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Market Digest – Week Ending 7/27

Second quarter U.S. GDP growth was better than feared, and the most important European leaders strongly stated their intention to maintain the Euro. On Thursday, ECB President Mario Draghi implied his organization would restart bond purchases. Draghi will also hold talks with German Bundesbank President Jens Weidmann, fueling investor hopes it will lead to a larger ECB role, if necessary. Stocks rose. Treasuries yields increased for the week, after setting record lows on Wednesday. The dollar depreciated while gold appreciated.

Weekly Returns

S&P 500: 1,386 (+1.7 percent)

MSCI EAFE: (+2.5 percent)

U.S. 10-Year Treasury Yield: 1.54 percent (+0.08 percent)

Gold: $1,624 (+2.5 percent)

USD/EUR: $1.232 (+1.3 percent)

Major Events                                                                                                                                                         

  • Monday – Chinese energy giant Cnooc agreed to buy Canada’s Nexen for $15.1 billion. It will be China’s largest foreign corporate acquisition if approved.
  • Monday – Spanish bond yields spiked, with ten year yields passing 7.5 percent.
  • Tuesday – Apple released earnings, falling short of some estimates as consumers wait for the iPhone 5.
  • Wednesday – The U.K. economy contracted 0.7 percent in the second quarter, the third consecutive decline.
  • Thursday – ECB President Mario Draghi sent strong signals that the ECB is willing to use its power to preserve the Euro. “Within our mandate, the ECB is willing to do whatever it takes to preserve the Euro and, believe me, it will be enough.”
  • Thursday – Facebook reported a loss for the second quarter. Revenue grew 32 percent from the prior year, failing to meet consensus expectations.
  • Friday – U.S. GDP for the second quarter grew at 1.5 percent, better than many feared.
  • Friday – German Chancellor Merkel and French President Hollande held a phone conference and issued a joint statement saying they would do everything in their power to protect the Eurozone. Still, a Bundesbank spokesman said it still views ECB bond purchases as “problematic.”

Our Take

To avoid a collapse of the Euro, the ECB must either buy massive amounts of government bonds or at least convince people they would do so if it becomes necessary. Draghi this week strongly suggested the bank is willing to play such a role. That Merkel and Hollande commented about protecting the Euro just a day later is meaningful.

While far from certain, Germany increasingly seems like it will submit and allow the ECB to print money if necessary. Still, it wants to wait as long as possible to say so. This gives Germany the opportunity to negotiate for more power designing the new fiscal authority in Europe. Though comments alone should not be confused with real action, the fact that European leaders did something to pre-empt the next wave of panic, rather than just react to it, is a welcome sign. We believe it sends a strong signal the Euro will be protected, and the worst case scenario in the short term is unlikely.

Unfortunately for Greece, they won’t necessarily be along for the ride. Greece will run out of money this year, perhaps within a few months. Compounded by delays stemming from elections, the country has made precious little progress in meeting bailout targets. The rest of Europe is tired of putting money into what it increasingly views as a black hole.

We expect Greece will be forced out of the Euro in the next six to twelve months. If so, it will likely create some waves and stock markets may retrench temporarily. However, the events this week are a welcome sign that Europe will move on and overall fear should be lower a year or two from now. If this proves true, a lot of people may find stocks very attractive compared to alternatives — especially with trillions of newly created dollars, euros, pounds and yen sloshing around.

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