Financial Market Update
StrategicPoint of View®
September 26, 2011
LAST WEEK
The Federal Reserve, at its Open Market Committee Meeting on Wednesday, announced Operation Twist – a plan to buy $400 billion of long term US treasuries in an effort to push long term interest rates lower and create more liquidity in the lending market. OT was priced into the markets going into the week, but the Fed’s commentary was not; it warned of “significant downside risks to the economy” including “strains in the global financial markets.” Stock tumbled in response to the statement.
Economic data was mildly positive in the US, with leading indicators rising 0.3%, jobless claims receding to 423,000 and existing home sales topping estimates. In Asia, the news was not so sanguine. Sentiment from purchasing managers in China turned negative, reducing the China HSBC manufacturing PMI index to below 50, a sign of contraction, although nominal growth remains strong. What the PMI number shows is that the crisis in Europe and eroding growth in the US are having a negative impact on the Chinese economy.
S&P 500: 1136 (down 6.58% for the week and down 9.63% on the year)
NASDAQ: 2483 (down 5.30% for the week and down 6.37% on the year)
Dow: 10,771 (down 6.41% for the week and down 6.96% on the year)
US Treasury 10 yr: 1.84% (from 2.05% last week)
Crude Oil (November): $79.85 (from $87.90 last week)
Gold (December): $1,640 (from $1,815 last week)
USD/Euro: $1.3458 (from $1.3808 last week)
THIS WEEK
Even if all of this week’s economic data is positive, it will be unlikely to inspire a sustainable rally, unless European leaders give the markets what they want: a realistic plan to resolve the euro zone debt crisis and fortify its banks. New home sales, September consumer confidence and sentiment indices, August durable goods orders, final Q2 GDP, and personal income/spending are scheduled for release this week. Friday is end of the third quarter – one that investors may be happy to put behind them. And elected officials might find themselves in the hot seat again, if they engage in messy political sparring over a spending bill that must be passed by Friday’s US fiscal year end.
COMMENTARY
While You Were Sleeping
If you fell asleep on September 9th and woke up on September 24th and glanced at the S&P, you would see that it had declined 1.5% over the two week period. “Not great, but not terrible,” you might have thought. After all, we are still in the trading range of 1120 to 1230 established over the last few months.
But, then, if you looked more closely at the data and went back to read the headlines of the last week, you might find your pulse quickening and your levels of anxiety rising. Gold fell 9.7%; silver was off over 23%; and oil tumbled 9.1%. The Dollar and US Treasuries proved the exception this week, each enjoying a bounce, but not on the back of good news.
Stocks
To explain plummeting prices, there were the usual objects of disdain or concern: paralysis created by haggling political leaders, the sluggish US economy, and an increasingly shaky European banking system. But added to the list this past week were an underwhelming Operation Twist and the threat of a weakening Chinese economy. There was no offsetting good news to latch on to.
Europe, once again stole center stage, more for its lack of leadership that any initiatives. Investors were madly stamping their feet and waving their hands to get attention. “We’ll provide the excuse you (euro zone leaders) need to get moving,” they hollered, sending prices lower for dramatic effect. The response was a joint emergency communiqué from G20 finance ministers rehashing past pledges to restore confidence. Markets were not swayed.
Gold
The sell off in gold was counterintuitive. Usually when markets express fear, gold rises in response to the risk-off trade. But this week’s selling had little to do with gold being a safe-haven. Rather, the rapid sell-off in stock prices prompted traders to take profits in the precious metal in order to meet margin calls or to offset losses. In addition, European banks appeared to be selling gold in anticipation of the need to raise cash for capitalization, while momentum traders added to the selling pressure. In addition, with inflation fears abating, gold became less attractive as a hedge.
Gold remains up 15% this year (even after this week) and has climbed 6 fold in the last ten years. Given current economic conditions, there are likely to be more gains to follow. However, what the metal proved this week is that it can fall just as hard as the next commodity. Investors should not assume that safety is gold’s middle name.
Emerging Markets:
The sagging PMI data on China weighed on emerging market sentiment, causing Asian stocks to swoon. China’s biggest export market is Europe, which is flirting with recession, threatening to derail the emerging market growth story. Caught up in a global exit, few traders were looking at the bright side. Unlike developed markets, emerging markets are in a position to cut interest rates and stimulate their economies. They lack the weak financial sectors found in Europe and the US, and they have little debt in comparison to the rest of the world. But this past week, EM investors were just like everyone else: disenchanted by stocks and waiting for the European miracle.
Dollar
Traders sold non-traditional currencies on mass in exchange for the Dollar, which became the favored haven. It was a heighted risk-off trade. Since currencies move relative to each other, the rising Dollar resulted in the fall of other currencies. Sudden currency weakness can cause inflationary problems, as much needed imports rise in prices. Since many countries have been fighting internal inflation already, a number of central banks around the globe (Korea, India Russia and Brazil) stepped in to shore up their currencies. This type of move can be expected to continue, but the dollar could still benefit in the short term from global economic concerns.
A very active trading week ended with the International Monetary Fund meeting in Washington over the weekend. Pressure is growing on European leaders to authorize expansion of the rescue fund (EFSF) through the ability to borrow against it. This could protect Greece and other countries from default. However, European leaders are resisting these measures, as they focus on the self interest of their respective countries. It appears that pressures will need to increase before definitive action is taken. Unfortunately, the markets may experience more volatility before receiving enough reassurance to support a sustained rebound in prices.
*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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