Stocks End Higher on Inflation Data

A lower than expected increase in consumer prices, strength in retail stocks and an easing of credit conditions pushed equities higher Wednesday

Stocks finished higher Wednesday, though off the session's best levels, with financial, telecom, semiconductor, biotech, and cyclical issues helping lead the way. Investors appeared to be encouraged by a lower-than-expected rise in the consumer price index (CPI) in April and strength in retail stocks, which were pulled up by better than expected earnings from Macy's Inc. (M).

On Wednesday, the Dow Jones industrial average ended 66.20 points, or 0.52%, higher at 12,898.38. The broader S&P 500 index was up 5.62 points, or 0.40%, to finish at 1,408.66. The tech-heavy Nasdaq composite index inched up 1.58 points, or 0.06%, to close at 2,496.70.

On the New York Stock Exchange, 18 stocks advanced in price for every 12 that fell. The ratio on the Nasdaq was 15-14 positive.

Trading was slow, notes S&P MarketScope. Bets are increasing that the Fed will tighten credit in December. The picture could change with Thursday's reports on May Empire State index, Initial Jobless Claims, April Industrial Production and the Philadelphia Fed index, MarketScope says.

Easing inflationary pressures dominated the market talk, but a couple of market professionals saw other forces at work behind the turnaround in investor sentiment, including improved conditions in the credit markets.

Bonds were mixed and volatile after the CPI report. The dollar was higher vs. the euro and pound sterling. Gold was lower. Oil futures were mixed following the Energy Dept.’s weekly U.S. inventory report.

Macy's shares were up after the department store chain posted a drop in income from continuing operations to two cents per share from 11 cents in the first quarter of 2007 on 2.6% lower same-store sales and 2.9% lower total sales. Earnings beat Street estimates, however, and the company reaffirmed its fiscal 2009 outlook of a 1% drop to a 1.5% rise in same-store sales growth and earnings of $1.85-$2.15, excluding one-time division consolidation costs.

Freddie Mac (FRE) reported a wider loss of 66 cents per share in the first quarter, vs. a loss of 35 cents per share a year ago, as the U.S. housing market worsened, though the results weren't as poor as expected. The second-largest buyer and backer of home loans in the U.S. also said it plans to raise $5.5 billion in new capital. But like its bigger cousin, Fannie Mae (FNM), Freddie will benefit from having to keep 15% more capital than required by law on its balance sheet, down from the current 20% mandate, with another five-point cut expected in September, as long as the company stays in good standing with regulators.

There was a 65% surge in U.S. foreclosure filings -- which includes default notice and bank repossessions -- to 243,353 in April from the same month last year, while the number of homeowners who fell behind in mortgage payments was up 4% since March, research company RealtyTrac Inc. said on Wednesday. The growing number of defaults is contributing to a deepening slide in home values.

On the economic data front, the consumer price index rose 0.2% in April, less than the median forecast of 0.3%, and after rising 0.3% in March. The core index -- which excludes food and energy prices -- inched up 0.1%, also below expectations. Helping to rein in the headline number were flat energy prices in April, though food prices jumped 0.9%, their biggest increase in 18 years.

Core inflation was held back by a low reading on shelter costs due to higher utility costs and a drop in prices for lodging away from home, while the overall CPI was held back by a decline in gasoline prices. Gasoline prices are likely to rise sharply in May and the increase in food prices in April suggests that pressures in this area are intensifying, John Ryding, chief U.S. economist at Bear Stearns & Co., said in an email note. With import prices rising sharply and crude oil at $125 per barrel, May’s CPI report is likely to be far less benign than April’s, he predicted.

While some were focused on the better inflation outlook, at least two professionals attributed the rally in equities to evidence that the credit crunch is easing as investors start to take more risk again.

"Money is pouring into corporate treasuries at a record pace these last three weeks," fueling a massive issuance of corporate bonds since the S&P 500 index broke through a key resistance threshold of 1405 in mid April, says Brian Reynolds, chief market strategist at WJB Capital Group of New York. "That money will be put to work by buying back more stock."

The easing of the credit crunch is putting pressure on bearish credit derivative bets, much in the way that a stock market rally forces bearish investors to buy back their short positions, he says. If the optimism in the credit markets continues to build this summer, "we will see more buybacks from non financial companies, and if that continues even longer, it will even lead to some LBOs this fall," he predicts.

One reason for the renewed interest in higher-risk debt is that bond yields have been squeezed so much that it's hard for fixed income portfolio managers to make any money for their clients with the highest-quality bonds, says Bill Larkin, a portfolio manager of fixed income at Cabot Money Management in Salem, Mass.

"People like me are moving down the credit spectrum looking for value and there's a lot of value in triple B’s [rated corporate bonds] right now," says Larkin, who's focusing mostly on the lower-but-still-investment-grade debt of materials companies like Freeport-McMoRan Copper & Gold (FCX). He says he now has to do a little more due diligence on the companies he's looking at, which takes up more time.

Larkin sees the nervousness in the market starting to subside with the Fed funds futures now pricing in a neutral stance on rates by the Fed, recovery in bank loans, and signs of stability in high yield bonds and emerging market debt. He also believes all the stimulus in the economy will have positive results, which is "why I’m looking at taking a little bit more risk," he says.

June WTI crude oil futures, which soared to a record $126.98 high Tuesday, fell $1.86 per barrel to $123.94 following an Energy Dept. report that showed U.S. crude inventories rose by a less than expected 200,000 barrels to 325.8 million barrels. That put inventories are in the middle of the average range for this time of year. June reformulated gasoline futures were down 0.55 cent to 319.45 cents after the report showed gasoline stocks fell 1.7 million barrels to 210.2 million barrels -- in the middle of the average range for this time of year.

Among other stocks in the news Wednesday, Whole Foods Market (WFMI) shares dropped after the company reported second-quarter EPS of 29 cents vs. 32 cents a year ago despite 6.7% higher same-store sales and 28% higher total sales. The company estimates the negative impact on EPS from the Wild Oats acquisition was about six cents per share. It sees fiscal 2008 sales growth, excluding Wild Oats, of 15%-20% and same-store sales growth of 7.5%-9.5%. For the first four weeks of te third quarter, same-store sales growth was 5.7%, down from the second quarter.

Deere & Co.'s (DE) shares fell on second-quarter earnings of $1.74 per share, which fell a penny short of analysts' expectations, vs. $1.36 per share a year ago, on an 18% rise in revenue. The farm equipment maker sees third-quarter net income of $550M-$575M and fiscal 2008 earnings of $2.2 billion. John Deere said that escalating raw-material costs and the availability of various parts and components are expected to have an adverse impact on operations for the rest of this year.

Major European indexes were trading higher Wednesday. In London, the FTSE 100 index was up 0.07% at 6,216.00. In Paris, the CAC 40 index rose 1.13% to 5,055.24, and Germany's DAX index added 0.33% to trade to 7,083.24.

In Asia, Japan's Nikkei 225 gained 1.18% to finish at 14,118.55, while Hong Kong's Hang Seng index slipped 0.08% to 25,533.48.

Treasury market

Treasuries were trading mixed on Wednesday amid lower than expected inflation figures and strength in equities. The 10-year note bounced from earlier weakness to move higher in price to 99-24/32 for a yield of 3.94%, and the 30-year bond climbed to 96-07/32 for a yield of 4.61%.

    Before it's here, it's on the Bloomberg Terminal.