The 4th quarter commenced as the US presidential election entered its final weeks in a statistical dead heat and concluded with the fiscal cliff debate still unresolved. The US Senate passed a compromise two hours after midnight on New Year’s Day that would ultimately be confirmed by the House of Representatives and signed by the President on January 2nd. News of the agreement sent US equity markets soaring on the first trading day of 2013 and major indices finished up about 3% from the December 31st close. The euphoria was short-lived however, as the agreement was centered on tax policy and only postponed action on the sequestration related to future spending cuts, for two months.
Quarterly Commentary 2012
Macro events continued to dominate financial and popular news through the 3rd quarter. The quarter commenced with the breaking of the LIBOR fixing scandal and culminated with the Federal Reserve announcement of “open-ended” bond purchases; popularly dubbed “QE3” or “QE-Infinity.” The Fiscal Cliff continues to loom in the US, China’s economy continues to slow, Iran and Israel continue to engage in an escalation of tension over nuclear capabilities, the ECB continues to walk down the path of debt mutualisation, and the US presidential election season kicks into high gear with both parties vying to paint a more dystopian future, should the other side win.
Turmoil in Europe continued to be a major headline in the 2nd quarter right up to the final day of the quarter. In June, both Spain and Cyprus formally requested bailout funds from the European Central Bank. Spain's bailout represented the fourth bailout of the five “PIIGS” countries joining Portugal, Ireland, and Greece. After initially denying the need for bailout funds, Spain requested $125 billion (€100 billion) to shore up its faltering banking system. Italy, the remaining "I" in PIIGS, has avoided a bailout due in part to stronger fiscal position; despite a very high debt-to-GDP ratio (120%) Italy currently runs a budget surplus. While Cyprus is a small sovereign nation, it enjoyed a large banking sector due to a favorable tax landscape for Greek nationals. Cyprus requested approximately €2 billion or 10% of its GDP. In an interesting counterpoint to the PIIGS moniker coined in 2009, "FANGs" (Finland, Austria, Netherlands, Germany) has come to the fore as an acronym for the wealthy northern-European countries whose more stable economies may be relied upon to backstop the bailouts of the PIIGS.
March 9th, 2012 marked the 3rd anniversary of the post financial crisis market rally. From the market low on 3/9/09 the S&P 500 has risen 122% through the end of 1Q2012 (cumulative total return) and more risk-oriented equities, such as small caps and emerging markets, have rallied even further. The rise has been very impressive; however, equities have yet to return to the 2007 peak and the rally has not been without bumps in the road including a few 10+% declines. Despite the robustness of the rise in equity prices, valuations remain below longer term averages with the forward P/E on the S&P 500 hovering at 13.0x as compared to the 20-year average of 16.2x.