Morning Market Update

Trying to Maintain Gains as Profits Soothe Retail Sales Pain

The US equity markets are continuing their recent upward momentum, with the bulls finding some energy ahead of the afternoon release of the minutes from the Federal Reserve’s most recent monetary policy meeting, aided by a much better-than-expected profit report from Dow member Intel Corp, which is helping boost the tech sector. The upbeat mood on the Street toward the positive start to 2Q earnings season is helping offset the second-straight month of disappointing retail sales. Treasuries are higher after the retail sales report, along with a larger-than-expected drop in import prices, a smaller-than-forecasted increase in business inventories, and a drop in weekly mortgage applications. In other US equity news, fast-food firm Yum Brands Inc also posted favorable profits for 2Q but offered disappointing guidance, while Northrop Grumman Corp said it is consolidating future Gulf Coast ship construction and it will also explore strategic alternatives for its entire shipbuilding business. In overseas trading, financials and oil and gas issues pressured European markets, but the aforementioned strength in tech issues helped stocks finish well off of the lows of the day.

At 12:53 p.m. ET, the Dow Jones Industrial Average and the S&P 500 Index are 0.1% higher, while the Nasdaq Composite is advancing 0.7%. Crude oil is up $0.39at $77.54 per barrel, wholesale gasoline is flat at $2.08 per gallon, and the Bloomberg gold spot price is down by $9.50 at $1,202.85 per ounce. Elsewhere, the Dollar Index—a comparison of the US dollar to six major world currencies—is down 0.3% at 83.26.

Dow member Intel Corp. (INTC $22) 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. 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 are nicely higher.

The upbeat results from INTC support the outperform rating on the tech sector that Schwab’s Director of Market and Sector Analysis, Brad Sorensen, CFA has in his bi-weekly Schwab Sector Views: All Together Now? Brad has noted for some time that growth in business investment in technology, which INTC noted above, is one of the tailwinds that are buoying the sector, along with new computer orders, which INTC also pointed out. Brad details his views on all sectors at www.schwab.com/marketinsight.

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 are under pressure.

Outside of earnings news, Northrop Grumman Corp. (NOC $57) is moving 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.

Retail sales and import prices fall, Fed meeting details set to carry the ball

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.

Treasuries remain higher heading into afternoon trading following the aforementioned data but the attention is shifting to today’s second-half release of the Federal Open Market Committee’s (FOMC) minutes from last month’s monetary policy meeting, where it left the fed funds rate unchanged at 0.00—0.25%, while reiterating that economic conditions are likely to warrant “exceptionally low” levels of the fed funds rate for an “extended period.” Focus on the report will likely be on discussion related to the slightly downgraded economic assessment in the FOMC’s policy statement that accompanied its interest rate decision last month, where it acknowledged the “developments abroad” and said financial conditions have become less supportive of economic growth. Other areas of interest in the Fed’s release may be on discussions regarding appropriate timing for an interest rate increase and when the Fed may begin to scale back its balance sheet, and if any other policymakers moved closer to joining Thomas Hoenig, who was the lone Committee member to vote against the Fed’s policy action for the fourth-straight meeting.

Financials and oil issues lead Europe lower, but techs help stocks finish off of the lows

Stocks in Europe finished under pressure, led by some profit taking in the financial sector amid some uncertainty regarding what impact looming industry regulation could have on the sector’s prosperity, and on worries about what the results of the sector’s stress test may reveal. Also, oil and gas issues posted declines to weigh on the equity markets across the pond, led by a solid decrease in shares of BP Plc. (BP $36) 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.

However, technology shares advanced to help limit the decline in the region as stocks closed well off of the worst levels of the day, supported by Intel’s better-than-expected profit report, and as chip equipment manufacturer ASML Holding (ASML $32) posted a strong gain after it announced 2Q earnings that exceeded analysts’ forecasts.

A mixed European economic front offered little help, 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.

The UK FTSE 100 Index was 0.3% lower, France’s CAC-40 Index traded down 0.1%, and Italy’s FTSE MIB Index finished down 0.2%, while Germany’s DAX Index advanced 0.3%.