Monday, February 2, 2009

February 2, 2009: Morning Call

February 2, 2009: Morning Call

Fair Value: SP500 – 822.88; NDX: 1180.11; DOW: 7958.74

Technical Levels:

SPX: 752-755, 800, 816 support/848-852, 899-908 resistance


Pre-market EPS: HUM (1.07/7.34B); MAT (.72/2.2B); ROK (84/1.26B)
04:00: Euro-zone PMI Manufacturing (January Final): 34.5
08:30: Personal Income (Dec): -0.3%; Personal Spending: -0.9%
08:30: PCE Deflator (Dec): 1.1% YoY; PCE Core: 0.0% MoM; 1.7% YoY
09:00: PBR Analyst Meeting
10:00: ISM Manufacturing (Jan): 33.0; Prices Paid: 19.0
10:00: Construction Spending (Dec): -1.2%
Post-market EPS: AFL (1.00/4.6B); APC (.26/2.38B); PCL (.43/455.3M); PBI(.74/1.61B); SNDK (-.60/769.4M)

Foreign Market Summary/Key Macro News/Commentary:

The S&P futures are currently trading 11 below fair value to 812 (session low 806) while the NASDAQ futures are trading 20 points below fair value. The S&P has sold off 7% in the last three trading days. Financials are down 6% in Europe with BCS among the weakest financial stocks after Moody's cut their debt rating. BNP is down 12%, as the revised Fortis deal will not increase their capital ratios. The German government is also signaling that bank nationalization is a possibility with Hypo Real Estate currently in focus (down 8%). Asian markets closed lower due to profit warnings from HIT and Mitsubishi Electric. (Japan down 1.5%, Hong Kong down 3.1%, Australia down 1.2%, India down 3.8%, Shanghai up 1.2). European markets are down 2% extending the 3-day sell off to 6%. CNBC is reporting that Obama's "bad bank" plan will not be announced until next week and will instead address the issue of Wall Street compensation this week. Paul Krugman's editorial in the New York Times this morning reflects some of outrage that is starting build against a continuation of the blank check bank policy – copy/paste:

Impact Research Calls/Market Moving News:

BCS (5.71): Moody’s cuts Barclay’s debt rating to AA3 citing potential credit writedowns.

Mitsubishi Electric (6503 JT): Shares closed down 9% after the company cut its full year profit forecast. The company expects profit will decline 94% to 10 billion yen (112 million). The company expected 120 billion yen profit in October. Analyst consensus was for a profit of 72 billion yen.

HIT (30.16): Hitachi falls 18% in Tokyo on the earnings warning from Friday. HIT announced an annual loss of 700 billion yen (7.8 billion dollars). Moody’s downgraded HIT debt to A2 and S&P put the company on watch negative.

SOX Index (208.26): SIA says Global Semiconductor sales were down 16.6% in December versus November sales. The sales were down 22% versus a year ago.

NYX (22.00); NDAQ (21.82): NYSE Euronext (NYX), Nasdaq OMX Group (NDAQ) downgraded at Goldman Sachs: NYX downgraded to sell from neutral; target is now $19. NDAQ downgraded to neutral from buy; target reduced to $23 from $25.

NYX (22.00): NYSE Euronext downgraded to market perform from outperform at Keefe, Bruyette & Woods: Price target is $25. Firm cites industry headwinds and unfavorable pricing trends and exchange rates in its downgrade

CNBC reports that Obama's "bad bank" plan is expected next week: Citing an industry source, CNBC reports that in the coming week the Obama administration will address the issue of Wall Street bonuses and executive compensation through the TARP plan. An industry aid package, including the introduction of the "bad bank" concept, will be announced next week. Though some reports last week indicated that the Administration's industry aid plans might be announced this week, the Administration itself had indicated that a "comprehensive" solution would be rolled out "systematically in the coming weeks".

NY Times discusses the trouble valuing troubled assets: Article notes the very large problem of trying to value some of the assets on banks' balance sheets. It mentions on mortgage-backed bond rated by S&P. The financial institution that owns the bond values it at 97 cents on the dollar, S&P estimates it at 87 cents based on current conditions and 53 cents under a worse scenario but it trades at 38 cents on the dollar. Valuing the bonds too low will force crushing losses onto the banks while inflated values bails out the banks, executives and shareholders at the expenses of taxpayers. Some experts think the government should only buy assets already marked down and then guarantee the rest.

WSJ looks at who might benefit or lose from a government bad bank
A 'Heard on the Street' column looks at the valuations banks have been carrying financial assets on their balance sheets to see who might be helped or harmed by the government buying up assets. Morgan Stanley (MS) and Goldman Sachs (GS) have big holdings that could benefit since they use mark-to-market for their financial assets. But the vast majority of regular bank loans are not marked-to-market but have reserves booked against them. And in many cases the reserves appear inadequate.

Barron's Cover questions the future of LBOs: Considering the deals made by the private equity houses at the height of the boom, it is unclear if any financing will be available for the firms once lending restarts or if corporate boards will be willing to deal with them anymore. And the firms have not had much success investing in distressed debt or equity. Many bonds issued by highly leveraged companies trade for less than 50 cents on the dollar. It may take time to come to fruition, but the firms face a wipeout of their investments in companies like Harrah's, Clear Channel, Hilton Hotels, Freescale Semiconductor, Realogy and Claire's Stores. Barron's believes that many of these companies only have an option value, about 15%-20% of the original value, based on the hope of an eventual recovery. The buyout companies argue that the debt is unfairly depressed and that their portfolio companies are worth more. Apollo and KKR are better on disclosure of valuations than Blackstone. Barron's remains bearish on Blackstone.

Verizon shares could rise by 30% over the next two years says Barron's (29.87)The company offers reliable, business as usual results, keeps its focus and offers the promise of market beating returns. Profits jumped 15% in Q4 due to demand for wireless services and taking share from cable companies. The company had its negatives but has shown that it can handle these tough times. And investors couldn't ask for a better chance to buy as it trades around 12x estimated '09 earnings and 11.5x '10 estimates. There is stable free cash flow and a 6% dividend yield.

NY Times says this is the last year that Wall Street bonuses will be out of line with reality: Columnist Joe Nocera says the reason that bonuses will come down is because the government will not allow them to be so big in the foreseeable future and the banks will realize the PR aspect of bonuses. He notes the criticism of Wall Street bonuses from President Obama where the bonuses were called the height of irresponsibility. Mr. Nocera admits that the amounts for the corporate jet or the renovation of an office are usually too small to make a difference in companies as large as Citigroup or Bank of America. This is about symbolism, the symbolism of spending $1.2M to renovate an office or millions on a jet as the banks are receiving billions in government assistance. Also, the business models will change and the profit levels will be smaller.

WSJ also discusses pay on Wall Street: Industry executives admit that Wall Street pay could shrink from its already much-lowered levels, especially as the industry wants to avoid government intervention. It is likely that expectations will be lowered, at least until the crisis has passed. Some of the banks and securities firms expressed no problem with the talk about lowering compensation levels because it would bring expenses in line with the lower risk and profit profile spreading on Wall Street. The problem is that the compensation system is woven into the fabric of the financial system. Plus, many employment contracts cannot be unwound and lower pay does not guarantee that problems will not occur in the future. Base salaries may increase and payouts may be based on longer term metrics.

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