Markets Focused on Weakening Economic Data

The rally in stocks has lifted the S&P 500 Index by 10 percent since June 1, but the substance behind the rally has been questioned throughout, as global economic data continued to soften.

The most often-cited catalyst for the rise in stock prices has been the prospect of additional central bank easing. Pronouncements from the European Central Bank (ECB), and hints from the Federal Reserve and People's Bank of China (PBOC) created an expectation of combined monetary stimulus sufficient to overcome economic doubts and push global equity prices higher. But, unless the economic data takes a more positive turn soon, the rally in stocks is likely to be tested in the next few weeks as the policy machinery undergoes a seasonal slowdown.

First, the ECB's promise to do whatever it takes to defend the euro must wait for the German court to rule on the constitutionality of the European Stability Mechanism, a decision which is not expected until September 12. And even if the ruling is favorable, there is no German consensus on the advisability of the ECB's debt buying plan. Nor is there any consensus inside the ECB for that matter. The Fed does not meet again until September 12 as well. The Kansas City Fed's annual economic symposium in Jackson Hole, Wyoming gets underway on August 31. The event has provided a forum for policy announcements in the past, although that seems less likely this time. And the PBOC will formally meet next on an unspecified date in September, although it could, like other central banks, alter policy at any time.

Second-quarter earnings season is winding down. So unless there is some kind of surprise announcement, markets will be left to focus on economic data in the interim, which may not be entirely encouraging. The latest industrial production data from Germany showed a year-over-year decline for the third consecutive month in June. Manufacturing has declined for five consecutive months through July. Second-quarter gross domestic product (GDP) is scheduled for release on Tuesday and is expected to be the weakest in two years. In China, export growth in July slowed to just 1 percent year-over-year, down from 11.3 percent in June. And in the U.S., the latest readings on manufacturing, retail sales, and job growth continued to be soft.

The week ahead

This week's calendar includes retail sales for July; along with producer and consumer prices, industrial production, housing starts and permits, and leading indicators. If the data is firm, then equity prices should have firmer footing upon which to stand. But the trends of the past few months have been weak.

Lastly, the Republican National Convention does not begin for another two weeks. But with the selection of Rep. Paul Ryan as the Vice Presidential candidate, the campaign is now more clearly coming into focus as a referendum on the nation's fiscal health. We may now get a debate on the substantive issues facing the country, rather than simply mucking around in the politics of personality. That would be a welcome development.