Oxen Outlook: China and Europe Show True Colors, Commodities Ready To Correct
The market followed through from last week with another move to the upside on Monday. Markets were still bullish after solid jobs data last week. Further, the markets appeared excited for quarterly earnings season. The murmurs on the Street are that the season will be a good one as expectations have been lowered by sequester and QE taper talk. That season started last night with the kickoff of Alcoa (AA) earnings. The company reported decent earnings with a 0.07 EPS and slight revenue beat, but those sales did drop nearly 2% year/year. The company did decrease their volumes outlook, mostly in North America. Yet, the small beat has the markets somewhat excited.
The only domestic report this morning was the small business optimism report for June, which came in at 93.5 versus expectations of 94.9. That miss will not derail the market by any means, but it could have a negative effect, generally, on some of the small-cap ETFs, such as the iShares Russell 2000 Index (IWM). The report showed that the landscape for small businesses remains weak. Earnings trend continued to decline for these owners as their demand remains scarce. Additionally, the report showed that small business owners are marking up prices. The percentage of owners raising prices jumped to 8% and 18% now believe they will raise prices in the next few months. Both of those numbers were up 6 points and 3 points, respectively. One positive was that the index showed that 7% of small business owners expect to make new hires. Yet, actual hires remained negative. Despite the positive jobs numbers, the picture in small businesses remains bleak, which is the backbone of the USA. We are definitely somewhat worried by this report. At the same time, the report is drastically higher than at its recession, and we are optimistic that the 2H of 2013 could see a rebound for small businesses as they tend to be the last area to show growth and stabilization out of weak economic periods.
Given the chart on the S&P 500 (SPY), the market tends to look like we are nearing a near-term resistance, which makes sense heading into the Wednesday FOMC Minutes. The 165 line is a key resistance area, and we were not able to breakout of a downward channel that formed since the May highs. Even with upside today, it is hard to expect a break of the 165 line. On the Dow Jones (DIA), we are seeing a fairly similar situation. 15250 is key resistance as you can see and we did not blast out of a downward resistance line there either. It is hard to expect a major break of this resistance area as well before the Minutes and Fed attention. We would expect that a 50-60 point upside for Tuesday is the most we can see on the Dow based on this chart.
Foreign markets were moving quite positively on Tuesday after following through on solid American markets, Alcoa earnings, and another lifeline to save Greece from going bankrupt. Despite some weak data from both Asia and Europe, nearly every market in both regions was moving higher. The EU and IMF agreed to give Greece another 6.8 billion euro loan, under the 8.1B rate. They chose a smaller rate due to the country’s lack of stricter public sector reforms. The deal was needed to help Greece pay 2.2B in bonds this August. The situation in Greece is a managed crisis still, and it has been swept under the rug with the issues with the Fed. The country has nearly 200% of GDP in debt, and the country continues to need lifelines to pay bonds. If those bonds are defaulted, it has serious implication for the market that could create quite a negative disaster for the market.
In Asia, the Chinese Consumer Price Index saw a 2.7% rise year/year, which was higher than the 2.5% expected. The PPI for China dropped 2.7%. The trend shows expanding margins for the country’s companies and a lot of costs being passed onto consumers. Yet, these rates are their lowest for inflation since 2009 and underscore a continued trend in China – the slowdown is here in growth. While the country is still expanding at phenomenal rates, the government has restricted the flow of capital and made expansion measures more difficult. Yet, those moves were taken to help steer a ship that the government felt was running away from them. Chinese stocks were rallying, though, on Tuesday despite the news. Most Asian markets followed American markets while China only rallied slightly. The country and ETFs like iShares China (FXI) will continue to be held in check by issues around its current growth problems.
Gold continues its resurgence while oil has stalled after hitting yearly highs. Gold (GLD) is rallying again on Tuesday on the back of some likely short coverings. After Friday’s job report came out stronger, it suggested that taper is more likely, which is a negative for gold. The move would strengthen the dollar as well as make bonds more attractive in relation to gold for yield. The outflow of gold has continued strongly in the face of this development, but it was able to hold the key 1200 level. The price of gold dropped over 20% in Q2, and we are starting to likely see a potential bottom in gold. The short-term move, though, up has been just that short-term. With QE taper news likely to be the main topic on Wednesday, we would expect a reversal of gold prices on Wednesday into the end of the week. As interest rates rise, ETFs and physical gold holdings outflow.
For oil, most of the rise over $100 per barrel was due to unrest in Egypt last week due to a split between Egypt and security forces versus president Mohammed Morsi and Islamist supporters. The unrest is important because Egypt controls the Suez Canal, which is a main shipping line for oil. With unrest, it brings into question how that Canal will be operated as well as will it bring future problems. A lot of production issues have been offset by the US production rise, but it is still not enough to quell fear. The Egyptian situation has quieted but not been resolved. With additional support to prices coming from the fact that jobs data has been strong and encourages demand, prices have stayed fairly stable as of late. Taper talk, though, could bring oil prices back down to close out the week. For similar reasons to gold, a stronger dollar is a negative on crude prices. Key crude inventory data will be important tomorrow as well. If inventories drop significantly, it could confirm fears. If they stay high, though, it would also be a reason for oil to drop. We see more negatives coming into the picture than positives to end the week and likely will see oil pull back some more unless things change in Egypt or Libya. Look for ETFs like United States Oil (USO) and Market Vectors Oil Services (OIH) drop some.