Will the Rally Continue?
With Greece officials passing two very important measures last week and both the Chicago PMI and the ISM Manufacturing indices coming in well above expectations, it appears that the driving forces behind the recent correction in the stock market may be dissipating. First, since Greece is now VERY likely to get the money it needs to avoid a default this month, it appears that traders can put the issue of credit contagion off to the side – for a short while anyway.
Remember, the real issue here is the unknown of what “could” happen if a default were to occur with Greece’s sovereign debt. Since those nasty Credit Default Swaps were never outlawed, never regulated, and still aren’t required to trade on any exchange where things can be monitored, nobody really knows the trouble that could arise should Greece trigger a “credit event.” I know that I may be beating a dead horse here, but THIS was the real cause of the credit crisis in 2008. Nobody knew that Lehman’s demise would cause money market funds to “break the buck” and create runs on banks. And THIS is what the powers-that-be are trying to avoid this time around in Europe.
While the jury is still out on what to do about Greece in the long run and Standard & Poor’s says the much ballyhooed “French solution” would still be considered a default, the good news is that Greece isn’t going to default on its debt in the next two weeks. Therefore, with the votes going the right way and even Germany backing down from its hard-line stance on restructuring Greek debt, it looks like traders were able to take back some of the “The sky is falling” discounting that had been occurring in May and June.
Another part of the correction equation was the worry that the “soft patch” the U.S. had entered would turn out to be either (a) worse than expected or (b) another trip toward recession. And with the way the data had been coming in during May and June, it was hard to argue with the idea of doing a little de-risking in portfolios.
However, last week’s data from two big sources helped the glass-is-half-full gang pound the table about the “soft patch” being temporary. While everyone was afraid that the manufacturing sector had stopped on a dime again, the ISM and Chicago PMI numbers came in much better than expected. And while the data is very likely to be uneven for a while, these two reports are reason enough to side with the bulls (for a while at least).
So, with a sovereign debt default in Greece off the table (for July, anyway) and the U.S. economy showing some signs of life, it wasn’t at all surprising to see traders running to cover their shorts and taking back some of that negative “discounting” that the corrective phase had put into the market.
How far can the bulls run from here, you ask? That depends on the next question or questions that traders are likely to be pondering in the near future. Cutting to the chase, the key to whether or not this rally can get legs is if we have seen the bottom of the soft patch and if the economy can gather some momentum. If we’ve seen the worst and the data starts improving, then we just might have a rip-snorting fourth quarter. But if not, we do have to recognize that fall is coming…
David D. Moenning
Editor: The Daily Decision
