Ahead of Open, Futures Move Lower on Eurozone Economic Outlook

This morning. U.S. equity markets remain in a confirmed uptrend, though yesterday’s losses added distributions on the Nasdaq, DJI, and SPX. Overall trading patterns suggest a slightly neutral equity outlook, but the strength and durability of the current uptrend have been in doubt since the uptrend was confirmed on August 22^nd. Equity options markets suggest a bearish short-term outlook. Asian markets closed lower on mixed volume. Eurozone equities were lower, as G-7 finance ministers meet in Marseille accompanied by low expectations and higher recession probabilities. The U.S. dollar is higher. Commodities markets are mixed. U.S. Treasury prices are mixed. LIBOR markets suggest heightened interbank lending credit concerns. Euribor-OIS spreads are trending higher. After a fair value adjustment of -0.65 points, September SPX equity futures are at 1177.90, down -1.45 points. The SPX opens at 1185.90, -13.0% below its recent April 29 multi-year closing high, and +0.60% above its 20-day moving average, but -4.86% below its 50-day moving average. The SPX is -5.70% below its 1257.64 year-end close. Next resistance is at 1199.09; next support is at 1178.03.

Thursday. On the heels of more disappointing initial jobless and continuing claims for the latest week, markets opened lower, but rallied in mid-morning, before weakening and trending lower through the afternoon and into the close. Volume was mixed, but only 0.81x the 50-day moving average. On lower volume, the NYSE composite closed off -1.33%. On higher volume, the SPX, DJI, and Nasdaq lost -1.06%, -1.04%, and -0.78%, respectively. Volatility rose, with the VIX up +2.82% to 34.32, compared to 33.38 at the prior close. All market segments ended lower. Leaders were utilities, technology, and consumer goods. Basic materials, industrials, and financials lagged, with losses of at least -1.38%. Financials lost -2.19%, giving back about half the prior day’s +4.75% gain.

Yesterday’s losses came on unimpressive volume, but volume sufficient to add distribution days on DJI, Nasdaq, and SPX. Since the August 23^rd uptrend confirmation, distributions number 3 on the DJI, and 2 on the Nasdaq, SPX, NYSE composite, and BKX. Distribution days signal institutional selling in the prior 25 trading days, or since the commencement of the most recent uptrend. An accumulation of distribution days signal a weakening of an uptrend and increased probability that an uptrend will come under pressure or that a correction will ensue.

In Asia, Japanese equities rose, while Chinese equity markets closed lower. In Japan, volume was lower. In China, volume was mixed. Traders cited several cross currents, including job cuts in Australia, a report that China will raise interest rates further, and U.S. stimulus expectations.

In Japan, the Nikkei closed at 8737.66, down -0.63% on a +61.0% increase in volume and ending a two-day rally. Traders attributed the day’s losses to uncertainties in front of today’s meeting of G-7 finance chiefs in Marseille. Japan’s final 2Q2011 GDP was scaled back to -1.5%, from -1.4% prior. The index gapped lower, but rallied through the morning session to a 8803.75 intraday high. The afternoon trend was decidedly lower, to an intraday low of 8726.25 before a late rally tempered the loss. Market segments were mixed. Telecommunications, consumer services, and consumer goods gained led with gains of at least +0.30%. Financials rose +0.23%. Oil and gas, technology, and industrials lagged, closing down at least -1.25%. The NKY closed below its 50-, 100-, and 200-day moving averages, and -14.6% below its 2010 close.

In China, the Hang Seng and Shanghai composite closed down -0.23% and -0.05%, respectively. HSI volume fell -31.2%, while SHCOMP volume rose +1.34%. In Hong Kong, the HSI initially gapped higher, but struggled through the morning to hold its gains, trading lower and then sideways through the afternoon and into the close. Most market segments closed lower. Consumer services and utilities gained at least +0.48%. Financials shed -0.16%. Oil and gas, technology, and basic materials lagged with losses of at least -0.42%. The HSI closed -13.8% below its 2010 close, but +2.41% above its 19.399.92 August 19^th most recent closing low. In Shanghai, the SHCOMP opened higher, but struggled against reports that though inflation eased down from recent highs, August industrial production slowed, albeit to +14.2% from 14.3% in July. Market segment leaders were financials, telecommunications, and oil and gas, which closed up at least +0.21%. Basic materials, consumer services, and health care lagged with losses of at least -0.39%. The SHCOMP ended -18.3% below its April 18^th 3057.33 high, -11.1% below its 2010 close, and -6.04% below its 2663.68 50-day moving average.

In Europe, equities markets are lower, with the Eurostoxx50, FTSE, and DAX down -1.39%, -0.82%, and -1.12%, respectively. On the EuroStoxx50, only consumer services are higher. Utilities, industrials, and financials lag with losses of at least -1.37%. Financials are down -3.04%. Market concerns appear focused on an increasing recession probability.

Libor, LOIS, Currencies, Treasuries, Commodities:

· Interbank lending rates continue to reflect increased stress, as concerns heighten regarding the health of Eurozone banks in a stressed economic environment. Overnight USD LIBOR fell to 0.14278%, compared to 0.14444% Thursday, but down from 0.25188% at year-end. USD 3-month LIBOR rose to 0.33794%, from 0.33683% the prior day and above the 0.30950% year-end rate.

· The US Libor-OIS (LOIS) spread rose to 26.3 bps, compared to 25.4 bps the prior day and 12.0 bps at the end of 2010. Euribor-OIS rose to 79.9 bps, from 75.0 bps Thursday, and compares to 40.6 bps at the end of 2010. A rise in the LOIS indicates an increased intra-bank lending risk premium.

· The U.S. government overnight repo rate is 5 bps, unchanged from 5 bps the prior day, and well off from a recent high of 33 bps on August 2^nd.

· The U.S. dollar is stronger against the euro, yen, and pound. The dollar trades at US$76.597, compared to US$76.246 the prior day, and higher than its US$74.623 50-day, US$74.649 100-day, and US$76.199 200-day average. The euro trades at US$1.3816, compared to US$1.3882 Thursday and US$1.4098 the prior day. The euro trades below its US$1.4276 50-day and US$1.4339 100-day averages. In Japan, the dollar trades at ¥77.81, compared to ¥77.26 Wednesday and ¥77.51 the prior day. The yen trades better than its 50-day moving average ¥77.933.

· U.S. Treasury yields are higher, with 2- and 10-year maturities yielding 0.193% and 1.992%, respectively, compared to 0.188% and 1.979 Thursday. The yield curve widened to +1.799% from +1.791% the prior day. In the past year, the 2- and 10-year spread has varied from a low of +1.787% on September 6, 2011 to a high of +2.910% on February 4, 2011.

· Commodities prices are mixed, with lower petroleum, lower precious metals, higher aluminum and copper, and higher agricultural prices.

U.S. news and economic reporting. Today’s economic reporting is limited to July wholesale inventories, at 10:00. Survey is +0.7% versus prior +0.6%.

Overseas news: In the second quarter, Japan’s GDP fell at a -2.1% annualized rate, revised down from the prior -1.3% estimate but in line with expectations. Today is the deadline for Greek bondholders to participate in the debt exchange program initiated as a part of the latest bailout package. Today and tomorrow, the G7 finance ministers meet in France to discuss the Eurozone debt crisis and poor economic conditions.

Company news/ratings changes:

· LAZ – cut to neutral at Ticonderoga

2Q2011 Earnings. The second quarter’s earnings results exceeded revenue and earnings expectations. Of the 472 S&P500 companies that reported earnings to date, 76% (358 out of 472) beat operating EPS estimates, versus the historical average of 62%. In aggregate, companies beat EPS expectations by an average of +5.0% (versus a historical average of +2%). EPS is up +16.5% over the prior year. Though challenged in the current operating environment, 84% of companies reported increased revenues over the prior year and 71% beat revenue estimates. In the third quarter of 2011, analysts estimate the SPX will earn $24.98 per share, compared to $24.84 and $21.49 per share in 2Q11 and 3Q10, a +0.6% and +16.2% increase, respectively.

With all 24 BKX members reporting earnings, 88% (21 of 24) beat earnings estimates on an operating basis. Revenues also exceeded expectations, with 79% of BKX members beating estimates. For the second quarter of 2011, the BKX earned $1.12 per share, beating $0.97 estimates and compared to $0.96 and $0.61 per share in 1Q11 and 2Q10 (a +17% and +84% increase, respectively).

Valuation. The SPX trades at 11.9x estimated 2011 earnings ($99.96) and 10.6x estimated 2012 earnings ($112.22), compared to 12.0x and 10.7x respective 2011-12 earnings yesterday. The 10-year average median Price/Earnings multiple is 20.0x. Since the beginning of 2011, analysts increased 2011 and 2012 earnings estimates by +5.6%, and +4.6%, respectively. Analysts expect 2011 and 2012 earnings to exceed 2010 earnings ($84.78) by +17.8% and +32.4%, respectively.

Large-cap banks trade at a median 1.10x tangible book value, and 9.8x and 8.3x 2011 and 2012 consensus earnings, respectively, compared to 1.13x tangible book value and 9.8x/8.5x 2011/2012 earnings yesterday. These compare to the 10-year average median multiples of 3.08x tangible book value and 15.9x earnings. Analysts expect 2011 and 2012 BKX earnings to exceed 2010 operating earnings by +37.1% and +65.2%, respectively.

Options. Options markets are neutral. Composite options markets are neutral, equity options markets are neutral bearish, and index options markets are neutral. The composite put/call ratio closed at 0.1.11, below its 5- and 10-period moving averages of 1.16 and 1.16, respectively. The index put/call ratio closed at 1.49, above the 5- and 10-period moving averages of 1.48 and 1.53, respectively. The equity put/call ratio closed the day at 0.74, above its 5- and 10-period moving averages of 0.73 and 0.71, respectively.

Thursday’s equity markets. On mixed volume, the equity markets finished lower. The NYSE, SPX, DJI, and Nasdaq were all lower, off -1.33%, -1.06%, -1.04%, and -0.78%, respectively. With equity weakness in Europe and a disappointing initial jobless claims report, futures indicated a lower open. The ECB left its benchmark interest rate unchanged at 1.50%. Comments from the ECB President suggested balance between inflation and “downside risks” to Eurozone economies. The markets opened slightly lower, but rebounded immediately to their intraday highs. Equities weakened, and sold off ahead of a Minneapolis speech by Fed Chairman Ben Bernanke at 1:30. Bernanke reiterated points made during his Jackson Hole talk, but provided no clarity as to possible FOMC actions at its September 20-21 meeting. The markets sold off after release of the text, with markets trading to their intraday lows just after 3:00. After 3:30, markets attempted to rally, but ended near their lows. The VIX finished the day at 34.32, up +2.82%.

Trading desks were quiet as volumes were generally light. Ahead of speeches by Bernanke and Obama last evening, investors were in a wait and see mode. Whereas a lack of sellers characterized Wednesday’s trade, a lack of buyers characterized Thursday’s. A dollar rally was seen as a headwind for equities. Investors talk more about upside economic risks, with less focus on worst case European scenarios than a month ago. The Bloomberg NYSE new net highs were +1.00 versus the previous day’s -8.00. The relative strength indicator fell to 45.26 versus Wednesday’s reading of 47.74, still in a neutral range.

All market segments were negative. Utilities, technology, and consumer goods were the best performers, while basic materials, industrials and financials were the worst performers.

Financials underperformed the broader indexes. The KRX, BKX, and XLF were all lower, off -3.24%, -2.67%, and -2.17%, respectively. Financials were lower all day and extended those losses after Ben Bernanke failed to clarify what the Federal Reserve can do to help stimulate the economy. The BKX had 1 name advance and 23 lower. The name that advanced was USB, followed by PBCT and FNFG as the top performers in the BKX. The laggards were JPM, CMA and RF. The KRX had all 50 names lower. The leaders in the KRX were IBKC, FFBC, and PNFP. The laggards were SNV, SBNY, and FHN. Specific industry news was generally light. Among broader financials, GNW, FHN, and JNS were the worst performers, while USB, EQR and PSA outperformed. The BKX, KRX, and XLF all finished below their 50-, 100, and 200-day moving averages. While the broader indexes have recovered their post-September 2008 losses, bank stocks have not, with the BKX closing -35.31% below its April 2010 high and -54.59% below its best level of 82.55 in September 2008.

NYSE Indicators. Volume fell -0.82% to 946.67 million shares, from 954.50 million shares Wednesday, 0.82x the 1.164 billion share 50-day moving average. Market breadth was negative, and up volume lagged down volume. Advancing stocks lagged decliners by -1699 (compared to +2420 the prior day), or 0.28:1. Up volume led down volume by 0.18:1.

SPX. On higher volume, the SPX fell -12.72 points, or -1.06%, to 1185.90. Volume rose +1.46% to 782.12 million shares, up from 770.89 million shares Wednesday but below the 901.69 million share 50-day moving average. For the 18^th straight session, the SPX’s 50-day moving average closed below its 200-day moving average (1246.44 vs. 1283.78 respectively). The SPX closed above its 200-week moving average (1149.20).

The SPX gapped lower at the open to 1190, but by 9:45, had rallied back to its 1198 break-even line. Through 10:00, the index retraced back to 1190 before an hour-long rally took the index into positive territory at 10:30 and to the intra-day high of 1204.40 at 11:10. The SPX consolidated gains back to the break-even line through 11:55 when news hit that a U.S. appeals court affirmed the administration’s health care proposal, sending markets into negative territory at the 1195 level. Through 1:30, the index traded sideways, waiting for Fed Chairman Bernanke’s speech in Minnesota. The speech disappointed expectations for more overt references to future easing policies, and the market dropped to 1187 by 2:45. Through 3:15, the index continued to trade lower, hitting the intra-day low of 1183.34 at 3:15. A brief rally to 1191 was sold at 3:45, and the index finished near the day’s low.

Technical indicators are neutral to negative. Markets, in correction since July 27^th, resumed an uptrend with August 23^rd’s gains in higher volume. The SPX closed below 1300 for the 29^th straight session and below 1200 for the fourth straight session. The index closed below its April 2010 highs for the 24^th time in the last 25 sessions. The 50-day moving average has been below the 100-day moving average since July 11^th. The SPX closed (by +0.60%) above its 20-day moving average (1178.83) for the sixth time in seven sessions. The index closed (by -4.86%) below its 50-day moving average for the 31^st straight session. The index closed (by -7.47%) below its 100-day moving average (1281.67) for the 30^th straight session. The SPX closed -7.62% below its 200-day moving average, closing below that average for the 26^th straight session. The 20-day moving average rose. The directional momentum indicator is negative for the 30^th straight session, and the trend is moderate and stable. Relative strength fell to 47.28 from 49.54, a neutral range. Next resistance is at 1199.09; next support is at 1178.03.

BKX. On lower volume, the KBW bank index fell -1.03 points, or -2.67%, to end at 37.49, its 26^th close below the prior 52-week low of 42.70 from August 25, 2010 and its 23^rd straight sub-40 close. Volume fell -11.18% to 83.36 million shares, down from 93.85 million shares Wednesday and below the 107.59 million share 50-day average. The BKX closed -12.77% below its August 30, 2010 closing low of 42.98, the trough of the last year’s correction, and -35.31% and -32.61% below its April 23, 2010, and February 14, 2011 respective closes.

Financials were the market’s worst performing segment, and regionals underperformed large-cap banks. The BKX gapped lower at the open to the 37.90 level. Through 9:45, the index rallied to 38.39, setting the intra-day high but still in negative territory. By 10:00, the index fell back to 37.75 before rallying with the broader market through 11:10 and retaking 38.30. The BKX quickly retraced back to its morning lows of 37.75 by noon and traded sideways through 1:30. Financials sank following Fed Chairman Bernanke’s speech, and reached 37.35 by 2:30. The index traded sideways through 3:15 and set the intra-day low then of 37.32. A rally took the index back to 37.70 by 3:45, but the rally was sold into the close and financials finished near their session lows.

Technical indicators are negative. Bank stocks significantly underperformed the broader market during the May-June correction and the late July-mid August sovereign debt crisis sell-off. Recent gains on higher volume, and bank outperformance, returned markets to an uptrend on August 23^rd. Since the BKX crossed below its 50-day moving average on February 23^rd, the 50-day average has provided meaningful resistance to any positive momentum. Moving averages align bearishly. The shortest duration averages are below the longer duration averages, the gaps are widening, and all major averages are falling. The 50-day average (42.62) crossed below the 100- and 200-day moving averages (45.85 and 49.01, respectively) on April 25^th and June 16th. The 20-day closed (by –4.75 points) below the 50-day for the 124^th straight day, but the gap narrowed. The 50-day moving average closed (by -6.39 points) below the 200-day moving average for the 61^st straight session, and the gap expanded. The 100-day moving average closed (by –3.15 points) below the 200-day moving average for the 39^th straight session, and the gap expanded. The index closed below its 20-, 50-, 100-, and 200-day moving average for the 1^st, 43^rd, 44^th and 69^th consecutive sessions, respectively. The index closed below 50.00 for the 69^th straight session and below 40.00 for the 23^rd straight session. The directional movement indicator is negative for the 32^nd straight session, and the trend is strong but declining. Relative strength fell to 43.52 from 46.57, a neutral range. Next resistance is 38.15; next support at 37.08.