Evening Market Update

Bears Take Advantage of Economic Uncertainty

There was little in the way of positive news to get the bulls moving, as a larger-than-expected drop in US existing home sales set the bears loose and further dampened investors’ sentiment toward the global economic recovery. In equity news, medical device maker Medtronic met analysts’ EPS expectations but fell short of revenue forecasts and guided lower, Burger King Holdings beat the Street, but missed on revenue expectations and sounded a cautious tone, Dow component Pfizer announced disappointing trial results with one of its more successful cancer drugs, while Big Lots bested EPS estimates and upped its full-year forecast. On the M&A front, Potash Corp. of Saskatchewan and 3PAR remained in the headlines as it was reported that both could receive higher buyout offers. Adding to the negative sentiment toward the housing sector, building material company CRH Plc lowered its forecast on worse-than-expected spending in the US from both commercial and state and local government projects, In other economic news, the Richmond Fed Manufacturing Index declined, but registered a reading above forecasts that still denoted expansion, while the Wall Street Journal reported wider dissent among Fed members at its August 10 meeting. Treasuries finished higher as investors moved to safety following the disappointing housing data.

The Dow Jones Industrial Average lost 134 points (1.3%) to 10,040, the S&P 500 Index fell 15 points (1.5%) to 1,052, and the Nasdaq Composite declined 36 points (1.7%) to 2,124. In moderate volume, 1.2 billion shares were traded on the NYSE and 2.1 billion shares were traded on the Nasdaq. Crude oil lost $1.47 to $71.63 per barrel, while wholesale gasoline was $0.03 lower at $1.81 per gallon, and the Bloomberg gold spot price rose $5.10 to $1,231.25 per ounce. Elsewhere, the Dollar Index—a comparison of the US dollar to six major world currencies—was 0.1% lower at 83.12.

Medical device maker Medtronic Inc (MDT $31) announced a 1Q profit ex-items of $0.80 per share, inline with analysts’ forecasts, as revenues fell 4.1% year-over-year (y/y) to $3.77 billion, short of Street’s estimate for sales of $3.96 billion. The company lowered its full year EPS forecast to $3.40-3.48 from $3.45-3.55, saying that a “softer global healthcare market impacted by decreased utilization and increased price pressure” made for a difficult quarter. Shares closed markedly to the downside.

Dow component Pfizer (PFE $16) announced that its cancer treatment Sutent failed in a large-scale study to improve overall survival in patients with a form of lung cancer, however it was able to improve “progression-free” survival, wherein patients living with the disease did not get worse. PFE was lower.

In M&A news, Canada’s Globe and Mail is reporting that Rio Tinto PLC (RTP $48), along with a Chinese partner, may be considering a bid for Potash Corp. of Saskatchewan Inc. (POT $149), after Potash formally rejected the $38.6 billion, $130 per share, unsolicited buyout from BHP Billiton (BHP $65), saying it “substantially undervalues” the company. The report said that Brazil’s Vale S.A. (VALE $27) appears to have left the discussions, and Vale issued a statement saying that any rumors of negotiations or bids were “unfounded.” A spokesperson for Rio Tinto declined to comment but noted the newspaper was the “only one in the world reporting it.” All four firms traded lower.

The other hotly contested merger in recent news, for data storage company 3PAR Inc (PAR $25), is in the headlines today, as Bloomberg is reporting that Dell Inc (DELL $12) is readying a sweetened offer after being outbid by Hewlett-Packard Co’s (HPQ $39) $24 per share cash bid. All three companies declined to comment. DELL and HPQ lost ground, while PAR was higher.

Burger King Holdings Inc. (BKC $17) reported fiscal 4Q earnings of $0.36 per share, a 17% decline from the same period a year ago, but above the $0.34 Reuters forecast. Revenues fell 1% to $623 million, short of the $635 million that analysts were expecting, as overall same-store sales—sales at stores open at least a year—fell 0.7%, with sales in the US and Canada dropping 1.5%. The fast-food chain’s CEO sounded a note of caution, saying that he “anticipates the challenging consumer environment will continue due to high unemployment and underemployment levels and weak consumer confidence.” Shares finished higher.

In other earnings news, Big Lots Inc. (BIG $31) said fiscal 2Q profits jumped 37% to $0.48 per share, a penny above analysts’ estimates, however revenues of $1.14 billion fell short of the $1.15 billion anticipated. The discount retailer said its gross margin rose one-half of a percentage point to 40.5% amid fewer markdowns, an improved product sales mix and higher net sales. BIG also raised its full-year forecast again, lifting it to $2.82-2.90 per share from $2.75-2.85. Despite the beat and upward revision, shares traded lower.

Ireland’s CRH Plc (CRH $15), the world’s second largest maker and distributor of building materials according to Bloomberg, said it would miss earnings as spending on US commercial, as well as state and municipal projects, were lower than expected, and that July’s prediction of a y/y increase in EBIDTA from last year’s $1.45 billion was now “unlikely.” CRH also said that concerns about the US recovery have “increased with a continuing flow of disappointing data.” Shares of CRH were off over 16%. the world’s second largest maker and distributor of building materials according to Bloomberg, said it would miss earnings as spending on US commercial, as well as state and municipal projects, were lower than expected, and that July’s prediction of a y/y increase in EBIDTA from last year’s $1.45 billion was now “unlikely.” CRH also said that concerns about the US recovery have “increased with a continuing flow of disappointing data.” Shares of CRH were off over 16%.

Existing home sales plunge, Richmond Fed declines, Fed dissent wider

Existing-home sales came in worse than anticipated, falling 27.2% month-over-month (m/m) in July to an annual rate of 3.83 million units, compared to the drop of 13.4% to 4.65 million units that economists surveyed by Bloomberg had expected. June’s 5.1% drop to 5.37 million units was revised downward to 5.26 million units. The July sales pace is the slowest since comparable records began in 1999, as sales across all regions fell solidly and total sales were 25.5% lower than a year ago. The National Association of Realtors (NAR) noted that total housing inventory at the end of July increased 2.5% to 3.98 million existing homes available for sale, which represents a 12.5-month supply at the current sales pace, up from an 8.9-month supply in June. Investors accounted for 19% of sales in July, up from 13% in June, while all-cash sales rose to 30% in July from 24% in June. The median existing home price was $182,600 in July, 0.7% higher than a year ago, with distressed homes accounting for 32% of sales.

In other economic news, the Richmond Fed Manufacturing Index fell to 11 in August from 16 in July, but above the 8 expected by economists polled by Bloomberg, and remaining above the level of zero that is the demarcation point between expansion and contraction.

Elsewhere, the Wall Street Journal reported that policymakers at the August 10th meeting of the Federal Reserve were more split than initially reported, with at least seven of the seventeen officials speaking against the proposal or had reservations about the Fed’s decision to keep its balance sheet steady to provide support to the economy. According to the report, the Fed’s portfolio of mortgage-backed securities (MBS) was the major sticking point—as low mortgage rates led more homebuyers to refinance, in turn shrinking the central bank’s mortgage portfolio. Such a dilemma, in the face of slowing economic growth, was an unpleasant prospect to some officials, which felt that the best course was to act. However, other members gave pause, deeming the latest move as premature, because while the Fed has downgraded its 2010 growth estimates, it wasn’t drastically toning down estimates for 2011 and beyond. All eyes will likely be on the Fed’s annual meeting in Jackson Hole, Wyoming scheduled for Friday and Saturday for any elaboration by Mr. Bernanke and other Fed officials.

Treasuries finished higher in a flight to safety following the dismal housing report. The yield on the two-year note shed 1 bp to 0.47%, while both the yield on the 10-year note and the 30-year bond lost 11 bps to 2.49% and 3.56%, respectively.

Economic news light in Europe, worries remain

Economic news internationally was light and mixed, as Germany reported final 2Q GDP at an unrevised 2.2% quarter-over-quarter (q/q), or 9.1% q/q annualized, led by an 8.2% q/q increase in exports, while imports rose 7.0%, capital investment gained 4.7%, and private consumption advanced 0.6%. Elsewhere, euro-zone industrial new orders rose 2.5%, higher than forecasts.

Adding to economic concerns overseas were comments from Bank of England policymaker Martin Weale, who told the London-based Times that the UK faces a “real risk” of a second recession, with a “significant chance” of economic contraction over a four-quarter period.

Further east, Japanese Finance Minister Noda remarked today that “excessive and disorderly movements in the currency market can have a negative impact on the stability of the economy.” Meanwhile, the head of the Japanese Trade Union Federation said he told Prime Minister Kan that G-7 finance ministers and central bankers should coordinate action to stabilize the yen.

Back in the Americas, retail sales in Canada rose 0.1%, short of the 0.4% rise expected by economists, as an increase in receipts at electronics, appliance and furniture vendors were more than offset by a decline in sales at gasoline stations.

New home sales to provide additional look at housing market, durable goods orders also on tap

Tomorrow, the US economic calendar will be highlighted by the release of new home sales, expected to be flat in July after surprising the market last month with a 23.6% jump to an annual rate of 330,000 units. Sales of new homes, considered a timely indicator of the housing market as sales are recorded as contracts are signed, have fluctuated considerably in the past few months, as the June advance followed a sharp decrease seen in May to 267,000 units, the lowest level since May of 1963. A disappointing reading this month would paint a grim picture for the US housing market, especially after today's news of the sharp drop in existing home sales.

Traders will also be paying close attention to the July reading of durable goods orders, expected to have risen 3.0% after unexpectedly declining 1.0% in June. Ex-transportation, orders are forecasted to have increased 0.5% in July, after decreasing 0.6% in June. The headline rate has fallen for two consecutive months and has added to a string of recent reports that suggest manufacturing activity is leveling off. Within last month's report, non-defense capital goods excluding aircraft, considered a good proxy for business spending, increased by 0.6%, suggesting that businesses continue to invest in capital. With businesses supporting demand for capital goods, the positive feedback loop of ramped up production—to meet this demand and as inventories have been running lean—could begin to spillover to the employment arena, which would result in some needed support to the economic recovery.

Internationally, the economic calendar will provide investors with Japan’s trade balance, PPI numbers out of Spain and Germany’s Ifo Business Climate Index.