Market Overview

Markets continue to struggle as high energy prices and fears of earnings weakness have combined to put downward pressure on benchmark indices despite solid growth in the economy.  The Dow Jones, Nasdaq and S&P 500 indices all saw yearly lows during the week ending 4/15, as IBM missed its earnings forecast and Apple stock, despite delivering higher earnings than consensus estimates, dropped on a cautious forecast and concerns about future product development. 

Strong demand in the market is increasing the ability of businesses to pass along higher costs and stoking fears of inflation. So far price pass-throughs have been seen more at the producer level but upward pressure on consumer prices is becoming noticeable.  The February consumer price index increased 0.4% from January with the core index increasing 0.3%, faster than analysts expected.  The yearly core inflation rate now stands at 2.4%, double this time last year.  Through February, prices of core semi-finished goods were rising at a yearly pace of 8%, a rate not seen in two decades and the yearly inflation rate for core finished goods accelerated to 2.8%, the fastest growth since 1992. 

According to the minutes of the Federal Reserve’s March meeting, concern was expressed about a possible increase in inflation due to rising energy prices and consideration of abandoning the policy of “measured” rate increases was raised.  However, the Fed continued with its policy of one-quarter percentage point increases, upping the Federal Funds rate to 2.75%, as they hoped that energy prices would moderate and rising productivity would alleviate inflationary pressures. Economists believe the Fed is trying to prepare markets and consumers for a credit tightening campaign that may last longer than expected.

Merger Activity

M&A activity has shown no sign of retreating from the strong deal market that began in 2004.  In the first quarter of 2005 deal activity kept up the pace set at the end of last year with $264 billion worth of deals on 1,906 transactions, compared to $241 billion on 2,187 deals seen in the same period in 2004 (Thomson).

Financial buyers have played a prominent role in recent activity, with an increase seen in high profile private equity deals.  As competition has intensified in the deal market, due to rising levels of available capital, private equity firms have increasingly turned to consortiums in order to pursue larger targets.  The seven firm buy-out of SunGard Data Systems for $11.3 billion is the largest “club deal” to date and the biggest buy-out since KKR bought RJR Nabisco for $25 billion.  While the RJR Nabisco deal was largely funded with debt, the $3.5 billion of equity involved in the SunGard transaction was a record equity investment in a buy-out deal.  Analysts foresee the trend toward larger buy-outs continuing into the future.  Along with the recently completed Intelsat and Toys 'R’ Us deals, for $5 billion and $8.8 billion respectively, several firms, including Thomas Lee and the Carlyle Group, have recently announced they have raised their largest ever private-equity funds.