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Ahead of Wall Street

Monday, March 4, 2013

With not much on the domestic economic calendar, stocks will likely take a pause in today’s trading session ahead of the all-important labor market reading later this week. New measures announced by the Chinese government to cool off speculative excesses in that country’s property market could also be a source of concern for investors.

Weakness in the Chinese property market would mean lower demand for a host of commodities throughout the global supply chain. Questions about Italy and the broader Euro-zone also remain prominent on an otherwise slow news day.

Notwithstanding the less-than-reassuring revision to Q4 GDP last week, the overall tone of recent economic data has largely been favorable. Consumer confidence has been improving, vehicle sales remained robust, and even the factory sector appears to be showing signs of renewed vigor.

The manufacturing ISM index came in significantly better than expected last week, reaching 54.2 in February from 53.1 in January and 50.2 in December. The service sector ISM index coming out this week is expected to corroborate that trend, particularly given the positive momentum on the housing side.

On the flip side, it isn’t clear at this stage the extent of negative impact of the payroll tax hike and the recent uptrend in gasoline prices. Household incomes were significantly weaker in January as a result, though spending levels didn’t seem to be overly affected. But anecdotal evidence from retailers like Wal-Mart (WMT - Analyst Report), Target (TGT - Analyst Report) and others indicate that spending may be at risk of decelerating from the fourth quarter’s level.

That could be a weak spot for the economy, particularly following the onset of government spending cuts as a result of the sequester, which went into effect at the end of last week. Improvement in the labor market could potentially offset the headwinds from higher taxes and gasoline prices. Last week’s Jobless Claims data was very positive, but we can’t discount the possibility of the February jobs report being distorted by the Northeast snowstorm that hit the week before the survey week.

On the European front, Italy’s fractured electoral mandate and problems with using the Euro-zone’s permanent bailout fund, the European Stability Mechanism or ESM, to inject capital into struggling banks have brought back fears that the region’s problems are far from over. Last year’s agreement to use the ESM for direct injections into banks was heralded as key to breaking the vicious cycle between weak banks and their at-risk sovereigns.

But criticism of the move from within Germany prompted the Angela Merkel government to back-pedal from the commitments. Other northern European countries have had second thoughts about endangering their tax-payer money on riskier bailouts, as well. With Germany going to polls later this fall, the issue is unlikely to get resolved along the lines of last year’s agreement, meaning that direct recapitalizations of struggling countries will remain only a dream.

Sheraz Mian
Director of Research

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