Chain Bridge Investing 12-16-09: Debt-Laden Europe, Wholesale Prices, Sovereign Debt Risk, Bernanke on Inflation & More

Good morning, investors and traders! You are reading the Daily Download (”Daily DL”), which includes summaries and links to the day’s selected economic and stock investing news. The Daily DL is maintained by Chain Bridge Investing (“CB”), which is a financial blog at www.chainbridgeinvesting.com. Chain Bridge Investing is constantly improving and adding new financial and investing content to the website. Please let us know if you have any suggestions at the following email address: .

General News & Headlines Summary

News items not covered below are as follows: (1) Raj Rajaratnam, the founder of the Galleon Group, and Danielle Chiesi, an ex-Bear Stearns hedge fund manager, were formally indicted on Tuesday by a federal grand jury; (2) Best Buy reported a higher than expected profit of $227 million along with a 5% increase in revenue for the third quarter, but the company’s shares dropped after it stated that it expects U.S. gross margin to decline 80 to 100 basis points in the fourth quarter; (3) the Architecture Billings Index dropped to 42.8 in November, down from 46.1 in October, indicating a decrease in billings; (4) the net foreign purchases of long-maturity U.S. securities equaled $8.3 billion in October, down from the $26.7 billion of net purchases in September; (5) Roper Industries will replace Ensco International on the S&P 500 Index on December 22; (6) on Tuesday, Boeing’s 787 jetliner made its first test flight; (7) the Federal Deposit Insurance Corp stated that it plans to hire nearly 1,600 mainly temporary employees and that its budget will surge to $4 billion in 2010 from $2.6 billion in 2009 primarily due to rising bank failures; (8) the market priced Cobalt International Energy’s initial public offering at $13.5o per share versus the expected range of $15 to $17 per share; and (9) OPEC slightly increased its 2010 forecast of global oil demand.

Upcoming Economic Data for the Day (all times EST)

7:00 AM MBA Purchase Applications

8:30 AM Consumer Price Index

8:30 AM Housing Starts

8:30 AM Current Account

10:30 AM EIA Petroleum Status Report

2:15 PM FOMC Meeting Announcement

Initial Public Offerings (”IPOs”) for the Week of December 14- 18, 2009

12-15-09 Cobalt Intl Energy – Deepwater and offshore oil exploration (“CIE”)

12-15-09 Team Health Hldgs – Healthcare professional staffing and administrative services (“TMH”)

12-16-09 Kraton Performance Polymers – Styrenic block copolymers. (“KRA”)

12-17-09 Intl Beef – Holding company and beef processing company (“NBP”)

Data from the WSJ Market Data Group

For Daily Market Performance Data, Please Visit the Daily Market Sheet

News

Debt Fears Rattle Europe – The Wall Street Journal

Summary: On Tuesday, the euro dropped as low as $1.4505, its lowest levels since the beginning of October. There are fears Europe’s economic recovery may be postponed as the credibility of the euro zone’s stability pact, which is an agreement where countries promised to control spending, is tested. These fears were increased significantly as news of more troubles amongst the Austrian bank system have emerged after the nationalization of one Austrian bank on Monday. Furthermore, the precarious financial situation of the countries of Portugal, Ireland, Italy, Greece and Spain continues to weigh on the minds of market participants. These countries all have low future growth potential and large budget deficits, which most likely will continue to increase. Such woes are a result of structural problems in each nation and will be hard to reverse. For instance, the recent growth in both Spain and Greece was primarily fueled by construction and consumer bubbles. Furthermore, the large amount of corruption that exists throughout Greece’s economy will continue to hinder any economic recovery unless fixed. Moreover, there is evidence that spending cuts in Greece could result in a wave of social unrest, which may deter officials’ willingness to implement the necessary spending cuts. Yet European Union officials do not believe that Greece will need a bailout as long as it successfully implements the measures currently being discussed. If Greece were to need a bailout, it would not technically be able to receive one from European Union countries due to a no-bailout clause; however, officials state that there are ways around the clause, but the European Union, for the sake of its credibility, would prefer Greece to go to the International Monetary Fund (“IMF”) for assistance.

CB: Over the last week, the topic of Greece and sovereign risk have been increasingly discussed in the daily news as well as on CB. The big intrigue for CB is the methods the European Union will use to help Greece, Spain, Portugal, Ireland and Italy recover from their current downturns, while keeping these countries on the euro. Is it possible that these countries will break from the euro in order to control their own monetary policy? According to recent reading, the European Union appears poorly prepared for this situation and does not seem to possess many convincing solutions. Also, the extent of the European Union’s power in aiding these countries appears limited, especially if the recent downturns are primarily due to the structural and cultural problems that exist in each country. For instance, Greece needs to cut fiscal spending and raise more money from taxes. However, with the level of corruption in Greece and the lack of organization within its government, the country will have a hard time collecting taxes and implementing effective spending reductions. This is not a situation where throwing money at the problem fixes everything, especially if the necessary changes may result in social unrest.

One angle that investors and readers should consider is the effect of these troubled countries on the solar photovoltaic market. Spain, Italy, and Greece have represented a significant amount of demand in the solar industry during recent times. Most of this demand was encouraged by significant government subsidies and incentives. Due to the current economic situation of these countries and the potential future fiscal spending cuts, investors interested in the solar industry or that currently have exposure may want to further consider the economic situation of these countries and the subsequent impact on solar and other alternative energy forms. Below is a chart detailing the sources of solar photovoltaic (“PV”) demand for 2008, be sure to click on it for its full size:

For additional reading on the debt situation in Europe one should refer to the following Daily DLs: Daily DL 12-9-09: Greece, Daily DL 12-10-09: Spain, Daily DL 12-14-09: Bond Traders Put Pressure on Debt-Laden Nations

Related Reading: Worries Over Greece Add to Investors’ Caution – Financial Times, Greek Banks Fall on Budget Deficit Plans – Financial Times,

Wholesale Prices, Production Rise – The Wall Street Journal

Summary: According to the Labor Department, the producer price index for finished goods increased by a seasonally adjusted 1.8% in November, compared to a .3% increase in October. The increase for November was primarily fueled by a 6.9% increase in energy prices; however, with the food and energy components excluded the index posted a .5% increase in October, the largest monthly gain in over 12 months. These increases in core prices indicate a potential rising of inflation pressures, but do not imply that the U.S. will experience runaway inflation in the near term. One should note, that this index represents wholesale costs and not retail prices and there is not a direct relationship between the two. Separately, the Fed reported that industrial production increased .8% in November, while the overall utilization of capacity throughout the monitored industries rose to 71.3% in November from 70.6% in October. Furthermore, in November manufacturing production increased 1.1%, while mining output increased 2.1% in November and utility output decreased 1.8%. Some analysts believe that low inventories along with improving orders suggests that manufacturing output will find continued support in the near term.

CB: A more detailed look at the data seems to indicate that much of the current production increases are being driven by rising exports and not domestic consumer spending. If production increases are likely to continue into the future, then consumer spending in the U.S. will have to demonstate sustained increases. It is important to remember that these improving figures represent gains from already depressed levels, and the pre-recession production levels were supported by debt-driven consumer spending. Thus, the pre-recession production levels, given the current economic conditions, should not be expected for the next few years. As a result, no one should blindly take the recent data and extrapolate it. Consumer spending is likely to remain weak as it continues to face the unemployment headwind. Separately, the New York Times reports that the index of manufacturing in New York State dropped to its lowest level since July, after experiencing four consecutive months of increases.

Related Reading: Production Gains in U.S. Offer Hope for More Hiring – The New York Times

Moody’s Warns on Sovereign Debt – Financial Times

Summary: On Tuesday, Moody’s issued a warning that there were severe potential consequences if central banks did not perfectly implement exit strategies for their monetary support. Moody’s stated that if the exits occur too soon, then economic growth would be stalled and stocks will drop substantially. Meanwhile, if the exits occurr too late, then the financial markets could become unsettled and interest rates on bonds will rise due to the threat of inflation. Both these scenarios have the possibility of resulting in panic. The ratings agency believes that the crisis of public finances is the final stage of the global downturn and thus makes sovereign risk the main concern of 2010. Furthermore, countries, even triple A economies, will most likely experience troubles as they try to reduce their deficits in times of rising interest rates as well as lower growth. The majority of central bank exits are planned during 2010.

CB: CB’s relevant commentary on this item can be viewed in the Daily DL for 11-9-09.

Bernanke Tells Senate Panel Rising Inflation is Unlikely – The New York Times

Summary: Below is Bernanke’s direct response to a question Senator Jim Bunning asked regarding inflation and economic slack. The question the article discusses is the second question (you will need to visit the website to view this part of the Daily DL):

Bernanke Inflation and Economic Slack –

To read the entire filing please go to Senator Jim Bunning’s website.

Has Natural Gas’s Moment Arrived? – The Wall Street Journal

Summary: For years, both residential and industrial consumers have been wary of increasing their dependence on natural gas due to its price volatility. Yet, price volatility may be diminishing as a result of the following: (1) large discoveries in both the U.S. and Canada have increase gas supplies; (2) large infrastructure build-outs have made gas easier to transport across regions, thus reducing regional pricing premiums and discounts; and (3) ExxonMobil’s deal to purchase the largest domestic gas producer is a signal that even the major oil & gas companies see gas as a significant resource. The large oil & gas majors are better equipped than the smaller natural-gas companies to handle the price fluctuations of natural gas and thus are more likely to maintain more continual operations despite short-term price fluctuations, which would normally force smaller companies to start and stop their drilling operations. On Monday, the Energy Information Administration (“EIA”) estimated that projected natural gas prices would remain below $7 per million British thermal units through 2025. Furthermore, Exxon believes that once more strict carbon emissions regulation is implemented natural gas will be a cheaper alternative to coal for producing electricity. At present, the EIA estimates that natural gas will account for nearly 46% of all additional capacity from 2008 to 2035. However, the following concerns regarding the future stability of natural gas prices remain: (1) there is evidence that drilling has a negative impact on the environment, which may lead to regulation and increased drilling costs; and (2) a sudden surge of new demand due to wider adoption could send prices significantly higher.

More Links of Note

Why Nouriel Roubini’s Case Against Gold is Wrong on Every Count – The Business Insider

Fast vs. Slow Knowledge – Abnormal Returns

Why is There so Much Skepticism Regarding the Rally? – PragCap

U.S. Equity Market Sentiment Review – The Big Picture

Dumbest Moments in Business 2009 – Fortune

The Case for Optimism on the Economy – Alan Blinder

The Decade of Decadence – Todd Harrison

Gold: On the Flip Side – Financial Times

The Audacity of Debt – The Wall Street Journal