Volatility was the name of the game last week as markets responded positively to better-than-expected earnings, flinched at ratings downgrades in Europe, and then rallied again on news that the EU is moving towards tighter integration. Overall, equities remained in positive territory, with the S&P 500 gaining 1.7%, the Dow picking up 2.0%, and the Nasdaq growing 1.1%.[1]
Last week’s earnings results continued the trend established at the outset of the season in which nearly two-thirds of S&P companies have beat earnings estimates, while 60% have missed revenue expectations. Despite the worst showing for corporate profits in three years, investors seem relieved that things aren’t worse. The fact that earnings are still relatively strong despite problems abroad is giving some traders confidence that equities might be a value play right now.[2]  While revenue misses show that the slow economy is affecting business, strong earnings may leave firms poised for growth when things turn around.
After the week’s promising start, global stocks tumbled midweek as ratings agencies continued to issue warnings and downgrades on Europe. Moody’s cut its outlook on Germany and Holland, and issued a negative warning on Luxembourg on fears that bailout commitments will negatively impact the economies of core nations.[3] Egan-Jones continued the previous week’s downgrade rampage by cutting Italy’s debt rating to CCC+ from B+, officially pushing the world’s 8^th largest economy into junk bond territory.[4] In spite of all this, stocks managed a rally on Thursday after remarks by European Central Bank president Mario Draghi indicate that the ECB is actively pursuing closer EU fiscal integration and stands ready “to do whatever it takes to preserve the euro.”[5]
Despite the market’s optimism, the growing realization of the eventual cost of multiple bailouts makes the ECB’s promises ring hollow. Is the European Union really worth saving at any cost? The previously unthinkable possibility of a Greek exit is starting to be actively discussed by analysts. Just last week, in fact, the prestigious Wolfson Economics Prize[6] was awarded to the research group with the best plan for a euro breakup. With Greece unwilling (or unable) to abide by its bailout terms, a Greek exit is looking more likely, and it might not be such a bad thing. Allowing Greece to exit gracefully would enable it to return to its sovereign currency, devalue its currency (to make its exports cheaper and pay back its debt more easily), and develop an austerity plan on its own, all without threatening the rest of Europe.
It appears that domestic equity markets are being affected more by headlines from abroad than the underlying strength of American companies, so we will not be surprised if we see continued volatility in the months ahead as the European situation continues to develop.

Can we have a Summer Rally?


Equity markets managed to break a losing streak and closed basically flat for the week as second quarter earnings season kicked off. The S&P gained 0.16%, the Dow grew 0.02%, and the Nasdaq lost 0.98%. Friday saw earnings released by financial heavyweights J.P Morgan Chase (JPM) and Wells Fargo (WFC), which provided a much-needed boost to the financial sector. Although J.P. Morgan posted losses of $4.4 billion, – contaminated by bad trades and write offs – strong performance from their Investment Bank and Housing unit suggests the bank is on its way back to health. Wells Fargo also posted better-than-expected results as the housing sector boosted their quarterly performance. While these first reports were largely seen as positive, many are still expecting lackluster performance from tech and other sectors.



Unemployment claims temporarily sank last week; however, a major factor in the drop is that automakers reduced or missed some of their usual seasonal shutdowns to keep up with demand, leading to fewer summer layoffs. Analysts expect unemployment claims to rise again in coming weeks. On a positive note, the rise in demand for cars indicates that consumer spending on big-ticket items is still strong.



Investors will be paying close attention to Ben Bernanke’s speeches to the House and Senate next week, looking for indications that the Fed is considering further quantitative easing. Last week’s FOMC minutes did not mention further easing, Fed was examining additional stimulus tools. This may suggest that policymakers are concerned about whether their arsenal is running low on firepower. The minutes also show that officials are worried about the effects of tax hikes due in January 2013 and the spending cuts that will kick in at the end of the year. We worry about this too. Let’s hope the politicians do their job.



Earnings season will start in earnest next week, and we can expect results to dominate the headlines. A slew of economic reports are also due to be released, hopefully showing us a way out of the doldrums we’ve been experiencing these past few weeks.





HEADLINES:

Domestic energy supplies save Americans money. A recent report finds that the economic benefits of domestic energy production could be as much as $1 billion per day in cost savings. The savings from domestic natural gas and finished petroleum products could be saving the U.S. from another recession.

China beats GDP growth expectations. China reported 7.6% GDP growth, beating economists’ expectations and bolstering hope that the Chinese economy is doing better than expected. Stocks rebounded on the news Friday.

Wholesale prices rose slightly in June. After falling for two straight months due to lower energy costs, the Labor Department reported that the Producer Price Index had risen slightly in June by 0.1%. A major factor in the rise is increased food costs, which are offsetting the drop in energy prices.

Prolonged Midwestern drought could increase food prices. Ongoing droughts in states like Ohio and Missouri have damaged corn and soybean yields, leading to higher grain prices for livestock. This may be felt by consumers in the form of higher food prices later this year.

Winners: (Note: We are not recommending any investments here, just sharing some information.)
Losers: