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    MARKET EDGES

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Position:  Bullish Bias on Germany (EWG)

Looking at the data out of Europe over the last two days one could be led to conclude that the fundamentals look great: European economic confidence rose to the highest level in over two years (see chart below), Germany’s unemployment rate declined for the 13th straight month, German and Swedish retail sales were up 2.8% Y/Y and 3.1%, respectively, and even Spain’s total housing Permits improved on a month-over-month and year-over-year basis!  Further, there have been some impressive Q2 earnings beats from European bellwethers.

We’re however cautious on the European outlook in the back half of 2010 for a number of factors, including: growth prospects due to austerity policies; Housing Headwinds (in particular in the US, UK, and Spain); the winding down of the earnings season; the risk of sovereign debt leverage on European banks that the European stress tests largely ignored;  and slower growth in the US—our forecast is for annual growth of +1.7% in 2010 and 2011, well lower than consensus of 3-4% range for 2010. 

Interestingly European equity markets largely sold off on the positive European confidence numbers yesterday. Today, we’re seeing follow-through selling on the back of the slowing Q2 US GDP print. With markets highly sensitive to US and Chinese data, we believe that the US government’s failure to address its rising deficit and debt levels could drag markets down in 2H10. Certainly the lack of confidence in US policy and economic health is showing up in the data: 2 year US treasury yields are hitting rock bottom!

Currently, we’re not invested in Europe in our virtual portfolio as we're waiting and watching for confirmation from the DAX and FTSE.  The FTSE broke its intermediate term TREND level of 5298 today, while the DAX is holding its level of 6072; we’ll be waiting for confirmation of the moves before we act.  We sold our long position in the Pound via the etf FXB on 7/28 at its immediate term over-bought level of $1.55 and would buy it back at $1.52.  As a note, our immediate term over-bought level on the EUR-USD is $1.30, and we’d buy it back off these oversold levels at $1.27 (intermediate term TREND support).

Matthew Hedrick

Analyst

Reading Europe’s Pulse - image001