Words from the (investment) wise for the week that was (May 4 – 10, 2009)
One of the definitions of “stress” offered by the Merriam-Webster dictionary is “bodily or mental tension resulting from factors that tend to alter an existent equilibrium”. Well, any bodily or mental tension investors might have been suffering from as a result of financial factors were shrugged off on Thursday with the announcement by US regulators that ten of the nation’s largest banks had to add a total of “only” $74.6 billion in equity following the completion of stress tests. However, whether this will indeed restore the equilibrium remains to be seen.
Source: Walt Handelsman
Source: Financial Times
As investors welcomed the less-than-feared stress-test results and their hopes for an early economic recovery mounted, they drove up the prices of risky assets such as equities, oil and commodities, precious metals, emerging-market bonds and currencies, and high-yielding corporate bonds. On the other hand, traditional safe havens like developed-market government bonds and the US dollar experienced selling pressure.
With investors’ confidence being buoyed up, the CBOE Volatility Index (VIX) declined by 9.2% during the week to 32.1 – a far cry from more than 80 in October and a sign that markets are returning to more normal behavior.
The performance of the major asset classes is summarized by the chart below.
Marking nine straight weeks of gains, the MSCI World Index surged by 6.4% (YTD +3.6%) on the week, the MSCI Emerging Markets Index by 9.4% (YTD +27.9%) and the S&P 500 Index by 5.9% (YTD +2.9%). Serving as a reminder of the severity of the bear market, these indices are still down by 43.3%, 45.8% and 40.6% respectively since the October 2007 bull market highs.
With the exception of the Dow Jones Industrial Average and the UK FTSE 100 Index, most major global stock markets have now moved into positive territory for the year to date.
Click here or on the table below for a larger image.
Returns around the world ranged from top performers Ukraine (+20.5%), Serbia (+20.0%), Kazakhstan (+19.4%), Peru (+17.9%) and Singapore (+16.6%) to Barbados (-4.1%), Slovakia (-2.3%), Bangladesh (-2.0%), Pakistan (-1.0%) and Tunisia (-0.9%) which experienced headwinds. (Click here to access a complete list of global stock market movements, as supplied by Emerginvest.)
With only a handful of US companies still to report first-quarter earnings, 62% of the companies that have reported have beaten analysts’ earnings expectations. According to Bespoke, this earnings season will be the first quarter-over-quarter increase in the “beat rate” since the third quarter of 2006. “When the ‘beat rate’ started to decline in 2007, it was definitely a warning signal for the market, and this quarter’s increase is hopefully the start of a new positive trend. As long as analysts remain behind the curve, and companies exceed expectations, stocks will have a solid foundation to build on,” said Bespoke.
As far as leadership since the start of the nine-week-old rally is concerned, the surging Financial SPDR (XLF) is by far the top performer among the economic sector exchange-traded funds (ETFs). Interestingly, cyclical sectors such as the Industrial SPDR (XLI), Consumer Discretionary SPDR (XLY) and Materials SPDR (XLB) all outperformed the S&P 500, whereas the traditional defensive sectors like Consumer Staples SPDR (XLP), Health Care SPDR (XLV) and Utilities SPDR (XLU) all lagged the broader market. This is the type of pattern one would expect typically to emerge during a market base formation development.
John Nyaradi (Wall Street Sector Selector) reports that the strongest ETFs on the week were KBW Bank (KBE) (+34.8%), PowerShares FTSE RAFI Financial (PRFF) (+30.6%) and Rydex S&P Equal Weight Financial (RYF) (+26.5%). On the other end of the performance scale ProShares Short Financial (SEF) (-15.9%), iShares Goldman Sachs Semiconductor (IGW) (‑4.0%) and Vanguard Extended Duration Treasury (EDV) (-3.3%) were underwater.
On the credit front, the TED spread (i.e. three-month dollar LIBOR less three-month Treasury Bills – a measure of perceived credit risk in the economy) narrowed by 10 basis points during the past week. Since the TED spread’s peak of 4.65% on October 10 the measure has eased to an 11-month low of 0.76% – still well above the 38-point spread it averaged in the 12 months prior to the start of the crisis, but nevertheless a strong move in the right direction.
Also, the cost of buying credit insurance for US and European companies eased sharply during last week’s trading, as shown by the narrower spreads for both the CDX (North American, investment-grade) Index (down from 163 to 143) and the Markit iTraxx Europe Index (down from 139 to 124).
CDX (North America, investment-grade) Index
Two important trend reversals deserve mention, namely US 10-year Treasury Notes having breached their key 200-day moving average, and likewise the US dollar. Treasuries fell out of favor as a result of a poorly received $14 billion auction of 30-year bonds on Thursday, with 10-year Notes and 30-year Bonds rising to 3.29% (+17 bps) and 4.27% (+23 bps) respectively on the week. As massive issuance overhangs the sovereign bond market, investors speculated about the Fed’s pain threshold for long-term rates. According to Reuters, PIMCO’s Bill Gross said: “In order to maintain a 4% agency mortgage rate, the Fed will likely have to step up its daily purchases of Treasuries and focus on the longer end of the curve.”
As far as the greenback is concerned, Richard Russell (Dow Theory Letters) said: “I don’t think most people understand the importance of the whole dollar, bond, interest rate syndrome. First, the US is creating and spending fiat dollars in the trillions. This wild creation of dollars is putting pressure on the dollar – after all, too much of anything will dilute its value. Dollar down = bonds down.”
The quote du jour relates to whether the stress tests were “stressful” enough and belongs to Barry Ritholtz (The Big Picture), who remarked: “… the 25-to-1 leverage [Tier 1 capital equal to 4% of risk-weighted assets] is absurd, as is the worst case scenario of 9.5% unemployment. Odd, in my opinion, to show such largesse to those very same reckless banks that caused the entire financial mess.”
“Far be it for me to call the stress tests a charade, a dupe, a con game or an exercise in manipulation – I’ll leave that to others, like the Wall Street Journal, which noted this morning that the banks managed to browbeat the Fed into accepting much lower capital needs than the tests should have required. [For example, a decrease in required capital of 48.3% was negotiated by Bank of America, Wells Fargo, Fifth Third Bancorp and Citigroup when added together.] The entire exercise is turning out to be one giant joke – and the laugh is on the taxpayers.”
Next, a quick textual analysis of my week’s reading. No surprises here, with the word “banks” dominating the media. Strikingly, “bonds” is increasingly prominent as investors are becoming more concerned about the rise in government bond yields. (And after only one week, notice how “swine flu” shines in its absence.)
Back to the stock market. As shown in the table below, the major US indices have moved to within spitting distance of the important 200-day moving averages and the early January highs. On the downside, the levels from where the nascent rally commenced on March 9 should hold in order for the upward trend to remain intact.
The Bullish Percent Index, showing the percentage of S&P 500 constituents that are currently in bullish mode as a result of point-and-figure buy signals, has increased from 1.6% in October to 12.8% in March to the current figure of 74.8% – a positive, albeit short-term overbought, figure.
The number of S&P 500 stocks trading above their respective 200-day moving averages has increased to 47.8% from almost zero in October. This is a lagging indicator, but for a primary uptrend to be confirmed the bulk of the index constituents need to trade above their 200-day averages. (The 50-day reading is now 91.0% – the highest since October 2006 and calling for at least some consolidation of the recent gains.)
On the question of whether this is a suckers’ rally or the real deal, Société Générale’s co-chief strategist James Montier weighed in on the subject in his latest investment newsletter (as discussed by FT Alphaville). He said he didn’t have a clue and was therefore buying insurance to protect on the downside. “Two methods of insurance stand out. Either I could buy index puts (relatively cheap at the moment) or I could construct individual short positions,” added Montier.
“Be careful about jumping into the stock market with both feet after this monumental rally. Consider whether or not it would be more appropriate to take advantage of the run-up to reduce equity exposure,” Merrill Lynch’s chief North American economist, David Rosenberg, wrote in his final missive (as reported by Barron’s) ahead of his previously announced departure from the firm.
Jeremy Grantham’s (GMO) take on the stock market outlook is summarized in his recent quarterly newsletter, in which he says: “The current stimulus is so extensive globally that surely it will kick up the economies of at least some of the larger countries, including the US and China, by late this year or early next year. (This seems about 80% probable to me, anyway.) Anticipating this, we should expect a stock market recovery – which normally leads economic recovery by six months, plus or minus two – sometime between two months ago and, say, August, which the astute reader will realize implies that this rally may already be it.”
In my assessment, and as written in a post last week, the thawing of credit markets and the return of confidence augur well for the outlook for equities and provide further evidence that US stock markets are mapping out a base development formation. The early-January highs and 200-day moving averages are the next important targets and a break above these levels would signal the completion of the base formation and a secular bottom (as has already been seen in leading markets such as China and Brazil). Only then will the corpse of the bear be put to rest.
Meanwhile, the speed and sheer magnitude of the rally argue for markets to either consolidate or retrace some of the past nine weeks’ gains prior to moving higher.
For more discussion about the direction of stock markets, also see my recent posts “Video-o-rama: Stress tests ad nauseum“, “Gold bullion: Regaining its shine?“, “Jeremy Grantham: The last hurrah and seven lean years“, “Parting thoughts from David Rosenberg“, “Technical talk: Stellar market internals” and “Picture du Jour: Stock markets – it’s all about confidence“. (And also make a point of listening to Donald Coxe’s webcast of May 8, which can be accessed from the sidebar of the Investment Postcards site.)
Source: Moody’s Economy.com
Further to the official Chinese Purchasing Managers Index (PMI) reported on last week, the CLSA China Manufacturing PMI also increased strongly to 50.1 in April from 44.8 in March – any reading over 50 indicates that the manufacturing sector is growing. “China’s government has been extremely successful in stimulating investment and, combined with a sharp improvement in export orders, this has pushed the PMI back into positive territory,” wrote CLSA’s head of economic research, Eric Fishwick.
Source: EconomPic Data
Rebecca Wilder (News N Economics) summarized the global economic picture as follows: “The signs of hope remain mostly in the soft data – US and China Purchasing Managers surveys posting consecutive monthly growth – while the hard data – export growth, inflation, and unemployment – continue to deteriorate. Going forward, the story that ‘economies are declining less quickly’ is gaining some momentum. And for some, a turning point may be on the horizon.”
In an article entitled “Green shots or dandelion weeds”, John Mauldin (Thoughts from the Frontline) said: “So many bullish analysts talk about the second derivative of growth, by which they mean that we are slowing our descent into recession. But it is not the second derivative that is important. What is important is that the first derivative, actual growth, return. Until that time, unemployment will continue to rise, which is going to put pressure on incomes and consumer spending, and thus corporate profits.”
Testimony that the coast is not yet clear came from the European Central Bank (ECB), cutting its main interest rate by 25 basis points to a record low of 1%, and announcing plans to buy €60 billion of covered bonds (backed by mortgage or public sector loans.) Across the Channel, the Bank of England (BoE) kept rates at 0.5% and said it would pump a further £50 billion into the UK economy by means of “quantitative easing”.
Turning to the US, a snapshot of the week’s economic data is provided below. (Click on the dates to see Northern Trust‘s assessment of the various data releases.)
May 08, 2009
May 07, 2009
May 06, 2009
May 05, 2009
May 04, 2009
Also, almost 21.8% of US homeowners owed more than their properties were worth as of March 31, Zillow.com said in a report (via Bloomberg). At the end of the fourth quarter 17.6% of homeowners were underwater, while 14.3% had negative equity three months earlier.
In his testimony before the Joint Economic Committee in Washington on Tuesday, Fed Chairman Ben Bernanke noted that “the pace of contraction may be slowing … some tentative signs that final demand, especially demand by households, may be stabilizing”. Although he expected the economic cycle to bottom out later in 2009, he also added that “a number of factors are likely to continue to weigh on consumer spending, among them weak a labor market and the declines in equity and housing wealth that households have experienced over the past two years”.
Jeremy Grantham is not assured of an enduring recovery and reasoned as follows: “Although the economy is likely to kick up in the next 12 months (although far from a near certainty), I believe it is likely that the longer-term health of the economy will be exaggerated. In time – perhaps a year into the recovery – the economy will slow once again and stay disappointingly below the standards to which we have become accustomed over the last several decades.
“… what I’m proposing could be known as a VL recovery (or very long), in which the stimulus causes a fairly quick but superficial recovery, followed by a second decline, followed in turn by a long, drawn-out period of sub-normal growth as the basic underlying economic and financial problems are corrected.”
Source: Yahoo Finance, May 8, 2009.
In addition to a speech on the financial crisis by Fed Chairman Bernanke (Tuesday, 12 May), the US economic highlights for the week include the following: Retail Sales (Wednesday, 13 May), PPI (Thursday, 14 May) and CPI, Industrial Production and Michigan Consumer Confidence (Friday, 15 May).
Click here for a summary of Wachovia’s weekly economic and financial commentary.
Source: Wall Street Journal Online, May 8, 2009.
“The best investors are like socialites. They always know where the next party is going to be held. They arrive early and make sure that they depart well before the end, leaving the mob to swill the last tasteless dregs. Good money managers understand that. Investment is all about change and anticipating it,” said The Economist in 1986 (hat tip: Charles Kirk). Hopefully the “Words from the Wise” reviews will assist Investment Postcards readers in staying abreast of change in the investment markets.
On Mother’s Day, wishing all the mothers a day that’s just as special as you are.
That’s the way it looks from Cape Town (where we are enjoying balmy autumn days).
Source: Tom Toles
Financial Times: Stress tests show $75 billion buffer needed
“‘These tests will help ensure that banks have a sufficient capital cushion to continue lending in a more adverse economic scenario,’ Tim Geithner, US Treasury secretary, said.
“The US authorities said that the tests projected that losses at the top 19 banks over 2009 and 2010 would reach $599 billion if the adverse scenario set out in the stress test materialised.
“They said that bank operating earnings would absorb $363 billion of these losses under the stress scenario. They estimated that 10 of the 19 top banks would need a further $74.6 billion in equity to be sufficiently well capitalised at the end of 2010 to cope with potential losses beyond that period.
“The regulators put the additional equity need at a much higher $185 billion at the end of 2008, but said that actions taken by the banks subsequently had reduced that amount by $110 billion.
“The long-awaited publication of the test results, which came after days of tense discussions between regulators and the banks, prompted a flurry of activity among lenders with Bank of America, which was found to have the biggest capital shortfall at $33.9 billion, announcing plans to raise $17 billion in equity. BofA said that it would add equity through a share sale and the conversion of preferred shares held by non-government investors. It also plans to raise the money through earnings and the possible sale of assets, including asset manager Columbia Management and First Republic Bank.
“Wells Fargo, which needs to plug a gap of $13.7 billion, launched a $6 billion equity issuance, while Morgan Stanley said that it would sell $2 billion in shares and $3 billion in non-government-backed debt to fill its $1.8 billion capital requirement. Citigroup, which needs $5.5 billion in additional equity, said that it would expand an existing offer to convert preferred shares.
“The stress tests could force the government to gain a large stake in a number of regional banks such as SunTrust, KeyCorp and Regions which might have to ask the government to convert its preferred shares into common stock unless they manage to sell enough shares to investors to meet the tests’ requirements.”
Click here or on the image below for a larger graphic.
Source: Krishna Guha, Francesco Guerrera and Alan Rappeport, Financial Times, May 8, 2009.
CNBC: Ken Lewis speaks about stress tests
Source: CNBC, May 8, 2009.
CNBC: Is the US doing the right thing with banks?
Source: CNBC, May 7, 2009.
MarketWatch: “Goldman Conspiracy” – Bogle’s “pathological mutation?”
“Dillinger must be the guy former SEC Chairman Arthur Levitt had in mind when he told Fortune: ‘America’s investors have been ripped off as massively as a bank being held up by a guy with a gun and a mask.’ That was the last recession. Today, it’s a heck of a lot worse in the ‘Great Recession': Bad banks, financial weapons of mass destruction, AK-47 derivatives.
“Yes, this time the banks are the gangsters. They’re robbing Main Street’s Treasury. And it’s an inside job. Hank Paulson, the ‘Goldman Conspiracy’s’ Trojan Horse, plays a ‘Dillinger’, leading a much bigger conspiracy, the ‘Happy Conspiracy’, that robbed America’s 300 million citizens and taxpayers. They made off with trillions, while our ‘guards’, a clueless Congress, laid down their guns and surrendered the keys to the vault.
“The ‘Happy Conspiracy?’ Yes, that’s what Vanguard founder Jack Bogle calls Wall Street in his bestseller, ‘The Battle for the Soul of Capitalism’. He sees Wall Street as a ‘pathological mutation’ of capitalism. Adam Smith’s ‘invisible hand’ no longer drives ‘capitalism in a healthy, positive direction’. Instead, Bogle sees the invisible hands of this elite ‘Happy Conspiracy’ running capitalism to serve its own selfish, greedy agenda.
“‘Over the past century, a gradual move from owners’ capitalism – providing the lion’s share of the rewards of investment to those who put up the money and risk their own capital – has culminated in an extreme version of managers’ capitalism – providing vastly disproportionate rewards to those whom we have trusted to manage our enterprises in the interest of their owners.’
“Today, the ‘Goldman Conspiracy’ is the visible hand of Bogle’s invisible ‘Happy Conspiracy’ that’s ‘ripping us off as massively as a bank being held up by a guy with a gun and a mask’. Except today: No masks, no guns. Congress just writes blank checks.
“The plot’s so hot we read all 1,243 comments, emails and links to related Web sites, such as goldman666.com, that were posted on our earlier discussion of this topic.
“What emerged has the makings of what may be the next mega-successful long-running television series.”
Click here for the full article.
Source: Paul Farrell, MarketWatch, May 4, 2009.
Charlie Rose: A conversation with Robert Zoellick, President of the World Bank
Source: Charlie Rose, May 5, 2009.
Dominic Konstam (Credit Suisse): Is inflation inevitable?
“Nor are we heading towards a prolonged depression and deflation, he believes.
“‘A more plausible scenario is a mildly deflationary middle way with positive nominal growth. We can think of this as Grandma Goldilocks,’ he says.
“This is a reference to the late 1990s, when market conditions were deemed just right – not too hot and not too cold – because real growth was high, but inflation low. ‘A decade later, Goldilocks may not be quite dead but just a lot older,’ he says.
“Mr Konstam believes growth is likely to be relatively subdued in the next few years, driven by fiscal stimulus, while real interest rates will remain high. He believes consumers will be spending less and saving more, exerting significant downside pressure on inflation. There will be plenty of excess capacity in the economy. ‘The output gap is very large and forewarns of downward pressure on prices to come,’ he says.
“What does this mean for financial markets? ‘If we’re right, [10-year Treasury] bond yields aren’t going to zero, but they’re going to stay low for a while. We’re not going to 4% anytime soon. Stocks may not make new lows and they will surely be capped to the upside.'”
Source: Dominic Konstam, Credit Suisse (via Financial Times), April 2009.
Business Week: A conversation with Nouriel Roubini
“I sat down with him (and the Washington Post’s national economy correspondent, Neil Irwin) on Sunday afternoon, to talk about securitization, the Federal Reserve and the big banks.
“Roubini says he doesn’t see much in the way of ‘glimmers of hope’ other economists have noted. Unemployment, capital investment, and exports are all worsening, and while there are a few signs of stability in housing, it’s not much. Overall, he figures, the odds of a prolonged ‘L-shaped’ depression have fallen to less than 20%, from about 30%, thanks largely to the efforts of this administration … He expects global contraction of 2% this year, and expansion of about 0.5% next year, ‘so small it’s going to feel like a recession still’.
“Still, he adds: ‘I don’t worry as much as six months ago about a near depression.’ From the man who has been called Dr. Doom – or, as he prefers, Dr. Realistic – that’s practically cheery.
“On securitization and the TALF:
“While lending has improved somewhat, Roubini doesn’t credit the Federal Reserve’s Term Asset-Backed Loan Facility. A ‘reasonable idea’ in principle, he says, the funds it has lent to subsidize the purchase of securitized consumer credit ‘is too small to make a difference’. Moreover, demand from securitizers has proven lower than some expected, either because of the fear of complications from after-the-fact congressional meddling, or because there’s simply too little demand for new lending.
“He does see securitization returning in time, likening the metastasized securitization state of the pre-crisis market to the junk-bond market’s go-go days. ‘I don’t think we’ll go back to what it was,’ he says. But ‘now we’ve gone from too much to zero’.
“On Ben Bernanke’s Federal Reserve:
“After underestimating the depth and impact of the housing slump, mistaking the subprime crisis as a niche problem, and failing to seek legislation to dismantle failing banks after Bear Stearns’ collapse last spring, the Fed ‘has done a lot right,’ Roubini says. ‘Now that the stuff has hit the fan, they have become much more aggressive about doing the right thing.’
“Still, he’s not pleased with the Fed’s role as a back-door financier for the rescue effort. It’s understandable that the government has turned to the Fed, since early missteps led the public to see the effort as a bail-out of Wall Street bankers, which in turn has left Congress unwilling to open the purse strings. Still, using the Fed is ‘a way of bypassing Congress’, Roubini says. ‘I don’t think it’s a proper process. In a democracy, if you have a fiscal cost, you should do it the right way.'”
Click here for the full article.
Source: Business Week, April 27, 2009.
Financial Times: Bernanke expects gradual recovery
Source: Financial Times, May 6, 2009.
Asha Bangalore (Northern Trust): Bernanke mentions positive factors with caveats
“In his opinion, the housing market indicators are suggesting that a trough has been established. The news from the business sector is less encouraging compared with the housing market and household sector. The latest data point to severely weak capital spending and a massive liquidation of inventories. However, the latest factory surveys indicate that although activity is still declining, the pace had moderated noticeably in April compared with the past seven months.
“Bernanke also noted that the Fed expects economic activity to bottom out later in the year, assuming that financial conditions continue to mend. In this context, the Chairman remarked that ‘a relapse in financial conditions would be a drag on economic activity and could cause the incipient recovery to stall’. Supportive of Bernanke’s optimism, the 3-month Libor has edged below 1.00% as of this writing.”
Source: Asha Bangalore, Northern Trust – Daily Global Commentary, May 5, 2009.
Asha Bangalore (Northern Trust): Initial jobless claims – leading indicator
“Continuing claims, which lag initial claims by one week, moved up 56,000 to 6.351 million, a new record high; and the insured unemployment rate rose to 4.8% from 4.7% in the prior week. The mixed news from initial jobless claims and continuing claims is typical at turning points of a business cycle because initial jobless claims have peaked well ahead of continuing claims.
“We will be tracking jobless claims data closely in the weeks ahead as there is strong signal that the turning point of the business cycle is around the corner.”
Source: Asha Bangalore, Northern Trust – Daily Global Commentary, May 7, 2009.
Asha Bangalore (Northern Trust): Employment details point to positive developments
“Payroll Employment: -539,000 in April versus -699,000 in March, net loss of 66,000 jobs after revisions of payroll estimates for February and March.
“Hourly earnings: +1 cents to $18.51, 3.18% yoy change versus 3.4% yoy change in March, cycle high is 4.28% yoy change in Dec. 2006.
“The civilian unemployment rate rose to 8.9% in April, the highest since September of 1983. The participation rate increased to 65.8% from 65.5%. The sharp increase in unemployment rate is troubling and it is projected to shoot up to 10% by year-end.
“Nonfarm payrolls fell 539,000 in April, following a 699,000 drop in March. Since December 2007, the date of the official onset of the current recession, 5.7 million payroll jobs have been lost. The headline number in April was more muted compared with March partly due to increase in federal government employment (+related to Census 2010). Private sector employment fell 611,000 in April versus a loss of 693,000 private sector jobs in March. As shown in the chart, the pace of decline in non-farm employment was significantly smaller in April compared with the prior five-month period.
“… the underlying details strongly support the view that hiring is stabilizing gradually. The Fed is on hold for the rest of the year given the nature of underlying weakness in economic conditions.”
Source: Asha Bangalore, Northern Trust – Daily Global Commentary, May 8, 2009.
CNBC: Bond king on banks and jobs
Source: CNBC, May 8, 2009.
Casey’s Charts: Are the green shoots for real? Watch part-time workers
“You can also see a close correlation between the start of a recession and a sharp shift to using part-time workers. And, conversely, that when an economy recovers, the use of part-time workers falls off quickly.
“Lesson of the day? This is one of the few reliable indicators of an economic turnaround … watch it closely. Until you see a distinct reversal in the indicator, ignore the government’s happy talk of green shoots and continue to rig for stormy economic weather.”
Source: Casey’s Charts, May 6, 2009.
Asha Bangalore (Northern Trust): ISM Non-Manufacturing Survey sends an upbeat signal
“Effectively, the ISM surveys of the factory and service sectors send a message of improving activity. Readings above 50.0, denoting an expansion of activity, are probably not too far away.”
Source: Asha Bangalore, Northern Trust – Daily Global Commentary, May 5, 2009.
Asha Bangalore (Northern Trust): Pending Home Sales Index post second consecutive monthly advance
Source: Asha Bangalore, Northern Trust – Daily Global Commentary, May 4, 2009.
Eoin Treacy (Fullermoney): Mortgage resets already discounted in house prices?
“No one paid much attention to the subprime reset schedule until it became apparent that subprime was indeed infecting the prime market and foreclosures were rising across the board. The Option ARM schedule has been well publicized and those under pressure from mortgages they cannot afford are already being included in foreclosure figures.
“In a no-recourse mortgage market, unique to the USA as far as I know, one would expect the pace of house price declines to be swift because large numbers of homeowners can opt to give back the keys and walk away. Sentiment is understandably abysmal and as in other markets this is bound to be affecting decisions about when to sell.
“If a significant portion of the Option-ARM and Alt-A overhang is already in the price, then the housing market has the potential to bottom earlier than many expect. This does not mean that prices are set to rebound to levels seen in 2006 and 2007, but it does suggest that base formation could get underway sooner. Since affordability is now at such a high level and such vast sums are being pumped into almost every economy in the world, the potential for house prices to stop falling has risen considerably.
“House data comes out with a substantial lag so whenever a bottom does begin to develop it will not be apparent for a number of months in housing indices. Anecdotal evidence is more likely to give a lead indicator than published data.”
Source: Eoin Treacy, Fullermoney, May 8, 2009.
Bloomberg: Almost one quarter of US homeowners underwater as values sink
“Almost 21.8% of all owners were underwater as of March 31, the Seattle-based real estate data service said in a report today. At the end of the fourth quarter, 17.6% of homeowners owed more than their original mortgage, while 14.3% had negative equity three months earlier.
“Property values dropped 14% from a year earlier in the first quarter, reducing the median value of all US single-family homes, condominiums and cooperatives to $182,378, Zillow said. The gain in underwater homeowners will lead to more bank repossessions, the company said.
“Many owners ‘would be more willing to bear the financial consequences of bankruptcy or foreclosure,’ Stan Humphries, Zillow’s vice president of data and analytics, said in an interview. ‘You are going to continue to see home prices fall for the rest of this year and some portion of next year.'”
Source: Daniel Taub, Bloomberg, May 6, 2009.
Zillow: Mortgage rates continue to fall across the board
Source: Zillow, May 5, 2009.
The Wall Street Journal: Banks get tougher on credit line provisions
“These revolving lines of credit typically ran for three or five years and let companies borrow at low interest rates, in part because they were rarely drawn upon before the credit crunch. Companies could use the money if they were cut off from other sources of cash such as the commercial-paper market.
“Now, lenders are cutting the length of many commitments to less than a year. They are charging higher fees for the lines of credit, known as revolvers. And instead of promising an interest rate determined mainly by the company’s credit rating, banks will now charge more if the cost of insuring the company’s debt against default is higher.
“The trend, unfolding for months, mirrors what’s going on in the rest of the credit markets: Lending is occurring again following last year’s freeze. But many borrowers are facing tougher terms. As the economy slows, companies are more likely to need extra cash to keep their businesses running. At the same time, rising loan defaults are making banks more cautious. Even the strongest companies must pay more for revolving credit lines, regardless of their plans to use them.
“The changes mean that corporations will have to renegotiate their credit lines more frequently. And if their financial condition deteriorates, such funding could become a lot more expensive and more difficult to secure. Already, the higher revolver rates are leading some firms to forgo the credit lines or to issue more long-term bonds if they are able to. Weaker companies are pledging more assets to banks to get or renew revolvers.”
Source: Serena Ng, The Wall Street Journal, May 4, 2009.
Financial Times: Obama’s offshore tax crackdown
Source: Financial Times, May 5, 2009.
BCA Research: Bonds – testing policymakers’ resolve
“The chart shows the sensitivity of the various regional bond markets to changes in global growth. Historically, the US, Australia, New Zealand and the UK have had the highest (negative) betas, causing these markets to underperform during periods of recovering global growth. In contrast, the euro area, Switzerland and Sweden are the least sensitive to swings in global growth and tend to outperform during recoveries.
“We had been wagering that this cycle would be different for the US and UK, given that these economies had the largest structural economic and financial sector problems and their central banks were willing to engage in quantitative easing to depress yields below where they otherwise would be. However, this call has not panned out over the past few weeks and further underperformance of Treasurys and gilts looms if the Fed and BoE do not step up their purchases of government bonds (especially given the longer-term issuance concerns for these markets).
“Thus, we recommend standing aside. We are booking profits on our long-standing overweight gilt position and moving back to neutral. Similarly, we are cutting our recent overweight Treasury allocation with a slight loss and upgrading euro area bonds to overweight.”
Source: BCA Research, May 7, 2009.
BCA Research: US fixed income – maintain long duration but avoid Treasurys
“Fed policymakers were confident enough with the outlook that they did not announce a new support program, expand an existing support program, or crank up the pace at which they are purchasing government or private sector securities after last week’s FOMC meeting. The Fed’s silence on the recent Treasury selloff was interpreted as a sign that policymakers are comfortable with higher yields, allowing the 10-year yield to break above 3%.
“Bond traders are likely to further test the Fed’s tolerance in the coming weeks. The Fed will tolerate the backup in government yields as long as it does not interfere with the decline in private sector borrowing rates. Most non-government fixed-income sectors continued to rally last week in absolute terms, despite the jump in Treasury yields (i.e. spreads narrowed faster than Treasury yields rose). Non-government bond sectors have outperformed cash since we shifted our long duration position out of Treasurys and into spread product last December.
“Fed policymakers would likely become more aggressive in capping Treasury yields if the government bond selloff begins to push up private sector borrowing rates prematurely (i.e. before the economy can handle more expensive credit). The implication is that investors should avoid government bonds and express long duration positions in other fixed income sectors where value is still attractive.”
Source: BCA Research, May 5, 2009.
Bill King (The King Report): Bonds breaking down
“The financial crisis to date is due to credit and solvency concerns. When people fear that an entity cannot meet interest payments or repay all or part of the principal, that piece of paper tanks. But debt without credit concerns remains buoyant; some debt increases in price on safe haven buying.
“But if bonds prices tumble, all debt gets marked down; and then there could be more derivative problems. If all debt instruments decline financial firms’ balance sheets will deteriorate severely.
“One reason for the severity of the credit crisis is that too many Street denizens, including model makers, had not experienced a credit cycle turn. The last occurred in 1990.
“This bond bull market commenced in 1982. Few money managers have experienced the savagery that a bond bear market brings.
“Estimates have CDS at $40 to $50 trillion notion value. Estimates put interest rate related derivates over 50% of the $1.4 quadrillion derivative market. We don’t have to elaborate about what might be triggered.
“If stocks tumbled on Thursday on concern about inflation and the bond market breakdown, the Fed is in deep stuff. Its intent has been to reflate financial asset prices. But declining bonds could trump the Fed.
“Ben is now chagrined because his effort to prop up bonds, possibly to appease China (after Hillary’s trek there) by announcing a $300 billion monetization, has produced the opposite of the desired effect. Ben’s scheme has inflamed inflation concern, as it should have and will continue to do so.”
Source: Bill King, The King Report, May 8, 2009.
Bespoke: High-yield credit spreads significantly down
Source: Bespoke, May 6, 2009.
John Authers (Financial Times): Higher bond yields negative for equities
Click here for the article.
Source: John Authers, Financial Times, May 6, 2009.
Bespoke: S&P 500 dividend yield drops 100 bps
Source: Bespoke, May 6, 2009.
Randall Forsyth (Barron’s): Stress tests bring relief to markets
“Indeed, it’s been the steady improvement in the equity, corporate debt and money markets that have instilled the confidence that banks could pass the stress tests.
“To be sure, the results of the tests, which were based on banks facing higher losses on business loans than during the Great Depression, helped further bolster optimism that these institutions could weather the worst conditions, with the addition of this additional capital.
“The stock market climbed the wall of worry posed by these what-if questions. But it has been boosted mainly by the provision of liquidity by the Federal Reserve through various innovative avenues that at least has credit flowing through the money market.
“Meanwhile, investors who have regained some measure of confidence, or have tired of earning virtually nothing on their growing stash of cash, have been putting it to work in the equity and debt markets. And woe be unto any professional money manager sitting on cash as the stock and corporate bond markets have been in rally mode.
“All of which has produced a huge advance from the March lows that has brought the major averages back to where they stood in January. But, according to Bank of America/Merrill Lynch chief North American economist David Rosenberg, that leaves the stock market in a much more precarious position now than 18 weeks ago.
“Professional investors appear to have covered their short sales, unwound their hedge positions and reduced their cash holdings in favor of getting back into the market, he writes in a research note. That makes the risk in the market much higher than when the averages stood at these levels around the beginning of the year – quite contrary to the view that the stress tests have lowered the risk level out there.
“With the ‘smart money’ now more fully invested, the stock market is more vulnerable to disappointments or reality checks, depending on your point of view. In which case, ‘this is a bear market rally that has run its course’, Rosenberg contends. Indeed, chances of a retest of the March lows are ‘non-trivial’, he adds.
“‘The rally of the past nine weeks appears to be rooted in green shoots. While it may be the case that the pace of economic decline is no longer as negative as it was at the peak of the post-Lehman credit contraction, the reality is that employment, output, organic personal income and retail sales are still in a fundamental downtrend,’ Rosenberg contends.
“Yet, stocks have rallied while Treasuries have backed up massively in yield, with the 10-year note up to 3.30%. That’s analogous to mid-2207, when the benchmark note hit 5.35% while the stock market was hitting new highs, Rosenberg recalls. As was the case then, he says the trade now is to take profits in stocks and put the money in Treasury bonds.
“‘Be careful about jumping into the stock market with both feet after this monumental rally. Consider whether or not it would be more appropriate to take advantage of the run-up to reduce equity exposure,’ Rosenberg writes in what sounds like his valedictory report ahead of his previously announced departure from Bank of America/Merrill Lynch.
“‘Our preference is to stick with fixed-income securities, which we believe will work much better from a total return standpoint, as they did for years after the economy hit bottom back in the early 1930s. When we are finally coming out of this epic credit collapse and asset deflation, we should expect that the trauma exerted on household balance sheets will have triggered a long wave of attitudinal shifts toward consumer discretionary spending, homeownership and credit. The markets have a long way to go in terms of discounting that prospect.'”
Source: Randall Forsyth, Barron’s, May 8, 2009.
Financial Times: Russell Napier – “cataclysmic bear market”
Source: Financial Mail, May 7, 2009.
Barry Ritholtz (The Big Picture): Sentiment reading – neutral
“Looking at the data, we find that the sentiment is decidely mixed – perhaps the best word is neutral. Consider the various data points:
• Investor Intelligence Newsletter Survey has Bulls 40.4 versus Bears 31.5 – this is the lowest level for the bears since June 2008. (See chart below). Overall, this is in neutral territory. It is neither excessively bullish (see October 2007) or excessively Bearish (see October 2008).
• The % of NYSE Stocks above their 200-day moving averages was deeply oversold at just 1% in March – its now just under 40%.
• Consumer confidence has been extremely low, and is now moving off of those levels.
• Earnings expectations have also been quite low – possibly too low. For the first time since the bear market began, earnings on the SPX are beating consensus.
• Money market cash as a percentage of total market value peaked in March at ~44%; Its down to 38% as of the end of April, significantly above historic levels.
• Cash in individual investor portfolios remains significantly above the 21.5 year mean of 25%; Its down from 44%, but remains elevated at 34%.
“The bottom line: Sentiment data is off of the extreme levels we saw at the lows in March; however, it has not yet reached levels that are associated with excessive bullishness.”
Source: Barry Ritholtz, The Big Picture, May 6, 2009.
Bespoke: Past years most correlated with 2009
“Since 1900, there have been two years that have a correlation with this year (as of May 5) of more than 0.75 (1 is perfectly correlated). These two years are 1982 and 2000.
“As shown in the chart below, the chart patterns through May 5 have been very similar for all three years, although the moves this year have been more extreme. The current year is most correlated with 1982 at this point, and as shown below, the Dow actually topped out in May of that year and went on to make a new low, only to post huge gains in the last quarter of the year to finish up 20%. If the rest of 2009 plays out anything like 1982, it will be painful at first but sweet in the end.
“In 2000, we had a similar decline through early March, saw a big rally into the Spring, and then traded sideways for the rest of the year to finish down 6%.”
Source: Bespoke, May 5, 2009.
Bespoke: Keep an eye on technology & financial sector relative strength
“After a strong run of outperformance since late November, technology stocks have steadily outperformed the overall market. In fact, on Monday the tech heavy Nasdaq became the first major index to trade above its 200-day moving average. Since then, however, tech stocks have faltered and on each of the last three days, the sector has underperformed the S&P 500 by a wide margin.
“In terms of relative strength, Financials have yet to run into the problems that the tech sector has encountered. However, while the sector has had what can only be classified as an extraordinary rally, it has a ways to go before it even tests its downtrend in relative strength that has been in place over the last year.”
Source: Bespoke, May 7, 2009.
Bespoke: Breadth by the 50-day moving averages
“Every sector except Health Care and Consumer Staples has a >50-DMA reading of more than 90%. The Consumer Staples sector is at 88%, and Health Care is at 75%. Telecom only has 9 stocks in the sector, and all of them are trading above their 50-days. The Industrials sector ranks second at 98%, followed by Energy and Utilities at 97%. While still high, Financials and Consumer Discretionary have actually seen a decline in the percentage of stocks above their 50-days over the last week. The indicator maxes out at 100%, so there isn’t currently much upside room from a breadth perspective. A pullback in these extraordinary numbers would be neither surprising nor unhealthy.”
Source: Bespoke, May 5, 2009.
NDTV: Mark Mobius – load up on growth stocks
“‘India has broken out of the downturn. It is a matter of building a base now. The Indian markets will move up and down before dramatically moving up,’ he said.
“He said that emerging markets will move first once the global recovery process kicks in, given that these markets are better prepared with high reserves and low debt, both at the country and company levels.
“He suggests investors to be aggressive on the markets and look particularly at growth stocks, which will do well over a five-year time frame.
“On the current rally, Mobius said, ‘We are building the base for the next bull market and the markets are saying that one year down the line the economies of the world will recover.'”
Source: NDTV, May 5, 2009.
Sanjiv Duggal (Halbis): Indian election weighs on equities in short term
“In dollar terms, he says, the broad BSE 200 has in just 32 days surged more than 50% from its March low, the fastest short-term rally.
“‘Equity raising and placements are likely to shoot up given this pre-election rally, partially meeting this sudden greed for stocks,’ Mr Duggal says.
“‘The amount of hot money coming through derivative holdings has increased while small and mid-cap stocks have recently outperformed large caps. These tend to be initial warning signs that speculative and retail participation is back.’
“He expects volatility to pick up ahead of and after the election results. None of the three main coalitions is likely to gain a majority.
“Mr Duggal is positive longer term.
“‘We expect the broad market to deliver a compound annual growth rate of about 15% over the next decade.’
“He says that the market does not appreciate the full magnitude of the government’s stimulus measures and that growth will be further supported by aggressive monetary easing during the past six months.
“‘Although the journey will be volatile, these factors should ultimately drive share prices higher,’ he says.”
Source: Sanjiv Duggal, Halbis (via Financial Times), May 7, 2009.
Bespoke: Bespoke’s commodity snapshot
“Below we provide our trading range charts of some of the commodities highlighted above. The green shading represents between 2 standard deviations above and below the commodity’s 50-day moving average. When the price moves outside of this green shading, the commodity is considered overbought or oversold.
“Oil is pretty close to the top of its trading range, and the last time it moved above the green shading, it pulled back pretty quickly. Natural gas is the closest to oversold territory and continues to trend downward. Gold, silver, and platinum have broken their uptrends recently and are approaching the bottom of their trading ranges. Copper, corn, wheat, orange juice, and coffee are closer to the top of their range than the bottom.”
Source: Bespoke, May 4, 2009.
Commodity Online: Jim Rogers – gold prices may go to a bottom
“Rogers, who left the United States to settle down in Singapore last year, and who is regarded as a commodities guru globally said he will hold on to his gold and is waiting to buy more gold because he expects gold prices to considerably come down when IMF sells its gold holdings.
“‘The fact is that IMF is trying to get permission from everybody to sell gold. I don’t know it will succeed or not. But if and when IMF sells its gold, gold prices may go to a bottom. Who knows? It may go down to US$700. IMF has got a lot of gold to sell. If it does, I hope I’m brave enough and smart enough to buy more,’ Rogers told Bloomberg Radio in an interview.
“Rogers who is hot on China has been investing heavily into Chinese investment and agricultural funds in the last year. According to Rogers, three billion people living in Asia, most of them in India and China, will account for a major portion of the total demand for commodities in the coming years.
“In an interview to Commodity Online Rogers said recently: ‘China is a fascinating place to invest in. China is on the rise, like America 100 years ago, and the problems the Asian giant is encountering right now in certain, mainly export-driven, sectors of its economy will not alter the country’s long-term trajectory.'”
Source: Commodity Online, May 3, 2009.
John Authers (Financial Times): Putting faith in China
Click here for the article.
Source: John Authers, Financial Times, Mei 4, 2009.
Financial Times: ECB cuts rates to combat recession
“The European Central Bank cut its main interest rate by a quarter percentage point to 1%, the lowest yet, and announced plans to buy €60 billion of covered bonds, which are backed by mortgage or public sector loans.
“Separately, the Bank of England said it would pump a further £50 billion into the UK economy through its programme of ‘quantitative easing’.
“Signalling significantly greater flexibility, Jean-Claude Trichet, ECB president, said official eurozone borrowing costs could fall again.
“Several ECB governing council members had previously publicly opposed cutting rates below 1%, and Mr Trichet had warned of the dangers of letting rates fall to zero.
“The announcements reflected increased ECB gloom over the economic outlook for the 16-country eurozone, which is expected to be hit worse this year by the global slowdown than the US or UK.”
Source: Ralph Atkins, Chris Giles and David Oakley, Financial Times, May 7 2009.
2 comments to Words from the (investment) wise for the week that was (May 4 – 10, 2009)
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