Evening Market Update

Market Weighs Fed’s Sour Outlook and Strong Tech Earnings

Stocks were mixed and shrugged off an initial negative reaction to the minutes from the last FOMC meeting, which provided further details on the Fed’s reasoning for lowering their growth outlook for the economy at the June meeting. Issues impacting growth included the European debt crisis, the prospect of deflation in the US, and a prolonged period of unemployment, combining to prompt a majority of the Committee to forecast a five-to-six year time period before the economy returns to its longer-term footing. However, technology earnings added to the bullish side of the ledger, after Dow member Intel and chip equipment manufacturer ASML reported strong earnings. In consumer news, retail sales posted the second monthly decline and fast-food firm Yum Brands issued disappointing guidance. In other news, Northrop Grumman Corp said it is making strategic changes to its shipbuilding business, GlaxoSmithKline Plc’s Avandia diabetes drug was given approval to remain on the market by a FDA panel despite “significant” safety concerns and BP Plc delayed a test on the newest measure to cap its oil leak. Treasuries were higher on the disappointing economic news, which included a drop in weekly mortgage applications and a smaller-than-expected increase in business inventories, while import prices fell more than forecast.

The Dow Jones Industrial Average rose 4 points (0.0%) to close at 10,367, the S&P 500 Index was flat at 1,095, and the Nasdaq Composite gained 8 points (0.3%) to 2,250. In moderate volume, 1.1 billion shares were traded on the NYSE and 2.2 billion shares were traded on the Nasdaq. Crude oil fell $0.11 to $77.04 per barrel, wholesale gasoline lost $0.01 to $2.07 per gallon, while the Bloomberg gold spot price declined $2.95 to $1,209.40 per ounce. Elsewhere, the Dollar Index—a comparison of the US dollar to six major world currencies—was 0.2% lower at 83.38.

Dow member Intel Corp. (INTC $21) reported 2Q EPS of $0.51, well above the $0.43 Reuters estimate, with revenues jumping 34% year-over-year (y/y) to $10.8 billion, also exceeding the consensus estimate of analysts, which called for the company to report revenues of $10.2 billion. Gross margin came in at a strong 67%, and the company raised its 2010 outlook to 66% from 64%. The company said “strong demand” from corporate customers for its most advanced microprocessors helped it achieve “the best quarter in the company’s 42-year history.” INTC added that the PC and server segments are healthy and the demand for leading-edge technology will continue to increase for the “foreseeable future.” The company issued 3Q revenue guidance that exceeded the Street’s forecast. Shares were higher.

The upbeat results from INTC as well as from European chip equipment manufacturer ASML Holding (ASML $32) today support the outperform rating on the tech sector.

In other earnings news, Yum Brands Inc. (YUM $41) posted 2Q EPS ex-items of $0.58, four cents above the consensus estimate of analysts, with revenues increasing 4% y/y to $2.57 billion, slightly above the $2.54 billion that was anticipated. The parent of fast-food chains, KFC, Taco Bell, and Pizza Hut reported that sales in China jumped 15% y/y, leading a 4% increase in worldwide sales, while its US same-store sales—sales at stores open at least a year—were flat. The company added that its primary focus is to drive same-store sales growth during the balance of the year given the challenging consumer environment. YUM increased its full-year EPS outlook, but the level came in below analysts’ forecasts. Shares were under pressure.

Outside of earnings news, Northrop Grumman Corp. (NOC $57) moved nicely higher after the company said it is consolidating future Gulf Coast ship construction and it will also explore strategic alternatives for its entire shipbuilding business. NOC said it will take a pre-tax charge of $113 million in 2Q related to the consolidation, but that will be offset by a tax benefit during the period unrelated to the shipbuilding decisions. NOC will update its full-year guidance when it releases its 2Q results on July 29th.

Late day, an FDA panel reviewing GlaxoSmithKline PLC’s (GSK $36) Avandia diabetes drug raised “significant” safety concerns, citing higher cardiovascular risks compared a competitor drug, Actos, but voted to allow the drug to remain on the market.

Shares of BP Plc. (BP $36) were lower after the company, which is on the hook for the containment and cleanup costs of the massive oil leak in the Gulf of Mexico, delayed tests of its newest measure to try to cap the leaking well, saying that further analysis was needed.

Fed points to longer path of modest growth

The Federal Reserve released the minutes from its most recent Federal Open Market Committee (FOMC) monetary policy meeting on June 22-23, which showed policymakers continued to anticipate a moderate recovery in economic activity through 2011, supported by accommodative monetary policy, an attenuation of financial stress, and strengthening consumer and business confidence. However, the report noted that FOMC members generally anticipated that, in light of the severity of the economic downturn, it would take five-to-six years for the economy to converge fully to its longer-run path. The FOMC’s projection for GDP in 2010 was revised to a range between 3.0-3.5%, down from its April projection of between 3.2-3.7%, while narrowing its 2011 growth forecast and keeping its 2012 expectation unchanged. Also, the report showed that about half of FOMC members judged the risks to the growth outlook to be tilted to the downside.

Committee members noted that recent data on employment had been disappointing and new jobless claims remained elevated, as they modestly increased their unemployment rate projection. On inflation, the report noted that policymakers cited some risk of deflation, while other participants thought that inflation was unlikely to fall appreciably further. On the Fed’s balance sheet, the report showed that most participants continued to judge it appropriate to defer asset sales for some time. Also, the minutes revealed that in sum, the changes to the outlook were viewed as relatively modest and as not warranting policy accommodation beyond that already in place, but members noted that in addition to developing its plan to exit from the period of unusually accommodative monetary policy, they would need to consider whether further policy stimulus might become appropriate if the outlook were to worsen appreciably.

Treasuries continued their move higher after the FOMC minutes, with the yield on the 2-year note falling 6 bps to 0.60%, and the yields on the 10-year note and 30-year bond dipping 7 bps to 3.05% and 4.04%, respectively.

Retail sales and import prices fall

Advance retail sales for June fell 0.5%, compared to the Bloomberg forecast of economists that called for a decrease of 0.3%, but May’s 1.2% drop was revised to a 1.1% decline. Sales ex-autos dipped 0.1%, inline with expectations, but May’s 1.1% decline was revised to a 1.2% drop. Sales ex-autos and gas rose 0.1%, versus the flat reading that was anticipated, but its May figure was revised to a worse-than-expected 1.0% decline, from an initial 0.8% drop.

The larger-than-anticipated decline in the headline rate of retail sales was largely impacted by a 2.3% drop in vehicle and auto parts sales, while the slight decrease in sales excluding autos were bogged down by solid declines in gasoline stations (-2.0%), furniture (-1.1%), and building material and garden equipment (-1.0%). These drops, which led to the second-straight month of declining sales, illustrate the impact of the lackluster backdrop of weak employment and housing markets, hamstringing consumer propensity to spend. Also the declines demonstrate the impact of the expiration of government stimulus efforts on the economy. However, digging deeper into the report, there were some areas that may be helping keep the economic recovery pessimism from stealing too much of the spotlight from the favorable beginning to corporate earnings season. Electronic and appliance store sales posted a respectable 1.3% increase and strong department store sales led the clothing category higher by 0.6%, while online and mail order sales posted an increase of 1.0%.

Meanwhile, the Import Price Index dropped 1.3% month-over-month (m/m) for June, compared to the expectation of economists, which called for the index to decline by 0.4%. Year-over-year, import prices are higher by 4.5%, versus the 5.3% forecast of economists.

Elsewhere, business inventories rose 0.1% m/m in May, just shy of the 0.2% increase that economists had expected, and April’s 0.4% increase was unrevised. Sales dropped 0.9% m/m, and the inventory-to-sales ratio—the amount of time it would take to deplete inventories at the current sales pace—inched back up to 1.24 from 1.23 months in April.

In other economic news, the US MBA Mortgage Application Index decreased 2.9% last week, after the index that can be quite volatile on a week-to-week basis, rose 6.7% in the previous week. The decline came as the Refinance Index fell 2.9%, joining a 3.1% drop in the Purchase Index. The decrease in the overall index came amid a 2 basis-point increase in the average 30-year mortgage rate to 4.69%, still near the record low of 4.61% that was reached at the end of March 2009.

Asia strong, Singapore’s 26% sequential growth possibly previews China’s tomorrow

European economic data was mixed, with a better-than-expected report on UK consumer confidence being offset by a smaller-than-forecasted increase in euro-zone industrial production. Other reports in the region included slightly bigger-than-anticipated decline in UK jobless claims, and flat readings of euro-area and Italian consumer prices.

Singapore reported that its 2Q GDP surged 26% q/q after rising 45.9% in 1Q, and the country raised its full-year growth outlook to a range of 13-15%, adding to the optimistic backdrop in Asia and the outlook for the global recovery, possibly previewing Chinese GDP set to be released tomorrow. Australia’s consumer confidence increased, while New Zealand’s home prices rose but retail sales were mixed. Elsewhere, Korea’s unemployment rate increased to 3.5%, Indian wholesale prices rose by a smaller amount than economists expected, and Thailand’s central bank hiked its benchmark interest rate by 25 basis points to 1.5%.

Tomorrow’s economic highlights to include PPI in the US and China’s GDP

Tomorrow’s release of the Producer Price Index (PPI) is expected to show prices at the wholesale level fell 0.1% m/m in June, on the heels of a 0.3% decrease in May, while the core rate, which excludes food and energy, is expected to rise a mere 0.1% after increasing 0.2% the prior month. On a year-over-year (y/y) basis, the PPI is expected to show a continued deceleration, to 3.1% in June versus 5.3% the prior month on a headline basis, and a 1.1% increase at the core level, down from a 1.3% increase in May.

Additionally, industrial production will be released, expected fall 0.1% in June after rising a revised 1.3% in May, and capacity utilization is forecasted to come in at 74.1% in June after being downwardly revised to 74.1% in May.

The other releases on tomorrow’s US economic calendar are initial jobless claims, forecasted to decline to 445,000 from 454,000, the Empire Manufacturing Index, expected to decline to 18.0 from 19.6, and the Philadelphia Fed’s Business Activity Index, anticipated to increase to 10.0 from 8.0. Both the Empire and Philly Fed indexes are diffusion indexes, where a reading of zero is the level that suggests conditions are neither contracting nor expanding.

Highlights from the international calendar will originate in Asia, as the Bank of Japan concludes its two-day monetary policy meeting and China releases a slew of data. Data from China includes the reading on 2Q GDP, expected to grow 10.5% according to a Bloomberg survey of economists, as well as retail sales, PPI, CPI, industrial production, and fixed asset investment, which includes construction and infrastructure spending.