20140502 lookout report
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May 2014TRANSCRIPT
Cross-Asset Divergences,And The Conundrum Of The EconomicOutlook For The Balance Of 2014
The financial markets' current circumstances are among the most complex and challenging that
we've ever seen. There are so many crosscurrents and contradictions flowing through the U.S.
and global financial markets right now that it is impossible to address them all in a single
forum.
For example, core inflation is declining and continues to head in the opposite direction from the
U.S. Federal Reserve's preference. Also, the European Central Bank (ECB) is reported to be
seriously considering unconventional monetary policy steps, potentially including negative
interest rates, to combat rising risks of deflation across Europe. Despite these concerns over
falling consumer prices, gold, the traditional inflation hedge, continues to firmly trade at what
are historically elevated prices.
Furthermore, there is a large discrepancy between the signals emulating from the U.S. debt and
equity markets. The yield on the 10-year Treasury note has now declined to 2.675% from
3.05% at year-end 2013, seemingly in line with expectations for a slowing economy, coupled
with a disinflationary environment. The signals coming out of the bond market contrast sharply
with consensus corporate earnings expectations that, beginning with the second quarter,
continue to look for record quarterly S&P 500 earnings-per-share over the balance of this year.
Speaking of corporate earnings, while it is a positive development that expected first-quarter
earnings growth has rebounded to 2.3% from -1.2% just a couple of weeks ago, this result
nonetheless is disappointing when compared with the 5% growth that analysts anticipated at
the close of 2013. Despite sharply reduced expectations for the first quarter, Wall Street remains
optimistic about the balance of 2014, looking for 8% to 11% sequential quarterly earnings
growth over the next three quarters to be followed by 10% to 13% earnings growth in 2015.
In a year characterized by expectations for successive record highs in corporate earnings, it
seems inconsistent that the best performing year-to-date S&P 500 industry sector would be the
defensive utilities sector (14% growth) and not one of the more economically cyclical sectors
such as the consumer discretionary (-4.2%) or financials (0.5%) sectors. The lack of cyclical
leadership in the stock market and the outperformance of the utilities sector may be completely
Lookout Reportfrom Global Markets Intelligence
May 2, 2014
Michael G Thompson
Managing Director
Global Markets Intelligence
(1) 212-438-3480
Robert A Keiser
Vice President
Global Markets Intelligence
(1) 212-438-3540
The Lookout Report is a compendium
of current data and perspectives from
across S&P Capital IQ and S&P Dow
Jones Indices covering corporate
earnings, market and credit risks,
capital markets activity, index
investing, and proprietary data and
analytics. Published bi-weekly by the
Global Markets Intelligence research
group, the Lookout Report offers a
detailed cross-market and cross-asset
view of investment conditions, risks,
and opportunities.
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consistent with the decline in bond-market yields since the start of the year, but they are in direct contradiction to the
optimism implied by consensus expectations and a stock market that refuses to pull back by more than a couple of
percentage points from all-time record highs.
As far as the goods-and-services consumption-based U.S. economy is concerned, a divergence exists in consumers'
collective appetite for large-ticket purchases of automobiles and housing. Auto and home purchases were both improving
in tandem over the first half of 2013, but the pace of housing-market activity has dropped off since the mid-point of last
year after the Fed mentioned the possibility of "tapering" before year-end. So, while consumers have been purchasing light
vehicles at better than a 16 million unit annual pace, the best level seen since late 2007, the pace of U.S. existing home
sales has collapsed to 4.6 million units annualized in each month of the first quarter of this year from the recent peak of
5.4 million units recorded in July 2013. An alignment of consumers' appetite for large-ticket item purchases, similar to
what occurred in the first half of last year, would help fortify the U.S. macroeconomic outlook for the balance of this year,
in our view.
Global Markets Intelligence (GMI) Research fully expects that the economic and market-based contradictions that we
observed in the first quarter of 2014 will be gradually resolved over the balance of this year. This process starts in May as
economic data is reported for the month of April, representing the start of the second quarter, which follows the heavily
weather-influenced first quarter. Where the stock market is concerned, we want to see sustained evidence that the U.S. and
global economies are healthy enough to empower S&P 500 corporations to earn something close to the $118 per share
that S&P Capital IQ consensus data foreshadowed.
The fundamentals conspiring to provide direction for the bond market are more complex, in our view. Issues that need to
be resolved include the near-term path and eventual medium-term equilibrium rate of inflation; the vigor of the U.S.
economy and its effect on the timing and magnitude of adjustments to monetary policy, specifically the overnight Fed
funds interest rate; and ultimately, the ability of the U.S. economy and financial system to continue to heal and eventually
flourish, despite the potential for a significant increase in short- and long-term interest rates.
Furthermore, economic inconsistencies are clearly not limited to the U.S. While some previously problematic countries
have recently witnessed sustained monthly declines in their unemployment rate (Spain's rate declined to 25.6% in
February 2014 from 26.5% August 2013), others such as Italy and France have yet to see a cyclical peak in their
unemployment rates (13% and 10.4%, respectively). Additionally, the China manufacturing Purchasing Managers Index
(PMI) has hovered just above the neutral 50 level in each month of the first quarter of this year, suggesting negligible
economic momentum in the world's second-largest economy since the start of 2014.
GMI Research is closely following 10-year Treasury note yields for signs of a developing alignment between the signals
coming from the stock and bond markets. The 10-year Treasury note yield has been locked into a fairly restrained 2.50%
to 3.00% trading range since June 2013. Should market participants begin to sense a resolution of the divergences and
conundrums that characterize current conditions, in the direction of a sustained improvement in U.S. economic
performance, then yields could easily head toward the 4.00% level last seen in the early years of this recovery cycle.
Yields hit 4.00% in June 2009, despite the fact that the Federal Reserve was conducting its first round of quantitative
easing (QE1) that commenced in November 2008 and the 10-year Treasuries then touched 4.00% again in April 2010 as
the Fed was set to temporarily suspend QE1 in June 2010. However, the spike in yields proved to be temporary as the Fed
resumed buying securities in August in response to ongoing sub-par economic growth. With the Fed now in the process of
winding down its third round of quantitative easing, it is a bit surprising that yields are so low, reinforcing the notion of
an outlook that lacks clarity. A sustained break above the 3.00% yield level by the 10-year Treasury (see chart 1) could
potentially be signaling a resolution of the market conundrum and the start of a move toward the 4.00% yield level, in our
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view.
Chart 1
Inside This Issue:
Macroeconomic Overview
In a year characterized by expectations for successive record highs in corporate earnings, it seems inconsistent that the best
performing year-to-date S&P 500 industry sector would be the defensive utilities sector (14% growth) and not one of the
more economically cyclical sectors such as the consumer discretionary (-4.2%) or financials (-0.5%) sectors. The lack of
cyclical leadership in the stock market and the outperformance of the utilities sector may be completely consistent with the
decline in bond-market yields since the start of the year, but they are in direct contradiction to the optimism implied by
consensus expectations and a stock market that refuses to pull back by more than a couple of percentage points from
all-time record highs.
Economic And Market Outlook: North American And European Earnings
Companies reporting in the first half of the earnings season beat estimates by 4.8% and if companies maintain this pace
over the second half of earnings season, final growth would end just north of 3.0%. Even if we do end with 3.0%, it
would still mark the weakest quarter for S&P 500 profit growth since third-quarter 2012.
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International Update: The Jakarta, Taipei, Manila, Seoul, And Hong Kong Equity Markets Are Set To Outshine Shanghai's
This Year
Since Xi Xinping and Li Keqiang's appointments to the presidency and the premiership, respectively, last year, the
authorities in Beijing are still keenly focused on resolving issues that they were elected to prioritize for the remaining nine
years of their terms in office. Alleviating worsening waterway and atmospheric pollution as well as prosecuting corrupt
government officials rank among the most important items the current regime intends to tackle in the coming years.
S&P Dow Jones Index Commentary: Market Uncertainty Increases Volatility
Last year saw significant gains in the market, as 2013 posted a 29.6% gain, with 457 of the S&P 500 issues gaining.
Year-to-date, S&P 500 companies are up 1.93%, with 298 issues gaining. Also differentiating this year is the number of
issues moving well outside the index average of a 1.93% gain year-to-date. So far in 2014, 111 issues are up at least 10%
this year, with 43 declining at least 10%. While the index has been flat, it would appear the battle from within has been
ranging, and that has added to the perception of volatility.
Leveraged Commentary And Data: The Loan Default Rate Hits Its Four-Year High Of 4.64% With EFH's Bankruptcy Filing
While EFH's default weighs heavily on the rate by amount--it is, after all, the largest loan in the S&P/LSTA Index and
accounts for 3.43% of the index--it barely registers by number of loans. Indeed, the default rate by number is 1.01% in
April including EFH, or 0.87% excluding it.
R2P Corporate Bond Monitor
On April 16, the Federal Reserve's Beige Book survey revealed that the U.S. economy continued to expand in most regions
as businesses benefited from the retreat from harsh winter weather. Eight of 12 Fed districts characterized growth as
"modest or moderate," and consumer spending increased in most districts. In addition, U.S retail sales and housing starts
rose in March, while inflation remained below the Federal Reserve's 2% goal, according to the April 13 Commerce
Department report. Retail sales in March climbed the most since 2012. The 1.1% increase reflects more spending on cars,
clothing, and garden supplies.
Market Derived Signal Commentary: Investors See Credit Strength In The Industrials Sector
Through April 28, 72.5% of S&P 500 industrials companies beat the S&P Capital IQ consensus estimate, ranking third of
the 10 sectors, behind only the energy (73.33%) and utilities (80%) sectors. The average for the 10 sectors is 65.7%.
Analysts polled by S&P Capital IQ now expect first-quarter earnings growth of 1.5% versus an estimated loss of 1% on
March 31. The consensus growth estimate for industrials is 6.44% for 2014 and 9.21% for 2015.
Capital Market Commentary: IPOs, M&A, And Debt
With accelerating announced merger and acquisition (M&A) activity positioning deal proceeds to reach their best levels
since 2007 and buyers eagerly pursuing targets, GMI is interested in discovering trends among canceled deals. It would
seem reasonable to assume that as more deals are announced, more deals will ultimately be canceled. After searching the
S&P Capital IQ database, GMI found that the canceled deal count has been relatively small from the year-to-date periods
between 2007 and 2013. However, there has been a sharp decrease in the number of deals that have been canceled so far
this year (this includes any deals canceled between Jan. 1, 2014, and April 28, 2014, regardless of their announcement
date), as just 113 deals have been pulled to date.
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Economic And Market Outlook
North America
After a rough start to the first-quarter earnings season, estimates have finally turned positive. With 75% of S&P 500
companies having reported, analysts now expect growth of 2.3%.
Consensus expectations bottomed out at -1.2% on April 11, right after dismal results from JPMorgan Chase & Co. were
reported. At that time, 29 companies had reported. Generally speaking, it's the companies within the financials sector that
have weighed down S&P 500 earnings growth. In fact, profit growth, excluding the financials sector, turns out to be a
much healthier 5.0%. After seven consecutive quarters of record earnings per share (EPS) figures, it looks like that trend
will end in the first quarter, with analysts expecting EPS to come in at $27.31, about $1.15 shy of last quarter's record.
Chart 2
At the beginning of the season, Global Markets Intelligence predicted that first-quarter growth would settle somewhere
around the 3.0% mark, based on the historical trend in which expectations at the beginning of any given earnings season
rise by 3.9% by the time all companies have reported. With 67% of companies beating analysts' estimates at this point,
we're well on our way toward that 3.0%.
Companies reporting in the first half of the earnings season beat estimates by 4.8% and if companies maintain this pace
over the second half of earnings season, final growth would end just north of 3.0%. Even if we do end with 3.0%, it
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would still mark the weakest quarter for S&P 500 profit growth since third-quarter 2012.
The defensive sectors continue to lead first quarter growth, with the telecommunications services and utilities sectors
expecting the highest growth rates of 42.8% and 22.1%, respectively. On the flipside, the financials (-8.5%) and energy
(-2.5%) sectors continue to lag.
Chart 3
Very broadly, some similar themes have emerged amongst first-quarter press releases. The most commonly cited reasons
for weakness have been poor weather during the quarter, unfavorable foreign exchange rates, and weakness in mortgage
originations and applications. Alternatively, some reasons for strength have been positive retail figures, the continued
health of the U.S. consumer, and robust sales in China.
Revenues will continue to be in focus for the first quarter as a true measure of corporate health. Currently, analysts
anticipate top-line growth to come in at 3.2%. This is the first time since the second quarter of 2012 that analysts expect
sales growth to outpace bottom-line results. Despite the upward trend, this is still a persistently low number, which shows
that corporations are continuing to streamline and cost-cut their way to growth each quarter. Expectations for the second
half of the year are slightly better at 4% for the third and fourth quarters.
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Chart 4
Looking ahead, 77 companies are scheduled to release results next week, at which point 90% of the index will have
reported. Next week's focus will be on utilities companies.
Europe
The U.S. earnings season is beyond the halfway mark, but the S&P Europe 350, with 31 companies reporting this week,
just entered peak season. Of those companies, 48% beat analysts' estimates on the bottom line, while 52% beat on the top
line. A majority of the earnings beats came from companies in the energy sector, still poised to fall 8.0% in the first
quarter, while many of the misses were from companies within the financials sector, which analysts expected to be down
5.1% year-over-year.
Analysts expect profits to decline 1.2% for the S&P Europe 350 index in the first quarter, as compared with the first
quarter of 2013. This is based on the 204 companies (58% of the index) that have estimates for first-quarter 2014, and
reported in first-quarter 2013. European companies are not required by the FSA to report quarterly, hence the low number
of expected releases. Analysts anticipate six of the 10 sectors to post negative growth for the first quarter--energy (-8%),
consumer staples (-10%), health care (-2.6%), financials (-5.1%), telecommunications services (-8.4%)and utilities
(-19.2%). On the other hand, the strongest sector is once again the information technology sector, which analysts expect
to post growth of 92.3%, on top of 68% growth in the fourth quarter.
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Chart 5
While earnings growth estimates for the first quarter remain in the low-single digits for the S&P 500, overall 2014
expectations for the S&P 350 remain strong at 12.0%. However, this is a decrease of 1.5 percentage points since the
publication of our last report (see "Lookout Report: The U.S. Consumer Shrugs Off Old Man Winter And Comes Back
Strong," published April 17, 2014). If the S&P 350 achieves this growth rate, it will be the highest profit growth for the
index since 2010 (45.3%). Analysts expect five of the 10 sectors to post double-digit growth for the year, with strength
coming from the information technology (60.1%), financials (21.5%), and consumer discretionary (19.7%) sectors.
Unlike the S&P 500, the defensive sectors such as the telecommunications services (0.5%) and utilities (0.7%) sectors are
a drag on the earnings growth estimate, with only consumer staples expecting negative growth of 0.2%.
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Chart 6
Next week, first-quarter peak earnings season for companies within the S&P Europe 350 continues, with 71 companies
expected to report.
Contact Information: Christine Short, Associate Director—Global Markets Intelligence, [email protected]
International Update: The Jakarta, Taipei, Manila, Seoul, And Hong Kong Equity Markets AreSet To Outshine Shanghai's This Year
Analysts are projecting further weakening of the Chinese economy, spelling more trouble for domestic stock market
returns in the months immediately ahead. Already ranked the 11th worst performing equity market thus far this year by
Bloomberg's market ranking function, the Shanghai exchange may not be generating double-digit losses comparable to
those of its counterpart in Moscow. Yet, the former could be competing with the latter for the worst ranking in the
coming months if the government in Beijing continues to resist pressure for implementing some form of stimulus to bolster
economic activity.
Denominated in U.S. dollars, cumulative year-to-date losses totaled 7.4% and 5.9% for the Shanghai and Shenzen
exchanges, respectively. The bearish retreat of the mainland's shares markets, meanwhile, has been no less prejudicial to
the fate of Hong Kong's Hang Seng index, which has slumped 5% since the beginning of the year. Although China's real
GDP growth will probably slow to 7.5% in 2014, restrained fiscal and counter-inflationary monetary policies should
proceed to dampen enthusiasm for domestic stocks.
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Chart 7
Since Xi Xinping and Li Keqiang's appointments to the presidency and the premiership, respectively, last year, the
authorities in Beijing are still keenly focused on resolving issues that they were elected to prioritize for the remaining nine
years of their terms in office. Alleviating worsening waterway and atmospheric pollution as well as prosecuting corrupt
government officials rank among the most important items the current regime intends to tackle in the coming years. The
enhancement of President Xi's authority, in the wake of the third plenum of the Chinese Communist party's central
committee last November, arguably makes him the most powerful leader of the world's most populous nation since the
reign of Deng Xiaoping from 1978 to 1992. Although Xi has pledged to institute far-reaching reforms on the economic
front, consolidating power--which he appears to have achieved already--and addressing festering social, political, and
environmental problems ignored by his predecessors remain paramount to him and his cabinet in order to shore up
China's long-term stability.
Considering the current priorities of the recently installed government, what does President Xi's immediate agenda entail
for national economic prospects this year and next? On the one hand, his government appears confident the
macro-economy will expand at over 7% for the remainder of 2014--giving his team enough time to concentrate on the key
issues at hand. Also, a slowdown in economic momentum is consistent with the credit tightening stance that the People's
Bank of China adopted soon after President Xi took office. So, a cooling of the economy, in an effort to abate the pace of
wholesale and consumer inflation, seems a deliberate strategy of his regime. On the other hand, the reluctance of Xi's
administration to provide fresh stimulus to the domestic economy should proceed to not only dampen upside expectations
for the country's economy for the foreseeable future, but also darken the outlook for emerging economies that are highly
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dependent on Chinese industrial demand for their natural resources. Only a sharp rise in joblessness might prompt a credit
relaxation.
On a relative valuation basis, China's 8.6x positive-adjusted, 2014 forward price/earnings multiple (p/e) may be at a solid
discount to every other market in Asia, except perhaps South Korea--for which data remain unavailable. Yet, Chinese
equities do not appear at all attractive in light of the nation's near- and intermediate-term economic prospects and in spite
of the fact that its single-digit p/e is more than four times lower than its record high (36.5x), less than four points above its
all-time low and just five points under its historical average (13.7x).
A combination of relatively steady, projected real Chinese growth of over 7% and a single-digit 2014 forward p/e multiple
would ordinarily be the envy of nearly every other economy on the planet, and almost certainly a signal for upgrading
domestic shares to a portfolio over-weight were it not for the Communist government's uncompromising refusal to
reinvigorate the national economy via fiscal and monetary stimulative measures any time soon. Until Chinese real GDP
regains its past vibrancy from either external sources or some form of official stimulus, comparatively more appealing
stock markets in the Asian region offer investors more enticing alternatives than China. South Korea's economy is growing
strongly despite its presumed expensiveness vis-à-vis its neighbor to the west. Philippines, Indonesia, Taiwan, and even
Hong Kong--despite its exposure to China--all offer options for diversification in view of an improving outlook for
economic activity in each country.
Contact Information: John Krey, Director and International Investment Analyst—Global Markets
Intelligence, [email protected]
S&P Dow Jones Index Commentary: Market Uncertainty Increases Volatility
Recently, volatility has returned to the market. Daily volatility, as measured by the daily high price divided by the daily
low price, has increased to an average of 0.95% from last year's 0.85%. However, daily volatility in 2012 and 2011, was
1.07% and 1.64%, respectively. The 50-year average for daily volatility is 1.47%--over 50% more than the current year.
Compared with historical volatility data, today's market is tame. The increased perception is due to last year's volatility,
which was the lowest since 1995. If you truly want to see market volatility, investigate the numbers from 2008 to 2009,
when daily volatility averaged over 2.4% a day. Furthermore, we saw days where the index was up 1% at 3 p.m. and was
down 1% at the close.
Last year saw significant gains in the market, as 2013 posted a 29.6% gain, with 457 of the S&P 500 issues gaining.
Year-to-date, S&P 500 companies are up 1.93%, with 298 issues gaining. Also differentiating this year is the number of
issues moving well outside the index average of a 1.93% gain year-to-date. So far in 2014, 111 issues are up at least 10%
this year, with 43 declining at least 10%. While the index has been flat, it would appear the battle from within has been
ranging, and that has added to the perception of volatility.
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Chart 8
Contact Information: Howard Silverblatt, Senior Index Analyst—S&P Dow Jones Indices, [email protected]
Leveraged Commentary And Data: The Loan Default Rate Hits Its Four-Year High Of 4.64% WithEFH's Bankruptcy Filing
On April 29, Energy Future Holdings (EFH), which was formerly known as TXU Corp., filed for Chapter 11 bankruptcy.
The issuer's debt stems from the largest-ever leveraged buyout, and the bankruptcy was a long time in the making. As
early as November 2009, EFH was included in S&P's speculative-grade default rate after being downgraded on account of
a distressed exchange. What's more, the loan has been trading at 70 cents on the dollar, give or take, since August 2011.
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Chart 9
Thus, April begins a year of dual-track default-rate reporting for the leveraged loan market. With EFH's bankruptcy filing,
the loan default rate jumps to a nearly four-year high of 4.64% by amount, from 1.21% in March. Excluding EFH's
action, the rate drops to an 18-month low of 1.14%, from 1.21%.
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Chart 10
While EFH's default weighs heavily on the rate by amount--it is, after all, the largest loan in the S&P/LSTA Index and
accounts for 3.43% of the index--it barely registers by number of loans. Indeed, the default rate by number is 1.01% in
April including EFH, or 0.87% excluding it.
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Chart 11
If, for the sake of historical perspective, we reset the date of the EFH loan default to October 2009 to match the timing of
the S&P speculative-grade rate mentioned above, the peak loan default rate from November 2009 would balloon to
13.58% on a pro forma basis, from the 10.8% rate as reported under LCD's criteria. The historical chart, meanwhile,
would look like this:
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Chart 12
As for the long-term average rate by amount, it would have been slightly higher, at 3.37%, versus 3.20% as it now stands
with EFH's April default.
Contact Information: Steve Miller, Managing Director—Leveraged Commentary And
Data, [email protected]
R2P Corporate Bond Monitor
North America
On April 16, the Federal Reserve's Beige Book survey revealed that the U.S. economy continued to expand in most regions
as businesses benefited from the retreat from harsh winter weather. Eight of 12 Fed districts characterized growth as
"modest or moderate," and consumer spending increased in most districts. In addition, U.S retail sales and housing starts
rose in March, while inflation remained below the Federal Reserve's 2% goal, according to the April 13 Commerce
Department report. Retail sales in March climbed the most since 2012. The 1.1% increase reflects more spending on cars,
clothing, and garden supplies.
Europe
The eurozone's recovery appears to be on a relatively strong footing after Markit's latest purchasing managers' indices
(PMIs) revealed on April 23 that growth in business activity is approaching a three-year peak. The success of countries in
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the bloc remains mixed, however, with the pace of growth accelerating in Germany, unlike neighboring France. The PMI
was 56.3 in Germany, 50.5 in France, and 54 for the 18 eurozone states (all scores over 50 indicate growth). Outside
France and Germany, the rate of growth has been the fastest since early 2011, suggesting that the recovery in the
peripheral countries is gaining traction. The return to job creation across the region is also very encouraging news,
according to Markit's survey. The rise in employment is at the highest rate since September 2011, even though the level of
job creation remains only modest with factory and services firms still focused on reducing costs.
The British economy is also showing improvement according to the GDP figure published on April 29, showing a reported
0.8% expansion at the start of 2014, driven by manufacturing and services. This means that the British economy has
grown by 3.1%, compared with the same period in 2013.
Credit Markets
With positive economic news in the U.S. and Europe, risk-reward profiles, as measured by average Risk-to-Price (R2P)
scores, increased in both regions in the month to April 25 (see tables 1 and 2). Despite a decrease in yields, scores
increased due to lower market and credit risks.
In North America, scores increased by 7% as a result of a 0.01% decrease in the average probability of default (PD), and a
0.06% decrease in the average historical 20-day bond price volatility (BP Vol.), more than offsetting a tightening of 6 basis
points (bps) in the average option-adjusted spread (OAS).
In Europe, scores increased by 16% as a result of a 0.11% decrease in the average PD, and a 0.03% decrease in the
average BP Vol., which offset a 6 bps contraction in the average OAS.
Table 1
North American Risk-Reward Profiles By Sector--One Month Average R2P Score And Components Changes
Scores (%) OAS (bps) PD (%) BP Vol. (%)
Consumer discretionary 3 0 0.075 (0.052)
Consumer staples 22 (4) 0.068 (0.074)
Energy 11 (10) (0.058) (0.050)
Financials 8 (3) (0.007) (0.055)
Health care (2) (2) (0.041) (0.057)
Industrials 8 (5) (0.052) (0.063)
Information technology 1 (3) 0.004 (0.060)
Materials 8 (9) (0.075) (0.080)
Telecommunication services 0 (10) 0.009 (0.067)
Utilities 12 (11) 0.000 (0.063)
Average 7 (6) (0.008) (0.062)
One month change to April 25, 2014. Source: S&P Capital IQ.
Table 2
Europe Risk-Reward Profiles By Sector--One Month Average R2P Score And Components Changes
Scores (%) OAS (bps) PD (%) BP Vol. (%)
Consumer discretionary 11 (16) (0.262) (0.023)
Consumer staples 23 (4) (0.151) (0.062)
Energy 9 (3) (0.130) 0.036
Financials 7 (6) (0.271) (0.032)
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Table 2
Europe Risk-Reward Profiles By Sector--One Month Average R2P Score And Components Changes (cont.)
Health care (8) (4) (0.001) (0.018)
Industrials 6 (5) (0.072) (0.035)
Information technology 40 4 (0.014) (0.096)
Materials 11 (6) (0.057) (0.010)
Telecommunication services 31 (18) (0.087) (0.057)
Utilites 32 (6) (0.049) (0.031)
Average 16 (6) (0.110) (0.033)
One month change to April 25, 2014. Source: S&P Capital IQ.
Contact Information: Fabrice Jaudi, Vice President—Global Markets Intelligence, [email protected]
Market Derived Signal Commentary: Investors See Credit Strength In The Industrials Sector
With an improving domestic economy and growth outside the U.S., the industrials sector is poised to have a solid 2014
and an even better 2015. Indeed, the S&P 500 companies within the sector are already revealing year-over-year
improvement in first-quarter 2014 results with the earnings reporting season at its mid-point.
Through April 28, 72.5% of S&P 500 industrials companies beat the S&P Capital IQ consensus estimate, ranking third of
the 10 sectors, behind only the energy (73.33%) and utilities (80%) sectors. The average for the 10 sectors is 65.7%.
Analysts polled by S&P Capital IQ now expect first-quarter earnings growth of 1.5% versus an estimated loss of 1% on
March 31. The consensus growth estimate for industrials is 6.44% for 2014 and 9.21% for 2015.
Within the sector, analysts are estimating growth of 2% to $6.59 per share for the capital goods subsector, 6% to $2.13
for the commercial services and supplies subsector, and 4% to $5.43 for the transportation subsector.
Over the past month, the S&P 500 industrials index rose 1.5%, with a bounce off the bottom when earnings reporting
season commenced. The index has outperformed the S&P 500, which rose 0.3% over the same period (see chart 13).
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Chart 13
The Global Markets Intelligence research team checked the S&P Capital IQ database to see how the credit market was
pricing the industrials sector, and found that the average five-year credit default swap (CDS) spread for S&P 500
companies with CDS contracts tightened 1.3 basis points (bps), or 6.5%, to 65 bps over the 30-day period ended April 28.
We also found similar stability in the information technology sector (see "Lookout Report: The U.S. Consumer Shrugs Off
Old Man Winter And Comes Back Strong" published April 17, 2014, on RatingsDirect).
The average spread of 65 bps for the industrials sector appears to be about equivalent to a Standard & Poor's Ratings
Services industrials benchmark of 'A+,' which implies low risk. The spread for the Standard & Poor's 'A' benchmark is 74
bps, and the spread for the Market Derived Signal benchmark of 'aa' is 48 bps.
Standard & Poor's largely expects stable credit quality in 2014 for U.S. industrials companies (see table 3). Its view is
predicated on certain assumptions, which include an estimated 10% to 15% risk of recession in the U.S. versus the 15%
to 20% forecast it established in October 2013 (see "Industry Economic And Ratings Outlook: The Outlook For The U.S.
Environmental Services Sector Remains Stable" published April 2, 2014).
Standard & Poor's also sees 2.8% U.S. GDP growth in 2014, supported by the expectation that total industrial production
will grow 3.5% in 2014 from 2.7% in 2013; real nonresidential construction will accelerate to 5% from 1.3%; and real
investment in industrial equipment will rise by 8.3% from 3.3% (see "Industry Economic And Ratings Outlook: U.S.
Capital Goods Credit Quality Largely Stable Amidst Improving Domestic Economic Conditions" published March 26,
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2014).
The fragility of the global economic recovery presents a risk to this view, which could negatively impact S&P 500
industrials earnings and thus the risk perception in the CDS market.
Table 3
U.S. Industrials Sector
Credit
CDS (basis
points)
Change (basis
points) Change (%)
Benchmark
(basis points) CDS ICR OL/CW
NorthropGrumman Corp.
23.80 (3.90) (14.20) 115.60 aa BBB+ Stable
Norfolk SouthernCorp.
22.80 (4.90) (17.80) 115.60 aa BBB+ Stable
Raytheon Co. 22.80 (5.00) (17.90) 92.38 aa A- Stable
InternationalLease FinanceCorp.
189.90 12.80 7.20 200.78 bb BBB- CW negative
Cummins Inc. 34.40 (1.20) (3.40) 73.82 aa A Stable
HoneywellInternational Inc.
22.80 (1.70) (7.00) 73.82 aa A Stable
SouthwestAirlines Co.
66.70 (5.40) (7.50) 200.78 bbb BBB- Stable
Stanley Black &Decker Inc.
60.90 (5.00) (7.60) 73.82 bbb+ A Stable
3M Co. 16.20 (2.00) (11.10) 55.09 aaa AA- Stable
CSX Corp. 25.80 (3.40) (11.60) 115.60 aa- BBB+ Stable
Union PacificCorp.
19.80 (2.80) (12.60) 73.82 aa+ A Stable
Lockheed MartinCorp.
25.80 (4.60) (15.10) 92.38 aa- A- Stable
United ParcelService Inc.
18.70 (3.40) (15.40) 63.77 aa+ A+ Negative
Delta Air LinesInc.
241.00 5.40 2.30 447.63 b+ BB- Stable
JetBlue AirwaysCorporation
335.50 6.40 1.90 599.74 b B Stable
WasteManagementInc.
53.10 0.70 1.40 92.38 bbb+ A- Stable
Danaher Corp. 42.00 0.20 0.50 63.77 a- A+ Stable
GeneralDynamics Corp.
23.80 (0.30) (1.30) 73.82 aa A Stable
Textron Inc. 83.20 (2.50) (2.90) 200.78 bbb BBB- Positive
UnitedTechnologiesCorp.
25.90 (1.30) (4.90) 73.82 aa- A Stable
Eaton Corp. 51.40 (2.80) (5.10) 92.38 bbb+ A- Stable
Ingersoll-RandCo.
45.40 (2.50) (5.30) 144.67 a- BBB Stable
Boeing Co. 35.40 (2.10) (5.50) 73.82 a A Stable
Ryder SystemInc.
63.90 (5.70) (8.20) 144.67 bbb+ BBB Positive
Deere & Co. 29.40 (3.60) (10.80) 73.82 a+ A Stable
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Table 3
U.S. Industrials Sector (cont.)
Emerson ElectricCo.
36.90 (7.10) (16.00) 73.82 a A Stable
Masco Corp. 156.20 25.40 19.40 200.78 bb+ BBB- Positive
Pitney BowesInc.
117.60 2.90 2.50 144.67 bb+ BBB Stable
RepublicServices Inc.
47.40 0.00 0.00 115.60 a- BBB+ Stable
Dover Corp. 46.70 (1.60) (3.20) 73.82 a- A Stable
Ingersoll-RandCo. Ltd.
89.40 (5.70) (6.00) 144.67 bbb- BBB Stable
Illinois ToolWorks Inc.
31.40 (4.10) (11.40) 63.77 a+ A+ Stable
Caterpillar Inc. 39.90 (15.60) (28.10) 73.82 a A Stable
CDS--Credit default swap. ICR--Issuer credit rating. OL/CW--Outlook/Creditwatch. Source: S&P Capital IQ.
Lisa Sanders, Director—Global Markets Intelligence, [email protected]
Capital Market Commentary:
IPOs
The pace of IPO underwriting activity cooled lately, as evidenced by the fact that weekly proceeds in underwriting volume
came in under $1 billion the past two weeks after four consecutive weeks where weekly IPO deal volume topped the $1
billion mark. Following this development, the Global Markets Intelligence research unit found generally restrained
performance in regard to recent IPOs. First, while nearly 33% of the 98 IPOs so far this year have gained 10% or more
from their offer price, about 20% declined 10% or more. Also, four of the top 10 IPOs brought to market this year are
trading below their offer price. This group includes the two largest issues: a $2.8 billion IPO by Ally Financial Inc. and
Santander Consumer USA Holdings Inc.'s $1.8 billion issue. On the other end of the spectrum, the 10 smallest IPOs
brought to market this year have seen an average loss of almost 9% from their offer price. Featured below are the leading
and lagging IPOs.
Table 4
2014 IPO Leaders Year-To-Date
Effective date Issuer
Total transaction
value (mil. $) Price per share ($)
Latest day close
price ($) Change (%)
2/4/2014 Revance TherapeuticsInc.
96.00 16.00 34.33 114.60
2/4/2014 AuspexPharmaceuticals Inc.
84.00 12.00 23.38 94.80
3/27/2014 Energous Corp. 24.00 6.00 11.39 89.80
4/10/2014 Zoe's Kitchen Inc. 87.50 15.00 27.83 85.50
1/30/2014 UltragenyxPharmaceutical Inc.
121.00 21.00 35.25 67.90
1/9/2014 GlycoMimetics Inc. 56.00 8.00 13.26 65.80
1/30/2014 Malibu Boats Inc. 100.00 14.00 21.92 56.60
2/4/2014 Genocea BiosciencesInc.
66.00 12.00 17.96 49.70
1/23/2014 Rice Energy Inc. 924.00 21.00 30.87 47.00
1/29/2014 Celladon Corp. 44.00 8.00 11.60 45.00
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Table 4
2014 IPO Leaders Year-To-Date (cont.)
Source: S&P Capital IQ.
Table 5
2014 IPO Laggards Year-To-Date
Effective date Issuer
Total transaction
value (mil. $) Price per share ($)
Latest day close
price ($) Change (%)
2/4/2014 Biocept Inc. 19.00 10.00 4.72 (52.80)
2/10/2014 NephroGenex Inc. 37.20 12.00 6.63 (44.80)
2/12/2014 ConcertPharmaceuticals Inc.
84.00 14.00 8.90 (36.40)
2/4/2014 uniQure N.V. 91.80 17.00 11.00 (35.30)
3/12/2014 GalmedPharmaceuticals Ltd.
38.30 13.50 9.00 (33.30)
2/11/2014 Eagle PharmaceuticalsInc.
50.25 15.00 10.23 (31.80)
1/16/2014 CHC Group Ltd. 310.00 10.00 6.85 (31.50)
2/20/2014 Semler Scientific Inc. 10.01 7.00 5.01 (28.40)
3/19/2014 MediWound Ltd. 70.00 14.00 10.10 (27.90)
2/26/2014 Lumenis Ltd. 75.00 12.00 8.83 (26.40)
Source: S&P Capital IQ.
M&A
With accelerating announced merger and acquisition (M&A) activity positioning deal proceeds to reach their best levels
since 2007 and buyers eagerly pursuing targets, GMI is interested in discovering trends among canceled deals. It would
seem reasonable to assume that as more deals are announced, more deals will ultimately be canceled. After searching the
S&P Capital IQ database, GMI found that the canceled deal count has been relatively small from the year-to-date periods
between 2007 and 2013. However, there has been a sharp decrease in the number of deals that have been canceled so far
this year (this includes any deals canceled between Jan. 1, 2014, and April 28, 2014, regardless of their announcement
date), as just 113 deals have been pulled to date.
Similarly, the volume of canceled U.S. M&A deals stands at less than $22 billion, compared with $33 billion in canceled
deal volume at this time a year ago. Among notable cancellations include Liberty Media Corp.'s cancellation last month of
its proposed $10.4 billion acquisition of a remaining stake in Sirius XM Holdings Inc. Also, on Jan. 7, 2014, Dish
Network Corp. terminated its previously announced acquisition of substantially all of the assets of LightSquared LP for
$2.2 billion. Those two transactions accounted for about 58% of the $21.8 billion in U.S. M&A deals canceled so far this
year.
Table 6
Canceled U.S M&A Transactions
Cancellation Dates Total deal value (bil. $) Number of deals
1/1/2007 - 4/28/2007 119.1 226
1/1/2008 - 4/28/2008 52.7 250
1/1/2009 - 4/28/2009 23.1 271
1/1/2010 - 4/28/2010 27.1 234
1/1/2011 - 4/28/2011 43.2 259
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Table 6
Canceled U.S M&A Transactions (cont.)
1/1/2012 - 4/28/2012 53.0 213
1/1/2013 - 4/28/2013 33.0 214
1/1/2014 - 4/28/2014 21.8 113
Source: S&P Capital IQ.
Debt
The recent weekly count of debt-related security identifier demand, based upon information provided by CUSIP Global
Services, revealed a generally positive tone upon first impression, as week-over-week CUSIP demand in several debt asset
classes rose by 15%. Of the six categories profiled, three--domestic corporate debt, municipals, and PPN domestic
debt--saw increases in identifier orders, while the remaining three categories--short-term and long-term municipal notes
and international debt--saw declines. Despite the recent advance, our review of selected debt category CUSIP requests for
2014 to date reveals a double-digit percentage drop led by reduced identifier orders in the field of municipal debt and
long-term municipal notes.
Table 7
Selected Debt CUSIP Requests
Security
Week ending
4/25/14
Week ending
4/18/14 2014* 2013*
Year-over-year
change (%)
Domestic corporatedebt
80 69 3234 3506 (7.76)
Municipals 238 210 1581 2214 (28.59)
Long-term municipalnotes
16 20 324 336 (3.57)
Short-term municipalnotes
6 9 137 158 (13.29)
International debt 48 49 832 769 8.19
PPN domestic debt 46 20 712 762 (6.56)
Total 434 377 6820 7745 (11.94)
*Year-to-date. Source: Cusip Global Services.
Contact Information: Rich Peterson, Director—Global Markets Intelligence, [email protected]
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