At the open 7-1-11

@ the open will be on vacation the week of July 4th…having said that, it’s have laptop will travel so if things get crazy out there (I don’t anticipate that happening at the moment) I will send out an e-mail.

Economic Releases – today we get construction spending for May (expectations are for +0.1% vs. +0.4% in April)…we’ll also get the UofM consumer confidence index (expected to be virtually unchanged for June over May at 72.0), the ISM Manufacturing Index for June (52.0 vs. 53.5 in May) and ISM Prices Paid also for June (70.9 vs. 76.5 in May). Finally, we’ll get vehicle sales figures, expected to show slight improvement on an annualized basis for June to 9.4 million domestic vehicles sold vs. 9.22 million in May.

As I’m sure you all saw, the initial jobless claims number for last week was a slight disappointment and with any near term expectations of a Greek default removed for the time being, the jobs report that will come out a week from today (July 8th) will be a report that gains focus as we move through the week. At this point, expectations for improvement are modest as current expectations suggest that we added 83k to nonfarm payrolls in June (54k were added in May) with the private sector payroll additions expected to have grown by 17k to 110k from 83k in May. The unemployment rate is expected to be flat at 9.1%.

Equity Markets – Asian markets were mixed in overnight trading (the Hang Seng was closed) and European indices are for the most part only modestly changed in the morning trading session…domestic futures continue to indicate a slightly lower opening.

• Earnings season kicks off in 10 days with Alcoa (AA) reporting on the 11th of July…with Greece out of the way for the moment and no near term crisis looming in either Portugal or Ireland the PIG appears to be sleeping for the moment. That leaves macro released news as the only real market driver in town beyond the natural tendency for the market to trend higher given that we remain on the backside of the recession.
• Crude drag - Having said that, there remain fairly significant drags on global economic performance…take for example gasoline. If you compare this year to date to last year to date, the average price of a retail gallon of gasoline costs more this year by roughly 48 cents/gallon. The US consumes roughly 139 billion gallons of gasoline per year (this has been relatively stable for the last several years) so assuming that through June we’ve consumed ½ of our annual allocation (I’m probably a little high here as summer driving season is only in its first real month) that would translate into a $33.2 billion drag on the US economy. On an annualized basis that would translate into a 0.4% drag on a $15 trillion GDP economy. Now we import roughly ½ of our crude oil needs so the amount of “true drag” (actual money leaving the economy) is closer to ½ of that amount or say roughly 0.2%. The problem with the energy “drag” is that it doesn’t just hit consumers at the pump, it resonates throughout the entire economy as everything that is purchased and consumed has an energy component to it and consequently either a higher price, lower profit margin or both associated with it.
• More on oil – analysts disagree over the ability of Saudi Arabia to offset the loss of roughly 1.5 mm barrels per day of Libyan crude (and forget about the specific gravity differential)…in June the Saudis added almost 300,000 barrels per day to their production levels but that’s a far cry from 1.5 million. Worldwide demand for crude is expected to end the year at 90 million barrels per day with an increase in Chinese demand of 1.5 million barrels (a 5.1% increase) leading the way. If these forecasts come to pass, it will not take long for oil to make up much of the 20% price decline experienced since the end of April and that doesn’t auger well for the ongoing economic recovery (see above).
• Global slowdown – evidence continues to mount that the economic expansion is slowing…China’s factory index fell to the lowest level since February 2009, manufacturing in the EU slipped to an 18-month low with Germany expanding at the slowest pace in 17 months while Italy, Ireland, Spain and Greece actually shrank
• It appears that Greece may receive as much as $124 billion (€85 billion) in new financial assistance from the EU and IMF making the total package as much as €195 billion (almost 2/3 of Greek GDP). The current plan calls for the IMF to put up 30% of the funds and the EU and “private investors” to come up with the other 70%. The original plan had anticipated that the original bailout would allow Greece to go back to the capital markets and borrow up to €30 billion…hah. So now the powers that be are looking to private investors to make up this €30 billion via the voluntary “roll-over” of existing debt holdings (so the politicians are attempting to strong arm the banks and insurance companies to make up for no buyers of Greek debt)…of course this has to be a “voluntary” action or it could be deemed coercive and consequently ruled as a default by Greece which would then trigger credit default swaps and who knows what could happen then (at least that’s the fear). I suppose that I’m somewhat less concerned about the CDS issues simply because these contracts are marked to market and collateral gets posted as “margin” to ensure prompt settlement in the event of a default…besides I don’t think that the market for Greek protection is huge.
• Christine Lagarde, newly elected managing director of the IMF, has indicated to existing IMF staff that she intends to follow through on her promise to give more voting power to emerging market countries

Credit Markets – credit markets rallied yesterday following the non-default for Greece…all high yield bonds were seemingly “bid for” and a little air came out of the Treasury market. In part this could be explained by month end repositioning but with the equity market rally all risky assets were driven higher, now we have to see if this holds. Sovereign debt spreads are mostly tighter this morning as the relief rally following the Greece outcome continues.

• Lehman claims to have $100 billion of claims holders that are willing to go along with its revised bankruptcy plan of reorganization/liquidation.

Have a happy 4th and I’ll speak to you again on the 11th with the kick-off of earnings season.

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.