment on whether it had indeed purchased bonds today. As well, late in the day, Moody’s Investors Service downgraded the sovereign credit rating of Ireland to Ba1 from Baa3.

The debt concerns in the region continued to overshadow the economic calendar, as reports that showed UK inflation came in cooler than economists had projected, while German and French consumer prices were inline with expectations, had little impact. In other economic news, the UK trade deficit unexpectedly widened in May and June home prices in the UK improved by a smaller amount than anticipated.

Economic news further east was light, but the growing uncertainty surrounding the US debt ceiling debate and sovereign debt contagion fears in the eurozone continued to unnerve investors. However, the Bank of Japan (BoJ) concluded its monetary policy meeting, in which it kept its benchmark interest rate unchanged near zero, as expected, but the central bank said, “Japan’s economy is picking up as supply constraints for the earthquake ease,” but also warned that downside risks to its economic outlook are tied to the developments in the US and Europe, and emerging nations face a difficult task of controlling inflation and sustaining economic growth. Elsewhere, a report showed that new yuan loans in China rose more than what economists had expected, while India’s industrial production unexpectedly slowed in May.

Tomorrow’s international calendar will provide a number of reports out of China, including GDP, industrial output and fixed asset investment, as well as retail sales, and Japan will provide industrial production. European economic reports will include CPI from Spain, employment figures from the UK, and industrial production in the eurozone.