Mutual Funds Should Trim Fees To Ease Shareholders’ Pain

BOSTON — If the job of a mutual fund manager is to deliver returns that beat a stock market benchmark or that put them near the top of their peer group, then there is little doubt that most fund managers haven’t earned their keep this year.

That hasn’t stopped them from taking it.

Fund companies have raked in billions of dollars from investors, despite what can only be described as miserable, below-expectation performance.

The average funds in the large-cap growth, multi-cap growth, midcap and small-cap growth categories are all down more than 40% year to date, according to Lipper Inc.

The news isn’t much better in the value and core classifications for those asset classes, as the average player in those asset categories has lost one-third or more of its worth this year.

There also has been no shelter in other equity categories, with the average emerging markets fund off more than 55% this year and the average international fund down 45%. Indeed, the average fund in every equity category is down by more than 20%.

Even among bond funds, 11 of the 16 categories tracked by Lipper are negative so far this year.

Pay for performance

The question is whether the downturn is enough to have investors — and perhaps fund boards — considering whether they should push for a change the way management is compensated, further aligning the interests of customers and management by taking no fees if they fail to keep pace with an appropriate benchmark.

The poster child for this kind of activity is TFS Small Cap Fund (TFSSX) , a portfolio that opened in March 2006 with a performance-fee structure completely different than anything used widely in the industry.

TFS Capital Management of Richmond, Va. is best known for hedge funds, though it has a market-neutral mutual fund that it started in 2004 which has attracted about $380 million in assets and earned a five-star rating from Morningstar Inc. (Full disclosure: TFS invited me to be a board member of the market-neutral fund, which I declined because it would have been a conflict of interest.)

Hedge fund managers typically make money only if shareholders profit, and that was precisely the mentality TFS management brought to its small-cap fund, where the stated goal is to beat the Russell 2000 index (RUT) by 2.5 percentage points.

By topping the Russell by more than 2.5 percentage points, management could earn a bonus. That extra payment — based on how big the fund’s outperformance gets — would top out the fund’s expense ratio at 2.5%, or double what management would get with ordinary, index-like results.

If management lags the index, however, it must rebate fees to the fund. The worse the performance, the bigger the rebate.

So far, TFS Small Cap has not made much money. The fund is down about 35% year to date, while the Russell 2000 is off by 32%. Meanwhile, the fund’s losses since inception are slightly smaller than what an investor might have experienced in an index fund on the Russell, but they’re not 2.5 percentage points better.

‘Adding insult to injury’

And so, according to the fund’s Statement of Additional Information, TFS Small Cap has reimbursed the fund for all of the management fees it collected. Since inception, management has turned away some $200,000-plus dollars that most management firms would have pocketed.

To be sure, TFS Capital is not alone in having performance fees, Strategic Insight, an industry research firm, estimates that roughly 5% of all equity funds have performance fees, with Fidelity, Vanguard and Janus among the firms that have sliding scales for payment. It’s just that none of those other firms surrender everything when they fail to deliver.

TFS isn’t making an enormous sacrifice. The firm’s small cap fund has just a few million dollars in assets, and the paperwork suggests that 85 cents out of every dollar in the fund actually came from the managers, meaning that the firm is giving up fees that the firm’s top dogs would actually have had to pay.

But TFS co-founder and manager Richard Gates is right when he suggests that charging fees during times underperformance is akin to "adding insult to injury when it comes to investors who have already suffered an erosion of their principal."

And while reduced or waived fees simply appear to be the "right thing to do," there’s no rush of fund companies to make that happen.

Avi Nachmany of Strategic Insight notes correctly that performance fees have a number of practical issues which can make them hard to implement, and which also can lead to managers trying to game the system to inflate pay. As such, he doesn’t expect them to start gravitating toward performance fees any time soon.

That’s too bad. If fund companies are serious when they suggest that shareholders remain invested for some future turn-around, they could at least show some good faith and opt to waive or reduce fees to help ease the pain when it hurts the most.

Copyright © 2008 MarketWatch, Inc.

 

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Stocks In Focus For Friday

SAN FRANCISCO — Among the companies whose shares are expected to see active trade in Friday’s session are Honeywell, Comerica, Schlumberger and GM.

Honeywell (HON: 30.93, +1.85, +6.36%) is expected to report third-quarter earnings of 95 cents a share, according to analysts surveyed by FactSet Research.

Comerica Inc. (CMA: 29.22, +0.92, +3.25%) is projected to post earnings of 26 cents a share in the third quarter, according to analysts polled by Thomson Reuters.

Schlumberger (SLB: 53.20, -1.20, -2.20%) is forecast to post earnings of $1.25 a share in the third quarter, according to analysts surveyed by FactSet Research.

Analysts polled by FactSet Research estimated VF Corp. (VFC: 58.50, +3.76, +6.86%) to report third-quarter earnings of $2.02 a share.

Wilmington Trust (WL: 27.45, +0.97, +3.66%) is expected to report earnings of 42 cents a share in the third quarter, according to a survey of analysts by Thomson Reuters.

First Horizon National Corp. (FHN: 11.32, +0.14, +1.25%) is likely to post a loss of 12 cents a share in the third quarter, according to analysts in a survey by FactSet Research.

After Thursday’s closing bell, Google Inc. (GOOG: 353.02, +13.85, +4.08%) said its third-quarter net income rose to $1.35 billion, or $4.24 a share, from $1.25 billion, or $3.92 a share in the same period a year earlier. Net revenue rose to $4.04 billion. Excluding special items, Google said earnings for the quarter were $4.92 a share. Analysts on average had estimated Google would post earnings, excluding special items, of $4.74 a share, on net revenue of $4.04 billion, according to FactSet Research. See full story

Watch list

Advanced Micro Devices Inc. (AMD: 4.12, +0.21, +5.37%) reported a third-quarter loss of $67 million, or 11 cents a share, compared with a loss of $396 million, or 71 cents a share for the year-earlier period. Revenue was $1.78 billion, up from $1.56 billion for the same period last year. Analysts had expected AMD to report a loss of 40 cents a share on revenue of $1.48 billion, according to a consensus survey by FactSet Research. See full story

American International Group (AIG: 2.43, +0.01, +0.41%) will take steps to recover "improper" bonuses and payments to former executives as part of its effort to assist New York State Attorney General Andrew Cuomo’s probe into the company’s expenditures. The decision came after Cuomo informed Chief Executive Edward Liddy that unless AIG takes steps to recover the funds, Cuomo will pursue it under the law. The recovery will include compensation paid to former Chief Executive Martin Sullivan. The insurer is also canceling all junkets and perks which are not justified by legitimate business needs, including more than 160 conferences and events, for a total savings of more than $8 million. Separately, AIG named David Herzog executive vice president and chief financial officer. Steven Bensinger, who served as acting CFO, has left the company.

Capital One Financial (COF: 38.70, +0.94, +2.48%) said it made net income of $374.1 million, or $1 a share, in the third quarter, up from a net loss of $81.7 million, or 21 cents a share, a year earlier. Earnings from continuing operations in the third quarter of 2008 were $385.8 million, or $1.03 a share, the credit card and banking company reported.

Merger discussions between General Motors Corp. (GM: 6.40, +0.18, +2.89%) and Chrysler LLC are picking up pace with strong support from banks and other potential lenders that are eager to see a deal, The Wall Street Journal reported Thursday in its online edition. GM is aiming to get a deal done as early as the end of October, the newspaper said. Other major players pushing the deal are J.P. Morgan Chase & Co. (JPM:40.49, +2.00, +5.19%) and Cerberus Capital Management, according to the Journal. Cerberus owns Chrysler, while JP Morgan is one of the largest holders of Chrysler bank debt and is a key lender for GM.

IBM Corp. (IBM: 91.52, +3.23, +3.65%) reported a third-quarter operating income of $2.8 billion, or $2.05 per share, compared to earnings of $2.4 billion, or $1.68 per share, for the same period last year. Revenue rose 5% to $25.3 billion for the quarter. The company said revenue from its software segment grew by 12% to $5.2 billion during the period. See full story

Intuitive Surgical Inc. (ISRG: 214.80, +24.68, +12.98%) said its third-quarter profit rose to $57.6 million, or $1.44 a share, from $40.9 million, or $1.04 a share, in the year-ago period. Revenue rose to $236 million from $156.9 million last year. Analysts surveyed by FactSet Research estimated quarterly earnings of $1.27 a share on revenue of $226.6 million.

Leggett & Platt Inc. (LEG: 18.57, +1.16, +6.66%) reported a third-quarter net income of $32.7 million, or 20 cents a share, down from $65.7 million, or 37 cents, a year ago. Excluding one-time items, the company earned 34 cents a share from continuing operations. Revenue rose to $1.13 billion from $1.09 billion. Analysts polled by FactSet Research predicted the engineered parts maker would post per-share earnings of 30 cents on $1.05 billion in revenue. The company, citing weak market demand, said it expects to earn $1 to $1.15 a share for the full year, down from $1.10 to $1.40 estimated in July.

PMC-Sierra Inc. (PMCS: 5.59, +0.36, +6.88%) said it swung to a third-quarter profit of $16.2 million, or 7 cents a share, from a loss of $5.9 million, or 3 cents a share, in the year-ago period. Excluding one-time items, the company would have reported earnings of 13 cents a share. Revenue rose to $139.3 million from $117.5 million last year. Analysts surveyed by FactSet Research estimated quarterly earnings of 12 cents a share excluding stock option expenses on revenue of $139.1 million.

Stryker Corp. (SYK: 54.75, +1.42, +2.66%) said its third-quarter profit rose to $273.8 million, or 66 cents a share, from $228.7 million, or 55 cents a share, in the year-ago period. Revenue rose to $1.65 billion from $1.45 billion last year. Analysts surveyed by FactSet Research estimated a quarterly profit of 67 cents a share on revenue of $1.66 billion. The company forecast 2008 earnings of $2.88 a share. Analysts estimate $2.87 a share.

Texas Instruments Inc.’s board (TXN: 17.63, +0.28, +1.61%) on Thursday declared a quarterly dividend of 11 cents, up from 10 cents in the previous quarter. The dividend will be paid Nov. 17 to stockholders of record on Oct. 31.

United Airlines, operated by UAL Corp. (UAUA: 10.30, +2.95, +40.13%) , said 322 employees represented by the International Association of Machinists have taken advantage of the airline’s voluntary furlough program. Since July, United said that 1,500 flight attendants, 200 pilots and 100 mechanics have taken advantage of the program. In July, United said it needed to reduce capacity, resulting in the need for 7,000 fewer employees.

Zions Bancorporation (ZION: 40.20, +2.61, +6.94%) said third-quarter net income came in at $37.8 million, 72% lower than a year earlier when the bank made $135.7 million. Net income per common share came in at 31 cents versus $1.22 a year ago, the company reported. Nonperforming assets were $924.4 million at the end of September, up from $196.6 million a year earlier. Zions said this was driven mainly by deterioration in residential real estate acquisition, development and construction loans in the Southwest, and by continued weakening in Utah residential construction and commercial and industrial portfolios.

 

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U.S. to Buy Stakes in Nation’s Largest Banks

Recipients Include Citi, Bank of America, Goldman; Government Pressures All to Accept Money as Part of Broadened Rescue Effort

By DEBORAH SOLOMON, DAMIAN PALETTA, JON HILSENRATH and AARON LUCCHETTI

WASHINGTON — The U.S. government is expected to take stakes in nine of the nation’s top financial institutions as part of a new plan to restore confidence to the battered U.S. banking system, a far-reaching effort that puts the government’s guarantee behind the basic plumbing of financial markets.

To kick off Tuesday’s expected announcement, the government is set to buy preferred equity stakes in Goldman Sachs Group Inc., Morgan Stanley, J.P. Morgan Chase & Co., Bank of America Corp. — including the soon-to-be acquired Merrill Lynch — Citigroup Inc., Wells Fargo & Co., Bank of New York Mellon and State Street Corp., according to people familiar with the matter.

Some of the big banks were unhappy about the government taking equity stakes, but acquiesced under pressure from Treasury Secretary Henry Paulson in a meeting Monday. During the financial crisis, the government has steadily increased its involvement in financial markets, culminating with a move that rivals the breadth of the government’s response to the Great Depression. It intertwines the banking sector with the federal government for years to come and gives taxpayers a direct stake in the future of American finance, including any possible losses.

Other elements of the plan, which will be announced Tuesday morning, include: equity investments in possibly thousands of other banks; lifting the cap on deposit insurance for certain bank accounts, such as those used by small businesses; and guaranteeing certain types of bank lending. It builds on an earlier plan to buy up rotten assets dragging down banks, which failed to calm investor fears, and follows similar moves by major European countries.

Formulated jointly by the Treasury Department, the Federal Reserve and the Federal Deposit Insurance Corp., these moves are designed to keep money flowing through the financial system, ensuring that banks continue lending to companies, consumers and each other. A freeze in these markets rippled through the economy and helped cause stocks to crater last week.

Along with the government’s involvement come certain restrictions, such as caps on executive pay. For example, firms can’t write new employment contracts containing golden parachutes and their ability to use certain executive salaries as a tax deduction is capped. These restrictions are relatively weak compared with what congressional Democrats had wanted when they approved this spending, a potential flash point.

Some critics also say Treasury should have formulated a comprehensive plan earlier in the crisis. Even if this move helps mend credit markets, the economy is likely to suffer in the months ahead from the aftershocks of the recent turmoil.

A central plank of these new efforts is a plan for the Treasury to take about $250 billion in equity stakes in potentially thousands of banks, according to people familiar with the matter, using funds approved by Congress through the recently approved $700 billion bailout plan.

Treasury will buy $25 billion in preferred stock in Bank of America — including Merrill Lynch — as well as J.P. Morgan and Citigroup; between $20 billion and $25 billion in Wells Fargo; $10 billion in Goldman and Morgan Stanley; $3 billion in Bank of New York Mellon; and about $2 billion in State Street.

The government will purchase preferred stock, an equity investment designed to avoid hurting existing shareholders and deterring new ones. Such shares typically don’t come with voting rights. They will carry a 5% annual dividend that rises to 9% after five years, according to a person familiar with the matter. By investing in several big firms at once, the government hopes to avoid placing a stigma on any one firm for getting government help.

The plan will be structured to encourage firms to bring in private capital. For instance, firms returning capital to the government by 2009 may get better terms for the government’s stake, a person familiar with the discussions said.

Among the other key components of the plan: The FDIC is expected to offer to temporarily guarantee, for a fee, certain types of new debt called senior unsecured debt issued by banks and thrifts. This would apply to debt issued by June 30 with maturities up to three years. One problem plaguing credit markets has been a fear among financial institutions that it is unsafe to lend to each other even for periods of a few days. U.S. officials hope this guarantee removes that fear, which could bring down short-term lending rates, such as the London interbank offered rate, or Libor, a benchmark for consumer and business loans.

The FDIC is also expected to temporarily offer banks unlimited deposit insurance for non-interest bearing bank accounts typically used by small businesses, through 2009. This would be voluntary for banks, and would extend the $250,000 per depositor limit lawmakers agreed on two weeks ago. To use these new powers, the FDIC is invoking a "systemic risk" clause in federal banking law that allows it to take extreme steps to prevent shocks to the economy.

The FDIC’s central role in the plan is consistent with its presence during past banking crises, the Great Depression and the savings and loan crisis. Each crisis sparked a major boost in the agency’s power.

The shift brings U.S. policy more in line with that of other countries. Monday, the U.K., Germany, France, Spain and Italy provided further details of measures to buy stakes in struggling banks and offer lending guarantees. The U.K., which first formulated such a plan, is planning to issue some £37 billion ($63.1 billion) in new government debt to pay for purchases of the common and preferred shares of three big banks.

“These are tough times for our economies. Yet we can be confident that we can work our way through these challenges.”President Bush in a joint statement with Prime Minister Berlusconi of Italy

The U.S. plan to inject capital into banks is expected to be open to almost all such institutions, with a focus on getting the participation of the firms most important to the financial system, according to people familiar with the matter. Treasury’s main goal is to attract private capital. To make sure private investors aren’t scared away, it is expected to structure its investment on terms favorable to the banks and will inject capital in exchange for preferred shares or warrants, these people said.

The government’s new focus is raising questions about why it didn’t adopt such an approach sooner. Mr. Paulson actively opposed the idea of investing in banks because he worried about picking winners and losers, though Fed Chairman Ben Bernanke was an early advocate. Mr. Paulson was also concerned banks wouldn’t participate because of the perceived stigma and the potential for the government to meddle in their affairs, according to people familiar with the matter.

Senior executives and advisers to some of the nation’s leading banks pitched such a plan at various points earlier this summer but were rebuffed by officials at Treasury and the Fed, according to people familiar with the matter. Instead, Treasury initially marched ahead with a plan to buy distressed assets directly from banks.

House Democratic leaders, including Speaker Nancy Pelosi and House Financial Services Committee Chairman Barney Frank, held a closed-door session Monday with 11 economists and other advisers. The group threw its weight behind Treasury’s decision to inject capital into the banking system.

"The consensus was so strong towards direct equity injections that there was literally no dissension on the point," said one of the invited economists, Jared Bernstein of the liberal Economic Policy Institute. "The only head-scratching is why did it take us so long to get here?"

Officials at the Treasury and Federal Reserve have been looking for a comprehensive approach to the credit crisis after a series of ad hoc interventions and say they didn’t have the authority to make such a comprehensive move until Congress passed the bailout bill. The government’s various moves, from saving mortgage giants Fannie Mae and Freddie Mac to letting Lehman Brothers Holdings Inc. fail, have confused investors and frozen many in place at a time when the banking system was desperate for fresh capital. That contributed to what in essence was a high-level run on Wall Street banks, with funding drying up overnight.

The government’s hope is that the new plan will more thoroughly address the problems of ailing financial institutions and persuade private investors that government involvement won’t come at their expense.

For troubled assets there is the Troubled Asset Relief Program, created by the $700 billion bailout bill, which gives the Treasury Department authority to acquire bad assets from banks and other financial institutions. TARP will also be used by Treasury when it puts new equity into banks.

The other steps, including the FDIC’s role in guaranteeing new funds raised by banks and thrifts, are designed to address the way banks fund themselves, freeing them to start lending again. The Fed is expected to announce Tuesday that a separate plan to lend directly to companies and banks through instruments called commercial paper will start in about two weeks.

William Poole, former president of the Federal Reserve Bank of St. Louis, was a fierce critic of Treasury’s initial plan to buy up distressed mortgage-backed securities. Such a scheme, he said, would lead banks to dump their worst assets on the taxpayers.

But Treasury’s new tack may well do the trick, said Mr. Poole, now a senior fellow at the free-market-oriented Cato Institute.

"Investors need to be confident that the banks they’re dealing with are unquestionably solvent, and it’s in the interest of banks to assure investors that that’s the case," he said. "One way banks can provide that assurance is to raise additional capital, in some combination of private and government capital."

Dean Baker, co-director of the left-of-center Center for Economic and Policy Research, argues the country may have turned a corner on the financial panic — the fear that has kept banks and investors from making even the most prudent loans. "I think we’re through the worst on that," he said. "Maybe I’ll be proven wrong, but it really was at an extreme last week."

Blanket guarantees, however, might inspire banks to take unnecessary risks, warned Frederic Mishkin, a Columbia University economist who stepped down as Fed governor in August. "You don’t want to give a guarantee to banks that are in trouble" that might try to gamble their way out of problems, he said. He says offering broad guarantees will require that U.S. officials more aggressively act to sort out good banks from bad banks.

One sticking point could come from Congress, which wrote into the original bailout bill requirements that Treasury tamp down executive pay. Rep. Frank said Monday he wants the government to set tough conditions for any company that receives a capital injection. If Mr. Paulson didn’t enforce such rules, Mr. Frank said the Treasury secretary could be "making a big mistake."

 

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Stocks In Focus For Friday

SAN FRANCISCO — Among the companies whose shares are expected to see active trade in Friday’s session are General Electric Co., Host Hotels & Resorts Inc., and Infosys Technologies Ltd.

General Electric Co. (GE: 19.01, -1.64, -7.94%) is expected to report third-quarter earnings of 46 cents a share, according to analysts surveyed by FactSet Research.

Host Hotels & Resorts Inc. (HST: 7.85, -1.91, -19.56%) is forecast to post earnings of 28 cents a share in the third-quarter, according to analysts surveyed by Thomson Reuters.

Infosys Technologies Ltd. (INFY: 25.02, -0.50, -1.95%) is estimated to report a profit of 56 cents a U.S. share in the fiscal second quarter, according to analysts surveyed by FactSet Research.

After Thursday’s closing bell, Citigroup Inc. (C: 12.93, -1.47, -10.20%) said it reached no agreement with Wells Fargo & Co. (WFC: 27.25, -4.65, -14.57%) over Wachovia Corp. (WB: 3.60, -1.46, -28.85%) "The dramatic differences in the parties’ transaction structures and their views of the risks involved made it impossible to reach a mutually acceptable agreement," Citigroup said in a statement. The bank said it will pursue damages against Wachovia and Wells Fargo, but will not seek to block the combination. See full story.

Watch list

American Axle & Manufacturing Holdings Inc. (AXL: 3.46, -0.35, -9.18%) had its ratings lowered to B from B+ by Standard & Poor’s, which then placed them on review for a possible further downgrade. Earlier in the day, S&P put the ratings of General Motors Corp. (GM: 4.76, -2.15, -31.11%) , a major American Axle customer, on review for a possible downgrade.

Home builder Centex Corp. (CTX: 10.17, -1.68, -14.17%) said its board suspended the company’s quarterly dividend of 4 cents a share because of economic conditions. Centex said it "will continue to weigh alternatives for returning cash to shareholders as economic conditions improve."

Chevron Corp. (CVX: 64.00, -9.10, -12.44%) forecasted that its third-quarter earnings will be higher than second quarter on the back of strong improvement in downstream results while upstream earnings are expected to decline due to the effect of hurricanes and lower commodity prices. The company also expects net after-tax charges of $250 million and $300 million in the quarter.

Ford Motor Co. (F: 2.08, -0.58, -21.80%) had its B- long-term corporate credit rating put on CreditWatch with negative implications, by Standard & Poor’s. "The CreditWatch placement reflects the rapidly weakening state of most global automotive markets along with capital market conditions that will remain a major challenge for the foreseeable future," said Robert Schulz, an S&P credit analyst. S&P believes Ford has adequate liquidity for at least the rest of 2008 but the accelerating deterioration of industry fundamentals will be a serious challenge in 2009. The ratings agency also placed Ford Motor Credit Co. on negative CreditWatch.

Longs Drug Stores Corp. (LDG: 68.93, -2.75, -3.83%) said September sales at stores open for at least a year fell 1.7% from a year ago. Analysts surveyed by Thomson Reuters expected a same-store sales decline of 1%. Total September sales at Longs were flat at $447 million.

Morgan Stanley (MS: 12.45, -4.35, -25.89%) said it is the target of a class action lawsuit related to its involvement as an underwriter of a preferred share offering for Lehman Bros. earlier this year. "The complaint alleges that the offering documents for this offering contained material misstatements and missions and asserts claims against the company under Section 11 of the Securities Act of 1933, as amended," Morgan Stanley said in quarterly report filed with the SEC on Thursday. The company also said that although it believes it has raised all the capital it needs through the end of the year, that, "to the extent we are not able to access the debt markets on acceptable terms in the future, we may increase our use of deposit funding and other funding sources generally available to a financial holding company, and/or may seek to raise funding and capital through equity issuance."

 

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Stocks In Focus For Thursday

SAN FRANCISCO — Among the companies whose shares are expected to see active trade in Thursday’s session are International Speedway Corp., RPM International Inc., and Chevron Corp.

International Speedway Corp. (ISCA: 31.51, -1.64, -4.94%) is forecast to post earnings of 71 cents a share in the third quarter, according to analysts surveyed by FactSet Research.

RPM International Inc. (RPM: 15.60, +0.08, +0.51%) is expected to report fiscal first-quarter earnings of 52 cents a share, according to analysts surveyed by FactSet Research.

Chevron Corp. (CVX: 73.10, -0.25, -0.34%) is scheduled to announce an interim update to the quarter.

After Tuesday’s closing bell, International Business Machines (IBM: 90.55, -5.10, -5.33%) said it expects to post third quarter earnings of $2.05 a share on revenue of $25.3 billion. For the year, the company reaffirmed its earnings a share target of at least $8.75. Analysts surveyed by FactSet Research expect earnings of $2.01 a share on revenue of $26.5 billion for the quarter, and $8.98 a share for the year. See full story

Watch list

Aeropostale Inc. (ARO: 27.26, +0.70, +2.63%) said that September sales in stores open for at least a year rose 5% from a year ago. Analysts surveyed by Thomson Reuters estimated same-store sales to rise 4.7%. Total sales for the five-week period ended Oct. 6 rose 15% to $146.7 million from $127.9 million a year ago. Aeropostale also reiterated its third-quarter earnings outlook of 59 cents to 61 cents a share. Analysts surveyed by FactSet Research estimate third-quarter earnings of 61 cents a share.

American Eagle Outfitters Inc. (AEO: 11.27, -1.24, -9.91%) said that September sales at stores open at least a year fell 6% from a year ago. Analysts surveyed by Thomson Reuters estimated a drop of 5%. Total sales for the five weeks ended Oct. 4 increased 3% to $229.2 million from $222.8 million in the year-ago period. American Eagle narrowed its third-quarter earnings estimate range to 31 cents to 34 cents a share, compared with a previous range of 31 cents to 36 cents a share. Analysts surveyed by FactSet Research estimate 33 cents a share.

American International Group Inc. (AIG: 3.19, -0.32, -9.11%) will get an additional $37.8 billion loan from the Federal Reserve, which is invoking its emergency powers to combat financial market stress. AIG already has an $85 billion line of credit with the Fed. As of last week, AIG had used $60 billion of this loan, according to Fed data. This new program will allow AIG to replenish liquidity, the Fed said.

Hot Topic Inc. (HOTT: 4.92, -0.45, -8.37%) said sales at stores open at least one year slid 1.8% in September, compared with a fall of 2.9% in September 2007. Analysts, on average, had expected the same-store sales to drop 4.3%, according to Thomson Reuters. Net sales for the five weeks ended Oct. 4 increased 2.5% to $60.8 million.

InBev (000379310) said David Peacock will become president of Anheuser-Busch upon the closing of Inbev’s acquisition of Anheuser-Busch Cos. (BUD: 62.92, +0.07, +0.11%) . Peacock will manage all U.S. operations for the combined company, including the brand management of Budweiser and Bud Light, Inbev said. Inbev also named Luiz Fernando Edmond North America zone president of the combined company.

Limited Brands Inc. (LTD: 14.11, -0.66, -4.46%) said that September sales in stores open at least a year fell 6% from a year ago. Analysts surveyed by Thomson Reuters estimated same-store sales to fall 5.4% Total sales for the five weeks ended Oct. 4 fell to $673.4 million from $713.2 million last year.

Men’s Wearhouse Inc. (MW: 17.64, +0.07, +0.39%) lowered its third-quarter earnings outlook to 22 cents to 26 cents a share from 34 cents to 38 cents a share previously. The men’s clothing retailer also cut its adjusted earnings view to a range of 24 cents to 28 cents a share from 36 cents to 40 cents a share. Analysts surveyed by FactSet are projecting the company to earn, on average, 36 cents a share in the third quarter.

MetLife Inc. (MET: 27.00, -9.87, -26.76%) said it priced a secondary offering of 75 million shares at $26.50 a share, or about $2 billion. Underwriters will get an option for just under 11.3 million shares to cover over-allotments. MetLife expects to use the capital for general corporate purposes and potential strategic initiatives.

Walgreen Co. (WAG: 26.18, -0.56, -2.09%) said it withdrew its $75-a-share bid for Longs Drug Stores Corp. (LDG: 71.68, -0.08, -0.11%) Longs’ board declined the offer in favor of CVS Caremark Corp.’s (CVS: 29.84,+0.71, +2.43%) $71.50 a share offer. "While we believe we made a compelling proposal for Longs, we do not believe it would be in the best interests of Walgreens shareholders, customers or employees to allow this situation to remain unresolved for an extended period of time," said Jeffrey Rein, Walgreen chairman and chief executive, in a statement. See full story

Zumiez Inc.’s (ZUMZ: 13.82, -0.73, -5.01%) same-store sales slumped 9% in September, compared with an increase of 13.9% in September 2007, said the specialty apparel retailer late Wednesday. Analysts, on average, had expected same-store sales to fall 4.3%, according to Thomson Reuters. Total net sales for the five-week period ended Oct. 4 rose 4.8% to $33.6 million.

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Market Slide Puts a Spotlight on Big Oil’s Cash Hoard

By RUSSELL GOLD

Rising fears of a global economic downturn are sinking crude oil prices and driving down the share prices of major oil companies despite the industry’s record profits of the last two years.

Exxon Mobil Corp., the largest U.S. company and largest Western oil company by market capitalization, has lost 17% of its share price since January, its worst showing since 1981. Its smaller peers are doing worse. The stock prices ofChevron Corp., BP PLC, Royal Dutch Shell PLC, Total SA and ConocoPhillips, the largest western oil companies, all hit new 52-week lows during the day on Monday.

The stock drops are driven by concerns that a world-wide recession will bring an end to the high oil prices that have been the primary driver behind these companies’ record earnings. The other main way Big Oil boosts its profit — oil and gas production — "has not been growing," notes Credit Suisse analyst Mark Flannery.

Historically, oil demand rises and falls with the economy. A global recession would slow or reverse demand growth and deflate prices, pressuring oil companies to take one or more steps to boost their share prices. Analysts say these include acquiring another company to boost growth, increasing share repurchases, or offering a significant dividend increase.

Several of these companies, however, say they won’t change course. A spokesman for Irving, Texas-based Exxon says it is continuing on its long-term strategy of building value. "Shares do what the shares do," he said. A spokesman for London-based BP said, "We don’t manage the company day-to-day based on what’s happening to the share price." BP shares are down nearly 38% in the last 52 weeks.

The companies maintain brawny balance sheets, thanks to months of $100-plus oil prices, have ample cash and are seen as good credit risks. Moreover, their investments have been made based on much lower oil price assumptions. Unlike many smaller energy companies, they aren’t compelled to shed assets or cut their capital budgets to manage their cash. But sitting still isn’t a permanent solution. Current, low interest rates can mean poor returns on capital.

One large oil company that may need to change direction is ConocoPhillips. The Houston company needs to deliver $5 billion this month to Australia’s Origin Energy Ltd. under terms of a joint venture it entered into last month to produce natural gas for export.

Mr. Flannery argues that Big Oil will need to put cash into acquisitions to restore the battered share prices. So far this year, Exxon has lost $108 billion in market capitalization since peaking at $512.65 billion in January. Others analysts contend that Exxon and its peers can wait for a fire sale by troubled companies.

Compared with many blue chips, Exxon, Chevron and other oil majors are cash-rich. Exxon has $39 billion in cash and has been buying back shares at an $8 billion-a-quarter clip. The value of the stock it has repurchased is about $218 billion, a shade less than the current value of General Electric Co.

One possibility mentioned by investors would be for Exxon and Chevron to increase their buybacks to improve earnings per share. Energy analysts at Goldman Sachs and Merrill Lynch see longer-term oil market prices as remaining strong, allowing oil companies to buy their own shares while those prices are low. But this strategy is risky as oil companies have become political targets in the presidential campaign for not doing enough to boost supplies of oil and gas.

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Bailout Funding Promises To Pressure Treasury Prices

By MIN ZENG

Now comes the hard part: raising the money to pay for the U.S. government’s rescue plan.

Right now, there is good demand for low-risk U.S. Treasurys as investors around the world flee risky assets. The weakening economy adds to the allure of safe government debt.

 

But while those factors could help damp the rise in market rates that will come with the flood of fresh supply, long-term rates are still likely to rise, which could hurt the already struggling economy.

Even before the latest escalation in the credit crunch, the Treasury was considering ways to raise more money to fund the rising federal deficit. September’s bailouts of Fannie Mae and Freddie Mac, the loan to insurance giant American International Group Inc. and the backstops for money-market funds all added to the government’s cash needs.

Now comes the up to $700 billion Troubled Asset Relief Program to deal with toxic assets held by the banking system. As part of that package, lawmakers approved an increase in the federal debt ceiling to $11.3 trillion from $10.6 trillion.

As a result of all these actions, Merrill Lynch & Co. economists expect the budget deficit to reach $900 billion in the fiscal year that began Oct. 1. That is double the $407 billion deficit forecast early in September by the Congressional Budget Office for the just-ended 2008 fiscal year and the record $438 billion it expected for fiscal 2009.

Adding in debt that is maturing and must be rolled over, the Merrill economists see the Treasury’s total funding need at close to $1.5 trillion next year, a tally that economists at Goldman Sachs Group Inc. also have reached.

Raising that amount of money will require some creativity, and the Treasury has several options. It could bring back three-year, seven-year or 20-year Treasurys, or even introduce a 50-year bond. It could sell two- and five-year notes on a weekly, instead of a monthly, basis. And it could sell Treasury bonds on a one-time basis, explicitly earmarking the money to fund the bailout.

"They are going to have very large and very concentrated financing needs, which means they could go beyond the normal pattern of regular, predictable auction cycles," said Louis Crandall, chief economist at Wrightson ICAP LLC.

Ed McKelvey, senior economist at Goldman Sachs, thinks the Treasury should consider reopening "off-the-run" issues as a way of reducing its borrowing costs. Those are securities issued before the most recently sold bond of a particular maturity. Typically, these issues trade at a higher yield, and lower price, than the benchmark issue, because they are less frequently traded. But because of the supply concerns, off-the-run issues are trading at a lower yield than benchmark issues.

The Treasury Department already has increased the supply of bills and short-term notes this year to fund the rebate checks to consumers and to raise cash for the Federal Reserve’s liquidity efforts.

Despite the increase in issuance, demand for Treasurys has yet to falter. Foreign central-bank holdings of U.S. government debt stood at a record $1.5 trillion last Wednesday. And there is natural demand from long-term investors such as pension funds and insurance companies.

But the rise in supply will pressure yields, which will lead to higher rates on mortgages and other types of consumer and corporate borrowings. Already, the benchmark yield curve, or the gap between two- and 10-year yields, is at levels not seen since March. It stood Friday at 1.99 percentage points. David Ader, rate strategist at RBS Greenwich Capital, thinks the curve could steepen to 2.5 percentage points over the next months.

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Stocks In Focus For Monday

SAN FRANCISCO — Among the companies whose shares are expected to see active trade in Monday’s session are Wells Fargo, Wachovia, Citigroup, and AIG.

Citigroup (C: 18.35, -4.15, -18.44%) may consider legal action after it was jilted by Wachovia (WB: 6.21, +2.30, +58.82%) in favor of Wells Fargo (WFC: 34.56, -0.60, -1.70%) . In a strongly-worded response to the news that Wells Fargo is buying Wachovia, Citi claimed it had exclusive rights and that Wachovia was not permitted to talk to anyone else. See full story

American International Group Inc. (AIG: 3.86, -0.14, -3.50%) plans to refocus on its core property and casualty insurance businesses and look into the sale of other units as it seeks to repay a massive loan from the U.S. Federal Reserve. However, S&P noted that there could be downward pressure on the company’s ratings because of the risks around the execution of the plan as well as the heavy debt-service requirements of a much smaller and less-diversified AIG after the sales. "The current disruption in the credit markets could make it difficult to sell businesses at attractive valuations," the ratings agency said. See full story

After Friday’s closing bell, Moody’s Investors Service lowered American International Group’s (AIG: 3.86, -0.14, -3.50%) senior unsecured debt rating to A3 from A2. At the same time, AIG’s long-term ratings and its Prime-1 short-term rating remain on review for possible downgrade. "Moody’s believes that the asset sales plan announced today, if successful, will enable the company to repay borrowings under the Fed facility and emerge as a more focused, albeit less diversified, insurance firm," the ratings agency said. The review will take into consideration the risk that the situation may deteriorate, either due to shortfalls in executing the restructuring plan or because of declines in the business or financial profiles of the operations to be retained, according to Moody’s.

Watch list

Moody’s Investors Service lowered the senior secured bank debt rating on General Growth Properties (GGP:9.67, +2.08, +27.40%) , certain of its subsidiaries and Rouse Co. LP to Ba3 from Ba2 and their senior unsecured debt rating to Ba3 from Ba2. The ratings were also placed on review for possible further downgrade. The move reflects General Growth’s strained financial flexibility given significant near term refinancing and development funding needs, coupled with expected earnings pressure due to a likely protracted downturn in the economy, Moody’s said.

Starbucks Corp. (SBUX: 13.66, -0.51, -3.59%) changed its scheduling system so there will be fewer employees working more hours at its coffee shops, the Wall Street Journal reported in its online edition. The program is aimed at reducing its labor costs and improving sales by fostering familiarity between customers and a smaller group of employees, according to the newspaper. The program is part of a broader plan to revive the company amid a slowdown in sales that has prompted the coffee retailer to shut stores and curb its expansion, the Journal said.

United Airlines, operated by UAL Corp. (UAUA: 8.11, -1.00, -10.97%) , said its total September traffic fell 9.2% to 8.33 billion revenue passenger miles from 9.18 billion a year ago. A revenue passenger mile equals one passenger flown one mile. Total September capacity fell 8.6% to 10.46 billion available seat miles from last year. Load factor, or the percentage of seats filled with passengers, fell in September to 79.7% from 80.2% last year.

Moody’s Investors Service lowered the ratings outlook on Wells Fargo & Co. (WFC: 34.56, -0.60, -1.70%) and its subsidiaries, including Wells Fargo Bank, to negative from stable. The move comes after Wells Fargo said it will buy Wachovia for $15 billion. Moody’s said Wells Fargo’s proposed acquisition of Wachovia signals an increase in its risk appetite. "The terms of the transaction would result in an increase in Wells Fargo’s leverage and pose sizable integration risks at a time when it has to navigate its own asset quality pressures in a deteriorating economy," the ratings agency said in a statement. Moody’s has a senior debt rating of Aa1 on Wells Fargo.

Yahoo (YHOO: 16.00, +0.42, +2.69%) and Google (GOOG: 386.91, -3.58, -0.91%) have agreed to delay their planned search-advertising partnership until Justice Department regulators conclude their antitrust review of the deal, according to a media report. Yahoo and Google have so far been vague about when they planned to implement the partnership, apart from scheduling its start for an unspecified date in October. Google Chief Executive Eric Schmidt previously has said that even though regulators have been scrutinizing the deal for months, he intended to move ahead with it. See full story here.