Market Outlook | May 6, 2013

“Deliberate with caution, but act with decision; and yield with graciousness, or oppose with firmness.” Charles Caleb Colton (1780-1832)

Subdued milestone

When stock markets hit all-time highs, one would expect a cheerful environment all around. A collective celebration is expected rather than the subdued skepticism that’s plagued this silent bull market. Not so silent perhaps when considering that this time around, it is not quite 2007 in terms of the real economy feel. In terms of risk appetite, there are some similarities to pre-crisis days, in which participants were chasing risk and the index was roaring higher, while volatility remained steadily calm.

Strangely enough, on broad indexes, the S&P 500 Index is 2% higher than its 2007 highs (1576). However, through this recent wave of bullishness, it remains hard to convince most that the real economy is much better and robust growth is in full gear. Perspective is needed, as usual. From the doomsday standpoint, the reported labor and growth numbers are not as bad as March 2009. Yet, there is a growing divide in perception and driving forces for confidence. Even the concept of measuring investor sentiment or opposing the Federal Reserve policies is either biased or inaccurate and open for heated debate. At the same time, it’s simply difficult or at least not fully accurate to use the stock market as a sole indicator for individual and national well-being. The current trend restates the relative strength of the US financial system relative to other nations. Of course, all is relative – today’s world is more fragile, but relative strength counts. This is showcased in the current market behavior, where US assets are beneficiaries of uncertain Europe and slowing Asia.

Late this weekend, Chinese manufacturing and servicing (PMI) data came in below consensus and the weakest in two years. This reinforces the real economic slowdown even in regions that were winners last decade. Escaping to commodities and emerging markets alone is not quite the answer for all this decade. Interestingly, the EEM (Emerging Market stock markets) is not quite at its all-time highs, which were achieved in December 2007. It’s not impossible for emerging market stocks to follow the US, as global indices march on with a tune that’s familiar. However, the disconnect between economic realities and stock market behavior has this uneasy feel that requires more of a closer study than a definitive conclusion.

Cycles repeating

The mechanics of price appreciation are driven by a lack of yielding alternatives in this global market. The task of desperately boosting confidence in recent years has left the Federal Reserve implementing further easing. Collectively, we’ve reached a point where the talk of quantitative easing is too numbing, not so strange and certainly uniform. The same rate cuts in Europe and Japan reflect the coordinated efforts led by the US. Plenty have commented on the puzzling process of the “bubble” re-creation, yet talks of a bubble are not enough to slow down this market. It has been painful for money managers who relied on fundamentals (or emotionally based advice) only and bet on declines and demises of equity markets. Not quite. Perhaps, the bubble or peak talk appears premature for now, but to bring up concerns is hardly rare these days.

Hazy moving parts

The status quo of lower interest rates and higher asset prices is always up for debate, but the trend is in place. Yet commodities remain at a tricky junction. Crude has made a sharp upside run, while gold has had a trading bounce. Crude prices have gained despite the slowing global demand. Thus, a mystery resurfaces between the supply-demand argument and actual crude price appreciation.

Meanwhile, grasping the fundamentals of gold is not quite clear these days. In fact, the sudden drop in gold prices last month is still being digested:

“The biggest reason for the move in gold was investor liquidations of gold-backed exchange-traded products, said Jerome Gaudry, the London-based head of commodity structuring at Natixis SA. Gold holdings in ETPs plunged 174 metric tons last month, the biggest drop ever, as prices entered a bear market and wiped $17.9 billion from the value of the funds, data compiled by Bloomberg show.” (Bloomberg, May 3, 2013).

Gold: Safe asset or not; physical versus synthetic; or a hedge to paper assets – the confusion remains in place. It’s fair to call it a speculative trading vehicle. There is nothing wrong with boldness, as only the bold will continue to take a risk in a quasi-currency and full commodity that’s still fuzzy, even to experts.

Article Quotes:

“So why does onshoring make so much sense in banking? With both China and India growing year on year, the cost savings are less appealing. Wage growth in these regions means that the difference in salaries, compared to local talent, has become increasingly marginal. Banks are also more focused on the cost reduction opportunities offered by an increase in digital channel usage and a decline in branch activity. Regional branch closures are expected to grow again this year. There is also an acceptance that delivering quality technology now, more than ever, relies on face-to-face interaction. Having a team full of people co-located and empowered means not only an improvement in product quality, but a significant increase in time-to-market. Whereas offshoring was once considered a competitive advantage, it is now considered the opposite. More and more banks are looking to bring jobs back home, and even analysts and investors are starting to ask questions. The key to the transition is to do it smartly. No more inflated business cases. No more forced changes. By onshoring too rapidly you run the risk of making the same mistake most banks did with offshoring. Have clear objectives so you can easily decide what roles or departments are going to grow locally.” (American Banker, April 24, 2013)

“The Bureau of Labor Statistics recently produced a breakdown of job growth during North Dakota's oil rush, and it's pretty remarkable. In counties where oil rigs have sprouted up to drill from the Bakken Shale Formation – a few of which are actually in Montana – employment grew by 35.9 percent from 2007 to 2011, from about 78,000 jobs to more than 105,000. But much as in Texas's shale country, the impact on local job growth has actually been dwarfed by the impact on local income. Total wages more than doubled from $2.6 billion to $5.4 billion. Average pay jumped by more than half, from $33,040 to $50,553. Blue-collar men suddenly finding high-paying work in the fields is a big part of the story. But jobs and paychecks have surged across industries. Some of the fastest growth has been in professional and technical services, a category dominated by college educated workers. Earnings have grown the most in real estate, which, with rents rivaling Manhattan in the boom town of Williston, isn't that much of a surprise. But they've also jumped in working class sectors like transport (think trucking), construction, and even food services.” (The Atlantic, May 2, 2013)

Levels: (Prices as of close May 3, 2013)

S&P 500 Index [1614.42] – All-time highs, as the index is nearly 4% above its 50-day moving average. Most technical indicators suggest some minor pullbacks within the context of an established bullish trend.

Crude (Spot) [$95.61] – After failing to stay above $96 on two occasions, prices of crude attempt to make another upside run.

Gold [$1469.25] – From October 4, 2012 until April 17, 2013, Gold fell 23%. Since the mid-April lows, a recovery appears visible, but only showcasing its early legs.

DXY – US Dollar Index [82.12] – Mostly unchanged week over week. The dollar maintains its slight relative edge, despite the slowing pace.

US 10 Year Treasury Yields [1.73%] – The significant drop in yields, from 2.08% to 1.61%, was a noteworthy three-month move. Now, at around 1.70%, the possibility of a trend reversal may be set up, although there’s a lack of strong evidence to declare that trend.







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