The biggest highlight of the day is the launch of Q4 earnings season with Alcoa after the close. The question is by how much will the ES/SPY correlation have dragged individual stock prices higher from far lower cash flow implied valuations - we will get a glimpse this week, as well as get a sense of how Q1 is shaping up, this week but mostly next week as earnings reports start coming in earnest. There was the usual non-event newsflow out of Europe, which has no impact on risk levels, now driven solely by every twitch of Mario Draghi's face, and best summarized by this from SocGen: "In the wake of September's 3 point VAT increase in Spain, which saw a significant bringing forward of consumption to beat the tax hike, euro area activity in Q4 has been genuinely awful."
SocGen continues: "The hard data for November continue to be consistent with euro area GDP falling by 0.3% q/q in the final quarter of last year. Euro area unemployment meanwhile continued its steady rise, increasing by a further 113,000 in November. This took the euro area unemployment rate up to another record high of 11.8%. In Italy the unemployment rate for those under 25 continued to climb, reaching 37.1% in November. Euro area retail sales recovered just 0.1% m/m in November. This follows three consecutive months of declining spending and leaves retail sales down 1.3% 3m/3m. This almost certainly means private consumption is set to fall significantly in Q4 (our current forecast is -0.3% q/q).
The backward-looking trade data for November suggested that Europe was still suffering the hangover from Spain's VAT increase at the start of September. Exports fell significantly in both France and Germany in seasonally adjusted terms (down -2.8% m/m and -3.4% m/m respectively) but in both cases the decline in exports was outpaced by an even bigger decline in imports ( 3.4% m/m in the case of France, and -3.7% m/m in Germany). As result, the French trade deficit improved to €4.3bn in November, the smallest deficit since October 2010 while the German trade surplus slipped a fraction to €14.6bn. In Germany's case, the weakness in exports in Q4 suggests net trade will make a significant negative contribution to growth, while in France net trade will make a significantly smaller positive contribution to growth.
Finally, German factory orders continue to plot a particularly volatile path, falling 1.8% m/m in November. This partially corrects an outsized 3.8% increase in October, but after a 2.4% decline in September leaves German orders down 1.1% 3m/3m. Foreign orders were chiefly responsible for the decline (dropping 4.1% m/m) with non-euro area orders down 6.5% m/m. Non-euro area orders for intermediate goods, capital goods and consumer goods were all strongly down in November."
In other words, the current reality in Europe is gruesome, but there is lots of hope and faith that the rebound in the market will have an impact on the economy. It won't, just like in the US. But one can hope.
So ignore the current newsflow, ignore rumblings of yet another Greek bailout, ignore the upcoming Italian elections where Berlusconi is once again starting to regain popularity, ignore that the US government will have to start slowly shutting down in just over 1 month according to the revised Treasury estimate which now sees the ceiling extension measures expiring in mid-February, and sell VIX. Uncles Ben and Mario will take care of everything.
More from DB:
Our 2013 mantra was/is "In Authorities We (have to) Trust" which refers to the fact that there remains much unfinished business left from the lead up to and the aftermath of the financial crisis. The authorities (politicians and central bankers) have generally done a good to excellent job in keep the financial system as we know it afloat. However it remains far from being able to stand on its own two feet and regular interventions will continue to be necessary for many years. So we need politicians and central bankers to be on top form again in 2013 and beyond. Next stop will be February with the budget ceiling discussions and the Italian elections. This is still a little too far ahead for markets but will probably be the main source of any volatility in Q1. If negative headlines are limited the current liquidity and normal seasonal demand will highly likely be the dominant and positive force.
Indeed after the fiscal cliff outcome, markets will likely take the view that a solution to the budget ceiling talks will eventually materialise and therefore any stresses beforehand will likely be minor as few will want to go short. However this understandable complacency must be watched as neither side wants to back down again. At some point one of these many political/economic issues facing the developed world won't end up in such a market friendly outcome. The problem is that they're all quite unpredictable in advance and are low probability/high risk outcomes.
Returning to markets now, yesterday saw the S&P500 (-0.31%) consolidate the previous week’s gains after reaching its highest level since December 2007 on Friday. As is typical following payrolls, there was little in the way of data to drive markets and S&P500 volumes were about 15% lower than the average of the preceding 20 trading days. Industry-wise US financials were amongst the laggards (-0.25%) as opposed to the outperformance in European financials we saw yesterday. US banks were not helped by reports that major mortgage lenders had agreed to a payout of US$20bn with Fannie Mae and regulators in two separate settlements to resolve claims arising from their mortgage businesses (FT). Outside of equities, the EURUSD continued to gain ground (+0.37%) while UST yields were little changed ahead of $66bn in new 3yr, 10yr and 30yr supply on Tuesday, Wednesday and Thursday respectively this week.
Across the Atlantic, European bank stocks (+0.65%) were the clear outperformers yesterday but this still didn’t help the weakness in the broader market (Stoxx600 -0.42%). The sentiment in banking stocks was driven by the weekend’s headlines that the Basel Committee had relaxed bank liquidity coverage rules and pushed out the timetable for implementation. Financial credit saw a similar reaction as the iTraxx Fin Snr index rallied 5bps tighter versus a 1bp tightening in Main.
In overnight markets, most Asian bourses are trading a quarter to a half of a percent lower following the weak lead-in from Wall Street. In Japan, the Economic and fiscal policy minister Akira Amari told reporters that PM Abe had given orders that a package of economic stimulus measures be compiled by Friday. Local media reports have said the emergency stimulus package could be as large as Y10 trillion including public works spending of more than Y5 trillion (Dow Jones). Mr Amari added that the government and the BOJ will, "through writing and other means," establish cooperation aiming for a 2% inflation target. Despite the news, the Nikkei is down 0.86% overnight while the JPY is up 0.3% against the USD. In the credit space, primary markets continue to pick up with a number of new issues announced in Asia and Australia.
Turning to the day ahead, the Eurozone reports its December economic sentiment index together with retail sales, unemployment and consumer confidence data. Germany will also print its November trade numbers and factory orders today. In the US, the data releases of note include MBA mortgage applications and Fed’s latest consumer credit data for November. But the main focus for the day will likely be Alcoa’s Q4 results after the bell which unofficially kicks off the US earnings season. With a global footprint and being the first cyclical name to report, investors will be keenly watching management’s guidance for forward aluminium demand as a gauge of global economic conditions.