Market Overview: Friday, November 30, 2007

5:00 PM EST :

Treasuries pared earlier losses as the stock indices fell from their morning highs and both markets finished narrowly mixed. In late trading, the 10-Year Treasury Note was down by 2/32, leaving its yield at 3.94%; the Dow was up by 59.99 points to 13,371.72; and the Nasdaq was down by 7.17 points to 2,660.96.

Once again, the news of the day was not the principal driver behind the moves in the bond market. Though the Chicago PMI was somewhat stronger than anticipated this month, personal income and spending rose less than expected last month, and the rate of construction spending fell more sharply than predicted with the aid of a still stronger deceleration in the residential sector.

Treasuries swung wildly this week with a huge rally on Monday, followed by two day's of deep losses, and then a rebound yesterday. Some end-of-month positioning helped offset profit-taking pressure on Treasuries today. The benchmark 10-Year Treasury Note had been down by as much as 25/32 in morning trading action.

For the week, the yield of the 10-year fell by 6 basis points (yield falls when the price rises). This was the fifth consecutive week in which the yield has fallen and the sixth in the last seven weeks. Over that time, the net loss to the yield has been 74 basis points or 2-10/32.

Profit-taking was also a problem for stocks today, but suggestions this week by Fed Vice Chair Donald Kohn on Monday and Fed chief Ben Bernanke yesterday that the Fed is poised to make more interest rate cuts have eased worries concerning the credit market. Talk of a plan between the Treasury and mortgage lenders to temporarily freeze interest rates on some existing subprime mortgage loans also encouraged traders.

And another solid retreat in oil futures also benefited stocks. The price of a barrel of light, sweet crude oil for January delivery fell by $2.30 on the New York Mercantile Exchange to settle at $88.71. This was the fourth decline this week for a net decline of $9.47 since last Friday. Today's close was the lowest for a front-month contract since October 24th. Lower energy prices help the economy because they leave businesses and consumers with more money to spend on other things.

By the end of stock trading, the Dow was up by 0.45% and the S&P 500 by 0.78%. The Nasdaq fell by 0.27%. But all three indices made strong gains for the week. The Dow gained 390.84 points or 3.1%, the S&P 500 rose by 2.81%, and the Nasdaq closed today 2.48% higher than last Friday's close.

Next week, the economic calendar is relatively light but it includes a couple of potential market-movers. The first is the national gauge of manufacturing activity, the purchasing managers' index from the Institute for Supply Management (ISM). In October, the index came in at 50.9. Any reading above 50.0 reflects a general increase in activity relative to the preceding month but October's index showed the least amount of growth in seven months.

Between June of 2003 and October of last year, the overall index posted forty-one straight expansion readings. But the extent of growth declined throughout last year until the index indicated slight contractions in November and then last January. The index strengthened after that, hitting a fourteen month high of 56.0 in June. But each of the four reading since then has been weaker than the one before.

Although October's weak growth indicator was a plus for bonds the inflation measure in the data was not as bond-friendly. The prices index rose to 63.0 from September's 59.0. September's index, however, was the lowest in seven months.

For November, the ISM index is expected to come in near October's level. Current forecasts call for a reading of about 50.5.

On Wednesday, the Labor Department will release its revised report on productivity for the third quarter. According to the preliminary report, released on the 7th of this month, the seasonally adjusted level of nonfarm business productivity (output per worker per hour) rose by 4.9% in the third quarter following a 2.2% rise in the second quarter (revised down from 2.6%). The jump was much larger than the 3.0% that analysts had predicted.

The report said that output rose by 4.3% while hours worked shrank by 0.5%. Hourly compensation rose by 2.7%, but unit labor costs (ULC; cost per unit of output) fell by 0.2%. The decline in ULC was the first in five quarters.

Strong productivity is usually a positive influence on the markets. The increased output per hour is seen by stock traders as a bullish economic development: more efficiency and therefore better corporate earnings. And the efficiency often translates into reduced unit labor costs which have a salutary effect on inflation pressures -- a plus for both stocks and bonds.

Recent forecasts of the final read on productivity have called for an improved gain of about 5.5%. But yesterday's strong revision to third quarter gross domestic product (4.9% from the advance estimate of 3.9%) suggests even stronger productivity growth.

Later on Wednesday, the report on factory orders for October will be released. In September's report, the Commerce Department said the seasonally adjusted level of orders rose by 0.2%. Many forecasters had predicted a decline of about 0.8% because of a soft durable goods orders report for the month. What they were not counting on was a 2.1% surge in the nondurable category, the largest increase since last March. Factory orders fell in August by 3.5%.

Excluding the volatile transportation category, orders were up by 1.4% in September as the order level in transportation fell by 6.2%. Orders in the defense sector are not governed by standard market forces so orders excluding the sector are seen as a better representation of underlying demand on production. Ex-defense orders were up by 1.3% in September as defense saw a 33.9% decline due primarily to a 37.2% drop in aircraft orders.

In the category of ex-defense capital goods minus aircraft, orders were up by 0.6%, a third consecutive monthly increase. The category is seen as a measure of core business demand.

Last Wednesday's report on durable goods orders for October showed a weaker than expected 0.4% decline. But analysts feel that orders for nondurables will again buoy the headline number. However, they see only a slight overall gain of about 0.1% or 0.2%.

Also out on Wednesday morning is the ISM Index on the non-manufacturing, or services, sector of the economy. In October, the index came in at 55.8. This was up from September's reading of 54.8 and was higher than the 54.0 that analysts were expecting. Like the manufacturing index, any reading over 50.0 indicates growth and October's was a fifty-fifth consecutive expansion indicator. Another, but slightly less forceful growth reading of about 55.0 is anticipated for November.

Though the services sector is much larger than the manufacturing sector, the services index data does not carry the same clout as the manufacturing data. One reason for this is the very size of the services sector. It is so large that extremes offset one-another and broad-based changes are necessary to make a significant impact on the overall index. Another reason is that the services data series is relatively young (begun in 1997 vs. 1948 for the manufacturing series).

The only major release on Thursday is the jobless claims report. In yesterday's report, the Labor Department said the seasonally adjusted level of initial claims for state unemployment benefits rose last week by 23,000 to 352,000. The jump was the largest in six weeks and the level was the highest since early last February.

While the jump suggests a slackening labor market, market veterans are withholding judgment until a trend can be confirmed. An additional adjustment had to be made to last week's raw data to account for the Thanksgiving closure of labor offices. A faulty adjustment factor would have skewed the results. The report said that the four-week moving average, which smoothes out some of the short-term volatility, rose by 5,750 to 335,250. The weekly average claims figure for the year to date is about 320,000.

Continuing claims for the week ending November 17 (continuing claims must be at least a week old) rose by 112,000 to 2.665 million. The increase was the largest since February and the claims level was the highest since last December. The four-week average rose by 20,500 to 2,589,250. The average weekly continuing claims reading for the year to date is 2,535,848.

Following such a large move last week, a partially compensating decline is expected in this week's initial claims figure.

Though the holiday-related swings may cause observers to view the claims data with suspicion, the report will be significant as a reminder that the monthly employment report is looming. This is often a market mover and it comes out on Friday. In the last report, the Labor Department said that the seasonally adjusted level of nonfarm payrolls rose in October by 166,000. The gain was much higher than the 90,000 that analysts were predicting and was the biggest jump since last May when payrolls increased by 188,000. The downward revision to September's originally reported gain of 110,000 to 96,000 was not much compensation to those who were looking for a weaker gain in October.

As expected, the report said that the unemployment rate, the portion of the active workforce without jobs, held at 4.7% for a second month. Though this level was the highest since August of last year, it was still relatively low. A positive in the report for both markets was news that average hourly earnings rose in October by just 0.2%, the smallest increase since last April.

Forecasts for November call for a smaller increase in nonfarm payrolls of between 70,000 and 80,000. The unemployment rate is expected to have edged up to 4.8%, the highest since July of last year.

The final release of the week is the preliminary read on consumer sentiment for December from the University of Michigan. November's final sentiment index was 76.1, up from the preliminary read of 75.0 but down from October's final reading of 80.9. In fact, November's final reading was the lowest in two years. High energy prices, stock and home price losses, and soft economic data suggest that sentiment is continuing to decline. Estimates for December run from 75.0 to 76.0.

10:30 AM EST :

Volatility continues to be the hallmark of this week's market activity as Treasuries have retreated this morning following yesterday's rally while stocks have continued the strong surge seen on Tuesday and Wednesday after a breather yesterday that produced only modest gains.

The economic data released today was largely bond-friendly; that is, bearish. The Commerce Department reported that the seasonally adjusted, annualized level of personal income, the fuel for consumer spending, rose by just 0.2% in October following a 0.4% rise in September.

The increase was half the 0.4% that forecasters had predicted. Personal consumption expenditures (spending) also rose by 0.2%. This followed a 0.3% rise in September and was slightly below the 0.3% analysts were expecting for last month as well.

Later, in a separate report, the Commerce Department said that the seasonally adjusted, annualized pace of construction spending fell in October by 0.84%, the largest contraction since September of last year. A decline of about 0.2% had been forecast for last month. The rate rose by 0.2% in September (revised from a 0.3% increase).

Of particular interest was a 1.96% decline in the rate of residential construction spending. This was a twentieth consecutive monthly contraction and October's pace was the lowest in four years.

The final release of the day was somewhat more bullish than expected. The Chicago branch of the National Association of Purchasing Management (now known nationally as the Institute for Supply Management or ISM) said today that its Purchasing Managers Index (PMI) came in at 52.9 this month. This was up from October's 49.7 and was stronger than the 50.5 that analysts had predicted. Any reading over 50.0 indicates a general expansion of activity in the region relative to the preceding month.

The Chicago index is considered an important gauge of manufacturing since the region is highly-industrialized. But although the Chicago PMI is perceived as a predictor of how the national index may have moved, in the last twelve months the indices have moved in the same direction six times. The ISM's national index for November will be released on Monday. It came in at 50.9 in October and little change is anticipated in this month's index reading.

Helping to generate renewed enthusiasm for stocks were comments by Federal Reserve Board Chairman Ben Bernanke yesterday evening. Speaking before the Charlotte, North Carolina Chamber of Commerce, he outlined the Fed's recent rate easing and the reasons for it. He then noted that since the last monetary policy meeting the outlook for the economy has been impacted by the turbulence in the financial markets.

"Investors have focused on continued credit losses and write-downs across a number of financial institutions, prompted in many cases by credit-rating agencies’ downgrades of securities backed by residential mortgages. The fresh wave of investor concern has contributed in recent weeks to a decline in equity values, a widening of risk spreads for many credit products (not only those related to housing), and increased short-term funding pressures. These developments have resulted in a further tightening in financial conditions, which has the potential to impose additional restraint on activity in housing markets and in other credit-sensitive sectors. Needless to say, the Federal Reserve is following the evolution of financial conditions carefully, with particular attention to the question of how strains in financial markets might affect the broader economy."
(BERNANKE SPEECH)

These comments have bolstered speculation that the Fed will cut rates (the short-term borrowing rate between banks and the rate charged to banks for loans directly from the Fed) when the policy committee meets on December 11. Lower rates are a plus for bonds but they also stimulate the economy and this is the current focus for stock traders. At present, the inter-market dynamics and other technical factors are guiding Treasuries.

Market Overview

5:00 PM EST :

Stocks gyrated through large swings today and Treasuries were thrown around in the wake. In late trading, the 10-Year Treasury Note was down by 7/32, raising its yield to 4.17%; the Dow was up by 66.74 points to 13,176.79; and the Nasdaq was up by 18.73 points to 2,637.24.

Today's major market-related news release favored bonds in its role in supporting further rate cuts to stimulate economic activity. Industrial production unexpectedly fell last month by the largest amount in nine months. A welcome inflation item within the report was a drop in capacity utilization. It was also the biggest drop in nine months and the level was the lowest in five months.

The news was not helpful for stocks nor was a rise in oil prices. The price of a barrel of light, sweet crude oil for next month delivery rose by $1.82 on the New York Mercantile Exchange to settle at $95.25, the highest close since last Friday and was not too far from the record closing high of $96.70 posted on Tuesday of last week.

And sentiment in the stock market continues to suffer from concerns about the credit situation. But following losses in the last two days, traders ultimately leaned toward the buy side by the end of today's session. The Dow, which had been up by about 100 points and down by about 60 points, finished the day with a 0.51% gain. The S&P 500 rose by 0.52% and the Nasdaq, by 0.72%.

Despite sizeable losses on Wednesday and Thursday, all three indices made progress for the week. The Dow gained 1.03% while both the S&P 500 and the Nasdaq rose by 0.35%. The gain this week represents a partial recovery from heavy losses suffered last week and by additional losses for the Dow and S&P 500 the week before.

The bond market also gained this week with the yield of the benchmark 10-Year Note falling by 5 basis points (price moves inversely to yield). This is the third consecutive weekly yield decline for a combined total of 23 basis points. Four weeks ago, the yield only gained 1 basis point. In the week before that (the week ending October 19), the yield fell by 29 basis points. And even though the yield rose today, the close was still the second lowest since September 22, 2005.

Next week has a light economic release schedule. There are no major reports slated for Monday but Tuesday brings the report on housing starts for last month. In the last report, the Commerce Department said that the seasonally adjusted, annualized rate of new housing starts fell in September by 10.2% to 1.191 million. The pace was much lower than analyst predictions of 1.285 million. The decline was the largest in eight months and the start rate was the lowest since March of 1993.

Not only was the starts data weaker than expected, but the outlook for the near-term is also bleaker. The report said that the rate of building permit issuance fell from 1.322 million to 1.226 million. While September's pace has subsequently been revised to 1.261 million, it is still the lowest since March of 1995.

For October, forecasters predict that the rate of starts fell by 1.8% to 1.17 million. A steep decline in the rate of building permit issuance to about 1.190 million is anticipated.

Wednesday will be busy since traders from all markets will be positioning for a long weekend despite the fact that the market will be open on Friday. One strategy for those who will be sidelined is to shift into the relative safety of Treasuries to avoid event risk while they are gone.

But bond trading will quickly thin on Wednesday as the Securities Industry and Financial Markets Association (formerly the Bond Market Association) has recommended an early close (2:00 PM Eastern instead of 3:00). Light trading volumes mean less liquidity and that can lead to erratic price moves.

On Wednesday morning, the Labor Department will release its weekly report on jobless claims. In yesterday's report, observers were surprised by an unexpected, 20,000 drop in the seasonally adjusted level of initial claims for state unemployment benefits. At 339,000, the level tied with the week of October 13 as the highest since mid-April.

However, the four-week moving average, which smoothes out some of the short-term volatility, was unchanged last week at 330,000. For the year to date, the weekly average initial claims level is 319,000.

The report said that continuing claims for the week ending November 3 (continuing claims must be at least a week old) fell by 7,000 to 2.568 million. The four-week average rose by 11,000 to 2,562,250 and the weekly average for the year to date is 2,532,614.

After last week's drop, a moderate rebound in this week's initial claims figure would not be unexpected.

A little later on Wednesday, the Conference Board, an independent research firm, will release its Index of Leading Economic Indicators for last month. The index rose by 0.3% in September, slightly lower than forecasts for a 0.4% increase. Moreover, August's originally reported decline of 0.6% was revised to a drop of 0.8%.

The largest contributors to the rise in September were slower vendor performance (a sign of increased demand), rising stock prices (higher wealth levels), and a projected rise in manufacturers' new orders for nondefense capital goods after a sharp decline in August.

The negative components were the decline in building permit issuance and a drop in the spread between the effective fed funds rate and the yield of the 10-Year Treasury Note. The average monthly interest rate spread has been negative -- a bearish economic indicator -- since July of 2006 and September's was the most negative in four months.

The steep losses in the stock market and a rise in initial jobless claims point to a decline in October's index. Current forecasts call for a decline of 0.4%.

The final read on consumer sentiment for the month from the University of Michigan will also be released on Wednesday morning. In last Friday's preliminary release, the overall sentiment index came in at 75.0, down sharply from October's final reading of 80.9 and the lowest reading in two years. The expectations index fell to 64.7 from 70.1 and the index of current conditions fell to 91.0 from 97.6. The drop in optimism reflected rising energy prices, falling stocks, and declining home values. With little news since then to boost optimism, the final reading is expected to be little changed.

Two minor releases will also get some attention on Wednesday. These are the Mortgage Bankers Association of America's index data on mortgage applications for this week and the weekly report on oil inventories from the Energy Department.

The U.S. markets will be closed on Thursday in observance of Thanksgiving. The markets are open on Friday but the bond market will once again be closing early. There are no major economic releases scheduled. The combination of thin trading volumes and no economic guidance could make for some turbulence; though barring an unforeseen influence, traders will attempt to keep the markets on an even keel.

10:30 AM EST :

The first impulse of bond traders this morning was to cash in on some of yesterday's hefty gains and stock traders were inclined to pick up bargains after market declines in the last two days. But the economic news released this morning was more bearish than expected, pressuring stocks and lending support for bonds.

In recent trading, short-term Treasuries were up and the longer-dated maturities had pared earlier losses and were near unchanged levels. The stock indices, after opening with gains, were all in negative territory with the Nasdaq leading the way.

In today's only major economic release, the Federal Reserve reported that its index of industrial production -- a gauge of output from the nation's factories, mines, and utilities -- fell last month by 0.5%.

Although data revisions revealed slightly more strength in August and September (0.1% and 0.2% respective increases instead of 0.0% and 0.1%); Octobers decline, the largest since last January, was much weaker than analysts' predictions of a 0.1% increase.

And the weakness was broad-based. The utilities category is usually the most volatile due to weather and, as might be expected, it showed the largest change with a decline of 1.6%. But the largest category, manufacturing, saw a 0.4% drop and mining experienced a decline of 0.6%.

The report said that capacity utilization, the ratio of output to potential output, fell to 81.7% from 82.2% (originally reported as 82.1%). This was the lowest reading since last May. The figure indicates that there is more slack in the production process. Significantly, utilization in the manufacturing sector fell from 80.5% to 80.1%, also the lowest reading since May. More slack translates to a more favorable inflation situation since high utilization can lead to bottlenecks that prevent demand from being met and thereby pushing up prices.

Another negative for stock is a rise in oil prices this morning. In recent trading, the price of a barrel of crude oil for next month delivery was up by $1.67 on the New York Mercantile Exchange to $95.10. High energy costs mean businesses and consumers have less to spend in other areas of the economy.

Stock traders were also dismayed by negative earnings guidance issued by FedEx and Starbucks.

Traders in both markets are looking ahead to next week, which is likely to contain volatile action due to a light economic calendar and holiday disruption. The releases are expected to favor bonds, however. Tuesday's report on housing starts is predicted to show continued weakness in the sector. Thursday's release of the Index of Leading Economic Indicators for last month is expected to have contracted. And the final index on consumer sentiment (also a Wednesday release) is not expected to reveal any improvement from the two-year low posted earlier this month.

The markets will be closed next Thursday in observance of Thanksgiving and there are no major economic releases slated for Friday. Trading volumes are expected to be light around the holiday, leaving prices vulnerable to erratic moves because of the reduced liquidity.

Market Overvies November 9, 2007

5:00 EST :

Stocks fell sharply again today and Treasuries looked more attractive by comparison. In late trading, the 10-Year Treasury Note was up by 16/32, lowering its yield to 4.22%; the Dow was down by 223.55 points to 13,042.74; and the Nasdaq was down by 68.06 points to 2,627.94.

The economic news of the day was not the guiding factor for the markets. The trade gap in September was the smallest in over two years and revisions narrowed August's originally reported deficit. The trade report is good economic news but it argues against more rate cuts by the Federal Reserve.

Another obstacle to further rate cuts is inflation pressure and today's report on import / export prices indicated an increased threat coming from international trade.

The last release of the day favored cutting rates but it is considered a second-tier indicator. The Reuters / University of Michigan initial read on consumer sentiment for the month showed a big decline in optimism, though sentiment does not always correlate with spending behavior.

Stock traders overlooked the bullish trade gap news and focused instead on the ongoing deterioration of the financial sector. Following a string of earnings misses and negative guidance from major companies in the sector, Wachovia warned today of massive write-downs stemming from mortgage-related problems. Apart from the financial sector, the tech sector also saw large losses. Negative guidance from Qualcomm was a major contributing factor.

Of course, high oil prices continue to weigh against stocks. A barrel of light, sweet crude oil for next month delivery rose by $0.86 on the New York Mercantile Exchange to settle at $96.32, not far from Tuesday's record high close of $96.70.

By the end of stock trading, the Dow had lost 1.69%; the S&P 500, 1.43%; and the tech-heavy Nasdaq, 2.52%. All three took huge hits for the week. The Dow fell by 4.06% and the Nasdaq by 3.71%. The Nasdaq was the worst performer with a loss of 6.49%.

In contrast, Treasuries rose. The yield of the benchmark 10-Year Note fell by 10 basis points this week after falling by 8 basis points last week (yield moves inversely to price). And though the yield gained 1 basis point in the week ending October 26, it fell the week before that by 29 basis points. Today's closing yield was the lowest in over two years.

Next week, the bond market will be closed on Monday in observance of Veterans Day though the stock market will be open. The economic calendar kicks off on Tuesday with the report on pending home sales for September. In August's report, the National Association of Realtors said that its index of pending home sales fell by 6.5% from the previous month to a record low. This followed a 10.7% drop in July. On a year-over-year unseasoned basis, pending sales were down by 21.3%.

The data series was first published in 2005 with data going back to 2001. The index is a measure of contract activity and the NAR asserts that 80% of contracts become sales within two months and a large portion of the rest, two months thereafter. Confirming this thesis is the report (also by the National Association of Realtors) that the seasonally adjusted, annualized pace of existing home sales fell in September to its lowest level since September of 2001.

September's pending sales report is expected to show further weakness with a monthly decline of 1.0% to 2.0%.

On Tuesday afternoon, the Treasury will release its budget figures for October, the first month of the 2008 fiscal year. September was a heavy tax receipt month so a surplus (more receipts than outlays) was anticipated, but the actual surplus figure of $111.6 billion was much higher than the $100 billion that analysts had predicted. The variance may have been due to calendar issues so the deficit in October is expected to be higher than the $49.3 billion posted in October of last year. Recent estimates range from a shortfall of $55.0 billion to $60.0 billion.

The higher the deficit figure, the worse it is for Treasuries since it translates into a greater need for the issuance of more government securities to cover Federal debts and operation expenses.

Wednesday brings a couple of heavyweight releases. The Producer Price Index has clout because it is a gauge of inflation at the wholesale level. In September's report, the Labor Department said the PPI rose 1.1%, the largest increase since February.

Though a bounce was expected after August's 1.4% oil-related plunge (the largest since October of last year), September's increase was larger than the 0.5% that analysts had predicted. On a year-over-year basis, the index was up by 4.4%, the largest Y/Y margin since June of 2006.

But energy was a major factor in the overall move. The energy index rose by 4.1% in September, the biggest increase since last November. This followed a 6.6% decline in August, the largest drop since April of 2003. Foods, another volatile category, also jumped more than expected last month. The index for that category, after four months of declines, rose by 1.5%, the largest increase since March.

Excluding foods and energy, the so-called core index rose by just 0.1%. On a year-over-year basis, the core index was up by 2.0%. This is still somewhat elevated but an improvement from August's Y/Y margin of 2.2% and July's 2.3%. Price pressures further down the production pipeline were also relatively tame. The index for prices at the intermediate stage of production rose by 0.4% following a 1.2% decline in August. At the initial, or crude, stage of production, the price index rose by 0.1% following a 3.0% decline.

Consensus forecasts call for increases of about 0.2% for both the overall and core PPI. But this morning's report in import/export prices indicated a larger than expected increase in imported oil prices last month so the headline PPI number could be higher.

The other heavyweight release on Wednesday is the report on retail sales. The report for September was stronger than expected. In it, the Commerce Department said the seasonally adjusted level of sales were up by 0.6% after a 0.3% increase in August. Auto sales, a volatile category that makes up about a quarter of all sales, were up by 1.2% after a 3.3% increase in August. Excluding the category, sales rose by 0.4% following a 0.4% decline.

For obvious reasons, another volatile category is sales at gasoline stations. Sales there were up by 2.0% in September following a 2.6% decline the month before. Excluding both the auto and gas station categories, sales were up by 0.2% following a 0.1% decline in August.

A weaker report is predicted for October. Overall sales are expected to have risen by 0.2% and ex-auto sales by about 0.3%.

Later on Wednesday morning, the report on business inventories for September will be released. The report is not likely to get as much attention as the PPI and retail sales report since previous releases have already disclosed the inventory change in the manufacturing and wholesale categories. The only unknown is the retail sector.

The last factory orders report said that manufacturers' inventories rose by 0.6% in September and the report on wholesale inventories showed a 0.8% increase there. The average monthly change in retail inventories for the year through August has been an increase of 0.4%. If this is plugged into the estimate equation, then overall business inventories rose in September by 0.6%. A weaker retail gain of as little as 0.1% would produce an overall increase of 0.5%.

In August, business inventories reportedly rose by 0.1% but this is likely to be revised slightly higher in Wednesday's release. The last report also said that sales fell by 0.4%, pushing the inventory to sales (I/S) ratio up to 1.27 from July's 1.26.

The I/S ratio is the value of inventories divided by the values of sales for the month. The result shows how many months it would take to entirely deplete the stocks on hand at the prevailing sales pace. A low ratio means pressure is high on the production process to replenish supplies. Despite the increase in August, the ratio is still considered low by historical standards (the record low is 1.25). September's is expected to also come in at 1.27.

On Thursday, the jobless claims report spotlights the employment situation once again. In yesterday's report, the Labor Department said that the seasonally adjusted level of initial claims for state unemployment benefits fell by 13,000 last week to 317,000. This was a third consecutive week of declines totaling 22,000 but it followed a spike of 30,000 in the week ending October 13. The four-week moving average, which smoothes out some of the week-to-week volatility, was little changed, rising by 2,000 to 329,750. The weekly average claims level for the year to date is 318,523.

The report said that the level of continuing claims for the week ending October 27 (continuing claims must be at least a week old) declined by just 4,000 to 2.579 million. But this followed a 60,000 increase the week before. The four-week average rose by 16,000 to 2,552,250. The average weekly continuing claims level for the year to date is 2.532 million.

Following last week's decline in the initial claims level, a slight increase would not be too surprising in this week's figure.

An even more influential inflation indicator than the PPI comes out on Thursday morning. This is the Consumer Price Index, a gauge of price changes at the retail level. In September, it rose by 0.3%, the biggest increase since last May. The energy index rose by 0.3% and the index of food prices rose by 0.5%. Excluding these categories, the core index rose by an in-trend 0.2%. But, despite the tame core reading, the broad-base of the increase could be seen in the fact that there were no declines in any major category.

For October, forecasters are looking for a repeat of September's headline figures with a 0.3% overall increase and a 0.2% rise at the core level.

Also out on Thursday morning is the index data from the New York branch of the Federal Reserve on manufacturing activity in the region for the month. October's index came in at a remarkably strong 28.8, up from 14.7 in September. Any reading over 0.0 indicates a general expansion of activity relative to the preceding month and October's index represented a twenty-ninth consecutive monthly expansion.

But the attention-grabber was the strength of October's expansion. The index was the highest since July of 2004 and surprised forecasters who were looking for a weaker reading than September's. A modestly weaker growth reading of about 20.0 is predicted for November.

The New York region is comparatively small but the index provides the first glimpse of manufacturing activity for the month. The index is also seen as a predictor of the more influential index from its regional neighbor, Philadelphia. But the correlation between the two indicators is not actually all that good. In the last four years, the two have moved in the same direction about 60% of the time.

The predictive aspect of the New York index will be short-lived this month as the Philadelphia index is scheduled to be released at noon on Thursday. It came in at 6.8 in October, down from September's reading of 10.9. As is the case with the New York index, any reading of the Philadelphia index over 0.0 indicates growth. Activity stalled in August with a reading of 0.0 but the last contraction reading was in December (-2.3). Analysts predict that the index will come in at about 6.0 this month.

On Friday, the only major release is the report on industrial production for last month from the Federal Reserve. September's report said that industrial production -- a gauge of output from the nation's factories, mines, and utilities -- rose by 0.1%.

The increase was right in line with predictions but the report revised August's originally reported gain of 0.2% to a flat reading (0.0%). Revisions also increased July's previously reported gain of 0.5% to 0.6% but this was offset by a downward revision of June's 0.6% gain to 0.5%.

The static level of industrial activity in August and September translated into a slight slackening in the ratio of output to potential output. The name of this ratio is capacity utilization and August's originally reported 82.2% was trimmed to 82.1% and September's ratio held at that level. Despite the slight decline, the level in August and September was the second highest after July's 82.2% since August of last year. High utilization raises inflation concerns. It means less slack in the production process which can lead to bottlenecks; and when demand cannot be met, prices rise.

But October's report is expected to once again show little advancement. Production is expected to have increased by another 0.1% and the utilization statistic is expected to be unchanged at 82.1%.

10:30 AM EST :

The economic data released this morning was largely unfavorable for bonds but Treasuries are finding support from further shifts out of the stock market. Huge losses projected by Wachovia have stirred credit concerns once again, thus keeping stock traders in a bearish mood.

The Commerce Department said this morning that the seasonally adjusted value of imports exceeded that of exports by $56.5 billion in September. The deficit figure was much lower than the $58.0 billion that analysts had predicted. Moreover, August's originally reported trade gap of $57.6 billion was revised to a deficit of $56.8 billion.

The deficit figures have narrowed in each of the last four report months and in five of the last six. The latest was the lowest since May of 2005. The declining value of the dollar is the primary reason. The weaker dollar makes U.S. goods cheaper to foreign buyers, thereby boosting sales.

The trade report said the value of imports rose in September by 0.6% but this followed a 0.7% decline in August. Exports rose by 1.1%, the seventh consecutive increase. The value of exports was a record high and the value of imports was at its second highest monthly level.

The news is bullish and therefore unfavorable to bonds since it weakens the case for more Fed rate cuts. Net exports are calculated into gross domestic product (GDP) and the smaller trade deficit in September is a positive contributor. The advance report of third quarter GDP, released last week, said the annualized rate of economic growth increased by 3.9% in the July through September period.

The other early release of the day sounded an inflation alarm which is not good for stocks or bonds. The Labor Department reported that its seasonally adjusted index of import prices rose by 1.8% in October, the largest jump since May of 2006. Forecasters had been expecting a rise of about 0.8%. The fact that September's originally reported increase of 1.0% was trimmed to 0.8% did not cushion their surprise.

But, as expected, the largest contributor to the increases has been from petroleum products. The index for that sector rose by 6.9% last month, the largest since last March. Yet, even excluding petroleum, prices were up by 0.5%, the biggest increase since last May. Ex-petroleum prices were down by 0.2% in September and were unchanged (0.0%) in August.

The report said that export prices were up by 0.9% last month, the largest increase since April of 1995. A large but volatile export category is agricultural products and its price index was up by 3.9% following a 4.1% increase in September. Excluding the category, prices were up by 0.5%, the largest increase in six months.

The final release of the day was the most bond-friendly; that is, bearish. According to news sources, the preliminary index on consumer sentiment for the month from the University of Michigan came in at 75.0, down sharply from October's final reading of 80.9 and the lowest reading in two years. The expectations index fell to 64.7 from 70.1 and the index of current conditions fell to 91.0 from 97.6. The drop in optimism reflects rising energy prices, falling stocks, and declining home values.

The bond market will be closing early today (2:00 PM Eastern Time) and will be closed all day Monday in observance of Veterans Day. With the long weekend ahead for the bond market, some traders may be inclined to cash in on some recent gains but so far the performance of the stock market is dominating the trading action in
bonds.

Market Overview: November 2, 2007

5:00 PM EDT :

Stocks had a volatile session today but the indices ultimately managed to finish in positive territory. Treasuries maintained a positive bias after early losses but wound up off their best levels of the day. In late trading, the 10-Year Treasury Note was up by 7/32, lowering its yield to 4.32%; the Dow was up by 27.23 points to 13,595.10; and the Nasdaq was up by 15.55 points to 2,810.38.

The economic news released today would normally have given stocks a big lift and weighed heavily against bonds. The increase in nonfarm payrolls last month was much stronger than predicted and factory orders for September actually rose instead of falling as forecast.

The news follows Wednesday's stronger than expected report on gross domestic product for the third quarter (3.9% growth instead of the predicted 3.1%) and a cut to short-term interest rates by the Fed. All of these items are stock-friendly but the market struggled this week as signs of more turmoil in credit flows clouded trader sentiment.

An analyst's warning on Citigroup stirred credit concerns that had already been roused last week by a dismal earnings report from Merrill Lynch. A huge short-term infusion of cash to the banking system yesterday by the Federal Reserve also unnerved traders. And today, a report that Merrill Lynch might be trying to hide additional losses fueled more anxiety.

Another negative for stocks today was a sharp increase in oil futures. The price of a barrel of light, sweet crude oil for next month delivery rose by $2.44 on the New York Mercantile Exchange to close at a new record high of $95.93. Though oil companies are reportedly reducing their margins and OPEC's latest increase in production limits took effect yesterday, the high prices threaten the economy by reducing
the amount of money businesses and consumers have to spend on other things.

But Merrill Lynch today denied allegations it had made deceptive hedge fund deals and news that Citigroup's board of directors was holding an emergency meeting this weekend seemed to bolster some trader confidence.

During today's session the Dow was down by as much as 121.85 points or 0.90% and up by as much as 65.03 points or 0.48%. But by the end of the day, it had gained 0.20%. The S&P 500 had been down by 1.05% and up by 0.31% but finished with a gain of just 0.08%. The Nasdaq was down by 0.75% at its low and up by 0.79% at its high and finished with a gain of 0.56%.

For the week, the Dow lost 211.60 points or 1.53% and the S&P 500 lost 1.67%. But the Nasdaq managed to post a small gain of 0.22% for the week. All three indices posted gains last week of over 2.00%. Treasuries made headway this week with the yield of the benchmark 10-Year Note falling by 8 basis points (yield moves inversely to price. It rose last week by just 1 basis point after plunging by 29 basis points in the week ending October 19.

Next week's events calendar includes the influx of new supply which may pressure the bond market. The slate of economic releases begins with Monday's index data for last month from the Institute for Supply Management (ISM) on the non-manufacturing, or services, sector. In September's release the overall index came in at 54.8, down from August's reading of 55.8. Though the reading was the lowest in six months, it still reflected a general expansion of activity relative to the preceding month (any reading over 50.0) and was the fifty-fourth consecutive growth indicator. Moreover, the reading was in-line with most predictions.

A negative for the markets was a pick-up in the prices index from August's 58.6 to 66.1. Because of the recent Fed rate cuts, traders are particularly sensitive to the threat of inflation.

For October, the services index is expected to have slipped once again to about 54.0. The manufacturing index, released yesterday, showed almost no change in activity last month with an index reading of 50.9, the lowest in seven months. A relatively weak services index would give backing to speculation that overall economic growth is slowing down.

However, though the services sector is much larger than the manufacturing sector, the services data does not carry the same clout as the manufacturing data. One reason for this is the very size of the services sector. It is so large that extremes offset one-another and broad-based changes are necessary to make a significant impact on the overall index. Another reason is that the services data series is relatively young (begun in 1997 vs. 1948 for the manufacturing series).

There are no major releases scheduled for Tuesday. On Wednesday, the Labor Department will release its preliminary report on productivity for the third quarter. The final report for the second quarter indicated that the seasonally adjusted, annualized rate of nonfarm business productivity (output per worker per hour) rose by 2.6%. This was up from the preliminary reading of 1.8% and was the strongest gain in seven quarters. Productivity rose by just 0.7% in the first quarter.

The upward revision to productivity in the third quarter final report had the effect of reducing unit labor costs (ULC) from the originally reported gain of 2.1% to a gain of just 1.4%, the smallest in four quarters.

Prior to last Wednesday's release of the initial report on gross domestic product (GDP) for the third quarter, forecasters were predicting a slight reduction in productivity growth to about 2.3%. But this was based on the assumption that GDP declined to about 3.1% from the second quarter's 3.5%. Instead, the report showed GDP up by 3.9%. Consequently, productivity was probably better than the early estimates.

Strong productivity is usually a positive influence on the markets. The increased output per hour is seen by stock traders as a bullish economic development: more efficiency and therefore better corporate earnings. And the efficiency often translates into reduced labor costs per unit of output which has a salutary effect on inflation pressures -- a plus for both stocks and bonds.

Also out on Wednesday is the report on wholesale inventories for September. The release is considered second-tier since the wholesale category is only one part of the inventory picture and the data is somewhat dated. In August's report, the Commerce Department said the seasonally adjusted level of inventories rose by 0.1%, down from a 0.2% increase in July and the weakest reading since a 0.3% decline posted last December. The report said that sales picked up by 0.4% following a 0.2% rise in July.

This combination produced an inventory-to-sales (I/S) ratio of 1.11, tying the previous three month's readings as the lowest on record. The I/S ratio is the value of stocks on hand at the end of a month divided by the value of sales for the month. It indicates how many months it would take to entirely deplete existing inventory at the prevailing sales pace.

While lean inventories maintain pressure to replenish stocks, the inventory increases have been soft in the last three report months (0.3% in June, 0.2% in July, and 0.1% in August). In addition, the wholesale report does not include the inventory from the manufacturing and retail sectors. The business inventories report for September, which includes all three sectors, will be released on the 14th.

Besides the productivity and inventories reports, traders will also have a couple of minor, weekly reports to consider. These are the oil inventory report from the Energy Department and the application index data from the Mortgage Bankers Association.

The first influx of new supply (other than the weekly issuance of Treasury Bills -- securities with a maturity smaller than a year) comes on Wednesday as the Treasury will be auctioning a new issue of 10-Year Notes. On the current issuance schedule, there is an initial issue each quarter that is followed a month later by a sale of an additional amount of the initial issue.

The last initial auction in August had mixed results. Bids exceeded the $13 billion offer amount by 2.30 to 1, the same bid-to-cover ratio as in the last initial offering in May. Non-competitive bids, a gauge of individual investor demand, was strong, totaling $155 million, the highest amount in any 10-year offering (initial or reopening) since May of 2004.

But foreign demand was on the weak side. Indirect competitive bids, which include those from foreign central banks, garnered 31.7% of the issue. This was down from last May's award portion of 44.1% and below the 38.6% average of the twelve initial offerings prior to August's.

The arrival of new supply usually keeps bond prices down until the market has a chance to begin digesting the inventory. Traders who will be making bids refrain from pushing prices up prior to an auction in order to keep yields up (bids are for yield -- the higher, the better for the auction participants). Other traders also avoid purchasing the soon-to-be off-the-run issue since the new one will have greater liquidity. They also assume a wait-and-see posture until the results of the sale are known.

On Thursday, the only major release is the jobless claims report. In yesterday's report, the Labor Department said the seasonally adjusted level of initial claims for state unemployment benefits fell last week by 6,000 to 327,000. The previous week's originally reported level of 331,000 was revised up slightly to 333,000. The level has now fallen by 12,000 in the last two weeks but this follows a 30,000 gain the week before that.

The four-week moving average, which smoothes out some of this week-to-week volatility, edged up by 1,750 to 327,000, the highest reading in six months. The average weekly reading for the year to date is 318,488. For all of 2006 it was 312,962. Despite the general increase this year, any figure below 400,000 is an indication that hiring is outpacing layoffs.

The report said that continuing claims for the week ending October 20 (continuing claims must be at least a week old) rose by 65,000 to 2.588 million, the highest reading in seven weeks. The four-week average rose by 13,000 to 2,537,500, the highest reading in four weeks. For the year to date, the average weekly continuing claims figure has been 2.531 million. For all of 2006 it was 2.459 million.

More supply will be hitting the market on Thursday as the Treasury will be auctioning $5 billion in 30-Year Bonds. The issue is actually a reopening of an initial offering in August but that issue, for some reason, had a maturity of 29-years and 9-months. This means next week's issue will have an actual maturity of 29-years and 6-months. It will have a face value of $5 billion, the same size as the last reopening offering in May, which had a maturity of 29-years and 9-months.

May's offering was poorly received. The bid-to-cover ratio was 1.97 to 1, a slightly higher bid-to-cover ratio than the 1.77 seen in the last reopening in August of 2006 but that offering was twice as large ($10 billion). Non-competitive bids totaled just $2.5 million, down from $19 million in the previous reopening. Even accounting for the difference in issue size, this was a much weaker bid. And foreign demand was feeble. Indirect competitive bids garnered just 10.4% of the issue. In August's reopening, the award percentage was 32.7%.

Two trade-related reports are slated for Friday morning. These are the report on international trade for September and the report on import / export prices for October. In August's trade report, the Commerce Department said the seasonally adjusted value of imports exceeded that of exports by $57.6 billion in August. The deficit was the smallest since last January and was considerably narrower than the $59.0B that analysts had predicted. July's originally reported deficit of $59.2 billion was also revised down slightly to $59.0 billion. The report said that the value of imports fell by 0.4% in August from July's record high while that of exports rose by 0.4% to a new record high.

For September, a slightly wider gap of about $58.0 billion is forecast. Net exports constitute a component of gross domestic product so a deeper deficit would subtract from the calculation and a narrower deficit would add to it.

The report on import and export prices gives some indication of inflation pressures stemming from the trade situation. Most attention is given to the import sector. In the last report, the Labor Department said its index of import prices rose in September by 1.0%.

An increase had been anticipated since oil prices spiked up that month. The report showed a 5.4% jump in the price index for imported petroleum products following a 1.1% decline in July. But excluding that category, ex-oil import prices fell by 0.2% in September, the largest decline in eleven months. This followed a 0.1% decline in July. Since oil prices rose again last month, the overall import index is expected to have risen again by about 0.9%.

The last report said that export prices were up by 0.3% in September, the largest increase since June. But the rise was attributable to a 4.1% jump in agricultural product prices, the largest since last November. Excluding the volatile category, there was no change in export prices (0.0%). This follows a 0.1% ex-agriculture increase in August and a 0.1% decline in July.

And the final release of the week is the preliminary read on consumer sentiment from the twice monthly surveys conducted by the University of Michigan. In the final read for October, the overall sentiment index came in at a seventeen month low of 80.0, down from the preliminary reading of 82.0 and from September's final reading of 83.4.

Pessimism prevailed in the outlook for the future and the assessment of current conditions. The expectations index fell to 70.1 from the preliminary 71.6 and September's 74.1. The index of current conditions fell to 97.6 from the preliminary 98.2 and September's 97.9. The expectations index was the lowest in fourteen months and the current conditions index was the lowest in thirteen. Little change from October's numbers is predicted in the preliminary report for November.

10:30 AM EDT :

Treasuries began the day underwater as the employment report for last month was stronger than expected. Stocks initially rose on the news, but the negative sentiment arising from credit market concerns that weighed against stocks yesterday reemerged and the indices fell into the red. The retreat from risk generated a flow into government securities (Treasuries) and bonds are currently ahead, despite the day's economic data.

In the major release of the day, the Labor Department reported that the seasonally adjusted level of nonfarm payrolls rose in October by 166,000. The gain was much higher than the 90,000 that analysts were predicting and was the biggest jump since last May when payrolls increased by 188,000. The downward revision to September's originally reported gain of 110,000 to 96,000 was not much compensation to those who were looking for a weaker gain in October.

The report showed that last month's gains came in the services sector. The biggest increase came in the category of professional and business services where payrolls were up by 65,000. Leisure and hospitality saw a payroll gain of 56,000, the twenty-fourth consecutive increase. And education and health services payrolls grew for a thirty-seventh consecutive month, adding 43,000 in October. The only services categories that contracted were retail sales (down by 21,500) and information (down by 3,000). Government payrolls rose by 36,000 last month.

The goods producing sector was a different story. While payrolls in natural resources and mining grew by 2,000, manufacturing payrolls shrank by 21,000, a sixteenth consecutive decline. Construction payrolls fell by 5,000.

As expected, the report said that the unemployment rate held at 4.7% for a second month. Though the rate is the highest since August of last year, it is still relatively low. A positive for both markets was an increase in average hourly earnings of just 0.2%, the smallest increase since last April.

The second and final economic release of the day was also more bullish than expected. The Commerce Department reported that the seasonally adjusted level of factory orders rose in September by 0.2%. Many forecasters had predicted a decline of about 0.8% because of last week's durable goods orders report which indicated a decline in that category of 1.7%. What they were not counting on was a 2.1% surge in the nondurable category, the largest increase since last March. Factory orders fell in August by 3.5% (revised from -3.3%).

Excluding the volatile transportation category, orders were up by 1.4% as the order level in transportation fell by 6.2%. Orders in the defense sector are not governed by standard market forces so orders excluding the sector are seen as a better representation of underlying demand on production. Ex-defense orders were up by 1.3% as defense saw a 33.9% decline due primarily to a 37.2% drop in aircraft orders.

In the category of ex-defense capital goods minus aircraft, orders were up by 0.6%, a third consecutive monthly increase. The category is seen as a measure of core business demand.

But traders are currently concentrating on news reported by the Wall Street Journal that Merrill Lynch made deals with hedge funds that might have been intended to temporarily hide losses associated with its mortgage related holdings. The news put shares of Merrill into a dive and kept the credit market situation in the spotlight.

Another negative for stocks is a rise in oil prices. The front month crude oil contract retreated yesterday and in early trading today, but in recent activity, the price had turned higher again and was up by $1.06 per
barrel to $94.55.