With Spanish 10-year bond yields again edging back towards the 7% region yesterday and their spread to Bunds hitting a fresh euro-era high of 576bp the risk rally yesterday was impressive. The S&P 500 stayed positive throughout most of the trading session before finishing the day +0.67%% higher. Indeed after two successive rallies the index is now back to where it was at the start of the month.
European bourses were also higher across the board including the Spanish IBEX (+0.50%). Spain’s bond weakness yesterday makes today’s auction a more interesting event as the government targets to raise as much as EU3bn across 2yr, 5yr and 7yr maturities. The Bundestag is also scheduled to vote on the Spanish bailout today (session starts 1pm London) although Merkel still seems confident
that she will get the required majority to pass the proposal.
Part of the market strength yesterday was probably driven by better housing data from the US. The housing market continues to offer encouraging signs with starts rising +49k to a 45-month high of 760k. Permits were slightly below expectations but May’s figures were revised higher and mortgage applications also rose sharply in the latest week. The Fed’s Beige Book showed that activities in New York,
Philadelphia, and Cleveland continued to expand albeit at a slower pace versus the previous report. Bernanke’s second testimony yesterday largely repeated what we heard on Tuesday with the Fed being ready to take action to ensure continued progress on employment.
In terms of company reporting the better earnings but weaker revenue trend continues. Of the 25 S&P 500 companies that reported yesterday the beat:miss ratio was 68%:32% for earnings. The revenue beat:miss stat was weak at just 24%:76%. As we said yesterday it is too early to generalise but its certainly a trend worth watching closely from here. It might help explain why unemployment
is stubbornly high if companies are seeing their earnings hold up better than revenues.
Moving to Asia, investors are clearly on the front foot overnight with all bourses higher overnight. The Nikkei, Hang Seng and Shanghai Composite are all more than 1% higher with the KOSPI up around +1.7%. There is more market chatter that the Chinese government will do more to help the economy but the market is also benefiting from the positive US/European lead yesterday. Credit derivative
indices are also firmer with the Aussie iTraxx 3bp tighter as we go to print. Cash credit continues to perform very well, not just in Asia, but globally as fund flow technicals and a low yield environment continue to bode well for spread products.
In other notable themes the recent rise in soft commodities is worth a mention here. Corn, Wheat, Sugar and Soybean prices are up by around 44%, 48%, 22% and 26% from the early June trough. The worst US drought in decades is certainly not helping. Having just got engaged to a vegetarian who eats soy beans like they are going out of fashion I’m praying for rain in the US!! Also viewed from the
wettest summer in UK’s history the world’s weather makes financial markets seem a calm and measured place to be at the moment. Let’s hope it holds off for today’s Open and Test match start.
Turning to Europe, the IMF yesterday warned that Europe could suffer a serious bout of deflation if authorities do not move quickly to support the banks and economy. Indeed we are already seeing this in the yield levels of various core European bond markets. Earlier this week we noted that there are 6 European countries with 2yr bond yields in negative territory and that the demand for these bonds is still not fading. Germany’s 2-year bund auction yesterday is a fresh example if this as it printed with a negative yield (-0.06%) for the first time. This is after their existing 2-year notes started trading in negative territory earlier in the month.
Moving on to today we have a rather quiet day for data releases. UK retail sales and Italian industrial orders are the main releases in Europe. In the US we will get initial claims, the Philly Fed survey and existing home sales. Spanish auction aside France is also set to sell nominal and inflation linked bonds across various tranches. Outside of this, Germany’s vote on the Spanish bailout may well be the main event for today. The upper house session on the vote is expected to start at 9am London followed by the lower house session at 1pm and Mr. Schaeuble is also expected to deliver a policy speech around then.
Colin Tan, CFA
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