After Wall Street had a down week last week for the first time in five weeks, there are new concerns to grapple with, besides the usual litany of banks, earnings, recession and unemployment.
California, then country’s biggest state and individual economy, is on the verge of a very sharp ratings downgrade as it struggles to cut a $US24.3 billion budget gap.
And, the continuing protests in Iran which could start global investors worrying about oil supplies, which in turn could see world prices resume the recent upward trend that was interrupted in Friday trading.
After at least 10 people were killed at the weekend, the oil market will be very twitchy today.
That, plus concerns the recent equities rally is looking tired, and news of California’s rising debt and cash, comes as markets in the US and around the world had their biggest sell down last week in a month or more.
The falls from the closing levels of the previous Friday seem to be around 3% and more for most markets, with some analysts suggesting that the closing levels on June 12 might be a recent peak while investors re-assess the strength of the rebound since early March.
That’s why something like California’s debt woes could have a bigger impact than first thought.
It may be enough to undermine investor confidence in the shirt term and get them worrying about the health of the financial systems.
Three small banks were shut in the US on Friday night.
All were small local operations with no broader significance except they took to 40 the number of banks closed in the US so far in 2009, well up on 2005’s 25.
California’s budget gap (not a deficit), but a gap which it is required by law to close, has been caused by the impact of the housing crunch, credit crisis, recession and political wrangling; all issues hitting the US economy from top to bottom.
A minority of voters in the state earlier in the month defeated plans to boost revenues by tax changes, seemingly oblivious to the financial, economic and political damage their ‘no’ votes could do.
Now Moody’s has warned that the state faces the prospect of a "multi-notch" downgrade in its credit rating if the state’s legislature fails to act quickly to produce a budget, and one that isn’t too ‘rubbery’.
Moody’s decision to place California’s general obligation debt on alert for a possible "multi-notch" downgrade stunned the government and triggered alarm bells about the credit ratings of other governments, state and local across the US.
It will also focus attention on the US credit rating (Despite ratings agencies saying the AAA rating isn’t under threat).
Those fears could see interest rates rise on state debt (and fall on US Government debt), triggering a funding crisis in states like Florida, Nevada, New York (and New York City), Washington State and Michigan.
California has an A2 credit rating from Moody’s: that’s only the sixth-highest investment grade and makes California the lowest rated of the 50 US states.
The A2 rating is just five notches above junk bonds and Moody’s raised the potential for the rating to tumble toward "junk" status if the state’s political leaders fail to quickly produce a budget for Governor Arnold Schwarzenegger to sign.
It will trigger a rise in interest rates for the states and intensify pressure on the budget deficit.
Companies with operations in the state will face higher costs or lower service levels.
It could be the start of a re-rating of all state and local government debt in the country which would in turn force states to raise taxes or cut services (contracts etc) to meet these higher bills.
With unemployment set to rise and more and more Americans unable to find jobs, and state funds to pay benefits being drained, the pressures on consumer spending, retail sales and consumption will intensify.
That makes it bad news for retailers and others: the stimulus payments from the Federal government now being rolled out across the country will help to a small extent, but not longer than a year to 18 months.
The longer unemployment remains weak, the longer consumption will remain weak and tax revenues will not rebound.
Some commentators say the prospects of a state or local government default is now very real for credit markets.
It’s a ‘left field’ factor investors should be considering as they assess the current health of the boom since March.
US analysts are now wondering if this bounce is exhausted and US stocks are due for a correction.
Worries that the economic recovery could be a mirage and any recovery weak have seen second thoughts about the market.
The Standard & Poor’s 500 was up 39% 10 days ago from the 12 year lows in early March; that had been trimmed to around 36% by Friday.
One other factor to keep in mind is the strength of emerging markets like China, India, Brazil and the Asean tigers where shares have done very well in many cases.
As the latest Merrill Lynch survey (see accompanying story) shows many big global fund managers are still believers, but the strength of that belief is not as solid as in May, thanks to the rise since then.
The Dow fell 15.87 points to 8,539.73 on Friday, but the Standard & Poor’s 500 Index added 2.86 points to 921.23. Nasdaq rose 1.1% to 1,827.47.
After four weeks of gains, the Dow fell 3%, the S&P lost 2.6%, and Nasdaq dropped 1.7% over the week.
Masking trading patterns hard to discern on Thursday and Friday was the two-day quadruple witching period, the expiration and settlement
