Today's Morning Coffee - No Break for Rates

Broad U.S. indices from the Dow to the S&P 500 and NASDAQ are all down less than a percentage point in morning trading. The key catalyst likely driving the move is the news from China that inflation was higher than expected. After Japan reported strong economic growth yesterday, there is escalating concern that global central banks could continue raising interest rates. As interest rates rise in the U.S., more pressure is expected in the housing sector, and that could drive the consumer softness we are forecasting at The Wall Street Greek. However, it is the rise in rates driving equities lower, as no matter the catalyst behind that rise, an increasing cost of capital impacts all businesses and valuations. The broad market view at this point is that rising rates are due to an improved economic outlook and persistant inflation, which we only half agree with.

Today's Key News Catalysts:


ECONOMIC DATA & ANALYSIS

Weekly Same-Store Sales
The International Council of Shopping Centers reported a weekly rise in same store sales of 1.0%, and a trailing 12 month rate of growth of 2.1%. Growth in May was 2.5%, so there appears to be a clear downtrend surfacing. This reconciles to our theory that consumer spending in the United States will weaken in coming months and send the economy into recession. Remember where you first heard this, because current market weakness is being driven by a completely different view, one of renewed growth. This accentuates or highlights our value add and the clarity of our vision versus that of the broader market. Wall Street Greek remains dedicated to the independent view you find most valuable.

Hyperinflation in China
China reported that inflation rose in May at the fastest pace in over two years. This comes a day after Japan reported a higher revision to first quarter GDP growth. Central banks in Europe and the U.K. have already been hiking rates to tame inflation, and Japan seems likely to continue raising rates now as well. China will likely be no different, as it seeks to contain inflation and speculation in asset acquisition activity.

It appears your favorite Greek is on to something. A quickly developing world is demanding a greater portion of a limited supply of goods and services. Nowhere is this more obvious than within the energy sector. At the same time, industrialization is altering the construct of global contribution, reducing the amount of agricultural production. China expressed great concern that rising food costs are contributing significantly to inflation. China was a net importer of grains until recently, but with more and more farmers migrating to developing industrial centers, it has become a net importer. This is an important development, as demand for food and energy may eventually influence Chinese military activity, in my view. I anticipate the Chinese may some day seek to secure oil reserves, due to necessity, through military force. Remember where you heard that first.

Small Business Confidence
The National Federation of Independent Business reported on the confidence of small businesses today. The Small Business Optimism Index rose to 97.2 in May from 96.8 in April. Confidence also rose generally in May versus April, benefiting from stock market appreciation and better retail activity due to seasonal changes. I wouldn't read too much into this number at this point, but small businesses may be the first to notice consumer softness, as they are less likely to have a clouded view due to international sales. They also have less pricing power to help them shift the weight of inflation to consumers.

COMMODITY MARKETS:

International Energy Agency Disagrees with OPEC
The IEA raised its 2007 oil demand forecast, and again raised the warning flag that OPEC has overdone production restraints. There appears to be a real political game being played between the two organizations, and I believe the U.S. administration is influencing the IEA greatly. The IEA appears to be a pawn, positioning to temper OPEC; not that there's anything wrong with that... Or, maybe it's a case of analysts really looking ahead, as the IEA indicated that capacity increases are not keeping pace with increasing oil demand, an argument I heard often from my old colleague, Tina Vital, who I view as an excellent energy mind. In my time on Wall Street, there was just one analyst of a group of 60 who worked longer hours than I, and that was Tina.

You know my view. Energy demand is increasing globally at a rapid pace, while at the same time the U.S. adds to strategic stockpiles as it prepares for war with Iran. That war could entangle Saudi Arabia, Iraq, Syria, Lebanon, Israel and Kuwait, and that means a serious threat to global supply. I've been neutral oil in the short term, as I anticipate a weaker U.S. economy could swing prices lower before longer term issues come to play. This is a very unique view, since the broad view is for economic recovery. Though the second quarter looks like an upswing for GDP, I anticipate consumer softness will influence quarters to follow.

Brent crude and RBOB gasoline futures are down over 1% a piece today, ahead of tomorrow's Petroleum Status Report. Natural gas is a half of a percentage point higher this morning.

Geopolitical Issues
A perhaps pivotal change has developed in the civil war within the Palestinian territories. The targeting of Hamas' leader, Haniya, through the grenade attack of his home, has tripped a wire and driven him passed his limit. Hamas is now threatening to overrun Fatah Party posts, and has given a two hour warning, which is just running out now. Tune into CNN, as full scale civil war is breaking out, in my opinion.

I believe Israel made a strategic mistake by assisting the Fatah Party openly through the use of its airforce and helicopter units. This is setting up Mahmoud Abbas by presenting him as a pawn of Israel, a view that is not likely to make the somewhat moderate leader a more popular chief in the territories. Israel should have focused on behind the scenes assistance to avoid this. I believe Mahmoud Abbas has been destined for death for some time now, but it appears he may have just days left after the attacks on Haniya's home. If the Haniya attacks were Iranian or al-Qaeda driven, there was some genius in that. Recall the al-Qaeda or Iranian moves in Iraq, attacking important religious centers that were sure to incinerate fury within the two secs of Muslims in the Iraqi house. Who knows, there may even be a third party at play, and that would be Russia, but I think this is unlikely in Palestine. Iraq perhaps, as Putin certainly enjoys pointing out our tangled web there.

International Market Activity

Asia:
Hang Seng Index +0.1%; Shanghai/Shenzhen CSI 300 +2.65%; NIKKEI 225 -0.41%; S&P/ASX 200 +0.13%; Taiwan TAIEX +0.38%; BSE SENSEX 30 +0.34%; KRX 100 +0.62%; Ho Chi Minh -0.4%

U.K., Europe & Middle East:
DJ STOXX 50 Index -0.63%; FTSE 100 -0.69%; CAC 40 -0.69%; DAX -0.63%; Russian RTS Index NA; ASE General -0.52%; Tel Aviv 25 -1.64%; Tadawul All Share -1.35%; DFM General +0.54%

Stock Specific News
The first of the major investment banks reported earnings today. Lehman Brothers (LEH) reported that traditional investment banking activity and stock trading drove revenue growth of 25%. Earnings per share easily beat consensus expectations and LEH shares are now up 2% on the day. Goldman Sachs (GS) and Bear Stearns (BSC) will report their earnings on Thursday. GS is currently up 0.8%, while BSC is down 1.3%. BSC is perceived as having a greater exposure to the subprime loan sector, while Goldman is very active in the rich merger and acquisition business of today.

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