ECONOMIC AND MARKET REVIEW JULY 2015

“Interestingly, as the year has progressed, some signs of stability seem to be emerging among previously volatile asset classes.”

 

Despite the volatility of global equity, fixed income, commodity and currency markets in the second quarter of 2015, most developed nation markets were either flat or rose modestly. Concerns about when the Federal Reserve would begin to raise the Federal Funds Rate gave way to the ongoing Greece-European Union dilemma and a new problem, the sudden downturn in the Chinese stock market.

Interestingly, as the year has progressed, some signs of stability seem to be emerging among previously volatile asset classes. West Texas Intermediate Crude is trading in a range between $50/barrel to the low $60’s, while Brent Crude has traded between the low $50’s to $70. The U. S. dollar index is now trading between the mid $90’s and $100, while the U. S. 10 Year Treasury yield seems to be tracing out a channel of between roughly 2.00-2.50% and the German 10 year Bund yield also seems to be settling down.

Along with these encouraging signs, the American economy is also recovering after a very anemic winter. Employment continues to improve, and it appears that consumer spending is picking up, though unevenly. However, so far, the spring-summer snapback has not been as robust as the previous few years, which has not gone unnoticed by the Fed. The two major takeaways from recent Fed Minutes and member commentary are that the central bank is still data dependent and intent on raising rates sometime this year. The upshot is whether we get one or two increases in late 2015, making the September Fed meeting pivotal in that regard.cncartoons031266

As this is being written, the situations in both Greece and China remain fluid. The latest news is that Eurozone leaders would give Athens up to $96 billion in bailout loans if the Greek Parliament approves tough austerity measures in the coming days. Though Prime Minister Alexis Tsipras’s Syriza party is split on the proposal, there appears to be more than enough support among opposition parties to easily pass the bill. Afterwards, national legislatures of the creditors must also agree. While there are still deadlines to be met, the latest developments are the most positive they have been for a while and may put the Greek issue to rest, at least for a considerable time.

The sharp selloff in the Chinese equity market followed a parabolic rise that was precipitated in part by government measures to allow individuals to borrow more easily to buy stocks. To stem the decline, the government tightened margin requirements and outlawed short selling. Though the full extent of the damage to the Chinese economy may not be known for some time, the main losers so far are retail investors. Fortunately, less than 10% of all Chinese households invest in stocks, as opposed to almost half in the U. S. Furthermore, equity accounts for a much smaller role in financing in China than in developed countries, which should also limit the impact on the economy. However, in the long run, Premier Xi Jinping and his government stand to lose credibility in this about face, with China’s commitment to market reforms being called into question by both domestic and foreign observers.

Our investment outlook is unchanged, with emphasis on developed market equities. Earnings headwinds for U. S. equities will abate, with the economy picking up and most companies continuing to benefit from lower energy prices. Japanese and major Eurozone bourses should also rally, due to massive monetary stimulus programs. Bond yields may drift higher, but should be capped by tepid global growth.