Consumer Confidence Falls...Again

Good day and welcome not only to another Monday, but also the month of July. Chuck wasn’t able to make it in this morning, so Chris and I got the call to the take control of the ship. This might be a little shorter than usual, but we’ll do our best to get you started and on your way this morning. It was another triple-digit weekend for us in St. Louis, so you can imagine what the office feels like this morning, but I’ve got my ice-cold orange juice sitting right beside me, and I’m ready to go.

The currency market was red-hot on Friday, as most of the major currencies gained over 1% against the U.S. dollar, with the Brazilian real (BRL) rising close to 3.5% on the day. The big winner, however, was silver, as it appreciated over 4% and is comfortably sitting in the $27 handle. The developments in Europe that Chuck explained on Friday morning took the markets by surprise, as most weren’t anticipating much of anything, so there was more than enough gas in the tank to keep the engine running all day long.

The currencies have been able to keep most of the gains from Friday, but the dollar has regained some ground this morning as unemployment in Europe rises to record levels. The economic data in the U.S. were a mixed bag at best, with personal income and spending remaining stranded on the side of the road and consumer confidence falling lower once again. The delicate jobs situation will most likely keep personal spending restrained since personal income remains under wraps, as employers are still wary of expanding payroll.

Consumer confidence in June dropped to the lowest levels so far this year by falling to the final revised figure of 73.2, compared with the May reading of 79.3. The rising concerns out of Europe throughout most of June had a significant impact on the overall financial outlook, but the increasingly negative news on the jobs front was enough to push it to a year-to-date low. On the flip side, we did see business activity as measured by the Chicago Purchasing Managers Index rise a bit in May, but many of the other regional figures haven’t showed the same results.

While the data reports are going to be limited in number on this holiday-shortened week, we will see some market-moving results with manufacturing numbers due this morning and then factory orders tomorrow morning. If manufacturing and factory orders come in as expected, I think the market will be holding its breath until Friday, which brings us the all-important June payroll figures.

As of right now, we are expected to see some improvement from the disappointing May numbers, but the addition of an estimated 90,000 to the nonfarm payroll in June is not anywhere close to what’s needed. The unemployment rate is expected to remain at 8.2%, but I’m sure you know our thoughts on the relevance of that number.

Shifting gears to the currency market, Chris shares his thoughts on some big news from the power shift out of our southern neighbor. Presidential candidate Enrique Pena Nieto claimed victory in this weekend’s Mexican elections, moving power back to the Institutional Revolutionary Party, which was forced from power in 2000 after over 70 years.

The incumbent party’s candidate placed third, with the Party of the Democratic Revolution’s candidate, Andres Manuel Lopez Obrador, coming in second. Obrador has still not conceded defeat, but the markets look as if they are convinced Nieto will be Mexico’s new president. But until Obrador concedes, the possibility remains of large protests in the capital city. The same candidate placed second to President Felipe Calderon by less than 1% in the 2006 elections, and his supporters occupied the capital streets for days.

But the election results don’t seem to be as close this time, and the Mexican peso (MXN) is now adding to its status as the world’s best-performing major currency this year. The peso is up 4.32% versus the U.S. dollar over the first two quarters, almost a full percentage point better than the New Zealand dollar (NZD), which is in second place after moving up 3.34%. But as you know, past performance isn’t an indication of future returns, so what do the elections mean for the peso going forward?

Nieto will have the benefit of being the first Mexican president whose party controls Congress since 1997, which should give him more freedom in getting some of his campaign promises passed into law. The president-elect has said he wants to open up the state-controlled oil industry to private investors, and he also promised to crack down on tax evasion and free up the labor markets. He will also shift strategies in the “drug war,” which has claimed nearly 50,000 Mexican lives.

Nieto has said he wants to target the violence, instead of chasing after the major drug kingpins. But in what may be a “sneak peek” at the U.S. elections, most Mexican voters stated the economy was the main reason they voted for Nieto. Growth in Mexico averaged just 1.8% a year since President Felipe Calderon took office in 2006, just half the rate of the largest Latin economy of Brazil.

If President-elect Nieto is able to take advantage of a friendly Congress to liberalize the labor market and open up the oil industry, Mexico’s economy should benefit. It sure looks as if the markets are happy with the election results, and there seems to be a good chance the Mexican peso will add to its lead in the global currency markets during the second half of 2012.

It’s Mike again.The commodity currencies are all hanging onto positive territory so far this morning, but the overall bias does remain toward a stronger U.S. dollar. The New Zealand dollar, rand (ZAR) and Australian dollar (AUD) are all in a three-way tie for second place behind the Mexican peso, while the Brazilian real and Canadian dollar (CAD) are at break-even.

The Australian dollar has seen its fair share of issues over the past several months, but June turned out be a decent one for the currency. The Aussie is currently trading above 1.02 and did manage to appreciate over 5.5%, with most of that gain coming in the first half of the month.

There have been some better data out of the Australian economy, so the Reserve Bank of Australia is expected to keep rates on hold at 3.5% tomorrow. It wasn’t too long ago when the markets had all but expected policymakers to keep the recent trend of rate cuts moving along, but that pressure has eased quite a bit.

Home prices in Australia recorded their largest monthly increase in more than two years, as lower interest rates have enticed more buyers to enter the market, which prompted a 1% rise in June. Manufacturing did contract for a fourth consecutive month in June, but did show improvement over May and is getting closer to that all-important line in the sand of 50.

All eyes will be focused on what policymakers say after the meeting in order to gain insight as to the future of the rate environment. Since we’re talking about the Aussie, we might as well mention something about New Zealand. The Treasury Department is expressing some optimism by saying the economy will accelerate as domestic demand rises and rebuilding after the earthquakes continues to keep pace, even though the European problems put increasing pressure on the global economy. While the current account deficit grew more than expected in the first quarter, the domestic economy has been well supported.

Since I’ve been writing this morning, the euro (EUR) has lost the 1.26 handle and has moved into the cellar as far as currency returns are concerned. Chris has some thoughts about Europe, so here you go. The euro fell a bit in early trading as data released this morning showed euro area unemployment reached the highest on record, climbing to 11.1% in May, from 11% in April. That is the highest unemployment reading since the data series started in 1995. There are now over 17.5 million people unemployed in the euro area, an increase of 80,000 workers from the previous month. Spanish soccer fans will have plenty of time to celebrate Spain’s victory in the Euro 2012, as nearly a quarter of Spanish workers are currently unemployed.

Another report confirmed manufacturing in the euro region continues to shrink. A gauge of euro manufacturing held at 45.1 in June, compared with initial estimates of 44.8 on June 21. This was the 11th month in a row for a reading below 50 on this index, which indicates manufacturing is contracting.

Today’s poor data will add additional pressure on the ECB to cut rates during its meeting later this week. Economists are predicting the European Central Bank will lower its benchmark interest rate by 25 basis points, to a record low of 0.75% during their meeting this Thursday. European leaders are counting on the ECB to help solidify recent gains in the euro, which resulted from last week’s agreement to use the bailout funds to help shore up the European banking system.

The odds are pretty good that the ECB will cut rates, as they have a track record of action following positive progress by euro area leaders. ECB president Mario Draghi certainly sounded upbeat going into Thursday’s meeting; “I am actually quite pleased with the outcome of the European council,” Draghi told reporters last Friday. “It showed the long-term commitment to the euro by all member states of the euro area.”

And the currency traders also liked the progress made by political leaders during last week’s EU summit. Their agreement to loosen bailout rules and establish a closer banking union in Europe pushed the euro to its biggest one-day rally this year. Yields on both Spanish and Italian debt moved lower, and the euro rallied nearly 2% versus the U.S. dollar as the European leaders presented a united front to combat the sovereign debt crisis. Even German Chancellor Angela Merkel, who has protested any moves toward wider euro area debt guarantees, signed on to allowing the bailout funds to be used for backing the major European banks.

But the euro area debt crisis remains, and a “troika” of international creditors is set to arrive in Greece this week to oversee the bailout. There remains a major risk that Greece’s new government will not be able to adhere to the criteria set forth to continue getting support. But for now, the euro is holding above the $1.26 level it climbed to late last week. I would suggest you get used to these levels for the next few days, as the combination of the July Fourth holiday and the ECB meeting later this week should keep the euro range bound until the end of the week.

The ECB isn’t the only European central bank meeting this week. Sweden’s Riksbank will be meeting, and the markets are indicating they will join the ECB in cutting rates. Swedish rate futures indicate policymakers will cut rates this week, and lower them by 50 basis points between now and March of next year. But economists think rates will remain stable during the Riksbank’s July 3 meeting.

He also sent me some recent news from the World Bank. Jim Yong Kim took over as the World Bank president this weekend and stated his first task would be to help emerging markets keep expanding. Kim must have been listening to our last few presentations, as we continue to let people know the engine of economic growth in the coming decade will be the emerging markets.

Kim takes the reins of the World Bank during a time of real global stress, with both Europe and the U.S. slipping back toward recession. Even China’s economy has been sputtering lately, with growth expected to continue to slow. The World Bank has told developing countries to prepare for a long period of volatility in the global economy, and has recently cut its outlook for 2013 global growth to 3%. This is still an increase from the bank’s expectation of 2.5% growth in 2012.

Thanks again, Chris. The dollar keeps gaining strength as the morning wears on, but as I mentioned earlier, the manufacturing numbers due in about an hour should take over control of the wheel for the remainder of the day. It doesn’t look like there’s an end in sight for this miserable heat in the Midwest, but now I know what Chuck talks about when he describes the sauna-like conditions bright and early on Monday mornings.

Then There Was This… many of you Pfennig readers seem to agree with us here at EverBank that the markets aren’t always “free” of manipulation. Some of the dramatic moves in the metals and currencies frequently indicate there is something besides the free market at work. An article in this morning’s London Telegraph sheds light on the manipulation of the Libor interest rates that has occurred in the recent past:

“An anonymous insider from one of Britain’s biggest lenders — aside from Barclays — explains how he and his colleagues helped manipulate the U.K.’s bank borrowing rate. Neither the insider nor the bank can be identified for legal reasons.

“It was during a weekly economic briefing at the bank in early 2008 that I first heard the phrase. A sterling swaps trader told the assembled economists and managers that “Libor was dislocated with itself.” It sounded so nonsensical that at first, it just confused everyone, and provoked a little laughter.

“Before long, though, I was drawing up presentations to explain the ‘dislocation of Libor from itself’ for corporate relationship managers. I was deciphering the subject in emails, internally and externally. And I was using the phrase myself openly with customers of the bank.

“What I was explaining was that the bank was manipulating Libor. Only I didn’t see it like that at the time.”

To recap: The financial markets, including the currency market, had a fabulous Friday, but have since simmered down as we have moved into Monday morning. Consumer confidence in June took a hit and fell to the lowest levels so far this year, while consumer spending and income remained stuck in the mud. But the Chicago Purchasing Managers Index showed improvement. The data reports are pretty thin this week, but we do have a big one later this week with the June jobs numbers due on Friday. Other than that, Chris talked about the Mexican elections and more not so good economic news out of Europe. The Australian central bank meets tomorrow and is expected to keep rates on hold. We’ll see how manufacturing in June fared.

Mike Meyer
for The Daily Reckoning

The Daily Reckoning