If you think the worst is behind us when it comes to the Eurpean debt crisis, Think Again!

Yesterday there were more riots in the streets of Athens as labor unions violently opposed a new proposal that would raise the retirement age and cut payments to pension recipients.  It’s understandable that citizens would be discouraged at losing generous benefits that had been promised for years, but one has to stop and think about how realistic these promises have been.

Whether Greece is able to fulfill the labor union’s expectation of generous payday and retirement benefits or not, the international investing community continues to expect high levels of risk.  The risk of a Greece or Spain default is a very serious issue with global repercussions.  Many European banks have significant exposure to Greek and Spanish sovereign debt, and even the expectation of a default can cause illiquidity as banks refuse to lend to each other and capital ratios are unable to be met.

As a trader in primarily US based companies, the European debt situation is still a major concern.  US markets are increasingly keying off of international events including Austerity programs, Chinese economic reports, and trends in emerging markets.  As correlations between geographical regions increase, I am finding few places where long-term investments make sense right now.  There is just too much risk of loss.

So at this point, the best course of action continues to be one of defense.  Consider holding elevated levels of cash in your account.  If you are comfortable shorting stocks and understand the risk, there are plenty of negative fundamental and technical situations that can be capitalized on.  IRA accounts can consider buying puts or inverse ETFs.

There will eventually be opportunities to buy equities with high levels of conviction.  But today’s market allows for very little confidence and requires patience and risk management regardless of your time horizon and risk tolerance.

Market’s are off sharply Tuesday as investors grapple with numerous economic and political crosswinds.  This morning, traders were greeted with a weaker-than-expected Consumer Confidence report.  The index dropped to 52.9 in June and the May figure was revised lower to 62.7.  According to Bloomberg, this index would need to come in above 90 to truly indicate that the economic rebound was on solid footing.

Reuters blames the weakness on two primary factors.  First, the labor market continues to be soft and consumers are concerned with the employment situation.  Those who have jobs may very well be choosing not to make discretionary purchases and instead build up a savings account in case their employment situation changes.  Obviously those who do not have jobs are even more focused on reining in spending.

The second issue is the European overhang.  While most US consumers don’t actually see significant changes in their lifestyle as a direct result of the European uncertainty, the thought of heavily indebted governments defaulting on sovereign debt is very concerning – especially considering the massive debt the US is currently building.

Additional factors include the real estate market which was artificially propped up by stimulus programs but now appears to be under pressure once again.  If consumers feel that their home value is declining, they are less likely to make large purchases – especially home repairs or remodel projects because there is less justification that these improvements are an “investment.”

Finally, the declining stock market has a very real effect on sentiment.  As consumer see the value of 401(k) holdings, IRA accounts, and traditional investment portfolios decline, it sends a very disturbing negative wealth message.

The end result will likely be contracting multiples on equities and a flight to quality.  Pursuing a conservative investment strategy appears to be the best approach for today and holding significant amounts of cash and potentially inverse ETF positions can help to offset losses in traditional investments.

Note: Below is a guest post courtesy of Michael Trinkle.  Michael represents ForexTraders.com ~ ForexTraders.com is an educational/informative resource center for the currency exchange market. We help people learn, analyze and execute forex trading by providing them with the necessary tools and information needed to be successful.

Enjoy,
ZDS

Lately, almost every financial news network has market analysts talking about the currency markets. At the moment the future of the Euro Dollar is the number one debate. Some say that the European Union needs to exist for efficient trade to take place more freely throughout the E.U. Others have suggested that Greece and the other countries in trouble default on their debt and start anew, without being part of the E.U. If you are a trader looking to play the Euro currency without buying the EUR/USD pair, a good exchange traded fund that will allow you to do this is the Currency Shares Euro Trust, ticker symbol (FXE).

The FXE trades on all the major electronic exchanges. With an average three month volume of over 1.5 million shares traded daily there is more then enough liquidity for traders to trade large orders of this product intraday. The FXE will mimic the price movements of the EUR/USD pair that forex traders would trade, so if as an investor you feel that the Euro will rise buying shares of this ETF will allow you to profit from its appreciation. Likewise if the Euro Falls the ETF will lose value.

At the moment the FXE has been trading between a high of 125.66 and a low of 121.27 over the past week. As you can see by the charts the Euro has been depreciating against the U.S. Dollar since the beginning of the year. In the past month the Greek debt crisis has led to a steeper selloff, bringing more uncertainty into all financial markets.

Traders should be watching the charts in the next few weeks to see if the Euro will regain its footing or fall further. The increased volume that you can see in the histogram on the bottom of the chart indicates that more people have been trading this ETF in the past few weeks. If Greece, Spain and Portugal announce that they are still having debt issues, the Euro and the FXE will fall further.

There is no support below the 121.27 mark that we tested on May 18^th, so a price break below that level on higher volume will indicate another leg down for the price of the Euro. The overall trend has been down since the beginning of the year, making it more probable that we will continue lower. There would need to be a major news story about the Germans backing the future of the European Union and Euro as a currency for it to start to appreciate. The German economy and its strong GDP is the driving force the holds the E.U. together. Germany has the biggest economy in Europe and since they are the most financially stable, they will have to help the other countries with loans to cover their budget shortfalls.

It is never easy for politicians to get their citizens to lend money to other countries that simply do not try and get their budgets under control. Greece is in the process of trying to change their socialistic style of government. As we all can see from the riots on television, this is not going to be an easy transition. If the various governments that comprise the E.U. can get their debt under control before they ask for money to bail them out the Euro has a chance to survive. If we as investors see little progress being made, they Euro will continue to fall. As a trader the best way to profit from the falling price of the Euro is to initiate a short position using the FXE exchange traded fund.

Friday’s dismal retail sales report was largely overlooked as the market continued it’s oversold bounce.  But despite the strength in the broad averages, the fundamental data in the report was concerning for both business owners in the retail sector as well as investors who have bid prices of retail stocks significantly higher over the past few quarters.

The big decline cast new doubts about the strength of the economic recovery.  Consumer spending accounts for 70 percent of total economic activity.  Economists are concerned that households will start trimming outlays as they continued to be battered by high unemployment and a swoon in stock prices. ~AP

Certain retail stocks have already begun to price in a slowdown in retail sales…  For instance, Abercrombie & Fitch (ANF) has already lost 30% of its market value from its high in April.  Still, other expensive apparel companies such as Lululemon Athletica (LULU) are still trading near their highs and appear to be vulnerable.

The decline in May sales reached 1.2% which was the largest decline since September and the first significant piece of negative news for retailers.  I would be more inclined to sell (or short) any rallies in the retail sector.  Investors will likely place a lower multiple on these stocks given the uncertainty ahead and the significant risk the that US consumer will continue to pinch pennies and reduce spending.

For any remaining employment optimists, the comments out of Washington from Ben Bernanke are certainly troubling.  Last night the Federal Reserve Chairman sat down with Sam Donaldson (ABC) to discuss the state of the US economy.  His words were less than encouraging:

The unemployment rate is still going to be high for a while, and that means that a lot of people are going to be under financial stress

Last week, the employment report was released and was quite a disappointment to most traders.  While government hiring increased as a result of new census workers coming online, the private sector is still struggling to create new jobs.  Since each new government job must be funded by taxpayer revenues or additional borrowing, the number of new census workers isn’t exactly a benefit to the system as a whole.

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Optimists might point to the declining unemployment rate as evidence that the picture is brightening.  But the actual decline in unemployment is more a result of a smaller workforce as the statisticians reduced the denominator of “employable workers.”  This is much more of a statistical magic trick than a true improvement in the employment picture.

Last night, Bernanke also seemed to be hedging his words carefully and possibly hinting at an impending rate increase – which would likely constrain growth:

The Fed chief reiterated yesterday that the central bank’s “extended period” of a record low interbank lending rate is conditioned on high unemployment, low inflation and stable price expectations.

“We have right now a very accommodative, very easy monetary policy,” Bernanke said. “We can’t wait until unemployment is where we’d like it to be” or inflation gets “out of control” to tighten credit, he said.

(Bloomberg)

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So at this point it appears the market fear is pricing in an increasing possibility of a double dip recession – which would be very difficult to endure given the high level of government debt and the relatively high level of unemployment heading into this period.

Investors should continue to be cautious, employ strict risk control measures, and be willing to hold cash positions.  The market continues to be very turbulent and long-only investors are likely to have much better prices for buying a bit farther down the road.

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This morning’s unemployment report is being viewed as a positive data point with the number of initial claims dropping by 10,000.  However, with the total adjusted number checking in at 453,000, a 10k drop is not really a significant decline.  Analysts had been expecting the number to drop more and hit 450,000 for the month.

Unemployment has been an important issue, and one that has been difficult to tackle.  Despite many stimulus projects aimed at improving the unemployment picture, workers are still finding it challenging to find jobs.  This from a Reuters report on the data:

Although the economy has now grown for three straight quarters following the worst downturn since the 1930s and the recovery is broadening, stubbornly high unemployment is eroding President Barack Obama’s popularity…  While other indicators support views the labor market recovery is firming, claims for jobless benefits remain above levels usually associated with sustainable employment growth.

While the jobless report is helpful in determining the state of employment in the US, most eyes will be turned to the more popular Employment Report which will be released tomorrow.  The expectation is for non-farm payrolls to have increased 513,000 in May – much of which is due to the census hiring.

Employment is an important part of any economic recovery because it directly affects the well being and sustainability of the population.  While the US could experience nominal GDP growth as an eventual product of stimulus spending, without a sustained resurgence of private jobs, the recovery will quickly run into substantial challenges.

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According to Bespoke, Tuesday’s market action was the second worst start to June in the last 50 years.

Only the first trading day of June 2002 was worse with a decline of 2.48%.  Below we highlight all first days of June that have been down over the last 50 years.  We also provide the index’s performance through the end of the month.  For Junes that have started the month down, the S&P has averaged a rest-of-month decline of 0.53%.

Take a look at the table and you will see the closest two data points led to some very rough returns.

Considering the fact that we just completed the worst May in 50 years, it is clear that the market is vulnerable and investors  (professional and retail alike) are pairing back their risk exposure and looking for safety.

Consumers remain under pressure and if inflation and/or  unemployment statistics begin to tick higher, the pain will be felt not just on Wall Street but more importantly on Main Street.  Investors should be looking for defensive businesses that can survive and even thrive in a weak environment for consumers. Direct payday lenders like First Cash Financial (FCFS) and Cash America (CSH) may be worth watching as they have backed off in recent months but are fundamentally still relatively strong.