Summary

• Despite rising nervousness at the beginning of the week, markets have generally remained resilient

• The week was one of two halves – continued worries about Greece were the catalyst for a reduction in risk earlier in the week

• This risk reduction was reversed as US employment data and hopes that a deal was close with respect to Greece caused the market to rally strongly

Macro View

Economic data out of the United States has continued to improve, especially with respect to the labour markets. This week initial jobless claims fell to their lowest level since the summer of 2008, before the bankruptcy of Lehman Brothers, comfortably beating consensus forecasts (the mean forecast was for claims to rise in January). 

An improving labour market is crucial to a pick-up in consumption, which is the major driver of the US economy. Most of us recall the US consumer being the ‘consumer of last resort’, prior to the enormous amount of household deleveraging (i.e. debt reduction) that has occurred in the wake of the housing bust, which triggered the financial crisis and global recession. So it is important to the entire global economy if we see an improvement in the US job market. 

However, this week we also saw Advance Retail Sales for January coming in lower than forecast at 0.4% growth and the December number was revised down to 0.0%. This demonstrates that consumption is not picking up meaningfully.

Part of this is because the housing market is still weak. Foreclosures as a percentage of total loans outstanding remain elevated and existing home sales have yet to make a decisive break higher with respect to the peak reached last year.

The fact is that the unemployment rate, while improving, remains elevated, as can be seen from the chart below. 

Furthermore, the labour force participation rate (representing the proportion of the population that is in the labour force) is at its lowest levels since the early 1980’s and fell further in January. This eaffects the technical definition of unemployment – people are only considered unemployed if they are actively seeking work. We can see that if economic conditions improve and more jobs are available, a number of these discouraged workers who have stopped looking for employment are likely to re-enter the labour force, which places a limit on how much the unemployment rate can fall in the foreseeable future.

The Markets

A lot of nervousness had entered the market at the beginning of this week, as markets had remained overbought. Many market participants were anticipating, if not a deeper correction, then at least a short-term reversal in risk because many technical indicators were at levels not seen since the 1980’s. 

Equities

The market began to sell-off on Wednesday as it was announced that the meeting of European leaders that was supposed to agree the disbursement of Greece’s next loan package was cancelled. Equity index futures fell in the early hours of Thursday morning (London time) before rallying in the afternoon after the announcement of better than expected US jobless claims. That means that, despite the nervousness of many participants, the S&P 500  futures traded in a range of less than two percent  for the week (at time of writing), which is roughly the same as the range from the previous week.

The VIX Index , after rising on Wednesday to close at 21.14 in New York due to rising risk aversion, fell back to 19.22 as of the New York close on Thursday, meaning that it is now down on the week . The star-performer this week were Japanese Equities. They rose as the weaker yen has raised hopes that Japanese exporters’ earnings will improve. 

Fixed Income

After rising steadily over the week, UK Gilts (10 year bonds) have fallen back to their lowest point of the week as risk sentiment has once again improved. 

Currencies

Perhaps the most important story of the week in currency markets was the Japanese Yen, which has weakened 1.9% from last Friday versus the US Dollar. The Bank of Japan (BoJ) has become increasingly willing to intervene in the markets to prevent further strengthening of the yen, which has been hampering a recovery in economic activity. This week the BoJ announced that it would extend its programme of asset purchases (also known as quantitative easing).

Commodities

This has been a mixed week in commodities, with some of the industrial metals performing particularly poorly. Week-to-date copper is down 1.55% while aluminium is down 3.45%. Agricultural commodities are up marginally and precious metals are mixed, with silver down marginally on the week and gold up a small amount – about $10 an ounce. 

A number of commodity markets ‘rolled’ this week, meaning that many traders switched their holdings from March delivery to subsequent delivery dates.

Energy markets have had a very strong week, with Brent crude for April delivery up 2.7% and Natural gas staging a bit of a comeback after several weeks of weakness.

Footnotes

1. The S&P 500 is an index, published since 1957, of the prices of 500 shares actively traded in the United States. The individual components of the index are weighted by their market capitalization.
2. The Chicago Board Options Exchange Market Volatility Index (known as ‘the VIX’) is a popular measure of the implied volatility of S&P 500 index options. Often referred to as the ‘fear index’ or the ‘fear gauge’, it represents one measure of the market's expectation of stock market volatility over the next 30 day period.  3. Five year annual indices performance (calendar year)

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