Sunday, September 26, 2010

Stocks head higher on Fed report and US economic data

North American markets continued to head higher this week, as most data from the U.S. were better-than-expected. For the week, the Dow went up 2.4%, while the S&P 500 rose 2.1%. In addition, the S&P 500 is up 9.5% since September began.

Gold also continued to soar, as it broke several record highs this week, and was as high as US$1301.6/ounce on Friday. Silver was also in the spotlight, as it was at a 30-year high of US$21.45/ounce.

Positive U.S. data dominated the week

The NBER announced on Tuesday that the US recession officially ended in June 2009, after beginning in December 2007. The news caused sentiment to turn more positive, and sent markets higher. On Friday, US August durable goods orders fell 1.3%. However, after removing the transportation component, the number actually rose 2%, twice as high as the 1% Wall Street expected. July's durable goods orders were also revised up from 0/4% to 0.7%. Both news showed more strength in the US economy than had been expected.

US Fed buoys hope for QE2

The US Federal Reserve's statement on Tuesday hinted that inflation was too low (1% last month versus the Fed's target 1.5% to 2%). It also stated that the Fed will use further quantitative easing (QE2) when needed, in order to boost economic growth and increase inflation.

Investors are interpreting that the Fed will conduct QE2 after its next meeting on November 2nd. In fact, Reuters expects QE2 to amount to US$300 billion to US$1 trillion.  This expectation caused stocks to move higher, but sent the US dollar tumbling. In fact, the weak US dollar is part of the reason why gold has been soaring.

Not everything is rosy in the US

However, not all US data were positive this week. On Wednesday, prices of US single-family houses fell for the second month in a row in July. The FHFA's house price index fell 0.5% in July after a 1.2% fall in June (revised down from the previously announced 0.3% fall). US weekly jobless claims also unexpectedly rose last week. Finally, while exisiting home sales rose in August by 7.6%, it rose from a 13-year low in July.

Likelihood of double-dip recession in euro zone surges

While positive US data were able to drive markets higher this week, news from the euro zone were turning more dire each day. In fact, Irish and Portuguese 10-year government bonds' yields reached the highest level since the countries' entry into the euro zone, as investors increasingly view them as risky investments. Since too many events have occurred in the euro zone this week to include them in this article, view the blog post titled “Euro zone double-dip recession looks increasingly likely”.

Looking ahead to next week

After a 9.5% rise for the S&P 500, markets are likely going to take a breather, making further gains in October unlikely. In fact, negative news piling up in the euro zone over the past month could finally shift the momentum of the markets away from its focus on better-than-expected US data.

In addition, a trade war between China and the US ahead of the midterm elections looks increasingly likely. The Obama administration, Congress and Senate continue to pressure China to raise its currency. Import tariffs are likely to be placed on Chinese products before the November 2nd elections, making it likely China would retaliate. Thus, a dire situation in the euro zone similar to the Greek crisis in May, coupled with a China-US trade war could cause to S&P 500's impressive gains this month to dissipate quickly.

Next week, two manufacturing reports (ISM and Chicago PMI) will be released. On Tuesday, consumer confidence data will be released, and a personal income and spending report are to be unveiled on Friday.

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