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Asset Management

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Markets Looking Forward to Earnings

Geopolitical risks are increasing as the markets chug through the summer months, and investors are watching their risk profiles very closely.

Stocks continued to advance in June and into the beginning of July, following the strength exhibited in May. Though energy prices were higher last month, the impact on consumers and investors appeared to be minimal. Additionally, demand for credit was strong, keeping high-yield paper from declining, but a change may be in the immediate future.

Most of the equity market benchmarks were higher last month, and many were setting all-time or 14-year highs at the beginning of July. The seasonal strength was evident. Now comes the time when companies report their results for the second quarter, raising the question if they can meet the expectations set by investors.

The S&P 500 Index (SPX) gained 1.9% last month, and the Dow Jones Industrial Average (DJIA) appreciated 0.5%. The Nasdaq Composite Index (COMPQ) surged 4.4%. The big story was the Russell 2,000 Index (RUT), which soared 5.7%, continuing its rebound from the lows set in mid-May.

[For more financial markets prognostications, read 5 Red Hot Summer Market Predictions.]

Geopolitical factors have eased somewhat, but new tensions in the Middle East may fill the gap. While fighting continues in the Ukraine, terrorist groups continued to stir up confrontations in Iraq, and this month we are seeing fighting between Israel and Hamas. However, despite those actions, crude oil has been declining.

Commodities mixed
Precious metals turned higher, with gold rising sharply June 19 and pushing to a three-month high this month. Silver was also sharply higher, and platinum and palladium were also being accumulated.

Crude oil broke out June 12. Brent Crude Aug. 14 futures topped out at a high of $115.71 on June 19. Those futures are now below the breakout point of $109.80. That action was echoed by West Texas Intermediate Crude Aug. 14 futures, now near a test of the $100/barrel threshold. Coffee prices have plunged to a five-month low.

Live cattle and hogs continued to climb, while prices contracted for many agricultural products. However, consumers continue to voice concerns about supermarket prices, which remain high, and prices at the gas pump, which have failed to retreat from their recent highs.

The US Dollar Index has been struggling to recover from its June lows. The euro bounced against the greenback, and the British pound has held the strong gains it has achieved against the dollar.

Currencies that have been strong against the Dollar include the New Zealand dollar, the Canadian dollar, and the Japanese yen.

The Fed
The Federal Open Market Committee released minutes from its latest meeting this week, indicating a plan to end quantitative easing with the last planned bond purchase in October. Nevertheless, Treasuries continue to rise, and interest rates remain under pressure. This is partly due to investors seeking safety in what has become a slightly more volatile equities market. We are concerned that the demand for high-yield paper appears to be turning lower, but that might be a seasonal factor.

The economy
The first-quarter gross domestic product (GDP) was revised unexpectedly lower. The harsh winter that impacted most of the country appears to have been worse than anticipated. The good news was that the lower GDP makes for easier comparisons with the second quarter.

We are beginning to see slight inflationary pressure, which indicates that the economy is expanding. The Consumer Price Index (CPI) core rate rose 0.3% in May, and the Producer Price Index (PPI) core rate fell 0.1%. The lower PPI number should aid the June CPI reading.

The Employment Situation Report for June was stronger than expected; the unemployment rate dropped to 6.1%. That gave the markets a surge ahead of the July 4th holiday. The Conference Board reported that the Consumer Confidence Index rose to 85.2 in June from 82.2 in May, indicating that higher prices are not as important as job creation.

Equities: a deeper view
Stocks were strong, aided by merger and acquisition activity, which helped to drive investor and trader confidence. We believe that optimism has risen to very high and dangerous levels. The CBOE S&P 500 Implied Volatility Index, which is also referred to as "the fear gauge," reached a seven-year low.

The internal market indicators have been confirming the new highs. On the NYSE, the number of new highs rose to 818 issues on July 1. That was the highest reading since Oct. 22. One negative has been that volume has been generally declining on positive days and rising on weak days. That may indicate that investors and traders are more in control of their risk -- or more aware of it.

The strongest industry groups in June included biotechnology (+18.2%), metals and mining (+8.5%), computer software (+8.4%), oil and gas exploration and production (+8.2%), and semiconductors (+7.8%). The weakest groups included aerospace and defense (-0.8%), transportation (+1.5%), mortgage finance (+1.8%), insurance (+1.8%), and leisure (+2.6%).

For the first half of the year, DJIA rose 1.5%, SPX gained 6.1%, RUT appreciated 2.5%, and COMPQ added 5.5%. The strongest groups were semiconductors (+22.8%), oil and gas exploration and production (+20.1%), biotechnology (+18.2%), pharmaceuticals (+17.9%), and transportation (+15.1%). The weakest groups were outsourcing and IT consulting (-2.2%), software and services (-2%), capital markets select (-1.8%), and homebuilders (-1.6%).

What to watch
Investors will now focus on two major points. The first and most immediate is confirmation of the market moves from the release of second-quarter earnings. The second is the release of the gross domestic product (GDP) at the end of July, showing the strength of the bounce from the first-quarter decline. Geopolitical events are expected to continue to create short-term gyrations. Such episodes create volatility in equities and commodity markets. We continue to seek strategic opportunities that permit us to outperform the S&P 500 Index.

Michael J. Levas has been in the investment management business for over 25 years and is the founder, senior managing principal & chief investment officer at the Olympian Group of Investment Management Companies. Prior to Olympian, he was a VP and Portfolio Manager in the ... View Full Bio
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