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Capital Markets Recap
There have been some seemingly-crazy price targets for the S&P 500 of late. From a service of ours, an anagram of which spells Den Navis, which says we’re going to the old highs (1576) to Lazlo Birinyi, who says 1700 for the S&P 500. I could easily come around to that view from a technical basis. A Fibonacci retracement of the move from 2007′s high to 2009′s low reveals that 1361 is a resistance level of modest importance (the biggies were 1013.37, 1120.82, and 1228.26) and the action this week places the index above that level. A common technical rule of thumb is a 3% move beyond a level constitutes a valid break of it. That means 1401 and above that there’s nothing but air, making a move to 1576.09 quite conceivable.
Other than the story that follows about Greece and payrolls, below, the only other big story for the week was this one:
Next, here is an utterly fascinating video. It not only describes the Greek dilemma, but it does so in a completely engaging fashion. I was torn between listening and watching, and I think you will be, too.
Well, it happened: Greece defaulted. The Wall Street Journal calls it, “the largest-ever sovereign-debt default and the first for a Western European country in half a century.” The same Wall Street Journal article says that Greece would reduce the face value of its bonds by 53.5%. For those with a mathematical bent, that means that existing bond holders will get back 46.5% of the face value of their bonds. That will come in two pieces:
- Greece will issue bonds worth 31.5% of the face value of the original bonds; and
- The Eureopean Financial Stability Facility will issue two-year (or less) notes worth 15% of the value of the original bonds; and
- [Plus, act now, and you'll receive...] GDP-linked bonds equal to the face value of the bonds received in #1, above.
It gets worse. Bloomberg has set up a function on its terminals to value the debt based on various inputs. So, change the discount rate, for example, and you get an adjusted present value of the bond. There’s a footnote at the bottom of the screen that says, “assumes zero value for new Greek GDP linked bonds.”
It’s not hard to see why. Here’s Greece’s year-over-year change in GDP, with today’s figure (-7.5%) drawn in. You do not want to own bonds, the value of which is linked to Greek GDP.
According to the terms of the offer, the new bonds (#1 above) will pay:
A number of smart folks are saying that even this step, which will take the ratio of Greek debt to GDP from 165% to something north of 100%, won’t be enough for the country. According to the WSJ article, some of the new bonds are already trading in a “hypothetical ‘gray market’ ” for “between 15 and 17 cents…Those levels indicate that investors think Greece will still be unlikely to meet all its obligations after the final restructuring.” So, guess what’s next.
That’s a Drachma if you’re a rube, and if some smart people are right, it’s the final solution for Greece. According to Jonathan Tepper, co-author with John Mauldin on the book Endgame, it might not be so bad. You can click here to read, A Primer on the Euro Breakup. The author suggests that instead of an exit from a currency union being an unheard-of and disastrous thing, it’s happened several times in the past, and the results aren’t entirely unpleasant for the departing contestants. Here are some excerpts from the article:
The move from an old currency to a new one can be acomplished quickly and efficiently.
The experience of emerging market countries shows that the pain of devaluation would be brief and rapid growth and recovery would follow — Countries that have defaulted and devalued have experienced short, sharp contractions followed by very steep, protracted periods of growth.
Within the past 100 years, there have been over 100 breakups and exits from currency unions.
And from a study he cites:
Most strikingly, there is remarkably little macroeconomic volatility around the time of currency union dissolutions.
You can see, below, the reaction of U.S. stocks (S&P 500) and gold when the announcement was made (yawn). Later in the day, the group that governs Credit Default Swaps, the ISDA, determined, in a unanimous vote, that, indeed, a “credit event” had occurred on sellers of default protection were obligated to pay out about $3 billion. The market reacted mildly to that. In short, much of today’s new was priced into stocks and gold.
In fact, there were more searches on Google for “Peyton Manning” than there were for “Greece” over the last few days.
In this first week of the month only one report matters to markets, the Nonfarm Payrolls Report, and that’s just as well since there weren’t many other releases this week. Wednesday’s ADP Employment Report provided a bit of a heads-up, when it came in at 216,000 new jobs, in line with economists’ expectations but 27% aheaed of January’s number.
Here are the numbers:
- Change in Nonfarm Payrolls: +227,000 (17,000 more than expected)
- Change in Private Payrolls: +233,000 (8,000 more than expected)
- Change in Manufacturing Payrolls: +31,000 (8,000 more than expected)
- Unemployment Rate: 8.3% (as expected; unchanged from January)
- Underemployment Rate: 14.9%
Recall that the unemployment rate is calculated by dividing the unemployed (no job but looking for one) by the labor force (unemployed + employed.) When the folks camped out on Fort Wayne’s Freimann Square decide to again look for a job they will become part of the labor force; right now, they’re not counted amongst the unemployed since they’re not interested in working.
I mean, really, do you think this guy’s looking for a job?
So there are two moving parts, the labor force and the number unemployed but looking for work. Here is how the February numbers shook out.
While the headline employment rate was unchanged at 8.3%, carrying the math out a bit further reveals that it actually edged up by a fraction. The cause was a labor force that rose more than the number of employed.
Still, this was a pretty solid employment report, but here’s the rub: this was the fourth warmest winter on record, and that undoubtedly pulled forward hiring that would have normally been seen on the arrival of wamer weather. That is reinforced by the rolls of Temporary Workers, which, in 2012, is higher than any of the last five years but 2008, when the economy was sliding headlong into recession. And we’re still well below the average employment levels for this point in the expansion, although one of our services pointed out that it’s better than the 2001 recovery.
Here’s some red meat for both sides of the aisle. Pictured below is the unemployment rate around the last two recessions, both of which are shaded red. In the post-2001 recovery–using the NBER’s official end date and–32 months after its end, the unemployment rate was just back to where it was at the recession’s end (notice that it continued to rise for long after the recession’s end. Now, 32 months after the last recession officially ended–depending largely on how you vote, we’re at one of these two points:
- The unemployment rate’s fallen by 12.6%!
- The unemployment rate’s higher than it was after the last recession!
In contrast to this week, next week offers up a bunch of releases.
Key indicators to watch
- National Federation of Independent Business (NFIB) Small Business Optimism Index
- JOLTs Job Openings
- FOMC Rate Decision
- Producer Price Index
- Initial Jobless Claims
- Consumer Price Index
- Industrial Production
- Capacity Utilization
- University of Michigan Consumer Confidence
- Empire State Manufacturing survey
- Philly Fed index
Graig Stettner, CFA, CMT
Chief Investment Officer
Tower Private Advisors