Friday July 24

Stocks fall to finish off a bad week following developments in China, falling commodity prices, and mixed earnings. The S&P500 loses 1.1% to 2,079 capping a 2.2% fall on the week. The Dow lost 0.9% to 17,568. Markets exhibited a risk off attitude this week as a result of the economic slowdown in China, falling commodity prices, and some weaker than expected corporate earnings. Today the 10 year Treasury yield lost 2 basis points to 2.26% as investors shifted money out of equities and into secure assets. Weak manufacturing data out of both China and the Eurozone is not an ideal situation for commodities, and as a result copper falls to a six year low. China’s PMI manufacturing index missed estimates at 48.2, which is indicative of economic contraction. This is down from 49.4 in the previous reading, and has been below 50 for five consecutive months.  Correlations among commodities have increased this year in contrast to last year, as almost all commodities are experiencing heavy losses. This is bad for emerging market currencies. 74% of S&P500 companies have beat earnings so far, with only 54% topping revenue estimates.

Banks and financial institutions are finding ways to compensate for low interest rates and flat markets. Both of these dynamics are not ideal for banks, as low rates and low volatility limit revenues. Banks have made up for these trends by charging higher fees, therefore enabling them to beat expectations. Fifty two out of sixty four banks that have reported earnings so far have released rising fee income. Fee income is up 6% from the first quarter and up 10% from the previous year. US banks are benefitting from upheaval and uncertainty at Deutsche Bank and Barclays.

The currencies of most emerging market countries reliant on commodity exports have been suffering this year, in particular the Australian dollar (“aussie”) and the Canadian dollar (“loonie”). The Australian dollar reached a six year low against the dollar to $0.73 (USD per AUD). Weak Chinese economic data send gold, copper, and oil prices falling. The euro is down too against the dollar to $1.0925 as German manufacturing data missed expectations. The dollar index is up 0.5% today but still down 0.7% on the week.

Bondholders will be left exposed if the global recovery gains momentum. If growth and inflation pick up around the world, then investors who purchased bonds at record low yields will be negatively impacted once yields increase. Currently, bond markets are priced assuming global growth will be slow. There is little pressure on inflation, and markets assume that interest rates around the world will be kept low by central banks. As a result of these dynamics, bond yields are at notable lows all around the world. This is a function of what is being called secular stagnation, or slow global growth. Yields are expected to rise very slowly in the UK and the US, where the 2 year yield is currently 0.7%. With interest rates so low, the price of money is cheap. This affects the price of all assets, which is reflected in high stock valuations (expensive multiples), expensive bonds (low yields) and high house prices. The beneficiaries of secular stagnation are currently expensive for investors.

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Friday July 24

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