February 11, 2008

Wall St on defensive as AIG adds to gloom

US stocks were mixed on Monday as worries about increased credit losses at American International Group (NYSE:AIG) added to fears that US companies face further credit-related turmoil.

Financial companies beat a retreat amid concerns writedowns linked to structured credit products and derivatives are set to rise, delivering a further blow to corporate earnings

However, technology stocks traded mostly to the upside after Yahoo officially rejected Microsoft's bid, setting the stage for a protracted takeover battle.

At midday the S&P 500 was up 0.1 per cent at 1,32.66, the Nasdaq Composite rose 0.2 per cent to 2,310.26 but the Dow Jones Industrial Average declined 0.1 per cent to 12,168.80.

"It seemed like things were going well and then AIG comes out and reminds everyone of the continuing problems in credit markets and the financials," Ryan Detrick, senior technical strategist at Schaeffer's Investment Research said.

AIG shares slumped 11.2 per cent to $45.01, their lowest in almost five years, after the insurer's auditors found "material weakness" in the reporting of fair valuation of its credit insurance portfolio.

Using an updated valuation model AIG said that the gross cumulative decline in the value last year of credit-default-swaps related to its multi-sector collateralised debt obligations was around $6bn as of November 30. Adjusted for the benefit of net cash flow diversions, the decline was $5.2bn, compared to a previously reported $1.6bn. AIG said it was still collecting data so it could update the current value of its portfolio.

Standard & Poors Equity Research cut its recommendation from "buy" to "sell" as Fitch Ratings put the insurer on watch for possible downgrade.

A broad range of financial stocks came under pressure as risk indicators pointed to elevated tension in credit markets amid continued speculation that structured credit products were being unwound.

The S&P financial index fell 8.6 per cent last week, its biggest decline since the aftermath of the September 11 attacks, as fears grew that corporate and commercial property defaults are set to rise. Investors were gripped by worries that the market for leveraged loans - used to finance Wall Street dealmaking - is also showing signs of stress.

Bank of America Securities on Monday cut first quarter earnings estimates on US brokers because of weakness in fixed income, equity trading and additional markdowns on commercial mortgage-backed securities and leveraged loans. Lehman Brothers was among the leading fallers, down 1.4 per cent at $59.19.

Peer Steinbrück, German finance minister, warned this weekend that writedowns linked to the US subprime-related securities could reach $400bn, sharply higher than the approximately $120bn losses already booked by Wall Street banks and other institutions.

Dow Jones on Monday announced changes to its benchmark Dow Jones Industrial Average, removing Altria and Honeywell and replacing them with Bank of America and Chevron.

The changes were the first since April 2004 and are set to apply from February 19. Honeywell, an industrial conglomerate, fell 1.3 per cent to $57.11 and Altria, which is in the process of spinning-off its international tobacco business, fell 0.3 per cent to $72.85.

Dow Jones said the substitutions were made to reflect the growing importance of oil and gas to the global economy, while financials were also under-represented.

In dealmaking news Yahoo's board on Monday rejected Microsoft's $31-a-share offer as inadequate, threatening to trigger a drawn out takeover battle. The software giant is now preparing to target Yahoo's shareholders directly, the FT reported. Yahoo's shares rose 1.1 per cent to $29.53 while Microsoft fell 2 per cent to $28 after RBC Capital Markets slashed its price target from $40 to $31.

Meanwhile, Motorola and Nortel Networks are in discussions about a possible merger of their wireless-infrastructure units, The Wall Street Journal reported. The shares rose 2.2 per cent to $11.51 and 0.5 per cent to $11.13 respectively.

Apple rose 2.2 per cent to $128.21 on Monday after Citi Investment Research added the company to a list of preferred stocks on valuation grounds following a recent fall in the share price.

This week is a relatively quiet period for economic data and corporate earnings. Retail sales and business inventory data are due on Wednesday, initial jobless claims on Thursday with import and export prices set to round off the week on Friday. Federal Reserve chairman Ben Bernanke gives testimony before the Senate Banking Committee on Thursday.

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