Economic & Market Update: January 26, 2009

“Buckle Up for the Week Ahead”

The Fortigent Investment Research Team

Last Week’s Highlights:

Housing Starts:                 550K – homebuilders struggling mightily

Stocks:                                   832 – a relatively quiet week

Bonds:                                  2.6% – excess supply becoming more of a concern

Oil:                                          $46 – supply is declining quickly

Dollar/Euro:                        $1.29 – contraction in Europe propelling the dollar

Economics This Week:

Date      Item                                                Est.                     Comment

1/26      Existing Home Sales:             4.4mln                 Continued Moderation

1/27      Consumer Confidence:           38.0                     Unlikely to improve in the near term

1/28      FOMC Meeting:                       0-0.25%             Nowhere left to go

1/30      GDP:                                              -5.2%                   The 800 lb gorillas in the room

Earnings Seasons Brings a Mixed Bag

The markets appeared to be in a confused state over the past week as the focus turned to the slew of earnings reports being released. Thus far, the picture has been mixed. Blue chip companies are holding up well on a case-by-case basis, with names like Apple and IBM outperforming, but Microsoft disappointing. 

Source: Bespoke

One of the bigger disappointments this week was General Electric, which reported a 43% decline in profits to 36 cents per share. As recently as this past September, analysts were anticipating record profits of 71 cents per share. The continued struggles within GE's financial division are casting serious doubts as to the firm’s ability to maintain its coveted AAA rating from both S&P and Moody's. GE is adamant in saying the company will not be forced to reduce the annual dividend paid to shareholders, but at this point it looks like the firm is stuck with two choices: sacrifice the dividend or the AAA rating.

Moving to Microsoft, the company is cutting 5,000 jobs on the back of less than stellar earnings and has suspended earnings forecasts for the remainder of the fiscal year, citing the unpredictable nature of this recession. This mark's the first time in Microsoft's history that the company is undertaking firm-wide job cuts and, in a surprise appearance on the conference call, company CEO Steve Ballmer said, “Our model is things go down and they reset. The economy shrinks and then it doesn't rebound, it builds from a lower base.”  This is a fairly sobering comment from one of the largest companies in the world.

On a more positive note, IBM and Apple performed well in light of recent market conditions. IBM exceeded 4th quarter earnings estimates and provided 2009 earnings guidance in excess of analysts’ estimates. The company worked aggressively to cut costs and the strategy paid off during the quarter. Apple’s profit machine continued to chug along during the weak holiday season, with notebooks, iPods and iPhones all continuing to attract new customers. 

A Similar Story Reverberates Across the Globe

This past week brought poor economic news from just about each of the 40 time zones worldwide. The credit crisis appears to be taking no enemies at this point, preferring to leave a path of destruction in its wake.

Across the pond, the UK officially joined the US in recession, with GDP declining 1.5% quarter-over-quarter, the largest contraction since 1982 and the first recession for the country since 1991. The UK is facing a similarly long road out of recession as the country’s banking sector is in crisis and the housing market is in freefall. Prime Minister Gordon Brown recently unveiled a second bank rescue package designed to give the Bank of England unprecedented powers to buy assets including corporate bonds and asset-backed securities.  The move is similar in nature to the actions we have already seen in the US and will attempt to ease the flow of credit and boost the amount of cash in the economy.

Also within the European sub-continent, Spain became the third country in a week (Greece and Portugal being the others) to have its credit rating cut by S&P. Spain was downgraded to AA+ from AAA due to severe deterioration in public finances, resulting from a story that has become all too common, overvalued real estate and frozen credit markets. Spain is in the relatively more difficult position of belonging to the European Monetary Union, which leaves the country’s monetary policy somewhat at the mercy of the other member countries.  Stay tuned for further developments as other member countries, notably Ireland, look set to be downgraded. 

Heading to the opposite side of the globe, China took some heat from new Treasury Secretary Tim Geinther for alleged currency manipulation while also reporting that 4th quarter GDP growth slowed to 6.8%. China vehemently denied Geinther’s claims of currency manipulation, but the comments signal that the Obama administration may be looking to take a harder stance when it comes to dealing with China.

The global scope of the credit crisis grows ever larger by the day, as illustrated by the following graph of the performance of bank stock – a picture is worth 1000 words:

Source: Chartoftheday.com

Who Wants to Split the Cost of a Helipad?

One of the most highly anticipated events this week is bound to be the World Economic Forum in Davos, Switzerland, which kicks off on Wednesday. More than 1,400 world and economic leaders, in addition to 40 heads of state, will be in attendance, with this year’s event being billed as ‘Shaping the Post-Crisis World.’ While there will clearly be a more somber tone at this year’s event, we have a feeling there is not going to be a sudden surge in the number of individuals flying coach. With that said, the markets will undoubtedly hang on every word echoing around the Swiss Alps, trying to decipher what the next iteration of the global financial landscape will look like.

Key speakers at this year’s event include Russian Prime Minister Vladimir Putin, Chinese Premier Wen Jiabao, British Prime Minister Gordon Brown, and German Chancellor Angela Merkel. The US public policy machine will be notably absent from the event, with Larry Summers (President Obama’s top economic adviser) being the only attendee from the new White House administration. 

Davos has not historically facilitated major policy changes but the forum does provide a unique opportunity for world leaders to show a joint front in an attempt to restore some amount of confidence in the world economy. 

In advance of the forum, the steering committee released a fascinating report that provides different scenarios for the near-term and long-term outlook of the global financial system.  The report addresses the future of industries from banking to insurance to hedge funds, and while we do not necessarily agree with each of the conclusions, the committee did provide three near-term macroeconomic shifts we can expect as a result of the current crisis. The first is a multi-year deleveraging of bank and household balance sheets that will threaten global economic growth for a prolonged period of time. Second is the role of government intervention. The crisis forced a large portion of the world’s financial risk on to national balance sheets and may cause governments to consider regulation of an international nature.  Last is the notion that increased nationalism and reduced cross-border trade flows will cripple the pace of globalization. 

As an interesting aside to the tumultuous nature of the current landscape, John Thain (formerly of Merrill Lynch fame) is on the steering committee of this year’s event. It will be curious to see if he shows, seeing as he is now standing in the same unemployment line as the other 2.6 million people that lost their jobs in 2008 (albeit in a much more comfortable position).

Watch Out Below

What will probably be the second biggest event of the week is the release of the 4th GDP numbers on Friday. There is a decidedly negative sentiment surrounding the GDP figure, with the consensus showing a -5.2% annualized decline for the quarter. Estimates range anywhere from down 7% to down 3%, so the trend is unmistakably pointing to the largest decline since 1982. 

Source: Econoday

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