Job Drought, Greece Wipe Out 2012 Gains
Allianz Global Investors
By Kristina Hooper
June 4, 2012
A shortage of new jobs and uncertainty over Greece’s fate took points off the board.
The stock market, which showed signs of resilience the previous week in the face of the euro-zone crisis, finally capitulated under the pressure of a dismal jobs report. The Dow Jones Industrial Average dropped 2.7%, erasing all of this year’s gains and putting its year-to-date return in negative territory. The S&P 500 fell 3% and small caps and tech both fell even further. Perhaps the most telling sign of fear was the 10-year Treasury yield, which sank to a historic low of 1.467%. And while crude oil dropped more than 8%, gold finally broke its losing streak as investors flocked to the perceived “safety” of the yellow metal.
The U.S. employment report dominated headlines and put investors on watch for further threats to the recovery. The economy added just 69,000 jobs in May, well below expectations of approximately 150,000 new jobs. The latest labor market report was clearly disappointing, but what was even more damaging was the downward revision of last month’s nonfarm payrolls to just 77,000. Meanwhile, the unemployment rate rose for the first time this year, edging up to 8.2%. Initial jobless claims were slightly higher than expected at 383,000, although still well below the key 400,000 threshold. In addition, consumer confidence came in well below expectations at 64.9 versus expectations of 70. The disappointing data are definitely cause for concern.
Manufacturing activity was also weaker, with the headline ISM number coming in at 53.5. However, manufacturing activity remains well above 50, which suggests economic expansion. Specifically, new orders have increased, which is an important indicator that the economy continues to grow.
In Europe, the news wasn’t all bad: Ireland approved the European Union’s fiscal compact, which needs to be ratified by a majority of countries in the EU. The referendum to adopt the fiscal pact was actually approved by a wide margin—a 60-40 majority vote.
The treaty is intended to be a key step toward greater fiscal integration among EU countries. It imposes strict austerity measures such as maintaining budget deficits to 3% or less of gross domestic product and placing caps on the amount of government debt that can be issued. However, only a few of the 25 countries that signed the agreement six months ago have actually ratified it. Ireland’s adoption of the referendum is a sure sign of progress.
Unfortunately, the good news in Ireland was not enough to counter worries about the escalating banking problems in Spain. The critical issue is that there is little transparency or understanding of exactly what the liabilities are. At the same time, the amount of capital needed to shore up bad debt keeps growing. Adding to Spain's fiscal troubles are skyrocketing borrowing costs.
At home, as long as the U.S. savings rate, which currently stands at 3.4%, continues to decline, the downside risk to economic growth is limited. In addition, the substantial drop in the price of oil should also help boost the economy. We maintain the view that the United States will achieve 2% economic growth this year. As such, unless the European Monetary Union situation escalates, no new quantitative easing is expected. In fact, Dallas Federal Reserve President Richard Fisher suggested last week that the crisis in Europe has done the work of QE3 by driving U.S. long-term interest rates down to their lowest level in history.
Looking ahead, this week should be relatively quiet as the market braces for Greece’s June 17 election. The outcome is likely to have a significant impact on its future and the direction of global markets in the short term.
Benjamin Franklin once said, “Creditors have much better memories than debtors.” We will all be waiting with bated breath to see whether Greece will stay in the EU—and agree to its economic terms—or if the insolvent island nation will continue to be plagued by amnesia.
Kristina Hooper, CFP®, CIMA®, is head of portfolio strategies at Allianz Global Investors Distributors LLC.
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