September 27th, 2010 12:54 PM by Mel Samick
U.S. stocks have advanced over the last four weeks, with the benchmark S&P 500 index up more than 9 percent since the start of September as investors welcomed signs that the economy might avoid a double-dip recession. It's amazing how fast sentiments can change in a matter of one month. Last month-end, the Dow dropped briefly below the 10,000 level - now we appear to be heading up towards the 11,000 level. The most recent recession ended a full year ago, according to the NBER, the "official" arbiters of the start and end dates of economic downturns. However, the recovery which has ensued has been tepid and untrustworthy, and might even prove temporary. Is the stock market signaling that we are out of the woods or is the rise of high-frequency trading have some connection with this sudden change in sentiment? Interestingly, trading has become increasingly concentrated in the first and last hours of the session. Those two hours now make up more than half of the entire day's trading volume, according to an analysis of data provided by Thomson Reuters. In August, the first and last hour generated nearly 58% of New York Stock Exchange primary volume, up from 45% in August of 2005, the analysis shows. The rise of high-frequency trading, where algorithms are used to exploit small discrepancies in high-volume situations, amplifies the concentration of trading at the beginning and end of the day, analysts say. There is no magic formula of when to act in the market but it seems one can take some calculated risk of breaking for an afternoon nap or catching up on a movie without denting the bottom-line.
While rising stocks do not necessarily point towards deflation risk, the FOMC is cautiously watching the slowdown in inflation. Earlier this week, the Federal Open Market Committee signaled for the first time in at least half a century that inflation has fallen to undesirably low levels. The FOMC's policy statement described inflation as somewhat below optimal and likely to remain subdued for some time and also provided reassurance that Fed policymakers were prepared to provide additional accommodations if needed; the statement reinforced previous messages that monetary policy is likely to stay very "easy" for a very long time. While near-record low mortgage rates have kept homeowners and mortgage lenders busy with refinancing activity, the same cannot be said for the nation's builders and realtors. Low rates can only do so much to spur demand. The concerns about deflation might postpone the healing of the housing sector. Deflation is simply defined as widespread price declines for all manners of goods and services, and is troublesome since it promotes a 'wait until tomorrow' attitude among consumers when it comes to exercising their purchasing power. However, this effect is the polar opposite to a period of rapidly rising prices, when the incentive is to move quickly. Mortgage rates can be a catalyst for quickened activity, but they are insufficient as a spark, to stand alone, in times of deflation. The housing market is dealing with deflation, not on any economy-wide basis but in asset deflation with continued downward pressure on home prices. Unlike the times of housing market frenzy witnessed by the phenomena of flipping homes and pocketing equity, in today's situation, potential buyers prefer to wait on the sidelines, hoping for a better price. While the housing sector is still searching for the bottom, corporate America seems to be convinced about the bottoming in its sector and is actively pursuing buyouts of other firms. The enhanced M&A activity augurs well for stocks and bonds as seen in rising equities and the considerable drop in corporate bonds yields over last two years, depicting reduced chances of default risk.
The U.S. has fallen behind emerging markets in Brazil, China and India as the preferred place to invest, a Bloomberg survey shows, although the world's largest economy still ranks highest of all major developed countries. Brazil's oil giant, Petrobras, raised $70 billion last week in the world's biggest single stock sale as investors bought into the company's goal of doubling output within a decade by aggressively expanding its operations. In another reverse phenomenon, investment is also coming from emerging market giants into U.S. firms as the Indian conglomerate, Sahara India Pariwar, whose businesses include finance, real estate and media ventures, has confirmed its bid for MGM Studios. Media reports speculated that Sahara has offered between $1.5 billion and $2 billion in cash. It seems that true globalization has begun now.
Economic reports released since the Bloomberg's June poll show U.S. GDP growth slowed to 1.6 percent in the second quarter from 3.7 percent in the first quarter. In the final quarter of last year, GDP grew at a 5.0 percent annual rate. However expectations for U.S.GDP growth next year has a median forecast of 2.5 percent according to Bloomberg's monthly survey of economists. Investors are confident the U.S. will avoid some of the worst outcomes. Seven out of 10 investors say they believe there is little or no risk of a U.S. double-dip recession. Six out of 10 investors see little or no risk that the U.S. will endure a Japan-like "Lost Decade" of minimal or no growth.
The week's economic calendar includes Tuesday's July S&P/Case-Shiller home price index and the September U.S. Consumer Confidence, Thursday's Initial Unemployment Claims and Q2 GDP, Friday's August core PCE Deflator and the September ISM Manufacturing Index.
Information provided by Amtrust Bank Capital Markets