Rising QE chatter fuels equity market optimism

Summary of events this week.
A risk rally in equity markets was fuelled by the recent flood of dismal economic data from the US which strengthened hopes of further stimulus measures by global central banks to counter growth worries. Fears over the sustainably of the recent strength in the US consumer morale came to the fore, after the nation’s retail sales unexpectedly declined for May, while the Reuters Michigan consumer sentiment index retreated from its multiyear high to a six month low.

Worries over the recovery in the nation’s job market prevailed, as weekly jobless claims in the US rose for the fifth time in six weeks. The manufacturing sector also succumbed to the weakness in the US economy, as data revealed that US industrial production unexpectedly eased for May, while the New York’s Federal Reserve’s regional manufacturing index retreated sharply for the current month. Inflation in the US slipped below the US Federal Reserve’s 2.0% mark, thereby raising expectations of additional monetary stimulus by the Federal Reserve. Earlier this month, the US Federal Reserve Chairman, Ben Bernanke had indicated that the central bank would not hesitate to initiate a new round of Quantitative Easing if the underlying economic conditions in the US deteriorate. Meanwhile, dovish comments from key policy makers during the course of the month has raised the expectations amongst the market participants ahead of the next week’s Federal Reserve’s monetary policy meeting.

On the other side of the Atlantic in Europe, uncertainty over the Greek elections continues to prevail. But traders breathed a sigh of relief, as opinion polls suggested that the pro-bailout party, New Democracy, continued to retain its lead over other national parties. In order to tackle problems in Spain’s financial system, Eurozone finance ministers agreed to lend Spain up to €100.0 billion worth of funds. Despite the aid package, Spanish bond yields touched the 7% mark, after Moody’s Investors Service joined Fitch Ratings in downgrading Spain’s credit rating closer to junk territory. Although the Italian bond auctions were well received, the nation’s borrowing costs continued to rise. Euro began the week on a strong footing, as the aid package provided to Spain eased worries surrounding the nation’s banking situation. Moreover, fading worries over Greece’s elections also added to the buoyancy.

Meanwhile, the Pound declined against the Euro, after the Bank of England Governor, Mervyn King, indicated that a new round of liquidity infusion remains in the realm of possibility. Crude oil declined on the run up to the OPEC meeting. However, oil prices rose towards the latter half of the week, after OPEC’s Secretary-General, Abdalla El-Badri, stated that the OPEC nations would need to cut output by 1.6 million barrels per day to comply with its targeted ceiling. Moreover, the Energy Department report in the US revealed that crude oil stock piles in the nation declined last week.

My review of the week's events
The trading week has ended on a high which could be traders who were short the market covering their positions ahead of Greek Elections and the ongoing rhetoric coming from Eurozone politicians. All eyes are obviously focused on the Greek elections and we could be in the eye of the storm. It’s too close to call but if New Democracy come into play and can form a coalition with Syriza it won’t happen overnight as I’m expecting Alexis Tsipras to come to the centre gradually, expect to see the term veto printed a lot.

The bailout for Spain was a bit of a political disaster as the money was effectively given without any terms hence vigilantes re-targeted yields earlier this week. Terms will need to be set but I’m expecting if Greece are back at the negotiation table it’s likely that Ireland, Spain, Portugal will all require softer terms. The mechanism (ESM or EFSF) needs to be decided and this is where my view is that the ECB should be the lender of last resort and the fiscal compact mergers into this Banking Union the markets have been discussing.
The £100bn being offered back into our financial system is merely going to be used as a credit line should the milk turn sour. I can’t see Banks changing their stance on lending and even if they do it’ll likely be strict criteria and be leant to the companies that don’t need it. This is about containing our markets and pursuing EU politicians to ensure they work to a common plan to secure the future of the Euro.  

Strategic Outlook:
Next week you have FOMC meetings, G20 Meetings Monday and Tuesday and ECOFIN meetings on Friday and then, of course, the Greek Elections so expect a market reaction to any confirmed change in policies from politicians including QE. With the recent pop in equities I’d feel more comfortable staying fairly well hedged/defensive from here. Technically the market is at a level where resistance could be seen coming just under the 120 day moving average (S&P 500). It will all ride on next week's policy meetings between the major governing officials of the world.