Evening Market Update

Budget Impasse Stymies Stocks Late

After spending most of the day rangebound, US equities slipped late in the day after investors turned cautious following budget negotiations in Congress that failed to result in a deal, bringing the possibility of a government shutdown even nearer. Commodity prices continued to rally, with crude jumping above $112 per barrel and silver and gold surging, also hampering sentiment. Equity news was somewhat light, with Expedia announcing that its Board agreed to split the firm into two separate publicly-traded companies, Seagate Technology reinstated its dividend and offered a rosier 3Q revenue outlook, while Tempur-Pedic International impressed investors by presenting higher-than-forecasted outlooks for 1Q and the full-year. Treasuries finished lower despite the late-day selloff in stocks, while showing little reaction to a mixed wholesale inventories report.

The Dow Jones Industrial Average lost 29 points (0.2%) to 12,380, the S&P 500 Index fell 5 points (0.4%) to 1,328, while the Nasdaq Composite declined 16 points (0.6%) to 2,780. In moderate volume, 822 million shares were traded on the NYSE and 1.6 billion shares changed hands on the Nasdaq. WTI crude oil jumped $2.49 to $112.79 per barrel, wholesale gasoline gained $0.07 to $3.26 per gallon, while the Bloomberg gold spot price soared $15.37 to $1,473.57 per ounce. Elsewhere, the Dollar Index—a comparison of the US dollar to six major world currencies— was 0.8% lower at 74.98. For the week, including dividends, the DJIA was mostly flat, while both the S&P 500 Index and the Nasdaq Composite lost 0.3%.

Expedia Inc. (EXPE $25) announced that its Board of Directors has preliminarily approved a plan to separate the online travel booking company into two separate publicly traded companies. One company will be called TripAdvisor, which will include the domestic and international operations associated with the TripAdvisor Media Group. Meanwhile, the other company will remain as Expedia Inc, including the domestic and international operations of the company’s travel transaction units, such as Expedia.com, Hotels.com, and Hotwire, as well as other brands. EXPE was sharply higher.

Meanwhile, Seagate Technology Inc. (STX $16) announced that its Board of Directors has approved a quarterly cash dividend of $0.18 per share, with the first dividend payable on June 1, 2011 to shareholders of record as of May 2, 2011. The maker of hard disk drives and storage solutions said the dividend, which it discontinued in 2009, “reflects the strength of our balance sheet and the exceptional cash generation ability of our business.” Additionally, STX announced that it expects 3Q revenue to be approximately $2.7 billion, compared to the $2.6 billion that analysts surveyed by Reuters had expected. Shares finished nicely to the upside.

Moreover, Tempur-Pedic International Inc. (TPX $57) was sharply higher after the mattress and pillow maker said it expects 1Q EPS to be between $0.67-0.68, versus the $0.58 that analysts had forecasted, and revenues to be about $325 million, above the $289 million that was expected. Also, the company raised its full-year outlook, saying it anticipates EPS between $2.80-2.95, compared to the $2.68 Street projection, and revenues to range from $1.31-1.36 billion, versus the $1.23 billion that was anticipated. TPX said 1Q results exceeded its prior expectations in both its North American and international segments.

Wholesale inventories rise to finish out the week

Wholesale inventories rose inline with forecasts of economists surveyed by Bloomberg, increasing 1.0% month-over-month (m/m) in February, while January’s 1.1% gain was revised to a 1.0% m/m growth rate. However, sales declined 0.8%, with furniture and home furnishings falling 4.1%, while sales of grocery and related products were up 3.5%. The inventory-to-sales ratio—the amount of time it would take to deplete inventories at the current sales pace—increased to 1.16 in February from January’s 1.14 rate.

Treasuries ended lower even as stocks lost steam late in the day, as the yields on the 2-year and 10-year notes, and the 30-year bond all were 3 bps higher at 0.82%, 3.59% and 4.65%, respectively.

Markets overseas rebound

Sentiment across the pond improved after reports that yesterday’s earthquake that hit Japan, and caused a late-day drop in the markets, caused no major additional damage, while financials gained ground following yesterday’s news that Portugal will seek a bailout and the European Central Bank (ECB) increased its benchmark interest rates by 25 basis points to 1.25%. The advance in the group also came as European regulators said they will use stricter criteria when measuring the capital positions of the region’s largest banks in this year’s second round of stress tests of the sector. On the economic front, Germany’s trade surplus widened as both exports and imports grew at a level above economists’ forecasts, but the surplus was below expectations. Moreover, UK producer prices rose more than anticipated in March.

Economic news in Asia/Pacific was non-existent today, but sentiment was mostly positive after it was determined that yesterday’s magnitude 7.1 earthquake in Japan did not cause major damage to the Northeast region of the nation that had been hit by March’s massive earthquake and tsunami. Also helping to set the mood, Toyota Motor Corp. (TM $78) and Nissan Motor Co. (NSANY $17) said they will resume production at all factories in Japan from mid-to-late April, but would not operate at normal volumes for an undetermined period.

Upbeat economic signs blurred by focus on central bank divergence

The US equity markets finished nearly unchanged for the week, despite a plethora of major M&A announcements, continued growth in service sector activity, and mostly better-than-forecasted March sales from the retail sector. Traders seemed focused on central bank announcements with central banks out of the UK, Japan, and Australia all keeping rates unchanged, and the policy divergence developing between Europe and the US.

The European Central Bank (ECB) raised its benchmark interest rate by 25 basis points to 1.25%, a move that was widely expected, but although ECB President Jean Claude Trichet noted that this was not necessarily the beginning of a rate-hike campaign, he warned that it will continue to take appropriate actions for price stability—the ECB’s lone mandate—amid potential inflationary catalysts of higher commodity prices and “ample liquidity.” Meanwhile, the US Federal Reserve, which has a dual mandate of price stability and maximum employment, released its minutes from its March 15 monetary policy meeting, which suggested the Fed will see its current bond-purchasing program, known as QE2, through to its June 2011 end. The report showed policymakers believe the pressures on prices from commodities are “transitory,” and although the economy appeared to be on “firming footing,” unemployment continued to be “elevated,” even as the labor market is “improving gradually.” Also, the data confirmed that there is dissention in the ranks of the Fed, with a few Committee Members noting that economic conditions might warrant a move toward less-accommodative monetary policy this year, but a few other Members noted that exceptional policy accommodation could be appropriate beyond 2011.

Busy week highlights inflation data and Fed assessment of the economy

Next week brings the unofficial beginning of 1Q earnings season with Dow member Alcoa Inc.’s (AA $18) earnings report after the close of trading on Monday.

Major US economic releases begin Wednesday, with advance retail sales, forecasted to rise 0.5% month-over-month (m/m) in March, after gaining 1.0% in February, while sales ex-autos are estimated to grow 0.7%, the same pace as the prior month. Same-store sales results—sales at stores open at least a year—reported by retailers were generally better-than-expected, despite the negative effects of the Easter shift and higher gasoline prices. The retail sales report includes spending at supermarkets and gas stations.

Later Wednesday, the Federal Reserve Beige Book will be released, wherein Fed staffers summarize anecdotal economic data from all twelve Federal Reserve districts in preparation for the next Federal Open Market Committee (FOMC) meeting scheduled for April 26-27. In the minutes from the March meeting, the Fed upgraded its view on the economy, saying it was on a “firmer footing” and labor conditions showed “gradual improvement,” and inflation due to commodity price increases were expected to be “transitory.”

Inflation readings will be reported later in the week, starting with Thursday’s Producer Price Index (PPI), expected to show prices at the wholesale level rose 1.1% m/m in March, while the core rate, which excludes food and energy, is expected to increase 0.2%, the same pace as February. The release precedes Friday’s Consumer Price Index (CPI) report, forecasted to show a 0.5% m/m increase, while ex-food and energy, it is expected to again rise 0.2%.

The potential for inflation is a key point of disagreement and uncertainty for many investors. While next week’s core inflation readings are likely to continue to show levels below the Fed’s longer-term inflation “target” for a balanced economy, the question is whether very accommodative monetary policy continues to be necessary with the economy showing continued recovery. As inflation tends to lag economic growth and monetary policy needs time to work, monetary policy may need to be adjusted before inflation pressures rear their head.

Friday also brings the February reading on industrial production, expected to rise 0.6% m/m in March after falling 0.1% in February, and capacity utilization is forecasted to increase to 77.4%. Other releases on the US economic calendar include import prices, the trade balance, MBA Mortgage Applications, business inventories, initial jobless claims, the Empire Manufacturing Index, and the preliminary University of Michigan Consumer Sentiment Index reading for April.

Reports on the international front include: new yuan loans, industrial production, 1Q GDP, and CPI from China, machine orders, machine tool orders and industrial production from Japan, Germany’s CPI and the Zew Economic Sentiment Survey, along with industrial production and CPI figures from the euro-zone, France and Italy. In North America, the Bank of Canada will conduct its monetary policy meeting.