Friday, 2 November 2012

Week in review: An ill wind...

This week was another in which equities tried to climb the wall of worry even while Hurricane Sandy was trying to blow it over. To economists, regardless of the human cost, every window broken by Hurricane Sandy is a boost to Q4 GDP - which perhaps explains why investors coped so well with the turmoil of Wall Street’s longest weather related closure in over a hundred years.

The omens, after all, looked bad; chart-worshippers agonised over markets which were sending mixed signals. On the one hand the S&P 500 and FTSE 100 had lost the momentum of their previous uptrends, but on the other hand the S&P is consolidating above 1,400 and the FTSE 100 is poised for an assault on its previous resistance level: 5,950.
Source: Brewin Dolphin/DataStream
So weekly gains of around 1% or more from major markets were welcomed, supported as they were by resilient macroeconomic data. Most notable US payroll growth in October was better than expected (as Mike explained), besides it was primarily private payrolls which provided the good news, and furthermore the previous months were revised higher.

One interesting feature of the market’s reaction to these numbers was that the dollar performed well. Usually when payroll figures have been good the dollar has weakened because investors feel emboldened to chase returns in more exotic parts of the world. That today’s results marked the dollar higher probably suggests that investors believe the current open-ended quantitative easing (QE) may actually end – although flat hourly earnings figures suggest that there is nothing in this report to change the inflationary outlook.

That view was echoed by movements in the gold price which took a further step downwards as the payroll numbers broke. Gold was on the cusp of $1,800 per ounce in October, this week it dipped below $1,700.

The week was not a bad one for Europe as Spanish and Italian bond yields held their ground while higher-quality bonds weakened somewhat – although there remains no sign of a dramatic sell-off in bonds which haunt the nightmares of investors.

Earnings season has passed the halfway point and its conclusion seems pretty clear. Positive surprises in the US regarding earnings were plentiful but the top line (revenue) remains a source of disappointment. We are looking to the steady rise in payrolls to provide some more impetus for revenue growth, as well as falling gasoline prices, falling food prices and - the Fed’s contribution - falling mortgage rates. The impact of these income effects, coupled with the wealth effects of rising equity markets and house prices, remains a positive driver for the US recovery.

Source: Brewin Dolphin/DataStream
Forefront in investors’ minds, however, is the scope for policymakers to offset those positive underlying trends with a protracted and petulant debate over the fiscal cliff. Next Tuesday will determine the result but in the meantime crises tend to favour the incumbent. That has been particularly the case with Sandy which has simultaneously allowed the President to appear presidential and exposed the disillusion of the global warming-deniers within the GOP. Intrade puts the chances of re-election at close to 70% for President Obama now – a far cry from a fortnight ago. But whether an emboldened president or an emboldened democratic party (should it come to pass) makes an amicable compromise more or less likely remains the key issue.
Guy Foster
Head of Portfolio Strategy

1 comment:

  1. One important aspect this week was the release of global PMI data for Europe, Japan, the US and China, which are covered here:

    I think it helps in some part to explain strength in the dollar after more good news in the US labour market - it served as further evidence of divergence between the US and Eurozone economies in terms of leading economic indicators. By extension of that perhaps, we have more reason to expect greater US capital inflows. I'd be very surprised if the market thought QE3 was more likely to end based on one payroll release - especially given the Fed's ponderous approach to implementing it to begin with.