(Headlines - scroll down for full stories)
1. Is an Interest Rate Cut on the Fed's Christmas List?
2. Global Inventory Glut to Sink Economy?
3. Bank of N.Y. to Buy Mellon for $16.5 Billion
4. OECD: China to Spend $136 Billion on Tech R&D
1. Is an Interest Rate Cut on the Fed's Christmas List?
The tone in the U.S. Treasury debt market has become so extremely bullish that
it flies firmly in the face of commentary from policy-makers themselves at the
Federal Reserve.
On Friday morning last week, the yield on the benchmark 10-year U.S. government
note slumped to 4.40 percent. That's 85 basis points below the current Fed funds
rate of 5.25 percent. Such yield curve inversion only happens when fixed-income
traders believe that the central bank will cut interest rates.
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While the Fed hasn't made an increase since its June meeting, some people
believe that the inflation bogeyman is still lurking and will indeed cause the
Fed to lift the overnight lending rate once again.
The yield curve hasn't been so negatively sloped since the last time the Fed
embarked upon a string of interest rate cuts.
But the market is looking for a holiday gift from the Fed that may simply not be
on the gift list. It was only several days ago that Chairman Bernanke predicted
faster economic growth would resume next year and noted that inflation still
remains "troublesome."
Bloomberg News reports AIG SunAmerica bond manager, Michael Cheah, who
succinctly states, "the bond market is effectively saying the Federal Reserve is
in denial and there's going to be more pain to the economy."
Two investment houses that deal directly with the Fed in the bond markets have
different views, although they seem to be coming together somewhat.
Goldman Sachs Group Inc. has been reading from one side of the economic script
recently and had been predicting that yields would fall to 4.50 percent. Now
they say that's an understatement and that the move, which has taken the 10-year
yield from 5.25 percent in June back down to 4.40 percent, will not stop until
10-year notes yield 4.30 percent.
Meanwhile Lehman Brothers Holdings Inc. has abandoned its view that the Fed will
actually raise rates in 2007.
Downturns in several economic indicators from manufacturing forecasts to
inflation readings have provided bond buyers with a weight of evidence that the
Fed will be forced to start easing rates sometime soon.
Sentiment in the interest rate futures market reached fever pitch last week with
traders reacting to the contraction in manufacturing activity. Traders at one
stage priced in a 100 percent chance that the Fed funds rate would be reduced
to 5 percent by March 2007.
Former Fed governor, Alan Greenspan, was faced with the same inversion of the
yield curve while the Fed was tightening rates. In a speech on Nov. 28, Mr.
Greenspan noted that labor-cost pressures had recently abated, and along with a
drop in global inflationary expectations, was sending bond prices up and yields
down.
He predicted that this wouldn't last and that, "you'll see the 10-year note
going back to civilized territory" as that decline in labor costs slows.
Like Greenspan, Ben Bernanke is learning the tough way that there's a difference
between what the rest of the world hears when the Fed speaks.
Last week the Fed auctioned $20 billion worth of two-year notes of which
56 percent found their way into the coffers of overseas buyers hungry for
still-declining yields. It's good news for the U.S. government, which pays a
lower rate of interest in order to borrow and fund the budget deficit, but those
same yields
are miscommunicating the Fed's message.
An economist at Merrill Lynch, David Rosenberg said last week in a note that
investors should "buy bonds: Even Ben Bernanke's hawkish tone couldn't turn the
tide" against the bond market's rally.
We doubt that there's a rate cut on the Fed's Christmas list and we're not even
sure that the Fed has the measure of the economy yet since they constantly read
the tea-leaves of past data.
One thing is for sure: A wave of global bets on a rate cut is building and
unless the data turns around soon, the Fed will be forced to deliver a rate cut
in the New Year.
Editor's Note:
2. Global Inventory Glut to Sink Economy?
Manufacturers across the globe are getting caught with too much inventory,
forcing layoffs. Bloomberg says the result could be a repeat of what happened in
2001: recession.
Global inventories rose faster than sales last quarter for the first time since
2001, according to economists at UBS AG in London. In the U.S., the Institute
for Supply Management index revealed on Friday that the sector is contracting
for the first time since 2001.
While the "just-in-time" method of manufacturing was supposed to eliminate
bloating inventories, it's not fail-safe. Bloomberg points out that when there
are abrupt and unexpected changes in demand, it can lead to a fast buildup in
inventories.
In 2001, an unexpected slowdown in exports and capital goods spending was the
culprit, leading to a recession nine months later. Today, the U.S. housing slump
and ballooning energy prices have caught manufacturers off guard. Will it lead
to a recession nine months from now?
Well, companies could bite the bullet and clear out inventories quickly.
But according to chief U.S. economist at Deutsche Bank Securities, Joseph
LaVorgna, "The faster companies clear out inventories, the bigger the hit to the
economy. This could ripple through the economy, to jobs and consumer spending."
Or, companies could begin unwinding their inventories by idling workers. But
layoffs are a catch-22, if the employment situation worsens, demand for goods
falls once again. That in turn could result in recession.
Jan Hatzius, chief U.S. economist at Goldman Sachs, and Peter Hooper, chief
economist for Deutsche Bank Securities, have both reduced their growth forecasts
because of the anticipated lower output.
Hatzius points out that manufacturing companies have already reduced payrolls by
39,000 in October. And it's not over. "You're going to get further sizable
declines in manufacturing employment," says Hatzius.
Meanwhile, central bankers, including Fed Chairman Ben Bernanke, believe that
the inventory excess will work itself out. Bernanke sees the economy
strengthening once the housing slowdown and auto industry cutbacks are over.
Bank of Japan Governor Toshihiko Fukui characterized the inventory buildup in
his country "temporary" and wouldn't "restrict" monetary policy. European
Central Bank President Jean-Claude Trichet is signaling another rate hike even
as France's economy is stumbling under the burden of swelling inventories.
Time will tell whether the central bankers or history prove to be right. But it
doesn't hurt to start preparing for the worst.
Editor's Note:
3. Bank of N.Y. to Buy Mellon for $16.5 Billion
Bank of New York Co. has agreed to take over Mellon Financial Corp. in a $16.5
billion all-stock deal that will create the world's largest securities servicing
company and one of the biggest asset managers.
The new company, which will be called Bank of New York Mellon Corp., will be the
world's leading asset service provider with $16.6 trillion in assets under
custody. It also will rank among the top 10 global asset managers with more than
$1.1 trillion in assets under management.
But the companies also said in announcing the deal on Monday that they expect it
will result in the elimination of about 3,900 jobs, or nearly 10 percent of
their combined work force.
They said the job cuts from a combined work force of about 40,000 would occur in
the three years after the deal closes. They said reductions would be made
through normal attrition "wherever possible."
The companies expect to cut costs by about $700 million a year and said the deal
will result in restructuring charges of about $1.3 billion.
The deal has been approved by each company's board of directors, but requires
approval by regulators and shareholders. The companies expect the deal will be
completed in the third quarter of next year.
Bank of New York's shareholders will receive 0.9434 shares in the new company
for each share of Bank of New York that they own, and Mellon shareholders will
receive one share in the new company for each Mellon share they own.
That means Bank of New York shareholders would get about 63 percent of the
shares in the new company.
The deal received support from investors, who sent New York-based Bank of New
York shares up $3.46, or 9.8 percent, to $38.94 in early trading on the New York
Stock Exchange. Shares in Pittsburgh-based Mellon rose $2, or 5 percent, to
$42.05 on the NYSE.
The board of directors will have 10 members designated by Bank of New York and
eight members designated by Mellon. The new company's headquarters will be based
in New York City.
Thomas A. Renyi, chairman and chief executive of Bank of New York, will serve as
executive chairman of Bank of New York Mellon for 18 months following the close
of the deal, with overall responsibility for the integration of the two
companies.
Robert P. Kelly, currently president, chairman and chief executive of Mellon,
will serve as chief executive of the new company and will succeed Renyi as
chairman of the board. Gerald L. Hassell, currently president of Bank of New
York, will hold the same position in the new company.
Bank of New York and Mellon have entered into mutual stock option agreements for
19.9 percent of the issuer's outstanding common stock, the announcement said.
In a conference call with reporters, Renyi termed the deal "a transformational
merger" and noted that it came amid signs of increased consolidation in the
asset management business.
He said the combined company would be the largest securities servicing firm in
the world and among the top four asset managers in the United States.
Kelly said the new company would take advantages of the different strengths of
the two institutions.
"Mellon is huge in asset management and having a nice asset servicing ability as
well," he said. "In contrast, Bank of New York is huge on the asset servicing
side and security servicing but smaller in asset management."
Still, Kelly said, "there will be expense synergies and opportunities for saving
money going forward."
He said that the combined company's cash management and stock transfer
operations would remain in Pittsburgh.
© 2006 Associated Press.
Editor's Note:
4. OECD: China to Spend $136 Billion on Tech R&D
China should surpass Japan this year to become the world's No. 2 investor in
research after the United States as it tries to become a leading creator of
technology, an international economic group said Monday.
China is expected to spend just over $136 billion on R&D in 2006, passing
Japan's forecast $130 billion, the Paris-based Organization for Economic
Cooperation and Development said in a report on world technology trends.
Chinese companies and the government are spending heavily on trying to create
new technologies in areas from telecommunications to biotech and to reduce
reliance on foreign know-how, which communist leaders see as a strategic
weakness.
"The rapid rise of China in both money spent and researchers employed is
stunning," Dirk Pilat, head of the OECD's science and technology division, said
in a statement.
Among other Asian economies, South Korea's research spending ranked seventh
worldwide at about $24 billion, followed closely by India, the OECD report said.
It said Taiwan was in 12th place at $15 billion.
The rise in Chinese spending has been fueled by economic growth that is expected
to top 10 percent this year.
President Hu Jintao and other leaders have called for China to become an
"innovation society," boosting the role of technology in driving growth and
reducing reliance on investment and low-wage industries.
The Cabinet issued an ambitious 15-year plan in February that called for making
innovation the engine of China's growth by pushing development of 11 key areas
ranging from lasers to nuclear power and genetics. It promised to support
private research with tax breaks and improved patent and copyright protection.
China's research and development spending as a percentage of its economic output
has more than doubled to 1.3 percent, up from 0.6 percent in 1995, according to
the 252-page OECD report, "Science, Technology and Industry Outlook." It said
research spending is growing even faster than the overall economy.
Two-thirds of Chinese research spending this year is expected to come from
industry and one-third from the government, the report said. However, that
distinction is blurred in a system where big research spenders are state-owned
companies carrying out official mandates.
The 30-nation OECD includes the United States, Japan and most European Union
members. China is not a member.
The Chinese plan issued last February called for raising total research spending
still further to 2 percent of economic output by 2010 and 2.5 percent by 2020.
"China's plan to become a major innovation economy by 2020 is probably the most
significant (among developing countries) as it will launch a series of reforms
and strategic projects to make research and innovation the motor of its new
economic development strategy," the OECD report said.
It isn't clear, however, how effectively China's research spending is being
used.
In May, the government suffered an embarrassing setback when a researcher at a
leading Shanghai university was revealed to have faked research on a computer
chip that state media had hailed as a major breakthrough.
The number of Chinese researchers has soared by 77 percent over the past decade
to 966,000, ranking second behind the United States' 1.3 million and ahead of
Japan's 677,000, the OECD report said.
Still more Chinese scientists work abroad due to lack of opportunity at home.
Beijing is trying to lure them back by expanding university labs, opening
research parks and offering quick promotions to returning academics.
The nearly 15,000 Chinese scientists in the United States make up the largest
group of foreign researchers there, the OECD report said.
© 2006 Associated Press.
Editor's Note:
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