Global CIO Commentary by Scott Minerd
“A lot of news came out last week, the most significant being the decision by the German constitutional court, which is good news for the euro, and the U.S. Federal Reserve’s unveiling of what I call ‘QE Infinity’. Given that Dr. Draghi has changed the tone about the euro and the Fed has come around to an aggressive monetary policy, almost all of the upside surprises are likely now in the rear view mirror.
Last week’s QE Infinity program is beyond anything that we have seen out of the Federal Reserve up to now. The Federal Open Market Committee’s policy action announcements included the extension of Operation Twist, the open-ended bond buying program, and the extension of the low rate commitment by another year into 2015. This is all good news for corporate credit (defaults should remain low) and equity prices. Having said that, the trend of various asset classes being cheap and discounting bad news seems to have turned. For those of us who have been contrarians (i.e., optimists), there have been significant gains this summer. Now, it appears that many asset classes are discounting good news, which makes it worth reconsidering certain positions and exposures. Remember, consensus thinking is generally the path to under performance.
All of this is especially significant considering that we are trading at historically low yields in many fixed income asset classes. I am not turning bearish, but the massive decline in rates in certain sectors – like high yield, for instance – will make future outsized gains more challenging. One area that likely still has room to move up is equities. If you compare last summer’s rise from the August 2011 bottom to the peak in the first week of April 2012, the S&P500 rose 25%. If that trend repeats, based on the June 2012 lows, we can expect the index to reach around 1,600 during this run, versus the current 1,461.”
Economic Data Releases
Rising Food and Energy Prices in U.S. Lift August Inflation and Retail Sales
Economic data released last week in the U.S. were mixed. Industrial production fell 1.2% in August while jobless claims rose to an 8-week high to 382,000. Consumer prices (CPI) increased 0.6% MoM in August, the fastest pace since June 2009, on rising food and energy costs while core CPI rose only modestly to 0.1% MoM. Producer prices and import prices also rose modestly in August. Trade deficits were largely unchanged and consumer credit fell for the first time in 11 months in July. On the positive side, retail sales rose 0.9% MoM in August, the fastest pace in 6 months led by autos and fuel. Confidence indicators continue to improve in August as both NFIB small business optimism and University of Michigan consumer confidence indices sustained gains.
Moderate Growth in Europe
While China Bank Loans Rise to New High The euro zone CPI rose 2.6% YoY in August, the fastest pace in four months. The euro zone industrial production rose modestly in July while Italian industrial production has decreased for two consecutive months. In Asia, China reported higher-than-estimated new bank loans for August. Total bank loans for the month rose 704 billion RMB, and year-to-date bank loans now total 6.1 trillion RMB, 17.3% higher than total bank loans through August last year. Industrial production in Japan fell 1.0% in July, the third monthly decline in four months. Growth in Japanese machine orders and M2 supply both accelerated to their fastest pace since May 2012.
Chart of the Week
Following the latest FOMC meeting, the committee announced a new asset purchase program and an extension of their low rate pledge through mid 2015 in an effort to stimulate economic growth and improve the labor market. In addition, the FOMC also released its latest outlook on inflation and unemployment. Based on the new estimates for inflation and unemployment, the optimal Federal Funds Target rate suggested by the Taylor rule would suggest the Fed funds rate should rise to over 2% by mid-2015, in contrast to the Fed’s pledge to keep rates near zero through that time. In light of this analysis, it appears likely that the FOMC will fall behind the curve in raising rates, especially given its new outlook on economic growth and its pledge to keep rates on hold through mid 2015.
Source: Federal Reserve, Bloomberg, Guggenheim Investments. Data as of 9/17/2012.
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