Mixed Market Is Ideal for High-Yield Investing

by Bryan Perry | April 20, 2012 10:42 am

Mixed Market Is Ideal for High-Yield Investing

Major averages fell so far this week by the most since late November, giving back about 5% of the 12% year-to-date gains. Rising Spanish bond yields were considered the primary culprit, although auctions on Tuesday and Thursday fortunately were met with decent demand. But this occurred only after reassuring remarks by the European Central Bank, which committed to backstopping Spain as long as the country keeps on track with austerity measures.

As if the markets needed any more negative headlines out of Europe, the International Monetary Fund reported Thursday that European banks could be forced to curb lending and sell as much as $3.8 trillion in assets through 2013 if governments fall short of their pledges to stem the sovereign debt crisis — or face a shock that their firewall can’t contain. This is fairly ominous, given that the already massive funding of the existing firewall now stands at 800 billion euro.

In a study of 58 banks including BNP Paribas and Deutsche Bank (NYSE:DB[1]), the International Monetary Fund forecast that under such circumstances, GDP in the 17-country Eurozone after two years would drop 1.4% below current expectations. Even in its baseline scenario, the IMF sees banks’ combined balance sheets possibly shrinking by as much as $2.6 trillion. The quandary here is keeping banks lending while raising capital ratios.

Here at home, the market remains mixed. Earnings are generally reporting at or above consensus, but the macroeconomic data points show that 2012 is definitely a front-end loaded year so far. Retail sales have been above average, but manufacturing, housing and labor markets have tapered off.

Here are some data points from March:

Among the economy’s more bullish data points was that inflation (as measured by the Consumer Price Index) eased a touch in March, and CPI came in at 0.3% versus consensus of 0.5%, thanks to energy prices correcting off their highs.

The Conference Board reported today that its Leading Economic Index rose to 0.3% compared to other forecasts of 0.2% — another indication that the economy is moving in the right direction, albeit at a grinding pace. On the other hand, S&P is still out there with a 2012 forecast of 2.0% to 2.5% GDP growth for the U.S. economy.

If it pans out, that alone would put enough wind behind the stock market to take the S&P 500 up to the 1,450-to-1,500 range as the year progresses. I say this because 2013 estimates will start to make their way into forward numbers, and from just about every agency that reports such figures, expectations for next year are considerably more upbeat.  The positive outlook isn’t just for the United States, but also for Europe, China and the rest of the emerging markets that matter.

What all this means for interest rates is that we can expect the current low-rate environment to persist for at least the next three quarters. The benchmark 10-year Treasury Note yield is currently at 1.96%, and I expect it to chop around that level until further traction in housing and labor produces stronger data.

More of the same is how I would best describe the current backdrop for high-yield investing, which is very bullish.

Endnotes:
  1. DB: http://studio-5.financialcontent.com/investplace/quote?Symbol=DB

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