dailymarketsummary.com
Lance Lewis tonight. I know he normally gives permission to Box Down By The River to post here. The piece at the end by David Webb is incredible
November 10, 2004
Uncle Al Gives Us The Usual
Asia was mostly higher overnight. Japan rose just a touch, but China picked up over 3 percent. Europe was up about a percent this morning but gave up some of that after the euro squirted higher on the release of our trade deficit (more on that below). Meanwhile, the US futures were a touch lower in the wake of CSCO’s disappointment overnight.
The September trade deficit came in at $51.6 bil, below the prior month’s $53.5 bil, which was revised down slightly, and below the consensus at $54 bil. The dollar initially strengthened on that and then flipped over and sank to a new low against the euro. However, the weakness didn’t last, and the dollar eventually bounced back to close slightly higher at the end of the day, (bouncing first against the yen and then against the rest of the currency world).
Meanwhile, the equity futures firmed a bit on the release of the trade deficit, setting us up for a better open. The S&Ps opened higher and then immediately took a dive down to yesterday’s lows, where they found support as usual. From there, we began the typical pre-fed markup, as we slowly worked our way back up to the open ahead of Fed time. Then at 2:15 EST, we got our 25 bps as expected, which takes fed funds up to 2 percent and comparable with the ECB’s overnight rate. The Fed’s statement read almost identical to the prior statement (i.e.- “measured pace”, etc). So, basically there were no surprises.
As is typically the case, that set off some wild movement in the S&Ps. First we ticked lower, then we whirled around and traded back up to the morning’s highs before finally giving back all of the post-FOMC rally and going out slightly down on the day. Volume was chunky (1.5 bil on the NYSE and 1.9 bil on the NASDAQ). Breadth was slightly positive on both exchanges.
CSCO reported last night and was little light on revenue. Deferred revenue also fell about $300 mil sequentially. Additionally, inventory levels remained bloated and actually rose a freckle. Chambers also cited "lumpiness" in router sales during the quarter as concerning. CSCO guided revenue for the current quarter to $6.03 billion to $6.15 billion, which was also just below the $6.22 billion estimate. Margins were guided to flat. All in all, news was not good, as I had expected, but I am frankly amazed that it wasn’t worse. CSCO slumped 7 percent, erasing nearly all of the recent pre and post-election rally.
The chips were mostly lower by 2 to 3 percent, although you did have a few 5 percent losers like MXIM. Big customers of CSCO were also extra heavy, like IDTI, which fell over 4 percent. The equips were off 2 to 4 percent. The SOX fell over 2 percent and has now trapped nearly all of the pre and post-election rally buyers at higher prices.
The rest of tech was mostly lower, including the kinky stuff. DELL fell 2 percent ahead of its report on Thursday, while the Internuts were mostly lower by a percent or so, including GOOG.
The financials were mixed. The BKX was up a hair, and the XBD rose a touch. The derivative king fell a touch, BAC rose half a percent, C fell a touch, and GE fell a touch. The mortgage lenders were mostly a little higher, although CFC fell another percent. FRE rose a hair, and FNM fell a hair.
Retailers were mixed, with the RTH up just a hair. Homebuilders were mixed (up or down a percent or so).
Crude oil rose $1.49 to $48.86, despite a build in US petroleum inventories (nearly 4 mil barrels when you pulled in all the different components like Cushing and such). I suppose crude is due for a bounce though after going straight down for about 2 weeks now? The XOI rose a percent, and the XNG rose nearly 2 percent. The OSX jumped nearly 3 percent. The CRB rose a touch, and the CRX also rose a touch.
Gold gapped up to a new high of $437.80 this morning and then squirted all the way up to $438.10 in the wake of the dollar’s slide following the trade deficit. However, like with the dollar’s selloff, gold’s rally didn’t stick, and it reversed to trade back down to as low as $432.80 and then rebounded into the close to go out down $1.70 to $434.50.
For those that are interested, today I nailed down that the long awaited gold ETF will be arriving some time next week (symbol: GLD). In other words, this is not another rumor. This is now a fact. The initial offering will be $100 mil and is being underwritten by UBS.
Now, $100 mil is only about 2500 contracts. The current open interest in gold is around 340,000 contracts (the previous peak earlier in the year at the April peak was 309,000), so this is obviously a drop in the bucket. It won’t do much for gold one way or the other in the near term, but it could add incremental demand at some point obviously.
On the other hand, in the near term we could see some selling in the gold shares by people who own shares but would rather just own the physical. Thus, many equity only accounts can now buy the physical through this ETF that couldn’t before and therefore could trade in their gold mining shares for the ETF potentially. I’ve said before that I thought the arrival of this ETF might mark an important peak in the metal, so it will be interesting to see if the dollar accelerates its decline between now and its arrival next week to give us some sort of panic low and a blowoff peak in the metal (assuming it blows off with the dollar, which it might not).
The HUI slipped a touch but did end off its worst levels of the day. NEM fell over a percent. The HUI needs to break above this 240 area soon or we’re going to risk putting in a sizeable top, as I have feared all along was going to be the case. I’m still hanging on to my NEM just in case the dollar hops off a cliff and we get something wild to the upside in the metal from here (of course I am also short tech stocks, so I am hedged in a sense), but if the equity market runs into trouble from here, even NEM is going to get dragged down more than likely. But NEM should hold up much better than the rest of the gold complex.
Speaking of the rest of the gold complex, volumes in the junior golds continue to be abysmal (i.e.- there is no interest in them). In fact, volumes are even lower now than they were back in June near the lows. If you go and look at November of 2003 when the metal last broke out to a new high after a long consolidation, the juniors were flying on huge volume, as was the entire gold share complex. As I have tried to point out, when the shares aren’t leading the metal, it’s never been a positive sign in my experience. Trouble almost always soon follows. Again, the “all clear” signal has yet to be signaled on the gold complex in my opinion.
The US dollar index traded down to a marginal new low this morning and then recovered to end up a touch. The yen fell a percent and a half and appears to have potentially put in an important reversal (more on this below). The euro, on the other hand, made a new high at over $1.30 this morning and then reversed to end down a touch, but it could still easily get up and run again.
Overnight, South Korea’s central bank threw a fit about the rise in the South Korean won (calling the gains “excessive”), and the central bank threatened intervention. The result was that the won had the biggest drop in 4 months. I bring this up because the move in the won may have also spooked other people that were long the yen (obviously the MOF and BOJ have threatened intervention as well). Not only did the yen get sold against the dollar today, but it was sold even more aggressively against the euro, where it fell 2 percent and broke down to nearly a 6-month low. Basically, I think people that wanted to be short the dollar (or long foreign currencies, whichever way you want to look at it) decided there was no point in tangling with the Asian central banks like South Korea and Japan that have threatened intervention when one could simply be long the euro (the only other currency with any liquidity comparable to the yen or dollar), where the authorities thus far weren’t threatening intervention.
This has one possible implication for the bond market in that the Japanese are one of the treasury market’s chief patrons. With the yen appearing to have reversed without any intervention (or any that we know of anyway), the Japanese will not be buyers of US treasuries for intervention purposes in the near term, meaning that any weakness in the dollar vs. other currencies could see the bond market get hit fairly hard (*be sure and read the piece at the end of my column for more on this…), which would drive up US interest rates. The other thing of interest is that the yen’s big decline from its peak back in April coincided with gold’s April decline as well. So, we may want to watch this fairly closely.
Now, back to the euro, we had more statements today there as well. We had an ECB official say that the ECB was “comfortable” with 1.35, but 1.40 was “unwelcome.” This is on top of Trichet saying just a couple days ago that the euro’s rise was “brutal”. Then, we had an Italian minister say that coordinated euro intervention was being studied among the European member banks. Then, Issing of the ECB later said that the ECB had "no comment" on currency strategy.
Is it just me, or does it sound like there is wide disagreement on what if anything should be done about the euro’s meltup within the EU? This once again reaffirms for me that the Europeans are a ways off from doing anything about the euro’s current rise, and it’s also probably going to take a further spike in the euro before they will be pushed into coming to any sort of agreement about what to do about it.
Treasuries were lower and slid back down to their 200 day moving average on the charts, which has been support for the past 3 months. The bond market is closed tomorrow, but I suspect that this “support” will give way on Friday and lead to further losses next week. The yield on the 10yr rose to 4.25%.
The only thing that is apparently going to stop all the speculation that has been unleashed over the past 2 years by Uncle Al’s low interest rates is the market taking interest rates higher in the long end of the curve, which will eventually drive people back out of risky assets and back into fixed income. The question is how long that process will take and where the point is at which money finally chooses to flee these riskier assets in favor of a return in the fixed income market.
I had thought at one time that the economic weakness we were seeing all over the globe since this summer would take stocks down and therefore the economy. Thus, interest rates might actually fall from here once again. But with stocks still hanging around, that’s apparently not the case. There are just too many dollars floating around in the system that aren’t getting much of a return in the fixed income market and are therefore chasing riskier assets in order to get a return.
Whether its chasing the price of marbles, paper clips, art, a single family residence, raw land, TZOO, the S&Ps, coffee, crude, etc. (and yes, even gold)… this is the sort of wild, speculative environment that negative real interest rates have fostered. These dollars need somewhere else to go besides stocks, real estate, and commodities before we’re apparently going to see any serious decline in the stock market, which will then drag down the smaller real economy.
In other words, foreigners have to sell treasuries (or at least stop buying them), sending interest rates higher and domestic money flowing out of stocks and back into fixed income, before this is finally going to end. But let me be clear. When I say “end,” I only mean this stage of the inflationary process. As has been the trend, I suspect we’ll see stocks make new lows, and while commodities will correct, they won’t make new lows. As I have always said, inflation is likely the only road out of our current trap, but it’s a question of how we get there. Let’s not forget that we were discussing the implications of the Fed’s inflationary efforts back in late 2001 and early 2002 when the rest of the investment community was focused on “deflation” of all things. Now, everybody is focused on inflation. Think about it…
In any event, if printing money were the way to prevent recessions, the world would have had uninterrupted growth since the beginning of time, during which all governments throughout history have eventually inflated away their currencies into confetti. One look at the 1970s reminds us that the road to inflation is not one of permanent meltup in stocks and commodities together, but rather a cyclical process with large corrections for even those assets that are in a long-term bull market. That’s why I continually worry about gold in the near term. Gold experienced a 2-year correction in the middle of its 1970s bull market as the US slipped into recession (gold shares like ASA lost over 70 percent from peak to trough during the same period), and it could potentially happen again.
In any event, the bottom line is whether we are near the point at which a rise in interest rates finally spooks the stock market and brings the CRB and stocks down together? And the answer is (as always unfortunately) “maybe”. That’s why I think we have to focus on the bond market from here. It will be what eventually pops the bubble in stocks and real estate and brings all of this mess to its final and ugly end.
Summing up today’s action… As always with the immediate reactions to these FOMC moves, you never know if a trend or reaction is for real until a couple days after, but given CSCO’s decline today (which is a big and important stock for not only tech but the S&P as well) I tend to think we’re about to roll back over again. In other words, what we may have seen over the last 9 or 10 days was in fact a blowoff top in stocks, and it could lead to a precipitous decline if the dollar continues to slide and takes the bond market with it. Let’s see what happens, but the call for a year-end meltup by the bulls may have been a bit premature.
Lastly, below is a piece by David Webb that I think everyone should read. It presents pretty compelling evidence I think that the scenario I have been describing regarding the weakening dollar’s effect on the bond market being the pin that eventually pops the bubble is in fact correct, and that we may be very close to the point at which the dollar finally breaks the bond market wide open, giving us that elusive tipping point in stocks, commodities, and the economy.
The fact that the Fed may be intervening in the bond market is also rather interesting. This is something that I suspected was going on, but had never been able to nail down any proof. The Fed by law can buy and sell treasuries, foreign currencies, and gold. So, this is not as sinister as it sounds, but it does suggest that when the dam finally breaks, it’s going to break BIG, as waters that have been held back by artificial forces are finally unleashed. Anyway, below is David's piece:
My Current Thoughts
By David Webb of Verus Investment Management, L.L.C.
In the six weeks running up to the end of October, the Federal Reserve made net purchases of $11.4 billion in U.S. Treasuries, annualizing to a run-rate of $99 billion. This represents just below 1% of U.S. GDP, and over 20% of the funding deficit of the U.S. government. In the comparable six weeks of the prior year, the Fed’s net purchases of U.S. Treasuries were $2.9 billion; so we are seeing nearly a four fold increase. (see FRB SOMA 2004)
Meanwhile, in those six weeks, foreign purchases of U.S. Treasury and Federal Agency obligations fell to $10.6 billion from $38.6 billion in the comparable period of the prior year. So our own central bank is now buying more U.S. Treasuries than all other central banks combined.
While the U.S. citizenry apparently does not know, understand or, perhaps, care, that the Fed is printing money to buy the debt issued by the U.S. Treasury, those outside the U.S. holding our debt are beginning to act on their understandable concerns. In the past week following the election, there is evidence that some foreign central banks have not just diminished their buying of U.S. debt, but have begun selling. This may be the kick-off of an outright dollar crisis. The following charts of currency values against the dollar support this conclusion. The first chart is presented as the value of the Euro in U.S. Dollars, while the other charts are the value of the U.S. Dollar against the Japanese Yen, Hong Kong Dollar, and Canadian Dollar.
The bottom line is that, because of the serious inflation it has engendered in their economies, it is no longer in the interest of foreign central banks to print more local currency in order to buy U.S. Dollars and Treasuries.
The Fed’s monetization of the deficit is likely to become the focus of discussion in the weeks ahead; it won’t be a pleasant one. That the U.S. is going into a period of austerity is inevitable. The events unfolding now may prove to be analogous to the dollar crisis in 1932 which began the worst part of the Great Depression. Capital was withdrawn from the U.S., the dollar fell, and interest rates rose on a heavily levered and chronically over-stimulated economy. The stock market lost over half its value over the following weeks.
Will our Federal Reserve somehow prevent equity, bond and housing values from correcting? Aside from whether that could be done, it is not their intention. Consider the following recent remarks of Federal Reserve Governor Donald L. Kohn at the European Central Bank Conference on Monetary Policy and Imperfect Knowledge on October 15, 2004 in Würzburg, Germany. The full text of this speech can be accessed at Speech
“…we have chosen to react to the asset price correction when it occurs rather than to try to head it off…To be sure, adverse consequences for resource allocation, and perhaps even for the stability of output and prices, will occur if private agents overestimate the ability or willingness of central banks to damp volatility in asset prices or the economy.”
“…experience should have taught market participants that risk management by central banks does not prevent sharp movements in asset prices. Policy actions in 1987, 1998 and 2001-03 cushioned the economy, but they did not stop major declines in the prices of risky credits in 1998 or equities in 1987 or 2001. Any asymmetries in central bank reactions were aimed at stabilizing the economy, not achieving particular asset-price configurations…To be sure, [central bank] actions cannot be allowed to compromise the primary long-run policy goal of preserving price stability.”
Perhaps such statements are not made casually in such a setting. Are we seeing them now because the point has been reached at which it is impossible for the Fed to hold interest rates down? Why impossible? Because the rest of the world can not continue buying our debt, and the Fed’s buying will soon become difficult to explain. The alternative is for the Fed to reduce its intervention in the Treasury market, allow interest rates to rise, officially recognize that inflationary pressures are building, and then follow the bond market with short term rate increases. The message is that the Fed anticipates the ensuing bust and will deal with it when it occurs.
It is difficult to imagine a greater disconnect between public perception and the reality of our circumstances than that which we have presently. Our “airship” economy is not soaring; it is out of run-way without a take-off. In the quarter just past, nominal GDP was reported at 5% with a deflator of 1.3%, resulting in headline GDP growth of 3.7%. Now, do you believe that the inflation rate is 1.3%? Households and businesses in the U.S. are experiencing rising costs at high single digit or double digit rates. In the hot-spots of the world economy, the inflation rate is higher still. In short, we have a serious and worsening stagflation problem. As for the much hyped jobs report number, time will show that this was heavily skewed by election and campaign workers, an effect not being mentioned by the media. In truthful, real terms, the U.S. economy is contracting. Take away debt financed spending, and real sustainable economic activity is smaller still. |
