The Overnight Report: Putting Faith In Bernanke

This story features FORTESCUE LIMITED, and other companies. For more info SHARE ANALYSIS: FMG

By Greg Peel

The Dow closed down 49 points or 0.4% while the S&P lost 0.2% to 1353 and the Nasdaq fell 0.4%.

As economic forecasters go, the IMF is typically a long way behind the curve. Markets have usually moved on by the time the IMF adjusts its estimates to confirm what markets had already reacted to. But whenever the IMF makes such adjustments, the world still listens, and last night it was all a tale of gloom. Global growth forecasts have been reduced by 0.1ppt to 3.5% for 2012 and by 0.2ppt to 3.9% from previous forecasts adjusted in April.

No prizes for guessing Europe is at the centre of the IMF's warnings, and insistence that this must be done and that must be done is no different to what we've heard from anyone else of late. Emerging markets, it is believed, will only suffer soft landings but growth will decline from previous levels. On the weekend, China's premier warned his people that hardship may continue for a while as the rebound in the economy, affected by easier policy, is not yet stable. He added, however, that the government's policies are working and the economy remains within the target range.

The IMF cut its 2012 growth forecast for China to 8.0% from 8.2%, and for the US to 2.0% from 2.1%. Last night provided a wake up call in the US with the release of June retail sales data, which showed a fall of 0.5%. This represents a third consecutive fall – which has not bee seen since 2008 – and what's worse, economists had forecast a 0.2% gain.

This is bad news for the world's biggest consumer economy. However, there are two factors to consider here in isolation of what's going on in the rest of the world.

Firstly, we know that US jobs growth has continued to disappoint in 2012, and we know that consumer spending is closely tied to employment and employment confidence. It is also apparent, nevertheless, that many US companies are keen to hire new staff. They refuse to do so, however, when they don't know what tax regime they will be under next year, they don't know what spending programs may be cut, and they don't know the extent of financial re-regulation (Dodd-Frank) to be imposed. While Europe is clearly a concern (60% of US exports go to Europe) and China a source of nervousness, at the end of the day the US economy is being held back by the so-called “fiscal cliff” and the ongoing failure of the two parties to reach any form of compromise.

The election may resolve the issue in terms of more certainty but the election is still over four months off, and were, for example, Obama to be returned but with a minority in at least one house, then we will be no closer to fiscal resolution.

The second consideration is, of course, our old friend QE3. Tonight Fed chairman Ben Bernanke will provide his bi-annual testimony to the Senate Finance Committee. There he will be drilled on, among other things, his knowledge of the now exposed long-running LIBOR fixing scheme but more importantly for Wall Street he will no doubt be asked what he intends to do about the sagging US economic recovery.

Last night's weak US retail sales number was ultimately just another boost for the QE3 believers. Stocks fell initially on the news but spent the rest of the session recovering, bond yields fell, the dollar fell, and commodity prices hung in there. The story has been much the same in recent sessions. Bad news becomes good news, but we're yet to be given confirmation of the good news. Bernanke will be choosing his words carefully tonight, or tomorrow night given his testimony lasts two days.

Last night's earnings highlight was Citigroup, which reported a drop in profit but not by quite as much as the Street was expecting.

The US dollar index fell 0.2% to 83.12, the Aussie ticked up to US$1.0250 and gold was steady at US$1589.00/oz. Base metals were neither here nor there.

Oil rose however, with Brent up US$1.95 to US$103.37/bbl and West Texas up US$1.23 to US$88.33/bbl. Ever present geopolitical tensions have flared up again, following the arrest of suspects alleged to have been smuggling nuclear-related materials into Iran and the usual threat in response from Iran that it will close the Straits of Hormuz. Given Iran's own economy would be crippled by closing this trade route no one believes such threats to be anything more than hollow, but when the US Navy last night fired on a fishing vessel off the UAE and in the wrong waters tensions were again heightened.

The combination of safe haven status and QE3 anticipation saw the US ten-year bond yield fall 4bps to 1.46% last night. The all-time low is 1.438%.

The SPI Overnight rose one point.

So tonight we await what Uncle Ben has to say, although we may have to wait a second night before the subject of QE3 is raised. Industrial production numbers are due tonight to potentially add more fuel to that fire, while Goldman Sachs and Yahoo will release earnings reports along with Dow components Coca-Cola, Intel and Johnson & Johnson.

In Australia, central bank thinking will also be under scrutiny with the release of the minutes of the last RBA meeting, while Fortescue Metals ((FMG)) and Rio Tinto ((RIO)) will release quarterly production reports.

All overnight and intraday prices, average prices, currency conversions and charts for stock indices, currencies, commodities, bonds, VIX and more available in the FNArena Cockpit.  Click here.

All paying members at FNArena are being reminded they can set an email alert specifically for The Overnight Report. Go to Portfolio and Alerts in the Cockpit and tick the box in front of The Overnight Report. You will receive an email alert every time a new Overnight Report has been published on the website.

Click to view our Glossary of Financial Terms