Vassili Serebriakov, Wells Fargo Bank
The euro just managed to carve out a new 14-month high against the dollar [in overseas trading Oct. 26], but struggled to extend the gains. The greenback has been resilient elsewhere. The early pressure on the dollar today was probably a combination of more upbeat global sentiment after a stronger-than-expected GDP report in South Korea and an article in a Chinese financial newspaper arguing that China should increase the share of the euro and the yen in its foreign exchange reserves. However, the reserve diversification theme is not new and is failing to make a major impact, while we believe that the close link between market risk appetites and the dollar is also becoming much less of a sure bet.
The key economic report this week is the U.S. Q3 GDP, and as last week's U.K. GDP report suggested, the ability to register an "official" end of the recession can have an important psychological impact on a currency. Our economists are on the firm side of market expectations with a 3.7% q/q (annualized) forecast, which should in our view lend support to the greenback.
Marc Chandler, Brown Brothers Harriman
Chinese policymakers do not appear ready to bow to what appears to be renewed international pressure to allow the yuan to appreciate. Previously, discussion of global imbalances was a thinly veiled reference to the U.S. current account deficit. It is increasingly being used as a reference for the need of the yuan to appreciate. At the end of 1993, the dollar was near 5.824 yuan. Today it is at 6.827 yuan. By re-pegging the yuan to the dollar, there has been a substantial decline in the yuan. Since Apr. 1, the yuan has fallen almost 13.5% against the euro (the destination of more of its exports than the U.S.), 7% against the yen, 33% against Brazil, and 17% against the Korean won.
Our contacts in China have been reporting since the summer that officials have become more concerned about inflation signs, but with exports falling and the year-over-year rate of inflation still negative in China (-0.8% year over year), we felt they could not act on it. We still suspect that China is unlikely to act to tighten monetary policy through hiking the one-year rates, which remain at a five-year low of 5.31%.
Jan Hatzius, Goldman Sachs
Over the last year, policymakers have boosted the housing market by reducing foreclosures, slowing the pace of distressed sales, and stimulating demand for owner-occupied housing. The effects of these policies are evident in a swelling foreclosure pipeline, a surge in first-time home purchases, and abnormally low mortgage rates. We estimate these policies have reduced foreclosure supply by 450,000 and increased demand by 200,000. Taken together, these moves might have added 5% to home prices nationally. If this estimate is correct, it suggests most of the increase in home prices since the spring—which has totaled between 2% and 4% in seasonally adjusted terms—has been due to temporary factors.
In 2010, we expect some of these supports to fade. Fed and Treasury purchases of mortgage-backed securities will taper off, and the pause in foreclosures created by federal mortgage modification programs may end. The federal tax credit for first-time home buyers appears likely to be extended for at least a few months, but probably no longer than through the first half of 2010.
Our conclusion is that despite the better recent data—including stronger-than-expected report on existing home sales in September—the risk of renewed home price declines remains significant, and our working assumption is a further 5%-10% decline by mid-2010. However, the cloudy policy outlook adds to our already considerable uncertainty of where house prices will ultimately bottom.
Tobias Levkovich, Citigroup
With the S&P 500 up roughly 60% since March 2009, the index has put itself in the running for the fourth best one-year gain following a bear market trough since 1929 and all the other periods were in the 1930s. Yet the current "Great Recession" is quite different than the Great Depression on various measures including the lack of an 86% market drop. Accordingly, a continuous surge in EPS will be needed to sustain the rally effort, especially as the top line is still not beating forecasts in any meaningful way.
Many market observers consider the current environment to be dramatically different from more recent economic downturns, even in the face of the 1973-74 severe correction and the back-to-back recessions of 1979-80 and 1981-82, which were deeply painful, not to mention a savings and loan financial crisis in the late 1980s, given unbridled growth in poor real estate loans. Hence, some skepticism is appropriate when people only highlight the differences but overlook similarities. Some investors contend that the market's rebound relative to average bounces off recession lows is meaningless given the pullback from the abyss of financial Armageddon.
While corporate margins are being sustained by cost-cutting for now, the bottom-up consensus estimates calling for 27% EPS growth in 2010 requires a sharp bounce in operating profits that seems unsustainable without a broader-based sales pickup. A production recovery to stop inventory de-stocking and eventually to restock shelves should help, but sustainability remains crucial.