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Weekly Market Commentary 1/22/2013

Weekly Market Commentary 1/22/2013

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Market Commentary
Market Commentary

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Published by: monarchadvisorygroup on Jan 23, 2013
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Member FINRA/SIPCPage 1 of 4
Jeffrey Kleintop, CFA
Chief Market StrategistLPL Financial
LPL FINANCIAL RESEARCH
Weekly Market Commentary
January 22, 2013
Same Europe, Different Crisis
Highlights
This week’s European finance ministers’meeting is a reminder that each spring for thepast three years, U.S. stocks have started aslide of about 10% during the second quarter,led by events in Europe.In 2012, the European fear gauge was therise in southern European bond yields asthe financial crisis worsened. In 2013, it isnorthern European bond yields falling as theeconomic crisis worsens.
While fourth quarter 2012 earnings results will again garner attention thisweek, investors may also be looking overseas to gauge market direction,since this week holds the first meeting of the year for European financeministers. It is worth remembering that each spring for the past three years,the S&P 500 has started a slide of about 10% during the second quarter,led by events in Europe.
MayAprMarFebJan Jun
15%10%5%0%-5%-10%
S&P 500 Index Percent Change2012201120102013
 
1
Stocks’ Spring Slides
Source: Bloomberg, LPL Financial 01/22/13The S&P 500 Index is an unmanaged index, which cannot be invested into directly. Past performance is noguarantee of future results.
However, this year may be different. In 2012, the European Union finallytook two important steps to halt the financial aspect of its ongoing crisis.
One of those steps was the creation of the European Stability Mechanism(ESM), a permanent rescue fund for countries in need of credit and unableto borrow in the market.
Another important measure was the authorization of Outright MonetaryTransactions (OMT), granting the European Central Bank (ECB) morepower to intervene in the bond markets to assist countries in distress.With these programs able to lend with few limits to banks and willing tobuy bonds of any country that will accept the conditions, we do not expectmarket participants to fear a European financial crisis this spring and drive a
Europe has traded a financial crisis foran economic one.
 
WEEKLY MARKET COMMENTARY
LPL Financial Member FINRA/SIPC Page 2 of 4
10% decline for U.S. stocks as they have in recent years. But Europe’s crisisis far from over, and market participants may drive stocks lower later this year.Europe has traded a financial crisis for an economic one. The ECB is ableand willing to only fight one crisis. The price Europe has paid to avoid afinancial crisis is in the form of recession and unemployment rising above10% — including France at 10.7%, Italy at 11.1%, Ireland at 14.7%, Portugalat 16.3%, and Spain at 26.2%. The Eurozone is mired in a recession that theECB has little ability to mitigate. Inflation is still over the 2% target.This is not just a shift in the crisis facing Europe’s southern countries. It hasnow started to infect the core. In 2012, the economies of northern Europe,such as Germany, France, and Finland, were less negatively affected witheconomic growth and lower levels of unemployment more similar to thatof the United States than the countries of southern Europe, including Italy,Spain, and Portugal. However, in 2013, the two largest economies of theEurozone, Germany and France, will face low growth or even stagnation andrising unemployment.
Oct12Apr12Jan12Oct11Jul11Apr11Jan11Jul12Jan13
18%16%14%12%10%8%6%4%
Portugal’s 10-Year Bond Yield
 
2
Portugal’s 10-Year Bond Yield Fell Sharply in 2012 as Financial Crisis Averted
Source: Bloomberg, LPL Financial 01/22/13
Investors may be increasingly better offfocusing on U.S. and emerging marketstocks as the year matures and theEuropean economic crisis deepens.
Oct12Apr12Jan12Oct11Jul11Apr11Jan11Jul12Jan13
4%3%2%1%
Germany’s 10-Year Bond Yield
 
3
Germany’s 10-Year Bond Yield Fell Further in 2012 as Economic Crisis Deepened
Source: Bloomberg, LPL Financial 01/22/13
 
WEEKLY MARKET COMMENTARY
LPL Financial Member FINRA/SIPC Page 3 of 4
The slowdown in northern Europe can make conditions in southern Europeworse by returning some risk of financial crisis. The economic slowdownin northern Europe may make these countries more reluctant to approvethe release of aid packages to the southern countries. This is noteworthy,since if the Italian elections in February 2013 fail to produce a governmentthat achieves political stability and applies economic reforms, the increasedmarket pressure on Italy will likely require financial aid. Germany, thede facto decision maker as a result of making up the lion’s share of anyaid package, may already be averse to approve any more unpopular aidpackages ahead of the German elections coming this fall. With the electionsslowing the decision-making process in Germany, no fundamental changesin policy will likely be made before the elections that may avert the growingeconomic crisis.In early 2012, the European fear gauge was the bond yield of southernEuropean countries rising as the financial crisis worsened. But now thata financial crisis has been allayed, the decline in northern European bondyields is a sign of a worsening economic crisis. In a remarkable sign of howthe European financial crisis has eased, Portugal’s 10-year bond yield fellfrom 16% last summer to 6%[Figure 2], and Italian bond yields fell from7.5% to under 5%. But at the same time, Germany’s 10-year bond yield fellbelow 1.5%[Figure 3]. This is not a sign of crisis averted, but of a differentone brewing. Economists’ estimates for Germany’s gross domestic product(GDP) in 2013 are still coming down. Europe’s 2012 auto sales fell -8.2%from the prior year, the biggest drop in 19 years.The investment consequences are that the bond yields of southernEuropean countries may once again begin to rise, fall elections highlightthe challenges putting pressure on stocks, and recession continues andensnares more of the core nations of Europe. We may again see a stockmarket slide related to Europe’s evolving crisis, but it may not be until thesummer or fall that it appears this year rather than in the spring. After thepowerful rise in European stocks since the financial crisis was averted lastsummer, investors may be increasingly better off focusing on U.S. andemerging market stocks as the year matures and the European economiccrisis deepens.

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