Australian Market Weekly Wrap

July 2nd 2011 –

Well what a week.  Greece voted to take what they thought might be the lesser of two evils by imposing further austerity on the population rather than face the uncertainty of default and the potential economic and social catastrophe that that might bring. It was a decision of postponing what might have to happen anyway but markets applauded by stepping back from the abyss and rallying strongly into the weekly close.  

The key this week seemed to be also that the French and Germans politicians and bankers figured out that even though they didn’t really want to save Greece it was in their own best interests to do so. So they did so. 

So Greece didn’t take the market down, which we expected, but the global economic data may eventually and on this front it was a week of further deterioration globally. manufacturing indices in China, Eurozone, UK and India were all down however the US ISM Manufacturing index showed a surprise jump. We don’t want to be bearish for bearishness sake but the huge uptick in inventories on which much of the jump was based could be problematic in the months ahead as we’re guessing it was involuntary.

What gives us reason to pause in our embrace of the ISM data for the moment is the enduring weakness in the ECRI weekly Leading Index of US growth which has declined now for 10 weeks in a row (see chart above from www.dshort.com ) and sits now at 2 and the fact that initial jobless claims in the US remains sticky at elevated levels after hopes were recently dashed of a sustainable improvement in the US Jobs market.

Interestingly there were disappointing US Treasury Bond and German Bund sales during the week suggesting that investors are very wary of bond markets at the moment and the potential uptick in yields associated with QE2’s end last Thursday night. Add in a dose of ECB Schadenfreude with their seeming intention to tighten rates again soon and we have a short-term recipe for rates to go up.

We don’t think so sustainably but while this week’s bounce in equities and other “growth or risk” assets persists they’ll have some legs.  To this end it is difficult to tell at this juncture whether the relief rally that started earlier this week is just that or something more sustainable. Certainly after 2 months of negativity some sort of positive reaction would be usual. It’s just a question of how far the bounce can rise.

Crucially we think that we need to see data that is printing better than expectations, which is different to just straight out positive data, is required to keep things moving positively. that becomes a question of just how bad pessimism has become.

Equities

Last week we talked about the importance of watching the technical levels in the Dow as the bellwether for markets. It is important for us to reiterate that technicals are part of our toolkit on all markets and as such they form part of our analysis framework.

We said,

I’d expect the data to put pressure on this market and thus the technical levels mentioned above need to be watched closely.

It did and they held. 

When it comes to trends we always respect them until they break. Such was the case with the Dow and S&P 500 during the week. The Dow chart is attached below and you can see that it has bounced quite nicely now off the recent lows and the trendline.

Thus the technical, if not economic, set up is there for a little more strength potentially. But we are still wary of the economic landscape at the moment.

Likewise for the Australian equity market the pressure is on. 4473 was great again this week but it held and the bounce has taken it outside the downtrend of the past 2 months. I think the key here, like the US is just how bearish people have got on economic data and company performance ans well as whether there are any sellers to slow the rate of upward progress.  

As you can see the light blue line is the same one we’ve had for 3 weeks now and it has remained strong and well supported. Unless or until it breaks this 4460/80 region now continues to be simply the bottom of the ASX200’s broader range. For short-term traders 4650/60 and then 4718/22 is resistance.

We still favour options cover (or a move to cash) longer term but more aggressive traders can play the range while this plays out.

FX – Australian Dollar

Like the ASX200 the AUD has some really strong support tested and found solid once again. The 1.04 region is now very solid and the AUD closed at 1.0770 for a 375 point gain from the lows of the week.

As is usual I have posted my full Australian Dollar Weekly Wrap over at MacroBusiness and I think for those with an FX bent its worth a look because we talk about the rerating of the AUD and why it is so strong. It seems ridiculous to quote yourself but over there I said,

What can we garner from the run up to and post Greek vote price action? The simple answer is that Aussie is a strong currency these days.

It’s not necessarily the answer exporters or tourism operators want to hear but it is the reality. If ever there was a set of preconditions where the Aussie could have made a quick run down below 1.00 it has been the last few week’s but, as you can see in the chart below it has stubbornly found support around the 1.04 region and consistently and persistently bounced.

The technical outlook is that AUD has been trading a big range since the high in May, we know the bottom is well supported but we don’t know where the real selling is yet. i think the market might try to find out if our view that 1.1013 is the medium term top is right.

Elsewhere in currencies the USD went from “looking much better and is biased to higher levels” last week to 4 days or so of weakness as the greek vote and the looming debt ceiling increase date on August 2 focussed minds on the troubles in the US own fiscal house. The EUR is much stronger on the back of this but I just can’t see that the world can cope with a fundamentally weaker USD. Chinese have been buying a lot of European assets, switching from USD’s and this is propping up the EUR but just as we didn’t want a European/Greek debacle neither do we want a USD rout. That would make concerns over Greece look like chump change.

For the moment though we need to watch the US budget debate closely and any further USD weakness will support the AUD.

Interest Rates

In Australia interest rates went far too low for the current RBA settings on the back of fears about Greece and it would have been hard to resist doing some hedging (paying fixed rates – 3 years swaps got down to 4.93%). Elsewhere markets were pricing a 25bps cut.

But that is easy to say in hindsight. What if Greek politicians had not of voted for the austerity package. Paying fixed at 4.93 could have looked silly as interest rates probably would have tumbled on the flight to safety over risk. So my guess is that not as much hedging was done as would have made sense in abstract.

The bounce back into the 5.15/25 zone seems more consistent with an RBA with a tightening bias even if we don’t think they will exercise their right to hike anytime soon.

We are looking forward to the Statement after next week’s RBA Board meeting for further pointers on where they think we are going. We still hold our own view that the domestic economy is weak and weakening so we’ll see if they have shifted further.

All in all markets we have had a few days of rampant relief after the pessimism of the past couple of months. Whether or not this can be sustainable only time will tell. This is one reason we always either trade, for ourselves as more aggressive, or us options, for portfolios that need protection but want to continue to participate.

You have to pay for your insurance but its a bit like having your cake and eating it. I’ve never understood why that is a bad thing.

Circumspection remains our mantra but we’ll enjoy the sunlight while it lasts..

greg@lighthousesecurities.com.au

www.twitter.com/gregorymckenna

This blog is for information only and does not constitute advice. Neither Greg McKenna nor Lighthouse Securities has taken your personal circumstances, objectives or financial situation into account. Because of this you should, before acting on this information, consider its appropriateness, having regard to your objectives, financial situation or needs.

If you do need economic, investment or financial advice we are happy to help.

Please Email the team at Lighthouse at info@lighthousesecurities.com.au or Greg directly on greg@lighthousesecurities.com.au

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  1. Optimisitcally Pessimistic | Lighthouse Securities - July 4, 2011

    […] focus on the fundamentals which are in no uncertain terms, OH BOTHER, pretty poor. Writing in the Weekly Wrap on Saturday we summed the data up by saying it “…was a week of further deterioration globally. […]

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