Evening Market Update

Bulls Big Day Stymied on Uncertainty over Additional Stimulus

US stocks finished in the green, but well off the highest levels of the day after losing steam late in the trading session. Federal Reserve Chairman Ben Bernanke gave the markets an early boost in his testimony before Congress after suggesting that further monetary policy stimulus is not off the table, while better-than-expected economic data out of China also contributed to the strong start. However, gains were pared after subsequent comments from Dallas Fed President Richard Fisher suggested that not all Fed members would support additional easing. Treasuries were flat after paring early losses, and amid a decline in US import prices and a decrease in mortgage applications. The equity front was dominated by M&A news, as Electronic Arts agreed to acquire PopCap Games for up to $1.3 billion, Validus Holdings Ltd offered to acquire TransAtlantic Holdings for about $3.5 billion in cash and stock, and a group of investors led by private-equity fund Apax Partners announced an agreement to acquire Kinetic Concepts for about $6.3 billion, including debt. In other equity news, Capital One Financial beat the Street’s 2Q earnings estimates and announced a $2 billion share offering, while News Corp withdrew its bid for British Sky Broadcasting Group Plc.

The Dow Jones Industrial Average rose 45 points (0.4%) to 12,492, the S&P 500 Index increased 4 points (0.3%) to 1,318, while the Nasdaq Composite advanced 15 points (0.5%) to 2,797. In moderate volume, 884 million shares were traded on the NYSE and 1.9 billion shares changed hands on the Nasdaq. WTI crude oil was $0.42 higher at $97.85 per barrel, wholesale gasoline gained $0.04 to $3.14 per gallon, and the Bloomberg gold spot price rose $14.42 to $1,582.18 per ounce. Elsewhere, the Dollar Index—a comparison of the US dollar to six major world currencies—was down 1.0% at 75.21.

In M&A news, Electronic Arts Inc. (ERTS $24) announced that it reached an agreement to acquire digital and social gaming company PopCap Games in a transaction worth up to $1.3 billion. ERTS said it will pay $650 million in cash and $100 million in stock initially, with further cash compensation coming if certain earnings performance targets are reached through December 2013. ERTS also reaffirmed its fiscal 1Q and full-year 2012 guidance. ERTS traded lower.

Elsewhere, Bermuda-based reinsurer Validus Holdings Ltd. (VR $28) announced late yesterday that it has issued a proposal to acquire US-based reinsurance firm TransAtlantic Holdings Inc. (TRH $52) for $55.95 per share, or about $3.5 billion in cash and stock. The offer comes as TRH and Swiss-based Allied World Assurance Co. Holdings AG (AWH $57) agreed to a merger last month for $3.2 billion in stock. VR said its offer “clearly constitutes a superior proposal” to the agreement reached between TRH and AWH. TRH said it will review the proposal, while AWH has not commented on VR’s offer. VR traded solidly lower, while TRH moved nicely higher and AWH finished to the upside.

Moreover, News Corp. (NWSA $16), under pressure from UK regulators amid a hacking scandal at its News of the World newspaper, announced that it has withdrawn its bid for British Sky Broadcasting Group Plc. (BSYBY $45). NWSA said it is “too difficult to progress in this climate,” but that it is still committed to a long-term shareholder relationship with BSYBY. NWSA was higher, while BSYBY erased early losses and finished higher in European trading.

Finally, Kinetic Concepts Inc. (KCI $68) traded higher after a consortium of investors led by private-equity fund Apax Partners announced that it will acquire the hospital bed and wound-care company for $68.50 per share in cash, or about $6.3 billion, including the assumption of debt. Apax is teaming up with affiliates of Canada Pension Plan Investment Board and the Public Sector Pension Investment Board.

In earnings news, Capital One Financial Corp. (COF $51) reported 2Q EPS of $1.97, well above the $1.71 consensus estimate of analysts surveyed by Reuters, with revenues increasing 2.3% year-over-year (y/y) to $4.0 billion, versus the $3.95 billion that the Street expected. The credit card firm noted that its charge-off rate and provision expenses for bad loans improved, while its key capital ratio rose. However, the stock finished lower as it separately announced a $2 billion stock offering in order to fund a portion of its previously announced acquisition of ING Direct.

Fed Chief testifies before Congress, while import prices fall and mortgage apps decline

Federal Reserve Chairman Ben Bernanke began his two-day semi-annual monetary policy report in front of Congress by speaking to the House of Representatives. Bernanke noted that the US economy has continued to recover, though the pace of expansion so far this year has been “modest,” and the unemployment rate has moved back above 9%. However, the Fed Chair pointed out that the recent weaker-than-expected economic performance appears to have been the result of “several factors that are likely temporary.” He added that looking ahead, the apparent stabilization in the oil and commodity prices “should ease” the pressure on household budgets and a substantial increase in production, which has been hampered by the Japanese earthquake, is expected this summer. “Once the temporary shocks that have been holding down economic activity pass, we expect to again see the effects of policy accommodation reflected in stronger economic activity and job creation,” Bernanke stated.

Meanwhile, the Fed Chairman, reiterating what yesterday’s release of the minutes from its June meeting revealed, noted “that the possibility remains that the recent economic weakness may prove more persistent than expected and that deflationary risks might reemerge, implying a need for additional policy support.” But Bernanke also pointed out that the economy could evolve in a way that would “warrant a move toward less-accommodative policy.” 

The Q&A session that followed Bernanke’s remarks was focused on the US deficit issues, in particular, raising the debt ceiling. The head of the Fed urged lawmakers to raise the debt ceiling, noting that a default by the US would cause a “major crisis.” Its not believed there is any real risk of a US default, due to not raising the debt ceiling, but there is concern about the deal that may be made in Washington. Spending needs to be cut, but details are important including the timing of the cuts and whether there's a bias toward budget gimmickry. If too much cutting is pushed out into future years, any short-term benefits to the recovery would be offset by longer-term continued uncertainty. 

In other economic news the Import Price Index declined 0.5% month-over-month (m/m) for June, compared to the expectation of economists surveyed by Bloomberg, which called for the index to decrease by 0.6%. This was the first monthly decrease in a year, and follows the 0.1% increase seen in May, which was revised from an initially reported 0.2% rise. Fuel prices fell for the second-straight month—but remained sharply higher compared to last year—while prices for industrial supplies and materials, as well as food, also led the decline.

Year-over-year, import prices are higher by 13.6%, versus the 13.2% forecast of economists, and the upwardly revised 12.8% gain that was posted in May. Today’s report is the first look at inflation for June, and tomorrow we will get the release of the Producer Price Index (PPI), forecasted to decline 0.2%—which will also be the first drop in a year—m/m, after rising 0.2% in May. Excluding food and energy, the core PPI is expected to increase by 0.2%, matching the gain seen in May. Compared to the same period last year, the headline and core PPI rates are forecasted to tick higher to 7.4% and 2.2%, respectively.

Finally, the MBA Mortgage Application Index declined 5.1% last week, after the index that can be quite volatile on a week-to-week basis, fell by 5.2% in the previous week. The decrease came as a 6.2% drop in the Refinance Index was accompanied by a 2.6% decline in the Purchase Index. Elsewhere, the average 30-year mortgage rate dropped by 14 basis points (bps) to 4.55%.

Treasuries were mostly unchanged after paring early losses, as the yields on the 2-year and 10-year notes were flat at 0.36% and 2.88%, respectively, while the yield on the 30-year bond declined 1 bp to 4.16%.

Chinese data helps global sentiment

In economic news in Europe, Germany’s wholesale prices came in cooler than economists anticipated, while eurozone industrial production rose at a slower-than-forecasted rate and UK jobless claims increased more than projected. Elsewhere, financial shares in the region, led by Italian firms, gained ground amid the relatively calm euro-area debt concerns, despite yesterday’s downgrade of Ireland’s sovereign credit rating by Moody’s Investors Service, which also warned that the debt-laden nation would likely need a second bailout, per Reuters. Additionally, Fitch Ratings downgraded the issuer default ratings of Greece deeper into junk territory due to the absence of a new, fully funded and credible aid program.

In Asia/Pacific news, China’s 2Q GDP rose 9.5% y/y, compared to the 9.3% rate of expansion that economists expected, and the 9.7% growth that was seen in 1Q. Also, a separate report showed Chinese industrial production unexpectedly accelerated in June, rising 15.1% y/y, after increasing 13.3% in May, and compared to the 13.1% gain that was projected, while fixed asset investment increased slightly less than expectations. Elsewhere, a final reading of industrial production in Japan showed a 6.2% expansion in May, revised upward from 5.7%, and Australia’s consumer confidence fell solidly in July.

PPI, advance retail sales on tomorrow’s docket

In addition to the aforementioned Producer Price Index (PPI), we will get a look at the health of the retail sector tomorrow in the form of advance retail sales, forecasted to dip 0.1% m/m in June, after falling 0.2% in May, while sales ex-autos are anticipated to be flat and ex-autos and gas, sales are estimated to grow 0.4%. June same-store sales results—sales at stores open at least a year—reported by retailers last week broadly bested economists’ forecasts and traders will be looking for indications that the consumer remains relatively resilient in the face of the slowing economy and higher food and energy prices that are threatening discretionary income. Finally, weekly initial jobless claims will be released, expected to fall to 415,000 from 418,000.

Releases on the international front include eurozone CPI, Italian CPI, Japan’s machine tool orders and India’s wholesale prices.