The Economy and Bond Market Cheat Sheet (November 7, 2011)
Treasury yields were sharply lower this week as Greece introduced new uncertainty in how the Greek debt/fiscal situation will evolve going forward. Last week, European leaders reached an agreement in principle to recapitalize the region’s banks, address the Greek debt situation and expand the European Financial Stability Facility (EFSF). This week, it appeared the Greeks were prepared to let the populace vote on the matter, which would almost certainly not pass, and the current government may not last through the weekend. It was believed that last week’s agreement largely removed the threat of another full-blown financial crisis but now that can’t be ruled out.
With all the negative noise coming out of Europe there has also been a surprising amount of good economic news. The chart below is the JP Morgan Global Purchasing Managers Index (PMI) which sits right on the breakeven line for economic growth. The encouraging aspects of this chart are the flattening out of the recent decline and an uptick from the prior month. This pattern is more consistent with a slowdown, not outright recession. Globally central banks are cutting interest rates, highlighted by a somewhat surprising cut from the European Central Bank (ECB) this week. Employment data in the U.S. was constructive, and combined with strong auto sales in October, indicates that the economy is likely growing at a measured pace.
Strengths
- The ECB cut interest rates by 25 basis points this week and indicated more cuts may be on the way.
- In the October jobs report, nonfarm payrolls grew a modest 80,000 but revisions to the past two months increased by 102,000. Together these indicate better underlying strength than most forecasters expected.
- October auto sales were stronger than expected on apparent pent-up demand.
Weaknesses
- Greek leaders added a significant amount of uncertainty by calling for a voter referendum on staying in the eurozone and then backtracking a few days later.
- Data out of Europe points to at least a mild recession.
- Eurozone inflation hit was 3 percent and hit a three year high.
Opportunities
- Barring surprising news out of Europe, investors will likely focus on earnings releases next week, which have generally been pretty good.
Threats
- While the current European plan to deal with the crisis is a positive step forward, many details still need to be worked out and the plan does not deal with potential problems in other European countries such as Portugal, Spain and Italy.
