Market Commentary

Stocks surged as the EU, IMF, the ECB
May 11, 2010

Stocks surged as the EU, IMF, the ECB and several other major central banks hit the markets with virtually everything they have in their arsenals to avert a sovereign debt crisis.  As noted last week there were liquidity rumors amongst European banks causing the American treasury to fall to the lowest level of the year despite generally better than estimated economic data.  In fact last week’s treasury volume was the fourth highest on record, eclipsing the trading pre-Lehman bankruptcy.  Wow!

Because of the slow moving five month train wreck, the EU and IMF announced the establishment of a lending facility that was bigger than the one rumored on Friday.  After three days, the ECB reversed course and took the nuclear option stating it will buy government and private debt in the secondary market.  Finally and as written last week the Federal Reserve has formally re-established swap lines with ECB, BOC, BOE and SNB (Swiss National Bank).

There were several high profile statements made including the IMF’s Deputy Director commenting “ [We] will do whatever it takes” to end this crisis.

The markets have responded dramatically.  Yields on EU peripheral sovereign debt, the PIIGS, have fallen sharply.  Treasury yields have risen dramatically.  All equity markets rallied as did oil and most other commodities.

Will TARP II—The European Version work?  The immediate liquidity issues have been resolved but the problem has not…potential solvency of several Euro countries.  In my view unless the European nations get some type of fiscal discipline—the curtailment of entitlement programs--Sunday’s action is nothing more than the proverbial finger in the dike.

Moreover and as noted many times there is still the fundamental inconsistency of one central bank for 16 nations vis-a-vis 16 different (and often misleading) fiscal policies, an environment amplified by the lack of EU honesty with their budget data given that politicians are involved. As stated above, at this juncture I would not fight the coordinated actions of the world’s central banks but the sovereign debt crisis is far from resolved. 

How will the American economy be affected?  As also noted above last week’s data was great suggesting an expansion considerably greater than expected.  In the intermediacy I think Europe’s problems will not derail the domestic expansion.  However longer term, Washington must control its out of control spending.  If growth in entitlement spending continues at its current pace, the odds of a Greek tragedy occurring domestically rises exponentially.

Waxing politically, a dated national poll indicated the greatest fear of the American electorate is fiscal policy, an incredible statistic given the economic environment.  Depending upon the source between a record 47% -49% of society does not pay any federal taxes thus suggesting the entire tax burden is paid by 51%-53% of tax payers.

Has the silent majority been awakened?  Even though I do not have clue what percentage of the people who pay taxes and those who do not, logic suggests tax payers are more likely to vote than non tax payers.  November’s election can be interesting.

Last night the foreign markets were down as market participants recognized the point made above that last weekend’s action was only a trillion dollar band aid, that the root of the problem has yet been addressed—massive entitlement spending.  London was down 1.68%, Paris down 2.14% and Frankfurt down 1.09%.   Japan was down 1.14% and Hang Sang down 1.37%.

The Dow should open down about 100 points.  The 10-year is up 14/32 to yield 3.49%.