Evening Market Update

Light, Cautious Trading to Start the Week

Despite heightened M&A activity and a larger-than-expected increase in personal spending, US equities lost ground as caution ahead of a slew of upcoming economic events, headlined by Friday’s US labor report, and low volume may have exacerbated the day’s declines. As well, some profit-taking following last Friday’s steep gains may have added to the downdraft. The decline in stocks came to the benefit of Treasuries, which closed higher on the day. In M&A news, Dow member Intel announced it has reached an agreement to acquire the wireless unit of Infineon Technologies, 3PAR said that Dow component Hewlett-Packard’s takeover bid is superior to Dell’s previously-accepted proposal, while Sanofi-Aventis made its $18.5 billion bid to acquire Genzyme public.

The Dow Jones Industrial Average lost 141 points (1.4%) to 10,010, the S&P 500 Index declined 16 points (1.5%) to 1,049, and the Nasdaq Composite was 34 points (1.7%) lower at 2,120. In light volume, 817 million shares were traded on the NYSE and 1.6 billion shares were traded on the Nasdaq. Crude oil shed $0.47 to $74.70 per barrel, wholesale gasoline was flat at $1.91 per gallon, and the Bloomberg gold spot price fell $1.05 to $1,237.05 per ounce. Elsewhere, the Dollar Index—a comparison of the US dollar to six major world currencies—rose 0.3% to 83.18.

M&A news dominated the headlines again, with Dow member Intel Corp. (INTC $18) announcing that it has reached an agreement to acquire the wireless solutions business of German chipmaker Infineon Technologies AG (IFNNY $6) in an all cash transaction valued at about $1.4 billion. INTC said the wireless unit will operate as a standalone business and the acquisition expands its current Wi-Fi and 4G WiMAX offerings to include IFNNY’s 3G capabilities. INTC and IFNNY were under pressure.

Elsewhere, the competition to acquire storage system 3PAR Inc. (PAR $32) continues to heat up after it announced that Dow component Hewlett-Packard Co.’s (HPQ $39) unsolicited acquisition proposal of $30 per share constitutes a “superior proposal” to Dell Inc.’s (DELL $12) $27 per share offer. PAR said its Board of Directors has notified DELL of its intention to terminate the merger agreement with the company, immediately following the expiration of the three business day period for DELL to counter any offer, which will come on Wednesday.

Separately, HPQ announced that it has authorized an additional $10 billion share repurchase program, with it expecting to purchase at least $3 billion worth of shares in fiscal 4Q. HPQ and DELL gained ground, while PAR closed lower.

Moreover, Sanofi-Aventis (SNY $29) made its $18.5 billion $69 per share cash bid to acquire Genzyme (GENZ $70) public. But GENZ’s Board of Directors unanimously rejected the proposal, saying it is not the right time to sell the company because the “opportunistic takeover proposal” does not begin to recognize the significant progress underway to rectify its manufacturing challenges or the potential for its new-product pipeline. SNY’s CEO said on a conference call according to Dow Jones Newswires that the company is prepared to consider all alternatives in order to carry out the acquisition, but he added that it is too early to speculate on the possibility the bid could turn hostile. Shares of GENZ were higher, while shares of SNY gave up an early gain and were lower.

Personal spending exceeded expectations, inflation remained benign

Personal income rose 0.2% in July, versus the Bloomberg survey of economists, which called for a 0.3% increase, while June’s flat reading was unrevised. Personal spending was up 0.4% in July, compared to expectations of a 0.3% rise, and June’s flat figure was also left unchanged. The savings rate moved lower to 5.9% in July, after a downwardly revised 6.2% for June.

Also, the PCE Price Index, which is released with the income and spending data, was up 1.5% year-over-year (y/y) in July, after June’s 1.4% increase was unrevised, and above the consensus forecast of a 1.4% increase. The core PCE Price Index, which excludes food and energy, was 0.1% higher month-over-month (m/m), matching what economists expected, while y/y core prices moved 1.4% higher, inline with the consensus.

Today’s data kicked off a heavy week for the economic calendar, which will be headlined by Friday’s release of nonfarm payrolls, expected to fall 100,000 in August, after declining by 131,000 in July, while excluding government employment, which has been falling as temporary Census workers decline, private sector payrolls are expected to increase 47,000, after expanding by a disappointing 71,000 in July. The unemployment rate is estimated to increase to 9.6% from 9.5%, as workers re-enter the workforce as job openings increase.

Treasuries were higher amid the decline in the equity markets. The yield on the two-year note was 7 bps lower at 0.50%, the yield on the 10-year note fell 11 bps to 2.53%, and the 30-year bond yield declined 10 bps to 3.59%.

BoJ “enhances” easing

The Bank of Japan held an emergency monetary policy meeting, in which it introduced a new 10-trillion yen ($118 billion) six-month fixed-rate funds-supplying operation to “encourage a decline in market interest rates and further enhance easy monetary conditions.” The BoJ said Japan’s economy shows further signs of a moderate recovery, and it is likely to be on a recovery trend, but in the mean time, uncertainty about the future, especially for the US economy, has heightened more than before, and the foreign exchange and stock markets have recently been unstable. “In these circumstances, the Bank judged it necessary to pay more attention to the downside risks to the outlook for Japan’s economic activity and prices,” the central bank added. The BoJ’s action comes as the yen has surged to the highest level in close to 15-years versus the US dollar and the appreciation of the Asian currency has dampened the outlook for economic prosperity in Japan due to the negative impact it has on companies that rely heavily on exports.

Japanese Prime Minister Kan applauded the BoJ’s move, adding that the government is planning to implement a 920 billion yen ($10.8 billion) stimulus plan by Sept. 10 in order to improve employment and provide aid to small businesses pressured by the rising yen. The measures will be aimed at extending current energy-saving initiatives and help graduates in finding jobs.

In other economic news in the Asia/Pacific region, a 5.9% m/m decline in exports and a 4.9% increase in imports combined to give New Zealand its first trade deficit in seven months, to a gap of NZ$214 million, far more than the NZ$40 million expected by economists, while separate reports showed the nation’s business confidence and activity outlook both deteriorated. Elsewhere down under, a report showed Australia’s new home sales fell solidly m/m in July, but a read on 2Q company operating profit rose more than triple the amount forecasted. Meanwhile, South Korea’s government announced measures over the weekend to boost the property market.

Economic news in Europe was mostly positive, as euro-zone economic confidence improved to the highest level in more than two years, rising from 101.1 in July to 101.8 in August, above the 101.6 that economists had expected. Also, a separate report showed euro-zone services confidence unexpectedly increased. In other economic news in the region, a UK housing survey declined in August, Spain’s CPI rose 1.8% y/y in August to match forecasts, while a report on euro-zone industrial confidence remained unchanged as expected.

Elsewhere in North America, Canada’s current account deficit for the 2Q widened for the seventh-straight quarter, to $10.5 billion, but less than the $10.7 billion shortfall expected by economists, while industrial product prices edged higher by a smaller-than-expected amount.

Housing and Fed in focus tomorrow

Tomorrow’s release of the S&P/CaseShiller Home Price Index, which lags the sales data by a month, is forecasted to rise 3.55% year-over-year (y/y) and 0.20% m/m in June. Recent data has been distorted as sales were driven by the tax incentive and then sharply fell after the expiration of the credit.

However, traders will likely be focused on the midday release of the minutes from the August Federal Open Market Committee (FOMC) meeting. The Fed downgraded its assessment of the economy and the jobs market at the meeting, saying that the pace of recovery was slower than expected, and moved to stem a decline in its balance sheet by keeping its holdings constant. The balance sheet was set to decline as mortgage-backed securities either matured or were pre-paid (primarily as consumers refinanced their loans), and this would have effectively tightened policy.

Hoenig was the only formal dissenting vote at the meeting, but the Wall Street Journal has reported that seven of the seventeen policymakers at the meeting either spoke against the proposal or had reservations, and market participants will be dissecting the minutes for illumination about these discussions. However, some of the impact of the report is likely to be outweighed by Bernanke’s Jackson Hole speech last Friday, in which he gave a detailed analysis of the economy and potential policy actions. The Fed Chair said that the FOMC has not agreed on specific criteria or triggers for further action, potentially because despite weaker data recently, he believes “the preconditions for a pickup in growth in 2011 appear to remain in place.”

It appears that the Fed is currently more concerned about the jobs outlook than the prospect of deflation. Businesses have been reluctant to hire amid elevated levels of uncertainty regarding economic prospects, political policy, and tax status. Small businesses, a key engine of growth, haven’t participated in the recovery to the same extent as large businesses, due to a more domestic focus, changes in consumer spending behavior, and tougher lending environment as they have less room for error in forecasting demand. Within the small business sector, the lack of support for start-ups has likely hampered job creation. A study by the Kaufman Foundation showed that excluding start-ups, net employment growth in the US from 1980-2005 was negative. The President of the Minneapolis Fed has argued that a large part of today's unemployment problem is caused by issues the Fed can't solve, such as the mismatch between the skills demanded and skills of jobless workers. The Fed has possibly stayed at the well too long (rendering low rates somewhat ineffective), but the Fed is undoubtedly committed to doing its best to avoid a repeat recession.

Other releases on the US economic calendar include the Chicago Purchasing Manager survey, forecasted to decline to 57.0 in August from 62.3, and the Conference Board’s measure of consumer confidence, expected to increase to 50.7 in August from 50.4.

Elsewhere in the Americas, Canada releases 2Q GDP and Brazil releases industrial production.

In Europe, releases include euro-zone CPI and unemployment, and retail sales, UK mortgage approvals, as well as German unemployment.

In Asia/Pacific, Japan is slated to announce industrial and vehicle production, and housing starts, while Australia will report retail sales and building approvals.