thestreet.com still negative on Brazil
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MARKETS >> THE COMING WEEK
Damoclesian Danger
By Justin Lahart
Senior Writer
1/22/99 6:49 PM ET
We've come again to one of those times when Wall
Street sits under the Damocles sword. When
stocks' rise or fall seems determined by a coin flip.
For some, the market still looks like a very
dangerous place. Breadth on the way up was
horribly narrow, and the stocks that led the way --
mostly big-cap tech -- still seem filled more with
froth than substance. With valuations stretched as
they are, here is a time that warrants caution.
"The market is in a very high-risk situation," said Ed
Nicoski, chief market strategist at Piper Jaffray.
"The leaders are overextended and a good portion of
this market never participated in the rally to any
extent. The majority of stocks are still below their
200-day moving average -- for them, it looks like
you've just had a bear-market rally to where they
broke down. I don't know where your leadership is
going to come from."
There are other worries, too. Things are far from
stable in Brazil, and the possibility is being floated
that more declines in the real could eventually force
a devaluation in China. It is, by most lights, an
unlikely event. China carries a trade surplus of
about $40 billion. It has $150 billion in currency
reserves. It is loath to see the social unrest that
would come from a devaluation and the inflation that
would follow.
Yet the market was laid low by these same
China-will-devalue rumors in the spring even though
the chances of a devaluation were extremely low,
and these rumors will probably continue to
percolate so long as Brazil is still shaky. And Brazil
is definitely still shaky.
"Brazil is extremely risky," says Ethan Harris,
senior economist at Lehman Brothers. "There are
very high chances their currency will come apart in
a more dramatic fashion." Besides the continued
pressure that capital flight is putting on the real,
there are now worries that Brazilian companies have
run out of dollar reserves. When it comes time to
pay off dollar-denominated debt, they will have to
sell reals for dollars, hurting the real further.
Brazil Won't Sting Like Russia
Though another breakdown in the real would
certainly grab headlines and might spark more
selling in global markets, its true effect, says
Harris, would be muted. "In terms of the impact if
Brazil were to go," he says, "I don't think it will be
anything nearly as dramatic as the Russian debt
default." The kinds of credit exposures that existed
when Russia went simply do not exist anymore.
Furthermore, it has not been a secret that Brazil is
in trouble -- unlike Asia and Russia, everybody
could see this one coming.
"The other thing that's changed," Harris says, "is
people have been through a crisis one time, and
they've learned that the Fed is there if there is real
trouble."
But while the Fed would ride to the rescue if
something happened to the credit markets, Harris
points out, it would not ride to the rescue of stocks.
That's something Fed Chairman Alan Greenspan
made quite clear Wednesday in his testimony
before the House Ways and Means Committee.
"We were particularly concerned about higher costs
and disrupted financing in debt markets, where
much of consumption and investment is funded,"
Greenspan said. "We were not attempting to prop
up equity prices, nor did we plan to continue to
ease rates until equity prices recovered, as some
have erroneously inferred."
Should troubles in Brazil spark selling in the equity
market, investors should not look for Big Al to come
and hold their hands.
So there is a lot to worry about, but as Rao
Chalasani, chief investment strategist at Everen
Securities, points out, "If you want to worry, there
are always so many things to worry about."
It is a point well taken. A market that gets
overbought will grope for reasons to fall. And
inevitably, it will find them. But now he feels that
digestive process is just about done with. With the
rebound off the morning lows on Friday, Chalasani
thinks the market has successfully tested the lows
it hit earlier this month and is ready to move forward
again.
"The market has a good tone to it," he says. "I do
believe there is more room on the upside before it's
over."
Economic Data Return to the Mix
Bond traders will have their hands full not just
watching the stock market (the place they take
most of their cues from these days), but also
getting ready for a couple of key pieces of data.
On Thursday, the fourth-quarter Employment Cost
Index -- believed to be the Fed's favorite labor cost
measure -- gets released. It should be on the light
side, according to Lehman's Harris. "A little bit of
moderation on the wage front in spite of the fact that
we have a very tight labor market -- that should be a
very positive message for the Fed," he says.
But the preliminary fourth-quarter gross domestic
product release will probably not be the kind of
report inflation hawks at the Fed will want to see. It
will be very strong -- consensus estimates put GDP
growth at about 4%, but Harris thinks it could run
as high as 5%.
Part of the reason for that strength is that the winter
was very much on the warm side when it began.
Crews kept building houses. Appliance makers kept
filling them up. The warm weather may have added
about 1% to growth.
Another is trade-related. "There tends to be a burst
of exports in the fourth quarter," Harris explains.
"Most notably in aircraft. These data are supposed
to be seasonally adjusted, but obviously the
Commerce Department hasn't fully adjusted the
numbers. We think this mini-export boom has also
added 1% to growth."
So take away the 1% for the weather and the 1%
for the export boom, and you still have underlying
growth of 3%. That's still on the strong side.
Put that strong GDP together with the light ECI and
one thing is pretty clear: Unless something
untoward happens in credit markets, the Fed ain't
moving anytime soon. |
