The Weekly Report: A Groundhog Summer?

16 May 2012

Is this summer going to be a repeat of 2011’s choppy waters?

‘Groundhog Day’ was a brilliant movie from the early 1990s starring Bill Murray as a sardonic, jaded and self-loathing journalist who goes to a town in the Midwestern United States for what is supposed to be a short trip. The protagonist ends up in a bizarre time-space warp where the same day happens over and over again, and in Hollywood tradition, hilarity and self-discovery ensues.

Investors and traders are going through their own sort of Groundhog Day, except unlike Bill Murray’s character, their jaded resignation is punctuated by panicked episodes of frantic activity. The same problems have been persisting for three years now and specifically, this summer looks like it may be a repeat of events from Summer 2011.

Several Republican representatives in the United States Congress appear to be reneging on the debt ceiling deal that was cobbled together last year, and may pose problems for President Obama as the inevitability of another increase in the debt ceiling appears on the horizon. The Republicans have shown a willingness to cut their nose to spite their face, and with Obama’s campaign gaining momentum, they will be desperate to find ways to hurt the President going into what is already shaping up to be a very contentious election.

After several months of positive economic data, there have been several misses and disappointments, particularly where employment is concerned. Additionally, high gasoline prices have dampened consumer demand and disposable income, while also increasing operating costs for businesses large and small in the United States. This has led to several companies decreasing their guidance, or missing their earnings targets.

Both of these factors—the potential for another debt ceiling storm and lower earnings for major corporations—could increase volatility and choppiness this summer in U.S. equity markets, with repercussions for commodities and bond markets as well.

Greece is still very much in the news, and if the now-quaint social unrest of Summer and Fall 2011 roiled the markets, the potentially explosive outcomes tied to the current political impasse—not to mention a Greek exit from the Eurozone, could very well take volatility to levels above what we saw last year.

While Greece is a relatively minor player in the Eurozone, the real risk is from contagion due to revaluation of debt and bonds held by European banks in the ‘core’ countries such as Germany and France, which in turn may lead to a fresh round of bailouts. Additional contagion risk could hit bonds for Portugal, Ireland, Italy and Spain—with Spain already making scary new headlines recently due to what appears to be an imminent banking sector collapse and bailout for the sovereign and the banks.

A Spanish bailout and banking sector collapse is the proverbial stuff that could hit the fan and lead to major selloffs across many different asset classes. Investors should be extremely cautious and pay very close attention to the political situations in Europe and the United States as much like in Summer 2011, actions by policymakers will have serious market repercussions.

Do you 1) agree with us, 2) think this is an over-reaction or 3) plan to speak later but you’re busy right now buying cans of corned beef and tuning your transistor radio?

Let us know what your forecast is for the Summer of 2012 in our comments section.

Michael J Cooper
Trading & Investment Strategist
Firstline Securities Limited

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