Since I last blogged, the market has been "mildly interesting", to put it mildly!!!
Last weeks rally was the first positive week in a month, and it continued yesterday with an impressive party in stocks all round. And yes, a rally was to have been expected, coming from horrendously oversold levels, at least in the short term, though its very interesting to see the relative winners and losers. And I'm not talking about the reward for lending money to various sovereign Governments around the world based on the risk you are taking on. Whether it’s the mouthwatering 44% on offer for lending to Greece, which has one foot in the grave. Or the 0.0000 miniscule number that you'd be getting for lending to the Japanese with its 200+% debt/GDP. Or to Europe, which arguably may or may not be around in its current states for much longer. Granted, the European balance sheet may look slightly more enticing now that the ECB have moved on from buying the worthless Greek debt to the dubious Spanish and Italian debt!!! Or the US with its $14 trillion and rising deficit? At some point, we'll learn the hard way that "safety" promised by the Governments, is a nonstarter.
Anyway. I'm not talking about all that- that’s the subject of a different post! Back to todays post! It was interesting to see the relative winners and losers. Despite the oversold conditions, and an expected rally, the outlook is not all that rosy. Turbulence continued in Libya, violence worsened in Syria, Israel/Arab tensions, hurricane in the US, plus the eagerly awaited Bernanke speech at Jackson hole (whose remarks were initially perceived as negative, but then markets recovered to finish strongly higher). With hindsight, come September, its possible that the post Bernanke rally was based on "hope". This time last year, when Bernanke spoke, he PLEDGED QE to combat deflationary pressures. This time around, he spoke about fiscal policy and gave his usual "range of tools that could be deployed", but there was very little talk about monetary policy per se. Nevertheless, markets rallied, on what? Hope? There was also the small matter of the first revision to Q2 GDP, which dropped from a preliminary 1.3% to a meager 1%.
However, the market more or less ignored all this, and rallied. And what rallied the hardest? Small cap growth. At least if you're going to party/rally, a rational market would presumably rally in the "safer" asset classes? Small Cap growth, the antithesis of a flight to safety, was up 6.7% for the week, whereas the large cap growth, the epitome of a flight to safety (within the equity space), was the worst performer at 4%. Further, the Utilities and health care stocks, the "boring defensives", performed almost as badly (relatively speaking), whereas the Industrials, the cyclicals, outperformed. However, it is also imperative to point out that the rally was noteworthy for its lack of leadership- the leaders are thinly traded. Additionally, unlike last year when QE2 sparked a massive move out of bonds and into equities with a huge rise in yield as investors sold bonds, this time round, the 10 year hardly moved. And generally, the bonds lead the equity market, and a sub 1% yield on the 5 year speaks volumes for the signal for the economic outlook.
Going back to the GDP report, as well as the downward revision, there is also the statistic that the real GDP year over year change has now fallen to 1.5%. And as can be seen from the following chart, courtesy of Bloomberg, since 1948, each time the real y/y change in GDP has fallen below 2%, the economy has subsequently entered into a recession.
In an uncertain, volatile environment, the one certainty, is that we are in for an interesting, volatile ride!!!
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Some interesting points Dani but I think you over-looked one issue; the lack of investing opportunity.
ReplyDeleteAs you correctly said the yield on 'safe bonds' like Japan is dreadfully low and the risk attached to higher yielding EMU debt is probably not a risk worth taking. With fewer and fewer places to investors to put their money they keep coming back to equities. While you are correct that to label the recent equity rally as one of "hope" may err on tomfoolery investors need to put their money somewhere which a better yield than Japan and less risk than Greece.
With many funds and companies hoarding cash of unprecedented levels they NEED to invest some money some where the answer we keep coming back to is equities. So every time I see an equity rally like we saw last week (which has thus far continued this week) I figure that big money is buying back in, again, and we too should ride this wave higher for the next 1-3 weeks.
Thank you for your comments Jonny. That essentially is Big Ben's QE mandate. Lets keep rates as low as possible, indeed, with real rates negative, investors are being forced to put money to workdue to a lack of alternatives. That'll keep the stock market pumping, and "everyones happy". Markets are rising, what more can anyone want?!!!
ReplyDeleteAnd dont forget that short interest is currently at the same levels as tge March 09 lows, so a not insignificant proportion of the buyers are those covering their shorts. That in itself is enough to set Mr Market in motion, with the HFT algorithms seeing the buyers join the party, propelling markets higher.
Also, at this point, with stocks having priced in a global recession, the macro data does not need to be that exciting to further propel the markets onwards and upwards.
Agree with everything you said. Additionally, there is a growing disconnect between US fundamentals and US equities which is making for a very precarious trading environment. All the aforementioned reasons are helping lift the stock market but when traders start to look at US fundamentals it can get very messy.
ReplyDeleteI think this was the catalyst behind the astonishing and somewhat unexpected declines we saw in August where plenty of bottom-up stock pickers got killed because, like you said, the stock market was pricing in another recession - a US fundamental event - rather than trade on the actual strength of the company in question.
Now that some semblance of normality has returned - if it can be called that - and markets are climbing again the threat of a fundamental driven drop should increase the level of hedging and short-covering that we see. And with the FOMC minutes yesterday intimating that more easing could well be on the way come Sept, gains could yet accelerate.