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Economy Needs Time to Heal


Renewed recession fears informed last week's action.

The past week witnessed a turnaround in sentiment as renewed recession fears dominated investors' actions. Stock markets across the globe were subjected to selling pressure, while credit spreads scaled new highs. "What the market giveth [the previous week], it also taketh away [last week]," was's very apt explanation of events.

A particularly weak ISM Services report and the specter of bond insurer downgrades further reignited recession concerns, and reminded pundits of the words of Lily Tomlin, the American comedian: "Things are going to get a lot worse before they are going to get worse."

Randall Forsythe of Barron's offered the following description of the situation: "The Mardi Gras that's lasted four decades for the American consumer is drawing to an end, if it is not already over. After Fat Tuesday comes Ash Wednesday, the beginning of Lent, a 40-day period of fasting, self-examination and renewal for Christians, analogous to Ramadan for Muslims or Yom Kippur for Jews. Lower interest rates are a palliative, not a cure, for the economy's woes. Time is the only healer. Economists call that time a recession, and it can no longer be avoided."

Let's briefly review the financial markets' movements on the basis of economic statistics and a performance chart.


The Bank of England, or BOE, cut interest rates to 5.25% and the European Central Bank, or ECB held rates steady at 4.0% as expected, but some dovish talk from the ECB's Trichet raised expectations that the ECB will eventually join the BOE and Fed in cutting rates.

In addition to the ISM Non-Manufacturing Index registering its first contraction in 58 months, other measures indicating a slowing U.S. economy included the ABC News/Washington Post Consumer Comfort Index falling sharply to its lowest level in 14 years; the weakest January chain-store sales result on record since 1970; and pending home sales pointing to a continued drop in sales of existing homes.

In other developments, the U.S. Congress passed a $168 billion fiscal stimulus bill that will be signed into law in the coming week.

Here are the week's economic reports from Yahoo Finance, February 8, 2008.

In addition to Ben Bernanke's testimony on Thursday, the next week's economic highlights, courtesy of Northern Trust, include the following:

1. Retail Sales (February 13): Auto sales fell to 15.2 million units in January after a 16.3 million sales mark in December. Non-auto retail sales have been lackluster. Based on this information, retail sales should be posting a drop in January (-0.3%). Also, lower prices for gasoline should add to the already expected weak headline. Consensus: -0.3% versus -0.4% in December; non-auto retail sales: 0.2% versus -0.4% in December.

2. International Trade (February 14): Based on the advance estimate of fourth-quarter GDP, a widening of the trade gap to $65 billion is expected for December versus $63.1 billion in November. Consensus: $61.6 billion.

3. Industrial Production (February 15): The unchanged manufacturing man-hours index for January points to a steady industrial production headline. With production at the nation's utilities having been nearly steady for three straight months, this component could tip the overall reading. However, factory production is not likely to add to the headline. The operating rate is projected to show no change. Consensus: +0.1%; Capacity Utilization: 81.4 versus 81.4 in December.

4. Other reports: Business Inventories (February 13), and University of Michigan Consumer Sentiment Index and Import Prices (February 15).


The performance chart obtained from The Wall Street Journal Online indicates how different global markets fared during the past week.

Click to enlarge
Source: Wall Street Journal Online, February 10, 2008.


The stock market indexes throughout the world suffered sharp losses during the past week on the back of economic worries and poor earnings reports, and essentially gave back the prior week's gains. The MSCI World Index declined by 4.5%, the FTSE Eurofirst 300 Index by 3.8%, the FTSE 100 Index by 4.1% and the Nikkei 225 Average by 3.6%.

The major U.S. stock market indexes all dropped by more than 4% over the week, with the financial sector and REIT stocks plummeting 8.6% and 7.2% respectively. On Tuesday alone, subsequent to the announcement of the weak service sector data, the Dow Jones Index dropped by 370 points – the twelfth largest points decline in history.

Much of Asia was saved from the week's sell-off as a result of their markets being closed for the Lunar New Year Holiday.


US government bonds experienced a particularly volatile week. The yield on the 10-year Treasury Note recorded its biggest one-day rise since 2004 on Thursday as a Treasury auction disappointed, with potential bidders balking at the low yield being offered for 30-year paper.

Although the US 10-year and 30-year yields closed the week 5 and 12 basis points higher respectively, the two-year yield declined significantly by 16 basis points on expectations of lower interest rates. This resulted in a gap of 172 basis points between two- and 10-year yields – the widest since September 2004.

The yields of short-dated bonds in Europe and the UK also declined markedly.


The US Dollar Index gained 0.7% during the week, leading analysts to conclude that a large proportion of the bad news about the U.S. economy had already been discounted by the reserve currency.

The euro, on the other hand, came under selling pressure as a survey suggested a significant slowing down of the Eurozone's services sector, and ECB chief Trichet raised hopes of interest rate cuts in due course. The end result saw the single currency experiencing its biggest decline in one-and-a-half years against the US dollar.

Whereas most major and minor currencies declined against the U.S. dollar, it was the South African rand that put in the weakest performance with a loss of 5.8% over the week. Concerns mounted about the implications of the country's power problems for economic growth and the funding of its ballooning current account deficit.


The commodity complex was the star performer of the past week with the Dow Jones AIG Commodity Index recording a gain of 3.8%.

Supply concerns resulted in a strong week for agricultural commodities, with wheat, corn and soybean prices all hitting new highs.

Platinum jumped by 7% to a record high of $1 875 as investors remained concerned about electricity rationing in South Africa – which represents 80% of world production – adversely affecting global supplies.

Among industrial metals, copper jumped by 6.8% after LMS stocks dropped to their lowest level since November as additional demand emanated from China for repairing power lines and buildings after the recent inclement weather.

Crude oil gained 3.2% on continued supply concerns in Nigeria and the North Sea, as well as cold weather forecasts.

A week including both options expiration and Valentine's Day promises something to look forward to.

A Wobbly U.S. Economy

Source: Barry Ritholtz's Big Picture

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