Thoughts From Joe - February 15, 2013

Top Eight

1. “Merger February” continued this week.  The Berkshire/3G, Heinz deal marks the fifth deal north of $10 billion this month.  Cash is plentiful and capital investment opportunities are not.  We are now in our fifth year that cash balances are earning far less than 1 percent with little relief in sight.  Given a continued weak recovery, managers are more focused on buying growth rather than building it.
2. Growth in Europe turns decidedly negative in Q4.  Growth in the 17-nation euro currency zone was 0.6 percent in the fourth quarter with Germany matching that result.  Data thus far in 2013, however, have been more encouraging.  Since Draghi’s promise last summer to “do whatever it takes” to support the euro, crisis headlines seem to have faded.  However, there have been no underlying changes in the zone’s economy that would lead to any sort of recovery.  I would expect European crisis headlines to reemerge later this year.
3. January retail sales growth was slight, but remains positive in the face of payroll tax.  The 0.1 percent increase came after 3.7 percent growth in the second half of last year.  The fact the consumer was able to eek out a gain after losing 2 percent of their income in January is a definite positive.
4. The high yield debt market is capturing the Fed’s attention as they attempt to push forward an economic recovery. Junk debt is now trading below the 10-year average for investment grade debt as the Fed has squished the yield curve downward.  Fed Governor Jeremy Stein warned this week that the high yield market may be overheating.  Isn’t this the goal of stimulus: to artificially support prices to encourage real, private sector activity underneath?
5. A budget surplus in the U.S.? For the first time in five years, the U.S. budget posted a monthly surplus in Ja悘䲴鿍䑤왔.  The $3 billion net increase resulted primarily from the expiration of payroll tax cuts which added $9 billion to government coffers.  There are tremendous monthly fluctuations in the U.S. budget given how taxes are collected and expenditures recorded.  But I wonder was your first reaction to this headline: “Great!  How can we spend it?”  Then perhaps you aren’t fit for Congress.
6. President Obama’s state of the union address calls for a more active government role in the economy. Among the recommendations were a 24 percent increase in the minimum wage, “manufacturing-innovation institutes,” and increased investment in clean energy.  Corporate balance sheets have recovered.  Bank balance sheets have recovered.  Even consumer balance sheets are recovering.  The only barrier left is some agreement in Washington on the basic rules of business as pursued in the ACA and DFA as well as some progress on the country’s fiscal woes.  Will we get political agreement this year?
7. Large developed nations promise not to engage in a “currency war.”  The G7 and G20 issued statements this week in favor of market-set exchange rates instead of a currency war where central banks lower the value of their currency in order to gain export business.  Currency movements are primarily an afterthought for central bankers – especially in times of stress like today.  Exports simply don’t make up enough of a country’s economy to drive monetary policy.  These discussions will fade quickly. 
8. Federal Reserve governors push for additional money market reforms.  There was a unanimous push for further reform by the twelve Federal Reserve governors last week with the underlying message that a floating NAV is the preferred solution.  Floating or “variable” NAV pricing is coming to the money fund world, but not likely soon.  We remain mired in the “risk-stating” phase of money market reform as regulators continue to wear down market participants who desire no change to NAV structures.  The next phase is “intended consequence analysis” to be followed by “unintended consequence analysis” and “resolution path proposal.”  I would look for reforms to be implemented in mid- to late-2014.

Key Indices

Source: Bloomberg

Looking Ahead

• Economic data next week focuses on housing and inflation.
• Earnings releases next week include:
  • Tuesday: Medtronic, Dell, Millennial Media
  • Wednesday:  Solazyme
  • Thursday: Hewlett-Packard, Intuit, Aruba Networks
  • Friday: Onyx Pharmaceuticals
• There is no scheduled IPO activity for next week.