Weekly Recap & Outlook – 07.20.12

Tower Private Advisors


  • Punk Economics video
  • Earnings
  • Positive economics
  • Negative economics
  • Emerging markets ready to perk up?

Capital Markets Recap

The Gartman Risk On index was strongly positive this week. The Volatility Index is very subdued. Meanwhile, the 10-year Treasury is enjoying strong demand (what else could keep its yield at 1.46%?) That suggests a strong bid for a safe haven asset.

Safe haven + Risk On + subdued VIX ≠Sense

Top Stories

He’s at it again. Irish economist/artist David McWilliams has put up another brilliant Punk Economics video. Watch it twice. The first time, marvel at the art–get that out of your system. The second time, take in the message: the world is not prepared for…

  1. The “rapid slowdown in China”
  2. The “fading recovery in the U.S.”
  3. The “continuing crisis in Europe.”

This guy is brilliant. What would you have given to have had your college economics professor give his/her lecture in dry erase marker murals?


Market moving stories continue to be dominated by second quarter earnings releases and, more importantly, the earnings outlooks related to each company. Financials has surprised the most, relative to its earnings estimates, while Industrials have moved the most after their earnings have been released, as shown in the chart immediately below.

As usual, the earnings have little to do with price action. This isn’t so much a failure of fundamental analysis, as it is what I like to think of as the Janet Jackson phenomenon–or the What-Have-You-Done-for-me-Lately? phenomenon. That is to say, when the companies announce their earnings, they also give guidance onfuture earnings and revenues, which outlooks often trump the already-in-the-bag quarterly results.

That is some serious big hair, and it looks like an exaggerated version of my 1987 Norwell High School yearbook, which is not coincidental, given the year of the album’s release. Go long hairspray companies.

The chart below displays, on the horizontal axis, the earnings surprises (positive to the right; disappointments to the left), and, on the vertical axis, the two-day price changes (positive on the top half; negative on the bottom half.) The dashed yellow arrow is the my verion of the Least Squares method of regression analysis; i.e. an eye-balled fitting of the data, and it shows a modestly positive correlation between surprises and price movement.

Here’s a troubling development on the earnings front (depicted below): the percentage of companies surprising on the upside has been declining over the past two years, and that’s likely to get worse if the folks at Strategas know what they’re talking about, and they usually do. The fiscal cliff that has been mentioned here a number of times is likely to take its toll on U.S. companies, but analysts are not factoring that in. While it’s likely that Congress will do its usual 11th-hour can kicking so as to not sink the economy, that tendency is likely to increase the uncertainty–read: reluctance to spend and hire–at companies.

Positive Surprises (as a % of releases)

I do believe the market’s suffering from Europe fatigue. Notice the losses on Italian and Spanish bourses above. Next , notice the European Crisis Monitor items below. Spreads to German Bunds (their Treasuries) are above the important 4.50% level. Spanish 10-year yields are above 7.0%–and not by a little. That the Euro is threatening to make new lows doesn’t seem to excite anyone. (Get ready to plan your European vacation.

BCA’s European Crisis Monitor

This Week

We received five housing data points this week. Three of five were very strong; the other two, weak. First, the monthly survey of homebuilder sentiment, the National Association of Home Builders Housing Market Index, jumped from 29 to 35. The headline index and the component indexes all reached levels last seen in 2006 and 2007. Still, as the survey measures builder sentiment, it’s still depressed, in that just 35% of builders are expressing optimism.

Next, Housing Starts rose by 6.9% from an upwardly revised 711,000 to 760,000, which was also more than economists expected (745,000). Building Permits, the fodder for starts, however, fell by (-)3.7%. The Mortgage Bankers Association Mortgage Application index rose by a big 16.9%, and with the national 30-year mortgage rate at 3.62%, a new low (see below,) it’s little wonder why. Most of the increase has come from the Refinance Index, but the Purchase Index appears to have at least bottomed.

The rest of the week’s releases were mixed, but on the weak side:

  • The Empire State Manufacturing index rose from 2.29 to 7.39, well above the expectation of 4.00.
  • The Consumer Price Index clocked in at a 1.7% increase on a year-over-year basis.
  • Initial Jobless Claims jumped by 9.7%. I had heard that last week’s approximately equal drop was the result of seasonal adjustment factors in the index, leaving the two week change about zero.
  • The Philly Fed index rose from (-)16.6 to (-)12.9, as that region struggles with a bit of a slowdown.
  • Leading Economic Indicators fell from 0.4% to (-)0.3%.

Which leads me to my favorite economic indicator, the one that shows how bad economists get all things economic. Here’s a look at Citigroup’s Economic Surprise index. It measures the amount by which economists get their calls wrong. When the line/s is/are descending, economists are too optimistic; when it’s climbing, they’re too pessimistic. This chart shows the indexes for the U.S., developed foreign countries, and emerging market countries. There are a number of observations to be drawn.

  1. The global economy is synchronized; that is, the series move together.
  2. The pessimism toward emerging market economies has gone too far; those countries are starting to turn in better numbers than the economists expect.
  3. Lately, economists have largely gotten the U.S. and developed countries’ calls right (the lines are going sideways.)
  4. The next likely move is for a synchronized upswing–at least in terms of economies surprising economists to the upside. Markets should follow suit.

Next Week

Key indicators to watch

  • Durable Goods Orders
  • Intial Jobless Claims
  • Q2 GDP – first look
  • University of Michigan Consumer Confidence

Regional surveys

  • Richmond Fed Manufacturing
  • Kansas City Fed Manufacturing

Housing indicators

  • House Price Index
  • New Home Sales
  • Pending Home Sales

Graig Stettner, CFA, CMT

Chief Investment Officer

Tower Private Advisors


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