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Slowly Escaping Gravity
I thought there was a decent chance that the riots in Egypt would blow over during the weekend. Not so – the protests continue apace and tomorrow the protestors are planning a “million-man march” with the handicappers giving some chance of actually getting to that figure. But the capital markets panic appears to have ebbed. Flight-to-quality didn’t last long! The dollar erased today its Friday gains and bonds reversed Friday’s gains. Stocks recovered, although not even half of the prior decline, and oil actually extended its rally and popped to new 28-month highs above $92/bbl. Inflation breakevens rose 5-10bps as TIPS rallied strongly.
The Chicago ISM (neé Purchasing Managers’) report provided an upside surprise which provided the initial push lower for bonds and helped equity investors overlook Intel’s announcement that a chip glitch would result in lower near-term earnings. As the chart below shows, the Chicago PM index is as high as it has been since 1988. Caution, however, it warranted in interpreting this fact. The Chicago PM index, like the national ISM, is a relative index measuring respondents’ indication of whether activity is higher, lower, or the same as one month ago. It is therefore a rate of change measure rather than a level measure. An economy that has been going incredibly slow is more likely to provide very high rates-of-change when things start to improve simply because the denominator is so poor – which is why the highest readings for this index came in the early 1970s and early 1980s after really ugly recessions.
It's easier to improve from a lower base.
While we must be careful, therefore, to avoid over-interpreting the level of Chicago PM, the fact that it is rising strongly is another confirmation that at least for now the economy has escaped the gravity well of the recent recession. That is far from an assurance that this will continue, and as I always take pains to point out it is even farther from an assurance that the stock market, fully valued as it is, will continue to do well.
It also doesn’t provide as much insight as you might think into tomorrow’s national ISM number (Consensus: 58.0 from 57.0). The two move generally together, but month-to-month the movements are in the same direction about two-thirds of the time. However, the size of the Chicago move certainly increases the chance that the direction of the national ISM will be positive.
Mondays recently have been pretty slow, and while I am surprised that today followed that pattern I expect it will persist for a few days. Mainly, that is because the Midwest is expected to get some two feet or so of snow in a snowstorm lasting a couple of days. Weather in the NY area won’t be great either, but it takes quite a bit more to bury Chicago. The weather means that the Chicago Mercantile Exchange will be less populated. While a lot of the price action is now electronic, a substantial amount of risk capital still stands on the floor and liquidity will probably be impacted. Again.
Other than the ISM and car sales, there isn’t a lot on tap for tomorrow anyway, and with employment figures due later in the week it would ordinarily – if Egypt wasn’t restive – be a slam-dunk to be a quiet day. Less liquidity, in the context of potential violent geopolitical events, doesn’t necessarily imply a quiet day of market movement, however. Downdrafts in stocks and updrafts in bonds are likely to be more pronounced while exchange liquidity is offline, so be careful.
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I want to make sure that regular readers of this column do not miss the “one off” pieces I have been publishing that drill down into CPI. The most recent, yesterday, looked “under the hood” at Transportation inflation in the CPI; it is interesting where inflation is, and is not, coming from in that group (which is roughly one-sixth of the overall CPI). My purpose in looking deeper at the major subgroups is to try and better define some of the underlying trends and themes in inflation. Inflation isn’t just one thing; it comes in many flavors. Take a look at this piece.
Tomorrow, I will talk about an interesting new way you can track inflation daily, with surprising accuracy.
Other Inflation Posts
I wanted to make the direct subscribers to this blog aware of a couple of posts I have put up on another site.
In exchange for content exclusivity, this other site is actually paying for page views. This is an interesting model, although very unlikely to be very lucrative. To try it out, I’ve posted a couple of items there. While I can’t make them available here, I don’t want subscribers to miss other related content.
These two articles are “under the hood” about CPI and how various subcomponents are evolving:
Under the Hood of the CPI: Where Inflation Is and Isn’t
Under the Hood of the CPI: Transportation Inflation
Please let me know what you think!
Why Egypt Matters
Warning: There are political opinions expressed along with market opinions below. If your sensibilities are inflamed by reading political opinion, please do not read the comment today. Thank you.
What I know about Egypt would fill several lines of text. It has pyramids, and most of a sphinx. It is led by Hosni Mubarek. And it purportedly supports, at last check, American policies in the region and helps restrain the passions of Islamic extremists.
Here is why, in my incredibly uninformed view, we ought to support the desire of the Egyptian mob for more freedom. It is really just two lessons of modern history. (1) Democratic nations don’t start wars. Now, our State Department would say “perhaps this is true, but we need a ‘supportive regime’ in place in Egypt.” This brings me to (2) democratic nations don’t fight other democratic nations, which is really more important. It is fine to say that Mubarek supports us now, but who is to say if he, or whoever succeeds him, will support our aims tomorrow? It seems to me to be a better idea to have a structural impediment to war than a personality-based impediment to war. (Incidentally, Wikipedia has a good article on the history of these two points under the header “Democratic peace theory.”)
This uprising in Egypt is supposedly “inspired by an uprising that ousted Tunisian President Zine El Abidine Ben Ali on Jan 14.” In other words…democracy is spreading throughout the Islamic world. (I wonder if anyone will give credit to a certain former President who argued this would happen, to much loud scoffing at the time as I recall?) Actually, U.S. Vice President Joe Biden says that Mubarek isn’t a dictator, so if that’s true then I guess my observation about democracy spreading is incorrect. I guess Mubarek is just a president who has held his post for 30 years and puts down uprisings with the military. It is interesting that much of the frustration coming from the crowds in Egypt, as it was in Iran, is directed at the U.S. lack of support for the movement. (Which is totally unfair! The Obama Administration has moved bravely and aggressively to encourage Egypt to restore citizens’ access to Facebook! What more could people want?)
I don’t generally write about politics in this column, because when I do many readers get very upset because they feel they are entitled to an opinion-free blog. However, I write about political events that impact markets, and that is the case today. What do we as investors – a category that encompasses citizens of hundreds of countries bring with them a riot of languages and religions and customs – want in Egypt?
Stability. We want stability. I don’t think anyone will argue with that general statement. The question is whether we want stability tomorrow, or a situation that gives us more stability in the future. Choosing stability today at the cost of stability tomorrow is what the Fed has done repeatedly over the last twenty years, and it hasn’t worked. Choosing stability today at the cost of huge debt tomorrow is what the last two Administrations did with regard to the current crisis, and while in some sense it has worked we may not know the costs for a while. Stability in the Middle East and in regions where Islam is the dominant religion is in investors’ best interest. The question for us is: do dictatorships or theocracies or democracies lead to more stable growth, trade, and development outcomes? The evidence seems to be clear: there is a strong correlation between economic freedom and economic growth.[1] The huddled masses yearning to breathe free are the same huddled masses which yearn to have an iPhone.
Today’s unrest in Egypt happened to correspond with the piercing of 1300 on the S&P and 12,000 on the Dow, and as I noted yesterday such milestones often serve as good way-stations for investors who want to hop off the bus. I don’t think we sold off 1.8% on the S&P (with the heaviest volume of the year so far) because of riots in Egypt. I don’t think we sold off because Crude Oil rose 4.3% and Gasoline rose 3.0%. We certainly didn’t sell of because the GDP numbers were near expectations (with strong Personal Consumption) and inflation in the form of the Employment Cost Index was restrained (+0.4% annualized). But the fact that these factors hit at week’s end when an extended market was pressing past psychological way stations produced a fairly potent mix.
Bonds rallied again (to 3.33% on the 10y note) but inflation swaps rose 2-5bps – usually these move in opposite directions. The dollar had a mild bounce, and the fact that it didn’t bounce more, and that bonds didn’t rally more, than they did is one reason to think that the equity decline isn’t entirely a consequence of geopolitical uncertainty.
Speaking of stability, I was amazed at the article in the Journal today, “Report Details Wall Street Crisis” and especially the part where Chairman Bernanke apparently had said that twelve of the top thirteen financial institutions in the U.S. were close to collapse in 2008 (the exception, of course, being JP Morgan, the eager bride in the Bear Stearns shotgun wedding). “Even Goldman Sachs, we thought there was a real chance that they would go under.”
If you want to give Bernanke plaudits for anything, it was that he kept trying things until he hit upon the Commercial Paper Funding Facility, whose implementation finally stopped the cascade of the crisis. The question is why he did not then unwind the expansive and expensive policies that didn’t really have much effect. But that’s not important today. The authoritative history of the crisis will not be written in 2011, but more like 2020.
The more pertinent point is that it is hard to imagine that 12 of the 13 financial institutions were on the verge of collapse two and a quarter years ago, but are all doing great now. Was he exaggerating about 2008? Or is the Fed exaggerating about how well their wards are doing now? My suspicion is more the latter than the former, but who knows?
On Monday, Personal Income and Spending (Consensus: +0.4%/+0.5%) for December and the Chicago Purchasing Manager’s Report (Consensus: 64.5 from 66.8) for January will be overshadowed by any posts from Egypt. If the streets are quiet on Monday, expect the market to rally – although, I expect, nervously. If the streets are still thick with rioters, then…
[1] While political freedom is not a sine qua non for economic freedom – see China for example – they do tend to travel in twain.
What To Make Of This?
Initial Claims at 454k?
This is a curveball! We are reaching the end of the most difficult period of seasonal adjustment, so this jump is quite a surprise. Two explanations were immediately possible: (1) everyone waited until much later than usual to start laying off Christmas-season staff, or (2) state unemployment departments were running behind in prior weeks and just catching up now.
The Labor Department says it was the latter. Snow in four southern states in previous weeks created a backlog of claims that were processed last week. The Labor Department deserves a nice resounding raspberry for this, since in prior weeks they reported “no unusual factors” contributing to the surprising declines in Claims. Well, it turns out there was an unusual factor: some states were running behind. That might have been worth pointing out. Economic forecasting is hard enough when you think the data is clean. It’s almost impossible when you’re being fed bad data. Garbage In, Garbage Out.
So, we have to mark-to-market our expectations for Claims again. Averaging over the last 8 weeks, Claims is running around 421k (see Chart). This is an apparent improvement over the prior range of 435k-475k, but it isn’t the dramatic and steady improvement the numbers had suggested. On January 13 I wrote:
Again we see that forecasters have gotten a bit too ebullient about the recent data. While our eyes tend to see on the chart (see below) a clear downtrend since August, statistically that downtrend isn’t there – because in August, the true underlying level of Claims wasn’t 500k, but more like 460k… It does appear, though, that we have enough data to suggest that the underlying pace of Claims has improved from the 440-480k range it had held for nearly a year, but consider how much we actually know about that improvement. This week’s 445k figure was probably higher than it should have been because claims offices were catching up on last year’s paperwork, so the last several weeks should be considered together. The 8-week average is at 420k, and I think that’s probably a reasonable estimate of where we are. But if we have moved from a 440k-480k range to a distribution with 420k as the central tendency, that isn’t so dramatic. The eye creates a trend here, but in fact all we can say is that the underling pace of Claims has moved from “about” 460k to “about” 420k over the last couple of months.
So the downtrend was really a downtrickle, and the estimate of 420k as the central tendency looks to be approximately right. Clearly, though, there is enormous uncertainty about that estimate given the recent data volatility (and the continuing snowstorms!). Do note that in the chart below, in the same way that our eyes wanted to see a downtrend before they will now want to see a “bottoming” and a bounce. That phenomenon isn’t statistically there either. Remember that these weekly data are only experiments – periodic measurements of an uncertain underlying reality!
420k looks like, to a VERY rough approximation, the current central tendency of Initial Claims
Durable Goods Orders showed a weak December (headline -2.5% against +1.5% expected, ex-transportation +0.5% vs +0.9% expected), but if anything Q4 growth estimates may be revised higher by a smidge because the upward revisions to November were substantial (since GDP is coming out tomorrow, though, this will manifest for those of us without access to the real-time revisions as slightly less downside risk to the consensus forecast). Ex-trans Durables in November had originally been reported +2.4% and are now +4.5%. So December looks a little weak, but Durables is also a volatile number that needs to be taken with a pinch of salt; snow may also have been a factor. Manufacturing isn’t booming, but it isn’t failing at the moment either.
Market activity was muted on Thursday. In a not-unrelated note, Central Park snowfall totals for this storm reached 19 inches. That was just a wee bit more than was being forecast 72 hours ago (3-6”) and more than was being forecast in the middle of the day yesterday (it had been upgraded to 6-10”). Ironically, the best estimate was from last weekend, when forecasters were saying this could be another Christmas-weekend-type storm. Yep. Mayor Bloomberg encouraged people to stay home, and many of them did so. My mailbox is just barely atop the snowplow-aided drift, which now consists of parts of the last four snowfalls. It’s entertaining, but it leads to lethargic and illiquid trading. (It isn’t this snowy everywhere, though. My friends in Canada and the north central U.S. states tell me that while it’s bitter cold, snowfall totals are low this year. You know it’s cold when even snow goes south for the winter!)
Stocks edged higher, bonds edged higher, and the credits of the Euro periphery slid.
On Friday we get our first glance at the estimates of Q4 GDP (Consensus: +3.5% vs +2.6% in Q3; Price Index seen +1.6% vs +2.1% and core PCE +0.4% vs +0.5%), as well as the Q4 Employment Cost Index (Consensus: +0.5% vs +0.4% in Q3). In short, it is expected to be a day of good feelings, showing that the economy strengthened from Q3 to Q4.
Should the results from the 4th quarter matter very much, when we’ve already gotten most of the historical information that we as investors need in the form of just-released earnings? Not really, but I expect it will be hard to resist the general sense of relief from warm and fuzzy numbers like this. The market’s piercing of 12,000 on the Dow and 1300 on the S&P will also, I suspect, be cause for much shameful celebration on the Cheerleading, Never Bearish Channel (I assume that’s what CNBC stands for), so I think we will end the week on a high note.
I don’t think we will hold those levels for very long, for two reasons. One is that markets very often relax when they reach a long-sought goal – I don’t really know why this happens, but it happens regularly. Whether it is simply that round numbers or obvious technical targets provide a natural place where many investors put “profit taking” goals, or whether it is the loss of focus that ensues after the goal is reached (though I really want to resist being too anthropomorphic here), I don’t know.
The second reason that I think stocks are finally going to take their breather is anticipation of the ultimate withdrawal of QE2. I probably have the timing here all wrong. But I know that whether the cessation of QE2 in June tears out a support beam from the market or not, intelligent and cautious investors will not wait to ride out the last few points. Mid-May to mid-June is usually a terrible time for fixed-income, so the natural time to set a bond or equity short is in mid-May, but the market is already up 3.5% one month into the year and is about to hit a milestone. Yes, it is probably far too early to worry about June, but I just want to make sure I am the first investor to worry about it…not one of the last ones.
I think that also means bonds will find increasingly tough sledding. Again, the reasoning is that right now, I have a willing buyer in the form of the Fed, but after June that buyer will be gone. And well before that, there will be a lot of investors with paper to sell him. $400bln (or whatever is left) sounds like a lot, and it is, but the Treasury market is thirty or forty times as large as that and growing $100bln a month! I don’t know when the bough breaks. But I know that when it does, the cradle will fall. Timing matters in trading, but implied volatilities are cheap and buying insurance makes the timing matter less.
Recovery On 30 Houses Per Day
It has always been amazing to me the way that investors will confuse levels and changes. When I was new in the finance industry, I figured that I must just be naïve, and that clearly the wiser people who were older than me must know something I didn’t. After a couple of decades of watching the same mistakes made repeatedly, I no longer believe that to be true (partly that is because there are many fewer people who are older than me).
Today’s New Home Sales is a great case in point. The November number was revised lower, the December number came out significantly better-than-expected at 329k versus 300k expected, and the combination of those two effects resulted in a headline that New Home Sales had risen 17.5%.
To be sure, the number was higher than expectations, but how important is this, really? For starters, note that the total difference in sales compared to expectations is on the order of 1,000-2,000 homes nationwide (29k over expectations, minus 10k downward revision, divided by 12 months gives 1,583 homes, and this likely exaggerates the case since the seasonal adjustments are compensating higher at this time of years because fewer homes are sold in the depths of winter). More importantly, consider the level of home sales itself, which even with this upside surprise is below the lowest level ever recorded prior to 2010. It’s even level than sales seen as recently as 2009! (See Chart)
What 17.5% improvement in New Home Sales looks like.
But the release, and the 17.5% number, was good for a one-half percent gain in the stock market. So, if the total market capitalization is around $13.5trln, the additional sale of around $436mm of houses (1500 units * 291k average price, also reported in the New Home Sales report) added about $67.5bln in wealth to investors elsewhere. Now that’s leverage, baby. If the government would just surreptitiously buy 30 houses per day, stocks would be on the moon in no time and consumer sentiment would be strong. (I am kidding.)
Stocks held their own, while bonds sank (the 10y yield finished at 3.43%). The FOMC report was, as anticipated, anticlimactic with no major changes to the statement and, for the first time in a while, no dissenting governors. This last part isn’t as surprising as you might think – perennially dissenting hawk Hoenig was rotated off the voting roster this year – but it is a sign of how uncontroversial QE2 has become within the Fed that none of the other hawks felt any need to register a pro forma disapproval.
The Fed is not going to be easily derailed from finishing QE2, nor should they be since the interval between their actions and any effect on the underlying economy is much longer than the time remaining in QE2. But the arguments in favor are somewhat feeble. Let us take a look at what they said about inflation:
Although commodity prices have risen, longer-term inflation expectations have remained stable, and measures of underlying inflation have been trending downward.
Let’s examine this. “Longer-term inflation expectations have remained stable.” I suppose it depends on your definition of stable, but the chart below shows 5y, 5y forward inflation from US CPI swaps. If you mean “it hasn’t exploded to the upside,” then I guess that is accurate, but it appears to me to be neither stable nor particularly low compared to the pre-crisis period.
5y, 5y forward inflation hasn't been exactly stable, at least by pre-crisis standards.
I expect the FOMC would point to the University of Michigan survey of 5-year ahead inflation expectations, but (a) consumers are bad at observing current inflation, so I sure don’t know why I’d care about their forecasts 5 years forward, and (b) in the inflation market, people are betting real money with real consequences to being wrong.
Now, measures of underlying inflation (that is, core or median or trimmed-mean varieties) have in fact trended lower. But that trend is over, and very few forecasters think otherwise, so it seems disingenuous to insert that statement with the carefully worded modifier “have been” which is clearly softer than “is.”
Don’t get me wrong, I wish the Fed would say nothing at all and let us guess. It would be healthier for the economy if we all were kept guessing and had to be more conservative – if we were responsible for maintaining our own training wheels, as it were. But if the Fed is going to release statements, then they’re going to be picked apart and criticized. I promise.
The stock market and bond market merely shrugged at the statement and moved onward. The quiescence of the Fed is presently taken for granted and attention is turned outward. To Europe. To the labor market. To whether snowfall accumulations in Central Park will put your bet into the money and make your coworker buy lunch. You know: important stuff.
Thursday’s data include the not-really-watched Chicago Fed Index (Consensus: 0.11 from -0.46), Durable Goods (Consensus: +1.5%, +0.9% ex-transportation), and Initial Claims (Consensus: 405k). It is remarkable to me that expectations for this latter number have so completely incorporated recent improvement although the range of Claims for the last four weeks has been 391k to 441k. Bloomberg reports the standard deviation of forecasts at just 9k, which is roughly average. But recent data have been highly uncertain and we are just finishing a wildly volatile period in the seasonal adjustment scheme anyway. There should be room for widespread disagreement, because one thing you can say for sure about the recent data … and perhaps the only thing you can say for sure … is that they don’t demand the rejection of just about any null hypothesis with respect to Claims.
That isn’t particularly helpful in setting a trading strategy, however. I feel the expectations are low, but there is a lot of other data being released simultaneously and my confidence in a Claims forecast would be quite low for those reasons just mentioned. I am inclined to lean short on the bond market, but stocks bewilder me right now.
Keep Your Bonds
The volumes ended up higher today, albeit still weak, and after trading down all day stocks ended up unchanged. Momentum is ebbing, but to that observation I must fairly add the suffix “again” since momentum has ebbed a couple of times already in this bull run. The true believers don’t need momentum, so it won’t bother them; the true disbelievers are already short. The story increasingly is about what happens to the guys in the middle, who are uncommitted.
Those investors have a little more of a boost from today’s potpourri of news. The European Financial Stability Facility (EFSF, aka “the European bailout fund”) sold €5bln of bonds to finance the bailout of Ireland, but received orders for about nine times that amount. In my mind, they ought to say “yours” and sell the full €45bln before investors stop and think carefully about who is guaranteeing the bonds. “Europe” is the answer. To paraphrase Henry Kissinger, who do we call when we want the redemption proceeds? Look, I didn’t read the prospectus, but I know this: when I send them 5 billion, they’re going to send it to Ireland. If Ireland doesn’t give it back, there are no assets left in the Facility so…am I trusting that all of the various countries will pony up the money and pay me back without haircuts?
Really? Keep your bonds, I’ll keep my money. At least if I buy Johnson & Johnson bonds, there’s something to seize if they go under.
Still, whether the success of the auction was predicated on the gullibility of investors or a need to appear to be part of the solution (some 43% of the bonds went to central banks, governments, and agencies), there is no doubt that it was a success. And that got Spain thinking. So Spain’s rescue fund, called the Fondo de Reestructuracion Ordenada Bancaria (fondly, FROB) is reportedly to sell a few billion euros’ worth of bonds. After all, says Spanish Finance Minister Salgado, the banks only need about €20bln in extra capital (Moody’s says the real number may be as high as €89bln). Well, at least in the case of FROB I know who to call.
There was one piece of weak economic news, in the form of significant downward guidance from Johnson & Johnson (JNJ) about their full-year sales for 2011. If you want to give the economy credit for GE earnings (although as some readers noted, revenues being up 1% when the economy is expanding by 2% or 3% and the Fed is providing massive liquidity doesn’t exactly constitute a home run even if operating and financial leverage turns those revenues into good-looking earnings), then you have to consider whether JNJ – also a mega-company that sells a wide variety of products although not as wide a variety of GE, to be sure – is sending the opposite signal.
But in my mind, that niggling negative is more than compensated for by two items. The first is the sharp improvement in the Jobs Hard To Get subindex of the Consumer Confidence report to a marginal new low of 43.4 (see Chart). It is worth remembering, though, that the prior low came in June of last year, when the Census was busy hiring scores of thousands of new workers. Hammer that point back into line, and the current decline starts to look more legitimate.
The man on the street says jobs aren't QUITE as hard to get as they were.
Now, this doesn’t ensure that we are going to have rapid job growth, but it supports the decline in Jobless Claims. The Employment indicators are now mostly consonant, and it is fair to conclude that the jobs picture is indeed improving. This is no longer just a statistical wiggle.
That doesn’t mean the market will improve because that depends to a large extent on valuation. And there’s no guarantee that the economy will continue to generate jobs as budget cuts at the state and local level, energy price increases, and an eventual end to QE2 all drag on growth. But for a quarter or two at least, we probably will have decent growth. Some of the dark clouds are parting, although in my opinion they will be back eventually because we have seemingly solved nothing and there is still the little detail of how to unwind all of this manufactured performance without causing a repeat. I am not sure it is possible. But that isn’t today’s concern.
Another economic positive is a bit less obvious. I suppose I would even call it “Fed-watcher esoterica.” This article entitled “Treasury Will Likely Cut Fed Bill Program as Debt Limit Nears” concerns the Supplementary Financing Program, in which the Treasury has sold (and rolls, as necessary) some $200bln in short-term Treasury Bills and sends the money to the Fed (the Fed so far has not sought to issue its own bills, although there is some talk about doing that). That action effectively sops up $200bln in liquidity (what the Fed does, or did, with that money is less important for our purposes).
However, the $200bln counts towards the federal government’s debt limit, so as the debt ceiling approaches the Treasury might want to let those bills mature as that would give it $200bln more in headroom.
But the effect of doing so and sending $200bln back to the investors who owned the bills is exactly the same as if the Fed added another $200bln to QE2. This will force the Fed to do one of a small menu of things; here are a few (I don’t claim this list is exhaustive, but it covers the main bases).
- Issue its own bills. It isn’t clear whether it has the legal authority to do so, and it certainly would be a subtle nuance not anticipated by the Congress when they put a debt ceiling in place to let another agency with the (presumably) full faith and credit of the federal government issue as much is it likes as long as it doesn’t say “U.S. Treasury” on it.
- Begin to do very large reverse repos in which the Fed lends out its securities portfolio and borrows cash, draining reserves. The Fed believes they can do this in large size but $200bln is a mammoth operation in this sphere. It does have the securities to lend, thanks to all of the asset purchase of the last few years.
- Sell some of its securities portfolio to drain the reserves longer-term. It’s hard to believe they would do this at the same time they are buying securities through QE2.
- Reduce the targeted QE2 by $200bln. This seems the most-plausible possibility, especially if you think the economy is recovering and no longer needs the Fed to anchor interest rates. But what do you think the market reaction would be to such an announcement?
- Accept the extra $200bln as QE2+. The current quantitative easing campaign is progressing as rapidly as is operationally feasible for the Desk; if the Committee still believes that QE2 is necessary this may even be welcome.
The decision is muddied by the fact that the Treasury won’t know for sure if it’s going to need this headroom until it sees how long the Congress dithers (don’t get me wrong, I’d love to see the Congress dither).
Perhaps the combination of this thought process – there may shortly be another $200bln in liquidity added to the economy, unless the Fed specifically drains it – and the weakness in European periphery bond markets is what drove bond yields down a bit today. Rates are still in a range, with the 10y yield at 3.32% and near the low of the 3.28%-3.48% zone. Oddly, however, inflation swaps declined slightly – so perhaps I’m reading too much into the esoterica (it would certainly seem to have the possibility of inflationary outcomes).
Tomorrow’s discussions will initially revolve around the content of the State of the Union Address tonight. However, since that content is no more meaty than it ever is, attention will rapidly shift to New Home Sales (Consensus: 300k from 290k) at 10:00ET and the Fed announcement later in the day. New Home Sales is not likely to be any meatier than the SotU speech, and certainly the significance of any number around 300k is slight, but at least it will provide an excuse for a change of topic.
The Fed announcement a bit after 2pm is not expected to be any more interesting than the SotU, with a similar tired sameness. But there is the potential, albeit small, for a change in policy triggered by the SFP developments above or by the combination of a more-hawkish Committee makeup and a somewhat stronger economy. That is a long shot, though. It does warrant a note that almost any surprising change to the Fed’s policy or implied bias through the vehicle of the statement is likely to be bearish for equities and bonds as well…the FOMC is not about to become more dovish at this point.
Sputtering
In Ireland, the government is collapsing (I am not a scholar of Irish politics; the correct verb tense may be “has collapsed”) as Prime Minister Brian Cowen resigned as head of his party last week and the Greens party pulled out of the ruling coalition on Sunday.
The country is now scrambling to pull together a coalition that will be able to pass a budget before near-term elections (which CNN tells me are most likely going to be held on February 25th). The current estimate is that the austerity budget will be passed by the coming weekend, but that isn’t really the important point. At this point, the government is just passing legislation to support the promises it made to the EU in exchange for a bailout. But this is very different from the decisions which will face the new government that takes shape after elections. It isn’t at all clear that that government, freshly elected and not feeling as much ownership over the deal – and perhaps peopled with more populist members – will still favor accepting the aid from the EU with all of the onerous conditions (which more or less guarantee recession/depression in Ireland for years, as in Greece). And then the EU will have to decide whether it wants to slacken the conditions, or let Ireland fail.
Irish bonds dipped a tiny bit (5bps) in a generally rallying market, but it is hard to read very much into the behavior of that market when the ECB stands ready to scoop up lots of bonds when needed. Credit default swaps on Ireland widened 10bps while those for other periphery countries narrowed 5-10bps on the day (thanks to my friend AK for the update!). But in general, this is still a page 5 story, at best, here. If and when the budget fails (which it shouldn’t), or if and when the new government repudiates the EU deal (which I think is somewhat likely) after the February elections, it will become a page 1 story again. And it won’t just be a story about Ireland at that point, but also the other periphery nations and indeed the whole bailout structure, because as much as Europe wants to think of itself as one body, it still has a couple of dozen legislatures. Getting unanimity from a loose confederation of states is a daunting challenge, and retaining unanimity will be a great feat indeed. But for now, still page 5 and the dollar keeps sinking against the Euro.
The Treasury market was near unchanged, and the inflation market mixed. Stocks rallied back to Friday’s high (still 5 points shy of a new rally high) on very light volume of less than 1bln shares. Equity volumes so far this year, in fact, have remained slack despite the widespread opinion that a new bull market is underway. Perhaps some of that may be due to the weather, but as the chart below shows the volumes for the first 15 trading days of 2011 are the slowest of the last half-dozen years.
Equity volumes have been more consistent with bear-market than bull-market sums so far in 2011.
Draw whatever conclusions you wish about the technical state of the market (although “sputtering” seems fair), but I’d also return to the point I raised the other day about the profitability of dealers. While trading volumes remain slack, it will be difficult for these firms to consistently make as much money as their shareholders would like, absent the releasing of credit reserves.
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With a Fed meeting on Wednesday, it is worth taking note of an article in the Wall Street Journal today entitled “New Push at Fed to Set an Official Inflation Goal.” I had written about this last month in an article I called “Inflation Targeting – Bronco Ben Rides Again?” Indeed, I think that setting an explicit inflation rate target, as opposed to the unofficial 2% target that everyone knows they have, has almost no upside and lots of downside. That’s more of the “writing policy options” approach that the Fed has preferred over the last couple of decades, choosing a course with small and/or uncertain benefits but large and/or certain costs, and it is a bad idea.
It is especially a bad idea because of the widespread skepticism of the concept of core inflation, not solely among retail investors any more but also among some institutional investors who prefer a median CPI or trimmed-mean approach. If the Fed targeted headline inflation, they are sure to fail over most meaningful horizons because the mean reversion period of headline inflation is longer than the policy horizon…which means that even a policy that held core inflation exactly at the target would frequently be seen to have failed against a headline inflation target (and the FOMC clearly cannot affect food and energy prices in the short run!).
A more interesting change for the Fed would be to move to price level targeting, and that is superior to the current practice of ad-hoc adjustments to hit an inflation rate target only one year out. But it is still a bad choice, as my December column argues. (Also look to Kahn’s piece, “Beyond Inflation Targeting: Should Central Banks Target the Price Level,” for good background on the issue. I summarize the paper in that column).
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The first January data shows up on Tuesday in the form of Consumer Confidence (Consensus: 54.0 vs 52.5). If we are expanding, rather than merely bouncing after a deep trough, then Consumer Confidence needs to rapidly move above 80 (see Chart). So far, there has been no sign of that. I expect we will begin to see some improvement, but rising gasoline prices and falling housing prices are currently counteracting any positive confidence from the equity rally.
I am not confident in Consumer Confidence until we're above 80 or so.
The “Jobs Hard to Get” subindex was last 46.8, and it needs to be below 40 before we can be confident that employment is really going to be steadily improving. The last time that subindex was below 40 was in November 2008; in January 2008 it was at 20.6.
Also out tomorrow is the FHA Home Price Index for November (Consensus: +0.0% vs +0.7%) and the Richmond Fed Manufacturing Index (Consensus: 23 from 25), but neither is a market-mover.
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Don’t Call Me Stupid
Equities eked out another small gain, and fixed-income bounced as well, as another patch of unseasonably-cold weather headed for the east coast. This weather itself has short-term economic implications, since it (and the unusually snowy and cold weather all this month) will tend to depress certain measures of activity (such as home sales) for January. The market implications are less clear. It may be that when disappointing numbers are reported, bonds rally and stocks decline as is the typical reaction to weak data. It may instead happen that investors take the weather as an excuse to ignore any bad data and attribute it to a passing storm. How the market reacts to the data will be a decent barometer of the underlying state of market psychology (at present, the latter reaction seems more likely, so the bad weather may turn out to be great for the market by providing a built-in excuse).
It bears noting, however, that in the medium-term this month’s weather won’t matter to the economy. Whatever bad data we get in January will likely be compensated for in future months and quarters. This is at best a trading observation, but if I wanted to trade weather than I’d be in the weather derivatives market or working for a utility company.
The vicissitudes of earnings are only somewhat more stable, but there’s no question they matter more for equity market reaction. To this point, the $1.24bln loss announcement by Bank of America was glossed over on Friday but General Electric had very good earnings. Stocks started the day strong and a good part of the solidity, I think, is that investors believe that a highly diversified company like GE is a good bellwether for the economy. This isn’t unreasonable, as long as the profits didn’t come mostly from its GE Capital unit that has hedge fund-like qualities and relies on cheap leverage, but GE is still a tiny part of the whole economy. The banking industry, taken together, is much larger and so you’d think that weak earnings there for the latest quarter would be concerning for some. I actually think we may be seeing the beginnings of the Finance Reform law’s effect on banking, so in my view this is more likely a problem specific to a targeted industry, and one which will continue to be a problem as long as the banks continue to deleverage, volumes continue to be slack, and customized products give way to vanilla products where margins are slimmer.
However, this isn’t to say that the stock market is cheap or that it should be booming. Dividends are still down 18.1% from the peak of 2006 (dividends/share are down 20.8%) as of year-end. Q4 earnings are down 6.6% from Q3 and the earnings for the 12 months ended in December are up a whopping 4.24% compared to the 12 months ended in September while the market leaped ahead 10.2% during that time (all of this data is as of 1/19/11 from the spreadsheet under “Index Earnings” available here). It is worth pointing out that those numbers do not include BOA’s $1.24bln loss since they include only numbers through Wednesday.
Readers can be forgiven if they are confused with the fact that S&P reports a 17.1 trailing P/E while Bloomberg says it is 15.64. The difference is that Bloomberg, and most other press, nowadays report the ratio as the market price divided by the sum of positive earnings. That is, they ignore in the denominator all losses, and only tote up positive earnings. This is, of course, ridiculous, since if you own the index you own the losses as well as the gains. (Barron’s correctly reports the P/E as of Friday at 17.86, which difference is mainly attributable to BAC I assume). The reason given for focusing on this or (only slightly better) focusing on the ratio of price to operating earnings, is that “a negative P/E doesn’t make sense” and/or “it is better to ignore one-time items.” But at I once heard Rob Arnott point out, it may be the case that ignoring “one-time items” is defensible when looking at a single company, but “one-time items” occur with fair regularity when you look at the whole index. If you own 500 companies, some proportion of them are bound to have losses, and some proportion of them are bound to have one-time items. Unless you have a strong reason to believe the proportions are out-of-whack and currently give a misleading picture, it is more reasonable to assume that bad stuff occasionally happens.
Of course the real reason that P/Es are exaggerated to the low side (people also love to use forward P/Es, as if analysts were as likely to underestimate earnings as to overestimate earnings a year ahead!) is that it makes it easier to sell stocks. And I assume we all know that.
On the other hand, there are some things that I thought we all knew by now and I keep finding out that there are holdouts. Someone just pointed out to me on Friday that former Chairman Alan Greenspan actually challenged his critics earlier this month to prove him wrong on any decision he made as Fed Chairman. I didn’t believe it when someone told me that the old gnome was still defending his legacy, but it’s true. The link to the interview is here.
Gee, Alan, does a whole book count? Good heavens, at least President Reagan’s family had the good sense to remove him from the public eye once his memory started to fail. Someone needs to give this old coot the hook (I say that with all due respect, of course) and get him off stage! May he have a happy and lengthy retirement. Soon, please.
The dollar declined again and commodities rallied again. The dealers who are still holding TIPS auction paper are doing fine, as the issue rallied about 4bps on Friday. The drippy dollar begins to look more and more as if it wants to re-test the November lows. I can’t imagine why anyone would want to be leaving the dollar. Maybe the fact that, according to the New York Times policymakers are looking for ways to let the sovereign states declare “bankruptcy” and legally jettison their debts as well as their (mostly underfunded) pension promises and (mostly unfunded) post-retirement medical benefits promised.
Humorously, the NY Times says this is being worked on because it’s only “a matter of time” before a state seeks a bailout.
So let them seek a bailout from Congress. And Congress, just say no. Or Mr. President, just refuse to sign the bailout. I don’t see the problem. Just kidding. Obviously the problem is that we don’t elect adults to Congress, but children who are guided by their passions and mainly have their own self-interest in mind. Perhaps we begin to see why the dollar is really might be in long-term trouble.
Other central banks are trying to help, though. While QE2 would ordinarily be expected to send the greenback significantly lower (if you increase the supply of dollars relative to other currencies, then its price should fall just like with any supply/demand relationship), it helps that other central bankers are working on keeping their own currency supplies up as well. On Friday Adam Posen of the Bank of England dismissed the surge of UK inflation (RPI is running at 4.8% y/y while the UK CPI calculated by Eurostat rose in December to 3.7%, matching its post-2008 high), saying that he expected it to plunge back to the bank’s 2% target. Even investors who don’t think they care about UK inflation and the actions of the BOE should consider what would happen if Chairman Bernanke were in the same seat, confronting a rise in inflation while Unemployment was still above 9%. I suspect the response would be similar. The strength of the stock market, and especially the strength of the bond market, is predicated to some degree on the idea that the Fed will respond in a timely way to keep inflation from running away once it begins to rise. After all, they have said that they will. But what if they say “well, it rose but it actually isn’t going to keep rising because ‘expectations are anchored’?
Speaking of the Fed, one last headline from last week: “Accounting Tweak Could Save Fed From Losses.” The Fed has apparently changed how it accounts for losses on portfolio securities and other items so that the loss won’t impact the central bank’s stated capital – instead, it will increase a liability account and be paid off from future earnings. Therefore, the story goes, the Fed can’t be insolvent! This would be a wonderful outcome if the story wasn’t based on what I think is a flawed understanding of accounting. If instead of sweeping losses into “retained earnings” or “accumulated losses” and decreasing the capital account, the Fed accumulates a large liability that isn’t balanced by its assets…how is that not insolvency, even if the capital account says the bank has $1 in capital? Good old CNBC even paints the headline to say that this would actually save the Fed from losses. Can someone tell me how I can do that with my trading account?!
What is most disturbing about all of these stories, as well as all of the Eurozone machinations to try and make it appear that the entire EU stands against the tides of the market (aka “greedy speculators”), is that they really think we’re stupid. Inflation isn’t really a problem in the UK. The Fed isn’t losing money on the trillions of securities it has bought, no matter where the price of the securities goes. Greenspan thinks that there is no one who is smart enough to point to a single bad decision he made as Chairman. Ireland and Greece are certainly going to be able to pay off the massive debts they have accumulated without defaulting, even though they are hogtied by not having a floating currency. The New England Patriots are going to win the Super Bowl. Oh, wait, scratch that last one.
There is no economic data due on Monday, and so once again the salient economic point is going to be: it’s cold. Lows Sunday night are supposed to be in the single digits in NYC and subzero in the colder ‘burbs, with wind on top. But the bigger story is that the forecast for mid-week calls for a possibility of another 1-foot-plus blizzard in our area on Wednesday and Thursday, depending on the storm’s track. Weather.com is calling one of the two most-likely scenarios “Somewhat similar to Christmas Weekend blizzard.” So get your trading in early this week!
The Hypnosis Is Wearing Off
Economic data today took a turn for the better, but should be placed properly in context. An important fact, though, is that for the first time in a very long time, the stock market didn’t take the good data as another rallying excuse. Yes, prices rallied from the mid-morning low, but the fact that the market had declined after the data is interesting, as is the fact that even the late day rally could barely bring the S&P index back to unchanged before it sagged again, exhausted.
In other words, this is just the opposite effect we have recently seen, where bad news is shrugged off and turns into a rally. This is not the same thing as saying that we are in a bearish trend for equities! But at least, there is some sign that the hypnosis is wearing off, and that’s a better condition for the market to be in. If you’re an equity bull, you want the market to trade sideways in a choppy fashion for a little bit here, to relieve some of the possibility of a sharper pullback.
Sorting through the economic data, we come first to the strong Initial Claims figure of 404k, better than the expectation of 420k and a vast improvement from last week’s 441k. However, like a broken record I will repeat my usual mantra that seasonal adjustments this part of the year, in particular for weekly data, are extremely difficult. From about the middle of December until the end of January, the week’s numbers don’t mean a lot. Yes, it still seems clear that the job prospects in the economy have improved in the last quarter, but it isn’t at all clear how much. (And the market implications, even if the economy has improved quite a bit, are far from obvious with a cyclically-adjusted P/E ratio, or CAPE, above 23. The market, that is, is already pricing in a fairly aggressive improvement in earnings at a time when profit margins are already quite fat.)
The Philly Fed Index was essentially on-target at 19.3 versus 20.8 expected, but the components were stronger than the headline. There were big gains in New Orders (23.6 from 10.6) and Number of Employees (17.6 from 4.3). This is a jumpy number, but the “Number of Employees” figure is more consistent with the level of 2004 (when the average was 16.8). Again we should be careful to read too much into that, but for a different reason this time: this is a survey of relative perceptions, that is “do you see the number of employees increasing, decreasing, or staying the same” rather than “how many employees do you expect to add.” Again, there is not much question that the labor situation is improving – the debate is whether it is improving sufficiently to move millions of people onto the rolls. That does not appear to be the case, but we’re moving in the right direction.
Existing Home Sales was the best number of the day (5.28mm sales versus expectations for 4.87mm), but again some context is useful. The chart below (Source: Bloomberg) shows that the most consistent thing about this data recently has been its inconsistency. The real underlying pace of sales is probably 5mm units ±1mm units. That plus-or-minus means that forecasting it is a little more like throwing darts than doing econometric analysis.
Sure, try to draw some important conclusions from THIS chart!
More encouraging (because it is steadier) was the inventory of existing homes for sale, which fell to the lofty-but-improving level of 3.56mm units. This is a far cry from the “normal” levels of inventory around 2-2.5mm units, but this level of inventory is consistent with a change in CPI Shelter of about 1% over the subsequent year (see Chart, which I’ve shown before).
3.5mm units of inventory is consistent with small increases in CPI Shelter one year hence.
Note that the recent bump upward in CPI Shelter, which I discussed in the context of the CPI release last week, is consistent with the dip in inventory we saw a year ago…but that this positive price effect should wane over the next six months or so in response to the higher inventory levels into last summer.
All of this was good economic news, but as I noted the stock market didn’t really respond with the enthusiasm to which we have all become accustomed…some may say “addicted.” A rally which began in the late morning managed to ensure stocks closed with only small losses. Bonds, on the other hand, were shellacked and some technicians will want to see a “flag” on the chart of the daily 10y yield (see Chart, source Bloomberg).
Technicians will worry if the 10y yield breaks out of the top of this flag-like formation. As will I.
It didn’t help that the TIPS auction was surprisingly miserable. With real yields around 1.11% going into the auction, with TIPS investors holding the cash from the recent maturity of the Jan-11s and lots of coupons paid this month, and with the Fed buying back enough TIPS that the net supply of TIPS is essentially zero for the first half of this year, I figure the underlying fundamental demand is strong. That isn’t to say that I expected all customers to show up at the auction itself; many customers prefer to let the dealers take down the paper and then buy it closer to the end of the month when the index reflects the new bonds. But with those fundamentals I thought dealers would have no problem buying the inventory. I was wrong! The direct and indirect bids were weak, with a bid-to-cover ratio of only 2.37:1, leaving dealers with a bunch of paper to buy. The median yield of the auction was 1.04%, which was well through the market and suggests a somewhat smaller auction would have been well-received, but to persuade dealers to take the last bits of the supply the Treasury needed to pay 1.17% (and since it’s a Dutch auction, that’s the yield at which the whole auction is settled).
To me, this says that dealers didn’t have the guts to take all $7bln of the supply they needed to take. This isn’t too surprising, I guess, especially when the Financial Reform law discourages dealers from taking proprietary risks with their capital. Imagine if that starts to happen with nominal Treasuries?
This auction will probably clean up all right, though not without some scars on the Street. That’s the second weak 10y TIPS auction in a row, which means dealers will be more timid the next time (which incidentally sets them up to get couped, but that’s another story for another time).
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The New York Society of Security Analysts sent a link in an email today to a snippet of a speech from St. Louis Fed President James Bullard. It is worth the 2 minutes it takes to listen to it. He says that it is “most likely” that the effects of QE2 on the real economy will be conventional monetary-policy-like effects. That’s his opinion, but the key to me is that unlike Bernanke’s assertion on “60 Minutes” that he is “one hundred percent” confident that the Fed is in control (see my written primal scream here), Bullard acknowledges that this is not entirely certain. I would add to this the observation that the effects of conventional monetary policy are not entirely certain, for if they were, then we need to ask what is the Fed’s excuse for getting us into the credit mess and the housing bubble and the equity bubble and …
This lack of certainty, if it were taken to be the operating assumption, has huge ramifications for monetary policy if it is administered rationally. A policymaker who recognizes that he is operating in a condition of uncertainty should tend to minimize interventions into the economy (unless, I suppose, he believes that free market capitalism simply doesn’t work at all and needs to be helped along by wise men). It continues to be the case in my opinion that the most dangerous aspect of this policy regime is not necessarily the actions that are being taken, but the utter certainty with which they are being taken. If they were traders, we would never let them near a phone because we would know we are gonna be “carrying them out” in short order. Let’s hope they don’t take us down with them.
There is no economic data due tomorrow, and another storm is supposed to hit the NY metropolitan area, so I would expect another day of thin conditions. I will be slogging around in the snow myself, so my next comment will probably not be posted until the weekend.
Recovering Our Senses
Markets recently have been reversing Mackay’s classic observation that “Men…think in herds; it will be seen that they go mad in herds, while they only recover their senses slowly, and one by one.” Instead, the slow march of stocks higher has meant that people have been going mad one by one, and joining the crowd. Does the maxim hold true in reverse? Will they recover their senses in herds?
This would be a bad thing, and I am relieved to observe that while the 1% decline in equities today was the largest single-day selloff since November 23rd, the volume was not appreciably different from yesterday’s volume. A bear might growl that this shows how much lower even a little selling might push prices, but classic technical analysis would expect to see a swelling of volume to confirm a trend change.
My suspicion, techies or no, is that this is more than a one-day respite in a relentless march. The wors The negative earnings surprises and/or downbeat announcements from Goldman, Wells Fargo, Northern Trust, Citigroup, and American Express (cutting 550 jobs) helped drive the NASDAQ Bank Index down 2.6%. Barclays just laid off a number of people, many of them very senior, with essentially no warning. Anecdotally, I can report friends at other dealers who are starting to size up their options/escape hatch as well. This is all very strange if you read the economic headlines, or even the earnings reports which, while downbeat, weren’t exactly the big losses of 2008-09. Is there some signal here about the economy, or is the financial reform bill just damaging prospects for financial institutions? Or am I reading too much into narrow anecdotal evidence. I will just say the state of the banking sector just feels less bumptious than it did just a couple of months ago.
Homebuilders were also down, some 3.5% as measured by the S&P 500 Homebuilding Index. Surely this cannot be simply a reaction to the weak New Home Sales number (529k vs 550k expected). After all, the inventory of new homes (which isn’t in the Housing Starts report, but is relevant here) is at the lowest level since 1968 (see Chart), and adjusted for population it is probably at the lowest level ever.
Inventory of New Homes. Yes, they compete with the high inventories of EXISTING homes, but this picture is reasonably upbeat for the home building industry in the long-term.
Both banking and homebuilding, of course, were sectors that cratered and were bailed out in the housing crisis. Could they be canaries in the coal mine now? I doubt it on the homebuilder side, but I have long held that the mega-bank is going to be an expensive use of capital now that the social costs of being big have resulted in legislation that will have the effect of lower volumes, lower margins, and lower leverage. All three legs of the ROE formula, in other words, will be under pressure; the future should belong to the boutiques and partnerships…just as the past once belonged to Merrill, Lynch, Pierce, Fenner, and Smith instead of Merrill/BOA.
The tiny tremor in stocks today – which, granted, feels like a massive earthquake since it has been so long since the last tiny tremor – is only a warning. But it is a warning echoed in the breakdown of the dollar below its trading range for the last two months (see Chart).
Dollar is looking soggy again.
None of these little hints and wiggles would matter much in the normal course of events. They’re not big news. The problem is that there are a lot of people waiting for a Sign to Get Out. Several of these things could be construed to be enough of a warning for a nervous investor to flee. The question is whether these investors regain their senses one by one, or in herds.
It is far too early to make this suggestion, but I think a reasonably gentle 2.5% further selloff to 1250 on the S&P would be welcomed by many. A more-rapid decline, say if today’s 1% turns into tomorrow’s 1.5% and Friday’s 2%, would cause more concern and widen the range of possible outcomes thereafter. In this circumstance I think it isn’t whether you wake up the giant, or when you wake up the giant, but how you wake him up, and jumping on his chest is unlikely to produce the results you would like.
I am not sure that economic data will have anything to do with the unfolding retreat, but if Initial Claims (Consensus: 420k from 445k) fails to drop back onto the improving trend or if Existing Home Sales (Consensus: 4.87mm versus 4.68mm last) goes down instead of up, those will be additional irritants for the investing public. Tomorrow also brings the Philly Fed Index (Consensus: 20.8, unchanged), which is expected to stay near the 2010 highs. There is plenty of scope for disappointment, in my view.
By the way, I am not terribly sanguine about bonds, either. Yields are very low, and although weak economic data is typically good for bonds I think that is less clear when the government plainly needs growth in order to be able to redeem those bonds some day (at least, in the absence of debt monetization). Given that we are still struggling with the deficit from the 2008-09 crisis, is it good for bonds if we enter another recession or even a period of choppy near-zero growth? I think the answer there is unclear. Commodity indices for me still look like the best medium-term bet although they have certainly come far themselves in the last few months.
However, the Treasury is going to issue $13bln of a new 10y TIPS bond tomorrow, with a real yield that will be near 1%. That is pretty uninteresting unless your alternative is the 10y nominal note at 3.33%. I am not fond of the duration, even in real bonds, but I suspect the auction will go fine. The TIPS market continues to be in a zero-net-supply situation with the Fed essentially providing all the new cash that the Treasury raises through the TIPS auctions. It is hard to be bearish on auction results in that situation.
