'If debt is the problem, how is more debt the solution?' R. Paul
Public policy weary investors throughout the world have voted with their feet this week in yet another paralyzing 10+% broad based equity sell off and quasi-panic liquidation. Intensifying this episode were the opportunistic computerized 'algo' mob setting off wild inter day volatility and short term 'flash crash' like turbulence. It is wise not to underestimate the power and influence these notorious market manipulators wield. This weekly index damage inflicted could wipe out .5% of US GDP and potentially tip the economy back into (?) a technical recession.
The European financial 'debt mess' looks like it has expanded well past the minor periphery EU membership. The 4th largest EU economy Italy is now the new whipping boy of the month. Both Spain and Italy have cancelled August bond auctions in a somewhat silent protest of crippling interest rate costs. More than likely it will be even more expensive for them to borrow once they return to the trough. It is now fairly obvious to all that way more money has been borrowed than will ever be repaid throughout the region. Rearranging the deck chairs on the Titanic will likely not help at this point - and look out for a big shipment of ice!
The childish Washington blame game finger pointing which took America and the world to the 'brink' may have vaporized what little 'confidence' was left in the global economic system. The brand spankin' 'new' US debt package of very questionable (back end loaded) spending cuts and hyper increased $US2.1T borrowing is more of an indictment of a broken monetary system of zero political will and even less leadership. With baseline budgeting expect the federal budget to soar by 6% this year and next. Expect an additional $US7 to 8T in debt over the next ten years - the so-called planning horizon of each year's budget. Expect even more if the so-called debt deal is yet another fabrication as in the past.
The Chinese reaction was swift and disparaging stating that the only way America has come up with to improve economic growth has been to take up new loans to pay off old ones. 'Eating May's grain in April' is not a permanent solution according to a government official on the Xinhau news agency. An indication that Beijing will further diversify away from from the US dollar ... and probably to a more protein vs grain diet!
Former Russian Prez. V. Putin's non bare chested comments that the US is living 'like a parasite' on the global economy and arguing that the dollar's dominance was a threat to financial markets did not exactly engender positive 'free market' feelings. That had to hurt even the most ardent delusional tree hugging tax collecting socialist!
The announcement that Apple has more cash on hand than the entire US government had to hurt the feelings of every Keynesian central banker this side of the London School of Economics.
The real question that remains is what both Moody's and S&P thinks of US debt levels and their perception of eventual repayment.
Each year equity markets 'generally' correct 4 times on average. The mid January to mid February correction took markets down 6%. The May to early June correction peeled 8% from the averages. The most recent 10% extravaganza/implosion is the result of increasing selling over the past 8 of 10 trading sessions. The emerging growth jurisdictions have not been spared. Selling has been sector broad based and throughout the globe. The investor fear and trepidation is accelerating. Precious confidence has been rattled - and rightfully/unfortunately so! Attracting committed buyers/investors will be a challenge during these hot and humid days!
In the US, as Obama's 50th chilled Chardonnay was swilled, cold recessionary winds slammed the S&P 500 with it's worst week in more than 2 years. Rumors of a 'modified' QE3 seemed to confuse markets with investors pulling out nearly $US66B from money market funds - the second largest weekly net outflow. The largest outflow was in Sept 2008. The equity rout wiped out $US2.5T in corporate capitalization. The VIX index reached almost 33 (traditional panic point) - the highest level since July 2010 and above the level set during Japan's tragic earthquake. A day after the 'relief' of the 2011 debt deal the US administration borrowed a mind boggling $US231B in one single day. A shocking move which did not sooth jagged nerves. Investors scrambled to raise cash and no asset class was spared. It was the worst two week slump since the hysterical month of March 2009. The conundrum of debt growing faster than anything else and the 'percieved' loss of the Fed 'put' prompted an emotional selling response and fearful buyers strike.
The DJIA ended down almost 7% on the week and nearly 2% on the year. The S&P and NASDAQ averages were both 15% weaker. Key weekly moving average support and longer term trend lines were violated faster than a female guest at an Italian Prime Ministerial bunga bunga party. With financial matters unwinding rather quickly in Europe the positive US multinational earnings momentum will also likely face similar head winds and downward pressure.
Assuming an S&P bond market ratings reprieve over the weekend - this very over sold liquidation should garner substantial support no more than 3-5% lower from this week's close of 1197 on the S&P. Very attractive relative dividend yields should encourage the massive pools of liquidity which are frantically looking for a safe and protected harbor. The substantial DJIA 12,000 to 12,500 distribution band now represents formidable resistance and a likely top for the remainder of the year.
On the potential plus side - the FOMC
In commodities, only the US treasury market avoided selling pressure with longer term yields re-compressing back to record low levels. Real yields on TIPS of all maturities reached a new record low reflecting the deep pessimism and 'relative' flight to safety(?). Long term inflation expectations remain anchored around 2.5% contrary to the new recent record highs recorded in the Gold market. Gold also avoided the selling carnage finishing up 1.5% on the week ($US1,651/oz) in the face of an almost 5% lower CRB index. Silver exhibited much more volatility falling a bit over 2% on the week to $US38.21/oz. Crude oil failed to hold my expected $US90/bl level falling as low as $US83/bl and finished at $US87/bl in wild trading. Natural Gas broke $US4/mcf and looks to potentially double bottom at the March 2011 low. The $US4.25-75 over head distribution band now represents formidable upside resistance. Copper has held $US4/lb to this point in a 10% sell off this week. The perception of a rapid cooling world economy will more than likely pressure prices for the balance of the summer. Copper has traditionally been the key economic bell weather and should be watched carefully as a proxy for future growth or weakness.
In Canada, the resource and financial laden S&P/TSX index bore the full wrath of world wide equity liquidation. Total employment increased modestly in July with private jobs at now above pre-recession peak levels. Small business confidence remains buoyant despite the glut of bad news from almost every other G20 jurisdiction. The Canadian dollar weakened almost 3% on the week primarily as a result of widespread indiscriminate liquidation and profit taking. The S&P/TSX index dropped a gut wrenching 7% on the week and now is down 10.4% on the year to date. The effect of Canada's largest trading partner's economic challenges has taken a significant toll on local equity valuations and expectations. Internal economic statistical conditions remain relatively strong and vibrant in Canada but we remain substantially reliant on financial conditions and fortunes south of the border. The individual sectors hit hardest this week on the S&P/TSX were Health Care -25%, Energy -9.5%, Consumer Discretionary -8.9%, Tech -6.9% and Industrials -6.8%. The S&P/TSX index should find intermediate support in the 11,750-12,000 level barring any further credit contractions. The S&P/TSX Venture Index was hammered 10% on the week and is now down a mind boggling 25% on the year. Much of the longer term risk has been painfully wrung out of the junior resource issues - but I have thought that for a while. The Venture index should find significant support no more than 5% below current levels - and I have said that for a while too!
Thankfully hockey training camps will open soon and that should cheer us up for a change!
In closing, accelerated world wide broad based equity liquidation effectively broke/smashed key support and technical patterns levels in a very tough week. The financial media sentiment can't get much more negative (I think?) and hopefully most/all of the negative debt news is now behind us (bad visual).
Any further panic would introduce an interesting strategic opportunity to purchase or add to the numerous 'mis-priced' under valued resource opportunities. With any luck cool heads will prevail in the critical bond and currency markets as the summer season winds down. The positive effect of continuing low interest rates and lower short term energy and material prices may provide the basis for a potential bottoming and consolidation of equity valuations.
My glass remains half full although investors will now demand certain concrete evidence of improving conditions and positive opportunities. I remain a somewhat bruised and battered inflation bull in this rapidly shifting and evolving economic environment.
Another intense negative week like this any time soon and I will look more like a bison than a bull!
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