Brewin Dolphin Holdings plc : Amid good and bad news equity markets wait for a lead

9 January 2012

There was little wrong with last Friday's employment numbers. Not only were they a good deal better than expected but they also left little doubt about the underlying trend towards improvement in the US jobs market. That Wall Street failed to respond favourably to the good news on Main Street was likely to be for other reasons.

Next week, the US earnings season for the final quarter of 2011 gets under way, though it starts this week with a handful of companies reporting results. According to the latest from Thomson Reuters, the preannouncements thus far have not been good, which is worrying considering that the earnings are for the period during which the US economy has been regaining momentum. That said, almost 45 percent of the earnings for the S&P 500 is derived from Europe, much of which is in or heading into recession.  

Worrying too is the earnings outlook for this year as a whole which has been downgraded considerably since August. Then consensus earnings estimates for 2012 showed growth of close to 15 percent but expectations have been lowered progressively over the past months and now reflect something just below 10 percent. Not bad if achieved! Except earnings revisions are still likely to be one-way. Especially if oil prices head upwards!    

New US sanctions restrict foreign companies that deal with the Central Bank of Iran - which transacts a large part of Iran's oil trade - from doing business in the US. Tehran's posturing over the closing of the Strait of Hormuz is in reaction to this and joining the US in its 'get tough' policy is the EU, whose leaders have just agreed to an embargo on oil imports from Iran (though the timing has been left open). 

This pressure on Iran is ultimately intended to halt its development of nuclear weapons but the pressure is also on America's trading partners to cooperate in finding a substitute for oil imports from Iran. Hence part of the purpose behind US Treasury Secretary's visit this week to China and Japan. However, if the Strait of Hormuz is blocked, there may not be much oil to substitute.

While the President is to exercise discretion as to how the new sanctions will apply, the risk is that they heighten the general level of tension in the Middle East and raise the oil price. If there is a bad news story for equity markets this is it, no matter how good the non-farm payrolls. The latest developments could put at risk the prospects for global trade and growth. That includes the US at a time when its own prospects are just beginning to look up - and not just for Main Street but maybe even for President Obama.  

On the eurozone, Mrs Merkel and Mr Sarkozy meet today to review what might be done to assist growth in the eurozone as well as lay out the framework for adopting the fiscal compact agreed at the EU's last summit of 2011. It is hard to imagine that much can be done about the former, but there is no harm talking. On the latter, eurozone leaders signed up a month ago to something akin to the 'reinforced' Stability and Growth Pact with its enforcement mechanism and will have to move quickly on the intergovernmental treaty that was expected to be in place by March. It will be good going, indeed astonishing, if this can be achieved.

Action speaks louder than words. And for the ECB it speaks even louder. The introduction of the three-year Long-Term Refinancing Operation shows a readiness not seen before to ensure the stability of the banking system. While it is not yet clear how helpful this will prove in alleviating the stress in funding markets for the banks, the chart below shows that the widening in the spread between three-month Euribor and Overnight Index Swaps may have run it course. If sentiment towards the banks is in the process of changing, it is also likely to be changing for equity markets. The chart will be one to watch.

IMPORTANT NOTES
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