Debt talks in Washington may add to jitters about Europe in the coming week, but investors disagree on whether the market really cares.
NEW YORK (TheStreet) -- Washington's debt talks will add to Europe's woes as a source of possible pessimism in the coming week. However, investors disagree on how much the market really cares.
By next Wednesday, the super committee that Congress appointed over the summer is supposed to agree on how to reduce the deficit by $1.2 trillion over the next decade. Already, sources quoted in news reports are saying the Republicans have proposed a smaller package of spending cuts in case the committee doesn't reach its goal. Automatic cuts across the board kick in if the committee doesn't reach any sort of an agreement, and thus far, investors' expectations are low.
Some say the fast-approaching deficit deadline is a nonissue because whatever the result, deficit cuts won't have an immediate effect on the economy. There's also the argument that eurozone worries will all but overshadow any news coming out of Washington. Others, however, are more cautious, bracing for the possibility of a slight selloff or at least increased volatility leading up to the Nov. 23 deadline.
Barclays Capital analysts described the possible proposals that the super committee might offer in the coming week as "the dream... a good start... a grudging compromise... kick the can... premature fiscal tightening...and please, don't."
"A failure of the committee to propose, or Congress to pass, a package would further elevate the amount of fiscal policy uncertainty weighing on the economy in 2012," writes Barclays.
There wasn't a lot of political action in Europe this past week: no substantive agreements on how to increase the emergency bailout fund's leverage and no firm word on what role the European Central Bank will play. News reports say officials are discussing the possibility of having the ECB lend money to the International Monetary Fund as a way to shore up more troubled nations in the region. However, investors likely will have to wait until the next European Union summit in early December for a resolution on the debate.
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"Rather than any one specific event or headline causing the decline, it seems instead that a steady accumulation of clouds over the last couple of weeks have finally tipped the scales and become a "negative" in the eyes of equity investors," wrote analysts at J.P. Morgan in a research note.
Since the coming week is a short one given the Thanksgiving holiday, Joe Bell, strategist with Schaeffer's Investment Research, says that investors want to see a lack of negative news.
David Rolfe, chief investment strategist from Wedgewood Partners, says that investors will likely see a magnified effect of any "twitches" out of Europe. "Low volumes will lead to intraday volatility," he adds.
On Sunday, Spain elects a new government that is expected to strengthen the country's commitment to more austerity. Yields on Spanish 10-year bonds soared to euro era record at an auction this past week, so investors are looking for any signs that the country might be able to curb its borrowing costs going forward. The result of the election is unpredictable but expectations are for conservative leader Mariano Rajoy to win a majority in parliament, making way for his austerity and economic reforms.
But because market optimism following leadership changes in Greece and Italy were short-lived, markets on Monday won't necessarily open higher even if the election goes as planned.
"It's like a slow-motion train wreck," says Rolfe of Europe's unfolding debt crisis. But, he adds "this is going to weeks not months... maybe we have gotten to the abyss where Germany finally relents."
Already, German Chancellor Angela Merkel is facing pressure to let the European Central Bank to play a bigger role in stemming the debt crisis. Italy is calling on the ECB to print money, as the U.S. Federal Reserve does, and become the lender of last resort. So far, the central bank has resisted. Some investors said that its bond buying interventions this past week weren't nearly enough because funding costs in Italy, Spain and France remain near dangerous levels. Also, the ECB may even have an incentive to stall in order to push countries to help themselves through fiscal austerity before turning to outside saviors.
With no near-term resolution in Europe, investors will likely look to bright spots from the U.S. economy for relief. Already, improvements have been seen in jobless claims numbers, business activity and production. Furthermore, the housing market may not be as much of a drag on the economy as forecasted.
However, as investors saw the past week, Europe can easily overshadow any positive data points from the U.S. Stocks logged losses this past week, with the S&P 500 index posting its biggest weekly drop in more than two months. The Dow closed down 3% for the week, its worst week since late September.
On Monday, existing-home sales for October are expected to come in at a 4.9 million annual rate, according to Thomson One Analytics. Sales dipped in September to a seasonally adjusted annual rate of 4.91 million, according to the National Association of Realtors.
The Federal Reserve will release notes on Tuesday from its latest Federal Open Market Committee meeting. Because inflation has shown signs of easing, investors will pore over the minutes for clues that the Fed has been considering further monetary stimulus sometime next year, especially if Europe's debt crisis weighs down the U.S. economy.
Also on Tuesday, the U.S. government plans to release a preliminary reading on gross domestic product for the third quarter. Expectations are for 2.5% growth on an annualized basis.
-- Written by Chao Deng in New York.
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