Early economic indicators position 2013 as year of rebuilding
Financial markets around the world may have their work cut out for them this year, but it is already clear as we start the second quarter that 2013 is a year of rebuilding and refocusing.
With fiscal cliff talks off the table for the moment, the United States is in a rebuilding mode, thanks to spending cuts and tax increases geared at balancing the budget. Some of the country’s challenges and opportunities include the following:
Effects of sequestration
- The government has invoked sequestration, a series of government spending cuts aimed at shaving the federal budget by $85 million this year.
- Lighter paychecks and a 2% payroll tax increase are being felt by average Americans as well as by businesses ranging from retailers to restaurants.
- Household purchases grew 0.2% in January, with employment gains and demand for housing and cars helping to boost spending.
- Sales of existing homes have expanded to bolster the housing market recovery, while low inventories of homes for sale combined with appealing interest rates have boosted the housing market.
It will be interesting to see how sequestration plays out. Cutting the $1 trillion annual budget deficit is a wise move to address an unsustainable imbalance. But shorter term, spending cuts and tax increases could weigh on the recovery.
World income markets still struggling
The eurozone is not alone in its ongoing struggles. Britain, Germany, and Japan are facing their own issues so far this year:
- Unemployment is close to 27% in Greece and Spain, while France lost its triple-A bond rating late last year and may not hit its deficit reduction target this year.
- The United Kingdom also lost its triple-A rating, and Britain’s debt as a percentage of gross domestic product is expected to climb to 98% next year – up 8% from last year.
- Japan’s new and aggressive monetary policy measures designed to stimulate the economy have pushed the yen lower and the Nikkei stock market index higher. In the first three months of 2013, the yen has declined more than 10% against the euro while the Nikkei has outpaced the German DAX by a similar margin.
- Germany’s ability to sell within the eurozone is limited while the robust euro is hindering all European countries’ exporters.
I predict that eurozone equity markets will have a difficult time beating the S&P 500 in local currency without the help of a sliding euro. Just how low the euro falls will depend on policymakers’ comfort with the prospect of heightened inflation.
Stock market has winners and losers
So far this year, health care and consumer staples are leading stock market gains, each advancing more than 9% for the year. Trailing the pack, though, are basic materials and technology:
- The Dow Jones Industrial Average edged ever higher in February and on March 5 reached a new high of 14,253, while blue chips have picked up more than 6% and all 10 economic sector groups are participating.
- U.S. equities are fairly priced using traditional measures such as price-to-earnings and price-to-sales ratios, though stocks look relatively inexpensive relative to opportunities in bonds.
- Commodities have flatlined in the last two quarters, and emerging foreign market equities are flat for the year.
Secular shift fuels discussion
Investors are starting to wonder if the most recent doubling of the market since March 2009 represents a secular shift toward a long-term bull market. Yet history has shown that the shift from short-term fixes to the righting of long-term imbalances helps pave the way for a new secular trend.
Now that the Dow and the S&P are within striking distance of their all-time highs, the question of whether or not this is a secular bull market is getting more attention. The U.S. is not yet ready for a secular shift to a long-term bull market phase. When most investors swear off the stock market, we may know that the seeds have been sown for structural reform and another secular bull market, one that delivers strong long-term returns and expanding price-earnings ratios for the next 15 to 20 years.
John S. Benjamin is vice president/regional director of investments at BMO Private Bank, Madison.
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