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By Jason Stipp | 04-15-2011 06:18 AM

Five Battles Brewing

Morningstar markets editor Jeremy Glaser comments on budget battle lines, fighting inflation, echoes of the financial turmoil, and more.

Jason Stipp: I am Jason Stipp for Morningstar and welcome to the Friday Five.

That rumbling that you heard this week is a series of battles that's going on in the market.

Here with me to offer a rundown on the damage report is Morningstar markets editor, Jeremy Glaser.

Jeremy, thanks for joining me.

Jeremy Glaser: Jason, you are quite welcome.

Stipp: What do you have for the Friday Five this week?

Glaser: We're going to take a look at a looming budget battle, at Alcoa, J.P. Morgan, the New York Stock Exchange, and finally with the casino industry.

Stipp: I think you must have been under a rock this week if you didn't hear or see some headlines about the budget woes and the budget battles that are going on in Washington. What's the take on the battle that's happening there?

Glaser: Very late last Friday we were able to avert a government shutdown with a short-term spending bill, but the real battle is now brewing for the 2012 budget, and by proxy, the 2012 presidential election.

We talked last week about Paul Ryan's budget plan, and President Obama this week came out with his own vision for how to have the deficit reduced. Obama wants to raise taxes on some higher-income individuals and broaden the tax base, while also having some spending cuts.

Republicans seem to think that absolutely no tax increases are acceptable, and they are willing to fight forever it appears to keep those tax increases from coming.

I think this is going to be a big battle line. You know, it's very difficult to bridge that divide when you have one side very dedicated to have an absolutely no tax increases while it's on the table for another side.

I think certainly we're going to be hearing a lot about it, and this was really the opening battle of the presidential election. I think that Obama really laid out what his vision is, and I think he's kind of daring the Republicans to lay out more of their vision and for their presidential candidates to lay out their vision. So will this get done anytime soon? I don't think so, but certainly it's going to be a bruising battle.

Stipp: In corporate news we heard from Alcoa this week. They reported earnings; their stock took a little bit of a hit. What battle are they waging now?

Glaser: They actually had a pretty good quarter. It was one of the better quarters in terms of total earnings in a while, but they are really battling with higher input costs. And this shouldn't come as a huge surprise to anyone who has been following the market recently and has been seen the rising inflation, particularly in commodities and in some energy costs. And this is going to be a big problem for them. There's only so much more that they are able to increase prices to recapture some of these higher prices for their input costs. That's going to come out of their profitability; it's going to come out of their margins, and it really could squeeze them in the medium term.

Stipp: Certainly [inflation is] a theme we are following not only with our Alcoa, but many companies.

J.P. Morgan also reported this week. Their results actually helped to lift banks a little bit on the day they reported. Are they waging any battles behind the scenes, though?

Glaser: J.P. Morgan again had a pretty good quarter like Alcoa did, but they are still waging a battle with the financial crisis.

They had to take a pretty big charge related to some mortgage issues in their consumer-lending business and were really forced to take a look at that again.

They are still trying to get rid of all vestiges of the robo-signing, some of the issues that they saw with their mortgage servicing business, and I think that they always say that they over the hump, and we really think that it's not going to have a material impact on earnings going forward, but it just seems to keep coming up.

As far as we get away from the financial crisis and as we really try to look forward, we keep getting forced to look back and try to deal with some of those issues, things that we may have brushed under the carpet for a while, are starting to come to light. I don't think there is going to be a ton of new charges for them, but certainly we're going to keep hearing about these bad mortgages; they haven't gone away. We've dealt with it in some ways, but ... these toxic mortgages still have to show up someplace.

Stipp: In the M&A world, we saw some back-and-forth going on over the exchanges. What's the story there?

Glaser: Well, the New York Stock Exchange Euronext, NYSE Euronext, is really trying to decide what suitor they want to go with. They had agreed to a merger with Deutsche Boerse, before OMX Nasdaq group and ICE came together to create a joint bid.

Now certainly Nasdaq was very excited about this bid, but the New York Stock Exchange was not. They really want to go with the Deutsche Boerse offer, and they are really ready to battle against the other comers to make sure that, even if they offer a higher purchase price, that they are still going to be able to go with the Deutsche Boerse option, which is what the New York Stock Exchange management thinks is going to be best for it.

But I think they're also going to be battling regulators, no matter which one, which they choose. I think there has been some concern about the type of consolidation that's happening in the exchange world. We recently saw a merger between the Australia and Singapore exchanges, get nixed by regulators, because they are worried about that consolidation.

I think no matter which route they take, they could end up in trouble, they could end up battling regulators, probably less so with Deutsche Boerse than with the Nasdaq ICE option, but certainly I think those regulators are going to be there and there is going to be a lot of battles both between the parties wanting to it and also with those governments.

Stipp: Lastly Jeremy, in the world of travel and leisure, some battles are going on in casinos. Now casinos have been suffering for a little while through the downturn. Are they still having a war that they are fighting there?

Glaser: They are fighting consumer apathy when it comes to gambling, apparently. We saw a couple of data points for the casino industry that didn't look so great this week.

First WMS, which is the manufacturer of slot machines, reduced some of their guidance for the year because they said that there is just a lot less demand for their new machines than they had anticipated and that some of the regulatory regimes are making it harder to get some of the more complex gains approved. That obviously didn't do wonders for the stock, and it really shows how capital-constrained the casinos are.

We also saw statistics for how much people were gambling in places like Las Vegas and Atlantic City, and they were very large numbers--almost 10% in Las Vegas, over 6% in Atlantic City--declines in gaming revenue, and this is off of decline after decline that had been going on for some time.

So certainly things are better than they were at the depth of the recession, but gaming hasn't come completely back, and I think that the industry is going to have to work on getting people back to Las Vegas, back to Atlantic City, and also having them spend on ancillary things like shows and food and hotel rooms to really make up for some of that loss gaming revenue.

Stipp: Well I'm not a wagering man, Jeremy, but I'd bet that I'll see you see back here next week. Thanks for joining me today.

Glaser: Very welcome, Jason.

Stipp: For Morningstar, I'm Jason Stipp. Thanks for watching.

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