Financial markets in the U.S. were down last week after being confronted with lower retail figures, disappointing earnings reports and geopolitical tension in the Middle East. Now, U.S. investors are wondering what lessons can be learned for the near future.

Some experts say that the events are an overreaction as markets struggled to cope with the recent spate of news. Others suggest that investors look to safer havens such as commodities and bonds.

In addition the continued unrest in the Mid-east may turn the thought of the $100 per barrel of oil into reality.

In the U.S., high oil prices have been linked to economic recessions. Such a situation has taken place three times in the past 30 years: 1943, 1981 and 1990, according to the Federal Reserve Bank of San Francisco.

However recent reports by officials within the Federal Reserve bank point out that overall, the American economy has weathered the increase in energy prices well.

Stock Market Fall

Following the Mid-east news, investors also saw the Dow Jones Industrial average dip below the psychologically important barrier of 11,000 points, which wiped out 95 percent of this year’s gains.

The Dow Jones Industrial Index fell 396 points or around 3 percent to close at 10,739.35 points for Friday.

The fall was mirrored by the NASDAQ composite index and the S&P 500 Index. The NASDAQ dropped 6.1 points, or 0.5 percent and the composite index fell 16.76 points, or 0.8 percent, reaching a 14-month low.


Following the Mid-east unrest, oil-prices continued to fluctuate with the trend pointing upward as the $80 mark seemed close at hand.

In addition, a recent attack by Nigerian rebels on an important oil pipeline, along with continuing concerns about Iran’s nuclear ambitions capped off a volatile weeklong political mix in oil sector related developments.

While the fighting in Israel and Lebanon takes doesn’t directly affect major oil-producing nations, investors will be watching closely in the coming weeks to see whether other countries will participate in the conflict. Iran, the fourth largest oil producer, had warned that Israeli attacks on Syria would be met with ‘a crushing response.’

Looking at fundamental factors affecting oil prices, demands have been at an all time high, driven by emerging economies such as China, with its fast growing GDP at 9.6 percent this year.

In the last two years, oil prices have nearly doubled from around $42.

Oil prices hit a peak of $78 before closing at $77.03 on Friday on the New York Mercantile Exchange (NYME).

Consumer Spending

Various consumer reports throughout the week supported the assertion that higher energy costs were directly affecting the economy’s growth.

Consumer spending accounts for 70 percent of American GDP.

Wal-Mart, the largest U.S. and world retailer, reported a 1.2 percent increase in same-store sales for June. The figure was at the low end of its forecast.

The company has previously said that high gasoline prices have been a contributing factor to less consumption by shoppers. A substantial portion of retailer’s customers are lower-income and particularly susceptible to higher fuel costs.

The Department of Commerce reported that retail and food services for June fell 0.1 percent while economists were predicting a rise. The biggest decline in the retail sub-category was the purchase of motor vehicles and parts. It fell at a rate of 1.4 percent and 3.5 percent for May 2006 and June 2005 respectively.

Credit rating agencies had also downgraded American automobile companies, with the most recent being Ford. Moody stated due to the high gasoline prices, demand for its’ Sport Utility Vehicles (SUV) would fall. The SUVs were a high profit generator for the Detroit automaker.

Meanwhile, the University of Michigan’s consumer sentiment index was up to 84.9, an increase from the month of May but down from the same period last year. The figures for May of 2006 and June 2005 were 79.1 and 96 respectively.

Despite signs pointing to decreasing economic trends some experts painted a more optimistic outlook.

Global Insight (GI), an economic and financial information company in July said, “Even though the consumer spending in June was less than impressive but the April and May revised retail sales and manufacturing inventories were relatively positive.”

GI believed that the University of Michigan consumer sentiment index, hovering around the mid-80’s suggested consumers were neither particularly optimistic nor pessimistic. This signalled consumers would be more cautious for future spending.

The figures are closely analysed by corporations to respond to the changing spending pattern of consumers.

Corporate Earnings

The second quarter earning reports were a disappointment for Wall Street. Leading corporations in America failed to match analysts’ expectations.

Bellwether company General Electric Inc. reported a 15 percent rise in earnings per share but closed down 1.17 percent at $32.11 on Friday. Analysts cited a thin profit margin and a weaker outlook report.

On the NASDAQ, EMC Corporation (EMC) earned $2.57 billion in consolidated revenue for the 2nd quarter, but its stock dropped 15 cents or 1.5 percent to close at $9.83. Earlier it warned of a profit downgrade.

3M an industrial conglomerate, followed EMC’s lead, also issued a profit downgrade causing its share price to drop by $7.29 or 9 percents to close at $74.1 on July 7. It would release its result on July 25.

Computer storage company EMC on the NASDAQ exchange saw it sit shares drop 15 percenr to $9.83 after reporting a profit downgrade for 2006.

Despite profits, the company’s failure to meet investor’s expectation saw the stocks dropped. Investors are switching focus to other asset classes.

Investor Reaction

Geopolitical tensions, a softening of consumer spending and the less than positive earning reports cast a shadow over Wall Street. Some analysts suggested moving into more stable investments while others saw the low market as a sign to come in for later profits.

Investors re-evaluating their strategies following the week could flock to other investing safe havens. Two classes of assets stand out: Gold and bonds.

In the New York Mercantile Exchange, the price for gold closed at $673.2 an ounce on Friday, the highest since it peaked in May 30. The price of gold rose 5.2 percent last week. Investors had also bought sliver, platinum and copper, which all rose in price at a smaller percentage.

Two-year Treasury bonds decreased 8 basis points or 0.08 percent to 5.09 percent this week, according to bond broker Cantor Fitzgerald LP. The 10 year Treasury note used as the benchmark for asset returns, has also dropped 7 basis points or 0.07 percent to 5.06 percent.

Given the high price of gold and the low yield of bonds, some equity analysts believe the market is still bullish.

Nick P. Calamos, chief financial analyst at Calamos Asset Management, Inc. which manages over $45 billion in assets, in July said the recent events were just a correction in a bullish market.

A ‘black bear attack’ as defined by Calamos was ‘a correction of 10 percent or so that occurred to help shake out the weak stomachs or the highly levered in the financial markets.’

“Signs of excess are present (in the US and global economies), but so are signs of strength and moderation,” he said. “In general, we believe what we're seeing today is a black bear attack in a bull market.”

The advice given by Calamos here was to take on more equity saying, “If this correction is a black bear attack, then get aggressive (add to equities) and attack the bear.”

$100 per barrel: Myth or Reality?

Brian Bethune the U.S economist from GI, believed the market was over reacting to the situation between Israel and Hezbollah on Friday. Although not discounting the fact that oil price could reach $100 he outlined a perfect storm scenario.

He said disruptions in the Saudi pipelines, hurricane damage in the Gulf of Mexico and the involvement of Iran in the escalating conflict between Israel and Hezbollah will make it possible for oil prices to reach $100.

The response by the Asian stock markets and the European stock markets had already recorded a massive dropped as anxious investors awaits to the opening of Wall Street for what can be describe as another tense week.