Beating Low Hurdles
The Eurozone woes were back in the picture this week as the European Central Bank was forced into action. Investors remain caution and the flight to safety is in motion. U.S. earnings reports continue to trickle in with a common theme:
- Earnings are beating low expectation goals
- Sales are soft across the board
Housing continues to pick up as builders gain confidence, but new home sales and the economy at large are moving at a snail’s pace. Could this force more Fed action?
Is the Risk-on Trade Back in Play?
Earnings have been mixed thus far into the 2nd quarter reports with soft revenues and cautious outlooks. The global economy appears to be stuck in the mud. Yet remarks from the president of the European Central Bank on Thursday sparked a massive rally. As the ECB remains committed to do whatever it takes to preserve the euro, investors felt more confident and snatched up equities and took on more risk.
We continue to see the battle between risk on (aggressive investments) and risk off (more conservative investments) depending on the headline of the day. To me, it’s more lip service from the ECB: all talk, little action! At the end of the day what has been to address the debt woes in Italy, Spain, and Greece? What actions have been taken to stabilize Spain’s banking system? There are far too many questions and not enough answers.
The good news is the ECB remains committed to preventing another Lehman Brothers type collapse in Europe and the Federal Reserve is also waiting in the wings to take action if necessary. This provides somewhat of a safety net so to speak, but not a lot of optimism for healthy growth. How will we avoid a global recession?
Will the Fed Take Action?
The Fed could be moving closer to action as Europe’s woes are finally hitting U.S. shores. They continue to be “impatient with the economy’s sluggish growth and high unemployment.” With unemployment still above 8% and no signs of slowing, something has to give!
Will action take place during the July 31-Aug. 1 meeting? Or will the Fed hold off until their Sept. 12-13 meeting? Or maybe it will be longer? Bernanke has not tipped his hand that action may be imminent. All being said Operation Twist has not been very successful and the markets and economy have been stuck in neutral since the end of QE2 last June.
Which sectors will rule?
If QE3 is announced, commodities, more cyclical companies (luxury and discretionary items) and industrials should excel. However, if we continue to see slow growth investors will continue to seek cover in more defensive sectors like utilities, telecom, consumer staples, and health care.
Housing continues to show signs of life
Housing starts and builder confidence have risen like the Dark Knight. However, new-homes sales have seen a bit of a decline. In June we saw a 8.4% decline, which was the lowest since January. Record low interest rates have provided some tailwinds for the housing market, however consumer confidence amid the uncertainty along with much tighter lending standards and lower inventories are suppressing home sales. The good news is we continue to see strong buyer interest and finally in many areas buyer demand is growing faster than supply.
Europe is the squeaky wheel once again!
Spanish 10-year bonds hit a whopping 7.6% yield on Tuesday. Remember anything above 7% is a major concern. Additionally, Spain’s two-year yield has jumped 2% the past couple of weeks. However comments from the ECB on Thursday brought yields back below 7% to end the day at 6.93%.
Is a bailout of Spain inevitable? What about Italy? These debt-burdened countries need help and they need it fast! The ECB may need to act swiftly if further deterioration continues.
What about Germany?
Moody’s reduced the outlook to negative on Germany, Netherlands, Luxembourg; affirms Finland’s Aaa stable rating. There is rising uncertainty with the euro-area debt crisis and a greater chance we could see bailouts needed for Spain and Italy. The major concern with Germany now is its exposure to the euro- area debt crisis.
Economic data very important next week
Nonfarm payrolls and the unemployment rate will be reported. We also have the ISM Manufacturing Index to be released on Wednesday. Then on Friday, the ISM Non-Manufacturing will be released. We will continue to monitor how much trouble the U.S. economy is in. Things seem to be coming to a screeching halt and we continue to hear rumblings of another recession.
We’re halfway through earnings season and many companies have beat the low hurdle earnings expectations. Sales, however, have been soft which is a major concern. Companies can on only cut expenses so far in order to make earnings look better. Global uncertainty and the strong dollar have had a negative impact on results. Low consumer confidence and economic uncertainty are making consumers and corporations stingy with their wallets. Continued economic trouble could lead to more layoffs.
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