U.S. Equity Markets Flat in November Amid Global Uncertainty
By Natalie Trunow, Chief Investment Officer, Equities, Calvert Asset Management Company, Inc.
Markets ended up flat for the month of November with the Standard & Poor’s 500 Index returning just 0.01% and the Russell 1000 Index up 0.33% amid a bevy of negative global economic and geopolitical news, particularly renewed worries around the Eurozone debt crisis contagion, Chinese inflation, and escalating tensions on the Korean Peninsula.
Growth stocks continued to outperform value stocks with the Russell 1000 Growth Index returning 1.16% versus the Russell 1000 Value Index’s -0.53%. Small cap names also continue to trump large cap names with the Russell 2000 Index up 3.47% for the month versus a 0.33% return for the larger cap Russell 1000 Index. Developed and emerging markets were both down with the MSCI EAFE and MSCI Emerging Markets Indexes returning -4.79% and -2.64% for the month, respectively.
Energy was by far the best performing sector in November, up 6% in reaction to renewed investor optimism about global economic recovery, while Health Care and Utilities lagged, with each down about 2.5%.
Renewed Concern over Eurozone Debt Crisis
The Eurozone continues to be pulled down by struggling smaller economies within the complex. Concerns about Irish sovereign debt were high earlier in the month until the European Union and International Monetary Fund hammered out a rescue package for Ireland. However, the fear of contagion continues as worries rise around debt levels in Portugal and Spain. As a result, sovereign debt around the region continued to trade at historically high spreads.
Austerity measures in response to historically high budget deficits have thrown some of the Eurozone economies into stagnation. During the month, we saw civil unrest in the U.K. in reaction to austerity measures there. Weak GDP and high unemployment news from Greece made it clear that there is no short-term resolution to these problems.
Reactions to QE2
The U.S. Federal Reserve (Fed)’s $600 billion bond purchase plan announced early in the month provided support for renewed investor enthusiasm fueling purchases of risky assets including global equities and commodities. International markets rallied to a two-year high in reaction to the news, and oil and gold rallied in unison while the U.S. Dollar rallied off its lows on optimism about economic recovery in the U.S.
Despite the positive market reaction, investor sentiment toward the Fed’s moves has been mixed. Some expect the widely predicted and largely priced-in second round of quantitative easing (QE2) by the Fed to be successful in stimulating U.S. economic growth. Other investors perceived the measure as unnecessary, given recent positive incremental economic news from both industrial production figures and consumer spending. Asian countries, especially China, reacted negatively to the Fed’s stimulus announcement, citing a potential negative inflationary impact on those economies due to stronger currencies in the region and accelerating commodity prices. The G-20 meeting in South Korea saw some rancor over the Fed’s QE2 plans, which some foreign governments saw as more intended to further weaken the U.S. Dollar than boost domestic economic activity.
U.S. Economic News
The U.S. got a taste of the austerity-measure debate when the Deficit Reduction Committee released its suggestions, which included cuts in defense spending and non-defense federal payrolls, raising the retirement age for Social Security, eliminating most income-tax deductions (including the home mortgage deduction), and taxing capital gains and dividends at the same rate as income. These proposals were met with almost universal condemnation across the political spectrum. At the end of the month, President Obama announced a two-year freeze on the salaries of federal employees.
Despite continued volatility in the markets, there was a considerable stream of positive economic news during the month. Holiday temporary jobs were on the rise from last year indicating retailers expect year-over-year improvements in sales this holiday season. Indeed, “Black Friday” sales were up over 9% year over year. Amazon.com announced its plans to hire 15,500 temporary workers for the holidays (the firm employs about 31,000 year round). While total holiday temporary hiring is expected to be up 10% to 30% over last year, it will still likely be 10% to 20% lower than in 2007. Some of the largest U.S. states – California, New York, Texas, and Florida – reported improving employment figures which should help the economic recovery as well as help improve states’ income and budget deficit problems. So far, however, improved payrolls and the economic recovery have not resulted in a lower unemployment rate as more discouraged workers are resuming their search for jobs and re-entering the workforce.
The U.S. consumer is finally showing signs of recovery. Retail sales data for October beat consensus estimates by showing a 1.2% increase over September, and that is after an upward adjustment of the estimate for September. Autos, auto parts, and gasoline led, but retail sales were up as well. During “Black Friday” shopping, U.S. stores reported more customers than the year before. By some estimates, retail sales this holiday season will be 2.5% to 4.5% stronger than last year. This may help build momentum on the 2.8% annualized increase in consumer spending in the third quarter. Same-store sales figures are estimated to grow as much as 3.5%, a healthy pick up over the past two years.
October U.S. factory production figures reported during the month showed the largest increase in three months, signaling manufacturing continues to be a positive contributor to the U.S. economic recovery. Other data showed wholesale costs in the U.S. rising less than forecast in October, supporting the Fed’s rationale for quantitative easing.
The U.S. housing market continued to struggle with the double-dip becoming potentially more pronounced as the inventory of foreclosed homes takes longer to clear out because of the mortgage documentation debacle.
Worries Around Chinese Inflation
During the month, China reported that inflation has risen to 4.4%, a two-year high. Chinese policies aimed at keeping the Yuan cheap were a hot topic at the G-20 meeting, with the U.S. intensifying the call for the Chinese to allow their currency to appreciate. In an effort to temper inflation, China’s central bank raised its reserve requirements for the country’s commercial banks.
We remain cautious with respect to potential fall out from recent confrontations between North and South Korea and the escalation of geo-political tensions in that region. Recent developments have considerably impacted asset and currency prices in Asia and have the ability to further disrupt markets.
We see stimulus efforts and recently improving growth in the service sector gradually helping the employment environment and overall economic growth in the U.S. With the holiday season approaching and signs of consumer spending picking up despite dismal consumer confidence levels, all signs point to a potentially strong closing for equity markets in 2010. Our remaining concern lies in corporate earnings comparisons and what those might do to analysts’ estimates for U.S. equities in the next several months.
We also believe that automatic addition of the newly announced QE2 to the U.S. budget deficit may be premature as, given the positive developments in the economy, the Fed may decide not to proceed with the program or to utilize a much smaller amount for asset purchases. If this happens, U.S. debt securities, which seem to have priced in the impacts of QE2, are likely to be negatively impacted. During November, 30-year yields increased to the highest level since May. Also during the month, investors in many bond funds lost money, a concept some retail investors may not be prepared for. A sizable negative price move in bonds can trigger large redemptions in these funds and a subsequent re-allocation to other asset classes including equities, reversing a long-term trend.
This commentary represents the opinions of its author as of 12/6/10 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.
The statistics have been obtained from sources believed to be reliable, but the accuracy and completeness of this information cannot be guaranteed. Neither Calvert Asset Management Company, Inc. nor its information providers are responsible for any damages or losses arising from any use of this information.
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