February 07, 2009

Market Insights 7-Feb-2009

Weekly Snapshot
• Toyota Motor Corp's sales fell 34 percent last month in the US
• US job losses in January at 598,000 the most in 34 years, unemployment rate at 7.6%
• Eastern European currencies decline, Russian Ruble hits new low at 36.43 versus US$ on Friday
• South Korean exports are down 32.8%
• U.S. jobless claims surge to 26-year high
• Japan factory output plunges, jobless rate jumps
• UK cuts interest rates by half a point to 1%, ECB holds interest rates steady
• Obama imposed restrictions on pay for executives at banks bailed out by taxpayers; compensation to be capped at $500,000
• The Federal Reserve maintained its target for overnight interest rates at 0-0.25%
• Tom Daschle withdrew his nomination as health secretary after revelations of unpaid back taxes
• The Bank of Japan unveiled a plan to buy up to Y1,000bn in shares held by banks
• Australia announced a fresh A$42bn fiscal stimulus package and 1% cut in interest rates
• Financial crisis causes 20m job losses in China

Chart of the week
Source: http://dshort.com/charts/SP-Composite-regression-charts.html?SP-Composite-real-regression-to-trend

The irony of markets
As the global economy slid further into a recession, job losses were mounting faster than anticipated by some analysts. US employers slashed another 598,000 jobs in January, the highest number in 34 years. Ironically, the major equity markets looked past these lousy job numbers and showed impressive gains, ending the week on a clear up-trend.

Possible reasons for this positive market reaction include:

Hope: The hope of getting President Obama’s economic stimulus plan approved by the US Senate. The plan which has been trimmed down to “only” $800bn on Friday is likely to get approval in the Senate now. With this much money being pumped into the economy certain industries/sectors should get a boost. The market thus expects that at in the short to medium term the stock market will benefit from the stimulus.

Leaner Companies: One could argue that excess fat by many corporations is trimmed. A leaner labor force, if made up with an increase in productivity, can lead to significant cost reductions and possibly lead to higher profit margins, boosting equity returns.

Buy on the rumor, sell on the fact: Perhaps equally important is the old trading rule. In this case, a lot of the poor economic data has been priced into the markets already. Once official numbers are released, the markets look forward to another set of data and expectations on improvements, however small they may be.

Despite all this, a highly consumer driven economy like the U.S. will continue to experience a fall out from these massive job losses. Decreased spending due to mass lay-offs will weigh heavily on many industries and also on their share prices. Top of the list are big ticket items such as housing, cars, and improvements in personal infrastructure (home refurbishing, new appliances, furniture etc.) Low price retailers such as Wal-Mart, Dollar stores and a few others may buck the trend as consumers will increasingly frequent these retailers in search for bargain prices on necessities. But although Wal-Mart reported an increase in same-store sales of 2.1% last month it also said it will no longer release sales forecasts each month, a trend that has been mirrored in the retail industry in the hope to reduce some short term volatility of stock prices. Defensive stocks and some low cost retailers may be the most sensible choice for stock pickers in the coming weeks/months until the planned economic stimulus package is likely to have an impact on the economy.

On currencies
This week’s move by several central banks to lower interest rates further has resulted in some interesting market patterns. The Bank of England cut interest rates by half a point to 1%. Australia and New Zealand also cut their rates to 3.25% and 3.50% respectively. The European Central Bank however has kept rates steady at 2%. Perhaps because of the ECB’s inaction, the British Pound, Australian and New Zealand $ faired better than the Euro in comparison with the US$ although lower rates generally tend to decrease the value of a currency. But just like all markets, currency markets move in anticipation of future events. While the ECB has not lowered its benchmark rates, the markets are currently pricing in such a move for March and hence the Euro drifted lower against the Pound and some other major currencies this week.

With regard to the British Pound, it has now shown a 2 week recovery against the US$ since the Lows of just above 1.35 on January 23. From a technical perspective, the big test for the Pound will be the major resistance at 1.5000 which needs to be broken before the short recovery can turn into a trend reversal.

Equally impressive was the reversal of the Pound’s near parity move against the Euro. At year-end of 2008, the Pound fell to its lowest level against the Euro at 0.98045. Since then, the Euro regressed in 2 major waves and currently stands at 0.8740 as of Friday. The Pound cleared an earlier double bottom from Jan 9th and Jan 15th. With no other major technical support on the horizon and in the absence of any fundamental changes in the benchmark rates (i.e. the expected rate cut by the ECB in March), the downside pressure on the Euro will continue.

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