Don’s Outlook 8/27/2010
I don’t think you can argue that investors have lost sight of the forest for the trees or, in this case, the macro for the micro. The stock market continues to sway with each and every new data point that offers another clue to the ever-unfolding macroeconomic picture—whether it’s employment and manufacturing results or potential changes to interest rate policy. The microeconomic clues, such as corporate profits, are increasingly discounted as history rather than as a confirmation of an ongoing trend.
Once again this week, the balance of the macro data exhibited a softening trend. Durable goods orders grew in July but much less than expected. Although orders for transportation equipment and aircraft surged 13.1 percent and 33.8 percent, respectively, machinery orders declined 15 percent. Overall capital expenditures declined for the month but remain up 10.6 percent year over year.
The disappointing housing data was enough to send summer investors packing, extending the market’s losses for August. Sales of both existing and new homes declined in July. New home sales have been even more volatile than usual, which reflects the expiration of the homebuyer tax credits. Brighter news came from the mortgage applications purchase index, which rose 0.7 percent week over week, giving credence to the hope that the volatility due to the tax credits may be ending.
The market’s summer swoon is coinciding with the tail end of an earnings season wherein more than 70 percent of the S&P 500 companies have beat earnings estimates. Moreover, balance sheets remain robust, and corporate M&A activity is continuing to heat up, with another $178 billion in global deals announced in August, bringing the 2010 global total to $1.3 trillion. Rather than attempting to wring the last bit of margin from the bottom line, healthy firms may look to deploy their capital and buy additional growth rather than “earn” it organically. After having cut costs to the bone, some companies need to hire or expand externally in order to grow.
The bond market seems to be “looking” at the bigger picture as well, reacting more to slumping economic data than the long list of companies righting themselves in the midst of a deep recession. As investors bid the price of bonds higher, the 10-year Treasury note fell to a 17-month low of 2.43 percent, and the yield on the two-year is at record lows around 0.375 percent. The long-term bonds are at their weakest levels since March and April of 2009, when stocks were just beginning to find support. Yet, perhaps the key question to answer is whether the newly depressed yields are the result of dim economic prospects or the Federal Reserve’s affirmation to renew quantitative easing whenever necessary. The next few months of economic results will most likely be pivotal to stock and bond directions, until any further weakness is priced in or the economy begins gaining ground again.
