Friday May 29

Stocks fall as a result of weak economic data. The S&P and the Dow both lose 0.6% to 2,107 and 18,010 respectively. Data today showed that 1Q GDP growth was revised from 0.2% growth to -0.7% contraction. In addition a purchasing managers index for Chicago area companies in the month of May gave a reading of 46.2 (below 50 signaling contraction) versus an estimated 53.1. Negative sentiment also continued from China, where indexes fell 6.5% yesterday and continued their fall again today. Indexes and China have fallen as a result of various structural changes to markets, such as increased lending restrictions, regulatory actions, and decreasing liquidity. In addition, suspicions grow that Greece does not have enough cash to meet its expenses or payments to creditors this month. The IMF delayed a series of payments to the end of the month, which gives the country more time to work out a deal. All of these factors contribute to the negative sentiment in markets today. The dollar index fell 0.1%, and the ten year Treasury yield fell 1 bp to 2.12%.

The first quarter GDP revision showed that the economy contracted less than expected. The economy was expected to fall -0.8% in 1Q, however todays revision showed -0.7% contraction. Among various reasons for the contraction, the strength of the U.S. dollar was a source of trouble. A decrease in exports as a result of dollar strength is expected to have reduced 1Q GDP by as much as 1.9%. It is widely accepted that this disappointing lack of growth is a temporary condition, an idea which has been voiced by the Fed. Economists expect growth to rebound 2.5-3% in 2Q. Sources of optimism for the U.S. economy include househole deleveraging, rising home prices, falling fuel and energy costs, and unemployment growth.

U.S. Treasury Secretary Jack Lew voices concerns over the situation in Greece. He urges creditors to agree to a deal as soon as possible. With an emphasis on Greece and finance ministers in Athens, he hopes that all parties will be flexible. He feels that an “accident” could put Greece outside of the eurozone, casting uncertainty and potential adverse effects around the world economy. Greece is trying to unlock €7.2B in frozen bailout funds. The IMF, ECB, and European Commission want credible, reliable reforms before releasing the funds. Greece faces a large scale banking crisis, with the pace of household and business deposits falling 3.5% in April. In addition, many businesses have been setting up accounts in other countries in the eurozone in anticipation of a potential collapse of the banking system.

The U.S. dollar index has regained its momentum in recent weeks. Earlier in the year, the currency appreciated from $1.21 against the euro in January to $1.05 in March. After reaching a peak of 100 in March, the dollar index fell 7% in April as a result of disappointing economic data and earnings reports. It has regained some of its earlier momentum, and is now approaching 97 on the possibility that the Fed will tighten later this year, possibly in September. The dollar currently stands at $1.08 against the euro and Y124 (yen per dollar). The next important headline will be the labor report next Friday.

Santander this week issued $1B in subprime auto loan products. The bank expects some of the loans to not be repayed. It has offered protection or “credit enhancement” up to 19% of losses on the lowest rated tranche of debt. Subprime loans typically refer to loans to borrowers with credit scores below 620. Santander’s sale includes “deep subprime” which include loans to borrowers with credit scores below 550. Lenders have been relaxing their standards, lending without proof of income, and pushing out loan terms. Investors are eager for yield in the low rate environment. Subprime auto securitizations have risen every year since 2009.

Friday May 29

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