By just focusing on economic data that pertain to the U.S., one would not only come to the conclusion that most sectors of the economy are progressing in the right direction — but, given the recent strength of those data, that the rest of the world must be seeing at least modest improvement as well. However, fresh signs of slowing in Japan caught global markets by surprise, demonstrating that not all quantitative easing is created equal.
Last night, Japan’s Nikkei stock index posted its biggest one-day drop since August after Q3 GDP data showed that country slipping into recession, with a decline of 1.6%. This comes on the heels of that market hitting a seven-year high following the Bank of Japan‘s announcement of stimulus measures a week ago.
This latest report all but eliminates the possibility of a further sales tax that was slated to go into effect in Japan to help pay for QE. It also shows that current fiscal policy isn’t working and it requires massive reforms to Japan’s labor laws and public pension structure.
It’s a tricky game when bad news for economic growth is rewarded by stock markets because of the perception of forthcoming fiscal stimulus. After all, at some point the economy has to perform on its own, as is now the case for the U.S. The Federal Reserve is technically finished with quantitative easing, although it intends to maintain artificially low short-term interest rates to drive lending activity among businesses and consumers.
Across the pond, the European Central Bank has a long way to go in absolving Europe’s dismal growth picture. Data released on Friday showed that the eurozone’s economy grew at a sluggish 0.2% in the third quarter, hampered by low investment and extremely high unemployment. With most of the EU’s wagon’s hitched to the progress of Germany, that economy has narrowly escaped recession, but other key countries like Italy are seeing growth contract again. However, investors do have an underlying faith that the ECB will get it right in bolstering those EU markets.
Cheaper energy prices will help, but the eurozone depends more on trade than the United States. As a percentage of total GDP, trade accounts for about 15% in the U.S., versus 30% for Europe. So, the U.S. is a bit more insulated from a slowdown in exports, whereas Europe can ill afford any significant contraction and avoid recession.
On a happier note, the “zeal to deal” is what Mr. Market loves to embrace — and today is mega-merger Monday, with two monster deals being announced. Halliburton Company (HAL) will acquire Baker Hughes Incorporated (BHI) for $34.6 billion in cash and stock, and Actavis plc (ACT) will buy Allergan, Inc. (AGN) for $66 billion, ending a long and drawn-out three-way bidding war.
Mega deals do the heavy lifting of dispelling the bearish notion that stocks are overvalued, which in turn compels fund managers to keep upping their equity exposures as they seek to keep pace with the S&P 500, now higher for the year by 10.6%. Even as oil prices have corrected by $30 per barrel over the past four weeks, the high profile M&A deal in the energy sector really helps investor confidence and lessens the likelihood of further consolidation.
U.S. bond yields are ticking slightly higher today. The benchmark 10-year Treasury is paying 2.34%, which, compared to the German 10-year paying 0.84%, the French 10-year paying 1.28%, the Japanese 10-year paying 0.47% and the Canadian 10-year paying 2%, looks hugely attractive given the state of the domestic recovery. As long as the gap remains this wide, the Fed will be in no hurry to tighten rates.
Bryan Perry is the editor of Cash Machine, a newsletter focused on high-yield income investing with the goal of maintaining a blended total yield of 10% across two portfolios. And most recently, Bryan introduced Cash Machine Trader. With this service, he’s increasing the income stream potential even further by using covered call writing strategies to generate yield in the form of option premium — on top of capital appreciation income from well-known stocks.
