FMX | Connect – www.fmxconnect.com - (Reported 7/28/2010)
Excerpt from MARKET MUSINGS & DATA DECIPHERING
MARKET COMMENT
A whole 1 point decline in the S&P 500 and for the bears it was like winning in extra innings after a three-week losing streak (and in contrast to the rally days, volume on the NYSE expanded 10% yesterday). We received all sorts of emails yesterday that Barton Biggs had reloaded the gun and moved from 50% to a 75% weighting in equities. Maybe that was the kiss of death. Maybe we have again stalled out around the 200-day moving average. Or maybe the market is simply the most overbought it has been in nearly three months, according to some oscillators.
Perhaps, like Barton, everyone has gone long the market again and we recall a survey that we saw over the weekend that PM’s are now 68% weighted in equities in their balanced funds. We can also see from the CFTC data that the net speculative position (futures and options) at the Merc has swung from a net short position of 40,000 contracts in mid-June to a net long position of 3,300 contracts currently. That sort of move will certainly move the needle. Ditto for the 1.2% decline in NYSE short interest over the past month. In the past two weeks, Market Vane bullish sentiment on equities has moved up 5 points. It’s all good. Meanwhile, consumer confidence has rolled back to a five-month low (what does Main Street know, anyway?).
Earnings on the surface seem to be doing just fine but at the same time, we can see that the economy slowed visibly as Q2 came to a close and the July data are telling us to expect a slightly different tone to Q3 guidance. There was a nifty article on Market News yesterday showing how 82% of the corporate universe beating EPS estimates is standard fare and that only 68% are doing so in terms of revenues (a figure lower than we saw in the second quarter of 2008 when the economy was knee-deep in recession). Sales are up the grand total of 9% YoY and this being compounded off a -14% trend this time last year – so margins continue to stretch out to the limits and one has to wonder how long that is going to last. Who knows? Maybe profits end up going to 100% of national income and labour’s share totally vanishes.
HOME PRICES GET AN ARTIFICIAL LIFT … BUT GOOD NEWS FOR RENTS
The Case-Shiller home price index managed to come in a better-than-expected print of +0.47% in May on top of a 0.6% lift in April. This is not the start of a new uptrend since the inventory backlog is still massive and instead reflects the effects of the last gasp of demand during the spring as the government tax credits were about to expire (the index is based off a three-month average). No reason to get excited – especially knowing that average new home prices collapsed almost 10% in June.
THOUGHTS ON THE LONG-TERM OUTLOOK FOR INFLATION
Let me start out by saying that I do not believe that bonds are any “better" an investment than stocks, at least in principle. They both have their advantages.
For bonds, the advantages are that they provide an income stream – the principal and the interest payments are guaranteed in the case of most government securities; and in the case of the corporate sector, it inevitably comes down to the quality of the credit and the longevity of the company in question. In addition, the yield at the time of purchase is almost always at some significant positive spread over CPI inflation.
Stocks represent ownership in corporations that have assets and strive to make a profit, often paying out a portion of the profit in the form of dividends and retaining earnings to grow the business and increase the dividends in the future. But the primary purpose of this comment is to suggest what things may look like when the Great Bull Market in Bonds, which began in 1981 with 30- year Treasury Bonds yielding 15.25%, finally comes to its glorious end.
For starters, I think it is safe to say that the bull market in bonds will end reasonably close to the point in time that inflation (or deflation) bottoms. This is because we have determined that by far the major economic factor that correlates consistently with the direction of market-determined interest rates, at least for long term Treasury Bonds, is CPI Inflation (headline and core).
The bond market, like politics, is an emotional issue and not well-liked in general by Wall Street because it has a negative correlation to the stock market most of the time. For a growth bull, the bond is the "enemy". The economic environment that most favours the long end of the bond market tends to be low or no growth and bonds have traditionally been an asset allocation decision that is bearish on the stock market.
As a result, fear mongering often takes the place of thoughtful and objective analysis when it comes to bond market commentary. One way or another, the long end of the bond market has continually been characterized as high risk for the last 30 years that it has been outperforming the S&P 500. That’s a little unfair – after all, it is the benchmark risk free asset for funding actuarial liability when taken to the extreme of a 0% Coupon Treasury Strip.
Let’s move on and make a sensible and objective effort at making a long-term forecast for core CPI Inflation. Based on our analysis, we could well see core inflation receding from around 1% now to near 0% in the next 12-to-24 months, which would imply an ultimate bottom in the long bond yield of 2.5% and 2% for the 10-year T-note. We should add that as long as the Fed funds rate remains at zero, reverting to a normal shaped Treasury curve would generate similar results for the long bond and 10-year note at the point at which the inevitable "bull flattener" reaches its climax. As we saw in Japan, this will take time, but yields at these projected levels will very likely come to fruition in coming years.
David A. Rosenberg
Chief Economist & Strategist Economic Commentary
drosenberg@gluskinsheff.com
+ 1 416 681 8919
Source: Market Musings & Data Deciphering
http://www.fmxconnect.com/
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