Market Recap:

Stocks followed through on the Thursday late afternoon rally and gained nearly 2 ½% across the board. Commodities too performed well, with oil gaining nearly 9% on Friday. All sectors of the S&P were higher, while Treasuries retreated. For the month, the S&P 500 gained nearly 4%.

Looking ahead:

Markets seem poised to push ahead on the light-trading week, which is split by the Fourth of July Independence Day celebration. We will keep a close watch on the German Parliamentary debates to monitor progress or deteriorations of support for the accord announced this past Thursday that ignited the strong rally. As we began stating 2 weeks ago, there are 5 critical events we believe need to occur for equity markets to rally sharply in the second half of the year.

Five key events we believe will drive equities higher in H2:

√ •Greek elections are over

√ •Germany becomes more proactive in helping Europe

Still to come:

•Helicopter Ben drops more bags of money on the system

•Earnings season surprises on the upside

•Cash and bond fund assets begin flowing into equities

As we look ahead to the second half of the year, investors are likely to continue to experience some levels of market volatility in the short-term, but should be prepared to see a rally with higher equity and precious metals prices by year end.

Markets were anxious in the weeks leading up to the Greek elections and the possibility of a Greek exit from the Euro. With the election over, this fear is subsiding (although we believe Greece will ultimately exit the Eurozone). In our view, the outcome of the elections was almost irrelevant. Simply getting past them set the stage for other rally-inducing catalysts to take hold. Specifically, we expect Germany and other European leaders to become more proactive in helping quell the crisis, and this more cooperative orientation could serve as a catalyst for a rally. This has already been visible in last week’s European summit during which Germany agreed to soften its stance and allow the EFSF and ESM to directly purchase European Sovereign bonds. Also, in the coming weeks, Germany’s upper and lower house will be voting on a resolution proposed by Angela Merkel, designed to support Spanish, Italian, and to a lesser extent French banks.

Given the dovish forecast that Dr. Bernanke made during his last press conference, we now believe that there is a significant probability of QE 3 later in the year. We also believe that the Fed could take other measures to further support economic growth, if necessary. These measures may include lowering the discount rate, extending the discount window (as they did in 2008 & 2009), increasing foreign reserve and bank swap agreements, expanding their balance sheets through unconventional methods, etc… The basic point is that in spite of what many are reporting, the Federal Reserve Bank has many options and tools available should it decide to further stimulate growth. Lastly, we think that the upcoming earnings season may prove to be more positive than most think. Although we do not anticipate record breaking earnings, we believe that the recent downward revisions are exaggerated and do not fully account for the benefits of lower commodity prices, which should help boost bottom line earnings for many companies.

Extra Note:

Although the political wrangling and macro-economic news have overshadowed investment fundamentals so far, we believe this is unlikely to last much longer. Using European companies as a preview to what may be reported here in the US for the upcoming earnings season, we note that we have observed more than 3.5x as many sales beats as misses this past quarter. Similarly, positive EPS surprises have outnumbered negative ones by nearly two to one; both ratios are relatively high compared with their historical averages. In our view, this is largely due to the pessimism and associated downward revisions many Eurozone companies have gone through. If there is continued improvement and a shift in sentiment that solutions to Europe’s debt problems are coming about and thereby the prospects for a long-term recovery is underway, we expect markets to rally.

by thebetafund.com
Montebello Partners LLC