Evening Market Update

Markets Lose Steam, Finish Mixed

US equities spent most of the day on the plus side, courtesy of eased concerns surrounding a potential Greek default after reportedly productive talks with European officials yesterday. However, after a second day of discussions, a late-day report noting that officials will return in early October to complete their review dampened speculation that an approval was near, taking the wind out of the market. Meanwhile, a debt downgrade of Italy by Standard & Poor’s and a lowered global growth forecast did little to affect the markets, while a mixed read on August housing construction, also had little impact. On the equity front, ConAgra Foods turned in mixed 1Q results while also announcing that it will drop its bid to acquire Ralcorp Holdings, while AutoZone bested analysts’ 4Q profit forecasts. Treasuries moved higher at the long end of the curve following the late-day report, while gold and crude oil prices also were to the upside.

The Dow Jones Industrial Average inched 8 points (0.1%) higher to 11,409, the S&P 500 Index declined 2 points (0.2%) to 1,202, and the Nasdaq Composite lost 23 points (0.9%) to 2,590. In modest volume, 926 million shares were traded on the NYSE and 1.9 billion shares changed hands on the Nasdaq. WTI crude oil rose $1.11 to $86.92 per barrel, wholesale gasoline was unchanged at $2.70 per gallon, and the Bloomberg gold spot price jumped $30.20 to $1,809.10 per ounce. Elsewhere, the Dollar Index—a comparison of the US dollar to six major world currencies—was flat at 77.09.

ConAgra Foods Inc. (CAG $23) reported fiscal 1Q earnings ex-items of $0.29 per share, below the $0.31 consensus estimate of analysts surveyed by Reuters, while revenues rose 9.5% year-over-year (y/y) to $3.1 billion, topping the $2.9 billion that the Street had forecasted. CAG said its consumer foods unit’s operating profits declined, due to 11% inflation that offset strong cost savings and the benefit of pricing, adding that “additional pricing actions are under way.” Also the food company said its commercial foods profitability decreased due to wheat market dynamics, which more than offset the benefit of necessary price increases. CAG reaffirmed its full-year guidance. Separately, the company announced that it has withdrawn its $94 per share, all-cash offer to acquire Ralcorp Holdings Inc. (RAH $76), following RAH’s “failure to enter into constructive dialogue” with CAG by the designated deadline of September 19, 2011. Shares of CAG were slightly lower, while RAH traded higher.

AutoZone Inc. (AZO $328) posted fiscal 4Q profits of $7.18 per share, exceeding the $6.97 forecast by analysts, with revenues rising 8.1% y/y to $2.6 billion, roughly inline with the Street’s expectations. The auto parts retailer said its 4Q same-store sales—sales at stores open at least a year—rose 4.5% y/y. The company said retail price increases on commodity based products drove higher merchandise margins. AZO was lower.

Housing starts and building permits come in mixed

Housing starts for August fell by a larger rate than expected, dropping 5.0% month-over-month (m/m) to an annual rate of 571,000 units, from a downwardly revised 601,000 rate in July, and compared to expectations of economists surveyed by Bloomberg, which called for starts to come in at 590,000. Single-family housing starts fell 1.4%, and multi-home starts fell 13.5%, with the Northeast tumbling 29.1%, possibly impacted by Hurricane Irene. However, building permits, one of the leading indicators tracked by the Conference Board as it is a gauge of future construction, unexpectedly rose, gaining 3.2% m/m in August to an annual rate of 620,000, after July’s upward revision to a 601,000 rate. The expectation was for permits to come in at 590,000 units. Single-family permits rose 2.5% and multi-family homes increased by 4.5%.

Although the read on future housing construction was encouraging, reaching the highest level since December, today’s starts data illustrates that the housing market remains lackluster, as they are at nearly half of what economists consider a healthy level. The housing construction market continues to face intense competition from the large supply of foreclosed existing homes, and lending standards remain tight, while the high level of unemployment and slowing economic growth continues to hamstring demand.

Treasuries finished slightly higher after paring early losses. The yield on the 2-year note was flat at 0.17%, while the yields on the 10-year note and the 30-year bond were down 3 bps to 1.93%, and 3.19%, respectively.

Italy downgraded, IMF lowers global growth outlook

Despite Standard & Poor’s (S&P) downgrading the sovereign credit rating of Italy by one notch and keeping its outlook at negative, citing slowing economic growth and a “fragile” government, the mood overseas was more upbeat, courtesy of eased concerns over a potential Greek default. Bloomberg reported that Greece’s finance minister said yesterday’s talks with European officials to discuss its progress on cutting its deficit in order to qualify for the next installment of euro-area bailout funds were “productive.” However, following a second day of talks with eurozone leaders today, officials agreed to return in early October to complete their review, dampening hopes of a near-term resolution. Greece’s cabinet is set to meet tomorrow to discuss the content of the talks.

Meanwhile, the International Monetary Fund (IMF) lowered its 2011 and 2012 global growth forecast, noting that timely policy decisions in the US and Europe are needed to avoid “severe repercussions” for the global economy. The IMF said, “Strong policies are urgently needed to improve the outlook and reduce the risks.” The IMF cut its 2012 global economic growth forecast from the 4.5% it projected in June to 4.0%, while reducing its forecast for this year from 4.3% to 4.0%. Also, the Fund lowered its US economic growth estimate for this year to 1.5% from 2.5% in June, and its 2012 forecast from 2.7% to 1.8%.

The economic calendar in Europe also supported sentiment, with Germany’s ZEW Survey of Economic Sentiment falling by a smaller amount than economists had expected for September, German producer prices unexpectedly falling m/m in August, and Italian industrial orders surprisingly growing m/m in July. However, separate reports showed Sweden’s 2Q GDP was revised to a slightly lower rate of growth, while Switzerland’s exports fell solidly in August, causing the nation’s trade surplus to shrink.

In economic news out of the US’ neighbor to the north, Canada’s leading index remained unchanged for the month of August, below the 0.1% gain expected by economists surveyed Bloomberg, while the nation’s wholesale sales came in slightly higher than expectations during July.

Sentiment in the Asia/Pacific region was mixed ahead of the start to the US Federal Reserve’s two-day monetary policy meeting, while attention remained on the eurozone debt crisis. Economic reports in the region showed that Japanese department store sales fell in August and the nation’s Leading Index was revised lower, while South Korea’s department store sales grew at a smaller rate in August compared to July. Elsewhere, the minutes from the Reserve Bank of Australia’s monetary policy meeting showed policymakers were content on keeping its benchmark interest unchanged at 4.75%, as they grappled with determining the “extent to which recent global and domestic developments would reduce capacity pressures in the economy and, in due course, help contain inflation.”

Fed meeting concludes tomorrow

Tomorrow rounds out the string of housing data for the week, with existing home sales forecasted to rise 1.7% m/m to an annual rate of 4.75 million units in August after falling 3.5% in July to a 4.67 million unit annual rate. The other release on the US economic calendar is the MBA Mortgage Applications Index.

With economic data continuing to come in on the weak side, investors may be expecting the Fed to deploy further tools to try to arrest the deceleration in the economy. Some in the market believe the next step for the Fed may be a “twist” of their balance sheet maturity, in reference to reducing its share of short-term securities and increasing its longer-term holdings. The effect of this action would be somewhat similar to QE, as it would reduce the supply of longer-term securities in the market and potentially lower longer-term rates, with the hope of pushing investors toward higher-risk securities elsewhere. This could be achieved by reinvesting the proceeds of prepaid or maturing mortgage securities into Treasuries in the middle maturities of the curve. Other tools the Fed may be weighing are cutting the interest rate on excess reserves (IOER) or making further refinements to its communication policy on the conditions for an eventual rate hike.

Economic reports slated for release overseas tomorrow include: the UK’s public sector net borrowing, Japan’s trade balance and All-Industry Index, South Korea’s unemployment rate, and Canada’s CPI. Elsewhere, the Bank of England will release the minutes from its Sept. 7-8 monetary policy meeting.