U.S. Review

Ghouls, Hobgoblins and Global Turmoil

  • This week's scary headlines helped stoke financial market volatility and raise fears about the economic growth and reawaken concerns about deflation.

  • Economic reports were generally mixed this week, with weaker reports on retail sales, producer prices and business inventories but stronger reports on industrial production and weekly first-time unemployment claims.

  • Housing starts came in close to expectations in September, with starts climbing 6.3 percent. Builder sentiment slipped in October, however, falling 5 points to as still solid 54.

October Is Often A Scary Month

Ghouls and hobgoblins seem to have a knack for taking control over the financial markets in October. The month marked some of the darkest days of the Financial Crisis and also captured many of the worst days on record for the major stock market averages, including Black Monday on October 19, 1987 and Black Tuesday, October 29, 1929, which culminated the two-day sell-off that ushered in the Great Depression. The 1929 sell off also included a Black Thursday and a Black Friday. Wednesday morning started out like we would finally complete the set, with the Dow briefly falling 430 points and the 10-year Treasury bond briefly tumbling 33 basis points to yield just 1.86 percent. Fortunately, the stock market caught its senses somewhat and finished the day down just 173 points and bond yields bounced back up to 2.14 percent.

This past week’s volatility appears to have been rooted in concerns about the global economy, which were nudged along by the news flow on the Ebola outbreak, tumbling commodity prices, and some softer economic news here in the U.S. The later of these is probably the least consequential. Retail sales slipped 0.3 percent in September, following a 0.6 percent rise the previous month. September’s drop was not unexpected. Gasoline prices have plummeted in recent weeks and sales at gasoline stations tumbled 0.8 percent during the month. Spending also fell for many other categories, however, including clothing, -1.1 percent, building materials, -1.1 percent and non-store retailers (or online shopping), which also fell 1.1 percent.

Even with the drop in September retail sales, consumer spending appears to have risen solidly during the third quarter and real GDP still seems set to rise at around a 3 percent pace for the quarter. The weaker end to the third quarter may make it a little tougher for spending to hold up later this year, however, particularly if consumer confidence takes a hit from the recent market volatility and Ebola scare.

Producer prices also came in below expectations, with the headline PPI falling 0.1 percent in September and core index unchanged for the month. The unexpected drop brought the yearto- year change in the PPI for Final Demand back down to 1.6 percent. Price increases moderated further back in the production pipeline as well and look like they will moderate further. Commodity prices continue to tumble, with the slide in oil prices taking center stage this week. Prices for West Texas Intermediate crude have fallen about $10 barrel over the past two weeks and ended this week just under $85 a barrel. Given the recent downgrade in the economic outlook from the International Monetary Fund, deflation concerns have once again cropped up.

Although falling gasoline prices are good news for consumers, they are bad news for producers. Energy producing states have accounted for about 30 percent of U.S. GDP growth over the past three years, as the U.S. has regained its position as a leading world energy producer. If prices were to fall further, some highercost production might be shut in. In this event, the negative drag from production cuts would likely precede any positive impact from lower gasoline prices, which would only gradually accrue.


Global Review

Weak Production and Soft Inflation in the Eurozone

  • Eurozone industrial production dropped 1.8 percent in August. It tied the month of September 2012 for the largest one-month drop in output since the height of the global recession in early 2009.

  • September CPI inflation figures for the Eurozone showed anemic price growth, and the CPI numbers for a number of Eurozone member states slipped into deflation territory.

  • Weak economic growth and the risk of deflation have rattled European credit markets and caused sovereign bond yields in peripheral Europe to spike.

In recent weeks, economic data for the Eurozone economy have been broadly disappointing. It began with the manufacturing PMI, which fell to 50.3 in September—just barely in expansion territory, and then last week we learned that German industrial production fell 4.0 percent in the month of August. The drop in German factory output was the largest one-month decline in five years.

Against this somewhat gloomy backdrop in Europe, it was not surprising that consensus expectations were braced for disappointment as this week’s release of August industrial production figures approached. The actual outturn was worse than expected.

Eurozone industrial production fell 1.8 percent in August, a bit more than the 1.6 percent decline that had been expected and matches a September 2012 decline for the largest one-month drop since the height of the global slowdown in 2009. On a yearover- year basis, output is now down 1.9 percent for the Eurozone as a whole. The yield on the 10-year German bund hit a new record low in the minutes following the release and headed lower still later in the week.

We also received final estimates for September CPI inflation data from the Eurozone this week. The year-over-year rate came in at just 0.4 percent. With its main refinancing rate at 0.05 percent and its deposit rate in negative territory, the ECB has been unsuccessful in steering inflation expectations higher. It may be premature to judge the whether the TLTRO lending facility will succeed in boosting bank lending and stoking inflation. Policymakers may have taken some consolation that the yearover- year core CPI measure climbed slightly to 0.8 percent from the initial estimate of 0.7 percent. With inflation so close to zero, it is a game of inches and even a slight upward revision such as this counts.

More troubling for the Eurozone is that the ghost of the sovereign debt crisis has never been fully exorcised. Although German Bund yields fell to record lows this week, peripheral bond yields climbed higher resulting in the largest spreads between peripheral European bonds and German Bunds in at least a year. The selloff in peripheral bonds comes as Eurostat figures revealed that Greece, Spain and Italy (among others) were all in deflation territory in September.

At its scheduled meeting earlier this month the ECB described the framework by which it will eventually begin an asset-backed security purchase program and covered bond purchase program. So far, there have been no specific details in terms of the size and scope of the plan once it is eventually implemented.

Formal communication from the ECB suggested that the program will begin by the end of the month, but financial market instability this week and outright deflation manifesting itself in a number of Eurozone member states increases pressure on the ECB to engage in a large-scale program on sovereign bond purchases (a.k.a. quantitative easing) sooner rather than later.

Recently, the stock market has experienced high levels of volatility. If you are thinking about participating in fast moving markets, please take the time to read the information below. Wells Fargo Investments, LLC will not be restricting trading on fast moving securities, but you should understand that there can be significant additional risks to trading in a fast market. We've tried to outline the issues so you can better understand the potential risks. If you're unsure about the risks of a fast market and how they may affect a particular trade you've considering, you may want to place your trade through a phone agent at 1-800-TRADERS. The agent can explain the difference between market and limit orders and answer any questions you may have about trading in volatile markets. Higher Margin Maintenance Requirements on Volatile Issues The wide swings in intra-day trading have also necessitated higher margin maintenance requirements for certain stocks, specifically Internet, e-commerce and high-tech issues. Due to their high volatility, some of these stocks will have an initial and a maintenance requirement of up to 70%. Stocks are added to this list daily based on market conditions. Please call 1-800-TRADERS to check whether a particular stock has a higher margin maintenance requirement. Please note: this higher margin requirement applies to both new purchases and current holdings. A change in the margin requirement for a current holding may result in a margin maintenance call on your account. Fast Markets A fast market is characterized by heavy trading and highly volatile prices. These markets are often the result of an imbalance of trade orders, for example: all "buys" and no "sells." Many kinds of events can trigger a fast market, for example a highly anticipated Initial Public Offering (IPO), an important company news announcement or an analyst recommendation. Remember, fast market conditions can affect your trades regardless of whether they are placed with an agent, over the internet or on a touch tone telephone system. In Fast Markets service response and account access times may vary due to market conditions, systems performance, and other factors. Potential Risks in a Fast Market "Real-time" Price Quotes May Not be Accurate Prices and trades move so quickly in a fast market that there can be significant price differences between the quotes you receive one moment and the next. Even "real-time quotes" can be far behind what is currently happening in the market. The size of a quote, meaning the number of shares available at a particular price, may change just as quickly. A real-time quote for a fast moving stock may be more indicative of what has already occurred in the market rather than the price you will receive. Your Execution Price and Orders Ahead In a fast market, orders are submitted to market makers and specialists at such a rapid pace, that a backlog builds up which can create significant delays. Market makers may execute orders manually or reduce size guarantees during periods of volatility. When you place a market order, your order is executed on a first-come first-serve basis. This means if there are orders ahead of yours, those orders will be executed first. The execution of orders ahead of yours can significantly affect your execution price. Your submitted market order cannot be changed or cancelled once the stock begins trading. Initial Public Offerings may be Volatile IPOs for some internet, e-commerce and high tech issues may be particularly volatile as they begin to trade in the secondary market. Customers should be aware that market orders for these new public companies are executed at the current market price, not the initial offering price. Market orders are executed fully and promptly, without regard to price and in a fast market this may result in an execution significantly different from the current price quoted for that security. Using a limit order can limit your risk of receiving an unexpected execution price. Large Orders in Fast Markets Large orders are often filled in smaller blocks. An order for 10,000 shares will sometimes be executed in two blocks of 5,000 shares each. In a fast market, when you place an order for 10,000 shares and the real-time market quote indicates there are 15,000 shares at 5, you would expect your order to execute at 5. In a fast market, with a backlog of orders, a real-time quote may not reflect the state of the market at the time your order is received by the market maker or specialist. Once the order is received, it is executed at the best prices available, depending on how many shares are offered at each price. Volatile markets may cause the market maker to reduce the size of guarantees. This could result in your large order being filled in unexpected smaller blocks and at significantly different prices. For example: an order for 10,000 shares could be filled as 2,500 shares at 5 and 7,500 shares at 10, even though you received a real-time quote indicating that 15,000 shares were available at 5. In this example, the market moved significantly from the time the "real-time" market quote was received and when the order was submitted. Online Trading and Duplicate Orders Because fast markets can cause significant delays in the execution of a trade, you may be tempted to cancel and resubmit your order. Please consider these delays before canceling or changing your market order, and then resubmitting it. There is a chance that your order may have already been executed, but due to delays at the exchange, not yet reported. When you cancel or change and then resubmit a market order in a fast market, you run the risk of having duplicate orders executed. Limit Orders Can Limit Risk A limit order establishes a "buy price" at the maximum you're willing to pay, or a "sell price" at the lowest you are willing to receive. Placing limit orders instead of market orders can reduce your risk of receiving an unexpected execution price. A limit order does not guarantee your order will be executed -" however, it does guarantee you will not pay a higher price than you expected. Telephone and Online Access During Volatile Markets During times of high market volatility, customers may experience delays with the Wells Fargo Online Brokerage web site or longer wait times when calling 1-800-TRADERS. It is possible that losses may be suffered due to difficulty in accessing accounts due to high internet traffic or extended wait times to speak to a telephone agent. Freeriding is Prohibited Freeriding is when you buy a security low and sell it high, during the same trading day, but use the proceeds of its sale to pay for the original purchase of the security. There is no prohibition against day trading, however you must avoid freeriding. To avoid freeriding, the funds for the original purchase of the security must come from a source other than the sale of the security. Freeriding violates Regulation T of the Federal Reserve Board concerning the extension of credit by the broker-dealer (Wells Fargo Investments, LLC) to its customers. The penalty requires that the customer's account be frozen for 90 days. Stop and Stop Limit Orders A stop is an order that becomes a market order once the security has traded through the stop price chosen. You are guaranteed to get an execution. For example, you place an order to buy at a stop of $50 which is above the current price of $45. If the price of the stock moves to or above the $50 stop price, the order becomes a market order and will execute at the current market price. Your trade will be executed above, below or at the $50 stop price. In a fast market, the execution price could be drastically different than the stop price. A "sell stop" is very similar. You own a stock with a current market price of $70 a share. You place a sell stop at $67. If the stock drops to $67 or less, the trade becomes a market order and your trade will be executed above, below or at the $67 stop price. In a fast market, the execution price could be drastically different than the stop price. A stop limit has two major differences from a stop order. With a stop limit, you are not guaranteed to get an execution. If you do get an execution on your trade, you are guaranteed to get your limit price or better. For example, you place an order to sell stock you own at a stop limit of $67. If the stock drops to $67 or less, the trade becomes a limit order and your trade will only be executed at $67 or better. Glossary All or None (AON) A stipulation of a buy or sell order which instructs the broker to either fill the whole order or don't fill it at all; but in the latter case, don't cancel it, as the broker would if the order were filled or killed. Day Order A buy or sell order that automatically expires if it is not executed during that trading session. Fill or Kill An order placed that must immediately be filled in its entirety or, if this is not possible, totally canceled. Good Til Canceled (GTC) An order to buy or sell which remains in effect until it is either executed or canceled (WellsTrade® accounts have set a limit of 60 days, after which we will automatically cancel the order). Immediate or Cancel An order condition that requires all or part of an order to be executed immediately. The part of the order that cannot be executed immediately is canceled. Limit Order An order to buy or sell a stated quantity of a security at a specified price or at a better price (higher for sales or lower for purchases). Maintenance Call A call from a broker demanding the deposit of cash or marginable securities to satisfy Regulation T requirements and/or the House Maintenance Requirement. This may happen when the customer's margin account balance falls below the minimum requirements due to market fluctuations or other activity. Margin Requirement Minimum amount that a client must deposit in the form of cash or eligible securities in a margin account as spelled out in Regulation T of the Federal Reserve Board. Reg. T requires a minimum of $2,000 or 50% of the purchase price of eligible securities bought on margin or 50% of the proceeds of short sales. Market Makers NASD member firms that buy and sell NASDAQ securities, at prices they display in NASDAQ, for their own account. There are currently over 500 firms that act as NASDAQ Market Makers. One of the major differences between the NASDAQ Stock Market and other major markets in the U.S. is NASDAQ's structure of competing Market Makers. Each Market Maker competes for customer order flow by displaying buy and sell quotations for a guaranteed number of shares. Once an order is received, the Market Maker will immediately purchase for or sell from its own inventory, or seek the other side of the trade until it is executed, often in a matter of seconds. Market Order An order to buy or sell a stated amount of a security at the best price available at the time the order is received in the trading marketplace. Specialists Specialist firms are those securities firms which hold seats on national securities exchanges and are charged with maintaining orderly markets in the securities in which they have exclusive franchises. They buy securities from investors who want to sell and sell when investors want to buy. Stop An order that becomes a market order once the security has traded through the designated stop price. Buy stops are entered above the current ask price. If the price moves to or above the stop price, the order becomes a market order and will be executed at the current market price. This price may be higher or lower than the stop price. Sell stops are entered below the current market price. If the price moves to or below the stop price, the order becomes a market order and will be executed at the current market price. Stop Limit An order that becomes a limit order once the security trades at the designated stop price. A stop limit order instructs a broker to buy or sell at a specific price or better, but only after a given stop price has been reached or passed. It is a combination of a stop order and a limit order. These articles are for information and education purposes only. You will need to evaluate the merits and risks associated with relying on any information provided. Although this article may provide information relating to approaches to investing or types of securities and investments you might buy or sell, Wells Fargo and its affiliates are not providing investment recommendations, advice, or endorsements. Data have been obtained from what are considered to be reliable sources; however, their accuracy, completeness, or reliability cannot be guaranteed. Wells Fargo makes no warranties and bears no liability for your use of this information. The information made available to you is not intended, and should not be construed as legal, tax, or investment advice, or a legal opinion.

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