Equities are seeing a summer stock surge

I want to explain the markets in really simple language, since there are some very basic problems in the largest securities market in the world and the projections associated with what is going on.

Fed chair Janet Yellen is in a tough spot. Yellen & Co. wants to raise rates but the rate of inflation is not growing. The Fed’s tools for the economy are to control inflation from getting too high, by raising rates.

Late last week Yellen gave the markets all they need to know by intimating that a pause in rate rises is on the table after seeing prices stagnating and retail prices are falling fast.

On Monday morning the 30-year US bond is 2.9% yield and the 2-year US paper is 1.35%. The difference between the two rates is too tight for the 28 years of duration. That is called flattening of the yield curve. Bank stocks hate tightening since that squeezes the profits on loans.

When there is little inflation — like now — raising rates can cause deflation. Deflation or stagflation (a less sever form of deflation) is when prices fall because too few dollars chasing goods.

The Fed was said to be raising rates quicker recently in order to have the ability to lower rates later in the event of economic slowdown like a deflationary hiccup.

So what does the stock market see? A celebration.

As I have often said here, capital goes where it is treated best. So look for stock indices to set all-time highs on just about a daily basis, since little cash will go into debt with the diminished returns.

Another factor in the summer stock surge is equities are buoyed by low inflation. Shares always move higher in a low-inflation environment. So we have a perfect storm in the markets.

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Chair Yellen is no Joe Namath

All I’m going to say is the Fed chair Yellen is no Joe Namath.

On Wednesday in a speech the Fed head said, “Will I say there will never, ever be another financial crisis? No, probably that would be going too far. But I do think we’re much safer and I hope that it will not be in our lifetimes and I don’t believe it will.”

Namath guaranteed the New York Jets would win Super Bowl III and backed it up.

Yellen, who seems to be on the path of bursting asset bubbles with a credit-busting, rate-raising strategy, also said, “asset valuations are somewhat rich if you use some traditional metrics like price earnings ratios, but I wouldn’t try to comment on appropriate valuations, and those ratios ought to depend on long-term interest rates.”

Even if you discount the 2.5% drop in Google yesterday on the huge European regulator’s $2.7 billion fine for skewing its search results, stocks sold off hard on her comments.

Now I’m not one to pandered to ageism, however at 70 years old, Chair Yellen has a different time horizon than the rest of us.

But if the Fed thinks it can burst stocks, art and home asset bubbles by constricting credit in a low inflation environment, then Yellen & Co are looking at a possible deflationary crisis, which they have little in their toolbox to combat.

One can think that the Fed can always lower rates again and expand its balance sheet to fight deflation, but that’s just continuing the boom/bust cycles.

Commodity carnage will give Fed reason to pause

The prices in basic metals and energy have been plunging over the last week. The basic materials for manufacturing products such as iron ore, lumber, tin and aluminum are cratering on reduced demand from China and other Asian countries.

This implies a further global slowdown and very little opportunity for inflation to enter into the equation. In this scenario price deflation is the rule as consumers put off large purchases as prices fall week over week on household appliances, furniture and automobiles.

Into this fray, the Federal Reserve wishes to raise rates. The opportunity for further price dislocation on perceived dollar strength after a rate rise will only exasperate these deflationary forces.

These are the forces that has forced IMF chief Christine Lagarde to say publicly that the Fed should not be raising rates at this time.

I am still standing by my January prediction that there will be no rate rise this year. I feel the Fed will come out next week and say rates will remain at zero and Yellen will have to say at the press conference that global pricing pressures gave the Fed governors a reason to pause until more information is gathered before raising rates.

The middle of December with its lack of liquidity while Wall St. is in the midst of window dressing its trading books is the worst time of the year to give stocks a jolt.

 

Beating down the dollar

The latest example of the weakness in the US economy came Friday with the anemic September jobs number as well as downward revisions to prior months.

Equities and Treasuries moved accordingly knowing that the report was so weak, that there will be no rate rise this year. Stocks soared as bond buying took the 10-year US note below 2 percent.

Global markets rejoiced as the dollar weakened. The strong greenback is the bane of the global economy. The amount of price increases around the globe is creating runaway inflation in Asia, South America and the third world countries.

This is the backdrop we have that has Fed chair Janet Yellen jawboning about raising rates. The move would certainly help the banks but it would also weaken the dollar to curb the inflationary pain globally.

The problem arises in the US as there is a price deflation fear on strong dollar as well. The fact that there is little to no wage growth for most middle class workers. With that dynamic of no pay rise, inflation is never going to happen here.

This quarter turned stocks into pints

More than $11 trillion was lost in global equities prices in the quarter ending Wednesday.

Naturally all markets rally today on the window dressing that occurs on the last day of a month, quarter or year.

That $11 trillion is not lost on all market players. As traders go in and out of stocks to eke out profits in a down market. No the everyday people, who are advised to stay in the market for the long haul are the big losers. Retirement accounts have taken a beating this quarter since most are not actively managed to cut losses.

So we enter the cruelest month for the markets — October — with an US monthly payroll report on Friday.

BTW, I still have Glencore on my radar, despite stories floating around that the firm may go private as the stock rallied briefly. Again who or what will backstop the huge losses on the company’s books? The Fed? The ECB?

Interesting times.


Europe’s economy slipped into negative inflation, which by any measure means deflation. Central banks across the globe fear a deflationary spiral, since they have no ability besides further easing to combat it.

Bit what does that mean for the consumer? Less debasement of currency as prices fall. Pricing power moves to the consumer. Why buy a washer and dryer today, when it could be cheaper next week.

It’s not a draconian event for consumers — in the short term — but can lead to layoffs if it persists from a longer period of time.

So enjoy it while it lasts.