Market Outlook | April 26, 2010

“Anyone who isn't confused really doesn't understand the situation.” - Edward R. Murrow (1908 - 1965)

After a brief breather, global markets restored their positive flow. Again, earnings occupy the minds of most financial professionals, while policymakers examine reforms as discussed for most of this year. However, observing broad index performance fails to trigger urgent worries or troublesome trends at first. Yet, the looming concerns of currency movements, European crisis management, and the potentially overheating Chinese economy are issues that are poised to spark sensitive responses. Also, investors will have to be cautious in isolating the credit problems of today versus future concerns. In a period of reflection and pending reforms, it is easy to confuse catalysts affecting investor psychology.

During the current rally, on certain occasions, investors showcased overconfidence by attaching one or two macro factors that served as key drivers. For example, much-awaited interest rate decisions have shaped forecasters’ market view. One thing that we've learned in the past three years is about the connectivity of macro movements. In fact, the synchronized movements of rates, commodities, and stocks are striking. Meanwhile, higher inflation worries have not lived up to expectations. Similarly, interest rates have not rocketed as pointed out by several pundits at the start of this year. Both rates and inflation might contribute to a surprise element that could force investors to readjust their thought process. At the same time, the recovery in the US Dollar is a quick reminder of a global perception of a safe asset. This is a noteworthy point in addressing the comfort level of participants and the relative attractiveness of US markets versus Euro region.

Momentum-driven stocks continue to lead, especially in consumer discretionary, industrials, and Financials. Perhaps, a speculative environment contributed to sectors with higher volatility. Other sectors are seeing a strong recovery as well. For example, CREE (Cree, Inc.) in technology and ISRG (Intuitive Surgical) in healthcare are showcasing fundamental strength in a favorable cycle recovery. The takeaway is an ongoing, investor appetite for solid growth stories, driven by strong, stock specific stories.

Article Quotes:

“It seems unwise for investors to celebrate variations of a few basis points in delinquency rates. It seems equally unwise to celebrate ‘favorable’ bank earnings reports that are exclusively driven by reduced loan loss provisions, particularly when the volume of impaired loans has not declined proportionately. Keep in mind that Enron and Worldcom were able to report outstanding earnings for a while by adjusting the manner by which revenues and expenses were accrued. I suspect that the U.S. banking system has become a similar breeding ground for innovative accounting.” (John P. Hussman, April 19, 2010)

“When the financial sector increases its net lending, aggregate demand (or total spending) tends to increase. This is because the financial sector, especially the banking sector, tends to create new credit rather than merely transferring purchasing power, which the nonfinancial sector does when its net lending increases. In order for the private financial sector to increase its net lending, it needs sufficient capital….. For the first time since the 1952 inception of this series, net lending by financial sector actually contracted in 2009. What is all the more noteworthy, total financial sector net lending contracted in 2009 despite a surge in net lending by the Federal Reserve.” (Paul L. Kasriel, April 16, 2010)

Levels:

S&P 500 [1217.28] had yet another week of new annual highs. Positive momentum continues as the index remains 5% above its 50-day moving average.

Crude [$85.12] is trading in a narrow range between $82 and $86. Mostly, maintaining a bullish uptrend, while retracing from annual highs from few weeks ago.

Gold [$1139.50] is down since last week’s finish. Importantly, the commodity remains removed from recent highs of 1212.50, reached in December 2009.

DXY– US Dollar Index [81.35], in the last 8 days witnessed a resurgence of strength in the dollar index. A multi-month outperformance versus the Euro continues to take place.

US 10 Year Treasury Yields [3.80%] is stabilizing around familiar territory, while trading slightly below 15- day moving average of 3.84%.

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