Sunday, March 13, 2011

US markets fall as correction looms

The earthquake in Japan pulled North American markets lower for most of Friday, but the indices managed to rise for the day. The S&P 500 rose 9.17 points or 0.71% to 1,304.28, while the Dow gained 59.79 points or 0.50% to 12,044. For the week, the S&P 500 fell 1.3%, while the Dow lost 1%. This was due to a plethora of bad news from the euro zone, and weak US economic data.

Euro zone crisis in spotlight again

On Wednesday, Portugal auctioned €1-billion of 2-year bonds, but the yield was at a record high of 5.993%. In addition, the yield on 10-year Portuguese government bonds reached 7.6%, an unsustainable level that is close to the record high reached last month.

This caused investors to take a hard look at Portugal, which most people believe will have to receive a bailout. On Thursday, Moody's downgraded Spain's credit rating from Aa1 to Aa2, and warned that further downgrades are possible.

On Saturday, it was reported that the EU has agreed to cut the yield on Greece's bailout loans by 1%, from 5% to 4%. In addition, the repayment period was increased from 3 years to 7.5 years. While this will certainly be positive for markets, Greece is the only beneficiary, with the situations in Portugal and Ireland unchanged.

Weak US economic data

On Thursday, it was reported that US initial jobless claims rose 26,000 last week to 397,000. In addition, the US trade deficit increased in January to $46.3 billion, which was more than expected. China also posted a trade deficit, which surprised many and raised concerns about the strength of global economic growth.

Oil and gold stabilize

Intense fighting in Libya and concerns about protests in Saudi Arabia caused gold to hit a record high of US$1,445.70/ounce on Monday. However, the “Day of Rage” in Saudi Arabia was uneventful, causing Brent crude to fall $1.59 on Friday to $113.84. WTI crude fell $1.54 to settle at $101.16.

Meanwhile, gold futures rose 0.7% on Friday to close at $1,421.8/ounce, down 0.5% for the week. Meanwhile, silver rose 1.7% for the week to settle at $35.935/ounce.

Expect a correction ahead

With the combination of an euro zone credit crisis gathering steam, and unrest in Libya and the Middle East causing Brent crude to hold above $110, investors can expect markets to head lower in the coming week. In addition, the earthquake in Japan will weaken investors' view of the global economic recovery. The S&P 500 also traded below its 50-day moving average for much of the week, which is a bearish indicator.

With US employment having been strong in February, some economists expect weaker jobs growth ahead. This would push the unemployment rate above the current 8.9%. In addition, the end of QE2 is less than 3 months away. With QE2 having been a main reason for the market's rise since late August, the end of QE2 will have a very negative impact for markets. With markets usually pricing in events months in advance, investors could be taking money off the table now in anticipation of the end of QE2.

Thus, with the many negative factors coming up next week and the weeks ahead, I expect a correction of 10 to 15% within the next month.

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