@ the open 1-25-12

A quick note on Petrobakken – for those of you who acted on my recommendation of Petrobakken (PBKEF in the US or PBN in Canada) from back on the 19th of October, you’ll recall that there were several catalysts, most notably the potential refinancing of a large convertible debt issue, that could drive the stock, we thought, into the mid-teens. Well, the company announced last week that they were planning a new bond issue and the stock has gone from $8.24 (close on 10/18) to $16.21 at the end of trading yesterday. The company has restated its intentions to maintain the dividend at roughly $1/share per year (paid monthly) and there are now analysts out in the market suggesting that the stock could go into the $20’s, which is a distinct possibility BUT with a less than desirable ownership structure (recall Petrobank owns roughly 59% of the company), the threat of lower oil prices on the horizon (barring conflict in the Middle East) and the Keystone XL postponed at best it’s time to consider taking at least some of your money off the table. Now, there is a set of circumstances that have been put in play with the intended refinance of the convertible bond that could set the company up to be sold. The convertible contained a poison put that gave holders the right to put the bond in the event that Petrobank sold their stake in the company below 50%. With the refinance of the convertible this overhang will likely be removed (unless the provision remains in the new indenture which I have yet to see)…removing this overhang could prompt a sale by Petrobank which could raise the funds needed for them to continue the development and deployment of their oil sands recovery technology. My recommendation though would be to at least take your original investment off the table here if you bought in around $8…that way from here on out you’re playing with house money.

Equity Markets – European indices are at their lows for the trading session as it appears that the Greek debt negotiations are going nowhere fast, the ECB continues to refuse to join in taking losses on their Greek debt positions and German Chancellor Merkel says that a Greek default may be unavoidable. All of this is weighing on equity markets this morning after a good performance out of the Asian markets that are open in overnight trading. The US indices are mixed with the NASDAQ 100 held up by the results from AAPL after the close yesterday (see below). Otherwise it looks like the broader market (S&P 500) will open lower....ditto the Dow Jones 30. There was some reasonably good economic news out of Germany which could indicate growth in Q4 GDP but this could ultimately backfire on the Merkel government as other EMU countries could point to Germany benefitting from a weaker euro through its export markets as able to afford to help out the rest of the EMU more adding pressure on the Germans to be more accommodating in their demands for fiscal austerity elsewhere…this is a “good news is bad news” scenario.

Macro, News & Events

Economic releases –

• Weekly MBA mortgage applications…last was 23.1%
• November House price index (MoM)…0.0% vs. -0.2%
• December Pending home sales (MoM)...-1.0% v. 7.3%
• December Pending home sales (YoY)…last was 6.9%
• FOMC interest rate decision…expectation is that the FOMC will leave short term rates unchanged in the range of 0% to 0.25% with language likely repeating “through the middle of next year”…the decision will be announced at 1230

Events –

• At 1400 the FOMC will release its projections for the US economy and the Federal Funds rate
• At 1415 Chairman Bernanke will hold a press conference

Earnings Announcements – today we get 39 earnings announcements with a decent cross section of industrial, energy, medical, technology and financials…interesting outlooks for the economy in 2012 should come from Southern Company, United Technologies, ConocoPhillips, Teradyne, Stanley, General Dynamics, Boeing, WellPoint and Praxair.

Asia, Europe & USA –

• The UK economy declined more than forecast in Q4 as manufacturing and services stagnated and GDP declined by 0.2% from Q3 levels (the median forecast had called for a 0.1% decline). Bank of England governor King said that monetary stimulus can be increased if necessary in order to prevent a “renewed severe downturn”…this would likely mean another round of QE when the current, £75 billion, program is completed.
• The ECB has said that it remains unwilling to take losses on its Greek debt holdings, although everyone else that holds the debt should take losses…
• German business confidence rose more than expected in a January survey to 108.3 from 107.3 in December (expectations had been 107.6)…this is the 3rd consecutive monthly increase in this survey number. When combined with other surveys suggesting that manufacturing and service industries will outperform expectations there is a growing belief that German GDP growth for Q4 should be positive.
• Spain’s PM Rajoy plans to force the Spanish banking system to provision for additional losses in real estate could backfire in that healthy institutions could be dragged down by those that need a bailout. So far the government has refused to use public funds to bailout the real estate oriented banks (Caja’s) that have created the drag on the Spanish banking system preferring to force the rest of the banks to pay for these growing bad debts. The government fears that they could end up like Ireland…the current estimate of “troubled assets” according to the Bank of Spain is £176 billion…total Spanish public debt is €694 billion.
• High yield bonds of independent power producers are trailing the broader market here in the US as the lowest natural gas prices in a decade and sluggish electricity demand in the “off peak” market conspire to keep profits and cash flow low raising the risk of a liquidity squeeze on companies like Energy Futures Holding (fka TXU). Historically, natural gas was seen as the “mid-merit” electricity supply and thus put a cap on “peak” energy prices but with natural gas prices falling faster than coal (historically a base load (runs 24/7) fuel), gas turbines are becoming more base load oriented which cuts cash flow to producers with large coal-fired generation facilities.
• Egypt marks the anniversary of the anti-Mubarak uprising and rallies against the ruling generals are starting up again…
• The President in his “state of the union” address called for higher taxes on investment returns saying that this would be the “fair” thing to do as those with large investment portfolios pay less in capital gains taxes than people with ordinary income…of course this will penalize older Americans disproportionately since they typically live off of their investments but nothing was said about this, nor was there mention on the “fairness” subject of the millions of working Americans who effectively pay no taxes…but then this was just a campaign speech after all.
• Apple’s profits more than double on sales of iPhones and iPads…net income was $13.1 billion in Q4 ranking among the highest quarterly profits on record…are we going to start hearing about a “windfall” profits tax on AAPL?
• The six largest US banks by asset size have all indicated that they will satisfy the new international capital standards set to be imposed under the Basel III regulatory standards some six years ahead of schedule…this while Germany and France have said that perhaps these capital standards are too tough for their banking systems to meet by the 2019 deadline…

Credit Markets –

Sovereign CDS – the sovereign credit markets are once again in “risk-off” mode with most of the riskier countries wider on the trading session…the exception is Ireland which one trading desk says is due to a single “large” seller of protection (this indicates how relatively illiquid these over the counter markets are). The Greek debt saga drags on…ECB refuses to take losses on their positions.

OIS – the spread differential between euro and dollars in the overnight index swap market continues to narrow, now standing at -32.7 bps, down from a wide of -62.8 bps back in October. Of course much of this is due to the ECB’s LTRO program of three year repo lending to the European banks which has alleviated the liquidity squeeze on the banking system for the time being (the next LTRO “auction” will be at the end of February).

US Corporate Credit – corporate CDS indices were wider across the board yesterday with the leveraged loan index wider by 7 bps, the high yield index wider by 3 and the investment grade index wider by 1 bps. All of this was in sympathy with the equity markets moving lower and it looks as if this is set to repeat itself today.

Energy Markets – oil markets are lower following the reduced global economic outlooks from the World Bank and the IMF and some reduction in the geopolitical risk premium as no new issues have arisen with Iran (could be the calm before the storm)…WTI is down by 07.% in early trading in sympathy with European equities and domestic futures. The spread between WTI and Brent remains well above -$11 due to the disproportionate impact of any MENA turmoil on European crude supplies…this also keeps Tapis and Bonny Light at elevated levels as much of the MENA crude travels to Asia.

Natural Gas – futures continue their trend of improvement as the one year strip now averages $3.06, up from $2.70 on Monday morning before the announcement of dry gas “shut-ins” by Chesapeake and expectations that this move will be followed by other producers in the coming days and weeks. We’ll hear from several large integrated oil and gas companies today and the market will be keen to hear outlooks for the domestic natural gas market as well as news on growing crude oil supply domestically from shale based production.

Phillip Pennell, CFA
Turnberry Capital Management
(203) 861-2708 (Direct)
(203) 861-2700 (Trading)
(203) 917-2255 (Mobile)

The information included in the above discussion is not intended to be used as a basis for making investment decisions nor should it be construed as a recommendation by the author to buy or sell any specific security. Individuals should consult their investment advisor prior to making any investment decisions.