Divergence in ASX, Dow Jones Caused By Debt-Reliant Stocks

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Since the first wave of credit crisis carnage subsided on August 17, the Dow and the ASX/200 have gone the same way, but at a much different pace. The ASX/200 bottomed at 5,671 on the 17th. Its Friday close at 6,220 is 549 points and 9.6% higher. The Dow, meanwhile, has rallied only 3.4% from the low on the 17th at 12,845.

Perhaps this reflects the composition of corporate earnings in Australia. While financial sector stocks make up a large portion of the ASX’s total market cap, resource earnings got top billing in late August. BHP (ASX:BHP) reported an AU$17 billion annual profit on the 23rd, aiding the recovery.

It didn’t hurt local confidence that Macquarie Bank (ASX:MBL) told the world it would make about AU$1 billion in the first half of the fiscal year, and would NOT lose a bundle on sub-prime debts (we suppose that loss is confined to retail investors in Mac Bank’s subprime exposed funds).

We may see more signs this week of a genuine divergence between the performance of Aussie stocks and US stocks. But it’s probably more accurate to say you can expect to see a divergence in the performance of stocks dependent on debt and those that are not. Drawing that distinction takes, to borrow a phrase from Benjamin Graham and David Dodd, security analysis.

You’ve got to look at stocks one by one and look at the quality of the business, of the earnings, of the management and of the assets. Will it matter if the Fed cuts rates then? It will seem perverse, but it wouldn’t surprise us if the US dollar rallies on a Fed rate cut.

The US currency was busy last week losing ground to its brothers in Canada and Australia…and come to think of it…just about every other currency in the world (except maybe the Zimbabwe dollar). The markets have already discounted a Fed rate cut by selling the dollar. The actual cut itself may prompt some dollar buying.

But we’re not counting on it. The Fed is in an awful situation of Alan Greenspan’s making. If it cuts, ho hum, everyone expected it. If it doesn’t, it’s doing nothing to bail out borrowers and lenders. All of this seems like it ought to be very good news for gold, which is probably not much consolation to anyone waiting in line to get cash out of a bank that’s failing and a financial system that’s trying to contain that failure.

Dan Denning
The Daily Reckoning Australia

Dan Denning
Dan Denning examines the geopolitical and economic events that can affect your investments domestically. He raises the questions you need to answer, in order to survive financially in these turbulent times.
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