MarketView for December 2

 

 

Summary 

 

Share prices were sharply higher for a second consecutive day as concerns over Europe's sovereign debt crisis waned. Net short positions in the E-Mini S&P 500 index futures contract hit a two-year high last week. Commodity Futures Trading Commission data showed net short positions in the E-mini S&P futures rose to more than 210,000 contracts, the largest short position since the week of July 22, 2008. However, since then expectations for a resolution to Europe's debt crisis have curbed much of the pessimism.

 

If the S&P 500 continues to hold above 1,200, the market will see strong resistance at 1,225-1,230, which coincides with a recent two-year high and the 61.8 percent Fibonacci retracement of the benchmark's slide from October 2007 to March 2009, a key technical indicator. Meanwhile, the European Central Bank (ECB) has been purchasing Portuguese and Irish bonds, which supported the market even as the central bank said it would not accelerate the program.

 

Considerably stronger-than-expected November same-store sales, a large increase in pending home sales, and better labor market data were the latest signs that the economic recovery is on track and a double-dip recession less likely. Retailers' shares rose on the stronger-than-expected November sales data, which reflects a healthy start to the holiday shopping season. JC Penney saw its shares end the day up 2.3 percent at $34.47. The data follows on the heels of a recent flurry of reports suggesting a rise in economic activity that has let investors worry less about troubles overseas.

 

Bank shares led the parade on Thursday as Goldman Sachs told clients that U.S. banks are on stronger footing because of an improving economy, higher equity prices and a favorable interest-rate environment. Bank of America closed up 3.5 percent at $11.68. Home builders' share prices were also higher after the National Association of Realtors index of pending home sales rose unexpectedly during the month of October, hinting the economic recovery had started to stabilize.

 

Ahead of Friday's closely watched jobs report, data showed the four-week moving average for initial weekly claims for jobless benefits fell to a fresh two-year low, despite an increase for new first time claims during the week.

 

PepsiCo agreed to buy Russian juice and dairy producer Wimm-Bill-Dann). Shares of Wimm-Bill-Dann ended the day up 27.9 percent to close at $31.34.

 

Economy Continues to Show Signs of Improvement

 

The economy continued to exhibit strength as jobless benefits hit a new two-year low last week and pending home sales unexpectedly rose in October. Initial claims for state unemployment aid increased 26,000 to a seasonally adjusted 436,000 last week, the Labor Department said. But a four-week moving average -- a better gauge of underlying labor trends -- fell to its lowest level since the week ending Aug 2, 2008.

 

While claims bounced off the prior week's two-year low, they stayed in a range economists say indicate some strength in the labor market. The claims data has little bearing on Friday's employment report for November as it falls outside the survey period.

 

The picture also brightened as retailers recorded their best sales gains in four years in November, with shoppers drawn in by deals throughout a month that culminated with a surge in "Black Friday" traffic.

 

The National Association of Realtors said its Pending Home Sales Index, based on contracts signed in October, jumped 10.4 percent to 89.3.

 

Stock prices rallied for a second day on the data and as the European Central Bank allayed some concerns of a growing euro-zone financial crisis with hefty purchases of Portuguese and Irish debt. The ECB, however, said it was not currently planning to increase the size of its liquidity program.

 

The dollar fell against the euro and the yen, while prices for U.S. government debt dropped.

 

Europe's sovereign debt crisis early this year helped to slow the U.S. economy's recovery from its worst recession since the Great Depression of the 1930s.

 

The consensus of opinion at this point in time is that the Federal Reserve's decision to loosen monetary policy further through additional purchases of $600 billion worth of government debt should help defray much of the potential damage the economy that could result from the turbulence in Europe.

 

Two Fed officials said on Thursday the controversial program, intended to drive already low interest rates down further and boost demand, was subject to regular review. But they were split on the program's effectiveness on the economy.

 

Despite signs of improvement, strains remain in the labor market. The number of people still receiving jobless benefits under regular state programs after an initial week of aid rose 53,000 to 4.27 million in the week ended November 20, above expectations for 4.21 million.

 

The number of people on emergency unemployment benefits increased 142,874 to 3.94 million in the week ended November 13, the latest week for which data is available.

 

A total of 8.91 million people were claiming unemployment benefits during that period under all programs. However, the number is set to fall as about 2 million unemployed people will lose their benefits by the end of this month after Congress did not act on Tuesday to renew them.

 

Fed Watching QE2 Carefully

 

The Federal Reserve's controversial $600 billion bond buying program is subject to regular review and can be adjusted if needed, two Fed officials said on Thursday. Philadelphia Fed Bank President Charles Plosser said he remained skeptical the asset purchases would do much to lift the economy, but the central bank may need to stop short of buying the full $600 billion if economic growth exceeds expectations.

 

His counterpart at the St. Louis Fed, James Bullard, was more optimistic that it would be effective, but also said he had not supported setting the $600 billion figure in advance. He called that number "forward guidance," which could be adjusted based on economic data, and said he would have preferred the Fed make determinations on the size of asset purchases from meeting to meeting.

 

Plosser said if bond buying doesn't deliver the hoped-for economic benefits, he would "not infer that we merely need to increase the size of the program. Rather he said that would be a signal for the Fed to rethink its analysis of the program's costs and benefits.

 

"If the economy grows more quickly than I currently anticipate, the purchase program will need to be reconsidered and perhaps curtailed before the full $600 billion in purchases is completed," Plosser said.

 

The asset-buying program, announced last month, has drawn complaints at home and abroad. Critics worry it will weaken the dollar, spawn asset bubbles and inflation overseas, while doing little to help the economy.

 

Bullard, however, said dollar depreciation was a "normal by-product" of easier monetary policy and other countries had systems in place that can adjust to changes in U.S. policy.

 

He also said there had been criticism of the asset buying program within the Fed as well, which he called "healthy debate" around a difficult decision.

 

"We should not be the Politburo and we should not be indecipherable," he said. "I think if there is some dissent within the committee, I think markets should be aware of that and they can factor in where the committee might go in the future."

 

The Fed holds its next policy-setting meeting on December 14, which will be the last one of the year. Bullard is currently a voting member on the Fed's policy-setting committee but rotates out next year. Plosser will be a voting member next year.

 

When asked how he will vote on continuing the asset purchases in 2011, Plosser replied, "Since I don't know how the economy is going to evolve then, I'll have to wait and see."

 

Plosser has a reputation as an inflation "hawk" and regularly expresses concern that the central bank's swollen balance sheet could provide the kindling for a dangerous spike in price pressures. He reiterated on Thursday the latest round of asset purchases -- often referred to as "QE2" -- will complicate the Fed's eventual return to a normal monetary policy stance.

 

"Because the Fed's monetary policy must be forward looking, the hue and cry from many quarters may be quite loud when it is time to act," he said. "Even with the best of intentions, if we don't act aggressively and promptly, we may find ourselves behind the curve and at risk for substantial inflation."

 

Bullard, considered more of a centrist, said inflation concerns were "legitimate and important" but disinflation was more worrisome right now.