Markets head south

A subsequent inspection showed substantive corrosion problems in the pipeline and BP has no indication as to when the field will come back online. The closure will remove some 400,000 BBL a day from US domestic production, roughly eight percent of the US total domestic production. To gain some perspective, Hurricane Katrina forced about 1.2 million barrels of oil per day off the USA domestic production and caused some serious refinery damage as well. Prudhoe Bay provides a high grade sweet crude to mostly western US refineries via the Trans Alaska Pipeline. Gasoline prices are expected to climb as much a 10 cents a gallon as a result of the closure.

Even before the Prudhoe Bay problem, the financial markets were showing weakness as there is a lot of uncertainty on what the US Federal Reserve will do in its August 8th meeting, especially after the Bank of England surprised investors last week, by raising rates. Will the Fed raise rates to continue to aggressively control inflation or will they pause on the interest rate hikes to allow economic growth to regain some forward momentum? Many analysts think they understood Chairman Ben Bernecke’s comments but when pressed, they all admit they really don’t know. We think they will not raise rates this meeting but will likely raise rates once more this year, we would guess October. They are also likely to put out some strong wording in their accompanying comments to show a strong stand on inflation, just so everyone is on the right page.

The US jobs report came in lower than expected last week, which is good news this time around. The weaker-than-expected employment growth eased fears of higher interest rates in the world’s biggest economy. The US unemployment rate rose to 4.8 percent in July, up from 4.6 percent in June according to the Department of Labour report on Friday. The July unemployment figure was the highest since February. That said, 4.8 percent is still a very good unemployment figure but the number supports earlier comments from US CEO’s about their thoughts on hiring.

United States:

In the United States, equities declined early last week after healthy manufacturing data and an increase in an inflation gauge raised concerns about the possibility of another Federal Reserve interest-rate hike. However, better-than-expected earnings from P&G and a slowdown in the services sector prompted a rally in equities. The Dow Jones Industrial Average touched its highest level in two months on Thursday as a result. Good news for the worker was seen in the personal incomes data, which showed an increased of 0.6 percent in June. Consumer spending grew as well, up by 0.4 percent in June. This is the smallest rise in spending in 2006, according to the Department of Commerce.

In other economic news from the USA, the Institute for Supply Management’s manufacturing index rose to 54.7 in July, up from 53.8 in June. Meanwhile, the reading for the non-manufacturing index slipped to 54.8 in July from 57.0 a month earlier. New orders at factories rose a smaller-than-expected 1.2 percent in June as orders outside transportation and defense were weak. Excluding transportation, orders rose a mere 0.1%, the weakest performance since a 2.5 percent drop in February.

United Kingdom:

UK equities finished on an upbeat note on Friday mostly due to the US employment data. But on Thursday, the Bank of England (BoE) surprised the financial markets by increasing its benchmark rate by one quarter of a percentage point to 4.75 percent, a move it judged necessary to control inflation. Shares of banks and real-estate firms suffered the most from the interest rate increase as concerns over consumer confidence and corporate profitability played on share pricing. In addition, disappointing earnings from several companies, particularly consumer-goods major Uni-lever and chemicals group ICI, also weighed on investor sentiment.

In the aftermath of the BoE’s surprise rate hike, government bonds fell, while the pound advanced on speculation that the rate rise would make it more attractive to yield-seeking investors.

In tracking housing prices in the UK, we see that prices increased by 0.2% in July following successive falls in May and June, according to a survey conducted by the Halifax. The mortgage lender also raised its forecast for annual house-price inflation to 5% from 3% previously, citing improving buyer confidence in the market. Mortgage approvals rose in June at the fastest pace in five months. Lenders approved 120,000 home loans, up from 117,000 in May, the BoE revealed.

Looking Ahead:

This week, everyone is awaiting the US Fed announcement on its interest rates and inflation outlook. We still hold that the rest of the summer is likely to remain slow building into a strong end for the third quarter.

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