Market iQ - 28 June 2012

United States 

 

The week ended June 22 highlighted housing and manufacturing data as well as the FOMC’s monetary policy decisions. Existing home sales dropped 1.55 per cent last month, to a seasonally adjusted annual rate of 4.55 million units. The weakest employment gain in a year last month and limited access to credit are restraining the housing industry that has been supported by record-low borrowing costs and cheaper properties that are drawing investors. Housing starts fell 4.8 per cent in May compared to an increase of 5.4 per cent a month earlier. Manufacturing in the Philadelphia region shrank in June at the fastest pace in almost a year, showing the global economic slowdown is holding back factories.  The Federal Reserve Bank of Philadelphia’s generic economic index fell to minus 16.6 in June, the lowest level since August, from minus 5.8 the previous month.  Manufacturing may keep ebbing as consumer spending, business investment and exports cool, reflecting the slowdown in global growth caused, in part, by the European fiscal crisis.

 

 

US Fed extends Operation Twist

• The Federal Reserve extended Operation Twist—a plan to sell short-term bonds while purchasing longer-term securities—to support a slowing US economic recovery, but refrained from a more aggressive plan to ease monetary policy. 

• The FOMC said it would buy Treasuries with maturities of six to 30 years worth US$267 billion over 2012, while selling or redeeming those with durations of three years or less. 

• The plan is expected to continue for the rest of the year

• June’s FOMC statement noted the following:

—softening in labour market conditions 

—slower rate of consumer spending 

—decline in headline inflation from lower energy prices 

—stable inflation expectations

• 13 of 19 Fed officials see no rate increase before 2014

• The Fed maintained its view that economic growth would remain moderate in coming quarters, but now suggested that progress on reducing unemployment will happen “only slowly” as opposed to “gradually” in the previous April statement. 

• In continuing to point to strains in global financial markets as a main risk to the outlook, the FOMC said that it “is prepared to take further action as appropriate” to support the recovery and generate a “sustained improvement in labor market conditions in the context of price stability.” 

 

 

Europe

Greece: Following the results of the second Greek election of June 18, an agreement between New Democracy, the Panhellenic Socialist Movement (PASOK) and the Democratic Left resulted in the formation of a new coalition government.

While the coalition is expected to remain broadly committed to the program of restructuring which is required for the country to continue receiving external financial support, some renegotiation is expected in order to help alleviate the deep economic contraction that Greece is experiencing.

 

 

Spanish Banking “stress test”:

Spain announced the results of two “stress tests” on its banking sector. The report indicated that Spain’s banks would need as much as 62 billion euro in capital to withstand a “worst-case” economic scenario. 

One report, prepared by Oliver Wyman Ltd, reported that banks would require between 51 billion euro and 62 billion euro. The other report, prepared by Roland Berger Strategy Consultants, reported that banks would need EUR51.8 billion under similar conditions. The report was based on data at the end of 2011.

 

 

ECB lending restrictions ease: 

The European Central Bank (ECB) has widened the range of acceptable collateral for its  long term refinancing operations (LTROs) to include residential mortgage-backed securities and small and medium-sized enterprises loan possessing a minimum BBB- rating (S&P). Previously, such assets would have to be A- rated in order to be considered. Despite this, such assets will be valued at a 26 per cent haircut.

The change is intended to help embattled banks recapitalise. The move by the ECB has been opposed by the German Central Bank who have criticised the absorption of more risk by the ECB.

The move could suggest that a third LTRO is in the works.

 

 

Upcoming EU summit: 

The heads of Germany, France, Italy and Spain have lent their support to a proposed growth plan ahead of  the June 28 Euro-zone summit. The plan is expected to be worth around 130 billion euro, equivalent to 1.0 per cent of the Euro-zone gross domestic product. No specifics of the plan were given.

 The idea of a Euro banking union, which was put forward by Italy, might also be discussed. The union proposes the creation of a European banking supervisor and a deposit guarantee fund. It would also require some autonomy over euro-member budgets.

Perhaps the most anticipated topic in discussions will be the proposal (by Italy) to use the EFSF/ESM to buy sovereign debt directly (currently, the EFSF borrows money on its own name and the uses the proceeds to provide support). Germany has resisted the proposal, but did not altogether rule it out. 

Note: The upcoming ESM is limited to 500 billion euro. Italy’s total debt is about 1.9 trillion euro, Spain is about 0.2 billion euro. 

 

 

Turkey: Moody’s Investor Services raised its foreign currency long-term rating on Turkey from Ba2 to Ba1 on June 20. The agency cited “significant” improvement in public finances and policies to cut the current-account deficit. Turkey currently maintains an equivalent BB rating with S&P and a BB+ rating with Fitch.