The Nitty Gritty Details:
Mounting European debt and U.S. recession fears are putting the markets under significant pressure this morning. Markets were down about 3% on concerns that there are potential snags in Europe’s battle with its debt crisis. Recession fears are also weighing on markets in the aftermath of Friday’s weak jobs report. In overseas news, the Swiss National Bank shook up foreign exchange markets by pegging its franc to the euro and knocking the franc down sharply. After falling Monday, European averages reversed higher this morning despite widespread skepticism about the euro-zone’s options to stem its crisis. Asian markets were mixed, with the Nikkei down over 2% but the Hang Seng higher by a half percent. Gold, which pared gains after reaching record highs overnight, is hovering around the $1900 level. Brent crude futures rose to $111 a barrel over in Europe, while U.S. crude fell about $3 to $83 (unlike Brent, WTI crude did not trade on Labor Day).
Looking back at Friday, markets are not off to a good start in September. After gains in seven of the previous nine sessions, the S&P 500 tumbled more than 2% on Friday, giving back all of the gains for the week and a little bit more after the disappointing jobs report. The lack of job growth and ongoing European debt contagion fears drove investors into popular safe havens – gold and Treasuries – and out of stocks, oil and industrial metals. A government lawsuit targeting the big banks regarding mortgage securities misrepresentations during the housing bubble drove the Financials sector down 4%, while all other S&P sectors lost between 1 and 3% on the day. Agriculture commodities were one of the few bright spots beyond gold and Treasuries as U.S. crop quality concerns pushed grains higher.
Around our financial planning services firm this morning, we were discussing four items that we thought would be of particular interest to our readers this week:
The Markets Broken Down:
1. The markets have a “recession obsession.” The markets are being pressured this week by: (1) fears of a return to recession on a combination of the U.S. government suing banks here and abroad that was announced after the bell on Friday, (2) key events taking place in Europe regarding the bailouts, and (3) the lingering impact of a weak job report on Friday. However, investors may not need to worry about the impact of a recession, since it already appears to be fully “priced in” to both stocks and bonds. This is not unusual. Historically, the stock market has often bottomed before a recession was even declared. And, importantly, there have been times when the stock market fell and priced in a recession that did not take place, such as the bear markets of 1987 and 1998. Based on past earnings cycles, there are those analysts who believe a recession is fully priced into the S&P 500 Index at about 1120, which is exactly where the index bottomed out three times during the month of August and not far from current levels. Overall, however, we seem to be experiencing a “confidence recession” more than an economic one.
2. And speaking of recession, what are the leading indicators of one? There are several key leading indicators of a recession: (1) an inverted yield curve, (2) imbalances in the economy (too much lending in the late 80s, too much technology in the late 1990s and too much debt in the late 2000s), (3) a spike in inflation, and (4) a spike in consumer energy prices, among others. While a few of these are in place, there are not enough yet in place to suggest a recession. Yet another reason why we believe the recession is one of confidence.
3. This week, there is very little economic data on the calendar, but the scattering of reports that are due out will garner intense scrutiny given financial market participants’ uneasiness surrounding the economic outlook. Of the few economic reports due out in the United States this week, the weekly data on retail sales, mortgage applications and initial claims for unemployment insurance could draw the market’s attention. However, this data is likely to be heavily influenced by the disruptions to economic activity along the east coast caused by Hurricane Irene, the downgrade of the United States’ credit rating in the first week of the month, and the ongoing turmoil in Europe. The other notable economic report due out this week is the August reading on the service sector from the Institute of Supply Management (ISM).
4. Europe remains the focus for bond investors. The lack of a united and stronger policy response to the European debt problem continues to power Treasuries and weigh on more economically sensitive segments of the bond market, such as high-yield bonds. The Italian government has backed away from a recent fiscal austerity package that the European Central Bank (ECB) cited was a key prerequisite for regular bond purchases and implementation of the enhanced European Stability Fund (EFSF) may be delayed.
As always, email me here with your questions or comments. I love to hear from you and thoroughly enjoy the “intellectual debate” with our clients and friends that these opinions generate.
Note: The opinions voiced in this material are for general information and are not intended to be specific advice. Any indices such as the S & P 500 can’t be invested into directly. Past performance is no assurance of a future result.
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