President's Day Update

I hope everyone had a good weekend and is enjoying the added day of market respite this President's Day.  Last week was mixed on the economic front.  On the plus side, housing inventory and unemployment claims both dropped in the US.  On the negative side, so did industrial production.  The big news was the return of M&A on a big scale, with Warren Buffett's Berkshire Hathaway taking Heinz private and American and US Airways coming together to form the world's largest airline.  For all of that, the S&P 500 Index was roughly flat for the week.

Looking ahead, this holiday shortened week has some interesting data points.

Tuesday:      German ZEW Survey         
Wednesday: US Housing Starts, PPI and Fed minutes, German and French CPI, Chinese Flash PMI
Thursday:    US Jobless Claims and CPI
Friday:         German GDP and IFO Survey
Sunday:       Italian elections

The two German surveys should give us insights into the state of that economy, as should the Chinese Flash PMI.  Here in the US, housing starts, Fed minutes and jobless claims will draw alot of attention.  With the Italian 10 year yield down 12 basis points (bps) YTD and spreads 45 bps tighter versus German bunds through Friday, the markets seem to anticipate at worst a neutral result to Sunday's Italian election, but we will need to see.  On Monday, the European markets did appear to get uneasy about the probable election results.  As they say, that is why they play the game.  

While the G-20 declared that they will refrain from competitive devaluation, there does seem to be a distinct benefit to a lower currency for ones stock market.



Both the UK and Japanese markets with their falling currencies are doing about ten percentage points better than Brazil with its strengthening currency, the real.  On Monday, with a seeming all clear from the G-20, the trend continued.  In Asia, the Nikkei was up over 2% as the yen fell to almost 94 to 1$US.  In South America, the Brazilian stock market (the Bovespa) fell another 50bps as the real rose against the dollar. 


On another front, correlations between various risk based asset classes have been coming down indicating some differentiation between them, as opposed to a blind risk on/risk off trading environment.  The chart below shows the trailing 24 month correlations between various asset classes as of 2/17/13 as represented by ETF's.  The red cells show high positive correlation.

Source: AssetCorrelation.com

The chart below shows the one month trailing asset correlations:



Source: AssetCorrelations.com

You can see how the dark red area has shrunk significantly, with even Emerging Market (EEM) correlations falling under 0.7 to the Real Estate indexes and the US stock market indexes.  While we are still subject to headline risk (Sequester, Italian elections, etc.) this is a healthy development as it indicates investors are differentiating more on the basis of each asset class' underlying fundamentals, rather than on the latest headlines.