In Between Days: Super Friends Conference Call

by CC September 13, 2011 11:33 pm • Commentary

Tomorrow’s Tape: This Is a Call


  • 7:00 a.m. ET: We get MBA mortgage-application data for the week. Perhaps dozens of Americans qualified for mortgages last week.
  • 8:30 a.m.: We get retail sales data for August. How much did stocking up for the hurricane lift sales?
  • 8:30 a.m.: We also get producer prices, if anybody cares. They’re expected to fall after a rise in July.
  • 1:00 p.m.: Treasury slings some 30-year bonds your way.


  • Pall reports after the bell.

FedSpeak/Euro Foolishness:

  • The Conference Call to Save The World, between Angela Merkel, Nicolas Sarkozy and George Papandreou, will take place.


PARIS — Facing market pressure to resolve the Greek debt crisisonce and for all, President Nicolas Sarkozy of France and Chancellor Angela Merkel of Germany will hold a video conference call Wednesday evening with the embattled Greek prime minister, George Papandreou, French officials announced on Tuesday.

The announcement could portend yet another restructuring of Greek debt to stave off a default. A stopgap bailout plan announced on July 21 has yet to be approved by all 17 nations that share the euro currency, and in recent weeks a renewed sense of crisis has engulfed the euro region.

In the latest sign of turmoil, Italy — the euro region’s most indebted member, after Greece — was forced to pay record-high interest rates in order to complete an auction of its five-year bonds on Tuesday, despite continuing purchases by the European Central Bank. Spain, which plans a bond sale on Wednesday, could be subjected to similar investor wariness.

Dr. Ed

October should provide a very interesting Q3 earnings season. We have been very bullish on the past nine earnings seasons. We have our concerns about the tenth one. We won’t be surprised if there are more negative earnings surprises this time and lots of cautious guidance about Q4’s outlook. The biggest negative is likely to be that sales and earnings in Europe slowed significantly during the quarter, and are likely to worsen over the rest of the year.
US domestic sales and earnings could also be disappointing given the weakness in all the Fed and ISM surveys of business during July and August. There is a strong correlation between S&P 500 operating earnings on a year-over-year basis and the ISM purchasing managers index (PMI) for manufacturing. This index dropped from the most recent cyclical high of 61.4 during February to 50.6 during August. This suggests that the year-over-year growth rate in S&P 500 operating earnings is heading towards zero, unless there is a surprising rebound in the PMI over the rest of the year.

S&P 500 operating earnings was $24.85 per share during Q2, up 18.9% y/y. Industry analysts are currently forecasting $25.04 for Q3, which would be up 15.1% y/y. They expect earnings to be up 15.1% during Q4 and 13.7% during all of next year. Again, these forecasts are likely to be too optimistic if purchasing managers indexes remain subdued in the US and if European economies remain depressed. We are predicting that earnings will be up only 5.3% next year.


“The difference between investing in Emerging Markets equities, Developed Markets equities, and High Yield bonds is now effectively zero.”

That’s from a short note out today by ConvergEx, which shows that correlations among US stocks have hit their highest point since the financial crisis.

The correlations we note among industry sectors are profoundly and dysfunctionally high. They come, in my opinion, from the underlying concern over asecond financial crisis caused by the default of Greek or other European sovereign debt and the resulting stress caused to the financial system. The only reason itwon’t matter whether you own utility stocks or tech stocks or health care stocks is if the world’s major banks can’t open for business the next day.

Stock markets around the world, but especially in the U.S. and Europe, are trying to fine tune this existential calculus. If there is a 5% chance of a Greek default, then where should stocks trade? OK… Now how about 10%? Now 20%? Now back to 5%? Now what if U.S. banks need another bailout because their counterparty exposure is higher than we think? You get the idea.

Markets are trying to discount the survival rate of another cross-border financial pandemic. That is why they move in lock step.

Gold and silver traders have gotten too used to the negative correlation trade with stocks. This is, in fact, an unusual relationship for precious metals tostocks. The correlation should actually be zero. You can begin to hear the frustration in traders’ voices on days like Monday, when gold doesn’t rally on a drop inthe market. Here’s a news flash: it is not supposed to move opposite to stocks. It is only supposed to move independently of them.

The stability of high quality bonds (we use the iShares iBoxx Investment Grade Corp ETF, symbol LQD, to track this asset class) in a tumultuous periodhas been unexpected and frankly impressive. Investment grade bonds are still up over 4% on the year, and their correlation to stocks is negative 24%. Not as inversely related as the precious metals stats I noted above, but far better than the 89% correlation to stocks exhibited by High Yield Bonds.


A Greek default has already occurred in the eyes of investors, even though it technically hasn’t happened yet. The market is now forcing European leaders to quickly decide how they want the rest of the sovereign debt crisis to play out. While the technical default of Greece — inevitable as it is —  took around 18 months, similar defaults in other peripheral eurozone members will probably come much faster.

A lack of leadership on the part of the core members of the eurozone, namely Germany, could very well bring a swift end to the common currency, setting off an economic meltdown that few would want to imagine. The time has now come for Europeans to either move much closer or break apart.

Tomorrow is the deadline for owners of Greek debt to agree to a haircut on their debt by extending the repayment schedule out a few years. The plan required 90% of existing bondholders to sign on to the plan. But traders say that only 50% to 70% have signed on, complicating Greece’s attempts to head off a default.

The restructuring of Greek debt may still occur by the deadline, but the market seems to be fed up with all the dancing around. Even if Greece is able to convince debt holders to effectively take a large haircut on their debt, the country would still ultimately have to pay back, or refinance, 135 billion euro by 2020. To do that, Greece needs to take in more money than it spends – a lot more money.

That will be a problem, considering that all the austerity cuts the government has been forced to make have decimated Greece’s fragile economy. The country’s GDP contracted 7.3% in the second quarter of the year, far worse than expected. The resulting decrease in tax revenue caused the country’s budget deficit to widen to around 10% of GDP. Greece would need to run a primary surplus of around 5% of GDP to stabilize its debt burden at 180% of GDP by 2014 and would have to run almost a 9% primary surplus to reduce its debt to 90% by 2031, according to Citigroup.