What a strange week:
It was a bit of a strange week in the markets as well with stocks posting a second consecutive down week for the first time this year. Stocks are now down all of 3.5% from their recent peak but that was enough to completely flip the AAII sentiment survey. Just a couple of weeks ago, it seemed like everyone was bullish except us and now we suddenly find ourselves in the majority. Bullish sentiment dropped from 38% to 28% in just one week while the bear camp expanded from 28% to 41.5%. This is evidence, if any more was needed, of the attention investors now pay to short term moves in the market. We’re all traders now and that is not good news for the market or the economy.
It is tempting to believe that the sudden flip in sentiment means this correction won’t carry much further, but the worries that caused last week’s drop are not over and I don’t think the correction is either. China’s GDP growth, as I said above, was quite a bit less than expected at +8.1% and while that sounds good compared to our puny growth rate, it is a lot less than the world – especially the emerging world – has become accustomed to. There are signs that China’s loose monetary policy is having an effect on lending but higher than expected inflation will probably delay further easing. Slower growth in China will have global growth effects.
The European debt crisis appears to be entering a new phase as well with Spain now the main attraction. The new government there is trying everything they can to show the rest of Europe they are doing what’s necessary to meet their fiscal targets but I see no way for them to close the gap between fiscal reality and a bond market moving in the wrong direction. Spanish bond yields are rising and the only buyers seem to be Spanish banks funded by the ECB. If they decide self preservation is preferable to patriotism, Spain won’t be able to refinance their existing debt much less fund their current deficit. The ECB will eventually be the buyer of last resort in one fashion or another because with elections in Greece and France in the next 2 months, getting any other type of bailout deal done will be next to impossible.
In the US, the economic stats continued to disappoint last week with small business sentiment, consumer sentiment, wholesale inventories, various inflation measures and jobless claims all printing worse than expected. Even the one so called bright spot – the trade balance – shows an economy slowing. The improvement in the trade deficit was primarily a result of weaker than expected imports of consumer goods which doesn’t exactly point to a robust economy.
For markets pining for more QE, the inflation reports were a dose of reality. Import price increases have moderated recently but are still 3.4% higher than last year while export prices are up just 0.9%. Prices for imported industrial supplies were up 3% in what cannot be good news for manufacturing margins. Producer prices were flat at the headline level but core prices are 2.9% higher year over year. Consumer prices also came in higher than the Fed wants with headline up 2.6% and core up 2.3% year over year. The year over year core rate actually rose slightly from last month’s 2.2%. Could some Keynesian please tell me how this is possible with all that spare capacity around? Output Gap: The difference between the predictions of Keynesian economic models and observed economic reality.
The jobs market got some more bad news last week with new jobless claims coming in at 380,000, up 13k from last week’s revised – higher – number. All the revisions recently have been higher and I am very worried that we are seeing a trend change. I would remind readers that jobless claims and the stock market are highly correlated. For now, at least we can still say claims are under 400k but the current level is not indicative of a growing job market.
We remain very conservatively invested with a large allocation to cash. US stocks are not cheap based on normalized earnings and while bonds are not attractive long term investments, they may be the only game in town if the economic data continues to disappoint. We’ve sold our high yield position and would favor Treasuries or Munis over corporates until the growth scare – or whatever this is – passes. I still don’t expect to get a full blow recession soon but rather a continuation of the slow growth we’ve seen since the recovery started. After the market adjusts to that reality, prices should be more attractive. In the meantime, at least the world is providing us with entertaining news.
For information on Alhambra Investment Partners' money management services and global portfolio approach to capital preservation, Joe Calhoun can be reached at: jyc3@alhambrapartners.com or 786-249-3773.
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Truth is stranger than fiction and much more humorous. And scary.
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