Global Stock Markets: A Crazy Week

What a crazy week! A week in which the Dow Jones Industrial Average managed to record both its largest single-day points increase (+936 points on Monday) and its second-largest one-day points decline (-733 points on Wednesday) since its start in 1896. On Thursday, the CBOE Volatility [VIX] Index surged to a record high of 81.17, with the Dow closing the week 4.7% higher after the previous week’s record 18.2% decline.

Source: Cartoonbank.com

Compiling this round up, I invariably thought of John Crudele’s (New York Post) comment:

… I’m as sick of writing about financial problems as you are of reading about them. However, as your mother probably said, just sit still and take the medicine. It’s good for you.

Governments around the globe launched unprecedented and concerted rescue operations for major banks in order to unfreeze short-term credit markets and avoid a collapse of the world’s financial system. It has also been announced, according to The New York Times, that President Bush had agreed to play host to a summit of world leaders soon to discuss the global response to the financial crisis.

Reflecting on the origins and fall-out of the credit debacle, a quote from Winston Churchill comes to mind:

The inherent vice of capitalism is the unequal sharing of the blessings. The inherent blessing of socialism is the equal sharing of misery.

Throughout the week, investors remained preoccupied with concerns about the intensifying economic damage that inevitably follows financial damage. Deleveraging of hedge funds continued unabated, and commodities and emerging-market stocks, bonds and currencies plunged on the back of risk aversion.

On a positive note, credit markets saw signs of improvement:

• The overnight dollar Libor rate dropped to 1.66% from 5.09% last week.

• Commercial paper rates fell to 1.05% from 3.50%.

• The Ted spread – the difference between what banks charge each other for three-month loans (three-month dollar Libor) and what the Treasury pays (three-month Treasury Bills) narrowed by 100 basis points to 3.63%.

From across the pond, David Fuller (Fullermoney) added:

By the time the Ted spread is safely beneath 100 basis points once again, I expect the next bull market in equities to be well under way. The global economy should be recovering as well.

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Source: Stockcube Research

Next, a tag cloud of the text of the dozens of articles I have devoured during the past week. This is a way of visualizing word frequencies at a glance. Not too many surprises here, especially seeing “banks” featuring so prominently.

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Warren Buffett, in an Op-Ed article in The New York Times, said that he was buying American stocks for his personal portfolio and encouraged others to do the same. He said:

I can’t predict the short-term movements of the stock market. I haven’t the faintest idea as to whether stocks will be higher or lower a month – or a year – from now. What is likely, however, is that the market will move higher, perhaps substantially so, well before either sentiment or the economy turns up. Therefore, if you wait for the robins, spring will be over.

Jeremy Grantham [GMO] summarized his investment recommendations in his latest quarterly newsletter as follows:

At under 1,000 on the S&P 500, US stocks are very reasonable buys for brave value managers willing to be early. The same applies to EAFE and emerging equities at October 10 prices, but even more so. History warns, though, that new lows are more likely than not.

Fixed income has wide areas of very attractive, aberrant pricing. The dollar and the yen look okay for now, but the pound does not. Don’t worry at all about inflation. We can all save up our worries there for a couple of years from now and then really worry!

Commodities may have big rallies, but the fundamentals of the next 18 months should wear them down to new two-year lows. As for us in asset allocation, we have made our choice: hesitant and careful buying at these prices and lower. Good luck with your decisions.

I am of the opinion that stock markets are in a broad phase of bottoming out. In a post a few days ago, I asked the question: "Is the financial storm over?" I concluded by saying:

One could argue that stock prices are oversold, creating the potential for a further advance through year-end, especially if credit spreads tighten (i.e. normalize) further. However, stock market valuations are not at the same oversold level as prices, arguing that a secular low may not necessarily have been reached. The third-quarter earnings season should provide part of the puzzle.

Before highlighting some thought-provoking news items and quotes from market commentators, let’s briefly review the financial markets’ movements based on economic statistics and a performance round up.

Economy

According to the Survey of Business Confidence of the World conducted by Moody’s Economy.com:

Global business confidence plunged last week to a record low. The financial panic has unnerved businesses, particularly in the U.S. and Europe, but sentiment has also turned sharply lower in South America and even in Asia. The global economy is taking a body blow from the financial turmoil.

 

Economic reports released in the U.S. during the past week consisted of a battery of worrisome updates. Fed Chairman Ben Bernanke’s depiction of the outlook for the economy in his address to the Economic Club of New York on Wednesday best described what was in store for the economy.

Stabilization of the financial markets is a critical first step, but even if they stabilize as we hope they will, broader economic recovery will not happen right away. Economic activity had been decelerating even before the recent intensification of the crisis. The housing market continues to be a primary source of weakness in the real economy as well as in the financial markets, and we have seen marked slowdowns in consumer spending, business investment, and the labor market.

Credit markets will take some time to unfreeze. In addition, with the economies of our trading partners slowing, our export sales, which have been a source of strength, very probably will slow as well.

These restraining influences on economic activity, however, will be offset somewhat by the favorable effects of lower prices for oil and other commodities on household purchasing power. Ultimately, the trajectory of economic activity beyond the next few quarters will depend greatly on the extent to which financial and credit markets return to more normal functioning.

BCA Research commented on the economic situation as follows:

The combination of a deteriorating economic outlook and continued severe financial stress points to an early cut in the Fed funds rate to 1%. The recently released Beige Book provided further confirmation that economic activity is weakening across the country, and there is little doubt that a deep rather than mild recession is unfolding. A zero funds rate within the next few months is possible if financial conditions do not soon improve.

To which Frank Holmes (US Global Investors) added:

The Treasury and its counterparts in the G-7 have started the monetary process by dropping interest rates and increasing the money supply, and that has started the healing process. Now we need the government to have a fiscal plan to create sustainable jobs rather than one-time ‘stimulus’ checks that get spent on consumer goods. We advocate no new taxes and cuts for wasteful spending, and that the government dedicates itself to infrastructure projects that will create new jobs and repair the nation’s roads, bridges and other critical facilities.

Elsewhere in the world, economic data also showed an acceleration in the weakening of activity.

Week’s economic reports

Click here for the week’s economy in pictures, courtesy of Jake of EconomPic Data.

Date	Time (ET)	Statistic	For	Actual	Briefing Forecast	Market Expects	Prior
Oct 13	2:00 PM	Treasury Budget	Sep	-	NA	NA	NA
Oct 15	8:30 AM	Retail Sales	Sep	-1.2%	-0.5%	-0.7%	-0.4%
Oct 15	8:30 AM	Retail Sales ex-auto	Sep	-0.6%	0.0%	-0.2%	-0.9%
Oct 15	8:30 AM	Core PPI	Sep	-	0.1%	0.2%	0.2%
Oct 15	8:30 AM	NY Empire State Index	Oct	-	-8.5	-10.0	-7.4
Oct 15	8:30 AM	PPI	Sep	-0.4%	-0.4%	-0.4%	-0.9%
Oct 15	8:30 AM	Retail Sales	Sep	-	-0.3%	-0.7%	-0.3%
Oct 15	8:30 AM	Retail Sales ex-auto	Sep	-	0.1%	-0.2%	-0.7%
Oct 15	8:30 AM	Core PPI	Sep	0.4%	0.1%	0.2%	0.2%
Oct 15	8:30 AM	NY Empire State Index	Oct	-24.6	-8.5	-10.0	-7.4
Oct 15	10:00 AM	Business Inventories	Aug	-	0.6%	0.5%	1.1%
Oct 15	10:35 AM	Crude Inventories	10/11	-	NA	NA	NA
Oct 15	2:00 PM	Fed’s Beige Book	-	-	-	-	-
Oct 16	8:30 AM	Core CPI	Sep	0.1%	0.1%	0.2%	0.2%
Oct 16	8:30 AM	CPI	Sep	0.0%	0.0%	0.1%	-0.1%
Oct 16	8:30 AM	Initial Claims	10/11	461K	475K	470K	477K
Oct 16	9:00 AM	Net Foreign Purchases	Aug	$14.0B	NA	$30.0B	$8.6B
Oct 16	9:15 AM	Capacity Utilization	Sep	76.4%	78.0%	78.0%	78.7%
Oct 16	9:15 AM	Industrial Production	Sep	-2.8%	-0.8%	-0.8%	-1.1%
Oct 16	10:00 AM	Philadelphia Fed	Oct	-37.5	-5.0	-5.0	3.8
Oct 16	11:00 AM	Crude Inventories	10/11	5611K	NA	NA	8123K
Oct 17	8:30 AM	Building Permits	Sep	-	845K	840K	854K
Oct 17	8:30 AM	Housing Starts	Sep	-	880K	870K	895K
Oct 17	10:00 AM	Mich Sentiment-Prel.	Oct	-	68.0	65.0	70.3

Source: Yahoo Finance, October 17, 2008.

In addition to Fed Chairman Ben Bernanke testifying at the House Budget Committee on Monday, October 20, next week’s U.S. economic highlights, courtesy of Northern Trust, include the following:

1. Leading Indicators (October 20): Interest rate spread, vendor deliveries, consumer expectations and money supply are the components likely to make a positive contribution in September. Stock prices, manufacturing workweek, initial jobless claims, and building permits are expected to make negative contributions. Forecasts of money supply and orders of consumer durables and non-defense capital goods are used in the initial estimate. The net impact is a 1.0% drop in the leading index during September after a 0.5% drop in August. Consensus: -0.2%.
2. Existing Home Sales (October 24): Sales of existing homes are most likely to have declined to an annual rate of 4.80 million units in September. Consensus: 4.92 million versus 4.91 million in August.

Click here for a summary of Wachovia’s weekly economic and financial commentary.

A summary of the release dates of economic reports in the U.K., Eurozone, Japan and China is provided here. It is important to keep an eye on growth trends in these economies for clues, among other things, about the direction of the U.S. dollar.

Markets

The performance chart obtained from the Wall Street Journal Online shows how different global markets performed during the past week.

click to enlarge

 

Source: Wall Street Journal Online, October 17, 2008.

Equities

Although very volatile, developed stock markets closed the week with fairly good gains that were largely a result of Monday’s record surge – as shown by the MSCI World Index improving by 4.4% after the previous week’s record decline of 20.1%. This was the first positive week since the second week of September. Leading the pack were Italy (+6.7%), Canada (+5.5%), Germany (+5.2%) and Japan (+5.0%).

On the other hand, risk-averse investors caused the MSCI Emerging Markets Index (-4.1%) to stumble further after losing 20.2% the week before. The Russian Trading System Index, giving up 21.0% to bring its total decline since the Index’s high of May 18, 2008 to 68.2%, recorded the week’s largest decline.

The performance of the Dow Jones World Index (green line) and the MSCI Emerging Markets Index over the past two weeks are shown in the graph below.

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The U.S. stock markets all improved over the week as shown by the major index movements: Dow Jones Industrial Index +4.7% (YTD -33.3%), S&P 500 Index +4.6% (YTD -35.9%), Nasdaq Composite Index +3.7% (YTD -35.5%) and Russell 2000 Index +0.8% (YTD 31.3%).

The Dow needs to rise to 10,141 – 14.6% higher than its current level of 8,852 – in order to be officially classified as being in a bull market again. The Index will be required to increase by 22.1% to reach its 50-day moving average and 34.3% to get to the key 200-day line.

Click here or on the thumbnail below for a (predominantly green) market map, obtained from Finviz.com, providing a quick overview of the performance of the various segments of the S&P 500 Index over the week.

click to enlarge

 

The investment bank & brokerage group (+28%) was the best-performing group during the past week. Goldman Sachs (GS) and Morgan Stanley (MS) were up on news that the government would provide funding to the two companies as part of a broader effort to restore confidence in the stressed financial system.

The automobile manufacturer group (+26%) was the second-best performer. According to media reports, General Motors (GM) is negotiating a possible merger with privately owned Chrysler.

Five of the ten worst performing groups last week were related to the commercial real estate market. The worst performing group was the real estate services group which plunged by 32%. Four real estate investment trust groups were also among the underperformers, showing investors’ concerns about a weakening commercial real estate market brought on by the credit crunch.

The U.S. stock market is in the middle of the Q3 earnings-reporting season. According to Bespoke, 159 companies covered by analysts have so far reported their quarterly numbers, of which 60% have beaten estimates, 32% have missed and 8% have reported as expected.

Fixed-interest instruments

As mentioned in the introductory paragraphs, interbank and commercial lending rates started to ease during the past week. The overnight Libor rate dropped to 1.66% on Friday from a high of 6.87% on September 30.

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However, at the long and risky end of the credit market the situation was less encouraging, with the spread between the yield on junk bonds and the ten-year Treasury Note yield at 14.51% on October 16, which is higher than the spread of 14.23% on October 10.

click to enlarge

Credit default swaps [CDS] for emerging markets – notably Hungary, Ukraine and Russia – also widened considerably amid concerns about the health of their banking systems.

Movements in government bonds yields were as follows: the ten-year U.S. Treasury Note increased by seven basis points to 3.95%, the U.K. ten-year Gilt yield climbed by 20 basis points to 4.67% and the German ten-year Bund rose by four basis points to 4.04%. Emerging-market bonds suffered as investors shunned risky assets.

U.S. mortgage rates increased, with the 30-year fixed rate rising by 36 basis points to 6.45% and the 5-year ARM by five basis points to 6.01%.

Currencies

The major currencies experienced a relatively quiet week as plans to implement unlimited U.S. dollar currency swaps between the Federal Reserve and other major central banks brought some stability.

Although not a long-term bull on the greenback, Bill King (The King Report) highlighted that, the “greatest short squeeze of all time” was occurring in the U.S. dollar, and yen to a lesser degree.

King said:

Virtually all U.S. private and public sector debt is a dollar short. The other big short is the yen via the ‘carry trade.’

Over the week the U.S. dollar gained against the Japanese yen (+1.0%) and Canadian dollar (+1.2%), but lost against the euro (-0.1%), the British pound (-1.4%) and the Swiss Franc (-0.1%).

The announcement of coordinated plans by Australia and New Zealand to safeguard their banking systems resulted in a rebound of their currencies, with the Australian dollar and New Zealand dollar gaining 7.3% and 3.9% respectively against their U.S. namesake.

Emerging-market currencies, especially those with large current account deficits, lost heavily as global recession risks increased. Examples of losses against the greenback include the Hungarian forint (-5.7%), the South African rand (-7.1%), the Turkish lira (-6.4%) and the Korean won (-8.4%).

click to enlarge

Commodities

Fears that the deteriorating global economic situation was causing demand destruction resulted in strong selling pressure for all commodities. The Reuters/Jeffries CRB Index dropped by 11.2% during the week, resulting in a loss of 39.7% since its high of July 2, 2008.

The chart below shows the relationship between the CRB Index and the Baltic Dry Index – an index covering dry bulk shipping rates and seen as a rough proxy for global growth.

click to enlarge

West Texas Intermediate crude prices on Thursday fell below $70 a barrel for the first time since August 2007, but recovered to $72.13 on Friday to bring the decline since the record high of mid-July to more than 50%. This prompted OPEC, the oil-exporting countries’ cartel, to schedule an emergency meeting for Friday, October 24 to discuss production cuts.

Notwithstanding steep declines in oil and gold prices, Merrill Lynch analysts, according to MarketWatch, said gold prices could hit $1,500, as global plans to rescue the financial industry are set to increase inflation pressures. The analysts didn’t say when gold would hit the price target. They also predicted oil prices will rise to $150 a barrel.

The following graph shows the past week’s severe declines for various commodities:

click to enlarge

Now for a few news items and some words and charts from the investment wise that hopefully, will assist in guiding our investment portfolios through these troubled times. And remember the quote from Charles Dow: “Exercise enough patience for six men.”

That’s the way it looks from Cape Town.

Source: Slate

Comments

[venividivici:]

long long artice filled with facts and graphs aplenty. The simple fact is this, in America people who are supposed to be the creme de la creme do outrageous things, they get obscenely rewarded and when it all blows up in their faces, they get bailed out by the government ,for the common good of course. That's what is happening right now in the great American plutocracy. Sooner or later this Sodom and Gomorrah financial system is going to be flushed downs the toilet where it belongs.
The cartoon is about the only thing worth looking at. Imagine thinking that George W. Bush has the answer. If you believe that, you truly are doomed.

2008 Oct 19 08:43 AM

[gotnochips:]

Outstanding overview of the week's financial events.

2008 Oct 19 10:27 AM

[bbowen7:]

An excellent overview of a stabilizing financial system as the real economy falls into recession. That's OK - we've seen lots of recessions, but very few collapses of the financial system. Perhaps the most telling comment not yet in the common perspective is that high inflation is a couple of years out.

2008 Oct 19 01:58 PM

[Britishsteel:]

forget the article, ask yourslelves why are you debt slaves , watch this movie I agee only with the first hour BUT thats what really counts. I post this to provoke thougt. Mark Twain said men get all thier information on religion and poltics based on second hand information [ meaning newspapers and all sorts of media ] without examing the facts themselves .watch the movie take notes google it and find out if its true and make your own decisons . BUT please THINK ,its too easy not too. Thinking is the HARD PART!
video.google.com/video...

2008 Oct 19 07:36 PM

[carey_jim:]

One minor quibble on your statistics:

You said

Over the week the U.S. dollar gained against the Japanese yen (+1.0%) and Canadian dollar (+1.2%), but lost against the euro (-0.1%), the British pound (-1.4%) and the Swiss Franc (-0.1%).

It's always better to report a (-0.1%) or (+0.1) "decline" or "gain" as "flat" or "essentially flat" even though, obviously, they aren't technically flat.

More importantly, during this crisis, I've heard precious little talk of the cost of the Middle East Wars and of the waning of the "fall of communism effect."

The two big bubbles, for example, were, at least in part, the effect of the fall of communism and the rise of China as a (relatively!) open market. The two booms were, in part, a celebration: "We finally beat the bastards and now we can put the cold war behind us."

But we already have another "war" (of aggression which some people are still pretending is a war against terrorism) and it seems to have replaced the war against communism. So we are back to where we started but with a different set of enemies.

The bottom line, economically, is that we Americans have never really dealt with our biggest problem which was diagnosed a long time ago by friends and enemies alike: deep inequality of wealth and incomes.

For forty years we have lived under the illusion that we have defeated inequality with affirmative action programs, woman's liberation and even gay rights.

Now that we are electing a "black man" to the presidency we can pat ourselves on the back again for making further progress in the battle against inequality but the reality is something else.

Since the 1970s, the forces of inequality, along with their inevitable "revolutionary" backlash, have been building.

Homo economicus might be called on, in the near future, to make the acquaintance of homo pissedofficus.

2008 Oct 20 11:10 AM