by Stuart Quint, Senior Investment Manager and International Strategist
Ø We are still negative on Europe in portfolios. However, relative economic strength in other parts of the world, such as the US, has provided selective investment opportunities.
Ø Market perspective:
o Stock market decline yesterday in context of strong rally in S&P since September.
o With all the volatility, S&P 500 is actually close to flat in 2011 (-0.5% as of 11/9/11)
Ø Europe is still muddling through; however, market perceptions of the muddle have fluctuated.
o German economic data is flashing economic stagnation and potential recession. (This country has been the strongest in Europe).
o Politicians still muddling on expanding financial facilities or bank recapitalizations needed for convincing solution to problems.
An Update on PIGS
o 10-year bond yields rose from roughly 6% to nearly 7%
o Political wrangling as PM Berlusconi’s coalition is unraveling at time when markets want to see convincing action on fiscal front
o However, question of whether Berlusconi keeps promise to resign and nature of new government – leaving two possible scenarios:
§ unity government could be positive
§ early elections negative, though we believe parties involved understand the risks of doing this
o Italy is much larger than other PIGS, but its problem are different
§ Wealthy country with strong export base that does not pay taxes
§ Dysfunctional politics and economic stagnation
§ High interest payments (government collects more revenues than it spends)
o There is time for Italy to win back market confidence
Ø Greece – it took longer than expected to get new PM Papademos but there is some potential for him as a technocrat who could push through reform and get other EU nations on board.
Ø Spain – general elections November 20 – opposition likely to win, more likely to push through spending cuts than higher taxes, which could be helpful in medium term.
An Update on the U.S.
Ø The U.S. still shows relative economic strength, but we are still watchful of fallout from Europe.
o DC Super committee – expectations low, but with good reason
o Economic data – so far, modest growth, no recession yet
§ Payroll growth moderate, improving trade balance helpful.
§ Housing, government headwinds.
Signposts to turn positive on Europe
Ø Larger European bank recap – nothing hopeful yet
Ø Falling bond yields in Italy and Spain – unfortunately, they have risen, though near term they could pull back on any improvement in recent negative sentiment.
Click here to check out the video by Stuart that goes into more detail about the situation.