From Briefing.com: Weekly Recap - Week ending 31-Dec-10
Year In Perspective 2010--Strong Finish to a Bumpy Ride:
2010 turned out to be a good year for the major averages, with the S&P finishing up 13% YTD. This is a smaller increase than the +25% gain in 2009, which represented an impressive rebound off the post-crisis lows, but 2010 was still another year of improvement after the 39% plunge in 2008. Additionally, this year's return is more than three times the average return of +4% over the past 7 years, although we'll be the first to admit that the average annual return can't come close to describing the action of the past seven years. As we exit 2010, the S&P is now +87% from the March 2009 lows, but still 20% below the 2007 peak of 1576. Below we'll recap the events that shaped the year, take a look ahead at the most important themes for 2011, and give a summary of the performance of various aspects of the world markets.
2010 represented the second year of the financial markets' rebound, which took place amid continued economic recovery for the world. There weren't nearly as many critical events in 2010 as there were in 2009 or 2008, but there were still several noteworthy items/themes that shaped the year. This played out through an early-spring rally, a pre-summer selloff and then a fall rally to finish the year at two-year highs. Notably, December was especially strong, with a monthly gain of +6.5% and only four down days during the month.
Looking back at the year, among the many noteworthy factors shaping 2010, the key events included the following:
* The European Debt Crisis -- We discussed this at the end of 2009 as one of the "Key Themes" for 2010, and it will again be a major item of interest in 2011. Intensifying concerns about Greece and contagion effects weighed on global markets during the first few months of 2010. Although the eventual Greece bailout was announced in February, concern quickly shifted to other weak areas, such as the peripheral EU nations of Ireland, Portugal, Spain and Italy. Although Ireland just recently caved and accepted a bailout this fall, contagion concerns remain evident around Europe, and these continue to impact the euro on a daily basis. As mentioned above, this remains an area of great focus in 2011.
* Continued monetary stimulus from major central banks around the world, as other emerging countries tighten -- The continued monetary stimulus has been most evident in Europe, Japan and the U.S., while other (primarily Asia and some Latin American regions) governments are tightening to slow down growth/inflation. The U.S.'s recent Quantitative Easing Part II (aka QE2) initiative in November demonstrated the need for continued support domestically. The latest U.S. measures follow the EU's sweeping bailout package in the spring, and Japan's "Comprehensive Monetary Easing" plan announced in early October. Shortly after the U.S.'s QE2 plan came to fruition, the EU bailed out Ireland. It is still not clear if the U.S. and Europe will need further monetary stimulus in 2011 as the current programs run out. At the same time, the emerging growth regions of China, India, Thailand, Chile and Brazil are tightening rates in order to slow down growth and rising prices.
* The 2010 "Flash Crash" -- On May 6 intensifying European jitters and the persistent risk-on/risk-off trade culminated in the sharpest intraday market plunge since 1987, which was instantly coined "The Flash Crash." The Dow lost as much as 1000 points intraday, before rebounding sharply to close down ~350 pts. The exact cause of the flash crash is still unknown, but an influx of computerized sell orders amid a lack of bids in a very nervous market seems to be the biggest contributing factor. This sparked a broad regulatory review of the allowance of high-frequency trading programs and their influence on the broader market.
* BP's oil spill -- After this summer, video images of oil spewing from the ruptured BP Macondo oil well in the Gulf of Mexico are burned into the brains of any market/news watcher. Late on April 20, the Macondo Well exploded, causing catastrophic damage to the well and catching fire to the Deepwater Horizon rig. The well itself is 65% owned by BP, 25% by Anadarko (APC) and 10% by Mitsui, while the Deepwater Horizon is owned by Transocean (RIG). The explosion took 11 lives and sent an untold amount of crude oil in the Gulf of Mexico over the following 4 months. As a result BP announced plans to divest up to $30 billion in assets to help pay for the disaster (to date the co has sold close to $22 billion in assets). The static kill on the well was completed on Aug. 4 and the well was declared dead on Sept. 19.
* Foreclosure issues surface -- In October, bank stocks experienced heightened volatility on growing concerns about their foreclosure processes, as several companies had halted related activities after the government began investigating documentation and processes around certain foreclosures. Some of the related issues (such as the extent of mortgage putbacks, mortgage holder recourse) remain, although for now the market has focused on other more positive factors for the financial sector.
* Tighter regulation of many areas of the financial markets -- Broad financial regulatory measures were outlined in the Dodd & Frank Bill, which includes the Volcker rule, limitations on size/scope of banks, etc. The Durbin bill proposed caps on debit interchange fees. The CFTC has stepped up regulation of commodities trading, and the SEC has cracked down on various aspects of the markets, including the April case against Goldman (GS) and their current insider trading probe concerning expert networks. Most recently, the FCC's Net Neutrality vote is the first attempt at regulating the broadband market.
* Political shift in the U.S. Congress -- The November elections resulted in a major shift in power in Congress, with Republicans gaining a net of 6 Senate seats and 63 House seats, winning control of the House back. This shift in power could change the implementation health care and financial regulatory changes in place.
* Korean tensions remain elevated this year -- While Korean tensions remain a constant, there were two major spats that surprised the markets this year. In March, North Korea sunk a South Korean naval ship with a torpedo, and more recently in November, North Korea fired artillery shells into Yeonpyeong Island off the west coast of South Korea, killing two South Korean marines and wounding several others. Although Korean tensions are nothing new, the more aggressive nature of the latest move by North Korea adds ongoing uncertainty to the geopolitical picture.
While these were the major events of the year, there are several broader areas of interest as well.
M&A Recovers: First increase in M&A volume since 2007; High cash balances and low rates to fuel M&A in coming years
2010 represented the first increase in global M&A since 2007, with a 19% year-over-year increase in dollar volume to $2.08 trillion worth of deals during the year. The United States made up 35% of the volume, or $728 billion of global M&A activity, representing an increase of ~13% YoY. While it is a healthy improvement, the 2010 global figure is well below the $4 trillion in deals that took place in 2007, with analysts seeing the next few years as a hot period for M&A activity, fueled by low interest rates and extremely high cash levels on corporate balance sheets.
Some of the bigger U.S. deals announced this year include Quest's (Q) proposed acquisition of Century Link (CTL) for $22.2 billion, and Sanofi's (SNY) hostile $18.2 billion bid for Genzyme (GENZ). The largest deal to close in 2010 globally was MetLife's (MET) acquisition of Alico from American Intl Group (AIG) for $12.6 billion. Another notable deal involving AIG was the failed Prudential bid for AIG's Asian multi-line insurance arm AIA Group for $35.5 billion in cash. Resource grabs were also a theme of 2010, with 3 out of the top 4 proposed deals in 2010 involving scarce materials. The top proposed deal of 2010 was the failed $42.9 billion bid for Potash by BHP Billiton. The second largest global deal still pending is Petrobras's proposed $42.5 billion acquisition of Offshore Brazil Oil Properties from Federative Republic of Brazil. The fourth largest global deal of 2010, which is still pending, was the U.K's International Power GBP 16.3 billion bid for Belgium's GDF Suez Energy. Hewlett Packard (HPQ) and Dell (DELL) provided some excitement this fall, with their bidding war for 3par (PAR). HPQ finally won with its offer of $2.1 billion or $33/share for PAR stock representing a 242% premium from the initial $18 bid from DELL on 8/16. Caterpillar's (CAT) pending acquisition of Bucyrus (BUCY) was also notable at $8.6 billion, or $92/share in cash, which came in at the 10th largest US deal, and 22nd largest global deal. The most active M&A participant in 2010 was The Carlyle Group, with 37 deals and $16.1 billion in total volume.
Looking ahead, it is expected that 2011 will be another big year for M&A, fueled by record cash balances and low interest rates.
IPO Market Bounces Back: Busiest year for new issues since 2007; Chinese IPO volume spikes
After a couple of years in the doldrums, the IPO market had a strong, bounce-back year in 2010. Not only was there a sharp increase in the sheer quantity of new deals hitting the market, but the number of prominent, large IPOs also picked up -- most notably, General Motors' (GM) record setting $23.1 billion deal. To put this resurgence into better context, with 154 new deals, 2010 shapes up to be the busiest year for public stock offerings since 2007 when there were 214 new issues. Of course, driving this sharp turnaround was a surge of IPOs flowing out of China. In 2010, there were 40 Chinese IPOs to list on the U.S. market, accounting for more than a quarter of the total number of IPOs. Furthermore, China-based IPOs trading here in the U.S. raised a total of $3.5 billion in financing, which is three times more than last year. Reminiscent of the dot.com era, several of these IPOs skyrocketed higher immediately upon hitting the open market, including recent names like Youku.com (YOKU), China DangDang (DANG), and Noah Holdings (NOAH). Fueling the strong demand for these new deals was the strong economic growth outlook for China which has bolstered corporate profits and growth rates in that country.
Looking ahead to 2011, many analysts are expecting the IPO market to be strong once again with more deals expected than in 2010. Once again, activity is expected to remain at a fevered pick in the Asia-Pacific region with an estimated 60% of new IPOs originating there. In the U.S., an economy showing increasing signs of life, clarity on the business tax rates, and the Fed's QE2 policies are a few elements that are anticipated to drive solid IPO volumes. A few well-known, highly-regarded companies that may test the IPO market next year include Facebook, Groupon, Toys 'R Us, HCA, and Skype.
Valuation/Earnings Growth: Slower earnings growth ahead off a higher base; Valuation is reasonable for stocks
Looking at the broad market performance, like 2009, the second half of 2010 was much better than the first half. The 2010 low in the S&P occurred exactly in the middle of the year, at 1010 on July 1. That represented a 9% decline from the start of the year. The S&P has since gained 23% from the July 1 low, fueled by attractive valuations and easy monetary policy.
We closed out 2009 with the S&P 500 trading at 15x forward four quarters' earnings. At its current level, the S&P 500 is trading at ~13.5x forward four quarters' earnings. Following the very strong earnings growth of ~40% in 2010 (helped by easy comparisons vs. 2009 in first three quarters of the year), earnings growth is expected to slow to 13% in 2011. Although this is still strong earnings growth, it represents a notable slowdown from this year, which in combination with continued recovery uncertainty, may justify the lower market multiple.
Looking at the earnings yield (the inverse of the P/E ratio), it currently stands at ~7.4%. This compares quite favorably to the 3.3% yield in the 10-year treasury.
Please See Briefing.com's 2011 Market Outlook report for detailed analysis of current market valuation.
Conclusion: Outlook is relatively bullish, but 2011 could be another bumpy year
With low interest rates, improving economic data and healthy projected earnings growth, the outlook for 2011 is relatively bullish. Although broad market valuation remains reasonable, with stocks at 2-year highs, sentiment near a bullish extreme and several macro risks still in the picture, it may be a bumpy ride again in 2011. We'd also note that correlations are very low, meaning picking the right stock will be important. Also, with volatility at the low end of the three-year range, insurance in the form of puts is relatively cheap given the extremely bullish sentiment. This may be a good hedge against some of the headline risk that remains, as there continue to be real problems the market needs to deal with.
As we enter the New Year, the key factors we'll be watching most closely in 2011 include the following:
* Geopolitical tensions -- North Korea, Iran and the possibility for flare ups in internal political tensions around some of the emerging markets regions that have been in front of the global recovery.
* Pace of economic recovery -- Although a double-dip is out of the majority of economist's forecasts, the sustainability of improving economic conditions is a key area of interest -- critical areas include unemployment (currently at 9.8% vs. 10% when we exited 2009), housing market data.
* Pace and direction of monetary policy -- Along the same lines, the level and direction of monetary policy, and the economy's ability to grow on its own, is a major question. Once this is confirmed, the exit strategy will be in focus.
* Slower earnings growth -- More difficult earnings comparisons, diminished impact of cost-cutting initiatives enacted amid the recession, lack of top-line growth.
* State fiscal problems -- Fiscal problems at the state level are expected to intensify during 2011, and there is much debate about the extent of these issues and how the Federal government will handle them as they spread to the municipal level.
* Changing environment for financial sector -- The financial sector will be working through looming mortgage foreclosure and potential putback issues, increased regulation, persistent unemployment, European problems and upcoming enactment of Basel III. On the other hand, the ability for banks to reinstate dividends would be a positive for those individual names, and may be seen as a signal of strength from the higher quality institutions.
* Political gridlock -- The recent shift in power could change the implementation health care and financial regulatory changes in place.
* Valuations of market leaders -- This year's leaders are trading at egregious valuations (read NFLX, APKT, FFIV, etc), so it will be interesting to see if these correct as people become more concerned with valuations of the cleaner growth stories.
* Record cash balances -- Corporate balance sheets are holding record amounts of cash, and it is likely that at least a portion of this cash will be deployed over the coming year with possible uses including M&A, dividends and buybacks.
For an in-depth review of the fundamental outlook for the market, please see Briefing.com's 2011 Market Outlook report.
As always, in 2011 the team of analysts at Briefing.com will continue to work tirelessly to bring you the most important market intelligence that influences the financial markets and your portfolio every day.
Wishing you the best in 2011,
finance.yahoo.com
3:28PM Events and conferences of interest for next week : Events and conferences of interest for next week, January 3 - 7, are listed below. For a complete list of next week's events, please see the events calendar.
Monday
* $29 bln 3-month and $28 bln 6-month Treasury Bills Auctions
Tuesday
* December FOMC Minutes
* S, VZ, LBTYA at Citi Entertainment, Media & Telecommunications Conference
Wednesday
* Fed's Hoenig
* AOL, EXPE, CMCSA at Citi Entertainment, Media & Telecommunications Conference
Thursday
* BMY, MRK, CELG at Goldman Sachs Healthcare CEO's Conference
* MSFT, XLNX at JPMorgan Tech Forum@CES
Friday
* Bernanke Testifies Before Senate Budget Panel
* Fed's Evans |
