Evening Update

Manufacturing Charges the Bulls

Building upon optimism set by encouraging economic reports out of Europe, markets kicked off February on a strong note following an unexpected jump in the US ISM Manufacturing Index, which posted the sixth consecutive month of expansion, and a report that showed personal income rose more than forecast. The energy sector participated in the advance and was the best performer following Dow member Exxon Mobil’s better-than-expected profit report. The upbeat manufacturing and income reports were able to overshadow a smaller-than-forecasted increase in personal spending, a disappointing drop in construction spending, and added concern that China’s policymakers could further tighten monetary policy behind news out of the eastern nation. In other equity news, Humana matched the Street’s profit projections and raised its full-year profit outlook, Boston Scientific agreed to settle patent litigation with Dow member Johnson & Johnson, while Amazon.com said it would have to accept a large book publisher’s terms in charging a higher price for some e-books. Treasuries were lower following the upbeat economic data.

The Dow Jones Industrial Average rose 118 points (1.2%) to close at 10,186, the S&P 500 Index gained 18 points (1.4%) to 1,089, and the Nasdaq Composite advanced 24 points (1.1%) to 2,171. In fairly light volume, 1.0 billion shares were traded on the NYSE and 2.2 billion shares were traded on the Nasdaq. Crude oil was $1.41 higher at $74.43 per barrel, wholesale gasoline added $0.02 to $1.93 per gallon, and the Bloomberg gold spot price surged $25.85 to $1,106.70 per ounce. Elsewhere, the Dollar Index—a comparison of the US dollar to six major world currencies—was down 0.3% to 79.22.

Dow member Exxon Mobil (XOM $66) reported 4Q EPS ex-items of $1.27, compared to the $1.19 that Wall Street analysts were anticipating, with revenues coming in at $89.8 billion, topping the $86.2 billion that the Street was expecting. XOM said its upstream earnings—exploration and production—increased about 2.6% as higher crude oil realizations offset lower gas realizations. However, the company’s downstream earnings—refining—were a loss and were down about $2.6 billion as lower margins drove the majority of the decline. Shares were higher.

Humana Inc. (HUM $49) announced 4Q EPS of $1.48, matching the estimate of analysts, with revenues rising 2% year-over-year (y/y) to $7.6 billion, compared to the $7.8 billion that the Street was expecting. HUM said its total premium and administrative service fees rose 2% y/y, reflecting an increase in both average Medicare advantage membership and per-member premiums, which were “substantially” offset by declines in average commercial medical membership. HUM raised its full-year 2010 EPS forecast. Shares of HUM were able to overcome early pressure and finished the day modestly higher.

Boston Scientific (BSX $8) announced the settlement of three patent disputes with Dow component Johnson & Johnson (JNJ $63), which will result in BSX making a payment of $1.7 billion to JNJ. The agreement relates to litigation regarding patent disputes over heart stents. BSX said it believes today’s settlement—while substantial—is in the best interest of the company and its shareholders as it has “materially reduced our financial risks going forward.” BSX was lower, while JNJ ended the day slightly higher.

Amazon.com (AMZN $119) said it would have to “capitulate” and accept new terms of Macmillan, a major book publishing company, and sell Macmillan’s e-books for AMZN’s digital reading device—Kindle—for a higher price than AMZN typically charges. The online retailer said it would have to accept Macmillan’s terms because the publisher has a “monopoly over their own titles” and it wants to offer them even at prices it believes are “needlessly high.” AMZN currently charges $9.99 for most of its e-books and AMZN said Macmillan told them they want to charge $12.99-14.99 for its e-book versions of bestsellers and most hardcover releases. AMZN had temporarily stopped selling books by Macmillan to express the “seriousness of our disagreement.” Shares finished over 5% lower.

ISM manufacturing report jumps, personal income tops forecasts

The ISM Manufacturing Index (chart) unexpectedly increased, jumping from 55.9 in December to 58.4 in January, well above the 55.5 that economists surveyed by Bloomberg had forecast. A reading of 50.0 separates expansion from contraction. New orders increased from 64.8 in December to 65.9 in January, production rose from 59.7 to 66.2, and the employment component improved from 50.2 to 53.3.

Although any one month’s purchasing manager index can be somewhat unpredictable given they are not constructed of hard data but merely a diffusion index that reflects the number of people saying conditions are better compared to the number saying conditions are worse, the report should support the argument that the economic recovery continues to receive support from improving manufacturing conditions as the overall index has shown expansion for six consecutive months and the index sits at the highest level since August 2004. Commenting on the report, the ISM noted “Both the New Orders and Production Indexes are above 60 percent, indicating strong current and future performance for manufacturing.” ISM added that 13 of 18 industries reported growth, up from nine industries last month, and this is a good indication that the impact of the recovery is expanding. However, the companion report, the ISM Non-Manufacturing Index—due out on Wednesday—may have a more meaningful impact on sentiment at this stage in the economic recovery, as it depicts conditions in the service sector and is tied more closely to the consumer, which accounts for the lion’s share of the overall economy. Last month’s non-manufacturing report missed expectations and has had a harder time showing expansion as it came in at 50.1 in December and unexpectedly fell below the critical 50 value in November.

Personal income (chart) was 0.4% higher in December, above the Bloomberg estimate of 0.3%, and November was revised from a 0.4% gain to a 0.5% rise. Personal spending increased 0.2% in December, versus the 0.3% Bloomberg expectation, while November’s 0.5% increase was upwardly revised to a 0.7% gain. The savings rate rose to 4.8%, after a downwardly revised 4.5% in December.

Also, the PCE Price Index, which is released with the income and spending data, increased 2.1% year-over-year in December, compared to the consensus forecast of 2.2%, and November’s 1.5% rise was left unrevised. The core PCE Price Index, which excludes food and energy, was 0.1% higher, inline with expectations. Year-over-year, core prices moved 1.5% higher, also matching the consensus of economists surveyed by Bloomberg.

In other economic news, construction spending (chart) was also released this morning, falling 1.2% in December, a larger decline than the 0.5% drop that was expected, and November’s initially reported 0.6% decline was downwardly revised to a drop of 1.2%.

Treasuries were lower following the better-than-forecast manufacturing and personal income reports. The yield on the 2-year note was 4 bps higher at 0.86%, the yield on the 10-year note rose 7 bps to 3.66%, and yield on the 30-year bond advanced 8 bps to 4.57%.

The only report on tomorrow’s economic calendar is pending home sales, forecast to increase 1.1% in December after plunging 16% in November.

PMI reports dominate international data and sets tone early

The Eurozone PMI rose to a two-year high of 52.4 in January, from 51.6 in December, with manufacturing in France leading the way with its PMI index hitting a level not seen in three years. A better-than-expected reading out of Germany also aided in the advance, while the PMI surveys out of Spain and Greece subtracted from the overall 16-nation index.

Boosted by output and new export orders, as well as the first increase in the employment component since April 2008, the UK PMI index rose to 56.7 in January from the upwardly-revised 54.6 in December, well above the 53.9 expected by economists polled by Bloomberg, and marking a 15-year high in the measure. Separately, consumer lending in the UK held steady at 1.2 billion pounds for December, according to the Bank of England, above the 1.0 billion pound consensus of economists. However, net lending fell below the 1.6 billion pounds tallied a year ago as the number of mortgage approvals fell for the first time in a year, and the figure was far short of the 7.8 billion pounds in December 2007.

In other economic news in the region, France reported a 0.2% m/m rise in producer prices for December, above the 0.1% expected by economists, while on a year-over-year basis (y/y) prices at the wholesale level fell 2.9%, less than the 3.0% forecast. Additionally, ahead of the phase-out of government incentives, new car sales in the nation shot 14% higher y/y in January, its ninth-straight monthly increase.

The HSBC China Manufacturing PMI rose to a seasonally-adjusted 57.4 from 56.1 in December, marking the fourth consecutive rise in the index. The report showed the largest gain in the price component since July 2008, and the exports sub-index rising at a near-record rate. A separate PMI index, conducted by China Federation of Logistics and Purchasing, showed manufacturing declined to 55.8 in January, from 56.6 in December. Though the overall index fell and was below the 56.6 forecast of economists polled by Bloomberg, it was the eleventh-straight month of expansion and the second-fastest pace of expansion since 2008, per Bloomberg.

Concern over further efforts by the People’s Bank of China to tighten credit and soak up liquidity to prevent asset bubbles followed the reports, as a Bloomberg survey showed the average estimate of economists feel policymakers will raise interest rates by the end of June. Additional uneasiness came on the heels of the central bank’s Deputy Governor saying yesterday in Davos, Switzerland that the government is planning new measures to rein in overcapacity in steel, cement and other industries, per Bloomberg News.

Elsewhere in the Asia/Pacific region, the HSBC PMI in India showed manufacturing rose to 57.6 in January from 55.6 in December, the fastest pace in that country’s growth in 17 months, while Taiwan’s PMI index showed manufacturing improved further into expansionary territory and consumer prices rose more than expected. Job advertisements in Australia tumbled month-over-month in January, ahead of the nation’s central bank monetary policy announcement later today, where it is expected to increase its benchmark lending rate for the fourth time in as many meetings. And, exports and imports in South Korea jumped 47.1% and 26.7%, respectively y/y in January, but both came in shy of expectations, and consumer prices rose by a smaller amount than expected.