U.S. stocks closed sharply and broadly lower Monday, depressed by investors' ongoing worries about the global economy and financial sector. News of a record loss from American International Group (AIG) and downbeat comments from investing icon Warren Buffett sparked the latest round of selling.
Monday's slump sent the Dow Jones industrial average below the 7,000 level for the first time since 1997. Other key market indexes were at multi-year lows as well, with the S&P 500 index barely holding above the 700 level.
On Monday, the 30-stock Dow Jones industrial average lost 299.64 points, or 4.24%, to 6,763.29. The broad S&P 500 index shed 34.27 points, or 4.66%, to 700.82. The tech-heavy Nasdaq composite index was lower by 54.99 points, or 3.99%, at 1,322.85. Sentiment was overwhelmingly negative, with 29 stocks lower in price on the New York Stock Exchange for every two that gained. Nasdaq was breadth was 24-3 negative.
Treasuries were higher, as was the dollar index, on flight to safety buying. Gold futures fell. Crude oil futures slumped on demand worries.
The seemingly unending stream of bad news from the financial sector continued Monday. This time, it was word that American International Group (AIG) posted the largest loss in U.S. corporate history -- red ink amounting to $61.7 billion -- and will receive $30 billion in government aid.
Meanwhile, legendary investor Buffett said the U.S. economy is in a "shambles"; his Berkshire Hathaway (BRKA) operating company posted a huge fourth-quarter loss.
The deepening recession and Buffett's comments on the economy "lead S&P to believe [the] bear market has a way to go," according to a note on S&P MarketScope.
Richmond Fed President Lacker Monday questioned the efficacy of government lending programs, and especially the use of the Fed's balance sheet, amid the recession and credit crisis. He said he believes the Fed should focus on monetary policy and separate that from credit policy, and thus should transferring the authority for most government lending to the Treasury. That would help the Fed's independence, and would also help Congress legislate a framework for a government safety net, he said.
Boston Fed President Rosengren said troubled assets should be removed from balance sheets as soon as possible, as banks holding them on their books focus on avoiding further losses, which depletes capital. He also warned that governments are not the best managers of bad assets and says that we need to make banking problems less pro-cyclical, potentially modifying policies related to loan loss reserves.
Investors paid little heed Monday to some better than expected economic reports: January personal income rose 0.4%; personal consumption surprisingly rose 0.6%; the nation's savings rate rose 5.0%; and the ISM manufacturing index rose to 35.8 from 35.6. February construction spending fell by a more than expected 3.3% to a five-year low.
American International Group, the insurer deemed too important to fail, will get as much as $30 billion in new government capital in a revised bailout after posting a record $61.7 billion fourth-quarter loss, Bloomberg reported. The loss widened from $5.29 billion in the year-earlier period, the New York-based insurer said in a statement. The government will also exchange its $40 billion in preferred stock for new shares that "resemble common equity," the Treasury and Federal Reserve said. AIG was paying a 10% dividend on the preferred stock.
In addition to providing up to $30 billion in additional capital to AIG in return for preferred stock, the Treasury said it would convert its existing $40 billion of preferred shares into new preferred shares that more closely resemble
common stock. The Wall Street Journal said under the new terms, the Treasury is to get a 77.9% equity interest via preferred stock.
"The company continues to face significant challenges, driven by the rapid deterioration in certain financial markets". The additional resources will help stabilize the company, and in doing so help to stabilize the financial system," the Treasury and Federal Reserve said in a statement. The steps by the Treasury will be coupled with changes to the Fed's existing $60 billion resolving credit facility for AIG. The Fed and the New York Fed plan to take up to a $26 billion preferred interest in two AIG life insurance subsidiaries -- American Life Insurance and American International Assurance -- as well as make $8.5 billion in new loans to benefit the domestic life insurance subsidiaries of AIG. In addition, the interest rate on the existing credit facility will be modified to reduce the existing floor. The Fed and Treasury said steps are meant to provide "tangible evidence" of the government's commitment to an orderly restructuring of AIG, and that the cost of not helping the company was judged to be too high.
Berkshire Hathaway's fourth-quarter net income fell 96% to $117 million. Book value per share, a measure of assets minus liabilities, slipped 9.6% for all of 2008, the worst performance under Buffett's watch, on the declining value of derivatives and the stock portfolio. Berkshire shares have plunged 44% in the 12 months through Feb. 27.
"We enjoy such price declines if we have funds available to increase our positions," Buffett wrote. "Whether we're talking about socks or stocks, I like buying quality merchandise when it is marked down."
Bloomberg reports Buffett said the economy will be "in shambles" this year, and perhaps longer, before recovering from the reckless lending that caused the worst "freefall" he ever saw in the financial system. The economy and stocks will rebound, and the best days for the U.S. are ahead, said Buffett in his annual letter to shareholders.
"Though the path has not been smooth, our economic system has worked extraordinarily well over time. It has unleashed human potential as no other system has, and it will continue to do so," wrote Buffett.
HSBC Holdings (HBC) posted 2008 reported pre-tax profit of $9.3 billion, down 62%. The company posted reported EPS of $0.47, which is down 72%. HSBC said loan impairment charges and other credit risk provisions were $24.937 billion. The company announced a 5-for-12 rights issue at GBP2.54/share, strengthening core equity tier 1 ratio to 8.5% and tier 1 ratio to 9.8% (pro forma basis as at December 31, 2008). HSBC said its January performance has been better than expected, but the full-year 2009 outcome is extremely difficult to predict.
Shares of Dish Network Corp. (DISH) tumbled Monday after the company posted $0.48 vs. $0.39 fourth-quarter EPS on a 1% revenue rise. Dish's current EPS missed its estimate by $0.03, according to S&P.
PNC Financial Services (PNC) shares fell after the company announced that its board will reduce its quarterly common stock dividend from $0.66 to $0.10 per share. The company said extreme market deterioration and the changing regulatory environment drove this "difficult but prudent" decision.
Leucadia National (LUK) shares slumped after the company posts an $11.00 2008 loss per share vs. $2.10 EPS. The company said a major portion of the 2008 loss resulted from a charge to income tax expense of $1.6721 billion and an increase to the deferred tax valuation allowance to reserve for substantially all of the company's net deferred tax asset (which includes its net operating loss carryforwards).
In economic news Monday, U.S. construction spending dropped 3.3% in January after a revised -2.4% in December (was -1.4%). This is worse than expected and is a fourth straight monthly decline. Residential construction dropped 2.8% after a 4.4% decline in December (revised from -3.2%), while non-residential declined 3.5% following a 1.5% drop in December (revised from -0.6%). The hit to the non-residential sector is a growing concern in the markets, notes Action Economics. Private construction spending fell 3.7% while public spending declined 2.3%.
The U.S. ISM manufacturing index edged up to 35.8 in February after rebounding over 2 points to 35.6 in January. However, the index has been below the 50 expansion/contraction mark for a full year now. The components of the index were mixed. The employment index declined to 26.1 from 29.9. New orders were steady at 33.1 versus 33.2 previously; December's 23.1 print was a record low. Imports fell to 32.0 from 36.5. Prices paid were unchanged at 29.0.
U.S. personal income rebounded 0.4% in January, while consumption rose 0.6%, both much better than expected. The income data were boosted by some special factors, including cost of living adjustments. December's data were not revised with a 0.2% decline in income and a 1.0% drop in spending. Wages and salaries declined 0.2% in January, while disposable income jumped 1.7%. The savings rate is up 5.0%, the highest since 1995. The PCE deflator rose 0.2% on the month after a 0.5% December decline, breaking a string of three consecutive monthly declines. The core rate edged up 0.1% pace on the month, versus a flat reading in December.
"The data are a welcome surprise for the beleaguered stock market, but could limit further gains in Treasuries," says Action Economics.
European Union leaders have ruled out a multi-billion dollar rescue plan for Eastern Europe in the face of the global economic crisis, despite warnings from Hungary that the rejection could lead to an economic "iron curtain" across the continent. The announcement followed an emergency EU summit on Sunday at which officials debated ways to tackle Europe's biggest financial crisis in generations.