Evening Market Update

Weak Manufacturing Data Erases Debt Deal Rally

Stocks were taken for a volatile ride today, as early gains on news of a bi-partisan deal to raise the US debt limit quickly evaporated following the release of a disappointing read on US manufacturing. Ultimately, the equity markets managed to finish just slightly below the flatline, as whipsawed investors anxiously await House and Senate votes on the agreed-upon plan, which looks to raise the debt ceiling by $2.1 trillion and cut government spending by $2.4 trillion. Treasuries were mixed after showing little reaction to the news out of Washington, while the only other release from the domestic economic docket was an increase in construction spending. In equity news, Allstate Corp. reported its first quarterly loss in two years on a jump in claims, Loews Corp. announced 2Q earnings that fell short of the Street’s expectations, while Humana managed to beat bottom-line estimates. Outside of earnings, Medicare announced a reduction in reimbursement rates for nursing-home operators, and Windstream Corp. agreed to acquire Paetec Holding Corp. for about $2.3 billion, including the assumption of $1.4 billion in debt.

The Dow Jones Industrial Average lost 11 points (0.1%) to 12,132, the S&P 500 Index fell 5 points (0.4%) to 1,287, and the Nasdaq Composite declined 12 points (0.4%) to 2,745. In heavy volume, 1.1 billion shares were traded on the NYSE and 2.2 billion shares changed hands on the Nasdaq. WTI crude oil fell $0.51 to $95.19 per barrel, wholesale gasoline was unchanged at $3.06 per gallon, and the Bloomberg gold spot price declined $7.55 to $1,619.50 per ounce. Elsewhere, the Dollar Index—a comparison of the US dollar to six major world currencies—was 0.7% higher at 74.29.

Allstate Corp. (ALL $28) swung to a 2Q loss ex-items of $1.23 per share, above the $1.56 per share shortfall expected by analysts surveyed by Reuters, its first quarterly loss in more than two years. A season rife with tornadoes and storms pushed the insurer's property-liability ratio—a gauge of how much was paid out vs. each dollar collected in premiums—to 123.3%, up from 96.8% a year ago. Shares moved higher.

In related industry news, Humana Inc. (HUM $72) reported 2Q EPS of 2.50 ex-items, ahead of the $2.05 expected by analysts, as revenues rose 8.1% year-over-year (y/y) to $9.28 billion, but short of forecasts calling for sales of $9.35 billion. The managed health care company’s Chairman and CEO said the results demonstrate its “on-going commitment to operational excellence across all lines of business,” adding, “We believe the reinvestment spending we intend to make in the back half of 2011 will further position us for success in 2012 and beyond.” Despite the results, HUM traded lower, along with most other health-care providers, as Medicare announced that it will cut payment to skilled nursing facilities by 11.1%, beginning October 1, as a result of what the Centers for Medicare and Medicaid Services said was additional data confirming the “extent of overpayments that have occurred.”

In other earnings news, Loews Corp. (L $39) posted a 2Q profit of $0.62 per share, well shy of the $0.84 estimate of analysts, as large catastrophe losses at CNA Financial Corp. (CNA $26), of which it has 90% ownership in, contributed to a 55% drop in the insurance unit’s profits. Revenues of the conglomerate rose 1.6% to $3.54 billion. Meanwhile, CNA reported earnings ex-items of $0.43 per share, below the $0.51 forecasted by the Street. Both L and CNA finished lower.

In M&A news, Windstream Corp. (WIN $12) agreed to acquire Paetec Holding Corp. (PAET $5) in an all-stock deal valued at approximately $891 million. WIN will also assume or refinance nearly $1.4 billion of PAET’s net debt, and the combined company will provide telecommunication services to customers in 46 states. Shares of WIN were modestly lower, while PAET moved nicely higher.

US manufacturing decelerates sharply, construction spending ticks higher

The ISM Manufacturing Index fell more than expected in July to 50.9 from 55.3 in June, while the expectation was for the index to decrease to 54.5, with 50 marking the level that denotes expansion. The underlying components within the report were also disappointing, particularly new orders, which fell into contraction territory for the first time since June 2009, with a reading of 49.2 in July, down 2.4 points from June, and employment declining 6.4 points to 53.5 in July, the lowest reading since December 2009. Additionally, supplier deliveries, a component within the Leading Economic Indictors Index, fell 5.9 points to 50.4. Positively, prices paid declined 9 points to 59.0, down 26.5 points from the high reached in April.

In other economic news, construction spending rose for the third straight month, slightly more than expectations, gaining 0.2% m/m in June versus the 0.1% increase forecasted by a Bloomberg poll of economists, while May’s previously-announced 0.6% decline was favorably revised to an increase of 0.3%. Within the report, private construction increased 0.8% while residential spending and outlays for government projects decreased.

Treasuries were mixed, as the yield on the 2-year note increased 1 bp to 0.37%, while the yield on the 10-year note fell 5 bps to 2.75%, and the 30-year bond rate was 3 bps lower at 4.08%. Bonds have shown little reaction to the heightened possibility of a debt ceiling deal becoming a reality after President Obama announced that Congressional leaders had come to an agreement to end the impasse in Washington. The plan, which looks to raise the debt limit by $2.1 trillion while cutting spending by $2.4 trillion, should get a vote from both the House and Senate today, with both parties working to get their rank-and-file in line to seal the deal and avoid a default ahead of tomorrow’s deadline.

Weak manufacturing readings across the globe damage sentiment

In European economic news, PMI Manufacturing reads in Italy and France were above what economists polled by Bloomberg were expecting, but Germany fell slightly short of forecasts and a plunge in new orders pushed the UK’s level below 50, the demarcation point between expansion and contraction. Additionally, the preliminary June unemployment rate in Italy ticked slightly lower, while the euro-zone’s unemployment rate remained unchanged at 9.9%. Elsewhere, Moody’s Investors Service placed Spain’s credit rating on review for a possible downgrade, citing “funding pressures.” The move by the ratings agency followed a similar announcement toward Italy in mid-July. In equity news across the pond, HSBC Holdings Plc (HBC $50), Europe’s largest bank, reported profits that exceeded analysts’ estimates, while also announcing that it plans to cut up to 30,000 job by 2013 in an attempt to stem rising costs.

In Asia/Pacific, two readings of manufacturing activity in China both showed deceleration, with the PMI Index from the China Federation of Logistics and Purchasing falling to its lowest level since February 2009, while the HSBC Manufacturing Index slipped to a level of 49.3 for the month, the first time in a year the gauge has shown contraction, as noted by a reading below 50. Meanwhile, home prices in the China rose at the slowest pace in nearly a year amid the government’s efforts to rein in residential real estate prices to avoid an asset bubble in the sector. Elsewhere, July manufacturing reads in Australia and Taiwan showed weakness as well, with the HSBC gauge in Taiwan falling further into contractionary territory. Rounding out the busy day of economic releases in Asia, India’s trade balance narrowed slightly, but far less than economists’ expectations, while Hong Kong’s retail sales increased less than forecasted in June.

Back in the Americas, the HSBC Brazil Manufacturing PMI report showed a deterioration in the manufacturing sector, as the July reading fell to 47.8, down from 49.0 in June. Meanwhile, a separate release showed that Brazil’s trade balance narrowed considerably in July.

The highlight of tomorrow’s US economic calendar will be personal income, expected to increase 0.2% in June, after increasing 0.3% in May. Additionally, personal spending will be announced, with economists looking for 0.1% rise in June, after coming in unchanged in May. Also, July vehicle sales reports will be released from the automakers.

The international calendar will yield euro-zone PPI, UK PMI construction, Australian building approvals, Brazilian industrial production, and China’s non-manufacturing PMI report.
Schwab Center for Financial Research - Market Analysis Group