Financial Market UpdateStrategicPoint of View®
October 31, 2011
LAST WEEK
Economic data came in stronger; most notably - the 2.5% first estimate of third quarter GDP growth. For a quarter that encompassed a 16% decline of the S&P 500, the 2.5% was a reassuring figure.
New home sale rose, housing starts jumped, jobless claims remained steady, the Kansas City and Chicago Fed outlook improved and personal spending was robust. However, all was not rosy: consumer confidence took a dive, durable goods orders dropped and personal income barely budged.
Europe was the focus of investor attention. On Thursday, political leaders attending the European Summit announced a comprehensive solution to the euro zone debt crisis involving a voluntary 50% cut in the value of Greek sovereign debt, more burdensome bank recapitalization requirements, and an increase in the funding capacity of the European bailout fund (EFSF) to $1.4 trillion. The Dow rallied a stellar 340 points on the news.
S&P 500: 1,285 (up 3.80% for the week and up 2.23% on the year)
NASDAQ: 2,737 (up 3.79% for the week and up 3.21% on the year)
Dow: 12.231 (up 3.57% for the week and up 5.65% on the year)
US Treasury 10 yr: 2.32% (from 2.20% last week)
Crude Oil (December): $93.49 (from $87.40 last week)
Gold (December): $1,744 (from $1,643 last week)
USD/Euro: $1.4160 (from $1.3896 last week)
THIS WEEK
It is another first week of the month. This means that two major indicators are on this week’s schedule: the ISM manufacturing index, out on Tuesday, and the jobs report on Friday. Productivity, factory orders and the ISM non-manufacturing index will provide additional information on the economy. In addition, the Federal Reserve Open Market Committee meets. No changes or additions to previous announcements are expected, but the guidance from this meeting will be carefully watched.
COMMENTARY
By Design
Last week Europe gathered the ingredients for a resolution to its debt crisis. What remains to be done is to put those ingredients together into workable formulas for the various bailouts. There is still risk that the formulas will be watered down and the measures will have to be taken over a longer than desired period of time. But what was missing before last week - the political will - seems now to be in place. In its usual volatile style, the markets shot up Thursday as if political leadership alone could solve the euro zone debt crisis.
Cooler heads prevailed on Friday. The bears, who couldn’t get a word in edgewise during the previous day’s rally, became much more vocal with their concerns, focusing on the sincerity of Italy’s promises, the willingness of Greek bondholders to accept a 50% haircut, and the lack of clarity as to who exactly is going to fund the EFSF. However, with France and Germany united on the plan, and the other euro zone leaders on board, fears of an imminent European meltdown were generally dismissed.
All is not expected to be peaceful going forward, however. With voters in Greece, Italy and Germany unhappy with the outcome of the agreement and skeptics questioning the sufficiency of the programs, we can expect more wrangling, hand ringing, rioting and political machinations as the details and implementation of the agreement are ironed out. We might even get a few more scary moments of brinksmanship. That means market volatility will not likely wane. However, we have been spared a repeat of 2008 and that is worth celebrating.
Over the last few months, while the focus has remained on Europe, the US economy has been slowly strengthening. This week’s announcement that GDP rose 2.5% in the third quarter was a major step forward. It took another fear – that of recession – off the table for now. Q2 GDP was a sluggish 1.3% and Q1 growth was a measly 0.4%. The key to third quarter growth was spending. Consumer sales of durable goods, such as cars, rose over 4%; spending on services leapt 3%, while business expenditures rose 16.3% to a level last seen more than a year ago. In addition, manufacturing exports increased 4%.
From here economists and investors will be looking at momentum. If businesses, which have been hoarding cash, start to apply that cash to hiring and if consumer spending ramps up for the holidays, rising confidence could keep GDP growth within the 2-3% range. Should the naysayers keep consumers and businesses on edge or if there is another major blow to the global economy, then US growth could stall in the 1-2% range.
Strategists are often asked where they think the market will end up on December 31st (or June 30th or some other date). With the advent of heightened volatility, the best response is, “It depends.” One, two or three weeks can make a dramatic difference in terms of stock prices, as we witnessed in September (S&P down 7%) and October (S&P up over 13% on the month through Friday). If December is a good month, the S&P could see double digit growth as the year closes out. If investors go on to take profits the last two weeks of the year or if momentum players start betting on the negative or if traders are spooked by piece of news, then 2011 could end with a less sanguine outcome. Volatility, which isn’t going away, makes assigning dates to market valuations essentially irrelevant.
A better question is to ask what will be the overall direction of the markets over the next six to nine months, after taking into account volatility. With two major fears – a European credit crisis and a double dip recession in the US – removed from the equation for now, and with stocks still appearing reasonably valued, we believe that the direction for equities is higher. However, we are not prepared to recommend that investors heavily overweight equity holdings at this point in time. A crisis may have been averted, but the execution of any plan is just as important as its design.
*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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