5:00 PM EDT :Earlier today, Treasuries looked as if they were headed to another winning session but stocks finished in much better shape than one would have thought by their performance this morning. When the dust settled, Treasuries were in negative territory and the stock indices were mixed. In late trading, the 10-Year Treasury Note was down by 6/32, raising its yield to 4.80%; the Dow was down by 31.14 points to 13,239.54; and the Nasdaq was down by 11.60 points to 2,544.89.
Liquidity panic sent stocks sharply lower this morning after a huge sell-off yesterday. But the Federal Reserve pumped cash into the U.S. banking system three times today, bringing the amount total for the last two days to $62 billion. In that time the European Central Bank has injected the euro equivalent of $187.5 billion into its system. Other central banks, including those in Japan, Canada, and Australia also made monetary infusions to help maintain liquidity in their markets and the global financial network.
Stocks rebounded with all three major indices poking into positive territory at about 1:30 Eastern Time. Though they slipped back again, they were on the upswing at the end of the session and the S&P 500 even managed to eke out a nominal gain on the day.
Most of this week's economic releases have taken a back seat to the liquidity concerns and today's were no exception. The report on import and export prices revealed a strong rise in import prices last month but little change excluding the oil component. Export prices saw a modest rise but none if the agricultural sector is factored out.
The Treasury budget report may have provided some drag on bonds this afternoon. It indicated that outlays exceeded receipts last month by $36.3 billion. The deficit figure was higher than the $33.2 billion posted in July of last year and was higher than the $32.5 billion than had been predicted. Nevertheless, the running total for the fiscal year to date (begun last October) is a deficit of $157.3 billion, still the lowest for the same time periods in the last five fiscal years.
But the principal snag for bonds was the recovery is stocks. The Dow had been down by 212.82 points or 1.60% at its low of the day but finished the session with only a loss of 0.23%. The Nasdaq had been down by 2.09% but closed with a 0.45% loss. The S&P 500 had been down by 1.63% but closed with a gain of 0.04%. With all the attention on the losses in the last couple of days, it may surprise some that
all of the major indices made gains on the week. The Dow moved ahead by 57.63 points or 0.44%. The other indices did even better with the Nasdaq up by 1.34% and the S&P 500 up by 1.44%. Treasuries lost ground on the week with the yield of the benchmark 10-Year Note rising by 12 basis points (yield moves inversely to price). This was the first increase in five weeks.
Though it was probably not a major contributor to the move in stocks, oil futures declined today. A barrel of light, sweet crude oil for next month delivery fell by $0.12 on the New York Mercantile Exchange to settle at $71.47. This displaced yesterday's close as the lowest since July 3.
Next week's economic calendar is relatively heavy and the first item on Monday is a major release. The Commerce Department will be issuing its report on retail sales for last month. June's report said that the seasonally adjusted level of sales fell by 0.9%, the largest contraction since August of 2005. A large contributor was the auto sector where sales declined by 2.9%, the largest drop in sixteen months. But even excluding the sector, sales were down by 0.4%, the largest decline since last September.
Another volatile category for obvious reasons is sales at gasoline stations. The category saw a decline of 1.1% in June, the first drop since last October. Yet, excluding the auto and gas station components, sales fell by 0.3% in June -- the largest drop since April of 2004.
Other sectors showing the largest weakness were home-related. Sales at furniture and home furnishings stores fell by 3.0% and sales at building material and garden equipment and supplies dealers fell by 2.3%. Both declines were the largest since February of 2003.
A rebound is anticipated for July's sales. The overall increase is expected to be around 0.5% and the ex-auto increase, around 0.4%.
Also on Monday is the report on business inventories for June. May's report indicated a 0.5% rise, the largest since last August. A rise in inventories is often a positive economic indicator since it can reflect preparation for increased demand. This was confirmed in May's report by the fact that the level of inventory outflows rose more than the rise in inventories. Overall sales were up by 1.3%, leaving the inventory-to-sales (I/S) ratio at 1.26, down from April's 1.27 and only slightly higher than the record low of 1.25. The I/S ratio is the value of remaining inventory divided by the value of sales for the month. The result indicates how many months it would take to entirely deplete the stocks on hand at the prevailing sales pace. A low ratio means that inventories are lean and pressure is high on the production process.
Current forecasts call for an inventory increase of about 0.4% in June but retail sales were soft that month and the last wholesale trade report indicated the smallest gain in sales in five months. Consequently, the I/S ratio may edge higher but still remain low by historical standards.
A key inflation indicator, the Producer Price Index (PPI) is slated for release on Tuesday morning. In June's release, the Labor Department reported that the PPI, a gauge of inflation at the wholesale level, fell by 0.2% following a rise in May of 0.9%. The decline was the first since January and surprised forecasters who had predicted a slight increase of 0.1% or 0.2%.
But the effect of the news was offset by a larger than predicted increase of 0.3% in the so-called core index, which factors out the volatile categories of food and energy. This was the largest rise in four months. Moreover, May's originally reported increase of 0.1% was revised slightly higher to 0.2%.
The report indicated that the price index for foods fell by 0.8% after a 0.2% decline in May. The energy index declined by 1.1% in June after a 4.1% rise. An encouraging sign was a weakening in price pressure further down the production pipeline. At the intermediate stage of production, the price index rose by 0.5%, the smallest rise since a decline in January. At the initial or crude stage of production, the price index was up by 0.3% following a 2.0% increase in May.
On a year-over-year basis, the PPI was up by 3.3% following a 4.1% Y/Y increase in May. But at the core level, the index was 1.8% higher than a year earlier, the largest Y/Y increase since a same-sized margin in February.
The index is expected to have increased in July by 0.5%. Although the energy component will likely be a large contributor to the jump, the core index is expected to have risen by 0.4%. This would be the largest core increase since February.
The other major release on Tuesday is the report on international trade for June. In the last report, the Commerce Department said the seasonally adjusted value of imports exceeded that of exports by $60.0 billion in May following a $58.7 billion deficit in April. The report said the value of imports rose by 2.3% to a record $192.1 billion while exports rose by 2.2% to a record $132.0 billion.
The deficit reading was right in line with predictions and while the deficit figures have been trending up since hitting an almost two-year low of $56.8 billion in January, May's figure was still down from last August's record high of $67.61 billion. A deficit of $61.0 billion is predicted for last month -- the price of imported oil playing a large role.
On Wednesday, an even more influential inflation indicator than the PPI will be released. This is the Consumer Price Index (CPI) which tracks changes in prices at the retail level. According to the Labor Department, the CPI rose by 0.2% in June following a spike of 0.7% in May. The gain was the smallest since January. Excluding the volatile categories of food and energy, the so-called core index also rose by 0.2%, as expected. The index for food prices rose by 0.5% while the index for energy fell by 0.5%. The decline in energy prices was reflected in a 0.2% decline in the transportation category. But the largest change came in the price index for apparel. It fell by 0.6%, the fourth consecutive monthly decline.
Unlike the PPI, July's CPI is expected to show no acceleration of growth with overall and core increases of 0.2%.
Another early release on Wednesday is the New York Fed's index on the region's manufacturing activity for the month. In July, the index was 26.46, up from 25.75 in June and the strongest reading in thirteen months. Any reading over 0.0 reflects a general increase in activity relative to the preceding month and July's index represented a twenty-sixth consecutive expansion. A twenty-seventh growth reading is anticipated for this month but the index is expected to be a little less forceful at 19.0.
A little later on Wednesday, the Federal Reserve will release its report on industrial production; a gauge of output from the nation's factories, mines, and utilities. The last report said output rose in June by 0.5% after a decline in May of 0.1%. Manufacturing output increased by 0.6%, the largest expansion in three months. Mining output rose by 0.5%, the largest increase in six months. Output from the highly-volatile utilities category rose by 0.3% following a 1.6% decline in May.
A disturbing feature of June's IP report was the level of capacity utilization, the ratio of output to potential output. It rose to 81.7%, the highest reading since last October. Moreover, the readings for the previous three months were revised higher: March's from 81.2% to 81.4%, April's from 81.5% to 81.6%, and May's from 81.3% to 81.4%. The Fed is concerned with the level of utilization since reduced slack in the production process, indicated by higher CU numbers, increase the possibility of bottlenecks that prevent demand from being met. The result is that the relative scarcity of output drives up prices.
For July, industrial production is expected to have increased by 0.4%. Capacity utilization is expected to have increased to a ten-month high of 81.8%.
On Thursday, the jobless claims report will be scrutinized for insights on the employment situation. In yesterday's report, the Labor Department said the seasonally adjusted level of initial claims for state unemployment benefits rose last week by 7,000 to a five-week high of 316,000 from an upwardly revised reading of 309,000 the week before (originally reported as 307,000). The four-week moving average, which smoothes out some of the short-term volatility, edged up by 1,750 to 307,750. Despite numerous swings, the trend has been steady for some time. The latest reading was in line with the average weekly reading for the year to date of 317,226. The average for all of 2006 was about 313,000. After two weeks of increases, the level of initial claims for this week is expected to have dropped off by about 5,000.
Yesterday's report said that the level of continuing claims for the week ending July 28 (continuing claims must be at least a week old) rose by 39,000 to 2.559 million. The four-week moving average rose by 2,000 to 2,545,750. The trend in continuing claims has been tilted slightly upward. The latest claims figure was up from the average weekly reading for the year to date of 2.521 million and from the average of 2.459 million for all of 2006.
The report on housing starts for last month also comes out on Thursday morning. In June's report the Commerce Department said that the seasonally adjusted, annualized pace of starts rose by 2.3% to 1.467 million. Despite the increase, the pace was still the third lowest in seven years. Moreover, May's rate was revised from 1.474 million to 1.434 million and April's pace from 1.506 million to 1.485 million. Another bearish detail was a 7.5% plunge in the rate of building permit issuance to 1.406 million (seasonally adjusted, annualized). The issuance figure was subsequently revised to a decline of 7.0% to 1.413 million. But the decline was still the second largest since September of 1999 and the rate was the lowest since June of 1997. The issuance rate is seen as an indicator of near-term start activity.
More bad news for the sector is forecast. The latest prediction for July's starts rate calls for a decline of 4.6% to 1.400 million. This would be the lowest pace since August of 1997. Another decline in the permit issuance rate is also predicted.
At noon on Thursday, the Philadelphia branch of the Federal Reserve will release its index on the region's manufacturing activity for the month. July's index reading was 9.2, well below June's 18.0 but, like the New York index, any reading over 0.0 reflects growth and July's Philadelphia reading was a seventh straight expansion indicator. For August, the index is expected to be about the same as July's.
The only other major release comes on Friday. This is the preliminary read on consumer sentiment for the month from the University of Michigan's twice-monthly surveys. The final sentiment index for July was 90.4, the highest reading in five months. Forecasters are calling for a less optimistic reading in next week's release of about 87.0. The ongoing gyrations in the stock market have undermined evaluations of personal wealth. The relatively small increase in nonfarm payrolls and rise in unemployment rate reported for last month may also have eroded comfort levels.
10:30 AM EDT :
The stock market is continuing its free-fall this morning with the Dow lately down by over 200 points following yesterday's nearly 400-point drop. Treasuries are benefiting by comparison but gains are still relatively mild as the Federal Reserve is once again pumping a temporary cash infusion into the monetary system to maintain liquidity.
The cause of the latest developments is increased fear that the decline in value of securities backed by poorly performing subprime mortgages will have a ripple-effect throughout the financial markets due to the complex of relationships among its various components. As each new instance of a subprime mortgage-related problem has arisen (for example, the losses sustained by Bear Stearns) the concern has intensified. Yesterday's news that the situation had affected France's largest bank was the latest and largest jolt to the markets so far.
In order to offset the reduction of liquidity caused by the reduced value of mortgage securities, the Fed has stepped up its open market operations, making short-term loans to banks. Today's loans (actually sale and repurchases through primary securities dealers) were made using mortgage backed securities as the sale (or collateral) component. The dealers will buy them back in a few days but in the meantime, the money that goes into the bank will increase their available reserves, thus reducing the effective overnight borrowing rate between banks (fed funds rate). It should be noted that the current effective fed funds rate is still higher than the 5.25% target rate set by the monetary policy committee.
If the measures being taken by the Fed ultimately fail to have the desired results, the next step would be a reduction in the central bank's target for the fed funds rate. Such a move would be the first rate cut since June of 2003.
In today's news, the Labor Department reported that its import price index rose by 1.5% in July. While this was higher than the 0.9% to 1.0% that had been predicted but a hefty increase was really no surprise given the rise in oil prices last month. According to the Energy Information Administration, the average spot price for Brent crude oil last month was a record high $76.93 per barrel, an 8.3% jump from June's $71.05. Today's report indicated that imported petroleum prices rose by 7.0% in July following a 4.4% increase the month before. Excluding this volatile category, prices were up by just 0.2%
The impact of the overall import price increase last month was also mitigated by the fact that June's originally reported increase of 1.0% was revised to 0.9% and May's increase of 1.1% was also trimmed to 0.9%. June's originally reported ex-oil increase of 0.2% was also cut to 0.1%.
Another hopeful sign regarding trade-related inflation is that spot prices of oil are declining (though it is obviously too early to say what the average for August will be). On July 31, the Brent crude spot price was $77.01 per barrel. Last Wednesday, it was $70.42.
Today's report said that the price index for exports rose by 0.2% after a 0.3% rise in June. Excluding the large but volatile category of agricultural products, the price index was flat (0.0%) following a 0.2% increase. The index for agricultural products rose by 1.5% in July following a 2.7% increase in June.
The final market-related new item of the week comes out this afternoon. At 2:00 PM Eastern Time, the Treasury will release its budget figures for last month. In July of last year, the value of government outlays exceeded receipts by $33.2 billion. A slightly smaller deficit of about $32.5 billion is predicted for last month.
This would bring the running total for the fiscal year to date (begun last October) to a deficit of $153.5 billion. While still a sizeable gap, it compares favorably to the $239.6 billion shortfall for the same period in the 2006 fiscal year. In fact, the total to date would be the smallest deficit for the same period since 2002 when it was $145.5 billion. The improved budget picture is a plus for Treasuries since it means fewer debt securities will have to be issued in the future to fund government operations and pay the debt on previously issued securities.
