World Stock Markets

The S&P 500 fell 1.4% last week, ranking in the middle of the 41 stock markets we monitor in a week when just six markets rose. The S&P 500’s performance last week tied or outperformed all the major MSCI indexes. Their performances from best to worst: MSCI EAFE (-1.4%), MSCI World (-1.5), MSCI Emerging Latin America (-1.6), MSCI Emerging Asia (-1.7), and MSCI Europe (-2.6). The S&P 500’s 3.7% decline so far in November ranks 35th of the 41 markets. Year to date, the S&P 500 (8.1) is ahead of all the MSCI indexes including MSCI World (6.4), but its ytd ranking has slipped to 20th from 5th since the beginning of October.

Today's Morning Briefing: Turbulence & Trouble. (1) Anna Karenina, Lincoln, and the human condition. (2) T&T can be explosive sometimes. (3) Is the bull’s run over? (4) Deal or no deal in DC? (5) Kicking Greece down the road again. (6) Xi is a Party boy. (7) Time to bomb Fordo? (8) Iron Dome anti-missile defense system is a game changer. (9) Defense isn’t working in S&P 500. (More for subscribers.)

Europe’s Recession

The Euro Mess remains as messy as ever. However, investors have been less concerned about a financial meltdown in Europe ever since ECB President Mario Draghi volunteered at the end of July to do whatever it takes to avert a euro cliff. Furthermore, the Europeans continue to kick Greece down the road rather than force it out of the euro zone. Nevertheless, Europe is sinking deeper into a recession. That’s becoming a more significant concern to investors I’ve talked with recently, especially if the US economy falls off the fiscal cliff.

Particularly unsettling yesterday were massive and widespread anti-austerity protests across Europe. The strikes and demonstrations, some involving hundreds of thousands of people, hit more than 20 countries in the EU, disrupting airports and ports, closing roads and public transportation, and shutting some essential services. The biggest protests were in Portugal, Spain, Greece, and Italy. The union-led protests--called "European Day of Action and Solidarity"--were mostly peaceful, but turned violent in Lisbon, Madrid, and Rome.

September was a bad month for European output. Industrial production in the euro area fell 2.5% m/m, with sharp declines in Germany (-2.1), France (-2,7), Italy (-1.5), and Spain (-5.1). During the month, there were also big drops in Greece (-9.0), Portugal (-12.0), and Ireland (-12.6). Output in the UK has been hovering around its lows of early 2009 for the past few months.

Today's Morning Briefing: Foul Mood. (1) It isn’t personal; it’s business. (2) Obama raises the ante. (3) Anti-austerity protests in Europe. (4) Friedman’s nightmare scenario for the Middle East. (5) QE4 to the rescue? (6) The market’s post-election vote is thumbs down. (7) Maybe it’s not as bad as it feels. (8) Recessions are popping up around the world. (9) There’s still growth in the US, China, Mexico, and Indonesia. (More for subscribers.)

Stock Market Valuation

The S&P 500 is down 6.2% from the year’s high of 1465 on September 14. It is up 9.3% ytd. It could certainly rebound 6.6% back to the year’s high if the fiscal cliff is averted. I’m not sure that there’s enough time to do much better than that. So breaking out to a new record high may have to wait until next year.

Once again 13 is turning out to be an unlucky number for the forward P/E of the S&P 500. The latest and the previous two rallies in the S&P 500 since mid-2010 hit a brick wall when the P/E rebounded back to about 13. Since peaking at 13.1 on September 14, the P/E has dropped to 12.3. Over this same period, the forward P/E of the S&P 400 MidCaps fell from 14.8 to 14.0, and the S&P 600 SmallCaps forward P/E dropped from 15.9 to 14.4.
 

The market hit the year’s high the day after the Fed announced QE3 on September 13. The rally stalled as investors awaited the Tuesday, November 6 election results. The S&P 500 is down 3.8% since last Tuesday's close, after investors apparently concluded that the odds of going over the cliff had just increased. If that doesn’t happen, stocks are cheap and the P/E could easily rebound, maybe even above 13. If it does happen, the previous low for the P/E was 10.2.

Today's Morning Briefing: A Review. (1) Running out of time for yearend rally. (2) Once again, 13 is unlucky for P/E. (3) Stocks are cheap again as long as cliff is averted. (4) FSMI dipping. (5) Commodity prices weaker, while dollar stronger. (6) Sentiment turning more bearish. (7) Dow Theory in neutral. (8) Yellen endorses latest super-easy money idea. (9) Hard to see QE3 in Fed’s balance sheet. (More for subscribers.)

Earnings Cliff?

Before we examine the microeconomics of earnings, let’s have a look at the macro picture. It’s surprisingly upbeat currently. Now that profit margins are back at previous cyclical highs, earnings will be driven by revenues, as long as margins hold steady. S&P 500 revenues per share is highly correlated with manufacturing and trade sales in the US, which jumped 2.8% over the past three months to a record high during September. The y/y growth in business sales is up 4.4%, edging up from a recent low of 2.8% during July. 

 

There are lots of potential shortcomings with this macro analysis. US business sales are limited to goods. The data do not include sales of services. A significant portion of S&P 500 revenues comes from abroad. The business sales series does capture merchandise exports, which are also highly correlated with S&P 500 revenues. Exports rose to a new record high during September as well. However, revenues generated by sales of goods and services produced abroad by S&P 500 companies are not reflected in either US business sales or US merchandise exports.

With the global economy depressed by a recession in Europe and slower growth in emerging economies, the strength in US macroeconomic data has been offset by weakness abroad. That’s clear from the 90% of S&P 500 companies reporting so far that their Q3 revenues fell 1.5% y/y. A resolution of the US fiscal cliff before the end of the year should set the stage for a rebound in revenues and earnings growth to 6%-8% next year. If we go over the cliff, all bets are off.

Today's Morning Briefing: Earnings Cliff Too? (1) Analyzing the analysts. (2) Earnings Tuesday and Revenues Thursday. (3) Downward slope rather than cliff. (4) Micro vs. macro earnings. (5) Surprisingly upbeat macro picture. (6) US business sales and exports at record highs! (7) Lots of downward trends among earnings estimates. (8) However, S&P 500/400/600 forward earnings at or near record highs. (9) Chopping quarterly estimates through next year. (10) The big losers are Industrials, IT, and Materials. (More for subscribers.)

China

The good news is there is some good news coming out of China. Since 2010, the Three Horsemen of the Apocalypse have been a double-dip recession in the US, a financial meltdown in Europe, and a hard landing in China. If the fiscal cliff is averted in the US, the prospects for the US economy are reasonably good in 2013. But first, it must be averted.

The Euro Mess is as messy as ever. However, bond yields have remained relatively low in Spain and Italy thanks to ECB President Mario Draghi’s promise to provide unlimited liquidity to both countries as soon as they ask for bailout funds from the European Stability Mechanism, and accept its conditions. So far, neither country has even asked for help from the ESM.

 

China seemed to be heading toward a relatively hard soft landing during the summer. Beijing responded with a mini-stimulus, cutting interest rates twice in June and July and stepping up investment by state companies and spending on building airports and other public works. Chinese data released for October suggest that the recent round of monetary and fiscal stimulus may be working:

(1) Industrial production rose 1.4% m/m and 9.6% y/y to a new record high. Retail sales rose 14.5% y/y. Auto sales rose 6.4% to 1.3 million vehicles, rebounding from September’s 0.3% contraction. Investment spending rose 25.2% y/y.  
 

(2) Exports rebounded 2.1% m/m during October, very close to the record high earlier this year during May. This is an encouraging development since it confirms our view that the global economy may be slowing, though still growing. Also on the upbeat side was the 6.1% m/m increase in imports. 
 

The rebound in Chinese exports during October was led by a 2.1% increase in exports to the rest of the world, i.e., the total excluding the US, EU, and Japan. These exports now account for a record 61% of China’s exports, up from 50% six years ago. China’s recent dispute with Japan may account for some of the weakness in trade between the two over the past couple of months. However, China’s exports to Japan are down to only 7.2% of the country’s total from about 16% 11 years ago. 

Today's Morning Biefing: Thelma & Louise & Paul. (1) Big win for Big Brother. (2) Romney’s bad numbers. (3) Majority rules. (4) The government has lots of supporters, who get support. (5) Krugman ready to take a dive. (6) Kristol says not so fast. (7) Deal maker: Closing loopholes. (8) The rich should expect to pay more. (9) Cliffhangers in Connecticut. (10) China not ready to land. (11) “Skyfall” (+ +). (More for subscribers.)