David Moenning's Daily State of the Markets: 02/26

Sub-Prime Decline

Good Monday morning and welcome back to the game. Worries over potential for the trouble in the sub-prime mortgage market to spread into higher quality lenders sank stock prices on Friday. Although there is little evidence to support the theory, the bears were able to gain a foothold with the idea and attacked financials across the board.

While there was hardly blood in the streets, the high-flying brokerage firms were a major target of selling as it was reported that earnings could take a hit of anywhere from 2% to 5% as a result of defaults on bad mortgage loans.

Barron’s helped to put this issue in perspective with a solid article which showed that sub-prime mortgages make up 20% of the $1.3 Trillion mortgage securities market. Banc of America analyst John McDonald reports that any damage to the big banks and brokerage firms should be well contained. For example, McDonald said that the big brokerage firms don’t hold sub-prime loans. Brokerage analysts predict that a worst-case scenario would see earnings fall by 5% at Bear Stearns (BSC), 4% at Lehman Brothers (LEH), and 2% at Goldman Sachs (GS), Morgan Stanley (MS), and Merrill Lynch (MER).

So, while this issue hardly would seem to qualify as a debacle, it did give the bears a chance to do some long overdue selling on Friday. The bears were also helped along by the fact that oil made a fresh new contract high on an intraday basis and Vice President Dick Cheney made some noise about military action in Iran.

But despite the negative impetus, the best the grizzly gang could do was a drop of 39 points on the Dow on Friday as all the other major indices fell by a lesser amount. And to put the level of success the market has enjoyed recently into perspective, the three day decline drop in the Dow, which has totaled 139 points so far, produced the worst week in more than 6 months.

Looking at the week ahead, unlike last week, investors will get a good deal of guidance from the economic calendar this week:

Tuesday: Durable Goods, Richmond Fed Index, Consumer Confidence, and Existing Home Sales

Wednesday: Q4 GDP, Chicago Purchasing Mangers Index, New Home Sales

Thursday: ISM Manufacturing, Construction Spending

Friday: University of Michigan Consumer Sentiment

And with all the focus on the mortgage market right now, it’s a pretty safe bet that all reports related to housing will take on added importance this week.

Turning to this morning, there is no economic data to review before the bell but we’ve got a total of six new M&A deals to review and a couple more churning in the rumor mill.

Running through the pre-game indicators, with the exception of Hong Kong, the rest of the major overseas markets are higher this morning. Gold futures are trading higher by $1.20 this morning to $687.90 right now. In the oil pits, crude futures are up another $0.26 this morning on worries over what will happen with the Iran mess and the latest quote is at $61.40. Interest rates are lower this morning on the flight to quality and the yield on the 10-year is currently trading at 4.65%. And finally, with an hour before the bell, stock futures in the U.S. are looking to open higher. The Dow futures are currently ahead by about 50 points; the S&P’s are about 4.50 above board, while the NASDAQ looks to be about 9 points above fair value at the moment.

Stocks “In Play” This Morning:

Dow Chemical (NYSE: DOW) – Reportedly the target of Private Equity buyout
TXU Corp (NYSE: TXU) – Being acquired by KKR and Texas Pacific Corp
XM Satellite Radio (Nasdaq: XMSR) – Reported <$0.60> vs. <$72>
CSX Corp (NYSE: CSX) – Estimates reduced at Bear Stearns, Also CNI, NSC, CP
Merck (NYSE: MRK) – Upgraded at Citigroup
Reliant Energy (NYSE: RRI) – Target raised at Deutsche Bank in response to TXU buyout
NRG Energy (NYSE: NRG) – Target raised at Deutsche Bank in response to TXU buyout
Coca Cola (NYSE: KO) – Upgraded at Deutsche Bank
National Semiconductor (NYSE: NSM) – Upgraded at Friedman Billings, Raymond James
Red Hat Inc (NYSE: RHT) – Upgraded at Goldman Sachs
Kellogg (NYSE: K) – Target increased at Lehman
New York Times (NYSE: NYT) – Downgraded at Lehman
Allianz (NYSE: AZ) – Upgraded at Merrill Lynch
St. Jude Medical (NYSE: STJ) – Upgraded at Prudential
Caremark Rx (NYSE: CMX) – Downgraded at Raymond James
Research in Motion (Nasdaq: RIMM) – Upgraded at RBC Capital
Oracle (Nasdaq: ORCL) – Added to Focus List at Cowen

Mr. Moenning holds Long positions in stocks mentioned: LEH, MS, BSC, MER, GS, RRI

Note: All earnings reports compared to Reuter’s consensus estimates

** For More of David Moenning’s Market Analysis, Stock Portfolios, and Trading Ideas, visit: www.TopGunsTrading.com

The opinions and forecasts expressed are those of David Moenning, President of Heritage Capital Management and Co-Founder of TopGunsTrading.com and may not actually come to pass. Mr. Moenning’s opinions and viewpoints regarding the future of the markets should not be construed as recommendations of any specific security or Heritage Capital program. No part of this material is intended as an investment recommendation. Neither the information nor any opinion expressed constitutes a solicitation to purchase or sell securities or any of HCM’s programs. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that investment objectives outlined will actually come to pass. Investors should consult an Investment Professional before investing in any investment program. Neither Mr. Moenning or Heritage Capital Management nor any of their employees shall have any liability for any loss sustained by anyone who has relied on the information contained herein. Mr. Moenning and employees of HCM may at times have positions in the securities referred to and may make purchases or sales of these securities while this publication is in circulation. The analysis contained is based on both technical and fundamental research. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.

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