Global Markets

Investor focus quickly slewed from the outcome of the European banks’ stress tests to the health and wellbeing of the U.S. economy. Investors continued to fret over the strength of the U.S. economy’s recovery. Their trepidations were fed in part by a cautious Beige Book from the Federal Reserve’s 12 regional banks — most observed slowing economic conditions. As a result, investors became very selective about risk. For example, a rally in equities waned late Thursday, but the euro kept climbing as fears of a looming crisis in Europe continued to ease. The U.S. dollar weakened but not because of the flight to safety but rather because of concerns about the health of the U.S. economy and is now trading as a proxy for growth. The euro climbed to a five week high Thursday as German unemployment declined to its lowest since 2008 and eurozone sentiment came in higher than anticipated.

Forecast beating corporate earnings have lost their luster as investors focus more on sales forecasts than last quarter’s profits. The earnings season has been encouraging, with 86 percent of U.S. companies and 60 percent of their European counterparts beating profit forecasts. But the real catalysts for investors now are companies’ future projections — not how well they did in the past.

While all Asian/Pacific equity indexes followed here were up last week, it was murkier elsewhere. In Europe, the FTSE and DAX were down while the CAC was up. And in North America, the week was mixed as well. For the month of July however, European and North American indexes followed here were up. European indexes were up for the first time since March. Although all Asian/Pacific indexes were up in July as well, the wait for a positive month was not as long for many of them.

Global Stock Market Recap

Europe and the UK

Economic data releases were biased towards the end of the week with German unemployment and EMU sentiment surprising on the high side on Thursday. But offsetting Thursday’s good news was the drop in German retail sales on Friday while overall EMU unemployment remained at 10 percent for the fourth month and July flash HICP jumped to a 20 month high with an annual increase of 1.7 percent.

The week began with healthy gains after the stress test results were announced. On Monday, banking stocks led the three indexes to higher ground as 84 of 91 of the region’s banks passed the test on their ability to withstand future financial shocks. Focus shifted to earnings both in Europe and in the U.S. And despite being ridiculed as not severe enough, the results of the stress tests appear — after one week — to have calmed investors.

After three consecutive months of decline, the FTSE, CAC and DAX righted themselves and gained in July. On Friday, European stocks fluctuated between gains and losses after the publication of conflicting U.S. economic reports. They declined after the first estimate of second quarter GDP was up an annualized rate of 2.4 percent rather than the 2.5 percent analysts were expecting. Shortly thereafter, both the University of Michigan consumer sentiment index and the Chicago PMI registered unexpected gains. On the week, the FTSE and DAX were down while the CAC managed to wind up on the positive side.

Asia/Pacific

Edgy investors hedged their bets Friday as they awaited the first estimate of U.S. second quarter GDP which would be released after markets here were closed for the week. Only the Sensex was down on the week while the Taiex was virtually even. However, despite ending the week and month on a sour note, the indexes followed here recorded healthy increases in July. The Shanghai Composite — the worst performer — was up 10 percent in July after declining four of the six previous months. This cut its losses for the year to 19.5 percent. Investors here quickly put the European stress test results behind them as concerns eased that Europe’s recovery would stall.  

In Japan, stocks were down thanks to the slew of disappointing domestic economic data. Industrial production dropped 1.5 percent on the month while unemployment was up for the fourth consecutive month to 5.3 percent. At the same time, both the employment rate and the labor participation rate eroded. And although the declines for the CPI on the year were less than expected, there was no sign of easing in the steady erosion of prices. Despite the downward pressure in Friday’s trading, the Nikkei and Topix were up for the week and month. The strength of the yen has dampened the appeal of export related stocks such as Canon which gets about 80 percent of its revenue outside of Japan. Often these stocks will fluctuate with the yen — when the yen rises, these stocks decline and when the yen declines, they rise in price.

Reserve Bank of New Zealand

As expected, the Reserve Bank of New Zealand increased its official cash rate by 25 basis points to 3 percent. This was the second consecutive 25 basis point increase. In its statement the Bank said that that OCR increases are likely to be mode moderate than in June view. The RBNZ also said that the New Zealand dollar was too high and was inconsistent with softening GDP growth.

The move was taken primarily to control inflationary pressures driven by international demand for the country’s dairy products and not domestic demand. The New Zealand dollar, the country’s currency has risen to a six month high as traders bet that borrowing costs will continue to increase. The Bank has an inflation target range of 1 percent to 3 percent. Second quarter consumer prices were up 0.3 percent on the quarter and 1.8 percent when compared with last year. But adding to inflationary pressures are a government emissions trading plan (effective July first) which is boosting fuel and electricity costs and on October 1^st the sales tax on all goods and services increases. RBNZ governor Alan Bollard forecast prices would rise 5.3 percent in the year ending June 30, 2011 from 1.8 percent a year earlier. According to Bollard, excluding the one-time events, prices would increase by 2.6 percent.

New Zealand is following Australia in terms of interest rate expectations receding — the latter on the back of earlier inflation releases that were below expected and the former on the heels of comments out of the RBNZ that the pace and extent of future tightening would be more moderate than earlier telegraphed.

Reserve Bank of India

The Reserve Bank of India increased its key interest rates for the second time this month as it battles to contain a surge in inflation that has led to strikes and street rallies. The Bank raised the reverse repurchase rate 50 basis points to 4.5 percent and the repurchase rate to 5.75 percent from 5.5 percent. The reverse repo rate is the rate through which the RBI absorbs money from the system. It was the first time officials boosted one of the main rates by more than a 25 basis points since the last series of increases in 2008. India’s benchmark wholesale inflation rate hovered above 10 percent for the fifth month thanks to a weak monsoon. And consumer prices paid by industrial and farm workers in India are running close to 14 percent.

The central bank also said today that it plans to release monetary-policy statements every six weeks instead of once a quarter. The next announcement will be on Sept. 16.

Interest rate normalization is taking place across the Asia/Pacific region. All except Indonesia, the Philippines and China have raised base interest rates. And in India, Malaysia, Singapore, Indonesia and Taiwan loan growth is still accelerating. India’s move comes after Malaysia raised rates three times so far this year, while Korea and Thailand increased them once. In Australia, rates have been boosted six times since early October 2009.

Currencies

The U.S. dollar was down against most currencies last week including the yen, euro, pound sterling, Swiss franc and the commodity currencies of Australia and Canada. On Friday, the dollar extended its losses against the yen, falling to a fresh eight month low below ¥86 amid mounting concerns over weakness in the U.S. economy after the release of second quarter GDP data. The dollar recovered somewhat after better than expected consumer sentiment and Chicago PMI readings for July.

Apart from two trading days in November and December last year, the Japanese currency has not touched these levels since 1995. The sharp rise in the yen has put investors on alert for possible currency intervention by the Japanese authorities with some analysts citing ¥85 as a level at which Tokyo might intervene. During the week, the euro touched a three month high at $1.3106 and the pound hit a five-month peak of $1.5662.

When the eurozone was in the throes of the sovereign debt crisis at the beginning of June, the euro dropped to $1.19. Since then has climbed back to the $1.30 range primarily because of the perceived weakness in the U.S. economy. Last week’s dollar weakness stemmed from a combination of tepid economic data and comments in the Fed’s Beige Book that indicated the economy was weakening.

On post-stress test Monday the euro gained against the dollar as investors shrugged off concerns that Europe’s bank stress tests lacked the vigor to renew confidence in the region. Skepticism over the stress tests results — which showed that seven out of 91 banks needed extra capital — was tempered by residual optimism towards the eurozone economy. Some analysts questioned regulators’ use of stress test methodology that failed to take into account exposure to a scenario of a possible sovereign default. The U.S. stress tests, imposed by the Treasury Department in the first quarter of 2009, were a big factor in steadying investor sentiment and reducing volatility and market uncertainty. This happened partly because the stress envisaged in the tests was severe enough for investors to see it as a worst case, and because banks raised huge sums of capital soon after in order to reduce solvency risks.

Selected currencies — weekly results

Indicator scoreboard

EMU

June M3 money supply growth remained very sluggish at an annual rate of 0.2 percent. The ECB's preferred 3-month average measure also saw a slight acceleration but at just zero, hardly implied any significant change in the underlying trend. Lending to the private sector was up 0.3 percent on the year, up a tick from its May pace. Within this, loans to non-financial corporations were down 1.9 percent on the year after a 2.1 percent drop last time but borrowing by households was up 2.8 percent from June 2009 or 0.2 percentage points faster than its May pace. Lending for house purchase rose an annual 3.4 percent, up from 3.1 percent.

July economic sentiment improved to a reading of 101.3 from an upwardly revised 99.0 in June — its best reading since March 2008. The pick-up in morale reflected increased levels of optimism in all areas. Confidence was up 2 points to minus 4 in industry and was up 3 points at minus 14 among consumers. Service sector morale was up a couple of points at 6 and retail also gained 2 points to minus 4. The weakest performer one again was construction which gained just a point to minus 29. Among the larger EMU states, by far the most significant advance was registered in Germany where confidence soared 4 points to 110.1. France also fared quite well, posting a 2.6 point rise to 100.4, its first increase in three months. And Italy was not far behind with a 1.7 point gain to 98.9. However, Span bucked the trend with a 2.2 point decline to 88.7.

June unemployment rate remained at 10.0 percent for the fourth month in a row. Total unemployment was up 6,000 following a 41,000 increase in mid-quarter to leave the number of people out of work at 15.771 million, up 788,000 on a year ago. The headline figures would have looked rather worse but for the ongoing strength of the German labor market whose resilience continues to shock. Unemployment rose another 0.2 percentage points in Spain to 20.0 percent, its highest level since the records were first complied back in 1986. The jobless rate also edged a tick higher in France (10.0 percent). Some other members managed to lower their rates, including Italy (8.5 percent from 8.6 percent), Austria (3.9 percent from 4.0 percent) Finland (8.5 percent from 8.6 percent) and Portugal (10.8 percent from 10.9 percent).

July flash harmonized index of consumer prices accelerated from an annual rate of 1.4 percent in June to 1.7 percent, its fastest pace since November 2008. As usual there were no details released to explain the latest move in the headline index but national figures suggest that higher food costs played an important role as did base effects (the HICP fell 0.7 percent on the month in July 2009).

Germany

July unemployment rate edged down to 7.6 percent from 7.7 percent in June. July saw the addition of 20,000 new jobs. Total joblessness now stands at 3,211,000 a decline of 83,000 over the last three months. Vacancies were up 11,000 after a 6,000 advance last time.

June seasonally adjusted retail sales dropped 0.9 percent and were up 1.1 percent on the year. The previously reported 0.4 percent advance in May was revised up to show a hefty 3.0 percent gain. On an unadjusted basis, sales were up 3.1 percent on the year. Within this, non-food sales climbed 5.1 percent so discretionary spending was almost certainly much stronger than the headline data imply. Food purchases rose a more modest 1.0 percent from June 2009. Most surveys suggest that the retail sector is currently enjoying a relatively buoyant period and the World Cup is expected to have provided an additional lift to spending this month.

France

June producer prices were unchanged on the month and were up 3.5 percent on the year. Overall prices were held in check by monthly declines in utilities (0.2 percent) and transport materials (0.3 percent), the latter reflecting a 0.9 percent slide in the cost of auto parts & accessories. The only price increase of note was recorded in electrical equipment & information technology (0.4 percent). Most sub-sectors saw no change in prices from May. On the year, capital goods prices were up 0.7 percent while consumer goods were down 0.9 percent. Outside of energy (14.6 percent) the only annual increase of any real significance was in intermediates which climbed 2.9 percent.

Asia/Pacific

Japan

June unadjusted merchandise trade surplus was up 41.1 percent to ¥687 billion on the year. This was the 13th consecutive surplus. On the year, exports were up for the seventh month in a row — gaining 27.7 percent on the year. Imports were up for the sixth month gaining 26.1 percent on the year. Exports to the U.S. — up for the sixth month — jumped 21.1 percent on the year while exports to the EU — up for the seventh month — were up 9.0 percent. Exports to both Asia and China were up for the eighth month with gains of 31.7 percent and 22.0 percent respectively on the year. The seasonally adjusted merchandise trade surplus was up ¥455.9 billion after dipping to a revised ¥320.2 billion in May. Both exports and imports were down on the month for the first time since March. Exports were down 1.8 percent while imports dropped 4.4 percent.

June retail sales were up 3.2 percent on the year. This was the sixth consecutive increase. Sales were pushed upward by a combination of auto sales and higher prices for gasoline. However large scale retailers’ sales continue to decline, dropping 3.0 percent on the year.

June household spending surprised and was up 0.5 percent on the year after dropping 0.7 percent in each of the preceding months. Analysts had expected spending to slump 1 percent. Spending was mixed. Expenditures on housing, clothing & footwear, medical care and transportation & communication were down 2.0 percent, 0.9 percent, 8.1 percent and 4.3 percent respectively on the year. However, housing expenditures jumped 8.9 percent and furniture & household utensils gained 7.7 percent on the year. Analysts worry that consumers' preference to save on discounted products won't sustain momentum after the government withdraws its eco reward program later this year. The rewards program encouraging a burst of environmentally friendly new car sales is set to expire at the end of September.

June unemployment rate inched up to 5.3 percent from 5.2 percent in May. The unemployment rate has been inching up each month since February when it was 4.9 percent. Employment was up 4,000 on the month and down 200,000 on the year to 62.80 million. The labor force participation rate dropped to 59.9 percent from 62.2 percent in the previous month. The employment rate was also down – it dropped to 56.8 percent from 57 percent in May.

June industrial production dropped 1.5 percent but was up 16.9 percent on the year. The monthly decline was the first since February. Most industries declined in the month. Transport equipment was down 3 percent, electronic parts & devices dropped 4.3 percent and chemicals (excl. Drugs) also were down 3 percent. Most commodities were also down with large passenger cars dropping 5.4 percent. Other commodities that declined included cellular telephones and photovoltaic modules. According to the survey of production forecast in manufacturing, production is expected to decrease 0.2 percent in July but increase 2.0 percent in August.

June consumer price index was unchanged on the month and down 0.7 percent on the year. Core CPI which excludes only fresh food was also unchanged on the month but down 1.0 percent on the year. And excluding food and energy, the core index edged down 0.1 percent and dropped 1.5 percent on the year. Goods prices edged down 0.2 percent on the year while services declined by 1.2 percent. Most price categories were down on the year. Education sank 13 percent while furniture & household utensils slumped 4.9 percent and reading & recreation was down 1.4 percent. July Tokyo CPI which is considered a precursor to the national index dropped 0.6 percent on the month and was down 1.2 percent on the year. Both core indexes dropped 0.3 percent on the month. Core excluding just fresh foods was down 1.3 percent on the year while excluding food and energy, the core dropped 1.4 percent.

Australia

Second quarter producer prices were up 0.3 percent on the quarter and 1.0 percent when compared with last year. In the first quarter, the PPI was up 1.0 percent on the quarter and edged down 0.1 percent on the year. The quarterly increase in the final stage reflected an increase of 0.4 percent for domestically produced items and a decline of 0.1 percent for imported items. Prices for intermediate goods were up 0.9 percent and 0.6 percent on the year. The quarterly increase reflected an increase of 0.7 percent in the price of domestically produced items and an increase of 2.5 percent in the price of imported items. Preliminary stage commodities prices jumped 1.5 percent and 1.2 percent on the year. The quarterly change reflected an increase of 1.1 percent in the price of domestically produced items and a rise of 3.9 percent in the price of imported items.

Second quarter consumer price index was up 0.6 percent and was up 3.1 percent on the year. On the quarter, tobacco prices jumped 15.4 percent thanks to a 25 percent excise tax increase in April. Hospital & medical services were up 3.8 percent, automotive fuel climbed 2.1 percent and rent increased 1.1 percent while house purchase prices edged up 0.6 percent. Offsetting declines included a 6 percent drop in domestic holiday travel & accommodation. Fruit prices dropped 4.8 percent while vegetable prices declined by 3 percent. Audio, visual & computing equipment sank by 6.3 percent and overseas holiday travel & accommodation prices were down 1.9 percent. The Reserve Bank of Australia’s preferred inflation measures were more subdued than the overall CPI. On the quarter, both the weighted mean and trimmed mean were up 0.5 percent and 2.7 percent on the year.

Americas

Canada

June industrial product price index dropped 0.9 percent and was just 0.2 percent higher on the year. There were particularly large monthly declines in petroleum & coal products (2.3 percent), primary metals (2.9 percent), lumber & other wood products (2.3 percent), chemicals (1.7 percent) and miscellaneous non-manufactures (2.2 percent). Excluding coal & petroleum, the IPPI was down 0.6 percent from May and down 0.1 percent from June 2009. The raw material price index was down 0.3 percent and inched down 0.1 percent on the year. Overall prices would have been much weaker but for a 2.0 percent jump in the cost of mineral fuels. Without this category the RMPI would have dropped 2.4 percent from May.

May monthly gross domestic product edged up 0.1 percent after stalling in April. Annual growth accelerated to 3.8 percent largely thanks to favorable base effects. The sluggish headline data reflected a 0.1 percent decline on the month in service sector output. Activity in the goods producing area expanded 0.6 percent following a 0.1 percent uptick in May. But manufacturing output only grew 0.1 percent leaving mining and oil & gas extraction (3.4 percent) and agriculture, forestry & fishing (1.3 percent) to provide the bulk of the impetus. Construction contracted 1.6 percent amid increasing signs of a slowdown in the housing market and utilities were off 0.5 percent. Services were held in check by a sizeable 1.8 percent decline in wholesale. Most other sub-sectors saw output little changed on the month although transport & warehousing and arts, entertainment & recreation both managed a 0.5 percent monthly advance.

Bottom line

Economic data — and there was a lot of it last week — was mixed. In Europe, positive unemployment data in Germany was diluted by crumbling retail sales. And in Japan, positive retail sales and household expenditure data, perhaps reflecting waning government stimulus was mostly negative with industrial production sinking, unemployment climbing and prices still mired in deflation. And in the U.S. second quarter gross domestic product disappointed but consumer sentiment and the Chicago PMI surprised on the upside while weekly unemployment claims declined. The Fed acknowledged in its Beige Book that growth had weakened.

Central bank meetings in Australia, the EMU and UK dominate next week. No policy change is expected from the three. The week ends with the U.S. employment situation report. It will be parsed carefully as the markets prepare for the August 10^th FOMC meeting.

Looking Ahead: August 2 through August 6, 2010

Anne D Picker is the author of International Economic Indicators and Central Banks.