Sunday, June 6, 2010

Slow U.S. employment growth and Hungary combine to rout markets

On Friday, the TSX fell 242.27 points to close at 11,569.61. The US markets were equally hit hard, with the Dow falling 323.31 points to finish at 9,931.97, while the S&P 500 fell more than 3%. This fall in the markets was caused by two factors – worst than expected US job growth in May, and fear of Hungary becoming the next Greece.

The concern for Hungary was caused when a Hungarian government official said that economy is in a “very grave situation”, and that the country could be at risk of default. This caused the euro to fall to US$1.20, its lowest level in 4 years. Meanwhile, in the US, the 431,000 new jobs created in May was mostly caused by a surge in hiring of temporary federal workers to conduct the 2010 census. Private-sector employment increased by 41,000 jobs in May, which is significantly less than the 180,000 that was expected. It was also a sharp drop from the 231,000 private-sector jobs added in April.

These two pieces of news were certainly dire, and were reasonable in causing the sharp declines in the markets. US job creation has been below expectations in most months since the recession. While news of a worst-than-expected month can rout markets, and a better-than-expected month can take markets higher, more jobs data from the coming months is needed to determine the rate of post-recession economic growth in the US.

Meanwhile, the fear of the debt crisis spreading to Hungary appears to be exaggerated. The comment that caused the sell-off was made by an official of the ruling party, and the purpose was simply to criticize the country's previous government for falsifying economic numbers, causing this government's deficit to increase to 3.8% of GDP. In addition, Hungary's debt-to-GDP ratio is only 78%, which is far lower than Greece's 125% and Italy's 118%.

In terms of market reaction to the development of these two pieces of news, markets should rise on Monday when investors realize that the Hungary fears are exaggerated. However, the weaker-than-expected US job growth may weight on markets, with some investors taking it as another sign that US economic growth will be very slow for years to come.

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