Evening Update

Markets Lackluster, Weigh Diverging Consumer Signs

Stocks were mixed on Friday, as traders tried to digest conflicting indicators from the consumer sector, as retail sales surprised on the upside while a measure of consumer sentiment declined. Volume was light again and conviction was low as investors try to determine the next move in the market and economy, having experienced a correction early in the year, only to have stock indexes posting new yearly highs, and ahead of the Fed's meeting on monetary policy next week. In M&A activity Friday, traders were finally getting resolution to the fertilizer bidding war, after Yara International announced that it will not increase its $4.1 billion cash bid for Terra Industries, resulting in Terra accepting the $4.7 billion cash and stock offer from CF Industries Holdings. Elsewhere, United Technologies reaffirmed its full-year guidance, Pfizer announced disappointing cancer drug trial results, Discover Financial Services gave an updated 1Q outlook, Potash posted its second 1Q guidance increase, a Chinese official warned Google about ending censorship, and Aeropostale Inc beat the Street. In other economic news, business inventories improved and Treasuries were mixed.

The Dow Jones Industrial Average rose 13 points (0.1%) to close at 10,625, while the S&P 500 Index and the Nasdaq Composite were unchanged at 1,150 and 2,368, respectively. In light volume, 1.1 billion shares were traded on the NYSE and 2.0 billion shares were traded on the Nasdaq. Crude oil was $0.87 lower at $81.24 per barrel, wholesale gasoline fell $0.02 to $2.25 per gallon, and the Bloomberg gold spot price lost $7.30 to $1,102.20 per ounce. Elsewhere, the Dollar Index-a comparison of the US dollar to six major world currencies-was down 0.6% to 79.81. For the week, the DJIA rose 0.6%, the S&P 500 Index advanced by 1.0%, and the Nasdaq Composite gained 1.8%.

Following up on a recent M&A battle in the agriculture industry, after Norway's Yara International (YARIY $44) announced that it will not improve its $4.1 billion previously agreed upon cash bid for US fertilizer firm Terra Industries (TRA $46), paving the way for CF Industries Holdings Inc's (CF $96) and TRA reported that they have agreed to combine for about $4.7 billion in cash and stock. TRA stockholders will receive $37.15 in cash and .0953 in shares of CF for each share of TRA they own, and the deal will create a leader in the global fertilizer industry. TRA terminated the previous merger agreement with YARIY, which will receive a $123 million breakup fee. Meanwhile, Canadian firm Agrium Inc. (AGU $72) announced that it will no longer pursue an acquisition of CF. Shares of YARIY and AGU were solidly higher, while CF and TRA fell.

Dow member United Technologies Corp. (UTX $72) reaffirmed its full-year 2010 outlook, announcing that it expects EPS to come in a range of $4.40-4.65, and revenue to be between $54-55 billion. Analysts are expecting the company to post 2010 EPS of $4.63, on revenues of $54.8 billion. Shares were lower.

Fellow Dow member Pfizer Inc (PFE $17) was under modest pressure after the company announced that it had ended a Phase-3 trial for its experimental treatment for lung cancer, saying the outcome is disappointing and it is working to thoroughly analyze all available data from the program. Also, PFE reported that two Phase-3 trials for its advanced breast cancer treatment revealed the failure to meet their primary endpoints. PFE said it is committed to the rigorous evaluation of investigational therapies in breast cancer.

Discover Financial Services (DFS $15) announced that it will increase its loan-loss reserves by $305 million in 1Q 2010, bringing its reserve coverage to about twelve months of losses. Including the addition to its reserves, DFS said it expects to report a 1Q loss of $0.22-0.23 per share. The consumer lender said its 1Q charge-off rate-the percentage of loans the company does not expect to be paid back-is expected to come in at 8.5%, up from 8.43% in 4Q, while its over 30-day delinquency rate-a gauge of future charge-offs-is estimated to be about 5%, down about 25 basis points from 4Q. Shares were slightly higher as the company said based on current credit performance trends within its loan portfolio, it believes that the amount of delinquent loan balances may have peaked in 4Q 2009.

Shares of Canadian fertilizer firm Potash Corp. (POT $125) were much higher after the company announced that it expects 1Q EPS to be in a range of $1.30-1.50, well above the initial guidance of $0.70-1.00 per share that it issued on January 28, 2010, and Street estimates of $0.94 per share. The company said the revision reflects a sharp rebound in potash demand that is expected to drive a record quarter for North American sales volumes and strong offshore shipments, as well as higher-than-expected margins in nitrogen and phosphate. "Strong farmer returns, a depleted distributor pipeline and the agronomic need to replace soil nutrients have kick-started a potash rebound from 2009 lows," the company added.

Google (GOOG $580) received a warning from the Chinese Minister of Industry and Information Technology regarding its pledge to stop censoring the Chinese version of its search site, saying "If you insist on taking this action that violates Chinese laws, I repeat: you are unfriendly and irresponsible, and you yourself will have to bear the consequences." Shares hovered around the unchanged mark and closed lower.

Aeropostale Inc. (ARO $28) reported 4Q EPS of $0.99, four cents above the consensus estimate of Wall Street analysts, with revenues increasing 16% year-over-year (y/y) to $801 million, compared to the $792 million that the Street was looking for. Same-store sales-sales at stores open at least a year-rose 9% y/y. ARO issued 1Q EPS guidance that exceeded analysts' forecasts, saying it is "very excited" about its strong start to the new fiscal year. Shares rose.

Retail sales unexpectedly rise, consumer sentiment surprisingly deteriorates

Treasuries were mixed and the yield curve flattened, with the yield on the 2-year note rising 1 bp to 0.96%, while the yield on the 10-year note fell 2 bps to 3.70%, and the 30-year bond yield lost 4 bps to 4.63%.

Advance retail sales for February rose 0.3% month-over-month (m/m), compared to the Bloomberg forecast of a decrease of 0.2%, while January’s 0.5% increase was revised to a 0.1% gain. Sales ex-autos rose 0.8%, versus the expectation of an increase of 0.1%, and January was revised down by 0.1% to 0.5%. Sales ex-autos and gas gained 0.9%, versus the 0.3% rise that was anticipated. Excluding autos, gasoline and building materials, the portion of the report the government uses to calculate the consumer spending component of GDP, sales increased 0.9% in February, and January’s 0.8% gain was revised lower to 0.6%, while the three month figure grew 1.1%. The government uses data from other sources to calculate the contribution from the three categories excluded.

Elsewhere, the preliminary University of Michigan's Consumer Sentiment Index unexpectedly deteriorated, declining from 73.6 in February to 72.5 in March, compared to the increase to 74.0 that economists had expected. The current economic conditions component of the report decreased from 81.8 to 80.8, and the economic outlook component fell from 68.4 to 67.2. The one-year inflation outlook increased slightly to 2.8%, from 2.7%, and the five-year outlook remained at 2.7%.

Consumers have a difficult time reporting positive sentiment given economic headwinds, and confidence numbers remain low. However, reported confidence figures do not always correspond to actions - consumers feel better on the margin than they did during the crisis, where many purchases were postponed. After holding off on spending, and with over 90% of people still employed, consumers are spending on the margin, releasing some pent-up demand by replenishing needed items. Additionally, American consumers like to "reward" themselves, and while the size of the purchase may be smaller than before the crisis, consumers made discretionary purchases such as electronics, which grew 3.7% m/m, the biggest gain since January 2009, and spent at restaurants and bars, up 0.9% m/m, the most since April 2008.

Despite the better-than-expected sales figures, the consumer discretionary group hovered around the flatline for most of the day, struggling to post a modest 0.2% gain on the day. Although the consumer discretionary sector has performed relatively well of late, this could be a short-term phenomenon and underperformance is around the corner. While some pent-up demand was undoubtedly part of the better-than-expected sales during the past couple months, headwinds remain. Wage gains remain anemic, with real hourly compensation for nonfarm business falling 0.6% y/y in 4Q. In the past, when retail sales start to improve, the consumer discretionary sector has tended to underperform, as the stocks tend to move well in advance of future changes in underlying company fundamentals.

In other economic news, January business inventories came in unchanged, compared to the forecast of a 0.1% gain, and December's decline of 0.2% was revised to a slightly larger decrease of 0.3%. Sales advanced 0.6% month-over-month (m/m), resulting in the inventory-to-sales ratio-the amount of time it would take to deplete inventories at the current sales pace-ticking lower from 1.26 months in December to 1.25 months in January.

Industrial production strength globally and fifth monthly gain in Canadian jobs

Euro-zone industrial production increased by 1.7% m/m, the largest jump since 1989 per Bloomberg, more than doubling economists’ forecasts that output would rise 0.7%, and December’s 1.7% drop was revised to a 0.6% advance. The jump in output was led by a 2.6% increase in energy production, while production of intermediate goods such as steel and machinery parts rose 1.4%, and capital goods production fell 0.3%. In other economic news, German wholesale prices rose by a smaller-than-expected 0.1% in February, Greece's unemployment rate unexpectedly fell, and Spain's consumer prices declined by a larger-than-anticipated amount in February.

Bloomberg reported that the Bank of Japan may expand its stimulus measures, possibly boosting its 10-trillion yen ($110 billion) fund that provides loans to banks, citing two central bank officials. The report also said that the nation’s finance minister noted that foreign-exchange intervention is an option, in an attempt to slow down the appreciation of the Japanese currency. The Bank of Japan did not confirm the reports and it is scheduled to conduct a policy meeting beginning on March 16th. Separately, Japan's industrial production for January was revised higher from a 2.5% advance to a gain of 2.7%. Elsewhere in Asia, the pace of declines in producer prices and industrial production in Hong Kong eased in 4Q, and Indian industrial production rose 16.7% y/y.

Canada added 20,900 jobs in February after gaining 43,000 in January, higher than the 15,500 estimate from a Bloomberg survey of economists, while the unemployment rate fell to 8.2% from 8.3%. February's gain was the fifth gain in seven months. Traders are watching any moves by the Bank of Canada to begin raising rates, after the central bank earlier this month said that inflation and economic output were higher than expected, and indicated they wouldn't extend a conditional commitment to keep its benchmark lending rate at a record low past June, while also removing a phrase warning of the risk of slow inflation. Consumer prices rose 1.9% y/y in January, the most since November 2008, and GDP in 4Q grew at an annualized rate of 5.0%.

Another week of conviction-deprived action

With the economic calendar mostly dormant until Friday and equity news being relatively light, market action was again nothing to write home about, with traders lacking conviction while grappling with determining the next stop for the global economy. The equity markets posted modest moves from session to session amid a smattering of data to decipher.

The week saw the M&A theme continue, headlined by American International Group (AIG $34) announcing that it had reached a definitive agreement for the sale of its international life insurance unit American Life Insurance Company (ALICO) to MetLife (MET $42) for approximately $15.5 billion. Moreover, Devon Energy (DVN $71) announced that it has entered into agreements to sell all of its assets in the deepwater Gulf of Mexico, Brazil and Azerbaijan to BP Plc (BP $57) for $7.0 billion.

Although the week's major economic data came on Friday, there were some reports that were worth mentioning, as the US trade deficit unexpectedly narrowed, but disappointed as exports and imports both fell, sparking some concern about the health of the US economy. However, most of the major economic news came from the international front, led by stronger-than-expected data out of China, highlighted by a 16-month high in Chinese consumer prices, fueling concerns that the report may prompt the government to deploy further measures to try to prevent the overheating of the economy, which could short-circuit the global economic recovery.

Full slate of economic data, Fed meeting in the spotlight

Economic releases heat up next week, starting on Monday with the report of industrial production, anticipated to be flat m/m in February, after increasing 0.9% in January, and capacity utilization, expected to have remained flat at 72.6% in the month.

Tuesday brings the report on housing starts for February, expected to show a decrease of 3.6% m/m to an annual rate of 570,000 units after rising 2.8% in January, while building permits, one of the leading indicators tracked by the Conference Board, are forecasted to decline 3.2% m/m in February after slumping by 4.9% in January. This report has been volatile in recent months, distorted by the initial expiration of the buyer tax credit, as well as seasonality and weather.

Several readings on inflation will be released with the Producer Price Index (PPI) on Wednesday expected to show prices at the wholesale level were down 0.2% m/m in February after rising a sharp 1.4% in January on higher energy prices, while the core rate, which excludes food and energy, is expected to rise a mere 0.1% after an increase of 0.3% the prior month. The Consumer Price Index (CPI) follows on Thursday, anticipated to have risen 0.1% m/m in February, after a 0.2% increase in January, and ex-food and energy, the core CPI rate is forecasted to have risen 0.1%, after declining by 0.1% in January, the first decrease in the core since 1982, according to Bloomberg.

The highlight for the week will be the Federal Open Market Committee (FOMC) meeting and statement release mid-day Wednesday. The one day meeting is the first since the crisis, as the Fed is returning to its normal meeting schedule. While no changes are expected to interest rate policy at the meeting, market participants continue to dissect the Fed's language with regard to the "extended period" for keeping rates at an exceptionally low rate, particularly in light of a dissenting vote to keeping the "pre-commitment" language at the last meeting, the increase in the discount rate inter-meeting, and the looming expiration of the mortgage-backed security (MBS) purchase program at the end of the month.

Other releases on the US economic calendar include the Empire Manufacturing Index, the NAHB Housing Market Index, MBA Mortgage Applications, the import price index, initial jobless claims, the Index of Leading Economic Indicators, and the Philadelphia Fed's Business Activity Index.

International economic releases include Japanese consumer confidence, machinery orders, the leading indicator index, and department sales. Additionally, the UK releases house prices and releases in euro-zone releases include CPI, construction output and the trade balance, as well as the German PPI and Zew survey of investor sentiment. Canada will release manufacturing, wholesale and retail sales, and CPI. Australia releases dwelling starts and the leading indicator index.

Several central banks meet to discuss monetary policy, including the Bank of Japan, European Central Bank, and the Brazil Central Bank, and the European Central Bank and Reserve Bank of Australia release meeting minutes.

European Union finance ministers are set to meet ahead of the March 16 deadline for Greece's austerity plan. Ahead of the meeting, Bloomberg is reporting people familiar with the situation as saying that the finance ministers will discuss whether any Greek bailout should be funded by EU bonds guaranteed by euro region governments or alternatively having governments in the 16-nation bloc give Greece loans to help the country finance its budget deficit, while any EU bond sale would have to be agreed upon by all 27 EU nations.