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Comprehensive Weekend Reading

11/01/2013

November has arrived, bringing with it the return of multiple economic data releases and an important central bank meeting in Europe. These events arrive as the S&P 500® Index (SPX) (Figure 1) traced out another new all-time of 1775.22 on Wednesday, October 30. The media continues to focus on the timing of the sixth correction for 2013, calling it inevitable. I will not debate use of that term; rather, I suggest investors continue to manage risk. Accordingly the previous September 19 “no taper” high of 1729.86 should be used a critical point of reference.

Figure 1 S&P 500 Index (SPX), Year to Date
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Source: Bloomberg

I mentioned an important central bank meeting in Europe next Thursday, November 7. Within my Q4 playbook, I highlighted the importance of watching the value of the eurocurrency. Since ECB President Mario Draghi utilized verbal intervention this past February to walk down the value of the currency from 1.37 to 1.27 in April, an uncomfortable rise has unfolded. The euro (Figure 2) traded to a two-year high of 1.3832 on October 25.  

Investors should expect a cut, either to the deposit, refi, or marginal lending rate at the ECB’s November meeting or certainly the December meeting. The spooky Halloween CPI reading of 0.7%, down from last month’s 1.1%, has the eurozone flirting uncomfortably close to deflationary conditions once again. Europe has not posted a similar weak inflation reading since 2009.

The market consequences of possible ECB action has been, and should remain, favorable. The German DAX (Figure 3) jumped to a new all-time high and bond yields fell further. Both Spanish and Italian 10-year government bond yields (Figure 4) tested the 4% level, a rather remarkable drop from the July 2012 yields.  

Figure 2 Euro, Prior 365 days
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Source: Bloomberg

Figure 3 German DAX, Prior 365 days
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Source: Bloomberg

Figure 4 Italian & Spanish 10-Year Yield, July 2012 to November 2012
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Source: Bloomberg

The calendar’s flip into November began with economic data from Asia. This morning’s business headlines will focus on another better-than-expected China PMI manufacturing (Figure 5) reading of 51.4 for October, better than September’s 51.1.This is the fourth consecutive monthly improvement From June’s 50.1. The output component rose to 54.4 from 52.9, while the important new orders component slipped to 52.5 from 52.8.

While favorable to see China’s continued economic improvement, overnight data from South Korea is more actionable for me. Clearly, the grace period provided by the FOMC to emerging market economies is working, based on last evening’s South Korean export and PMI manufacturing data. Exports rose 7.3% in October, much better than September’s 1.5% decline. The strength in exports was broad-based, with improvements in exports to the United States, Europe, and China. Additionally, the PMI manufacturing reading for October rose back above 50 to 50.2, up from September’s 49.7.  Overall, the South Korea data should be interpreted as showing signs of stabilization for one of my favorite emerging market economies.

Figure 5 China PMI Manufacturing, November 2012 to November 2013
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Source: Bloomberg

SPX earnings season continued this week as 368 companies have now reported.  Next week another 79 companies will report. Overall SPX sales growth stands at +2.24% and EPS growth at +3.47%.

Let’s take a look at the sector earnings breakdown for the SPX….

Sector

Reported

Yet to Report

EPS Growth

Sales Growth

Overall SPX

368

130

3.47%

2.24%

Consumer Discretionary

46

36

13.42%

8.17%

Materials

27

4

13.69%

2.88%

Utilities

19

12

6.35%

4.41%

Technology

55

11

6.78%

3.53%

Telecom

3

3

5.65%

3.44%

Industrials

52

11

7.46%

1.52%

Consumer Staples

27

13

2.20%

1.61%

Health Care

41

13

0.62%

5.57%

Financials

70

11

6.25%

-1.07%

Energy

28

16

-13.63%

-1.72%

Source: Bloomberg

Finally, how is that “two plus two equals four” progressing? Despite the government shutdown and D.C. dysfunction, I am sticking with my expectation for U.S. economic growth to accelerate over the course of 2014.

Yesterday’s Chicago PMI blew away expectations with a 65.9 reading, the highest reading since March 2011. The 10.2 monthly increase was the largest month-on-month advance since 1983.

The composition of the report was strong throughout.

  • New orders (Figure 6) rose to 74.3 from 58.9 last month, the best reading since 2004
  • Production rose to 71.1 from 58 last month
  • Employment rose to 57.7 from 53.2 last month, a four-month high

Figure 6 Chicago PMI, New Orders Prior 10 Years
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Source: Bloomberg

On Friday morning, November 1, the October ISM Manufacturing reported, following the Chicago PMI with another stronger-than-expected report.

Let’s take a look….

  • October ISM Manufacturing (Figure 7) rose to 56.4 from last month’s 56.2
  • The 56.4 reading is the highest monthly figure since April 2011
  • New Orders (Figure 8) rose to 60.6 from 60.5 last month, the third consecutive +60.0 month
  • Inventories rose to 52.5 from 50 last month       
    • The “new orders to inventories” ratio fell to +8.1 from +10.5 last month
    • Employment fell to 53.2 from 55.4 last month
    • Prices paid fell to 55.5 from 56.5 last month

Figure 7 U.S. ISM Manufacturing, November 2012 to November 2013
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Source: Bloomberg

Figure 8 U.S. ISM Manufacturing/New Orders, November 2012 to November 2013
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Source: Bloomberg

Virtus Investment Partners provides this communication as a matter of general information. The opinions stated herein are those of the author and not necessarily the opinions of Virtus, its affiliates or its subadvisers. Portfolio managers at Virtus make investment decisions in accordance with specific client guidelines and restrictions. As a result, client accounts may differ in strategy and composition from the information presented herein. Any facts and statistics quoted are from sources believed to be reliable, but they may be incomplete or condensed and we do not guarantee their accuracy. This communication is not an offer or solicitation to purchase or sell any security, and it is not a research report. Individuals should consult with a qualified financial professional before making any investment decisions.