Why the worst days may be over for U.S. Economy

U.S. stocks staged a sharp rally on Friday after the July payroll report indicated the U.S. added 163,000…

U.S. stocks staged a sharp rally on Friday after the July payroll report indicated the U.S. added 163,000 new jobs as compared with a 100,000 jobs forecast. Additionally, the non-manufacturing ISM survey rose to 52.6 on the back of a large gain in the business activity index. This further suggests that the worst of the U.S. economic slowdown – that has weighed on sentiment since the spring – may finally be behind us.

The market’s most cyclical sectors posted gains of 2%-3% on the day while traditionally defensive stocks lagged. With Friday’s gains, the S&P 500 was up for the week, despite a frustrating lack of action from central banks. Looking across asset classes, the risk rally is in full effect, with copper, oil, and the euro sharply higher, Spanish bond yields sharply lower, and a reduced demand for U.S. Treasuries. The latter was reflected in the yield on the 10-year bond, which bounced back up to 1.58% after having skirted all-time lows earlier in the week.

The last big week for earnings announcements was a bit disappointing. Only 43% of S&P 500 companies have topped revenue estimates (the poorest results since the first quarter of 2009). Aggregate revenue growth is only 0.8%, and earnings are up only 5%.

What Is Ahead: We have a light week for U.S. data, but China will publish a substantial amount of July activity data beginning on Thursday, which could shed further light on the trajectory of global growth.

Update on the Eurozone crisis: The ECB continued with its pattern since the beginning of the European sovereign debt crisis – providing partial solutions that offer guidance about future policy steps, but without a clear timeline. At the ECB press conference last week, Mario Draghi said that the ECB may undertake outright open market operations of an adequate size to reach its objective of price stability. He also said that concerns of private investors about seniority will be addressed and that further non-standard monetary policy measures will be considered.

While this is all very positive, the timeline is once again vague, and the actual policy mechanisms are opaque. European policy makers continue to move slowly in the right direction, and last week’s ECB meeting is a step towards that end. However, we believe that it will take additional market pressure before policy makers act forcefully – and that it is too early to buy European risk assets.

Mark Luschini is the chief investment strategist for Janney Montgomery Scott LLC.