Anxious June for Markets: 'Culmination of Stress Building'
June promises to bring clarity to what mystified and troubled markets in May.
On Friday—the very first day of the month—the critical U.S. May employment report and Chinese PMI data will help give more context to the two major economies necessary to drive global growth, while Europe’s economy continues to be stymied by its sovereign debt crisis.
The U.S. employment report is expected to show on Friday that just 150,000 jobs were added in May, above April's 115,000 but still too sluggish and below the first quarter trend.
Heading into May, markets were already signaling worries about global growth. But the idea that Greece could exit the euro, spreading contagion, after it failed to form a coalition government sent investors into more defensive positioning around the world.
That drove stocks lower, the dollar higher and U.S. interest rates to historic lows. Stocks lost nearly 7 percent for the month of May. The 10-year Treasury yield, meanwhile, fell below 1.60 percent for the first time ever. Bunds were also a safe haven in a fearful world, with the German 2-year note yielding a shocking zero percent.
“There’s a culmination of stress that’s building,” said J.P. Morgan chief economist Bruce Kasman. “I’m not sure the Greek election is going to determine what’s happening. It’s a key step on the road to figuring out what’s going to happen.”
There are many worries, but there are three main themes where investors are focused.
The first is Europe's sovereign debt crisis, and the biggest immediate concern there is Greece and fearsa sloppy euro exit would trigger a breakdown of the euro zone. The Chinese economy and the ability of leaders there to engineer a soft landing is also a major concern, as is the slowdown in emerging economies in general.
And finally, the idea that the U.S. economy, on its shaky road to recovery, could be derailed by outside forces makes for heightened interest in U.S. data, and also in the doings of the Federal Reserve , which holds an important meeting June 19 and 20.
Already the expectations for that first key piece of U.S. data—the May jobs report—are low. Economists Thursday were refining their earlier expectations after ADP's private sector jobs showed just 133,000 private sector jobs were added in May, below the 150,000 expected. Also Thursday, the latest unemployment data showed the number of weekly jobless claims climbed to 383,000, the seventh week in eight where the number rose.
Another concern that could grow during the month of June are the tensions with Iran, as European sanctions take hold and recent talks between Iran and six nations failed to resolve the key issues surrounding its nuclear program.
“Europe is by far the most important story line. The sense China is looking to slow, the fact Brazil is slowing...the U.S. is the only place that has held up pretty well,” said Kasman.
The U.S. economy may actually start to show some signs of progress in June, as the reversal of the unseasonably warm winter's "weather effect" on economic numbers normalizes.
"We are seeing some signs that the upward and downward distortions of the first half of the year are working their way through and that a cleaner read on the economy which is somewhat stronger than implied in some of the recent data may be on the way. You can see that in the drop in (jobless) claims from the April high," said Steven Wieting, Citigroup economist.
Economists are looking for continued improvement in housing data, and consumer-driven spending data, such as retail and auto sales.
"We’re going to get a lot of clarity on a lot of big issues. June jobs data (released in July) I think will provide insight into whether the slow down is simply weather pay back or whether there's a fundamental downshift in the economy," said Mark Zandi, chief economist at Moody's Economy.com.
"Consumers are doing their part. They’re not leading the way, but they’re hanging in there and doing their part," he said.
At mid-month, the Greek electionscould bring some much needed answers for the future of Europe, as voters decide whether they want political leadership that could take the country out of the euro, an event markets fear would destabilize Europe’s banks and undermine the euro zone.
The leftist party SYRIZA, neck-and-neck in polls with the New Democracy party, opposes the austerity that has come with Greece’s bailouts, and its leader has been outspoken about it.
“The June 17 election is not going to determine a Greek exit but it could set in motion things that do. We’re going to have to watch how it plays out. If you do get a vote toward a Greek exit, we’re going to move into a world where a lot of things in terms of linkages are going to be stressed. And people will try to prepare for it but you don’t know how to prepare for it,” Kasman said.
Within a day of that election, G-20 leaders meet in Los Cabos, Mexico for a two-day summit (June 18/19), where they are expected to discuss the European sovereign crisis.
European Commission President Jose Manuel Barroso in a letter to European Union nations late last week pointed out that all G-20 partners need to recognize their responsibility to build a sustainable recovery. He said the U.S. and Japan need to implement credible fiscal plans and China should continue to strength its social safety nets and carry our more reforms, including moving to a floating exchange rate.
By the end of the month (June 28/29), euro zone leaders hold another summit, armed with knowledge about the will of the Greek people and under pressure to make sure the correct steps have been taken to support Greece and protect their union.
"There may be some positive comments coming out of the Europeans in terms of ways to increase liquidity in the financial system in Europe," said Art Hogan of Lazard Capital Partners.
As investors worry about Greece, the budget difficulties of Spain and its weakened banks are also a concern. The European Union executive office in the final week of May suggested a "banking union" that could oversee the system centrally and provide bailout assistance, if needed.
But ahead of that summit and ahead of the Greek election, the European Central Bank holds a rates meeting June 6, and it could consider positioning for more liquidity or even a rate cut.
"June is pivotal in a policy making sense and it’s pivotal in an economic sense," says Robert Sinche, global head of currency strategy at RBS.
“We like to think that the June 17 election would be conclusive in some ways but it’s possible it’s another do over. One would think we’ll know something but it’s not clear in that regard. I actually think some of the central bank meetings may end up being just as important in terms of currency markets,” he said.
While Greece is not widely expected to exit the euro, the possibility has risen markedly.
Sinche said one negative scenario he has heard for Greece is that it could form a coalition that refuses to honor the commitments of the memorandum of understanding, and the EU could stop making payments. If that happened , Greece would run out of money, the government could fall and the country would be on its way to another election.
As for the ECB, the weaker German data of late may press it to consider taking action. “I think the question is whether policy makers are going to start bending again,” Sinche said.
The question for China is whether its policy makers can provide the right balance of stimulus to keep the economy growing at a high enough rate. Premier Wen Jiabao this month urged more support for growth through monetary policy and fiscal stimulus.
China’s PMI data, a measure of economic activity, is forecast to fall in May but still show expansion. Economists from Barclay’s said they believe that China’s growth will bottom in the second quarter. They also see another major stimulus package as unlikely unless the U.S. economy weakens further.
June 8 is an important date for China. There is a major release of data, including industrial production, inflation data and retail sales.Fed Ahead
The health of the U.S. economy remains in question, as an uneven series of economic reports has markets questioning whether the U.S. is repeating the pattern of last year when it slumped into the summer.
“If you ask me why it’s been a choppy month, it’s been 70 percent Europe; 20 percent China and 10 percent stuff in the U.S. I think the economy is rolling over here. It certainly is not as strong as it was earlier in the year,” said Adam Parker, U.S. equities strategist at Morgan Stanley, said of the stock market selloff.
The U.S. economy, however, is not weakening so much that the Federal Reserve is likely to provide any new easing programs at the June meeting.
Fed officials, themselves, have been making it clear they are not now ready to carry out further policy moves, but they are holding that possibility in reserve. As the June meeting gets closer, many economists believe the Fed will allow its "operation twist" program to expire as planned. "Twist" involves the Fed's purchase of longer dated Treasurys and sale of a similar amount of shorter dated notes, in an effort to keep longer term rates low.
Fed Chairman Ben Bernanke may provide some more clarity when he appears before the Congressional Joint Economic Committee June 7.
The Fed has left the door open for more easing in the event Europe's problems take a turn for the worse and start to send shock waves through global financial markets and the banking system. They also are concerned about what happens later in the year when Congress starts to deal with the "fiscal cliff," the twin pressures of budget cutting and the expiration of tax breaks.
"Assuming Greece doesn't fall apart right before the meeting, I think they hold policy unchanged. Twist just goes away," said Zandi. "If the jobs number is weaker than I'm anticipating, that changes my narrative about what's happening in the job market, and the European situation feels like it's uneven and not coming together, then there's a good chance they'd do another round."Some Key Dates for June
June 1 - U.S. May employment report, China PMI
June 6 - European Central Bank rates meeting
June 7 - Fed Chairman Ben Bernanke Congressional testimony
June 8 - China economic releases
June 17 - Greek election
June 18/19 - G-20 in Mexico
June 19/20 - FOMC Meeting
June 28/29 - European leaders summit
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