lookout report 4-13.12

8/2/2019 Lookout Report 4-13.12

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The U.S. March Employment Report Was Not Weak, JustDisappointing

Financial media outlets have indentified the "weak" 120,000 increase in March U.S. nonfarm

payrolls and the uptick in European sovereign fiscal stress as the main reasons for the 4%

decline in the S&P 500 Index since the April 2 intraday high of 1,422.38. With both Italian andSpanish sovereign credit default swap (CDS) spreads again trading higher than 400 basis points

(bps), the Global Markets Intelligence (GMI) research team agrees that European sovereign

fiscal stress is once again tempering investor appetite for risk assets. However, we are skeptical

of the media's perception of the March employment report. Although the report was average

and disappointing, the increase in payrolls was not as weak or worrisome as the media suggests,

in our opinion. The 120,000 increase in March payrolls is nearly spot-on the long-term linear

regression for monthly changes in job creation, based on data since 1939 (see chart 1).

Chart 1

Lookout Reportfrom Global Markets Intelligence

April 13, 2012

Michael ThompsonManaging Director

lobal Markets Intelligence

) [email protected]

obert Keiserice Presidentlobal Markets Intelligence) 212-438-3540

[email protected]

he Lookout Report is a compendium

f current data and perspectives from

cross S&P Capital IQ and S&P

dices covering corporate earnings,

arket and credit risks, capital

arkets activity, index investing, and

roprietary data and analytics.

ublished bi-weekly by the Global

Markets Intelligence research group,

e Lookout Report offers a detailed

oss-market and cross-asset view of

vestment conditions, risks, and

pportunities.

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Investors' collective risk-off reaction to the disappointing jobs report (expectation of a 215,000 increase), combined with

rising European sovereign credit risk, is fully justified, in our opinion. While we were hopeful that March payrolls would

be closer to market expectations, the long-term regression result is hardly surprising within the context of the ongoing

historically subpar U.S. economic recovery. For the moment, the latest increase in payrolls is much healthier than the

below 100,000 rate that prevailed last year between May and August, when investors were seriously concerned that theU.S. economy was tipping toward recession.

We believe that the rate of U.S. job creation is the most important economic indicator for investors to consider this year

(see "Lookout Report: Three Key Economic Topics To Follow Closely In 2012: Jobs, Housing, And Sovereign Risk,"

published Jan. 20, 2012, on the Global Credit Portal). However, nonfarm payroll data, unfortunately by its nature,

contains a great deal of month-to-month statistical variance (essentially "noise") that presents challenges when

interpreting the significance of any single report. We are now very interested to see if subsequent payroll reports will be

higher or lower than the long-term central tendency of approximately 120,000.

As investors begin to digest the flood of first-quarter earnings reports, which will divert attention away from last Friday's

employment report, it is important to evaluate reported corporate earnings within the context of the existing modest--but

perhaps very sustainable--economic recovery. Balanced with other key economic indicators like the ISM PMI reports and

weekly initial jobless claims, GMI Research believes it is premature to conclude that the U.S. labor market is

fundamentally weak. We are now focused on gauging the extent that S&P 500 corporations will either meet or exceed

modest first-quarter earnings growth expectations of just 1% as a guide as to whether corporations will be able to achieve

the steadily improving earnings growth foreshadowed by the S&P Capital IQ consensus over the balance of 2012.

Inside This Issue:

Macroeconomic Overview

Balanced with other key economic indicators like the ISM PMI reports and weekly initial jobless claims, GMI Research

believes it is premature to conclude that the U.S. labor market is fundamentally weak. We are now focused on gauging the

extent that S&P 500 corporations will either meet or exceed modest first-quarter earnings growth expectations of just 1%

as a guide as to whether corporations will be able to achieve the steadily improving earnings growth foreshadowed by the

S&P Capital IQ consensus over the balance of 2012.

Economic And Market Outlook: Earnings In North America And Europe

Of the 34 S&P 500 companies that have reported this earnings season, 27 have exceeded expectations, while only three

have missed and four have met. This brings the total beat rate to 79%, and the miss rate is also particularly low, at 9%.

Meanwhile, analysts continued to lower estimates for anticipated 2012 S&P Europe 350 earnings but they increased

estimates for 2013 earnings per share.

S&P Index Commentary: "Fifth-Quarter" 2012 At 85%, Or First-Quarter 2013 At 56.6%?

There is real potential for a "fifth-quarter" dividend payment in late 2012 (first-quarter 2013 dividends paid in

fourth-quarter 2012). In January 2012, S&P 500 companies paid $13.8 billion in regular cash dividends, with

approximately $7.1 billion from non-S&P 500 domestic common issues. We estimate that the qualified dividend tax cut

savings from 2003 until year-end 2012 will save direct individual owners of S&P 500 issues $183.5 billion.

The U.S. March Employment Report Was Not Weak, Just Disappointi ng Lookout Report from Global Markets I ntell igence

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Leveraged Commentary And Data: Leveraged Loan Technical Conditions Improve In March As The Inflow Surplus Grows

Loan market technical conditions strengthened further in March as inflows again outran supply. Together, CLO issuance

and inflows to loan mutual funds totaled $2.6 billion, while the amount of S&P/LSTA Index loans outstanding contracted

by $6.2 billion.

R2P Corporate Bond Monitor

Risk-reward profiles in the fixed-income markets--as measured by average Risk-to-Price scores--deteriorated in most

sectors in North America and Europe, from March 30, 2012, to April 11, 2012.

Market Derived Signal Commentary: Spain's Rising Credit Risk Affects U.S. Financials Companies' CDS

The risk premium on Spain continued to rise over the past week after the sovereign's disappointing bond sale, and Italy

and U.S. financials companies also felt the heat on fears of credit contagion from the eurozone. On April 4, Spain sold

2.6 billion of bonds, less than the 3.5 billion the country planned, as investors demanded a significant premium to hold

the debt.

S&P Index Commodity Commentary: Commodities Continue To Exhibit Caution

Weakness in the S&P GSCI Index in March carried into the second quarter, led by declines in industrial metals. Energy

continues to support S&P GSCI year-to-date gains, but more recent index weakness and extremely low volatility may be

flashing cautionary signals as U.S. Federal Reserve Chairman Ben Bernanke warned about the risks of higher energy

prices.

Economic And Market Outlook: Earnings In North America And Europe

North America

With first-quarter earnings season having officially kicked off on Tuesday, we are already off to a much better start than

we were in fourth-quarter 2011. After Tuesday's closing bell, investors were surprised by Alcoa Inc.'s better-than-expected

earnings report of $0.10 per share, beating analysts' estimates by $0.15. The company also reported revenues of $6.01

billion, $240 million higher than expectations, which the company attributed to strong productivity and improved market

conditions. As a result, the stock traded higher, up 6.22% by Wednesday's close. In addition, revenue strength within the

commercial transportation (up 32% year over year), aerospace (up 15% year over year) and automotive (up 7% year over

year) markets spurred the company to raise its 2012 global growth forecast for those markets and reaffirm its forecast that

global aluminum demand will grow 7% in 2012. This is good news for the materials sector, which was expecting negative

growth of 14.1% on Tuesday (it's since improved to negative 11.9%). The metals and mining industry, which was

expecting growth of negative 29% just last week, has improved to negative 22%.

Of the 34 S&P 500 companies that have reported, 27 have exceeded expectations, while only three have missed and four

have met. This brings the total beat rate to 79%, and the miss rate is also particularly low, at 9%. Consumer sectors are

currently reporting the highest beat rates, with 85.7% of consumer staples companies and 100% of consumer

discretionary companies exceeding estimates (see chart 2). After analysts drastically lowered their estimates at the start of

the earnings season, the market expected companies to easily beat estimates as a result. And while several company reports

have surpassed those very pessimistic estimates, they are doing so by an average of 7.9%, much higher than the 10-year

historical surprise ratio of only 3%.


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Chart 2

The beat rate has also helped to prop up the still lackluster expectation for S&P 500 growth, now expected to come in at

1.59%, much higher than the lows of 0.5% in mid-March. While this is still very low compared with the 8.8% 10-year

average, it's important to consider the difficult year-over-year comparison. In the year-ago period, earnings for the S&P

500 Index grew by nearly 20%, on top of 56% growth in first-quarter 2010 (see chart 3). We believe there is additional

room for improvement in the first-quarter growth rate, presuming the early reported results are indicative of things to

come.


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Chart 3

The peak of earnings season begins next week, when 85 companies are scheduled to report. Peak earnings season will last

from April 16 to May 4, when approximately 80% of S&P 500 companies will report first-quarter earnings.

Europe

Analysts continued to lower estimates for anticipated 2012 S&P Europe 350 earnings but they also increased estimates for

2013 earnings per share, according to data aggregated by S&P Capital IQ. In the two weeks ended April 5, consensus

2012 expectations declined 0.1% to 98.92, while 2013 expectations rose by 0.03% to 110.65. Analysts remain

generally pessimistic about this year, but 2012 earnings forecasts have started to stabilize since the end of February (see

chart 4).


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Chart 4

Last Friday's disappointing U.S. labor report and rising European sovereign credit default swap spreads have led to a

decline in European investor confidence, which was already fragile due to declining 2012 earnings growth expectations.

Analysts likely remain concerned that simmering European fiscal stress will continue to hinder European consumer activity

and economic growth.

Although short-term economic and fiscal uncertainty continue to weigh on 2012 earnings growth forecasts, analysts

continue to indicate they expect improved corporate performance in 2013. Overall, analysts have tended to raise 2013

earnings estimates since the beginning of March (see chart 5). The International Monetary Fund (IMF) still expects

eurozone GDP to contract 0.5% in 2012 and return to growth of 0.8% in 2013. The IMF will publish its next update of

the World Economic Outlook on April 17, according to the group.


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Chart 5

Sector leaders for calendar-year 2012 earnings include the financials (20.46% expected growth) and industrials (9.59%

expected growth) sectors. Earnings laggards for calendar-year 2012 include the information technology (decline of

16.14% expected) and materials (decline of 1.63% expected) sectors. First-quarter U.S. earnings season is now underway,

but a few European companies will also be reporting their first-quarter results in the weeks to come.

Contact Information: Christine Short, Senior ManagerGlobal Markets Intelligence, [email protected]

Victoria Chernykh, DirectorGlobal Markets Intelligence, Victoria [email protected]

S&P Index Commentary: "Fifth-Quarter" 2012 At 85%, Or First-Quarter 2013 At 56.6%?

At the end of 2012, the qualified dividend tax rate of 15% assessed on 93% of all S&P 500 cash dividends will no longer

be in effect, unless the U.S. Congress and President Obama agree to change the current legislation. For 2013, the rate

returns to 39.6%, with a new 3.8% tax added to cover health care reform. This brings the rate to 43.4%, almost triple its

current level. However, the capital gains tax, which rises from 15% in 2012 to 23.8% in 2013, will only increase 59%, a

comparative bargain.

It is possible that Congress and the President will reach a compromise on the dividend tax rate, and there is growing belief

that this will be achieved after the presidential election in the first quarter of 2013. While Congress can make certain rules

and taxing decisions retroactive (they signed the 15% qualified dividend tax rate in May 2003 and made retroactive to

January 2003), companies and investors cannot make a retroactive trade. Therefore, there is real potential for a

"fifth-quarter" dividend payment in late 2012 (first-quarter 2013 dividends paid in fourth-quarter 2012). In January

2012, S&P 500 companies paid $13.8 billion in regular cash dividends, with approximately $7.1 billion from non-S&P

500 domestic common issues. We estimate that the qualified dividend tax cut savings from 2003 until year-end 2012 will

save direct individual owners of S&P 500 issues $183.5 billion. For the full universe of U.S. domestic non-S&P 500


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common stocks, we estimate another $174.9 billion in savings for a total of $358.4 billion over the 10-year period (see

table 1).

Table 1

U.S. Domestic Public Common Stock

Cumulative Values From 2003 Through 2012 Estimates (Bil. $)

--Tax Savings--

Total dividendpayments

If all taxed at individualrate

Based on 36% S&P ownership and 50%non-S&P 500

Based on 95%qualified

S&P 500 2,180.60 536.43 193.11 183.46

Non-500 1,496.80 368.21 184.11 174.90

Total 3,677.41 904.64 377.22 358.36

Source: S&P Indices.

So the question for companies is whether to pay investors $21 billion or more in January 2013, allowing individuals to

keep 56.6% after 43.4% in federal taxes, or pay them on Dec. 31, 2012, when they can keep 85%. The 28.4% net

difference is extremely significant to investors, while the early cash disbursement from the companies should only slightly

affect their year-end ratios and liquidity. In our opinion, a company better have a really good reason for permitting

investors to only net $0.57 in January instead of $0.85 in December. However, we think the change in the dividend tax

rate will force corporations to reexamine their policy on returning value to shareholders policy, and this could lead to a

pullback in dividend increases and an increase in share buybacks.

From an individual investor's perspective, the risk-return ratio shifts significantly since they would now retain less than

$0.57 on the dollar compared with the current $0.85. Should the current legislation remain unchanged, we expect

fifth-quarter dividend payments, either in whole or as a percentage of the full amount; two months of dividends paid in

2012 to reflect the holding period, for example. This year is already expected to post a record year for dividends, and that

was before Apple Inc.'s $9.9 billion planned payout. With more and more investors searching for income, and as dividend

income remains a significant component of retiree income, higher taxes will inevitably change the landscape. While both

practitioners and academics will certainly argue the extent of the effect of the tax increase, individuals will be able to

measure it much more quickly--by comparing how much they have left in their pocket in fourth-quarter 2012 and

first-quarter 2013.

Contact Information: Howard Silverblatt, Senior Index AnalystS&P Indices,

[email protected]

Leveraged Commentary And Data: Leveraged Loan Technical Conditions Improve In March AsThe Inflow Surplus Grows

Loan market technical conditions strengthened further in March as inflows again outran supply. Together, CLO issuance

and inflows to loan mutual funds totaled $2.6 billion, while the amount of S&P/LSTA Index loans outstanding contracted

by $6.2 billion (see chart 6).


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Chart 6

The $8.8 billion inflow surplus in March was the most in 13 months, up from $5 billion in February. All of this excess

capital kept the bulls running. The average price of the S&P/LSTA Leveraged Loan 100, for instance, rose another 0.24

points in March to 93.69, from 93.45 at the end of February (see chart 7). Before March, the average was last that high in

August 2011.


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Chart 7

The new-issue market also brightened during the month. The average yield for new-issue paper fell further, to a

nine-month low of 6.1%, from 6.3% in February. Drilling down, 'BB' yields stabilized after touching all-time lows in

February (see chart 8). 'B' yields, meanwhile, fell further, to 6.15% on average, from 6.55% in February.


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Chart 8

The warmth of the primary market allowed opportunistic executions to blossom (see table 2).

Table 2

Selected Statistics

(Bil. $) Repricings Dividends A-to-E Cov-lite

1/31/2011 13.66 2.77 3.58 6.60

2/28/2011 30.11 7.25 1.06 14.26

3/31/2011 12.03 3.04 5.67 3.86

4/30/2011 6.06 4.36 17.90 8.28

5/31/2011 4.50 5.20 3.81 9.31

6/30/2011 0.68 2.47 2.00 5.53

7/31/2011 0.23 0.91 0.00 2.70

8/31/2011 0.00 0.00 0.00 0.00

9/30/2011 0.00 0.09 0.00 2.6110/31/2011 0.00 0.10 0.00 0.37

11/30/2011 1.41 0.37 0.00 2.50

12/31/2011 1.25 0.55 1.44 0.95

1/31/2012 2.10 0.78 1.60 1.43

2/29/2012 4.67 6.11 12.69 5.25

3/31/2012 1.50 6.92 12.51 3.77

Source: S&P Capital IQ LCD.

Propelled by refinancings and dividend loans, new-issue institutional volume surged to a 13-month high of $30.4 billion,


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from $22 billion in February (see chart 9). It was not the supply bonanza for which cash-rich managers hoped, however.

On the one hand, M&A-driven institutional activity was again weak, at $17 billion.

Chart 9

On the other hand, repayments, propelled by $3.3 billion of high-yield takeouts and $1.9 billion of pro rata takeouts,

pushed to an 11-month high of $20.3 billion in March (see chart 10).


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Chart 10

The combination of rising repayments and lackluster new-money deal flow caused the aforementioned decline in the

supply of loans outstanding and, thus, magnified the modest increase in fresh capital investors put to work in the asset

class in March.

Inflows to loan mutual funds, for instance, perked up to $513 million in March, according to EPFR, in the first positive

reading since July 2011. More encouraging still, inflows shifted into a higher gear during the final two weeks of the

month--not coincidentally after 10-year Treasury yields began trending higher on better economic news--jumping to $318

million, from $164 million earlier in the month.

In the CLO market, meanwhile, issuance was robust again, at $2.1 billion versus $2.3 billion in February. In fact, it was

the first time CLO issuance has topped $2 billion for two months in a row since October and November 2007. And with

'AAA' spreads sinking to L+130-145 on the most recent deals, from L+146-155 earlier in the year, the volume of deals

ramping up has also increased, adding another shot of capital to the market.

In addition to these visible sources, managers say that allocations to the asset class from pension funds and other

institutional investors continued in the $1 billion to $2 billion range in March (of course, that is a best guess, not an

empirical figure).

Looking ahead, participants are hopeful that with the risk trade on again for the moment and 10-year Treasury yields

trending higher, the loan market will continue to take in capital from all corners--retail, institutional, and structured

finance. Certainly, mutual fund flows got off to a strong start, with EPFR reporting $180 million of inflows between April

2 and April 5. So did the CLO market, where during that same four-day period, two managers--Goldentree Asset

Management and Silvermine Capital Management--printed new vehicles totaling $989 million. Notably, Goldentree and


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Silvermine join Octagon and Invesco as 2012 CLO issuers that had not printed a new deal since the 2008 credit crisis.

Participants say this activity is a clear indication that the universe of managers that can raise new CLOs is finally starting

to expand after the wrenching contraction of 2008 to 2010, as the investor base for CLO liabilities and equity has

expanded.

On the supply side of the ledger, arrangers report an encouraging increase in screening activity for new merger and

acquisition (M&A)-driven deals, and the calendar of loans that back LBOs and acquisitions expanded to a six-month high

of $11.7 billion on March 28, from $5.5 billion at the end of February (see chart 11).

Chart 11

Even here, however, there is less than meets the eye. After all, the $3.15 billion of institutional tranches backing Lawson

Software's acquisition of Infor Global Solutions--the largest loan on the M&A calendar--will replace two institutional

loans that originally totaled $3.4 billion.

With this in mind, arrangers say that any meaningful revival in leveraged finance M&A activity is unlikely to appear until

the third quarter. Until then, participants generally believe the market's positive bias will continue until the technical

winds shift or an outside shock intrudes. Even so, a 2011-style spring fling seems unlikely. In fact, the spike of new-issuevolume during March already has cleared some of the froth from the market (see chart 12).


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Chart 12

March's volume blitz allowed accounts to be more selective. As a result, flex activity went from overwhelmingly favoring

issuers to a more mixed picture. Among the March flexes, 31% went higher and 69% lower, versus 14% and 86%,

respectively, earlier in the year. Moreover, break-price premiums narrowed, suggesting that new-issue pricing has reached

a resistance point (though not an inflection point; see table 3).

Table 3

Selected Statistics

'BB' clearing yield (%) 'B' clearing yield (%) Break price premium over new-issue OID (bps)

3/31/2011 3.97 6.23 56

4/30/2011 4.11 5.86 87

5/31/2011 4.76 5.70 78

6/30/2011 4.39 6.54 52

7/31/2011 4.67 7.12 92

8/31/2011 5.07 6.84 48

9/30/2011 6.26 8.68 128

10/31/2011 5.38 8.34 165

11/30/2011 4.96 7.22 123

12/31/2011 4.48 7.01 92

1/31/2012 4.31 7.33 165

2/29/2012 4.48 6.55 89

3/31/2012 4.73 6.24 80

Source: S&P Capital IQ LCD.

Contact Information: Steven Miller, Managing DirectorLeveraged Commentary And Data,

[email protected]


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R2P Corporate Bond Monitor

The strong start of first-quarter earnings season could help limit the effects of downbeat economic news since the

beginning of the month. Alcoa Inc., the first blue chip to report first-quarter results, profited in the quarter as a result of

stronger-than-expected sales. In Europe, Givaudan reported first-quarter sales that exceeded forecasts. Also, the U.S.

economy is continuing to expand at a "modest to moderate pace," the Federal Reserve reported on Wednesday, as the

manufacturing, professional services, and retail sectors all recorded strong growth.

However, rising energy and fuel prices are beginning to worry U.S. producers and consumers, according to the Beige Book,

which analyzes the economy by region and sector. Only 120,000 payrolls were added in March, lower than expectations

of 205,000 and the 227,000 in February. In Europe, Spanish 10-year bond yields surged as high as 6% on Wednesday,

approaching the levels that pushed Greece, Ireland, and Portugal into bailouts. Spanish Economy Minister Luis de

Guindos said the surge in borrowing costs will be a problem if it persists, triggering speculation that the European Central

Bank will revive its bond-purchase program. Likewise, the 10-year yield on Italian bonds rose this week to the most since

February. On the other hand, Bank of Spain governor Miguel Ordonez warned banks could need additional capital if the

economy weakened more than expected, which suggests that Europe has a debt and a growth issue.

In this context, risk-reward profiles in the fixed-income markets--as measured by average Risk-to-Price (R2P)

scores--deteriorated in most sectors in North America and Europe, from March 30, 2012, to April 11, 2012 (see tables 4

and 5).

In North America, scores decreased by 9% as a result of a 5% increase in the average probability of default (PD) and a

1% increase in the 20-day historical bond price volatility, along with a tightening in the average option-adjusted spread

(OAS) of 3 bps.

In Europe, average OAS tightened by one basis point, and bond price volatility increased by 7%, more than offsetting a

PD decrease of 9%. As a result, scores deteriorated by 2%.

Table 4

North American Risk-Reward Profiles By Sector--Average R2P Score And Components Changes

Scores (%) OAS (bps) PD (%) Bond price vol. (%)

Consumer discretionary (11) (2) 27 (2)

Consumer staples (10) (4) (4) 3

Energy (10) (3) 25 5

Financials 0 (1) (17) 2

Health care (15) 1 0 5

Industrials (11) (6) (9) 0

Information technology (8) 0 (39) (2)

Materials (9) (1) 11 1

Telecommunication services (5) (2) 26 (7)

Utilities (15) (9) 25 6

Change as of April 11, 2012, from March 30, 2012. OAS--Option-adjusted spread. PD--Probability of default.

Table 5

European Risk-Reward Profiles By Sector--Average R2P Score And Components Changes

Scores (%) OAS (bps) PD (%) Bond price vol. (%)

Consumer discretionary (2) 2 (4) 5

Consumer staples (3) (7) (3) 4


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Table 5

European Risk-Reward Profiles By Sector--Average R2P Score And Components Changes (cont.)

Energy (10) (11) 14 8

Financials (1) 2 (25) 6

Health care (15) (3) (1) 9

Industrials 1 (4) (22) 7

Information technology 10 4 (16) 19

Materials 0 (3) 2 1

Telecommunication services (7) 12 (11) 9

Utilities 6 (2) (23) 2

Change as of April 11, 2012, from March 30, 2012. OAS--Option-adjusted spread. PD--Probability of default.

Contact Information: Fabrice Jaudi, Senior DirectorGlobal Markets Intelligence, [email protected]

Market Derived Signal Commentary: Spain's Rising Credit Risk Affects U.S. FinancialsCompanies' CDS

The risk premium on Spain continued to rise over the past week after the sovereign's disappointing bond sale, and Italy

and U.S. financials companies also felt the heat on fears of credit contagion from the eurozone. On April 4, Spain sold

2.6 billion of bonds, less than the 3.5 billion the country planned, as investors demanded a significant premium to hold

the debt (see "Credit Market Commentary: Market Derived Signal: Spains CDS Widens As Investors Demand Premium

For Government Debt," published April 5, 2012, on the Global Credit Portal). On April 12, Italy issued 2.88 billion of

three-year bonds, lower than a target of 3 billion, at a yield of 3.89%, up from 2.76% at a sale on March 14, and Italy's

deputy finance minister said the Treasury did not sell the maximum because of the "unfavorable yield," Bloomberg

reported on April 12.

The five-year CDS spread on Spain rose to 459 basis points (bps) on April 11 from 434 bps a week ago, and the cost to

purchase protection against an Italian default increased 7.8% to 417 bps, according to CMA DataVision. But one of the

most significant moves in CDS spreads over the past week occurred for U.S. financials companies, whose average CDS

spread widened 15.4% to 195 bps, as measured by the S&P/ISDA CDS U.S. Financials Select 10 Index (see chart 13).

Financials companies took a tumble in the equity market as well, losing 4% in the past week.


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Chart 13

Bank of America Corp., Citigroup Inc., The Goldman Sachs Group Inc., JPMorgan Chase & Co., and Morgan Stanley are

among the constituents of the Financials Index. All have exposure to Spanish and Italian debt to varying degrees,

according to a New York Times report published Jan. 29, 2012. Each has gained some protection against a default in the

at-risk sovereigns through the credit default swap market (see chart 14). However, sovereign exposure is but one problem

facing the big banks, and the CDS spreads appear to reflect a variety of concerns. S&P Capital IQ equity research has a

neutral outlook on the three largest U.S. banks (JPMorgan Chase, Citigroup, and Bank of America) based on "concerns

about the exposure these banks have to the troubled Eurozone, the legacy costs of mortgages underwritten and securitized

during the peak of the housing market, increasing regulatory costs and limitations, and the costs of implementing Basel

III."


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Chart 14

First-quarter earnings reports, which companies began to release on April 10, could be a positive catalyst for bank

spreads, in our opinion. The financials sector is expected to report a year-over-year decline in first-quarter earnings of

0.45% to $4.08 per share, according to data aggregated by S&P Capital IQ, but there is always the potential for upside

surprises. In the fourth quarter, 47.5% of 80 financials companies beat the consensus estimate, lifting the reported

fourth-quarter earnings per share figure to $3.63 per share from the estimate of $3.46 at the beginning of 2012. The GMI

team will continue to monitor financials companies' CDS for significant changes in credit risk sentiment.

Contact Information: Lisa Sanders, DirectorGlobal Markets Intelligence, [email protected]

S&P Index Commodity Commentary: Commodities Continue To Exhibit Caution

Commodity weakness from March carried over into the second quarter, as measured by the S&P GSCI Index decline of

1.32% as of April 11. Industrial metals have led index losses in the new quarter, as reflected by the April decline of 2.59%

in the S&P GSCI Industrial Metals Index. Increasing fears of reduced Chinese growth estimates and ample supplies in

many commodities have weighed on prices, in addition to less dovish statements from the U.S. Federal Open Market

Committee (FOMC). Many market analysts, including FOMC Chairman Ben Bernanke, have warned of the potential

deleterious effect that higher energy prices may have on economic growth. Energy remains the key driver of more recent

S&P GSCI Index returns, as exemplified by the 6.12% year-to-date increase in the S&P GSCI Energy Index, compared

with an increase of only 0.61% in the S&P GSCI Non-Energy Index. Due to world production weighting, energy has the


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majority weight among the main S&P GSCI sectors.

Copper Vs. Beans

The S&P GSCI Copper Index ended April 11 with a decline of 4.80% so far this month. Copper has been one of the

biggest drags on S&P GSCI Index returns in the new quarter as news of reduced demand from China and ample supplieshave weighed on prices. More importantly, copper prices are weaker amid the stagnant global economy, but copper and

the industrial metals have remained in positive territory this year, as measured by the 3.56% increase in the S&P GSCI

Industrial Metals Index as of April 11. Contrarily, agriculture prices have been relatively weak in 2012, as measured by

the 0.43% year-to-date decline in the S&P GSCI Agriculture Index on the back of a 2.3% loss in April. Despite increasing

global demand, ample supplies have pressured wheat prices, now the biggest drag on agriculture prices, while soybeans

have been the main stalwart. A substantial increase in demand from China and drought conditions in the main South

American growing regions have boosted the S&P GSCI Soybean Index to post a year-to-date increase of 16.95% on the

back of a 1.35% gain in April.

Low Volatility Adds To CautionAt the end of February, S&P GSCI 30-day historical volatility declined to 11.5%. The index has not remained lower than

these levels of daily historical volatility since the mid-1990s (see chart 15). The general level of low correlations among

commodities and the disparity of strength in energy prices relative to non-energy prices contributed to declining S&P GSCI

volatility levels in the first quarter. Very low levels of overall marketplace volatility, combined with the disparity of

weakness in the S&P GSCI Index relative to the strength of the S&P 500 Index in March, has prompted many analysts to

recommend a cautious approach to the financial markets at the beginning of the second quarter. Since the end of 2008, the

S&P GSCI Index has declined only four times in months when the S&P 500 Index has increased (including March 2012).


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Chart 15

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