Over the past two Market Watch commentaries we have written about the risks we see in the current market with respect to low volatility and investor complacency. This week we saw the US Federal Open Market Committee (FOMC) echo those same concerns as they released the minutes from the latest Federal Reserve meeting held in June. While that alone does elevate our view towards possible risk in the markets, it further cements our opinion a more cautious or defensive tone is the prudent way to go for the next little while.
This week we have seen the beginning of what many people call the ‘Summer Doldrums’ as overall trading volumes have declined considerably as the summer holiday season is now in full swing. This will become especially evident in August as much of Europe basically takes the entire month off.
The only problem with very light trading volumes is that should a significant market moving event take place, whether positive or negative, the resulting volatility can become quite exaggerated. To illustrate this, during the first week of August in 2011, we saw the Dow Jones Industrial Average either up or down 400 points each day of that week. Needless to say that was a volatile week. We mention this purely to point out that the summer months, due to light volumes, can be jittery. Thus our feeling that being a bit more cautious and defensive for the summer seems reasonable.
So while we keep one eye on trading volumes and volatility that are short term temporary sources of concern, we are also keeping a closer eye on the economic data and company earnings that are beginning to illustrate that last quarter was actually quite healthy. Within the FOMC meetings minutes, we can see that most measures of labour market conditions continued to improve, with total nonfarm payrolls expanded at their fastest pace in April and May over the previous few quarters. Industrial production also increased on balance, as manufacturing output and production in the mining sector expanded. Automakers also indicated that the pace of light vehicle assembly and other broader manufacturing production levels have picked up.
Another key data point giving us confidence that the North American consumer will remain strong is that real disposable income continued to rise in April, indicating that we could see an increase in real personal consumption expenditures over the summer months. We have already seen data indicating that business expenditures on equipment and intellectual property are increasing as well. While this has somewhat of a lagging benefit as those investments take time to work down to the worker / consumer level, it is indicative of strong consumer activity down the road.
A primary driver for the capital markets is corporate earnings, and we are once again at the beginning of earnings reporting season for Q2/2014. So far we have seen companies continue to report earnings growth. Alcoa for example, which traditionally kicks off ‘earnings season’ earlier this week, reported quarterly profits that exceeded expectations. This is important as Alcoa is a key industrial contributor to the North American economy, and with aluminum being an early requirement for much of the global industrial and manufacturing complex, it is a good sign of improving health for the overall global economy.
As Chad Morganlander of St. Louis, Missouri based Stifel, Nicolaus & Co. put it today in an interview with Bloomberg, “People are going to keep one eye on earnings and one eye on peripheral debt. Debt concerns may trump earnings in the short-term, but as long as we have solid numbers for this quarter, markets overall should be fine.” This essentially sums up how we see the markets right now. There are some short term concerns, but overall we like the economic and corporate earnings that we are seeing.
This weekend and upcoming week are forecast to be sunny with possible record breaking temperatures around the province. No matter where you are, please do not forget to take the sunscreen and drink lots of water if you are out golfing or playing tennis.
We have the World Cup finals this weekend as well, so for those of you cheering for Germany and Argentina, enjoy. I just hope it doesn’t go to penalty kicks.
For those of you planning to spend the weekend at the beach please be careful as there has been an algae bloom. Consider consulting Environment Canada before going swimming just to be safe.
This year is also the silver season for Bard on the Beach, so Shakespeare fans check out the schedule as this year they are performing A Midsummer Night’s Dream, The Tempest, Equivocation and Cymbeline.
Whatever your fancy this weekend, enjoy the weather.
Have a great weekend.
Thank you for your trust.
As always, we welcome any feedback.
The Dekker Hewett Group