Second Half Recovery

The equity rally seems to be gaining momentum and lends credence to the emerging theory that the summer period is going to be one of reconstruction and recovery. It doesn’t necessarily mean that we’ll emerge from the “credit crunch” come fall 2009 but that instead we’ll be seeing an economy moving at different speeds. Some sectors will still be undergoing correction, others in recovery mode and finally we may just see a bull market return in the remaining few.

Its a real shock that the S&P has risen nearly 30% since the rally’s beginning in early March; in the same period financials have risen 74 percent; cyclical consumer discretionary have jumped 46 percent; industrials gained 44 percent and materials are up 41 percent. Meanwhile defensive sectors have underperformed. But just as there was a lag for the troubles of the credit market to percolate through to equity space; its equally extremely disconcerting that credit has remained roughly unchanged despite the largish rallies on Friday. Xover, the key vanilla credit metric, still remains at the 800 range.

The muted response of credit space is a reflection of fears that the banking sector is still very undercapitalised. The public release of the stress test for the 19 banks studied by the Federal reserves will be a revelation and indictment that banking still hasn’t changed its ways despite suffering such a huge collapse in valuation.