Report from Europe: Does 'V' Come Before 'W'?

US markets were closed on Monday but Asian and European bourses started the week on a positive note (the FTSE made a new high) assisted by growing confidence that policymakers are not about to reverse stimulatory policy settings, merger talk and a limited amount of better-than-expected economic data. The latter substantially amounted to the German factory orders report, which showed orders up a greater than expected 3.5% mom, the fifth consecutive monthly gain. However this growth should be put into perspective as orders have merely returned to where they were in late 2003.

Today’s Market Moving Stories

• While we slept, Asian equities were rudderless. Most markets traded higher but lacked any conviction with patchy volume. Chinese banks are on the cusp of breaking out, having quietly mean-reverted over the past week. In contrast, Japanese banks are coming under pressure following poor lending growth data.
• Chancellor Angela Merkel said that the German economy may contract by 6% or 5.5% this year. Merkel made her comments in a speech to lawmakers in Berlin today. This was on the day when we learnt that German industrial production declined a disappointing 0.9 in July. ECB board member Gonzalez Paramo in a Spanish newspaper interview called optimism in markets “excessive”. Shades of Alan Greenspan. Certainly suggests European rates are not going anywhere soon.
• In stark contrast UK manufacturing increased three times as much as economists forecast in July in the biggest jump in 18 months, boosted by higher production of cars and pharmaceuticals. Output rose 0.9% from the previous month.
• Credit Suisse equity strategists have a note out saying investors should favour stocks over bonds and cash and forecast gains in equity indexes worldwide ranging from 12% for Europe and 23% for Japan through mid-2010 as the economy recovers. “This is the best phase of the economic cycle,” a team of strategists led by Andrew Garthwaite in London wrote. “We do not exclude a period of near-term consolidation, given that some of our tactical indicators are sending a signal of caution. Yet, other indicators suggest it is too early to sell.”
• Gold rose higher after prices broke 100- and 200-day moving averages in both EUR and GBP terms. The G20’s dovish consensus over the weekend gave further momentum to the rally by boosting inflation-related investment interest. Gold is now trading above the psychological $1000 level. $1004 is the March 2008 close after Bear Stearns collapsed. A close at these levels could pave to substantially higher prices ($1100+). So what's driving this demand? (1) Seasonality. The yellow metal traditionally sees big demand from September through to December. (2) The decline in the US Dollar. (3) A slight uptick in inflation fear.
• Basle to share capital adequacy rules. This is probably the single most far-reaching decision in the entire post-crisis regulatory efforts. The 27 central bank governors and bank supervisors of the world’s industrialised countries decided to force publically quoted banks to a stricter definition of capital, by allowing only “core-tier 1” capital. This new rule would set two different standards for publically quoted banks, and for other banks, which could use hybrid capital in the future. Most important effect in my view is that banks with a highly leveraged capital structure and/or relatively low capital ratios (e.g. ING, Deutsche, CASA, Natixis, the Italians) will need a relatively long adjustment period. A further result from this is we may see more debt buybacks and rights issues to increase proportion of core capital component. ECB board member Gonzalez-Paramo said markets might be reacting overoptimistically to positive economic data.

What, No Strong Dollar?
The G20 Finance Ministers’ statement was interesting to me for two reasons:

1) There will be different timing to exit.
2) There was no endorsement of a strong dollar.

“Working with the IMF and the FSB we will develop co-operative and co-ordinated exit strategies, recognising that the scale, timing and sequencing of actions will vary across countries and across the types of policy measures.” In my opinion this should bode well for the currencies of countries who entered this global crisis with relatively more robust fundamentals like Norway, or whom may have already undergone austerity programmes in the 1990s (e.g. Sweden, Australia) or whom may be rather familiar with the IMF doctrine due to participation in programmes over the years (by this I mean various Emerging Markets countries).

The other thing I felt was interesting was that despite the fact the dollar is languishing, there was no mention of the strong dollar policy. Whilst I may not have expected that officially to be made by the group, it was noteworthy to me that the US did not underline it separately at any side meetings or interviews which I am aware of.

So today there are no more excuses, there are no more holidays. It’s time to put your money where your mouth is. The Fed and ECB have made it patently clear that they do not intend to remove liquidity any time soon although admit some others may do so. I believe that the fact the Australian dollar closed last week at a fresh high against the US dollar without the S&P at a fresh high is important. The euro has also essentially spent three months trading a range and although there are market reports of barriers at 1.4450 perhaps the time has come for reserve managers to press on with diversification and pull back from playing ranges.

The US Housing Market – There May Be (More) Trouble Ahead
1) Repayments. In the US over the weekend, several second-order signals suggested bad news for banks' portfolios. For example, data from the MBA show the area of concern continuing to shift from subprime to prime, with the pace of delinquencies for prime borrowers on mortgage and credit-card payments accelerating. Prime loans account for some 80% of US bank exposure to mortgages and credit cards. This deterioration is kicking in as prime borrowers lose their jobs. These richer borrowers have had better defences, and are only now starting to run out of the fixes that had previously kept them afloat.

2) Taxpayer liability for mortgages. On the home mortgages front, trouble continues to brew. Nearly 90% of all new US home loans are funded or guaranteed by the state in some way, which is sooner or later going to have far-reaching consequences, and is going to make a durable recovery over the coming years far harder, as the government is obliged to retrench. Put simply, without government support today, there’d be no lending. Meanwhile the state’s contingent liability on loans turning sour continues to mount. One sign of this is engagement of the Federal Housing Administration. It has been sharply increasing the amount of home loans it insures, with its share of new mortgages jumping from 2% in 2006 to nearly 20% so far this year (and the particularity of very small down payments) and the outstanding of FHA-backed loans likely to total over $600bn shortly. These past few days, the press has been talking about a bailout. However, it would seem that with funding not a problem for the FHA, it can continue to function as is, without a bailout and without much transparency around what might be the tab for the taxpayer (and the economy).

Equities News

• McInerneys has announced the date for the EGM to discuss the current negative equity situation which the group finds itself in. The date is the 28th of September with the remit of the meeting being the discussion of what measures should be taken to remedy the situation where the net assets of the company are now less than half of the market cap of the group.
• Following a mistaken release ahead of next Thursday's interim results, Kingfisher has released indicative trading figures which state that adjusted pre tax profit will be in the range of £285-£290m, ahead of the consensus of £262m expected. This compares with the £214m reported last year. Whilst translation of overseas profits into (weak) sterling will have flattered the outcome somewhat, this is a good result. Much of the improvement was driven by the UK, where profits rose from £93m to £148m.
• Following news of yesterday’s rejected bid, there has been talk of whether there will be a counterbid for Cadbury (CBY). In truth, all candidates are either competition constrained (Nestle (NSRGY.PK), Mars) or too small (Hershey (HSY), Ferrero) to bid alone. Combined bids are a possibility, but time is against them and Nestle yesterday reaffirmed its previous guidance that it had no intention of making larger acquisitions and its acquisition budget was €1-2bn. More likely is that Kraft (KFT) will be successful, but only after being forced to raise its bid, almost certainly by enriching the cash component.
• Deutsche Telekom (DT) and France Telecom (FTE) have announced this morning that they are to merge their UK businesses in a 50:50 Joint Venture. This will give the combined entity market leadership of the UK market with a tasty 37% market share. Combined revenues will be £7.7bn and EBITDA £1.7bn. The deal will have to get through the regulatory authorities, which is no slam dunk, although if this deal can’t, then the alternative deals with Vodafone (VOD) and Telefonica (TEF) are a non starter as they would each have a market share in excess of 40%.
• According to a report in Wirtschaftswoche, Michelin (MCGFF.PK) could seek to acquire US based rival Goodyear (GT). The rationale appears to be based on the fact that Goodyear has weaker financials than Michelin, which in turn could be seeking to increase its footprint in North America and Asia. Elsewhere, the report also noted that Michelin could be interested in buying Continental’s tyre operations.
• Comments from Intel (INTC) suggest that the sector may be a beneficiary of the corporate upgrading cycle, particularly with the release of Windows 7 and the increasing average age of corporate computers, which is now approaching five years.
• BHP Billiton (BHP) and Randgold Resources (GOLD) surged more than 3% as copper rose in London and gold rallied to an 18-month high. Goldman Sachs raised its forecasts for industrial metals prices, citing “increasing signs and confidence that the global economy is finally in recovery.”
• Apple’s (AAPL) shares may be buoyed before it holds a “rock and roll” event tomorrow which may be the first opportunity for CEO Steve Jobs to make a public appearance after his liver transplant.

And Finally… He’s Back. Jim the Realtor, Another Business Opportunity

Disclosures: None

Comments

[NUCLEAR1929:]

hedge funds are melting, I am so happy to have some OTC agreements in Liechtenstein with a solid bank, some small ownership (20,000,000 shares) in a start up company that develops security systems with already booming demand (other competitor is only Siemens and Honeywell International) that will only go higher in the event of war in the Middle East.
To speak about hedge funds today makes no sense, its like in 1929 to speak about buying stocks when all WS melted like snow in August.
I expect the number of hedge funds till 2015 will decline by 50-60%

Sep 08 02:07 PM

[mwfall:]

a

Sep 09 01:28 AM

[rennert:]

The economy will not grow until grandma gets a decent return on her CD's. All over the country people a hunkering down. They are bartering and spending only on food, often cheap food . The American people are strong, clever and persistent. They are not being fooled into spending their hard earned money by these fast talking public officials and wallstreet duds.

Sep 09 10:22 AM

[Plant the s...:]

It is interesting who is for a weak dollar (Russia & their oil exports), American exporters.
Europeans (Sarkozy) and Japanese are unhappy about the weaker dollar making their exports less competive.
China justs want the US to stop talking about their currency manipulation to promote exports.

Sep 09 06:11 PM