What happened to the debt crisis relief rally?

“It is a tale, told by an idiot.  Filled with sound and fury; signifying nothing.” – Macbeth

While Macbeth was referring to life itself, he could very well have been referring to the conclusion of the debt ceiling negotiations.  After all the brinksmanship, hyperbole, and predictions of Armageddon, today’s passage of the debt ceiling hike drew a collective yawn from the stock market.

While pundits attributed the negative stock market action of the past seven days largely to uncertainty surrounding the debt ceiling, day eight’s losses tell another story.  Maybe the market was looking past the sound and fury and noticing the deteriorating economic fundamentals around the globe.  Maybe it was looking at the following:

  • 2Q GDP prints at 1.3%
  • 1Q GDP revised downward to 0.4%
  • PMI came in at 50.9 on expectations of 54.9 (numbers below 50 denote economic contraction)
  • New Orders Index printed at 49.2 — indicating contraction in new orders
  • Personal spending fell 0.2% versus expectations of +0.1%
  • The bond market is pricing for economic contraction, with the 30-year bond breaking the 4% yield like to trade at 3.93%.  10-years now trade at 2.62%.
  • Italian bank stocks continue to tumble as fears of contagion grow.  The two largest banks are down over 20%.  Italian banks hold huge amounts of Italian bonds; and those bond yields have risen to over 6%.  At those levels, the cost of refinancing is/may be prohibitive.
  • The ability for US corporations to continue posting record profits is coming into question.  You can only cut expenses so far before productivity suffers, and slowing GDP is a major headwind.

From a technical perspective, the market is looking damaged as well.  The S&P 500 broke below its 200-day moving average and continues its downward trend.  It is now less than 1/2% from turning negative for the year.

While we take no pleasure in declining equity values, we do welcome the return of fundamentals.  Quantitative easing and the debt crisis have swamped fundamentals since 2009 —  severely (in our opinion) distorting the market’s basic role in price discovery.  When the dust settles we may not particularly like the level at which prices are being discovered, but at least they may be realistic.

The stakes have likely been raised for Friday’s jobs report.  A downside miss on the 90, 000 expected non-farm payroll hiring would be another confirmation of a stalled (if not reversing) economy.