Angela Merkel and Nicolas Sarkozy gave themselves three weeks yesterday to devise a plan to recapitalize banks, get Greece on the right track and fix Europe's economic governance. Merkel said European leaders will do "everything necessary" to ensure that banks have enough capital. Sarkozy said they would deliver a plan by the Nov. 3 Group of 20 summit.
Dexia SA plunged 42 percent last week as the French and Belgian governments organized plans to break up the lender after its short-term funding evaporated. Plans to inject capital into Europe's banks are "well under way," European Commission President Jose Barroso said last week.
"The downside risk if the euro-zone cracks is so huge that the market could go anywhere," said Francis Eliot, a strategist at Mansard Capital LLP, whose Mansard Macro Fund returned 3.9 percent last month as the MSCI All-Country World Index tumbled 9.7 percent. "The short trade is a bit crowded, but the risk is downward."
Equity valuations are already pricing in a recession and stocks are unlikely to fall much below the lowest levels of last week, according to Binky Chadha, the New York-based chief U.S. equity strategist at Deutsche Bank AG.
"Valuations and short interest are approaching Lehman levels," Chadha said in a telephone interview on Oct. 6. "It's not very easy to continue to take larger and larger short positions."
Companies in the benchmark gauge for American equities trade at 10.4 times 2012 forecast earnings, compared with the average in economic contractions since 1957 of 13.7, according to data compiled by Bloomberg. At the same time, analysts have cut projections for profits next year to $111.46 a share, the data show.
Short sales in New York-based Pfizer, the world's biggest drugmaker, rose 22 percent to 111 million shares in the first two weeks of September, exchange data show. That's 2.51 times the average trading volume from the past 30 days. The S&P 500's short interest ratio is 3.19, data compiled by Bloomberg show.
Bets on losses in GE, which makes wind turbines and jet engines, climbed 13 percent to 141 million shares between Aug. 31 and Sept. 15, the most since August 2009. Short interest on the Fairfield, Connecticut-based company has more than doubled in 2011 as the stock slumped 15 percent.
Wall Street strategists say the S&P 500, after falling within 1 percent of a bear market last week, will post the biggest fourth-quarter rally in 13 years. The measure will climb 13 percent to end 2011 at 1,300, according to the average estimate of 12 strategists surveyed by Bloomberg.
About 4.1 percent of NYSE shares have been borrowed and sold, up from 3.5 percent at the end of July, data from the bourse shows. U.S. short sales are rising at the second-fastest pace on record after the 2008 financial crisis, according to exchange data dating back to 1995.