The Longest Yard (Crescenzi)

Tuesday, July 31st, 2012

by Tony Crescenzi, PIMCO

• As the global slowdown progresses, we can expect central banks to deploy more policy tools – without limits – to stem the pace of deleveraging.
• In Europe, quantitative easing using ESM bonds could prove to be another bridge that buys politicians more time, but does not solve the root problem.
• We expect real economic growth in China to be muted. While some stabilization is possible later this year, it is hard to foresee a sustained recovery.

Saddled with debt and mindful of recalcitrant investors, nations in the developed world have lost their ability to solve their economic woes by adding more debt, leading them more than ever to rely upon central bank action. It is fantasy, however, to think that central banks can keep the game going for long. No central bank ever created anything tangible – you won’t find any stories about a Fed chairman discovering electricity or creating the light bulb. What central banks are best at creating is fiat currencies, and these are only as valuable as what they are backed by, whether it be gold, silver or the productive capability of a nation. Create or print too many of these and they will have no value to anyone, save for nerdy numismatists.

All that a central banker can do to add value to society is help foster financial conditions that facilitate the efficient use of capital, but even here central bankers can get it wrong and produce exactly the opposite result. The housing bubbles that preceded the onset of the recent financial crisis are proof; they were in fact at the heart of the crisis.

Central bankers today are striving valiantly to help smooth the deleveraging process by promoting conditions aimed at reflating the value of financial and real assets that would otherwise almost certainly fall in price. This isn’t easy to do because the world is striving just as valiantly to reduce its debt, taking actions that result in persistent downward pressure on asset values.

Central bank liquidity can’t turn the lights on in Italy

The orderly liquidation of debt requires economic growth. By boosting asset prices, central bankers have sought to promote economic growth and buy time for the fiscal authorities of the developed world to formulate and implement growth-oriented policies. Global investors have been patient, but the repeated failure of policymakers has their patience running thin.

No amount of central bank liquidity by the Federal Reserve, the European Central Bank (ECB) or any other central bank can possibly fix what ails the developed economies. The ECB, for example, can’t fix the fact that Italy ranks 109th out of 183 countries in providing electricity. Nor can it fix the fact that Spain ranks 133rd in the ease of opening a business. How about Greece?

Can the ECB reduce the size of government, improve tax collection or reduce the number of occupations Greece considers so hazardous that hairdressers, pastry chefs and clarinet players can retire in their early 50s? In the U.S., can the Fed reduce the outsized growth rate of the entitlement system? Central bankers can do nothing about these competitiveness issues, but the restoration of growth and competitiveness is essential to improving the ability to repay debt.

To use football vernacular – and here I mean American-style football – central bankers have taken the ball about as far down the gridiron as they can. To be sure, they can still do more; the Fed could implement another round of asset purchases, cap Treasury rates, cut the interest rate it pays banks on excess reserves, extend further its conditional promise to keep rates low, or perhaps consider some form of credit easing. If the Fed did any of these it would mark another courageous effort by The Decider, Fed Chairman Ben Bernanke, but it will never get the ball into the end zone.

To cross the goal line, to restore growth and competitiveness, the fiscal authority – not the monetary authority – must move the ball. This isn’t easy because the citizens of the world are voicing their objection to the changes necessary to do so. Try all you might, central banker, but at the 99th yard you will find the longest yard!

Unlimited global monetary policy – Ben Emons

In recent media debates, some commentators have pointed out that quantitative easing (QE) programs may have seen their effectiveness diminish. However, monetary policymakers in both developed and emerging markets continue to pursue easing measures. Different kinds of policies emerged, such as the Bank of England’s direct lending scheme, known as “credit easing.” The European Central Bank and the Danish central bank went another direction, cutting their deposit rates to zero or even negative. The lower zero bound is often viewed as a constraint, a limit in using conventional tools. The ECB and Danish central bank decisions to cut deposit rates showed how conventional policy is not necessarily limited. In fact, all central banks could cut deposit rates or rates on excess reserves in order to “force” out large cash balances held at the central bank to stimulate lending.

There could be “practical limits,” where QE or deposit rate cuts cause nominal and real interest rates to turn negative, affecting future income streams on savings accounts, pension funds and money market portfolios. The central banks’ growing market share in longer-term Treasury bonds and their low yields has added to the challenge. These practical limits are not necessarily seen as a barrier, evident by the recent string of actions by emerging and developed market central banks. Milton Friedman argued in his 1968 paper, “The Role of Monetary Policy,” how monetary policy should be based on limits. His view was that policy should not “peg” interest rates for a prolonged period of time or it may lead to structural inflation. Friedman pointed out that rapid monetary base growth was generally associated with high nominal rates, a sign in his view of easy policy, e.g., Brazil in the 1960s. Low interest rates were related to slow money growth, like the U.S. during the 1930s, which Friedman viewed as tighter monetary policy. Friedman saw the setting of rates connected to the amount of money growth the central bank would conduct to influence price expectations. When interest rates are pegged in an environment of seemingly stable inflation expectations, Friedman noted a risk of disconnect where the monetary base could become uncontrollable and lead to higher inflation.

In today’s environment of low interest rates, monetary base growth and stable inflation expectations, such disconnect is not seen as a risk, as debt deleveraging has been overwhelming. Since most major central banks see deflation as a bigger risk at this point, practical limits or those limits that Friedman spoke of do not seem to be tempering the willingness of global central banks to go further. In fact, as the global slowdown materializes further, we can expect more policy tools will be deployed to stem the pace of deleveraging, and without any limits.

The ECB can only provide a bridge – Andrew Bosomworth

The ECB can only provide a bridge for the European monetary union’s problems, not a solution. Its decision to cut all policy rates by 25 basis points (bps) earlier this month signaled the bank’s ongoing willingness to provide that bridge by creating time for political and fiscal agents to implement durable solutions. Judging by the gyrations in yields on southern European bonds since the ECB’s meeting, however, markets were evidently disappointed the ECB did not announce further unconventional measures to shore up Europe’s dysfunctional bond markets. Even after ECB president Mario Draghi’s “whatever it takes” statement on 26 July, we still have not seen yields on outer peripherals drop to sustainable levels.

Market expectations for unconventional measures derive from at least two sources. First, since the ECB crossed the Rubicon in 2010 by buying Greek government bonds, markets now believe the bank will do whatever it possibly can to prevent the Economic and Monetary Union (EMU) from breaking up; the costs of not doing so would be too great. Indeed, the ECB currently holds €211 billion in securities from previous forays into the bond market. Second, some market participants, policymakers and influential figures, like Italy’s prime minister and the head of the IMF, are lobbying the ECB to buy even more in order to drive southern European bond yields lower.

Such proposals are shortsighted and address the symptoms rather than cause of the EMU’s problem. Buying bonds without fixing the design faults in the EMU’s governance structure is a near-term fix whose beneficial effects, like painkillers, will soon wear off. Were the ECB to follow lobbyists’ calls and resume the Securities Market Program (under which it bought government debt in 2010 and 2011), it will not solve the governance structure problem. However, buying bonds to ward off deflation once conventional monetary policy has reached the zero lower bound is likely warranted.

The ECB usually refers to Article 123 of the Treaty on the Functioning of the European Union, which prohibits it from financing governments’ budget deficits. The ECB’s reasoning is not entirely clear, given the same European law (part of the Lisbon Treaty) governs both the ECB and Bank of England (BoE) yet the latter buys government bonds as part of its quantitative easing. We think the explanation lies in differences between the ECB and BoE’s perceived risk of deflation, the degree of trust between the monetary and fiscal authorities and the fragmentation of the EMU government bond market relative to the singularity of the United Kingdom’s government bond market owing to its centralized fiscal policy.

As credit to the EMU’s private sector declines – the natural consequence of deleveraging after a credit boom – the risk of deflation in Europe is likely to rise. We think deflationary forces will intensify, making a further reduction in the main refinancing rate to 0.5% likely and perhaps necessitating quantitative easing. Which government bonds might the ECB buy in those circumstances?

The ECB’s capital key (which reflects each member country’s proportional contribution to total capital) suggests about one-quarter and the largest allocation of purchases would be in German Bunds. But capital flight to Bunds has already driven their yields abnormally low, suggesting quantitative easing would achieve little. And the ECB would send mixed signals if it concentrated purchases in Italian and Spanish government bonds. Would the ECB do this to offset eurozone-wide deflation risks or to compensate for member states’ reluctance to centralize fiscal policy?

Purchasing the bonds of the European Stability Mechanism (ESM) could circumvent this dilemma. Unlike the ECB, the ESM is designed to provide member states with financial assistance subject to conditionality. While it lacks the same degree of democratic legitimacy as Europe’s parliaments, at least the ESM is a child born of the democracy. However, like its predecessor, the European Financial Stability Facility (EFSF), the ESM’s main weakness is that it is unfunded. We think the ESM will find it equally difficult to raise sufficient funds from the capital market at low enough yields to perform the job it is designed for. And even if it finds buyers, the ESM will likely crowd out demand for other government bonds from Italy, Belgium, France and Austria, thereby raising their borrowing costs. Quantitative easing using ESM bonds could thus prove to be yet another bridge that buys politicians more time but does not solve the root problem. When it comes to Europe there is only one thing we can say with certainty: This crisis is not yet over.

People’s Bank of China moves to counter weakening growth – Isaac Meng

Policymakers in China face different limitations today than those in the U.S. and Europe, but they too have had to respond to the strain in the global economy, especially as slowing global demand exerts downward pressure on China’s export-investment-driven growth model. In a surprise move, the People’s Bank of China (PBOC) cut its benchmark rate by 25 bps twice within a month. The PBOC also deregulated deposit rates, allowing a 10% float above the benchmark, which largely offsets the cut’s effect on deposit and lending rates.

Though one to two months earlier than the market expected, the latest rate cut is not surprising in light of weakening growth and a slowing inflation outlook. Second quarter growth at 7.6% is barely above target, and inflation risk is easing fast with CPI likely stay below 2.5% over the next two to three quarters versus the PBOC’s target of 4%. Even though rates were cut by 50 bps, China’s real rates are still rising because CPI is heading down toward 2%. If the PBOC targets positive real deposit rates as a floor in the medium term, then there is still room to cut another 25 bps to 50 bps. The 8% to 9% average lending rates remain too high for borrowers struggling to deleverage amid a deepening industrial slowdown.

With the Chinese yuan’s outlook and foreign flows turning to a more balanced stance, the PBOC needs to further unwind past foreign exchange sterilizations, most likely by cutting the Reserve Requirement Ratio by 50 bps per quarter to maintain money market rates in the range of 2.5%–3.0%.

Despite room for monetary easing, the PBOC still seems behind the curve in easing financial conditions. Chinese banks remain tight in credit and slow to cut their lending rates. Domestic Chinese borrowers have excess capacity to deleverage, and the yuan’s nominal effective exchange rate is rising amid a rigid foreign exchange rate regime. Thus, we expect real economic growth in China to be muted and slow, and while some stabilization is possible in late 2012, it is hard to see a sustained recovery.

Past performance is not a guarantee or a reliable indicator of future results. This material contains the opinions of the authors but not necessarily those of PIMCO and such opinions are subject to change without notice. This material has been distributed for informational purposes only. Forecasts, estimates, and certain information contained herein are based upon proprietary research and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed. No part of this publication may be reproduced in any form, or referred to in any other publication, without express written permission.

Copyright © 2012, PIMCO.

Tags: Asset Values, Central Banks, Downward Pressure, Economic Growth In China, Economic Woes, Efficient Use, Fed Chairman, Fiat Currencies, Financial Crisis, Global Slowdown, Gold Silver, Light Bulb, Longest Yard, Numismatists, PIMCO, Policy Tools, Productive Capability, Real Assets, Root Problem, Tony Crescenzi
Posted in Markets | Comments Off

The Economy and Bond Market Radar (July 23, 2012)

Saturday, July 21st, 2012

The Economy and Bond Market Radar (July 23, 2012)

Treasury yields headed modestly lower again this week. Retail sales were much weaker than expected. Inflation and manufacturing data were more or less in line with expectations, while housing data was mixed. By Friday, European financial concerns had resurfaced as Spanish 10-year bond yields spiked above 7 percent and hit new highs. Spain indicated its recession will likely continue into next year. U.S. treasuries remain a safe haven for global investors, pushing yields lower this week.

Strengths

• Industrial production rose 0.4 percent, ahead of expectations and a bright spot in an otherwise lackluster week for economic data.
• Real estate lending in China jumped 20 percent year-over-year in the second quarter and already shows Chinese policy-makers are taking aggressive action to combat the ongoing global slowdown.
• Housing starts rose 6.9 percent in June and the National Association of Home Builders confidence index had its biggest increase since September 2002.

Weaknesses

• Retail sales fell 0.5 percent and have now fallen for three months in a row, which bodes very poorly for second-quarter GDP growth.
• The Conference Board’s Leading Index fell 0.3 percent in June, also indicating lackluster growth.
• Auto sales in the European Union fell 2.8 percent in June for the ninth consecutive monthly drop.

Opportunity

• With growth tepid, the Federal Reserve will not only remain accommodative, it may increase accommodation in the next few months.

Threat

• Europe remains a wildcard with the markets shifting focus on a weekly basis.

Tags: Aggressive Action, Auto Sales, Bond Market, Bond Yields, Chinese Policy, Confidence Index, Economic Data, Financial Concerns, GDP Growth, Global Investors, Global Slowdown, Housing Starts, Market Radar, National Association Of Home Builders, New Highs, Quarter Gdp, Safe Haven, Shifting Focus, Treasuries, Treasury Yields
Posted in Markets | Comments Off

And Now Back To Reality And The Impossible Earnings Season Stepfunction

Sunday, July 15th, 2012

Last week the S&P erased 6 days of consecutive losses in 30 minutes of trading on the back of news that JPMorgan lost at least 25% of its average annual Net Income in one epic trade, and stands to make far fewer profits in the future, even as the regulators are about to fire a whole lot of traders for mismarking hundreds of billions in CDS. This was somehow considered “good news.” This being the “new normal” market, where nothing makes sense, and where EUR repatriation as a result of wholesale asset sales by European banks drives stocks higher, we were not too surprised. Sadly, even in the new normal, things eventually have to get back to normal. And that normal will come as corporate earnings are disclosed over not so much over the next 3 weeks, when 77% of the companies in the S&P report Q2 results, but in the 3rd quarter. Why the third quarter? Simple: as Goldman’s David Kostin explains, “consensus now expects year/year EPS growth to accelerate from 0% in 2Q, to 3% in 3Q to 17% in 4Q.” Sorry, but this is not going to happen, and as more and more companies preannounce on the back of the global slowdown which many has seeing US GDP down to 1.3% in Q2, and sliding further in Q3 absent some massive QE program out of the Fed, it is virtually guaranteed that the unchanged Earnings precedent that Q2 will set (and there is a very high probability that Q2 2012 will mark the first YoY drop in earnings since the unwind Great Financial Crisis) will continue into Q3 and likely Q4. Because, sadly there simply is no catalyst that will drive revenues higher, even as margin contraction was already set in.

All of this also means that the only possible driver of S&P growth in Q3 (of which we are already 2 weeks deep into) and Q4 will be multiple expansion. This, however too, will be a disappointment. Again from Kostin:

We believe P/E multiple expansion is unlikely in 2H. Headwinds include the fast-approaching Presidential election, associated policy uncertainty, and the looming “fiscal cliff” that everyone outside the beltway decries but no one in Washington, DC seems willing to seriously address.

Not to mention the debt ceiling which is still on track from making US landfall sometime in the next 3 months.

So while short covering rallies are fast and furious, corporations -that traditional deus ex to justify US “decoupling” – now have only one fate before them: disappointment.

Which leaves the Fed. Sadly, not even the extension of Twist can do anything about the biggest concern that banks are currently facing, namely the accelerated decline in reserves, as a result of the prepayment of Maiden Lane obligations and the gradual drop in FX swaps (at least until the next time Europe needs a Fed-based bail out that is). As can be seen in the chart below, Adjusted Reserves have tumbled to level not seen since December, and then May of 2011, both times when the market was about to turn over if not for global coordinated central bank intervention.

Full note from Goldman:

Our 2012 investment thesis for the US equity market has three pillars: a stagnating economy, static P/E multiple, and minimal earnings growth.

First, weak macro data and three proprietary Goldman Sachs indictors support our view of a lackluster economy. The Goldman Sachs Current Activity Indicator (CAI) shows the US economy growing at an annualized pace of just 1.3%. The three-month moving average of our Earnings Revision Leading Indicator (ERLI) diffusion index, a measure of 29 separate micro-driven industry data points, remains below trend at 41, consistent with a softening of our Global Leading Indicator (GLI). On the macro front, the June ISM report slipped to 49.7, the first sub-50 print in three years.

Second, we believe P/E multiple expansion is unlikely in 2H. Headwinds include the fast-approaching Presidential election, associated policy uncertainty, and the looming “fiscal cliff” that everyone outside the beltway decries but no one in Washington, DC seems willing to seriously address.

The third leg of our three part framework will come into clarity during the next several weeks as firms report 2Q results and offer guidance on business activity for the second-half of 2012. 80% of S&P 500 market cap will report between July 16th and August 3rd. Firms to watch next week include: BAC, C, GE, IBM, JNJ, KO, MSFT, PM, SLB, and VZ.

We expect a modest quarterly earnings miss. A shortfall in sales rather than margins will be the primary culprit. Firms will struggle to meet revenue forecasts given weak global demand and a strong US Dollar. Consensus margin expectations are already flat or negative in most sectors.

Bottom-up consensus currently forecasts flat year/year EPS growth, driven by a 4% increase in sales and a 40 bp fall in margins to 8.9%.

Five sectors are expected to post negative earnings growth in 2Q 2012 compared with 2Q 2011: Energy, Materials, Utilities, Consumer Discretionary and Consumer Staples. Analysts forecast Materials and Energy will both post year/year EPS declines of 12% reflecting the sharp fall in commodity prices during 2Q, with Brent plunging by 16% and copper dropping by 10%. In contrast, Industrials and Information Technology will report EPS growth of 7% and 11%, respectively. Apple (AAPL) will again be a standout performer with year/year sales and EPS growth of 32% and stable margins of 25.6%. Including AAPL, the Tech sector is forecast to deliver sales and EPS growth of 9% and 11%, respectively. Without AAPL, the sector will post revenue and EPS growth of 6% and 7%, respectively.

2Q results will affect the market’s outlook for earnings in 2012 and 2013. Consensus now expects year/year EPS growth to accelerate from 0% in 2Q, to 3% in 3Q to 17% in 4Q. Consensus forecasts full-year EPS growth will double from 7% in 2012 to 14% in 2013. In contrast, we do not forecast a steep 4Q 2012 inflection and anticipate EPS growth climbing from 3% in 2012 to 7% in 2013.

Our full-year 2012 and 2013 S&P 500 EPS forecasts remain $100 and $106. Current bottom-up consensus equals $103 and $117. Consensus 2012 estimate has dropped from $107 in January and from $114 in August 2011.

Earnings season focus points: (1) domestic demand; (2) international weakness; (3) margins; and (4) losses from JP Morgan’s CIO unit.

Our ERLI Diffusion Index suggests US micro data improved in June but the three-month moving average remains below trend at 41. In May, our diffusion index of micro driven, industry-level data points fell to 29, the lowest reading since April 2009 (a reading of 50 implies “trend” growth). However, data rebounded in June producing a slightly above trend reading of 53, with 23 of 29 industry variables increasing at a trend or better pace. Examples include hotel occupancy, rail car loadings, and NY/NJ port activity. If this trend persists, it implies that the micro data points which inform equity analysts’ earnings projections may not be as poor on a near-term basis as an otherwise gloomy macro picture suggests. In contrast, our macro driven Global Leading Indicator of industrial production has been contracting at an accelerating rate for the last three months, which our research has shown augurs poorly for S&P 500 returns.

Margins will once again be source of scrutiny. Margins have stabilized at 8.9% for more than a year after having surged by 300 bp from a cyclical low of 5.9% in 2009. Differing margin forecasts explain 80% of the gap between our top-down EPS estimate and bottom-up consensus for 2012. Consensus expects margins to remain flat during the first three quarters of 2012 before rising sharply starting in 4Q and expanding to 10% by year end 2013. In contrast, we forecast margins will hover around 8.9% for the next two years.

JP Morgan CIO trading losses. This morning JPM reported 2Q EPS of $1.21, 59% above consensus expectations of $0.76. Of course, analysts had cut estimates by 38% since May after the bank disclosed large trading losses in its chief investment office. The JPM CIO losses of $4.4bn reduce 2Q 2012 EPS for the S&P 500 by $0.49. For the Financials sector, year/year EPS growth in 2Q is anticipated to be 8% including JPM and 12% without.

Tags: 2q, 3q, 3rd Quarter, Asset Sales, Consecutive Losses, Contraction, Corporate Earnings, Earnings Season, European Banks, Financial Crisis, Global Slowdown, Goldman, Kostin, Net Income, Nothing Makes Sense, Q3, Q4, Qe, Repatriation, S David
Posted in Markets | Comments Off

Are Weak Earnings Already “Baked In”?

Tuesday, July 10th, 2012

I’ve been speaking quite a while about the difficult this earnings period could be. I’ve actually been more concerned about future guidance – Q3 and Q4 seem wildly optimistic in the context of a global slowdown, but as we get closer to the actual reporting period I’ve become concerned with the Q2 data as well. We’ve already had a flurry of high profile warnings and with both an European and Chinese slowdown, a lot of the multinational revenue growth could be in question. The stronger dollar also does not help these firms.

But the stock market is all about expectations. Many times we see a company lowball guidance or reduce expectations over the course of a quarter only to “beat” them on the day of earnings and see the stock surge. That’s just part and parcel with the Wall Street game. And I’m starting to see a lot of stories in the past 2 weeks about the potential for a bad earnings season. So has this become “baked in” at the macro level? That could be the main question to answer over the next 4 weeks.

Story 1: Reuters - Investors Brace for Shaky U.S. Earnings Season

Earnings season begins on Monday with U.S. companies facing a litany of issues that could make second-quarter reports look dismal.

Corporate outlooks are at their most negative in nearly four years and companies that have already reported have shown lackluster growth. Nearly two dozen S&P firms have already cited Europe’s woes – which seem to be worsening – as a concern.

In addition, more than 85 members of the Standard & Poor’s 500 lowered expectations in the last several weeks and the quarter’s expected earnings growth of 5.8 percent is entirely due to Apple Inc and a big earnings gain for Bank of America Corp due to a mortgage settlement last year.

Earnings growth is estimated to decline 0.4 percent without the benefit of Apple and Bank of America.

Revenue is seen up just 1.7 percent, down from 5 percent growth in the first quarter, the data showed.

Corporate outlooks are the most negative they’ve been in years. Negative-to-positive earnings guidance is now at 3.3 to 1, the worst since the fourth quarter of 2008.

Story 2: AP – Get Ready for the End of Record Corporate Profits

For almost three years, no matter what has rattled the financial markets — a debt crisis in Europe, high gasoline prices, a slower economy — investors have been soothed by rising corporate profits.

The storyline became as predictable as a soap opera’s. But when the latest round of corporate earnings starts rolling in this week, look for a twist: Profits are expected to fall.

Stock analysts expect earnings for companies in the Standard & Poor’s 500 index to decline 1 percent for April through June compared with the year before, according to S&P Capital IQ, the research arm of S&P.

That would break a streak of 10 quarters of gains that started in the final quarter of 2009.

Copyright © Market Montage

Tags: Bank Of America, Bank Of America Corp, Earnings Gain, Earnings Growth, Earnings Season, Global Slowdown, Litany, Macro Level, Outlo, Outlooks, Q3, Quarter Reports, Reuters, S 500, Season Earnings, Second Quarter, Stock Market, Stock Surge, Story 1, Street Game, Woes
Posted in Markets | Comments Off

The Emerging Market Growth Story Continues (ING)

Tuesday, March 20th, 2012

by Douglas Coté, ING

We have discussed the possibility, and risk, of a hard landing in China (growth slowing to less than 7%), but what has been going on in some of the other BRIC’s like India and Brazil? Right now India is in the midst of budget negotiations which would reign in its gross fiscal deficit to 5.9% of GDP (total debt is around 50% of GDP). India’s GDP growth is expected to subside to 6.9% after two solid years of greater than 8% growth. A global slowdown as well as high oil prices have contributed to the decrease. However, Indian financial officials expect a return to 9% plus growth in the future. Meanwhile Brazil has just overtaken the U.K. to become the sixth largest economy in the world. Brazil grew 2.7% in 2011 compared to U.K.’s meager .8%. And with substantial oil and gas reserves fueling their exports, Brazil has their eye on number 5. You can find some key statistics about India and Brazil as well as other emerging markets on page 33 of the Global Perspectives book.

Click on images below for PDF

Copyright © ING Investment Management

Tags: Brazil, BRIC, Budget Negotiations, Economy, Emerging Market, Emerging Markets, Financial Officials, Fiscal Deficit, Gas Reserves, GDP, GDP Growth, Global Perspectives, Global Slowdown, India, Ing, Ing Investment Management, Key Statistics, Midst, Nbsp, Oil and Gas, Oil Prices, risk
Posted in Markets | Comments Off

Emerging Markets Cheat Sheet (October 31, 2011)

Monday, October 31st, 2011

Emerging Markets Cheat Sheet (October 31, 2011)

Strengths

• China’s Flash PMI in October came in at 51.1, its first reading above 50 in four months. A PMI reading above 50 indicates the economy is in expansion mode and Asian markets have reacted positively to the news.
• China’s resources tax policy has been revised to be based on sales. It was previously based on production, which could have an adverse effect on corporate earnings when natural resources prices are down. Also, the tax was confirmed to be at 5 percent instead of the prior proposed rate between 5 and 10 percent.
• China has created 9.93 million jobs during the first nine months of this year and the country’s unemployment rate now sits at 4.1 percent. This is evidence of China’s robust labor market.
• After September’s slower inflation figures, China is probably passed the inflation inflection point. From October 17 to October 23, vegetable prices dropped 2.5 percent, and pork prices, the major driver of this year’s inflation rates, were down 1.8 percent on a week-over-week basis. Declining inflation should relieve the People’s Bank of China from further monetary tightening.
• China’s Premier Wen Jiabao said that the country’s economic policy will be fine-tuned as needed. China’s industry ministry said it is studying “stimulative policies” for smaller companies as a global slowdown threatens growth.
• China’s Shanghai Composite Index rose 6.74 percent with increasing volume for the week, reclaiming the 50-day moving average for the first time since the end of July. It was also the first uninterrupted “up week” in a year. However, the index is still down 12 percent year-to-date and its price-to-earning ratio is at the low of 2008.
• According to Citigroup, emerging market equity funds reported a second week of inflows as investors became more optimistic about the eurozone debt crisis. Funds investing in developing-nation stocks took in $1 billion for the week ended October 26. Adrian Mowat, JPMorgan Chase & Co.’s Hong Kong-based chief Asian and emerging-market strategist, said that, “we are now calling for emerging markets to outperform the developed markets. Everything in emerging markets got considerably cheaper in the last year.”
• Russia left borrowing costs unchanged after inflation slowed to 6.9 percent. Economic growth expanded the most in three years last quarter as lending to households spurred demand, Russia’s Economy Ministry said this week.

Weaknesses

• Korea’s third-quarter GDP expanded 0.7 percent from the prior quarter. This is down from the 0.9 percent growth seen during the previous quarter but slightly better than the consensus estimate. Consumer confidence in Korea slightly increased but is still trending lower.
• Barclays Capital highlighted that Thailand’s flood is the worst in more than half a century, and may have wiped out as much as 14 percent of paddy fields in the world’s biggest rice exporter, potentially erasing the predicted global glut of rice. The crisis has severely affected large and small farmers alike. Many are also looking at more damage because they have been unable to move their animals in time to save them. One of the government’s recent measures has been a temporary waiver of the 2 percent import tariff on soybeans, a major ingredient in feed production, in order to help the livestock industry keep costs under control.
• Brazil’s September jobless rate remained unchanged in September at 6 percent, higher than expected. It had been anticipated that it would fall to 5.8 percent.
• Colombian policymakers held borrowing rates at 4.5 percent as they gauge the impact of the European debt crisis on global growth.
• Faced with a widening current account deficit, the Turkish Central Bank tightened monetary policy. The bank scaled back its weekly repo auctions and will instead provide funds via its overnight lending facility.

Opportunities

• BM&FBovespa SA CEO Edemir Pinto said that there are 40 companies waiting to list on Brazil’s stock exchange once market volatility eases after the country’s central bank cuts interest rates to boost growth, Bloomberg reports. Pinto, head of Latin America’s largest securities exchange, said the worst of the recent financial turmoil is over and investors will return to Brazilian stocks. He maintains his forecast for 200 new share sales by 2015.
• The yield on 10-year bonds issued by Poland fell below the yield on Italian debt of the same maturity on the expectations of a rating upgrade to A- from S&P.
• Russia’s 18-year quest to join the World Trade Organization (WTO) moved closer to fulfillment this week after Georgia agreed to a Swiss proposal for a compromise between the two governments.
• This chart from BCA Research shows that China’s infrastructure spending per capita is still much lower than the amount the U.S. has invested in its roads, rails, telephones, living spaces and passenger cars. Therefore, BCA forecasts China’s infrastructure build-out will continue, in turn boosting demand for natural resources and machinery.

Threats

• Sales of residential properties in Shanghai fell 14.9 percent during the first nine months to 10.63 million square meters, the Shanghai Statistics Department said. Facing increasingly tight liquidity conditions, swelling inventory and slowing sales, more Chinese developers have moved to cut prices by 30 percent in order to lure customers, Phoenix News reported from Hong Kong.
• RGE reported that a recession in developed markets, continued deleveraging in the eurozone and risk-aversion stemming from the eurozone debt crisis will hit Africa mostly through trade channels and higher financing costs. Despite sub-Saharan Africa’s overall resilience, limited financial integration on a global scale and depressed developed markets could hold back the region’s expansion. As a result, RGE has reduced growth forecasts to 4.8 percent in 2011 and 4.7 percent in 2012. In particular, RGE is expecting southern Africa, which has expanded 3 percent year-to-date, to keep lagging behind West and East Africa. This is due to the region’s weaker demographics, slower population growth and less convergence potential as the region has a higher per-capita GDP in comparison to its West and East counterparts.
• Argentina’s President Cristina Fernandez de Kirchner was re-elected in a landslide win this week, securing nearly 54 percent of votes. Ms. Fernandez’s current popularity is mostly due to the health of the economy, which has boomed thanks to high prices for exports such as soya. Days later, after regaining control, President Fernandez implemented a controversial law requiring all oil, gas and mining companies to repatriate all export revenue.
• PIRA Energy Group forecasts flat-to-declining oil production in Russia. Monthly production data to be released by the Russian statistical agency next week will give investors a more detailed view of the near-term trends.

Tags: Bank Of China, Bonds, Brazil, Corporate Earnings, Crisis Funds, Debt Crisis, Equity Funds, Expansion Mode, First Nine Months, Global Slowdown, Industry Ministry, Inflation Figures, Inflation Rates, Inflection Point, Infrastructure, Market Equity, Pork Prices, Premier Wen Jiabao, Price To Earning Ratio, Resources Prices, Shanghai Composite Index, Unemployment Rate, Vegetable Prices
Posted in Bonds, Brazil, Infrastructure, Markets | Comments Off

The Economy and Bond Market Cheat Sheet (October 17, 2011)

Saturday, October 15th, 2011

The Economy and Bond Market Cheat Sheet (October 17, 2011)

The yield on the 10-year U.S Treasury note increased by 17 basis points to end the week at 2.25 percent.

Strengths

• Retail sales rose 1.1 percent in September, the largest gain in seven months and above the 0.7 percent consensus.
• The U.S Department of Agriculture announced Thursday that China had purchased 900,000 metric tons of corn. It was one of China’s biggest-ever purchases of corn on overseas markets.
• The NFIB Index of Small Business Optimism increased to 88.9 in September, the first gain in seven months, from Augusts’ 88.1 which was the weakest since July 2010. The index averaged 100.7 in the six-year expansion that ended in December 2007.

Weaknesses

• This week the International Energy Agency, the Organization of Petroleum Exporting Countries, and the U.S Energy Information Administration all lowered forecasts for oil demand in 2012, assuming a slowdown in global economic growth.
• New unemployment claims remain high.  New claims fell by 1,000 last week to 404,000, slightly below the 405,000 consensus, but claims at this level still suggest weak hiring.
• Economists polled by Reuters expect the rate of growth in the world economy to slow to 3.6 percent in 2012 from 3.8 percent this year.

Opportunities

• With the economy weak and concerns brewing about an additional financial crisis, the Fed will remain accommodative for some time and bonds appear well supported in the current environment.
• Globally central banks have become attune to the risks of a global slowdown and will likely act to bolster economic growth.

Threats

• The threat of a more significant global economic slowdown than many expected just a couple of months ago has increased sharply.
• The threat of another global financial crisis cannot be ruled out.

Tags: Basis Points, Bond Market, Bonds, Business Optimism, Central Banks, Department Of Agriculture, Energy Information Administration, Global Economic Growth, Global Economic Slowdown, Global Financial Crisis, Global Slowdown, International Energy Agency, Nfib Index, Oil Demand, Organization Of Petroleum Exporting Countries, Overseas Markets, Petroleum Exporting Countries, U S Energy, U S Treasury, Unemployment Claims, World Economy
Posted in Bonds, Brazil, Markets | Comments Off

Extreme Divergence Between Coal Rocks and Stocks Unwarranted

Sunday, October 2nd, 2011

Extreme Divergence Between Coal Rocks and Stocks Unwarranted

By Frank Holmes, CEO and Chief Investment Officer, U.S. Global Investors

The Dow Jones Industrial Average experienced its worst quarter since the beginning of 2009. The S&P 500 Index fell 14 percent during the third quarter, with the materials sector as the worst performer, falling 25 percent. Many base metal commodities saw double digit declines, but not surprisingly, gold increased 8 percent over the quarter. It appears that fear of a “2008 repeat” drove investors from stocks despite positive long-term fundamentals.

Coal was relatively flat for the quarter, but what’s interesting is that coal companies were severely discounted. Over the last two years, coal stocks and the commodity have closely tracked each other, until this summer, when worries about a global slowdown caused coal stocks to fall off a cliff, not once, but twice, in August and again in early September. This extreme divergence between coal companies and the commodity seems unwarranted when the long-term drivers of coal remain supportive.

We discussed coal in May in Coal Use in China Shines Light on Growth, and highlighted how the price of coal was supported by strong demand from reconstruction projects in Japan along with reduced supply from floods in Australia, Indonesia, South Africa and Colombia. As the largest consumer of coal in the world, China was expected to continue to demand a significant amount of coal over the long term.

This long-term driver hasn’t changed, even with China’s concentration on controlling inflation this year. Coal inventory levels at China’s top loading port have dropped, hitting a new low at the end of September, reports Macquarie Research. In mid-September, the Daqin Railway was under maintenance for a few weeks, causing reduced deliveries, which put further pressure on the country’s inventory. As the world’s largest coal transport railway, the Daqin line transports coal from northern China to Zinhuangdao for shipping to manufacturing centers in the south and the east.

Throughout the world, coal demand is expected to rise significantly over the next 25 years. According to the U.S. Energy Information Administration’s (EIA) recent International Energy Outlook 2011, total coal demand will be driven largely by the non-OECD economies, which are primarily emerging markets. Specifically, the Asian non-OECD countries are projected to account for nearly all of the increase from 2008 through 2035, with China averaging 5.7 percent each year and India averaging 5.5 percent per year, says the EIA.

Today’s worries about a global slowdown shouldn’t impact China’s consumption levels for many commodities. In fact, a worldwide slowdown may spur additional demand from China. Macquarie explains that China’s government tends to “de-synchronize” the country compared with the rest of the world, creating an inverse relationship. This means that when the world is growing, China becomes so concerned about rising costs and inflation, that it moves quickly to slow growth.

Conversely, when world demand for commodities slows, China ramps up its infrastructure projects and scoops up unwanted commodities. In China-The Great Stabilizer, I showed a Macquarie chart indicating how China’s demand for many base metals has run counter to world demand over the last 10 years. Most recently, in 2008, the de-synchronization took place when China first moved to slow growth to combat increasing inflation. As the global crisis caused a significant slowdown, “authorities moved quickly to substantially ease monetary and fiscal policy,” says Macquarie. Due to its long-term planning, China can start and stop infrastructure projects at will.

In addition, Macquarie says that potential growth of the country generally outpaces its energy and resources capacity.

The recent dramatic decline in coal stocks has been driven by concerns of a global slowdown, but with equities already down 40 percent from their July highs, we feel this negative sentiment is already priced in. Given the encouraging long-term fundamentals, along with the fact that the underlying commodity has roughly stayed the same over the past few months, it appears that fear is the driver. This is often when opportunity knocks.

John Derrick, director of research, contributed to this commentary.

Tags: Chief Investment Officer, Coal Companies, Coal Stocks, Commodities, Declines, Divergence, Dow Jones, Dow Jones Industrial, Dow Jones Industrial Average, Early September, Floods In Australia, Frank Holmes, Global Slowdown, Gold, India, Infrastructure, Inventory Levels, Loading Port, Materials Sector, Metal Commodities, Outlook, Price Of Coal, Reconstruction Projects, U S Global Investors, World China
Posted in Commodities, Gold, India, Infrastructure, Markets, Outlook | Comments Off

Goldman’s Jim O’Neill: “2008 All Over Again?”

Sunday, August 21st, 2011

via ZeroHedge.com

Remember when Jim O’Neill was openly taunting the “bears“? Yeah, those days are long gone. In his latest weekend letter the BRICster proceeds to do what so many have already been doing for weeks and months, namely compare the current precarious global economic situation to 2008: “Another ugly week passes, and it is still only August 20th. What a particularly brutal August this is turning out to be so far, even when compared to many challenging ones in recent and distant years. Although there are many substantive reasons why things are very different, many cannot resist the temptation to make comparisons with 2008. So, I thought I would discuss the comparison this weekend.” And like a true Keynesian, O’Neill proceeds to do not just that but to provide his solution to all the world’s problems: more G7 intervention. Because they keep getting it so right time after time after time…

2008 All Over Again?, by Jim O’Neill, Goldman Sachs

Another ugly week passes, and it is still only August 20th. What a particularly brutal August this is turning out to be so far, even when compared to many challenging ones in recent and distant years. Although there are many substantive reasons why things are very different, many cannot resist the temptation to make comparisons with 2008. So, I thought I would discuss the comparison this weekend.

MARKET DEVELOPMENTS.

After nearly recovering all of their previous week’s losses early this week, world equity markets crumbled from Wednesday onwards, with few signs of discrimination between countries. If anything, those markets with the greatest “global exposure” – such as Germany and Korea – saw the greatest weakness, which suggests concerns are now very much about a fresh major global slowdown and contagion from the weak economies to the stronger ones. The DAX has lost more than 20pct this month, turning an outperformer into an underperformer. It is also hard to decipher movements between so-called developed and emerging economies, with relative weakness spread across many. China has held up better than most, but given its earlier weakness, this could be argued is a bit clutching for straws.

The inability of equity markets to sustain their early attempts at recovering their steep losses since late July has many technicians suggesting that, not only is any bull market over, but this is the beginning of a fresh prolonged bear market. The move of the S&P below its 200-day moving average as well as the 50-day moving average now being below the 200-day moving average mark are cited by some as evidence of a major trend change.

On the bond markets, not withstanding the continued irony that one of the supposed causes of current economic angst is the sustainability of government finances, many markets reached levels not seen for decades in the earlier part of the week, with the UK, US and Germany sharing the continued role of safe havens. Interestingly, in the last two days, despite the renewed onset of equity weakness, these markets no longer rallied. Whether this is because the whole frenzied bond rally of the month to date was essentially short covering, or whether investors are starting to worry more seriously about the true credit worthiness of these governments is impossible to know. It might be neither. It could be that bond investors want to take a breather ahead of important possible policy initiatives, such as the Jackson Hole speech of Ben Bernanke this week. Or, it could simply be just a pause for some other reason.
On the foreign exchanges, the Yen continued to make new highs performing its rather odd role as a safe haven. It’s odd because Japanese government debt is more than double the Euro Area average and more than double the US, which in my view, makes it highly likely that there will be fresh FX intervention in Tokyo in coming days.

Interestingly, despite the “risk off” mentality, the Swiss Franc struggled to make renewed gains following efforts by the Swiss authorities to reverse at least some of its huge overvaluation. The Chinese Yuan reversed some of its previous strength, questioning many views that the authorities have recently deliberately adopted a stronger FX policy.

On commodity markets, not surprisingly, many experienced considerable weakness.

One clear continued winner from all the unfolding mess continues to be Gold. It almost seems in the minds of some that Gold is a winner either way, from the fears of a fresh 2008-like global recession or stronger monetary (and fiscal?) measures to avoid it.

ECONOMIC AND POLICY DEVELOPMENTS LAST WEEK.

Last weekend, I highlighted three important events coming up this past week. It was indeed those events that dominated the week.

The much anticipated Sarkozy-Merkel meeting came and went late Tuesday, with the apparent reality that they don’t want to offer any new quick fix to the immense challenges around European Monetary Union (EMU). I shall return to this below, but this was a major factor in renewed market weakness.

The meeting of the Swiss authorities Wednesday resulted in further aggressive actions by the SNB and kept open the notion that fresh dramatic policy measures might be used to weaken the Franc further, hence the inability of the Franc to play its usual “risk off” strengthening.

Thirdly, the much anticipated Philly Fed survey Thursday was beyond even the most depressed end of expectations, and its drop to -30.7 is consistent with an economy already in, or about to enter, recession. While the Philly Fed survey can be extremely volatile, it has also proven statistical qualities as a lead indicator. Many, probably including most at the Federal Reserve, had maintained a degree of belief that a modest 2 pct plus real GDP performance was likely in Q3 and Q4. And, until the Philly Fed release, the ongoing evidence was supportive of such views. Adding to these hopes were the release of better-than-expected Industrial Production and the continued gentle trending down in weekly job claims. But, the Philly Fed weakness raises the possibility of a darker path ahead. It is entirely possible that the weakness of the survey has been exaggerated by both the equity market weakness since late July, and also by the highly public and disappointing squabbling over the debt ceiling. But whether this is the case or not, it is also true that they survey might be accurate. As a result, it was no surprise to see the latest bout of US equity market weakness take hold after this release, as market participants priced in the risk of a further related sharp drop in the August manufacturing ISM survey to be released in early September. This now becomes a huge data release in the US.

THINKING BACK TO 2008 AND EARLY 2009.

As I said, it is difficult for us all to avoid 2008-2009 comparisons. So against the background of what happened last week, here are some of my reflections:

1.    At the time, as Chief Economist and Head of the Economics Department, we tried to focus even more closely on all the proprietary leading and coincident indicators we had developed over the years, as well as focusing on the policy options that were available. It would seem as though the same is pertinent now.

2.    In my view, the build up to the crisis of 2008-09 was different because, even though the apparent bursting of the credit bubble had already started in 2007 and gained momentum in 2008, none of us knew the consequences of major financial institutions failing. This included policymakers. In hindsight, we all have that – only too recent – experience to call on now.

3.    In the context of both of the above points, watching measures of financial stress as well as other reliable indicators is critical for following what’s happening.. These include the GS Financial Stress Index (GSI), the GS Financial Conditions Index (FCI), and the GS Global Lead Indicator (GLI), for example.

4.    So far, of the three, the GLI is pointing more darkly than the other two. Following the Philly Fed survey, the Advanced GLI for August shows a negative reading and suggests more global economic weakness ahead. Because of the speediness of the Fed’s response, US financial conditions have only tightened modestly this month, and as a result, OECD financial conditions have not tightened much at all. This suggests that, unless the power of an FCI has been completely broken, any economic weakness, including the degree warned by the GLI, will be temporary. The FSI has tightened notably in the past fortnight, but is nowhere close to what we witnessed in 2008.

5.    Many bears now say that the reason we managed to recover in 2009 is because there were many conventional monetary and fiscal options open to US, European and G20 policymakers. Now, they claim these are all exhausted.

6.    This is valid, but I am not in agreement. Many conventional monetary and fiscal tools were exhausted by 2008, but not all, and there are many policy initiatives still available. The Fed has already highlighted that they will do “more” and we will no doubt get a flavor of that from Ben Bernanke next week. The Swiss National Bank has demonstrated that it had further policy options this past week. The ECB has plenty of conventional policies it can offer, including reversing the two – arguably mistaken – interest rate hikes it undertook earlier this year.

7.    On the fiscal policy front, while the bond market vigilantes are demonstrating their power, the performance of non Euro Area troubled bond markets suggests that specific targeted fiscal initiatives may be supportable. In this regard, more targeted tax measures in some countries seem likely. In the US, steps to help hiring through payroll taxes seem possible. In the UK, a reversal of the top rate of income tax might be offered.

8.    The position of the so-called BRIC economies and markets. In 2008, the valuation of many equity markets, especially China and India, were much higher as we went into the market meltdown. This is not the case today, especially after the past fortnight, and especially for China. All markets are trading at quite modest undemanding multiples. As far as their economies are concerned, the biggest cyclical challenge facing most of the BRIC and other Growth Markets has been food- and energy-induced inflation. One of the few good aspects of the recent behavior of financial markets is that it virtually ensures that inflation is going to ease in many of these economies, and local policymakers will no longer have to tighten monetary policy. As I have written on many occasions, this decade, the combined additional GDP created by the eight Growth Market economies will be around $16 trillion, more than double that of the US and Europe put together. In this regard, I find myself thinking that the relative strength of the Growth Markets will be solidified even more because of recent events. This is a great opportunity for all those investors that have claimed they want to invest in them to do so.

WE NEED POLICY LEADERSHIP.

Away from the specific policy measures adopted in 2008, we also saw some evidence of determined leadership, which was perhaps best represented by the emergence of the G20 in November 2008 and then its re-appearance in the Spring of 2009 and the collective determination to stand against recessionary forces.

Similar leadership is again necessary now. I would argue that this is especially true with respect to Europe. While I have misread the US cyclical developments since the Spring, I remain unruffled about the strength of China and the BRICs.    I have been concerned about the forces surrounding EMU throughout the past 15 months. It has been clear for months that markets no longer have confidence in its stability, and the vicious circle between sovereign debt and the European financial system has gotten much worse.

At the core of the European problem – which may be the only true global economic dilemma currently – is that the EMU as constructed doesn’t work. As I have written on endless occasions now this year, in hindsight, too many countries were allowed to join. There has been no mechanism for ensuring fiscal discipline; there has been no mechanism for encouraging productivity and competitiveness. The markets now realize this and are clearly scared about it. Many European policymakers appear to be in denial, although this doesn’t stop many from making lots of statements which isn’t helping.

Until a week ago, it was vaguely possible for German policymakers (as Germany was seen as the anchor for the region) to offer some kind of self righteous stance that all EMU member countries had to undertake policies to behave like Germany, and then the system would work just fine. Surely this past week must have laid this mistaken belief to rest? Two things happened of great importance. First, Q2 German GDP rose by just 0.1 pct, actually below the Euro Area average. Second, since August began, the German stock market has continued to fall by more than most. The DAX has gone from being an outperformer – a sort of developed market BRIC index if you will – to being a notable underperformer.

It is questionable whether or not the German economy is as weak as Q2 suggests, but the markets don’t think so. Moreover, not for the first time, the GDP breakdown suggests that there has not been any domestic consumption again. There cannot be a sustainable EMU if the biggest member never consumes, especially at a time when those that have consumed too much have to undertake significant corrective policies. This is now happening in Greece, Portugal, Spain and Italy. All countries in the world cannot export at the same time.

Despite their considerable complex internal political issues, German policymakers can’t afford to simply hope that the EMU problem will go away. It is going to require some stronger leadership, and something that Germany will support. It seems as though German (and at least in public, French) leadership is hoping for a fresh EU proposal for a new tougher fiscal mechanism to be announced in September, which then can be adopted by all member countries. This may be the foundation for a true common Euro-denominated bond, but without the tougher fiscal discipline, the Euro bond won’t happen, at least in the minds of many German leaders. Germany needs to start opining quickly as to what kind of EMU it wants and will support, rather than simply opining on the EMU that it won’t support.

Throughout my career, I have learnt that out of every crisis comes an opportunity. The same is true again now, but it requires leadership to bring the opportunity about. Worried by the lack of economic policy leadership, many market dislocations have occurred. If the leadership comes, the opportunities created by this crisis will be snapped up by investors.

In the meantime, luckily, we have plenty of football to watch this weekend.

Tags: Bears, Contagion, DAX, Discrimination, Global Economic Situation, Global Exposure, Global Slowdown, Gold, Goldman Sachs, Greatest Weakness, India, Korea, Losses, Market Developments, O Neill, Proceeds, Right Time, Signs, Substantive Reasons, Temptation, Time After Time, World Equity Markets
Posted in Gold, India, Markets | Comments Off

The Economy and Bond Market Cheat Sheet (June 6, 2011)

Saturday, June 4th, 2011

The Economy and Bond Market Cheat Sheet (June 6, 2011)

U.S. Treasuries rallied again this week as weak economic data, a weak stock market and lots of headline noise out of Europe pushed yields lower.

Employment data was very disappointing as the unemployment rate ticked higher to 9.1 percent as a meager 54,000 jobs were created in May. The prior two months were revised lower by 39,000, so effectively the economy didn’t really create any jobs last month. This is a very disappointing outcome and highlights the difficult decisions that lie ahead for the Fed as quantitative easing comes to an end this month with the economy stuck in neutral.

Strengths

• Mortgage rates continued to fall, hitting the lowest levels of 2011 at 4.55 percent.
• The ISM Non-Manufacturing Index rose more than expected and bounced back from a weak report last month.

Weaknesses

• Unemployment hit 9.1 percent and the economy continues to struggle to create jobs.
• Retailers reported disappointing results in May with many stores missing expectations. Consumer confidence also fell, coming in much weaker than expected and hitting the lowest levels of the year.
• The ISM manufacturing index fell sharply and missed expectations by a wide margin. This has been a global trend and this reading just reinforces the idea of a global slowdown or “soft patch.”

Opportunities

• The Fed may be forced into another round of quantitative easing if employment and the economy do not improve soon. This is not the consensus and the market is applying low odds of this occurring, but such an outcome would likely cause fixed income markets to rally.

Threats

• Another Greek bailout appears inevitable and others are likely to follow, which increases the eventual risk of default and is a potential threat to the global banking system.

Tags: Bailout, Banking System, Bond Market, Cheat Sheet, Consensus, Consumer Confidence, Difficult Decisions, Economic Data, Employment Data, Global Banking, Global Slowdown, Global Trend, Ism Manufacturing Index, Mortgage Rates, Odds, Quantitative Easing, Stock Market, Treasuries, Unemployment Rate, Wide Margin
Posted in Markets | Comments Off