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Strategies & Market Trends : MDA - Market Direction Analysis -- Ignore unavailable to you. Want to Upgrade?

To: Giordano Bruno who wrote (17301)	6/14/1999 6:34:00 PM
From: pater tenebrarum	Read Replies (1) \| Respond to of 99985

Jim, the bank of Japan, officially concerned about the strength of the yen hurting the japanese export sector, today sold 5 billion US$ worth of yen in an open market operation. on friday, a rumor made the rounds of a hedge fund being in trouble. i'm not usually given to conspiracy theories, but something is smelly here. as the Captain has so eloquently put it earlier today, today's rally in the bond seemed designed as an opportunity to sell for the 'money monkeys'. this whole overleveraged system of credit swaps, carry trades and what have you is a house of cards that will come crashing down on us one day. regards, hb

To: Giordano Bruno who wrote (17301)	6/14/1999 11:09:00 PM
From: Giordano Bruno	Respond to of 99985

How far will the Fed have to go? Good question. It seems obvious, in hindsight, that the last "insurance" rate cut in November was unwarranted. In fact, all three easings may need to be unwound—if not more. Recall that the Fed had a tightening bias on the books in the lead-up to the August 1998 Russian debt default, when the funds rate was 5½% and the inflation land- scape less threatening than it is today. Strong Like . . . Bear! By Dr. Sherry Cooper, Chief Economist, Nesbitt Burns June 14th Edition ------------------------------------------------------------------------ It has reached the point that the Fed will fall behind the curve if it fails to tighten on or before the June 30 th FOMC meeting. The Fed funds futures contract has already priced in a 25 basis point rate hike with virtual certainty (alternatively, it has priced in 50% odds of a 50 basis point tightening). The yield spread between the two-year note and the overnight funds rate has surged to 90 basis points—a spread last seen just before the Fed tightened in early 1997. The long bond has already experienced a 20% correction in terms of price—a full-fledged bear market—with the yield jumping above 6.1% for the first time since May 1998. The equity market has only recently begun to factor in the Fed, and the high-priced stocks that make up much of the Nasdaq and S&P 500 are vulnerable to any further backup in bond yields (many Internet stocks are already down as much as 50% from their highs). When Mr. Greenspan testifies on monetary policy to Congress this Thursday, he may well explain why the Fed has waited so long to tighten as opposed to why it should tighten. All signs, perhaps except for gold which is operating on its own weak set of supply fundamentals, suggest that the Fed is being overly accommodative by standing pat in a booming economy. The monetary base—currency and reserves—soared at a 14.7% annual rate in May and is now up 9.2% year-over-year, the fastest pace since the summer of 1994. Growth in non-financial debt is accelerating as well, now running at a 6.2% annual rate, its strongest since mid-1990 and well above the current 5% pace of nominal GDP. The real economy continues to feed off the liquidity infusion from last fall's monetary ease and the lingering wealth effect from the stock market. Retail sales surged 1% last month and the upward revision to April points to yet another quarter of 4%-or- more real consumer spending growth. The early read on June consumer confidence was surprisingly strong, with the University of Michigan measure rising to 109 versus 106.8 in May— led by strength in the "expectations" component. Apparently, the strength in home prices is providing a strong antidote for the cooling in equities. Even with mortgage rates rising to a two-year high—7.51% for the 30-year fixed-rate mortgage— applications for new purchases sill rose 2% last week and are up more than 5% in the past month. Friday's selloff in the bond market took place even though producer prices for May printed the as-expected benign results—up 0.2% for the total and +0.1% on the core. This is a sure sign that even if Wednesday's CPI number comes in tame, the market will deteriorate further since industrial production and housing starts will likely come in strong that same day (consensus is for +0.3% and +4% respectively). One thing seems certain. The Fed no longer has to worry that the U.S. economy must play the role of Atlas—carrying the weight of the world on its shoulders. The magnitude of Japan's first-quarter 7.9% annualized surge in real GDP data may well have been overstated, but the direction is not in doubt. There are still a plethora of long-term structural impediments, but the massive fiscal and monetary stimulus had to kick in sooner or later. The uptrend in Japan's housing starts—finally up year-over- year—and the pickup in the leading economic indicators to above the 50% contraction-expansion line is at least mildly encouraging going forward. Sentiment in Euroland also seems to be improving, and the region will undoubtedly benefit from the estimated $30 billion it will take to rebuild Yugoslavia. Emerging Asia continues to post surprisingly robust data, and equity markets remain on fire. Moody's just upgraded Mexico's credit rating outlook and Brazil will probably avert a serious recession given the repeated cuts in interest rates. We continue to believe that the Fed will likely have to tighten more than just once and that the long bond yield will ultimately test the 6½% threshold. At this level, the bond market would be fairly valued considering where inflation expectations are and the real interest rate appropriate for where we are in the business cycle. And, our research indicates that this level on the 30- year Treasury would help trim the underlying trend in the real economy from 4% to 3%—the high end of the Fed's forecast range for year-end. To the extent that this target on the bond is reached or breached will depend on how the stock market performs. What we do know is that even a six-week 20% equity slide last autumn on Wall Street never made its way to Main Street— consumer spending growth did not dip below a 4% annual rate in any quarter in 1998. Such a pattern of strength is so rare it was last seen a quarter of a century ago. So it stands to reason that if the equity market is to play a role in reining in the booming economy, the correction will have to last more than a month and half. The personal savings rate is now so low—minus 0.7%—that even a modest move towards 2% predicated on a stock market-induced pullback in confidence and buying intentions could alone shave as much as 1.5 percentage points off real GDP growth. How far will the Fed have to go? Good question. It seems obvious, in hindsight, that the last "insurance" rate cut in November was unwarranted. In fact, all three easings may need to be unwound—if not more. Recall that the Fed had a tightening bias on the books in the lead-up to the August 1998 Russian debt default, when the funds rate was 5½% and the inflation land- scape less threatening than it is today. Demand is super-strong, and inventories are drum-tight wherever you look—the housing market, goods market, and the labor market. Consider that the unemployment rate has tumbled from 4.5% a year ago to 4.2% currently even with the loss of over 400,000 manufacturing workers—thanks to the Asian crisis. As these factory payrolls are replenished, it is possible that the unemployment rate could grip a "3-handle" before the summer is out—not likely to be a market-friendly outcome.