In past posts I wrote that it will take positive news as opposed to less negative news to drive the rally in equity and credit markets forward. Although I remain doubtful about the durability of the rally over coming months, there has been good news on the earnings front up until now, and equities have rallied strongly as a result.
Of the S&P 500 companies reporting Q2 earnings 74% have beaten forecasts. Although there are still many companies scheduled to release earnings, if this pattern continues it would be the highest on record. Data releases have also given reason for optimism even in Europe where manufacturing gauges and the closely watched German IFO showed some improvement.
Unfortunately, the news was not all unidirectional as Amazon and Microsoft spoiled the party somewhat with their below forecast earnings. US consumer confidence dropped for the first time in 5 months according to the Michigan survey as rising unemployment in particular weighed on sentiment. Meanwhile, in the UK GDP data revealed the severe and broad based nature of the recession.
The news flow will continue to remain volatile in the weeks ahead. The bottoming out process for many economies will be drawn out and rising unemployment and tight credit will act to restrain consumers. Banks will face spiralling defaults on credit cards and increasing loan delinquencies as some recent earnings have revealed.
Unlike past recessions emerging markets are leading the recovery, especially in Asia as recent data has revealed. Nonetheless, unless the developed country consumer engine kicks back into life the sustainability of Asian and emerging market recovery remains in doubt.
It is telling that currency markets are not reacting too sharply to the recent positive earnings news. On balance the usual losers, dollar and yen, in an environment of improved risk appetite, have come under pressure. In contrast, risk currencies such as the Australian, NZ and Canadian dollars have strengthened. Other high beta currencies are also stronger. Nonetheless, for the most part currencies remain in well worn ranges and as liquidity thins further over summer, there appears to be little scope for new trends in FX markets.
I still favour some dollar resilience over coming weeks as renewed market doubts creep but this view is becoming increasingly difficult to hold. The reality is that currencies will track equities, which in turn will be dependent on earnings. If the current earnings trend continues the dollar will face even more pressure but not to the extent that it breaks out of recent ranges.