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Markets’ Solid Starts Bode Well For 2012

By Rutherford Investments on February 13, 2012

Published February 10, 2012

William RutherfordThere is an old saw about the equity markets: As January goes, so goes the year. But like many old saws, there is a basis in fact for this one. Note that the S&P jumped 4.4 percent for the month, with the tech-heavy NASDAQ up 8 percent.

In addition, the “first five days” theory holds that the S&P has never fallen in a year when the first five days of the year see gains of 1.8 percent or more. In the first five days of 2012, the Dow rose 1.8 percent.

The Dow index has matched the direction of January performance in 92 percent of years since 1970. In 85 of the Dow’s 114 years – 75 percent of the time – the January effect has held true.

Reasons for optimism have emerged. Most recently, the unemployment rate fell to 8.3 percent from 8.5 percent a month earlier and 9.1 percent as recently as August.

This is because net job creation in January was 243,000 – more than expected. Moreover, December job growth was revised upward, as was November from 100,000 originally to 157,000.

These jobs were created in the private sector; business added 257,000 jobs as the public sector continued layoffs. Small businesses added 95,000 jobs, while medium-size firms added 72,000. Large companies added only 3,000 jobs. Most Americans work at businesses ranging in size from small to medium; these are the ones that banks are becoming more willing to lend to.

Factory orders are up for the second consecutive month. Factory orders grew in Germany for the first time in four months. Orders also grew in Austria, Britain, Norway and Sweden. Northern Europe’s numbers are a hopeful sign for a continent probably headed for a recession. The Institute for Supply Management numbers surpassed expectations – 56.8 to 53.1.

February is typically one of the worst months for the Dow, but it started this one strongly. When the jobs number was released, the Dow powered to its best closing level since 2008. The S&P pushed ahead 6.9 percent for the year, its best start since 1987. The NASDAQ turned in its best close since December 2000.

All these numbers are good for President Obama’s chances for re-election. In the 16 elections since WWII, the period for which records were kept, where presidential terms saw job creation, the president was re-elected 10 times. Where job growth was modest, the race was close; and where job growth was negative, the incumbent lost.

It would seem that President Obama would have to exceed the rate of population growth. So, if an average of approximately 150,000 jobs were added each month between now and the election, he would be the favorite to win. Fewer jobs would cast his re-election in doubt.

The Federal Reserve has pledged to continue to keep interest rates low for at least another year, and maybe longer. It has shown its intention to do everything in its power to aid the economy.

When the Central Bank wields such a heavy bat, one has to take notice. The recent strong employment numbers could cause the Federal Reserve to alter its direction on interest rates and support for the economy. But sovereign debt problems continue in Europe and could erupt again at any moment.

In my view, emphasis should still be placed on equities, with fixed income for safety and security and to dampen volatility. Growth in the economy and earnings should continue to fuel equity investments. Tip the scale with equities over fixed income.

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Positive Outlook For 2012 Economy

By Rutherford Investments on January 9, 2012

Published January 9, 2012
William Rutherford2011 started with hope that the economy would recover and unemployment would drop. After a roller coaster of a year, the broad market ended flat but with a positive outlook for 2012.

In the first quarter of 2011, the S&P finished up 5 percent; however, hopes were soon dashed. The “Arab Spring” may have brought optimism to North Africa, but it created uncertainty in world politics. A strong earthquake and tsunami in Japan interrupted the global supply chain. The ongoing debt crisis in Europe brought extreme volatility, apprehension and aversion to our markets.

Political problems in Washington led to a downgrade of our debt, but more importantly dashed American and foreign belief that our political leaders could fashion a way forward. Our own housing problems were not solved and prices continued to decline. In the third quarter, the S&P fell 14.33 percent.

The S&P 500 index finished the year almost exactly where it started: At the end of 2010, the index stood at 1,257.64; at the end of 2011, it was 1,257.60. The Dow Jones industrial average was much better, rising 5.5 percent on the year, outdistancing all other equity indices worldwide.

This seemingly flat performance of the broad market masked the extreme volatility of the year. On 35 trading days, the market closed with a gain or loss of 2 percent or more, making 2011 the most volatile on record for stocks.

Last year, $6.3 trillion in value was wiped out of markets. The euro ended the year as the worst performing currency. The United Kingdom’s FTSE index fell 5.5 percent, while European blue chips fell 11 percent. The Nikkei lost 17.3 percent, Hong Kong lost 20 percent and Shanghai lost 22 percent. Oil prices zoomed up to $114 a barrel and then plunged to $76 a barrel. By the end of the year, it was at $100 per barrel.

As political and financial risk spread around the globe, the U.S. dollar and Treasurys resumed their historic roles as safe havens. Even after the U.S. suffered its first credit rating downgrade, investors pursued Treasurys and dollar-denominated assets.

It is notable that the reason given for the downgrade was not the U.S. economy, but the failure of political leadership. Political leadership also failed to solve the financial crisis in the euro zone, where debt problems at national and local levels threatened stability. Governments on both sides of the Atlantic lost their credibility.

As the dollar strengthened, prices of most commodities – including gold – dropped. Liquidity dried up in Europe and it became necessary for the U.S Federal Reserve to provide a massive loan of dollars to the European Central Bank so that the wheels of finance and credit could turn in Europe. The action took place to provide liquidity in Europe, but it was quickly labeled a bailout of Europe by the U.S.

Anyone who thought we would escape the European problems unscathed was simply not looking ahead. While it was necessary for the Fed to take this action, it certainly does look like a bailout.

But European bankers, acting like bankers everywhere, quickly borrowed all the money the ECB provided and immediately placed it back on deposit at the ECB. Losing money on every deposit, the bankers preferred to take those losses, rather than lend to each other or – perish the thought – to businesses.

This behavior echoed our bankers’ response to TARP – the huge government bailout in the U.S. – in which money was simply put into lock boxes and not lent as hoped. But while Europeans hoped that commercial banks would lend the money and buy some of the sovereign debt, there is little evidence that either is happening.

In the U.S., however, data shows a strengthening economy. Manufacturing activity increased in the Midwest. Seasonally adjusted unemployment claims declined, although that may have been because people were dropping out of the workforce.

The National Association of Realtors said that its index of pending home sales rose to the highest level in more than a year. The index, which measures the contracts to sell existing homes, is considered an indicator of future sales activity. The index rose for the third consecutive month and was up 5 percent over a year ago.

Other reports showed an increase in consumer confidence and greater retail sales. Through all these problems, the U.S. economy has muddled through – not always with style, but with progress. Most importantly, American consumers, who represent 70 percent of our GDP, continued to spend. The U.S. began to look like the least-bad economy.

By the end of 2011, in spite of all the problems ahead of us, this nascent recovery has begun to look like the real thing.

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Stocks Surge On Hopes Of Resolution Of Europe Debt Issues

By Rutherford Investments on December 16, 2011

Published December 12, 2011
William RutherfordAs officials continue to struggle to save the European Union, save the euro and resolve sovereign and bank debt issues, global leaders are making concessions.

The long simmering sovereign debt crisis in Europe has brought the EU to the verge of breakup. Some analysts have been predicating its demise in the very near future. Meanwhile, the fate of the euro also hangs in the balance.

Both of these matters threaten the stability of Europe, politically and financially. European leaders have long struggled to find a solution, but without success. The problem is difficult because all member states must agree to any proposed solution.

Germany and France have emerged as the dominant voices of the struggle, but even French sovereign debt is under siege. Other peripheral, AAA-rated European countries have found their debt under attack, S&P has warned them all. Clearly an answer is needed.

A European summit was scheduled for Dec. 9. In the days leading up to the meeting, some developments have occurred and some concessions have been made.

Angela Merkel, the German chancellor, wants tougher rules written into the treaties governing the European Union. However obtaining these consents will be a long process that may last years. Nicolas Sarkozy, the French president, although generally supportive, has reservations.

One wonders how the treaties could be amended without the common effort of the French and Germans.

Others want the European Central Bank to back up European banks and sovereign states. But the ECB has maintained that this is beyond the mandate of the ECB. Anyway, the Germans do not support this notion, because they know they will be the ultimate backstop. Additionally, a recent auction of German bonds failed to draw enough bids and interest rates rose, so one wonders how strong the German is backing anyway.

However, since Merkel has called for stiffer rules, Mario Draghi, recently installed as ECB president, hinted that if the treaty states adopted new, stringent, rules the ECB might be counted on for support. It is not clear how that would happen without a change in the ECB’s charter, which could take time.

In the meantime the International Monetary Fund indicates that it might be counted on for support. The IMF, of course, gets its money from member states, so this brings in other global sovereigns. Thus, the IMF goes hat in hand to Brazil for money, even as the IMF is itself in the process of lending to Brazil.

Also, the IMF might bring in China, which is all too happy to play a role to obtain more leverage and power in the west. But the Chinese find the timing inconvenient, which may only mean that they want a better deal. And France is going to former colonies to borrow. The world is turned upside down.

The U.S. has not been idle. Leading from behind, President Obama has said that the resolution of the European crisis was hugely important for the U.S., but the American ambassador to the EU stressed that the U.S. was not making a financial commitment, or increasing its commitment to the IMF. Obama also met with European labor leaders in a show of support.

As these developments progressed, the market experienced its best week in years. The rally began when the U.S. Federal Reserve and other central banks acted in concert to both lower interest rates on currency swap arrangements, and to increase the dollars available in the currency swap facility.

Neither of these actions addressed the European problems directly; however, they did enhance liquidity, which was essential because of the refusal of U.S. investors to lend to foreign banks and governments. This refusal had caused an acute shortage of dollars in the world, and made it much more difficult for the world economy to function.

The expanded facility makes it easier for central banks to obtain U.S. dollars, which of course will find their way into the various economies. It will expand the U.S. Federal Reserve’s balance sheet even further, and could even be seen as a form of quantitative easing because the swap facility will make interbank and other lending easier. Many of the dollars will find their way back to the U.S.

Much rests on what comes out of the Dec. 9 meeting. U.S. markets have rallied sharply on the promise of progress on European debt, but Europe has disappointed many times during this crisis. These actions may turn out to be nothing more than a prelude to a false dawn.

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