01/16/13   The Debt Ceiling Is Real

Editor’s Corner

Ron Rowland

Debt ceiling negotiations are setting up to be another dramatic showdown.  Last week, we mentioned the $1 trillion coin ploy was receiving serious attention.  So much, it turns out, that over the weekend the U.S. Treasury and Federal Reserve felt compelled to announce they wouldn’t pursue a plan to mint such a coin as a device to avoid the debt ceiling.  The debt ceiling is real, and neither the Treasury nor the Fed want to participate in trying to resolve the issue with coin tricks.  Analysts now peg the last half of February as the most likely time the ceiling will be hit.

Both sides of the aisle are already pointing fingers and laying the groundwork to place blame on the other party for any negative consequences.  Democrats within the House of Representatives are proposing a plan to eliminate the debt ceiling altogether, presumably so that no further time and energy is wasted on this self-imposed limit.  Republicans insist that spending cuts need to be made.  The President says he will not negotiate, which could be interpreted as intent to use his Executive Order powers to avoid hitting the ceiling.  Today, he practiced those powers by issuing 23 Executive Orders concerning gun control.

Fitch Ratings has warned of a possible downgrade, even if the U.S. does not default on its debt obligations.  The major credit rating firm said that prioritizing debt payments over other obligations will not prevent a downgrade.  The real problem, said David Riley, Fitch’s head of sovereign ratings, is that an additional “self-inflicted crisis will put into question the predictability and reliability of our policy making when it comes to fiscal policy.”

The Fed released its latest Beige Book of economic activity today.  The economy continues to expand with some improvements in real estate, auto sales, and other consumer consumption.  However, there were many cautionary notes including long-term structural unemployment and concerns about the fiscal cliff negotiations from both consumers and businesses.

Meanwhile, stocks continue to trend upward from their late-December pullback.  Boeing (BA) shares have become quite volatile lately as technical problems are causing much of its new Dreamliner 787 fleet to be grounded.  Boeing’s earnings release and conference call is scheduled for January 30, so company officials have two weeks to get to the heart of the problem and determine the impact to future earnings.

Investor Heat Map: 1/16/13

Sectors

Our top four sectors have remained unchanged so far in 2013.  Financials and Materials maintained their virtual tie and their identical scores from a week ago, prompting us to verify our data had actually been updated.  Industrials and Consumer Discretionary are posting stronger momentum this week, helping them hold on to the third and fourth spots.  Retailers slumped in late December but have bounced back to new four-month highs, helping keep the Consumer Discretionary sector in contention.  There is minor shuffling among the mid and lower tier sectors.  Health Care jumped ahead of Real Estate, while Energy climbed a notch to seventh.  Consumer Staples gained two positions, as both Telecom and Technology fell.  Apple (AAPL) has been the Tech darling for a number of years, but its decline from above $700 to below $500 has been weighing on the sector the past few months.  Utilities repeats as our last place occupant, and the large spread between it and the top-ranked categories suggests that market correlations are not all that high on a sector basis.

Styles

Unlike the wide dispersion of results seen in the Sector rankings, the Style rankings are much more compressed.  This is especially true across the top eight Style categories.  If you are looking for changes in the relative rankings you won’t find any this week.  All eleven categories are in the same order.  Large Cap Value showed the most improvement in momentum, raising its score four points to 28.  Small Cap Value and Micro Cap were the only two to reduce their scores, each shedding one point.  The rankings show that Small Caps continue to provide the upside leadership.  The Mid Caps are also quite strong, and the performance gap between them and their Small Cap counterparts is starting to blur.  Large Caps remain the laggards, with Mega Cap on the bottom.

Global

China and Europe continue to provide Global leadership.  Europe posted better one-week performance than China, allowing it to shorten the distance between the two.  EAFE climbed a couple of notches to fourth place as developed markets gained more than their emerging counterparts.  Japan resumed its climb, jumping from seventh to fourth, after its setback the prior week.  Currency declines provide headwinds for international stocks held by U.S. dollar based investors.  The yen has dropped about 12% the past few months, providing a large hurdle for funds investing in Japanese stocks.  The WisdomTree Japan Hedged Equity ETF (DXJ) hedges out the effects of yen conversion, and indeed, its recent performance is about 12% better than that of traditional Japanese funds.  If DXJ were used in our momentum calculations, then Japan would be listed in second place.  The middle of the pack now consists of Latin America, Pacific ex-Japan, Emerging Markets, and World Equity.  One thing the three laggards have in common is the English language.  Probably just a coincidence, but the U.K., U.S., and Canada are bringing up the rear.

 

Note:

The charts above depict both the relative strength and absolute strength of various market sectors, styles, and geographic locations on an intermediate-term basis. Each grouping is sorted (top to bottom) by relative strength. The magnitude of the displayed RSM value is a measure of absolute strength, which is our proprietary method of measuring and reporting the intermediate-term strength as an annualized value.

 


“Living hand to mouth based on robbing Peter to pay Paul…that’s not what we associate with a triple-A rate government.”

David Riley, head of Fitch’s sovereign-rating team, 1/15/13


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