Financial Market UpdateStrategicPoint of View®
May 2, 2011
LAST WEEK
Ben Bernanke met the press this week instead of the usual Congressional hearing. He reiterated reassurances that rates will remain low, the recovery is in tact and higher oil and food prices are transitory. However, he raised the Federal Reserve’s inflation forecasts for the remainder of the year from below 2% to above 2% and lowered the Fed’s overall estimate of 2011 GDP growth to slightly above 3%.
Consumer confidence and sentiment rose, housing prices continued their decline. Personal income, spending and savings figures were healthy, while the core PCE price index (the one the Fed tracks most closely) came in at 0.1%, or 1.2% annualized inflation. Q1 GDP was revised down to 1.8% predominantly due to temporary lower defense spending, higher gas prices and a weather related construction slow down.
S&P 500: 1,324 (up 2.02% for the week and up 8.51% on the year)
NASDAQ: 2,874 ( up 1.91% for the week and up 8.37% on the year)
Dow: 12,881 (up 2.44% for the week and up 10.66% on the year)
US Treasury 10 yr: 3.29% (from 3.39% last week)
Crude Oil (June): $113.93 (from $112.35 last week)
Gold (June): $1,556 (from $1,505 last week)
USD/Euro: $1.4799 (from $1.4551 last week)
THIS WEEK
We get another look at employment on Friday with the jobs report. Earlier in the week, ISM reports on manufacturing and service activity are scheduled for release. Earnings season continues with Pfizer, Time Warner, CVS and Visa showing the range of companies reporting.
COMMENTARY
It’s May: Go Away.
The old adage is: “Sell in May and go away.” Investors did just the opposite in April, as they decided to “buy, buy, buy.” For the month, the Dow added 4% and the S&P rose 3%, regaining levels not seen since the early summer of 2008. It is unlikely that those same investors saw themselves giving it all back one month later.
Why the rush into stocks? Earnings season continued with 73.1% of companies reporting numbers surprising to the upside, as corporations demonstrated improving balance sheets, growing revenues and healthy profit margins. Companies streamlined production and fattened their bottom line with lucrative exports helping earnings handily beat the 1.8% GDP growth announced for the first quarter. The Federal Reserve reinforced the platform for growth by maintaining its stance on low interest rates, while tame core inflation figures continued to defy any spillover from elevated oil prices.
But all was not rosy. At the same time investors were forking over their hard earned savings to the will of the markets, Headliners were screaming ominous warnings. According to some commentators, the dollar was dying and the only safe assets were gold, commodities and foreign holdings.
The dollar is certainly feeling pinched as of late. In 2011 it has fallen 7.7% against a basket of six major currencies (DXY), declining 3.8% in the month of April alone. A falling dollar pushes oil prices up, translating into escalating gas prices, and drawing attention to the dollar’s woes even at the consumer level.
Meanwhile, the bond markets remain placid, avoiding any signs of inflation panic or undue concerns about the dollar. And gold, which is denominated in dollars (and, therefore, tends to rise when the dollar falls), was up 8% on the month.
So how can we fit this all together – rising equities and commodities, stable bonds and a falling dollar? It all boils down to your outlook for the U.S.
The dollar is falling due to longer term concerns about the U.S. debt - a lack of faith in responsible behavior by government officials and worries about the amount of money the Federal Reserve has pumped into the economy. There are also concerns about slower growth and the Fed’s dedication to keeping interest rates low. In addition, there is a popular current investment strategy, called “short the dollar and buy commodities,” which bets against the dollar, exacerbating its fall.
But a falling dollar is not necessarily a bad thing, as long as it is orderly, as has been the case so far. A falling dollar makes our exports more attractive to overseas consumers, helping to pump up profits, especially in large cap S&P companies which derive nearly half of their revenue from abroad. It can also make our debt cheaper to repay. And it props up commodity and equity prices, benefiting investors.
Is there real cause for concern? Not yet. The U.S. economy is still on track for a decent recovery, oil shocks are manageable, the dollar is gliding not sliding down, and the geopolitical scene has temporarily settled back down. Officials will begin to worry if the dollar’s decline translates into volatility in the stock or bond markets. This could happen if overseas investors find their U.S. investments declining in value and opt to go elsewhere with their money.
In addition, a falling dollar impacts inflation, as import costs rise. Although repeated measurements show core inflation is mild, expectations for inflation could readily shift if banks start lending more freely, or if the Federal Reserve loses some of its credibility as an inflation fighter, or if foreign nations become more critical of the U.S. and pullback on their purchases of U.S. treasuries. It pays to continue to watch the data.
Where does that leave the investor? Someone with a diversified portfolio that includes equities (U.S. and international), commodities (especially gold) and select currency plays has benefitted from this dollar move. Consensus has the dollar falling further. However, the decline may not be a straight line. If investors suddenly forsake risk assets (another geopolitical flare up) the dollar could become attractive again, and those overly invested in the commodities/foreign asset strategy could experience a lot of pain.
It is good to remember that no single investment play lasts forever. What appears to be convincing one day can change dramatically the next*. And when the average investor hears about a sure way to make money, chances are the professionals have already been in that space, made money and are preparing to exit, or should we say, “go away.”
*Just look at today’s news of the successful U.S. military operations in Pakistan for how fast important issues can change.
*Past performance is not indicative of future results. Indices are unmanaged and you cannot directly invest in them. The Nasdaq Composite Index measures all NASDAQ U.S. and non-U.S. based common stocks listed on the Nasdaq Stock Market. The S&P 500 index is based on the average performance of 500 industrial stocks monitored by Standard and Poor’s. The data referred to above was taken from sources believed to be reliable. StrategicPoint Investment Advisors has not verified such data and no representation or warranty, expressed or implied, is made by StrategicPoint Investment Advisors.
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