Drilling down the most market-sensitive irritants, one can note that China's slowdown and Iranian geopolitical factors somehow show less and less impact on the daily indexes' fluctuations. Previously predominant significance of the US quarterly earnings has also been apparently losing its former appeal: among the operating winners and losers this time there is no consensus about where their stock prices should go. Apart from obviously staged, and thus misleading "positive" report by the Bank of America, such stocks as Alcoa (NYSE:AA), JP Morgan (NYSE:JPM), Yahoo! (YHOO) and many more evidently deserve a better destiny based on their quarterly reports. So what's the deal, why the last stronghold of the market common sense - the US stocks - begin demonstrating such a faulty performance?
Apart from ostensibly great frustration about lack of QE3 (we are still reluctant to believe that absence, rather than presence, of something is capable of spoiling the investors' mood this much), the trouble may have come from Spain. In fact, even after this Thursday's proof of lack of drama, if not success by the Spain's 2 Yr and 10 Yr €2.5 bn ($3.3 bn) bonds placement, business media keeps pointing to the fact that the country's borrowing costs increased based on its yield uptick to 5.743% compared with 5.403% at its debt auction in January. Spain's debt sales have been under close scrutiny as the market doubts over the ability of the Spanish government to reduce the budget deficit to the agreed-upon 5.3% of GDP in 2012 has pushed its 10-year yields above 6%, a level that is seen as unsustainable in the long run. The surge in yields to levels unseen since before the European Central Bank's first three-year refinancing operation (LTRO) has fanned fears that Spain might be the next country to plead for bulk external help, although several euro-zone politicians have defended the government's deficit cutting and reform efforts.
Beats me, we don't see any Armageddon prediction in the rising yields alone, for it seems to be absolutely normal to link a country's cost of capital to its bona fide economic good standing - exactly the way this rule exists in the corporate world! Money managers are tired of subpar fixed income interests, and eagerly go after any no-nonsense yield offering as exemplified by the Spanish auction's triumphal bid-to-cover ratio of 3.3, compared to a ratio of 2.0 in October. So here again we face the dilemma of how to treat the glass half-filled with water. No-one says that Spain's economy is fine and bullet proof, but studying Spanish budget revenues while matching them against its ongoing external payments, we don't see any reason to worry up until at least upcoming July (see Fig. 1):Fig. 1 Timeline and Structure of Spain's Government Debt Interest Redemption in 2012, € bn
Source - ECB, EuroStat
The Spanish government has also made several reassuring statements that, first of all, it could seize control of faulty finances in regional governments, which account for about 1/3 of public spending in Spain, and to segregate financial "toxic" assets apparently intending to act as copycat to the US Feds back in late 2008. Since that auction, Spain has also sold a €4 billion tranche of this bond via a syndicated tap. The average yield on the 2014 bond came in at 3.463%, compared with 3.495% at the previous auction Oct. 6 (again, we don't see a trace of hinting at the infamous Greek scenario in that modest number change, especially for the maximum yield of 3.52% on the 2 Yr bond was in line with the previous 3.519%). This is perfectly illustrated by the Spanish sovereign bond yield curve compared with its German peer (see Fig. 2):Fig. 2 Spanish sovereign yield curve vs. German sovereign yield curve: now vs. 1 month ago
Source - Bloomberg
So far we don't see any particular deviation from the market normalcy. As German economy slightly improved over the course of the past month, the Spanish macro indicators somewhat deteriorated, and this fact is reflected in relative heights of the corresponding yield curves. Also the smoothness of the curves (unlike their apparent roughness in the case of the pre-IMF-funds-disbursement Greek Hellenics with distinctive 1 Yr peak pointing at climax of the bondholder's default worries) means there is nothing more than reflection of apparent fact, that German economy is better off compared with the Spain's. Again, what's the scoop?
Finally, our alternative assumption of a reason the US stock market shows more erratic behavior is that the US economy doesn't look strong enough to secure uninterrupted market growth through the upcoming November Presidential elections. Below chart (Fig.3) illustrates that the S&P 500 index tends to grow during the US presidential election periods, except for well-explainable episodes of the rally disruptions caused by adverse factors such as notorious 2000 Florida election recount and 2008 world financial crisis:Fig. 3 Retrospective S&P 500 performance during the US Presidential elections
Source - Bloomberg