Markets are Edgy Ahead of Next Policy Moves

Good Evening: The U.S. capital markets continued to grapple with poor news flow today. Negative news out of the U.K. set up what could have been a decent down day in Wall Street, but, despite some weak economic news on this side of the Atlantic, U.S. stocks managed to close mixed. It was hardly a bullish showing, but it most certainly could have been worse. Perhaps investors both here and across the pond are waiting to see how the next round of policy moves play out before deciding upon a more determined course of action.

Stock markets in the U.K. and the rest of Europe were under pressure this morning after Barclay’s bank took one amidships in the form of a ratings downgrade by Moody’s (see below). U.S. index futures were thus sympathetically pointing south even before the latest economic data could hit the tape. Personal income in the U.S. declined 0.2%, but what really caught everyone’s attention was the full 1% drop in personal spending. During the late boom it was commonplace to see incomes up 0.5% while spending rose a tenth or two more rapidly. No more. The U.S. consumer may have picked an inopportune time to start saving, but today’s income and spending data show this trend is now firmly entrenched.

Also appearing, at least to the strained eyes at Credit Suisse, is an impending trough in global industrial production. After viewing this morning’s less awful than expected ISM reading (35.6 vs. expectations of 32.6 — see below), the CS fixed income team said they spy a deceleration in the downward trend of new orders. Current data is still deeply in recessionary territory, but Credit Suisse thinks the rate of change will flatten out this spring. Personally, I cannot say with any assurance whether global industrial production is set to bottom. What I can say is that every economic eye on Wall Street and abroad is ready to pounce on any perceived “improvement”. Last in this morning’s data parade was construction spending, which surprised no one by declining 1.4% in December. No doubt the Obama administration will take note of all the idle hammers and shovels as it pushes its stimulus package through Congress.

Given the economic statistics and the news flow out of Europe, U.S. investors braced themselves for a sharply lower open this morning. Interestingly, however, the 2% drop recorded by most of the major averages shortly after the bell rang represented the lows for the session. The ISM release was the proximate cause for the early comeback, and technology stocks led the rebound. The S&P and NASDAQ both climbed into positive territory just after lunchtime even as the Dow hung back. Equities journeyed back toward the lows during the early afternoon when the Fed’s loan survey showed credit is still tough to come by (see BAC/MER’s take below). But even here market participants tried to look on the bright side when they apparently chose to heed stories claiming the Obama administration would find ways to relieve banks of their problem loans. This “bad bank” plan, of course, will come with some strings attached. Being “forced to lend” might well be a requirement for any bank receiving taxpayer aid, though it’s hard to imagine just how “mandated lending” would work. We sound more like post-1989 Japan with each passing day.

The final hour of trading brought with it another rally in stocks, and this time the upticks weren’t given back. The performance was uneven, with the Russell 2000’s 1.4% gain contrasting the 2% loss posted by the Dow Transports. Still, it must be said that stocks hung in quite well today and they appear poised to welcome any positive news investors can find in the days ahead. Treasurys also managed to recover somewhat today after the drubbing they suffered last week. Yields were down 5 bps to 12 bps as the coupon curve noticeably flattened. The dollar retained last week’s gains and edged 0.15% higher. Commodities, though, fell back into the rut they’ve occupied since last July. Drops in crude oil and the metals complex sacked the CRB index for a 2% loss.

Poor Great Britain. Already suffering from a mortgage-blighted banking system and a currency that has fallen 30% without George Soros sitting on it, the U.K. today had to contend with a hobbling downgrade for Barclay’s and a crippling snow storm throughout much of the country. Both labor and capital struggled in the streets of London with forces both natural and man made, and the resulting slog made for images that might well symbolize the challenges facing that proud nation. That the FTSE declined less than 2% in response to the day’s events could well be considered a victory.

What happens next to Britannia’s markets and economy will in no small part be tied to its ever smaller banks. Ever since Her Majesty’s Government saw fit to save Northern Rock, the U.K. banking system has been unsteadily marching toward full nationalization. The whys are many, but it seems financial institutions in both Great Britain and Europe were not content to merely keep pace with their American colleagues during the Millennial housing boom that infested western civilization. No, they decided to lever up even more and began to sport the types of balance sheets that would cause the average hedge fund manager to fire his risk officer. And the clucking about U.S. banks heard in London, Paris, Bern, and Berlin way back in 2007 has given way to a quiet desperation about the fate of their own institutions. Leaders in these capitols hope some sort of U.S. led rebound can take hold before the banking rot spreads too far in Europe. If so, it’s a race against time — and one that depends upon governments being able to succeed where Mr. Market has thus far failed. I honestly have no idea what Gordon Brown and his policy making colleagues in Europe will do next, but I feel content to hold some gold while it all plays out.

— Jack McHugh

U.S. Economy: Manufacturing Shrinks, Spending Falls

Barclays Debt Swaps Jump as Moody’s Cuts Rating on Loss Concern

U.K.’s Heaviest Snowfalls Since 1991 Hit Southeast

Obama to Require Banks Receiving Aid to Boost Lending

Supply and demand problem.pdf

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