outlook & opportunities terry sandven christian heitzman july 2007
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Outlook & Opportunities Terry Sandven Christian Heitzman July 2007. Mid-Year Review & Outlook. Overview Performance Interest rates Inflation Housing Earnings. Mid-Year Review & Outlook. Recap of First Quarter Outlook First quarter Outlook Pro-growth thesis remains intact. - PowerPoint PPT PresentationTRANSCRIPT
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1Since 1895. Member SIPC and NYSE.
Outlook & Opportunities
Terry SandvenChristian Heitzman
July 2007
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Mid-Year Review & Outlook
Overview
• Performance• Interest rates• Inflation• Housing• Earnings
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Mid-Year Review & Outlook
Recap of First Quarter Outlook
• First quarter Outlook– Pro-growth thesis remains intact.
• Inflation will remain contained.• Economic expansion will continue, albeit at a slower rate.• Fed is not likely to move until second half of 2007; should sub-prime deterioration continue, next move is likely to cut; Fed is not under any immediate pressure to change its stance.
• Bonds and stocks will likely trend within a relatively narrow trading range, with an upward bias.
• Biased toward a pro-growth economy, driven largely by favorable employment conditions.
• Mid-Year Outlook– Largely the same as the first quarter.
• Evidence of some global inflation.• Fed may not move in 2007.• Equities are likely to outperform bonds in the second half of 2007.
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Performance
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PerformanceSeasonality
AVERAGE S&P 500 MONTHLY PERFORMANCE
-2.0%
-1.0%
0.0%
1.0%
2.0%
3.0%
4.0%
JAN FEB MAR APR MAY JUN JUL AUG SEP OCT NOV DEC
Jan. 1950 to April 2007 Jan. 1975 to April 2007 Jan. 1995 to April 2007
Data Source: Ibbotson Associates and FactSet Research Systems, Inc.
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Interest RatesSecular Change?
• The 10-year Treasury topped 5.0% for the first time since July 2006 before peaking at 5.31%.
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Interest Rates
U.S. Treasury Yield Curve
• Yield curve has flattened.
4.7
4.8
4.9
5.0
5.1
5.2
3Mo 6Mo 2Yr 5Yr 10Yr 30Yr3Mo 6Mo 2Yr 5Yr 10Yr 30Yr3Mo 6Mo 2Yr 5Yr 10Yr 30Yr3Mo 6Mo 2Yr 5Yr 10Yr 30Yr
1 Year Ago3 Months Ago1 Week Ago09-Jul-07
Source: FactSet Research Systems Inc.
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Inflation
Consumer Price Index (CPI)
• On an annual basis, CPI increased 2.7% in May versus 2.6% in April; core prices rose 2.2%.
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Inflation
Personal Consumption Expenditures (PCE)
• Core PCE increased 1.9% in May, down from 2.0% in April.
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Inflation
Fed Funds Versus CPI
• Adequate spread between fed funds and the CPI is arguably intact, suggesting that the Fed’s monetary policy will remain unchanged.
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Inflation
CRB Commodity Index
• Showing weakness, or at least is pulling back from recent highs.
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Inflation
Institute for Supply Management (ISM)
• Both ISM manufacturing and non-manufacturing are reflecting growth.
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HousingPending Home Sales of Existing Homes
• Pending sales of existing homes, a leading indicator because it tracks contract signings, continues to trend downward.
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Housing
New Home Sales
• New home sales continue to decline.
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Housing
Existing Home Sales
• Existing homes sales continue to trend downward.
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Housing
Delinquencies
• Housing—subprime deterioration—remains a predominant concern.
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Housing
Conclusion• Too early to conclude that housing has
bottomed; the housing environment remains challenging.– Distinction between “weak” versus “collapse”– Predominant view and evidence suggests potential
for further weakness.– Company results:
• Home Depot cut its annual profit forecast, citing the slumping U.S. housing market.
• Sears Holdings said its second quarter profit may decline by as much as 46%.
• D.R. Horton said it will report a third quarter loss after orders declined 40%.
• Implications and impact on consumer spending remain of concern.
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Earnings
S&P 500 Earnings Projections
• S&P 500 earnings growth is expected to modestly accelerate in 2008.
• Valuations are reasonable.
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Earnings
S&P 500 Earnings Projections
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Earnings
S&P 500 Valuation Levels (July 2007)
97 98 99 00 01 02 03 04 05 06
14x
16x
18x
20x
22x
24x
26x
28x
800
900
1000
1100
1200
1300
1400
1500
Price (Right)FY1 Price/Earnings Range (Left)Average (Left)
S&P 500 Index (Operating Basis) (SPX)
Data Source: First Call Estimates
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Conclusion
Outlook
• Pro-growth thesis remains intact, driven largely by favorable employment conditions and earnings outlook.– Core U.S. inflation will remain contained; global growth
and foreign interest rates seem biased toward further upside.
– Economic expansion will continue, albeit at a slower rate.
• Housing, company earnings and employment are key.– Fed is not likely to move until the fourth quarter, if at all
in 2007.– Adequate liquidity, increased merger and acquisition
activity, and attractive valuations present a favorable backdrop for equities to outperform bonds.
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The Fed Stays The Course
• We believe, and Fed Funds Futures corroborate the idea, that the Fed will be on hold through the balance of the year.
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Credit Markets
• Sub-Prime woes continue to dominate credit markets
• We don’t know the extent of the damage
• Credit spreads are moving out• Caution is still warranted
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Rates And The Curve
•Two stories here – domestic and global
•Domestic story is continued economic expansion versus the housing drag
•Global story is focused on other central banks raising rates and the need for a market adjustment in US rates to continue to attract capital
•Both stories at this juncture seem to point toward mild upward pressure on US rates
•A risk to this view is a major sub-prime event spurring a flight to quality
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The Muni Market
•Increased supply matched by new market participants
•Spreads are tighter, but could tighten further as new markets are assimilated
•International demand is present and increasing
•Judicial issues on the horizon, but not impacting the market as yet
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Final Thoughts
•Rates have a modest bias upward, but there are overhanging fears of sub-prime fallout
•We appear to be in a new trading range – 5 year notes above 5.05% seem attractive
•Credit instruments still seem rich versus the risk, but are adjusting
•The muni market continues to evolve and become more dynamic – we believe that this is and will continue to be positive and we remain constructive on munis.
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Disclosures
This material is a product of Piper Jaffray Institutional Sales, Trading and Portfolio Strategies Groups and should not be construed as impartial research or a research report. For disclosure information with respect to companies mentioned in the material, please visit:
http://www.piperjaffray.com/researchdisclosures.
The material regarding the subject companies is based on data obtained from sources deemed to be reliable; it is not guaranteed as to accuracy and does not purport to be complete. This report is solely for informational purposes and is not intended to be used as the primary basis of investment decisions. Because of individual client requirements, it is not, and it should not be construed as, advice designed to meet the particular investment needs of any investor. This report is not an offer or the solicitation of an offer to sell or buy any security. This material is not directed to, or intended for distribution to or use by, any person or entity if Piper Jaffray is prohibited or restricted by any legislation or regulation in any jurisdiction from making it available to such person or entity. Additional information is available upon request. Past performance does not guarantee future results.
Since 1895. Member SIPC and NYSE. Securities and products are offered in the United Kingdom through Piper Jaffray LTD., which is an affiliate of Piper Jaffray & Co., incorporated under the laws of England and Wales, authorized and regulated by the Financial Services Authority, and a member of the London Stock Exchange.