Analyzing the Most Pivotal Earnings Season of the Recovery

By Atlantic Capital Management This has to be the most pivotal earnings season of the current “recovery." The markets can sense the coming crossroads as investors anxiously await confirmation that rising commodities have either had little effect or that margins are beginning to erode like Nike's (NKE) or FedEx's (FDX). The backdrop to earnings is also uncertain, as we have seen GDP estimates reduced dramatically in March as each new data point on the economy was released. The tax cut drama of December unleashed a wave of optimism that the real recovery was finally at hand, only to find out that such optimism was critically misplaced. This is made all the more concerning because the markets followed this exact same path in 2010. The pivotal turning point in 2010 is commonly believed to have been Greece. It is certainly true that the European and PIIGS messes were contributors, but the Greek flare-up was more of a symptom than a cause.

(To read Russ Winter's piece on how to predict global revolutions, civil wars and riots, click here.)

Where the “recovery” really began to rollover was near the end of 2009. Not coincidentally, the first iteration of the Federal Reserve's quantitative easing program (QE 1.0) began to wind down that December. By December 3, 2009, the Fed had purchased $776 billion in US Treasury securities, including $707 billion in nominal notes and bonds. Treasury interest rates fell to local lows (they had been rising from the worst days of the panic until QE 1.0 was instituted, and then fell after) at the end of November 2009. From December 3, 2009, to the end of QE 1.0 on March 31, 2010, the Federal Reserve only purchased about $150 million additional US Treasuries.

(To see Girish Gupta's article on the US warning travelers to Mexico of drug dangers, click here.)

Not surprisingly, interest rates began to rise during this “hiatus." Three-month bill rates moved from 3 basis points the week of December 11, 2009, to 17 basis points in early April 2010. Interest rates on six-month and one-year bills nearly doubled over the same period, from 14 basis points to 25 basis points and from 26 basis points to 46 basis points, respectively. The two-year bond rose from 73 basis points to 1.11%, while the ten-year bond jumped from 3.3% to just over 4%. The euro peaked in dollar terms at exactly the same time – the last week of November 2009. The decline started to accelerate once the Treasury rate trend began to fully take form after early December 2009. The dramatic move in the euro is what turned the Greek drama into the Greek panic. At the same time the euro was falling apart, the Australian dollar's rise against the US dollar was halted in its tracks, again in late November 2009. Since Australia is a major resource exporter, the Aussie dollar is a good gauge of currency competitiveness as it relates to relative purchasing power. The rise in the interest rate structure within the US, that included mortgage and commercial paper rates by January 2010, was enough to keep the exchange rate in a rather tight range from December 2009 through early May 2010.

(To view Brett Chase's piece on how Amylin and Lilly are rising on EU hope, click here.)

After the euro-region near panic in the first days of May 2010, the flight to dollar safety took both the euro and Aussie dollar down with it. The rush to dollars brought safe-haven buying within US Treasuries, reversing the rise in interest rates. By early June 2010, falling interest rates and declining economic momentum flipped the currency trends once again. The euro and Aussie dollar resumed their rise against the US currency. If we look at the charts for various commodity prices, we see that they very closely resemble the chart for the Australian dollar/US dollar cross. Corn futures prices that had been rising throughout the second half of 2009 peaked the second week of January 2010. The downward trend for corn closely followed the Australian dollar's pause – reversing at the same time in the second week of June 2010. The dramatic rise in corn corresponds to an equally dramatic rise in the Australian dollar, euro, and weakness in the US dollar.

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