Report from Europe: Bulls Back in Control as G20 Agree on Nothing

Markets seemed a little confused on Friday following the release of the October non-farm payrolls report. And that’s not surprising, as the report had something for everyone to latch onto to support their respective bullish or bearish views. Most neutral of all was the headline outcome – the 190k decline in non-farm payrolls was little different to market expectations. Bulls would note that this followed 91k of upward revisions over the past two months, whilst bears would note that the October report saw more job losses than in August (although less than in September). Bulls would counter that the trend since the beginning of the year is certainly one of declining payrolls losses, whilst bears would note that the household survey has recorded very heavy jobs losses over the past three months (averaging 589k), thus a rise in the unemployment rate to 10.2% – the highest since April 1983.

US stocks in the spotlight Monday include tobacco giant Altria (MO), whose price target was raised to $27 at Morgan Stanley, citing possible cost cutting and price rises. Gold and basic resource stocks will doubtless follow their European conterparts higher (ABX, Newmount Mining, Freeport-McMoran (FCX)). McDonald’s (MCD) is getting some positive attention after its £10 million deal with the English FA, while Citibank (C) and Bank of America (BAC) are both bid in early trading. Retail stocks RadioShack (RSH) and Abercrombie & Fitch (ANF) are both in favor, the former after announcing that it is to sell Apple (AAPL) iPhones at some stores, while the latter in benefitting from a Credit Suisse broker upgrade to a “buy” rating. Gap (GPS) is moving in the opposite direction as it was cut to “equal weight” at Barclays.

Today’s Market Moving Stories

• As expected, the G20 had no intention to support the ailing dollar. Instead the IMF still sees the dollar’s fair value lower. “There are indications that the U.S. dollar is now serving as the funding currency for carry trades,” the IMF said in a report distributed to the G20. “These trades may be contributing to upward pressure on the euro and some emerging-economy currencies.” The US dollar “in real effective terms…has moved closer to medium-run equilibrium, though it still remains on the strong side.” China’s yuan is “significantly undervalued.”
• A US trade commission ruled that Chinese paper and phosphate are harming domestic producers, escalating trade tensions ahead of President Barack Obama’s visit to China this month. The US has already imposed duties of as much as 99% on certain Chinese steel-pipe imports. China said it would start an anti-dumping probe of American cars. China has also filed a complaint with the WTO in response to the US decision in September to impose tariffs on Chinese tire imports.
• US consumer credit fell in September for an eighth straight month, the longest series of declines on record. Consumer credit outstanding fell more than economists predicted, declining by $14.8 billion, or 7.2% at an annual rate. Proponents of the theory that there has been a secular shift in the American psyche away from a culture of consumerism and toward a new-found frugality will be heartened by this.
• German Industrial production for September rose 2.7% month-over-month, stronger than expected. This is the second consecutive rise on the month, suggesting the industrial sector will make a strong contribution to GDP growth in Q3. Euro area Sentix Investor Confidence for November rose to -7, up from -12.6 in October and above expectations. The Bank of France Business Survey Index rose to 95 from 92 in September, stronger than expected. This is the eighth consecutive rise on the month.
• Citigroup says new rules may hit securitisation. Citigroup packages billions of dollars of assets into bonds and sells them to investors every year. It uses funding vehicles to do so. These vehicles were often not included in the company’s main balance sheet, but new accounting rules will force them to be consolidated with the rest of Citigroup’s assets and liabilities. The result should be an addition of about $154 billion to Citigroup’s assets.
• The US unemployment rate, now at a 26-year high of 10.2%, has sparked new political clashes between Democrats and Republicans. Obama signed legislation on Friday to extend unemployment insurance benefits and tax credits for first-time homebuyers and provide tax refunds to money-losing companies. Republicans complain that the $787 billion economic stimulus doesn’t work and want tax cuts instead. The rising unemployment will inevitably delay fiscal consolidation.
• The US FDIC closed four more institutions over the weekend, bringing this year’s total to 119. Most important of the recent batch of closures was Advanta. This is the 15th largest credit card issuer (by purchase volume) and is the biggest of the issuers to fail so far. Recall that it warned in August that its write-offs had doubled to almost 56%, some five times the industry average. It said it had assets of $363 million and debts of $331 million.
• The Asian Development Bank (ADB) said that the dollar may lose its position as a global reserve currency in 20-30 years time. The ADB cited the decision by India, which has been buying gold, as a sign that the RBI is diversifying its reserves which the ADB sees as appropriate. Though the comments from ADB represent longer term structural changes in the way that USD is viewed as an international reserve currency, such comments will do little to assuage market concerns about the deterioration in the medium-term fiscal outlook and the ability of the Fed to hike rates meaningfully.
• ECB’s Weber indicated he is not in a rush to unwind policy, with the observation that while there’s been some recovery progress, there are still many risks. He said the industrial sector has begun to turn for the better. Though he said much of that is dependent on the monetary and fiscal stimulus being provided and hence the recovery actually remains highly uncertain.
• ECB’s Bini-Smaghi said although the Eurozone is likely to see solid growth for the second half of this year, next year’s numbers are likely to be much more variable. He said the recovery might have started, but it will take a long while for the economy to get itself back to pre-crisis levels. Still, he said the policy decision was a fine balancing act now, with low interest rates causing from speculative bubbles that are not sustainable.
• Even the most hardened bull must admit this bear is useful. A wild bear killed two Hizbul Mujahideen militants from their cave hideout in South Kashmir last week.

Brown Shot Down In Flames
Another G20 meeting, this time at St. Andrew’s. In the midst of an idyllic setting, Gordon Brown suggested a financial transactions tax, causing an outcry among delegates, including among his own delegation. Brown called for a new social contract between the finance sector and the rest of society. His proposal of a global financial transactions tax was immediately rejected by the US, Canada, Russia, the IMF and the ECB. Tim Geithner said a day-by-day financial transaction tax is not something he was prepared to support, and Domique Strauss-Kahn called it an old idea whose time had passed. The meeting also failed to agree a global target of finance to combat climate change. The reports said finance ministers not only failed to agree how much money developed countries pay to developing countries to encourage them to reduce their carbon emissions, there was also failure to agree on how the money would be spent, if such agreement were ever to occur.

The Week Ahead
In sharp contrast to the last week’s abundance of events, this week could be the dullest in a month. This week features no major central bank meetings (note that only G-10 central bank meeting left for the month is BoJ meeting on Nov 20th), no bellwether earnings announcements, few major data releases from G-10 countries (Euro area IP and BoE inflation report on Thursday, and US trade balance on Friday) along with the US market closed for Veteran’s Day holiday on Wednesday.

European Equity News

• Weekend media report that Greencore (GNCGY.PK) could be close to the disposal of its malt unit (which generated profits of €22 million in 2008). Such a transaction would release capital to be recycled into the group’s developing US presence which is considered a key growth opportunity. Malt is highly cyclical and is core part of a division that produced 40% of group profits last year. Any transaction would be an important strategic shift by the company.
• Kier, the UK construction company, released its Q1 results, highlighting a "good start" to the year with trading inline with its forecasts. The group's construction division currently has a strong high quality order book, with 96% of 2010 revenues secured along with 55% of 2011 driven predominately by UK public works spending. Overall, the private housebuilding market is described as having stabilized, while price increases are being seen in “selective locations.” The results are a positive for the Irish homebuilders, with yet another UK builder seeing stability in the housing market despite raising concerns over the lack of mortgage availability. Of particular relevance to McInerneys are the comments that there are increasing opportunities in social housing tender opportunities, highlighting strong opportunities for growth as UK builders continue to focus on higher margin housing developments.
• Some possibly good news for the hard pressed co-op / dairy / agri-food sector. Fonterra Cooperative Group substantially raised its forecast for NZ milk price by 19%.
• Allianz’s (AZ) Q3 looks pretty good with a small beat of consensus. Net income for Q3 was €1.3 billion. Operating result looked healthy almost across the board though non-life was weak (-18% year-over-year) on ‘negative underwriting effects from the recession’ and weather claims. New business generation business-wide is solid.
• Axa (AXA) is in the news Monday with a large acquisition offer and a €2 billion rights issue. On the acquisition news, Aussie insurer AMP has bid $10 billion for Axa Asia Pacific (which Axa SA has a 53% stake in), representing a 31% premium to November 5 closing share price. The proposal then gets more complicated as it involves AMP acquiring the whole thing initially, then retaining the Australia and NZ businesses while selling off 100% of the Asian business back to Axa SA for $7 billion (or a P/E of 19x). No formal indication of how Axa would fund the acquisition if successful but the announcement of a rights issue clearly indicates where that is going to go. The rights will be priced at €11.90, which is 27.9% discount to November 6 share price close.
• In brief, basic resource and mining stocks are bid post G20 on ever higher metals prices and no sign the punch bowl is being taken away. Pneumatic control maker IMI is a standout preformer, up 11% after saying that results for 2009 would be “materially ahead of consensus.”

And Finally… Should I Stay With Buy And Hold?

Disclosures: None

Comments

[Mark Bern:]

Good article. I especially liked the cartoon as it depicts the job market in the US so very well.

Regarding the US$ and carry trade. I think I may get it now. As long as the US$ is the currency of carry trade it's demand will remain high enough to keep it from falling off a cliff very quickly. But (and this is a very BIG but), just as soon as the Fed indicates that it will need to begin raising interest rates, the US$ carry trade will need to be unwound before the spreads go negative. Then the US$ will likely fall off the proverbial cliff. So, if our leaders get what they want and the economy actually does begin to recover, we should see demand rising, especially for basic materials. This, combined with increased economic activity may begin to increase the velocity of money and start us down the path of inflation. The Fed would have to unwind its QE policy, and there we go.

So, mid 2010 the economy should look something like this:

static.seekingalpha.co...

Nov 09 12:05 PM

[Roger Knights:]

"But (and this is a very BIG but), just as soon as the Fed indicates that it will need to begin raising interest rates, the US$ carry trade will need to be unwound before the spreads go negative."

But all that has to happen is for foreigners (perhaps involuntarily, as Julian Robertson has suggested) to lighten up on their Treasury-buying and that will push the interest rate up, indirectly.

Nov 09 02:40 PM