[dropcap]S[/dropcap]tocks rallied on the final day of the quarter as the highly anticipated summit of European leaders produced bolder-than-expected measures. Eurozone leaders alleviated concerns that banks will fail by relaxing conditions on emergency bank loans, primarily to Spain. Earlier in the week, U.S. housing data provided evidence that the nascent recovery is gaining momentum. The Supreme Court upheld the validity of the majority of President Obama’s health care legislation. Friday’s gains boosted major U.S. indexes to their best monthly returns since October, but were not enough to erase losses for the quarter. Treasuries were little changed for the week. Gold finished higher.
S&P 500: 1,362 (+2.0%)
MSCI EAFE: (+3.0%)
U.S. 10-Year Treasury Yield: 1.66% (-0.02%)
Gold: $1,599 (+1.8%)
USD/EUR: $1.266 (+0.8%)
- Monday – German Chancellor Merkel again stated her resistance to issuing joint eurozone debt in a conference in Berlin.
- Monday – Moody’s downgraded 28 Spanish banks.
- Monday – U.S. home sales rose 7.6 percent in May from the prior month, exceeding expectations.
- Tuesday – U.S. home prices drop 1.9 percent in April, less than expected.
- Wednesday – Google unveiled its Nexus 7, the latest entrant in the increasingly crowded tablet market.
- Thursday – The Supreme Court surprised many by upholding the linchpin of President Obama’s plan to provide health coverage to nearly all Americans.
- Thursday – As expected, Moody’s downgraded 15 major global banks.
- Friday – European leaders at a two-day summit in Brussels said they would speed plans to create a single supervisor for banks and said that bailout funds should be able to directly boost the capital of struggling banks.
The S&P 500 finished the second quarter up about 8 percent for the year and down about 3 percent for the quarter. The pattern has been to fall as additional evidence of the worsening European debt situation emerges, and rally on hopes that government action will be able to save the day, as it seemingly did for the U.S. during the subprime crisis. Stocks globally, and especially in Europe, are cheap enough that they tend to also rise moderately on “no-news” days as a small but growing number of investors realize there are no good bonds to own right now and decide it is better to try their luck in equities. This is a major reason returns are as good as they are.
This week was no exception. Investors were encouraged by the mostly unexpected agreement to allow the eurozone’s two bailout funds to inject capital directly into banks, thereby saving troubled governments from having to supply the funds directly and add to their debt balances. The summit also seemed to pave the way for an increased role of the ECB in bank oversight (and perhaps direct bank funding – a.k.a. money printing).
Both of these are indeed bullish, the first one because it is a meaningful step toward further integration of eurozone economies. Each country now has additional motivation not to let any member fail. This type of integration is nearly impossible to unwind, so it increases the likelihood that Europe will find a common solution even if it is not in the current best interest of the stronger nations.
Ultimately, that common solution will have to involve the ECB more directly. We can’t help but notice most of the actions so far try to solve a debt problem by issuing more debt. This would be fine if Germany and the other “center” countries truly were in great financial shape, but that perception is largely an illusion. The stock market acts as if a fully united Europe would be all lollipops and sunshine. This isn’t the case. Ultimately, there will have to be some monetization of debt.
It is way too soon to tell if this agreement will have much impact, and there are still huge problems in Europe that must be addressed. As much as we would prefer to be able to write about almost anything other than European debt each week, it is what matters for the markets right now. That will most likely remain the case for the remainder of the year.