NBR Transcripts- January 1, 2008
Tuesday, January 01, 2008Investment Review & Preview 2007 -2008
SUSIE GHARIB: The financial markets celebrated the start of 2008 by taking the day off. So tonight, we'll take the opportunity to examine the markets from a longer-range perspective. And we'll begin by taking a look back to where they went in the past year.
JEFF YASTINE: Susie, 2007 will certainly be remembered as the year when volatility returned to Wall Street. But here's something you may have forgotten. When stocks opened for trading last January, the big story was falling oil prices. And as the price of oil fell below $52 a barrel, the Dow Jones Industrial Average went over 12,500 for the first time. Oil prices soon turned around, but strong economic numbers ent buyers back into the market... Taking the Dow to new highs.
Then on February 27th, Wall Street got an early morning wake up call from China. A big sell-off in Shanghai shook up investors worldwide, leading to the worst day of trading in four years. The Dow stabilized just above 12,000. But stocks remained under pressure, as sub-prime lender New Century Financial neared bankruptcy.
In April, good news on housing starts, earnings and a wave of buyout deals restored investors' confidence that sent the Dow over 13,000 and made it the best month for stocks in more than three years.
In May, new highs continued to be set almost daily. And even as gasoline prices hit an all-time high, the Dow crossed 13,500. The party took a break in June, as inflation fears sent bond yields to the highest levels in five years. And later in the month, oil prices went above 70 dollars a barrel. But investors seemed unconcerned.
In July, the blue chips soared amid buyout deals involving Hilton and Alcan. And the Dow passed 14,000. But again, bad news from abroad proved the markets' undoing. A sell-off overseas on July 26th triggered the worst day for U.S. stocks since February. Then in August, news of a growing credit crunch and fears about the solvency of hedge funds added to investor fears the Federal Reserve responded by cutting the discount rate, setting off a new rally.
In early September, the market showed some weakness as oil prices surged above $80 and job creation slowed. But the Fed again came to the rescue, by cutting the Fed funds rate for the first time in four years.
By October, the Dow was again over 14,000 and the NASDAQ was well over 2700. However, prices started to teeter as oil went over $90 a barrel. While the dollar hit new lows. To counter a big drop in home sales, the Fed came through with another interest rate cut on Halloween but in November, recession fears continued to spook the market.
In December, the market first cheered the Bush Administration's mortgage-relief plan. But then sentiment went the other way. As the Fed's quarter-point rate cut was seen as too little too late. After a short Santa Claus rally trouble in Pakistan sent stock prices downward and the Dow ended the year back where it was in the spring.
Sam Stovall of Standard and Poor's Equity Research Analyzes 2007's Market Movements
JEFF YASTINE: And to fill us in on the details of the past year's market action joining us is Sam Stovall, Chief Investment Strategist for Standard & Poor's Equity Research. Sam, Happy New Year, welcome back to NBR.
SAM STOVALL, CHIEF INVESTMENT STRATEGIST FOR STANDARD & POOR'S EQUITY RESEARCH: Thanks Jeff, happy to be here.
YASTINE: Let's begin by taking a look at the relative performances of the major averages and we have the NASDAQ 100 which did so much better than the Dow and the S&P. What was behind that move?
STOVALL: Certainly I believe it was the increase in earnings optimism not only for 2007 but also going into 2008.
YASTINE: Let's take a look at some of the individual winners and losers last year. We'll start with some of the big gainers for the Dow. Topping that list we had Honeywell, which is one of the original computer and technology makers.
STOVALL: Well Honeywell benefitted from international demand in its automation and control systems as well as its aerospace segments.
YASTINE: And then we have Merck, drug maker.
STOVALL: Recently it reaffirmed its double digit earnings growth prospects through 2010 and outlined a 49 project pipeline.
YASTINE: And this next one, no surprise to most people. Citicorp leaning to the downside with the sub-prime lending, sub-prime housing mess.
STOVALL: Well on top of that, we now have speculation by firms that Citigroup could be cutting its dividend.
YASTINE: We also had another casualty of the weak housing market which was Home Depot shares again on this list for the second year in a row.
STOVALL: Down 36% over the last couple of years. It actually reached close to $40 per share back in late 2005.
YASTINE: Let's look at the S&P 500. We had National Varco or actually National Oilwell Varco, which led the gainers there.
STOVALL: The company had a positive article in Barron's which stated it has profited from a dominant position providing equipment to oil and gas drillers.
YASTINE: And then we see Jacobs International. What do they do?
STOVALL: Well they're an engineering firm, and they've benefitted from robust revenue growth and new bookings for energy and infrastructure projects. As well as being added to the S&P 500.
YASTINE: On the downside on the S&P 500, we had E*Trade Financial again another financial name here.
STOVALL: That's right. Right down to its $12M home equity portfolio as well as loss of customer assets have been a major drag on the shares.
YASTINE: Countrywide Financial again another financial, number two on that list.
STOVALL: That's right. If you can believe it, the shares traded close to $44 back on February 2.
YASTINE: All right, let's take a look at the NASDAQ 100. The top winner there, Baidu.com. Some people call it the Chinese Google.
STOVALL: Well it certainly benefitted from the two most exciting themes of 2007 that being internet search and China.
YASTINE: And Intuitive Surgical, another triple digit winner, selling up -- if I may -- another 2007 a good 2007.
STOVALL: The shares have risen on strong placements and higher selling prices for its DaVinci surgical systems.
YASTINE: And on the NASDAQ 100 on the downside we have Level 3 Communications.
STOVALL: Basically, it was a failure to integrate acquisitions that therefore led to slower revenue growth.
YASTINE: And the stock of the coffeehouse giant Starbucks again also on the downside.
STOVALL: Also on the downside mainly because of increased competition from the likes of McDonald's and Dunkin' Donuts.
YASTINE: All right Sam, thanks for coming on the show. Thanks for your analysis.
STOVALL: You're welcome.
YASTINE: Our guest, Sam Stovall, Chief Investment Strategist for Standard & Poor's.
Housing Crisis 2007
SUSIE GHARIB: 2007 will also be remembered as another bad year for the housing market as sales and construction slowed and home prices dropped. Making the situation even worse was a rising default rate on sub-prime loans, mortgages made to people with weak credit. As Stephanie Dhue reports, the resulting sub-prime mess spread far and wide, even hurting the bottom lines of some of the largest financial institutions.
STEPHANIE DHUE, NIGHTLY BUSINESS REPORT CORRESPONDENT: The housing boom peaked two years ago, making 2007 the year when many of the loans taken out at its height went sour.
ANDY LAPERRIERE, ANALYST, ISI: 2007 was the implosion of mortgage lending.
DHUE: When home prices stopped appreciating, the default on sub-prime loans started to go up dramatically. ISI analyst, Andy Laperriere says that was especially the case with loans that required no downpayment or income verification.
LAPERRIERE: It wasn't until home prices stalled and people all of a sudden couldn't do a cash out refinance to just sort of keep the ponzi scheme going, and for a lot of people their mortgage was a ponzi scheme. That's when the music stopped and all of a sudden delinquencies spiked.
DHUE: Sub-prime lenders began to fail. New Century, the second largest sub-prime lender disclosed problems with rising defaults in February. Less than two months later, it filed for bankruptcy. Lenders and mortgage buyers responded by tightening credit standards. Also in February, Freddie Mac put out the word it would no longer buy sub-prime loans that did not verify borrowers' incomes. Freddie Mac CEO Richard Syron said the goal was to reduce home loan defaults.
RICHARD SYRON, CHAIRMAN & CEO, FREDDIE MAC: No one does anyone a favor by making them a loan they can't pay back.
DHUE: The Federal Reserve issued guidelines for stricter underwriting standards for sub-prime loans. At the same time it took a cautious approach to tighter regulations.
RANDALL KROSZNER, GOVERNOR, FEDERAL RESERVE BOARD: We want to make sure responsible lending can get to people who can use it responsibly. Trying to get that balance right is not an easy task.
DHUE: Democratic lawmakers, including New Jersey's Robert Menendez, quickly blasted the Bush Administration and the Federal Reserve for doing too little too late.
SEN. ROBERT MENENDEZ, D-NEW JERSEY: It seems to me we are coming to the table with a plan after a tornado has already ripped through a community.
DHUE: The full blast of the housing storm hit the financial markets in August. That's when it became apparent that many failing loans had been securitized and were sitting in the portfolios of financial institutions worldwide.
LAPERRIERE: All of a sudden nobody wanted those mortgages, and so there was a lot of sellers and not very many buyers.
DHUE: Soon many mortgage backed securities once rated triple-A were downgraded to junk. And major banks and investment houses began writing off billions of dollars in losses. And there was increasing concern the problems would spread to the broader economy. Senate Banking Committee Chairman Chris Dodd called in Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben Bernanke for an unusually high-profile meeting on the issue.
SEN. CHRIS DODD, BANKING COMMITTEE CHAIRMAN: There are some steps that can be taken right away to minimize this problem from spilling over into other sectors of the economy here.
DHUE: Fears rose that the situation could get even worse with rising foreclosures expected over the next two years as interest rates on adjustable loans reset. To head that off last month, the President announced a plan to freeze sub-prime interest rates at the initial rate for up to 5 years.
GEORGE W. BUSH, PRESIDENT OF THE UNITED STATE: We should not bail out lenders, real estate speculators, or those who make the reckless decision to buy a home they knew they could never afford. Yet there are some responsible homeowners who could avoid foreclosure with some assistance.
DHUE: The plan was criticized from both ends of the political spectrum. On one hand, dismissed as setting a bad precedent for government intervention in the free market. And on the other, faulted for not going far enough.
JOHN TAYLOR, NATIONAL COMMUNITY REINVESTMENT COALTION: We need a government finance program that's going to allow these mortgages to get re-written in a way they match the borrowers ability to pay.
DHUE: 2008 is expected to bring increased foreclosures and further drops in home prices. Analysts say that will put pressure on policy makers to do more to help. Stephanie Dhue, NIGHTLY BUSINESS REPORT, Washington.
Christine Benz of Morningstar Reviews Mutual Funds in the 4th Quarter
JEFF YASTINE: As we noted, stocks went on a roller coaster ride during the final 3 months of 2007. So how did the 4th quarter turn out for mutual funds? To help us find out, joining us from Chicago is Christine Benz, Director of Mutual Fund Analysis for Morningstar. Christine, Happy New Year and welcome to Nightly Business Report.
CHRISINE BENZ, DIRECTOR OF MUTUAL FUND ANALYSIS, MORNINGSTAR: Jeff, Happy New Year to you too.
YASTINE: Thanks, let's begin by taking a look at which mutual fund categories did best between October and December, and as we see Natural Resource funds were back on top. Wondering if that reflects the surge in gold and oil prices.
BENZ: Very much so, primarily the strength in energy prices because these funds invest heavily there. Interestingly though, Jeff, one thing I noted was that one of the best performers was actually a fund that invests in alternative energy sources such as wind and solar power producers.
YASTINE: Let's turn to top individual funds of the quarter and assets of more than $50 million and we see the winners are mostly emerging market funds specializing in Asian stocks. Did those funds also do well for the full year?
BENZ: They did. A lot of money has been sloshing in to emerging markets. It has been a very broadbased rally. I think investors are betting if growth is slowing down in the U.S., perhaps due to the housing related crisis, that perhaps emerging markets could continue to go full steam ahead and continue to grow very rapidly.
YASTINE: It's interesting to note, while the best performing fund of 2007 was also an emerging market fund, it specialized in a different region -- Latin America.
BENZ: That's right, Latin America has been very hot for a while now. This particular fund is a fund that actually uses financial derivatives to deliver twice the returns of a Latin America index. So if Latin America is up two percent on a given day, this fund will be up four percent. That leverage has been a very powerful factor behind this fund's returns.
YASTINE: Looking at the longer term. The top fund for the past three years involved another emerging market, Russia.
BENZ: If you bought this fund three years ago, enjoy your retirement because it's been a terrific performer. Russia is actually very dependent on the energy market. So when oil prices are strong as they have been for the past several years, Russia will do very well. That explains this fund's great returns.
YASTINE: Now, if we turn to the largest funds in terms of assets, it's a very mixed picture in terms of the fourth quarter. But the clear winner was the lone bond fund, Pimco Total Return.
BENZ: That's right. With the Fed lowering interest rates, a bond fund like this one will do very well. As it happens, Bill Gross and the team at Pimco had been positioning this fund to benefit from lower rates. So it was really in a sweet spot of the market.
YASTINE: Yes, Christine, 2007 clearly, as these results show, was the year to be in international funds, to be overseas. And a lot of that had to do with the dollar taking that sharp decline that it did. Do you think that 2008 can yeild similar returns for investors in overseas international funds?
BENZ: It is an open question, Jeff. I think with the Federal Reserve potentially lowering rates ahead, that could be a continued catalyst for foreign currencies versus the U.S. dollar. So, I'm happy to see investors embracing foreign funds. I'm a little concerned that they are performance chasing, so they are expecting some sort of overnight payoff. That may not come.
YASTINE: All right, Christine, again appreciate your being on the program.
Roundtable Review of the Economy & Stock Market
BENZ: Thank you. Jeff. Happy New Year.
YASTINE: And Happy New Year to you as well. Our guest Christine Benz of Morningstar.
SUSIE GHARIB: So what's ahead for the stock market and the economy in 2008? I got some answers from Joe Battipaglia, Market Strategist for the private client group at Stiffel Nicolaus; Jim Awad, Chairman of WP Stewart Asset Management, and Josh Feinman Chief Economist at Deutche Asset Management. I began the discussion by asking Josh to describe the U.S. economy in 2008, growth or recession?
JOSH FEINMAN, CHIEF ECONOMIST, DEUTSCHE ASSET MANAGEMENT: It's a very challenging year for the economy. It faces two major shocks. The housing slump and the tightening of credit conditions. Neither of which is going to go away quickly. It is going to take time to work through these things. In the interim, I think growth is going to be pretty sluggish at least through the first half of 2008. And then take time gradually to get better aided by easier monetary policy from the Fed and then a slow workout of some of these credit problems.
GHARIB: So Jim, does this make you a bull or a bear for 2008?
JIM AWAD, CHAIRMAN, W.P. STEWART ASSET MANAGEMENT: Well, a very moderate bull. Really you're going to have two different economies and two different stock markets. The overseas markets are in a secular group. Trying companies that service that market will do well. Export-oriented companies that will create jobs. On the other hand, you are in the middle of a deep recession in U.S. financial and housing. It's going to take time to work that out. I think they will net each other out, have a year of very modest growth in the economy, stock prices, and profits. But its going to be some prosper and some do badly.
GHARIB: Joe, are you cautious?
JOE BATTIPAGLIA, MARKET STRATEGIST, STIFEL NICOLAUS: It might be a cliche, but we are at a tipping point as far as the U.S. economy is concerned. But I really think we are. We have very little room now given that we have a major housing recession and a credit crunch. We are not growing the job market. So to say we're going to get a rebound this year is a question mark. And the vulnerability for the stock market is the fact that maybe it doesn't happen. And we remain sluggish for a longer period of time with more inflation than we thought was going to be there. The Fed has identified as not having closed the situation as in they keep cutting rates and nothing happens. And we could have a real crisis. Remember the United States is 25% of global consumption. If it goes cold, it will affect other economies.
GHARIB: So that is the big question. Can the Fed engineer this happy ending to the credit crisis?
FEINMAN: I think they can help with the margin. And I think we're going to see more easing from the Fed in 2008. Maybe another 50 basis points this spring. But what the Fed can't do directly is get people to take risks again. And that's really at the center of this credit crunch. And I think that's simply going to take time for people to become comfortable again, understanding what these securities are really worth. Understanding their losses potential losses on their balance sheets. It's not going to be like flipping a light switch and turning it on.
GHARIB: So Jim. What is it going to take to make investors confident again? Is it going to be a turnaround in the housing market? The job market? The oil market?
AWAD: Time is the most important thing. We have to get to spring. If we haven't had disasterous write downs and the consumer hasn't collapsed. If the credit markets haven't seized up as we roll into spring, then we will have passed the point of maximum vulnerability. It's unlikely we're going to stay good and then drop off in the spring. If we are going to drop off, we are going to drop off early in the year. I think investors will get more optimistic as we work our way through the year.
BATTIPAGLIA: Unfortunately Jim, that reminds me of the housing industry's remarks last winter. As soon as we get to the spring and the selling season, we're going to come out of this this rip roaring and of course it never did happen.
AWAD: Well it might not happen. But I was addressing the point of where the maximum risk is. If the rollover is going to happen, it should happen now.
BATTIPAGLIA: But there's going to be, month after month, foreclosure upon foreclosure, and falling prices on housing which affects the consumer which keeps the consumer out of the market. Companies will react because their profits aren't there by cutting their capital spending and the whole thing unwinds. And that's why your point is right about time. I just don't think the framework is that short.
AWAD: Unless overseas growth can compensate for it.
BATTIPAGLIA: It's gotta be a lot of that.
AWAD: We'll find out.
GHARIB: Does that mean that investors should put more of their money in international stocks vs. U.S. stocks.
AWAD: The U.S. market is cheaper than most other markets and what you want to own are companies in the U.S. market that are leveraged to international growth, which would be your large cap multi-national companies that are somewhat insulated from the from the problems in the United States. So that to me is the cheapest and the best risk reward in the markets.
BATTIPAGLIA: Be prepared for a couple of points of multiple contraction. Even with the best of companies should these economies have hiccups related to the slowdown in the United States. But if your best agreed companies are outside the U.S. you need to put those in the portfolio too.
GHARIB: Is severe dollar weakness over?
BATTIPAGLIA: I think so. I think the dollar's going to benefit from a couple of things. One, globally interest rates are going to move down not up with the exception of China, which has its own set of problems. Number two, I expect the price of oil to come down, which means less dollars going out of the country in a circulation issue. And as Jim pointed out, trade is improving for the U.S. so the current account deficit is rolling down. So I think the worst of dollar problems are over.
GHARIB: Josh, do you agree with this forecast? Do prices go down or do they cross $100?
FEINMAN: I think we are more likely to see prices come down a little bit. I think a little softer global growth will help. Of course geo-political risks are still out there. I also agree the dollar might improve a little bit against some of the currencies against whom its fallen dramatically. But on a medium term basis, I still would look for the dollar to weaken a bit against some of the Asian currencies against whom it has yet to fall that much.
GHARIB: Jim, what is the absolute best sector to invest in in 2008 and what's the worst? What to avoid?
AWAD: The U.S. market is cheaper than most other markets. So I would buy, as Joe was saying, best of breed world class large cap growth companies that are levered to international growth in the United States. So companies with maximum overseas exposure. I think the worst area to be is going to be U.S. financial institutions that have not yet recognized how bad their problems are. And they are going to struggle during much of 2008.
GHARIB: I want to get your view, all of you on presidential politics and what does Wall Street want: a Democrat or Republican in the White House? Joe.
BATTIPAGLIA: I think what they want is stability on the spending front so it doesn't grow faster than the economy. They'd like to see tax policy that's rational and simplified. Since we're not getting either one of those from either party, it's going to be a free for all and I'm affraid it's going to be an ill tasting election this year because the promises are going to be wild and the deliverables are very few.
GHARIB: Josh what is your prediction?
FEINMAN: I think the market probably prefers some sort of divided government where one party controls the White House and the other party controls the legislative branch. I think that maximizes the chances of restraint and nothing radical being done. And also might set the stage for some entitlement reform.
GHARIB: And Jim, last word.
Market Monitors Predict Stock Activity For 2008
AWAD: I think the markets, the capital markets are more comfortable with the Republican platform. Putting aside social issues and foreign policy issues. In terms of tax spending and regulation and I think the markets will likely be disappointed.
GHARIB: All right gentlemen. Thank you very much and Happy New Year. Josh Feinman, Jim Awad, and Joe Battipaglia.
JEFF YASTINE: When it comes to forecasting the course of stock prices, one popular bellwether is our all-star team of Market Monitors. And that team sees a good year ahead for stocks. In fact the bulls clearly dominate the panel, outnumbering the lone bear -- Jim Stack -- 4 to 1.
This time around Eugene Peroni, Jr. of Advisors Asset Management tops the bulls. He sees the Dow climging all the way to 15,200 and then closing the year just below the 15,000 mark. Gene regards healthcare, infrastructure, and energy as this year's best sectors. And among mutual funds, he likes large cap growth funds. Gene isn't phased by current bearish sentiment, in fact he sees that as part of the recipe for upward surprises in the stock market.
Nearly as bullish is Mark Leibovit of VRTrader.com. He sees the Dow ending the year only 100 points lower than Peroni. Topping Mark's list of favorite sectors is a contrarian play -- housing -- followed by gold and uranium miners. In line with that, he recommends the Gabelli Gold Fund. And Mark is confident no stock market crash is in the offing. He expects Saudi Arabia to cooperate in oil production and actions by the treasury and the Federal Reserve to shore up stock prices.
Abby Joseph Cohen of Goldman Sachs tied for the honors as last year's "top bull." While she's in the middle of the pack now, she's still bullish calling for a Dow close of 14,750. Cohen sees a new economic equilibrium emerging, leading to higher stock prices. But she also hints it could be a rough year for bonds.
Last year's other top bull, Alfred Goldman, is still optimistic. However, he's a bit more cautious and expects the Dow to end the year at 14,200. Al likes technology and consumer staples and favors financials as a turn around play. He's also a fan of large cap growth funds. While Goldman sees the risk of recession as possible not probable, he believes the economy will pick up moderately mid-year, as will stock prices.
James Stack of InvesTech Research is the only one who sees the Dow ending 2008 lower than its current level, which he admits would be unusual for a presidential election year. Accordingly, Jim is conservative in his sector choices, favoring beverage makers, healthcare products, and utilities. And he expects value funds to make a comeback. Stack sees a deepening housing bust and inflation pressures ahead, forcing the Fed to walk a tightrope. And he says that could lead to another volatile year for stocks.
