**05/10/10 - 8.05am - by James Gerrish**
US stocks dropped overnight after a number of brokers cut forecasts for some big names ahead of the reporting season which unofficially kicks off with Alcoa on October 7. Microsoft was down after Goldman Sachs moved the stock to neutral from buy while Alcoa was put on Deutsche's short term sell list.
The DOW JONES lost -78 points or -0.72% to close at 10751. The FTSE 100 fell -36 points or -0.66% to close at 5555. Locally the SPI Futures contract was pricing a drop of -24 points.
In economic data we saw a slightly bigger than expected drop (-0.5 against forecast of -0.4) in American factory orders. Offsetting this (to some extent) was data on the housing market that showed sales of existing home rose 4.3% for the month - backing up a solid result in August which gives some indication that the US housing market may be stabilising.
This supports our view that data out of the US will be lumpy but overall we'll see an improving bias which show flow through to the market. If we don't see this continual improvement in US data, the Fed has already flagged its intentions for QE2 (Quantitative Easing round 2) where it will buy assets to improve liquidity and confidence in the financial markets. If we look at particular asset classes, the market is already pricing in some form of further stimulus out of the States.
The drop in the US Dollar is telling us that the Government is likely to continue printing money. This is also evident in the Treasury market where yields remain depressed on the back of Government demand. Generally, when we see a stock market rally funds are reallocated out of Bonds into Equities but this hasn't really been the case in the last few weeks.
We're also seeing continued support for Gold and other base metals - particularly Copper which has been buoyed by physical demand from emerging markets, a tight outlook for supply and the desire of investors to buy assets as a hedge against the depreciating USD.
As I've written in many notes, I think we'll see weakness in the greenback for many months and potentially years to come and this is obviously supportive of a high Australian Dollar. It does get me a little concerned when we start hearing segments on the 6 O’clock news about the Aussie Dollar as such main stream coverage has often been a good indicator of a market top but in this case, the drivers behind the Aussie and above the Greenback should see us retest the historical high of 98.15c quite soon.
In an environment of a strong Aussie dollar, importers are set to benefit. The most obvious group here are the retailers however the likelihood of further rate rises will spoil the party for some of them. The ones to focus on are names like JB Hi-Fi (JBH) who are insulated to some extent by implementing an aggressive store roll out program making them less exposed to the economic cycle. They also have a business model that allows them to return unsold stock which reduces the need for aggressive price cutting to move merchandise. Another retailer to employ the same strategy is David Jones (DJS).
The RBA make a decision on interest rates at 2.30pm today. The Futures market is pricing in a 73% chance of another hike of 0.25% - taking the official rate to 4.75%. If we don't see a rise today, the odds of a November hike would become unbackable. If we do see a hike, then another rise in December will be on the table.
By James Gerrish
