Calvert  News & Commentary

Risk Aversion Moves Equity Markets Lower in June

Markets face challenges in global economic growth, sovereign debt concerns, and overall weaker-than-expected economic data

7/9/2010

Untitled Document

By Natalie Trunow, Chief Investment Officer, Equities, Calvert Asset Management Company, Inc.

Natalie Trunow, Head of Equities Natalie Trunow,
CIO, Equities

Domestic and international equity markets declined in June as economic data continued to show softness and the sovereign debt crisis in Europe deteriorated further.  For the month, the Standard & Poor’s 500 Index (S&P 500) was down 6.20%, while the small-cap Russell 2000 Index returned -7.75%.  International markets fared better, with the MSCI EAFE Index down 0.97% for the month and the MSCI Emerging Markets Index finishing 0.72% lower.

The deteriorating outlook for global economic growth negatively impacted cyclical sectors, such as Consumer Discretionary, Industrials and Materials the most,  although all ten economic sectors in the S&P 500 lost value in June. The more defensive Telecommunications Services and Utilities sectors posted the least negative returns during the month.

Worries of Slow-down in Global Economic Growth Weigh on Investors

Economic slow-down in China and sovereign debt issues continued to worry investors with Greece, Hungary (which now appears likely to default on its debt) and other challenged economies—including municipalities—in focus. The International Monetary Fund (IMF) called for firm action from European governments to address the Euro-Area fiscal problems.

In the face of growing pessimism about the global economy and sovereign debt levels, investors continued to de-risk their portfolios. Gold reached record highs as investors fled fiat currencies amid heightened global economic risks.

Still Positive but Less Optimistic Outlook for U.S. Economy

On the domestic front, U.S. GDP growth continues to come in at levels below what was anticipated earlier this year, owing primarily to slower-than-expected consumer spending. New figures show 2.7% annualized growth in the first quarter, after having initially been estimated at 3.2% in late April and then revised to 3% in late May. Retail sales dipped in May, as building materials store sales saw large declines that reflected the challenging housing market environment. However, despite continued high unemployment and deteriorating housing markets, the University of Michigan index of consumer confidence increased to the highest level since January 2008.

During the month, markets were negatively impacted by employment data released early in the month. Employment figures were less positive than expected with increases provided primarily by government census hiring. Private employment suffered a short-term set back after several months of improvement. The under-employment rate, which includes part-time workers who are looking for full-time positions and discouraged workers, is still very high at 16.6%, although down from 17.1%. Weekly increases in jobless claims indicated that the jobs picture did not improve in June.

U.S. homeowners are taking advantage of historically low rates to refinance their existing mortgages. This should have a positive long-term impact on consumer balance sheets, Having said that, mortgage applications for new home purchases dropped and sales of new U.S. homes fell to their lowest level on record after government tax credits, which had caused “front-loading” of demand in April, expired. As we suspected at the beginning of the year, a double-dip in the housing market may be starting to show up in housing sales data.

On the positive side, the manufacturing sector continues to hold up better than the rest of the economy, with factory orders and industrial production rising in June. U.S. corporations continue to enjoy a healthy build-up of cash which is being used for stock repurchases (e.g., Wal-mart), increased dividend payments, mergers and acquisitions (M&A), consolidation, and restructuring. In the Financials sector, Citigroup is restructuring and consolidating its consumer lending business in preparation for potential M&A activity.

Impact of Financial Reform

On the regulatory front, the House of Representatives approved new financial regulation measures. The final legislation could involve major changes in the oversight of the financial sector, especially with respect to complex financial products. While banks may still be permitted to be involved in derivatives, proprietary trading, hedge funds, and private equity, the degree of such involvement will likely be drastically reduced. Overall, the new regulations seem to be more lenient towards banks than investors had anticipated.

Looking ahead, we believe that underlying economic fundamentals (especially in the U.S.) are still positive. With recent market volatility, equity valuations are becoming more attractive and, absent major geopolitical calamities, may offer good buying opportunities for investors.

This commentary represents the opinions of its author as of 7/6/10 and may change based on market and other conditions. The author’s opinions are not intended to forecast future events, guarantee future results, or serve as investment advice.



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