Morning Note

June 15, 2011

Equity futures are trading below fair value as worries the Chinese economy may slow following the raising of bank reserve requirements and EuroZone's finance ministers failure to agree a bailout package for Greece weighing on equity markets

A focus today will be CPI at 08:30 ET and Industrial Production/Capacity Utilization at 09:15 ET

II Data: Bullish sentiment decreases to 37.0% from 40.9% in the latest US Investor's Intelligence poll. Bearish sentiment increases to 26.0% from 22.6%. Those expecting a market correction increases to 37.0% from 36.5%

Portugal T-Bill auction 

3M T-Bills €612M average yield 4.863% vs prior auction 4.967%, bid to cover 2.4 vs prior 2.7

6M T-Bill €388M average yield 4.954% vs prior 5.529%, bid to cover 3.8 vs prior 3.7

Libor fixings 

- Overnight Libor: Dollar: 0.129% vs prior 0.128% ; Sterling: 0.567% vs prior 0.567%; Euro: 1.211% vs prior 1.273%

- 1-month Libor: Dollar: 0.185% vs prior 0.189%; Sterling: 0.624% vs prior 0.624%; Euro: 1.245% vs prior 1.236%

- 3-month Libor: Dollar: 0.245% vs prior 0.245%; Sterling: 0.824% vs prior 0.824%; Euro: 1.429% vs. prior 1.422%

July WTI crude ($0.66) to $98.71

Natural gas ($0.026) to $4.587

Gold ($3.45) to $1519.80

10-year yield 3.097%

30-year yield 4.296%

Asian Markets

Asian markets were mixed today. South Korea rose on a lower jobless rate. Tourism issues rose on the approaching holiday season. Japan rose slightly on a weaker yen and US retail sales figures that beat expectations. Tepco (9501.JP) finished limit-up for the second day in a row on receiving government support, and other utilities gained in sympathy. China-linked shares rose on the belief that the country’s raising its reserve-requirement ratio removed the last overhanging bad news from the economy. Taiwan ended flat. Australia slipped. Thailand fell slightly. Hong Kong and China fell in the wake of China’s raising the reserve requirement ratio post-close yesterday. Australia June consumer confidence (2.6%) to 101.2. Q1 dwelling unit starts +3.1% seq. The yen is trading at 80.72 to the US dollar.

European Markets

European equity markets trade lower as worries surrounding Greece's debt situation remain following EuroZone finance ministers inability to agree on a solution for a bailout of Greece. Peripheral equity markets lead the falls, Athens trades around (3.4%) lower, and their debt markets remain under pressure. Some major European indices briefly flirted with positive territory after paring early modest falls before declining to currently trade around session lows. France May final CPI +2.2% y/y vs consensus +2.2%. UK May claimant count +19.6k vs +7.0k, prior revised +16.9k from +12.4k. Apr ILO unemployment rate +7.7% vs consensus +7.7%, prior +7.7%. EuroZone Apr Industrial production +5.2% vs consensus +4.9% and prior revised +5.8% from +5.3%. The pound and the euro are trading at $1.6303 and $1.4338 respectively pound traded lower post the release of the UK employment data and ahead of the Chancellor's speech tonight in London.

Today's Economic Releases (Eastern Time)

03:00 France CPI yy (May); consensus n/a

04:30 UK Jobless claims (Apr); consensus n/a

04:30 UK ILO unemployment rate (Apr); consensus n/a

05:00 Eurozone Industrial Production y/y (Apr); consensus +4.9%

07:00 US MBA Mortgage Purchase Applications (10-Jun); consensus n/a

08:30 US CPI (May); consensus +0.1%

08:30 US CPI ex Food & Energy (May); consensus +0.2%

08:30 US Empire Manufacturing (Jun); consensus 11.72

09:00 US TIC Flows (Apr); consensus n/a

09:15 US Industrial Production (May); consensus +0.2%

09:15 US Capacity Utilization (May); consensus 77.0%

10:00 US NAHB Housing Market Index (Jun); consensus 16

10:30 US DOE Crude Inventories (10-Jun); consensus n/a 

Today's Key Events (Eastern Time)

08:30 Insight Enterprises Analyst Day

09:00 Ciena Analyst Day

—:— AlwaysOn OnMobile Conference

—:— Bank of America Merrill Lynch Utilities and Renewables Conference

—:— CAPP Oil & Gas Investment Symposium

—:— Citi with Saks

—:— Credit Suisse HQ visit with Humana

—:— Deutsche Bank Global Consumer Conference

—:— Deutsche Bank Global Industrials and Basic Materials Conference

—:— FDA PDUFA: BMY's class 2 resubmission of BLA for NULOJIX (belatacept) for the prevention of solid organ transplant rejection

—:— FDA PDUFA: VRX/GSK's class 1 resubmission of NDA for Potiga (ezogabine,retigabine) for the adjunctive treatment of adults with partial-onset seizures

—:— IADC World Drilling 2011 Conference & Exhibition

—:— Internet Retailer Conference and Exhibition ~ IRCE

—:— Investment Trends Summit

—:— Nanotech 2011

—:— NuVasive (NUVA) will replace American Medical Systems (AMMD) in the S&P 600 - after the close

—:— OYO Geospace (OYOG) will replace LaBranche & Co (LAB) in the S&P 600 - after the close

—:— Plasma Protein Therapeutics Association ~ PPTA

—:— Wells Fargo Crude Oil Infrastructure Forum

—:— William Blair Growth Stock Conference 

Company Specific News

Positive News

AZO (AutoZone (AZO) authorizes additional $500M stock repurchase)

Negative News

SMG (Scotts Miracle-Gro lowers FY11 adjusted EPS to $3.10-3.20 from $3.60-3.70 vs Rtrs $3.65)

Offerings

ATPG (ATP announces public offering of $150M convertible perpetual preferred stock through Credit Suisse)

AVEO (Aveo Pharmaceuticals announces secondary offering of inderteminate amount through JPMorgan, Jefferies)

P (14.7M share IPO priced at $16, above the $10-12 range, which had been increased from $7-9, through Morgan Stanley, JPMorgan and Citi)

Newspaper Articles / Headlines

Bloomberg

- Federal Reserve deciding whether to set explicit inflation targets. People familiar with the discussions say discussions among officials are "active and serious." Ben Bernanke has long been in favor of the idea.

Business Day

- Burger King assessing opportunity to expand into South Africa. Business Day reports that the company made the announcement yesterday.

Commercial Times

- AU Optronics expects demand to rise in H2. An executive tells the Commercial Times that the China market will grow at 15% for the year.

Detroit News

- Delta Air Lines took in $1.7B in fees last year. Citing data from the Department of Transportation, the Detroit News reports that Delta got $952M in baggage fees, 64% more than second-place finisher American Airlines (AMR), and $699M in reservation cancelation and change fees, 48% more than American.

Digitimes

- Texas Instruments reducing Q3 orders with Taiwan Semiconductor (2330.TT), United Micro (2303.TT). Industry sources tell DigiTimes that the companies' combined wafer starts for TXN will probably come in more than 20% below previous plans. The sources say the order cuts will have more of an impact on United Micro than it will on TSMC. Combined with lower orders from MediaTek (2454.TT), the cuts could take United Micro's capacity utilization rate down to 80% for the quarter.

- DRAM prices headed down, says DRAMeXchange. DigiTimes reports that prices have fallen 2.7% since late May, and DRAMeXchange and sources think low spot prices will continue to put downward pressure on prices for the second half of the month.

Financial Times

- Germany's plan for private sector participation in Greek bailout could cost €20B. The FT cites a briefing paper circulated by the European Commission that estimates that private sector participation in the next Greek bailout plan, as envisaged by Germany (see below), could force Eurozone governments to provide up to an extra €20B to avoid a potential collapse of the financial sector. The paper points out that the extra money would be need to recapitalize Greek banks and provide them with liquidity if the ECB refuses to accept downgraded bonds has collateral. The article notes that ministers have been told that all the Greek collateral (~€70B) might have to be replaced.

- Connecticut AG asks Citi for data on its security after hacking attack.The FT, citing a letter from the AG, reports that he AG wants details of how much data was exposed and evidence supporting claims it will avoid this in the future.

- SEC investigates Merril Lynch sale of mortgage-related security. The FT, citing people familiar with the matter, reports that the investigation includes the collateral manager involved in the deal the collateral manager helped select assets to put in the security, called Norma, a $1.5B CDO

- PCCW Limited to build 4G mobile broadband network in the UK. The FT, citing the head of the UK operation, reports the company could launch services as soon as 2012. The company must finalise deals with equipment manufcturers to produce devices that work on its spectrum. The company is working on a wholseale model and so will sell capacity to customers with no networks of their own.

- FDA changes labelling for sunscreen products. The FT reports that new rules mean the sunscreens have to pass a test showing they protect against UV A and UV B radiation and have a sun protection factor greater than 15 to be able to claim they reduce skin cancer and early ageing risks. The regulations come after more than 30 years of debate.

- Best Buy (BBY) and Carphone Warehouse (CPW.LN) may shut 11 UK Stores. The FT, citing Carphone Warehouse CEO Roger Taylor, reports that the division's annual losses rose to £62M it would cost £40M to exit the leases that it was still not the "optimal scenario".

Globe and Mail

- Suncor Energy to keep operations in Libya suspended while Moammar Gadhafi stays in power. The Globe and Mail reports that Suncor pulled its expat employees out of Libya in February, but the company had not taken a side in the conflict until yesterday. CEO Rick George says the company has not decided about writing down its assets in Libya, which were worth C$900M on 31-Mar. In 2010, the country accounted for 6% of Suncor's production and 2% of corporate cash flow.

Guardian

- Nokia could get more than €800M from Apple (AAPL). The Guardian notes that terms of the companies' patent license agreement were not disclosed, but it says that previous phone-industry patent-licensing deals have been for up to 5% of the device, which suggests that royalties of €8/iPhone would be in the realm of possibilities.

Kommersant

- In interview, president Michael Shamolina says Sistema considers investing $2-5B in logistics, agribusiness

London Times

- Blackstone Group to buy Jack Wolfskin. The Times reports that the clothing brand had been looked at by both private equity and trade buyers, but the owners called off an auction when offers didn't meet their expectations. The brand, whose 2010 sales grew 20% y/y to €304M, was thought to be worth €750M in February.

Los Angeles Times

- Warner Bros Entertainment to offer movies on cable in China as soon as this summer. The LA Times reports that the movies will be available via pay-per-view or on-demand, though it is not clear if movies still in theaters will be in the offerings. The studio's JV in China reached a distribution deal with You On Demand Media (CBBD). The goal is to reach 200M households.

- Consumers ditching cable for satellite, phone companies. The LA Times reports that a Nielsen study reveals that 91% of US TV households subscribed to something in Q1, and cable's share fell almost 2% y/y, while satellite and telco services grew. The study says that younger people spend an increasing amount of time watching programs online.

Montreal Gazette

- Government to order striking Air Canada employees back to work, because strike is harming Canada's economy. The Montreal Gazette reports that Labour Minister Lisa Raitt announced the government's intention in the House of Commons, though the bill can't be introduced for 48 hours. An Air Canada spokesperson says no flights have been canceled and only a few have been delayed.

New York Post

- AboveNet gets binding offer from private equity. The NY Post reports that terms could not be learned. A partner at a buyout firm says ABVT had sought $80/share, but sources think that price is unlikely to have been met.

New York Times

- Consumers ditching cable for satellite, phone companies. The LA Times reports that a Nielsen study reveals that 91% of US TV households subscribed to something in Q1, and cable's share fell almost 2% y/y, while satellite and telco services grew. The study says that younger people spend an increasing amount of time watching programs online.

Nikkei

- Hitachi in talks to buy stake inIndia's Hi-Rel Electronics. The Nikkei reports that the alliance is an effort to ramp up its power systems business in India Hitachi has agreed to start negotiations to buy a stake in the company. They are talking about building a plant together to roll-out power-electonics equipment for industrial facilities.

Vedemosti

- Rosneft raises 2011 M&A budget by factor of 15 y/y. Vedomosti reports that executives told a shareholders meeting that the company will spend RUB92B on new assets, of which it has already used RUB67.1B for its half of Ruhr Oel

Wall Street Journal

- Fed expected to hold steady at next week's meeting. The Journal's high-profile Fed watcher, Jon Hilsenrath, reports that Fed officials are neither looking to tighten nor to ease monetary policy as they prepare for the June 21 and 22 FOMC meeting. The paper adds that while the recent slowdown had some investors thinking the Fed may opt for another round of balance sheet expansion, such a move appears unlikely for low, particularly when considering the dampened deflation threat. However, the article does point out that Fed officials disagree with the notion that they have run out of bullets to help counter a significant slowdown in inflation and the economy.

Policy tools still at the Fed's disposal include a stronger commitment to keep rates low and maintain a large balance sheet, lowering the interest rate on money that banks keep on reserve with the Fed and lengthening the maturities of some of its holdings. The article goes on to note that beneath the surface, Fed officials express more uncertainty about the medium-term growth prospects for the economy than they did just a few months ago.

- White House open to payroll tax breaks for employers and employees, Citing people familiar with the matter. The Journal reports that the White House told a group of bipartisan lawmakers on Tuesday that it would be open to extending a payroll tax break for workers and creating a new break for employers to help counter the recovery soft patch.  However, the article points out that the payroll tax idea received a lackluster response on Capitol Hill, noting that even Senator Orrin Hatch (R., Utah) a strong past supporter of payroll tax relief, said that he would like to see independent analysis of its effectiveness. The Journal, which adds that Republicans would not accept the payroll tax breaks in exchange for higher taxes on the wealthy, goes on to highlight some of the widely discussed differences between Republicans and Democrats when it comes to a long-term deficit reduction plan.

- WSJ looks at Apple Genius Bars. The article is a summary, breaking no news, but it notes Apple's success with its retail effort and strict rules for employees.

- WSJ is cautious on JC Penney. A "Heard on the Street" column says that the retailer faces so many basic problems that even the appointment of Ron Johnson as its next CEO doesn't justify yesterday's 17% share-price increase.

- WSJ likes Salvatore Ferragamo better than Prada (1913.HK). A "Haerd on the Street" column says that while Prada has reasons for listing in Hong Kong, where its sought-after earnings multiple of 28 is not out of line with peers', the fact that Ferragamo is looking for a multiple of only 21 makes it the better buy of the two.

- WSJ is cautious on Glencore International. A "Heard on the Street" column says that Q1 results were disappointing, and Glencore's unpredictable trading business makes it difficult to understand why the stock trades at a higher P-E ratio than pure miners Rio Tinto (RIO.AU) and Xstrata (XTA.LN) do.

- Lockheed Martin's space unit to let 1,500 workers go. The WSJ reports that the lay offs will happen by the end of the year and represent around 7.5% of the unit's staff and are due to the closure of some major projects at its California, Delaware and Denver plants.

- UK retail banks will need larger capital buffers. The WSJ, citing people familiar with the matter, reports that in addition to ringfencing retail deposits, the Chancellor George Osbourne will announce increased capital requirements for retail banks in his speech 15-Jun. The article notes the UK is going further in regulation than either Europe or the US.

- WSJ is negative on Pandora. A "Heard on the Street" column says that the company is growing fast, but so are the royalties it needs to pay and the competition it faces to win ad revenues.

- Bidders jockey to become TerreStar's stalking-horse bidder. People familiar with the matter tell the WSJ that Dish Network (DISH) has offered about $1.38B, and a consortium of 20 bondholders offered $1.35B and may go up to $1.4B.

- Swiss officials look into possible insider trading related to Johnson & Johnson's (JNJ) purchase of Synthes (SYST.VX). People familiar with the situation tell the WSJ that SIX officials are interested in a spike in Synthes shares 15-Apr before it announced 18-Apr that takeover talks were taking place. The sources say the investigation is in its early stages and may turn up nothing. The article notes that Danisco (DCO.DC) also rose before its purchase by DuPont (DD) was announced.

Research

AURIGA: downgraded MYGN

Bank if America Merrill Lynch: upgraded PTR
Credit Suisse: upgraded FIG, NTAP

FBR Capital: upgraded SLG

JP Morgan: upgraded SWFT, PETD

Roth Capital: upgraded GA

UBS: upgraded ARUN, TTMI

Wells Fargo: upgraded HPT

Options

Mean Re’Vixing

- The VIX is at 18.26 dropping 6.9% on the session back near its 10-day moving average. The VIX steepened, consistent with our call from yesterday, with the largest drop isolated to the June futures, with July and beyond declining fairly uniformly. Our call to buy VIX July 18 puts and sell Sep 18 puts came out flat for the day. We still like the trade. Now that the VIX appears to be in a state of suspended animation, it emboldens us to some degree to look at selling upside calls. We would look at selling the VIX July 20-24 call spread to collect $.75.

Cracking Up Near Cushing

- The Brent-WTI spread continues to widen and is now at $21.26- just under its all time high. Brent is in backwardation while WTI is in contango. This dysfunctional but advantageous situation for the mid-continent refiners who are benefitting from better quality, lower priced WTI as well as record profit margins expressed by so-called crack spreads. The bifurcation in refining dynamics is seen in the mid-continent refiners: HOC (+6.77%), FTO (+6.44%) and CVI (+5.96%) clearly outperforming the “other guys” who have to pay up for Brent including VLO (+3.82%) and SUN (+2.73%).

Ahead of the Energy Departments scheduled weekly report on gasoline stock piles, we like getting long short dated (June or July) volatility in the midcontinent refiners.

XLNX – XLNX skew is just off its 1yr low (bullish) and it appears the stock has found some support here at its 100-day moving average and $33.15 technical support level. Recall skew is a measure of implied downside risk relative to implied upside risk, and low skew usually presents an attractive opportunity to buy call spreads. For upside leverage in XLNX, clients can consider buying the XLNX September 35/38 Call Spread for $0.86 (2.5x1 max net payout).

No position at this time. Position declarations are believed to be accurate at time of writing but may change at any time and without notice.