The month of July started with global economic indicators continuing to weaken, and the markets still looking for another shot of economic stimulus from the Fed.  The early part of the holiday-shortened 1st week of the month was met with very low trading volume while the market gravitated higher in the face of a poor Institute of Supply Management (ISM) manufacturing report. After the July 4th holiday, news broke that the European Central Bank lowered its benchmark interest rate by .25%, the Bank of England expanded its money printing by $50 billion, and China’s central bank lowered its benchmark interest rate to try to boost its languishing economy.  The week ended with a weaker than expected jobs number out of the US, but more importantly, we learned that the shelf life of European bank promises is now one week.  During the last week of June, the European politicians pieced together a “plan” that boosted stocks and lowered Spanish and Italian borrowing costs.  By the end of the first week of July, Spanish borrowing costs were back to pre-European summit levels and many European nations began poking holes in the latest salvo plan.  Keep in mind none of the above are positive economic bits of news. But, as we have seen, bad economic news is pushing stocks higher with investors hoping that bad economic news will bring more central bank economic stimulus.

The second week of July consisted of a long shadow being cast over the markets by the LIBOR interest rate scandal emanating out of Europe. As if the Wall Street bank types do not have enough problems- reports broke that futures broker PFG Best was being looked at for absconding $200 million (or more) in customer money.  The Commodities and Futures Trading Commission (CFTC) responded by filing a lawsuit against PFG over missing client funds.  As we have said many times, record low interest rates causes market distortions and unusual risk taking. Is it a coincidence that Wall Street firms like MF Global, JP Morgan, Wells Fargo and PFG Best are getting caught taking too much risk and cheating? Is it a coincidence that Barclay’s bank, and others, were caught manipulating interest rates lower to enhance their high risk bets? Is it a wonder that JP Morgan has made falsified profit reports? Is it a wonder that the notional value of global derivative investments has grown from $100 trillion in 2006 to over $700 trillion today? Low interest rates are making banks risk crazy.

Rather than using hope as an investment strategy, we look to have a more sober approach to investing by staying focused on the extraordinary level and number of risks to your capital.  We have purposefully done our best to avoid investing our clients’ funds in the global “too big to fail” banks and other Wall Street names, and will continue to do so.  The last economic problem (2007) centered on financial engineering gone wrong, and the problems are now worse.  Avoiding financial stocks is still a wise choice in our estimation.

The following week was quite busy with global economic news.  We had the Philly Fed Purchasing Managers Index (PMI) come in much weaker than expected, initial claims for unemployment in the US soared higher, and the Federal Reserve admitted to knowledge of the manipulation of the LIBOR rate that is the current banking scandal.  It had been our opinion that the manipulation of the LIBOR rate was going to go further than just Barclays bank in England.  We also saw significant retail sales numbers come in lower than expected.  It is important to remember that 70% of the US economy is consumerism, and if retail sales are weakening, than it is a reflection of the overall economy.  As we’ve seen lately, Friday of this week was a market selloff day.  Many professional traders are not willing to hold risk assets through weekends when anything could happen in the European drama.  Spanish and Italian bond yields began rising above 7% and 6% respectively on news that Greece is getting closer to the end of the IMF’s patience, and the debt hole in Spain is growing.

The markets finished the month with a solid week on the back of rumors from the Wall Street Journal of pending Federal Reserve actions, and more “talk” from European Central Bank leader Mario Draghi.  As has been the case for the last few months, the economic indicators continue to be sluggish and the overwhelming majority of US companies are forecasting a cooling global economy. It is blatantly obvious that the markets are starving for stimulus as they continue to snap up and down on rumors and hope.

“The Fed will be a presence in the Treasury market for a long, long, long time. Some believe that, with another round of quantitative easing, we move forward, emerge from the morass, and the need for further intervention will dissipate. But the Fed is really the only natural buyer of Treasuries anymore. It will have to continue to monetize Treasury issuance at the same time all the other major developed economies—from the Bank of Japan to the Bank of England to the European Central Bank—are doing the same. Pursue that to its natural conclusion, and you see the inevitable demise of fiat money. To look at our policies and not be concerned about the risks to our currency would be dangerously naive.”

– Stephanie Pomboy, Founder of MacroMavens Economic Research

The above quote is from a recent Barrons magazine interview with Stephanie Pomboy.  Ms. Pomboy is one of those analysts that we do not see and hear much from in the mainstream press, but she has been very accurate with her analysis over the years. We share her bottom line concern that the current policies and debt trajectories are threatening the stability of the US dollar.  It has been a while since we pointed to it, but the race to the bottom in the currency war is still alive and well. As the global economy slows, countries around the world will look to give their businesses an upper hand by weakening their currencies at the same time. A fast and furious way to weaken a currency is producing more of said currency.

The problem we have in the US is that other countries are backing away from buying our debt. Prior to the 2008 market crash, foreigners were buying up to 80% of the US Treasuries issuance. Today, foreigners are buying 25% of the US Treasuries issuance. This means the Fed is buying an awful lot of US Treasury issues to fill the void. So, as Ms. Pomboy indicates, if central banks around the world have to keep printing money to buy up their host nation’s debts (happening now more and more), currencies are going to get trashed. This is exactly why we believe protecting purchasing power has to be part of our investment strategy.

In conclusion, the stock markets are obviously ignoring the very poor economic fundamentals for now.  The last two times we had such a large divergence between stock market movements and economic fundamentals was early 2000 and late 2007.  If you recall, both of those previous periods were followed by stocks catching up (actually, catching down) to the economic fundamentals.   While the global economic data continues to disappoint, Europe continues to fall deeper into a debt spiral, and companies continue to issue less than favorable outlooks, we remain cautious until the rumors of more economic stimulus from the global central banks become reality.  The uglier the economy gets, the more likely we are to see some more stimulus.  The problem is the stock market moving up on bad economic news (as crazy as it seems) makes it harder for the Fed to be the stimulus provider.  The reality is a market moving stimulus is going to have to come from the Fed, the European Central Bank, or maybe China.  We continue to monitor the news flow from the global central banks.

Do you have an investment strategy that seeks to protect your portfolio against volatile economic conditions?  Call me to schedule a free review of your current investment portfolio – 913.402.6099.

John P. Chladek, MBA, CFP® is the President of Chladek Wealth Management, LLC, a fee-only financial planning and investment management firm specializing in helping families and couples who are not yet retired realize their financial goals.  For more information, visit https://www.chladekwealth.com.

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