Market Talk

A dose of cautionary comments on three things that seem to only go up lately: the euro, stocks and corporate earnings.

First on the euro, which surged through $1.43 today its highest level vs USD since January 2010, and looks as if it’s left any and all concerns about sovereign debt in the dust.

Nomura says in a report that it’s too early for the euro to shed that risk. “The uncertainties about the economic outlook, debt dynamics, and the political framework around managing sovereign insolvency are simply too great,” firm says.

It estimates “a debt restructuring isolated to Greece/Ireland/Portugal would trigger direct and indirect losses around $240bn for core Eurozone banks, while bank losses would rise to $480bn in a restructuring including Spain.” German banks have the largest exposure to the periphery, Nomura says, with estimated losses of $185B in a restructuring scenario involving Spain.

Implied risk premium on the euro “has compressed significantly since January,” firm says, as the single currency “decoupled from sovereign risk.” That process “has probably run too far at this point: a persistent risk premium is still needed.”

On to stocks and some thoughts from BofA Merrill small-cap strategist Steve DeSanctis. He points out that weaker economic news, higher energy prices and disaster in Japan tripped up stocks in early March, but a “liquidity driven rebound” has put the Russell 2000 within 1% of its all-time high.

“Volatility came tumbling down despite the fact that none of the earlier concerns…have been resolved,” he writes, and small caps “are now very close to the full year’s return we have been expecting.” DeSanctis says he’s been “taken back by the strength of the overall equity market and in small caps in particular given the economic backdrop and where absolute and relative valuations stand,” and thinks 1Q earnings estimates are too high. Continue reading…

Those aren't just random numbers up there.

My tab for riding NJ Transit went up 25% per month in May. If that seems like a big jump, it is. But I’m lucky. In addition to jacking up fees, NJ Transit cut routes, so some commuters (but not me) are losing their trains and getting squeezed into other, now more crowded lines.

In New Jersey, we’re already getting hit with forced austerity. So are residents in California, New York, and several other states. The tab for the multi-decade debt binge is coming due. The problem is, too many people are still pretending it isn’t sitting there on the table.

But it is. You’d best wrap your mind around higher taxes, fewer services, and “austerity” being forced upon the U.S. citizenry with the same absolutism with which it’s being forced on the Greeks and Spanish. Because U.S. debt is near a tipping point beyond which we will not be able to just “grow” our way out of it anymore, and that means more drastic measures will need to be employed. All that austerity stuff you keep hearing about.

And “austerity,” in case the Greeks riots haven’t hammered the point home, in this case is a euphemism for “pain.”

Reader J.C., after I wrote in Tuesday’s closer about the deficit levels, passed along a recent research report from Citi’s Willem Buiter, who goes into a very detailed look at national finances (it’s not pretty, we’ll get to it.) “It’s not so much the deficit as the debt,” J.C. wrote, and added that interest rates play a big part too. But the bottom line is, once we pass 90% of debt to GDP, we won’t be able to earn our way out of the debt hole.

“The arithmetic of public debt dynamics is simple but inexorable,” Buiter wrote.

Continue reading…