By Simon Avery
April 3, 2011 - Regardless how many generations it may take for the Fukushima Daiichi nuclear power plant area to become habitable again, investors decided early into the crisis that it was a short-term phenomenon for the markets.Against a backdrop of the nuclear fallout, turmoil in North Africa and the Mideast, the sovereign debt powder keg in Europe, rising inflation and historic debt loads in the U.S., the S&P 500 just completed its best first quarter in 13 years, gaining 5.4 per cent. In Toronto, the S&P/TSX almost matched the feat, advancing 5 per cent.
“We’ve been surprised by the market strength,” says Roland Chalupka, chief investment officer and portfolio manager with Fiduciary Trust Company of Canada.He is in good company. Rising stock prices have occurred on declining volumes, which from a technical point of view is considered evidence of weaker conviction.
The markets continued the upward trajectory Friday, the first day of the second quarter, thanks to better-than-expected job numbers in the United States, where the private sector added 230,000 jobs last month, helping push the unemployment rate down to 8.8 per cent, from 9.8 per cent, in just four months.The strong job figures create a dilemma for investors: Should they take them as a signal of a rebounding economy, or view the figures as a catalyst that will cause the Fed to tighten its monetary policy?
The day before the better-than-expected job numbers were released, Minneapolis Federal Reserve Bank president Narayana Kocherlakota suggested the Fed may need to raise interest rates late this year to try to keep inflation under control. In Europe, where high sales tax has helped drive inflation, the central bank is expected to raise rates on Thursday, and then deliver another round of tightening in July.
Almost certainly, this quarter will mark the end of the U.S. Federal Reserve’s second round of quantitative easing, or QE2. On Tuesday, the Fed releases the minutes of its March 15 meeting. They will be scrutinized by the market for policy intentions, but there’s little hope at this point for QE3 in the second half of the year.
This poses another conundrum: Does the end of the unprecedented flow of cheap money remove the fuel for further stock rallies, or does it signal to investors that the economy is now primed to take off on its own?
"We’re starting to see the end of the liquidity trade," says Ric Palombi, portfolio manager with McLean & Partners Wealth Management Ltd. in Calgary.
"There’s some partying like it’s 1999. But given the runup in the markets, it’s only natural to look at QE2 and some indicators and see more difficult and volatile markets in the second half."
Even with U.S. unemployment suddenly down, there are still 13.5 million people in the U.S. who want to work but can’t find a job. To put that into perspective, Canada’s total work force is 18.7 million.
On Monday, the Bank of Canada’s Business Outlook Survey is expected to signal an improving economy, and economists will be watching for signs of whether the central bank may raise rates earlier than first expected.
First-quarter financial results begin to flow in earnest next Monday with U.S. aluminum producer Alcoa Inc. reporting. “We expect a good [earnings] season, but maybe not as good as the past few quarters,” Mr. Chalupka says.At the moment, he favours defensive stocks and energy companies. He’s cool towards utilities as their yields become less appealing in the runup to rising interest rates.
