Today’s trade was supposedly a risk on/risk off as all of July’s news that failed to impact the market became relevant today. Argentina, Gaza, Ukraine, Portuguese banks … all these issues became reasons for the 2 percent selloff in global equity markets. The problem with the pundits in search of a correlative rationale failed to find the traditional correlations. The SPOOS sold off forty points and the bonds actually closed lower. The YEN, which has been the safe harbor for global investors, remained unchanged for most of the trading session. GOLD, the ultimate haven, lost $14 and closed miserably for the month. Tomorrow’s GOLD action will be critical as we closed under the 200-day moving average. A CLOSE under 1276.50 after the unemployment report will be the end of my bullish outlook on GOLD until some other technicals provide support.
It seems that the Fed’s FOMC statement was an effort to have it all: “LABOR MARKET CONDITIONS IMPROVED, WITH THE UNEMPLOYMENT RATE DECLINING FURTHER. HOWEVER, A RANGE OF LABOR MARKET INDICATORS SUGGESTS THAT THERE REMAINS SIGNIFICANT UNDERUTILIZATION OF LABOR RESOURCES.” This is Janet Yellen coming clean. She is a labor economist who will ensure that the FED will err on the side of labor and wage gains. The battle cry from the Fed is loud and clear: No RATE RAISES BEFORE WAGE INCREASES.
Tomorrow is a big day for disseminating information with market-moving potential. The market is bored with war, pestilence and famine so it must be FED pronouncements and GDP data that can provide a volatility boost. The markets did twitch today as the European Union and the U.S. both upgraded the sanctions against Putin’s Russia. It will be very difficult for Russian banks and large energy consortiums to raise dollar- and euro-based capital. Even with the advent of new and improved sanctions the global equity markets barely moved, especially as corporate earnings in the U.S. continued its string of “beats.” The counter to the continued strength of the equity markets is the behavior of the global debt markets as European sovereigns from Spain to Germany have reached record low yields. The U.S. yield curves continue to flatten as investors continue purchasing 10- and 30-year debt driving long-term yields lower. Again, I will state that while the curves are flattening the 2/10 U.S. curve is not historically flat.
The financial press is filled with articles about the recent EURO weakness. During the last week the EU currency has fallen about 1.5 percent. Many pundits have opined that it is the Ukraine situation and Gaza that have made investors uneasy, thus the move into U.S. dollars. In a July 22 Bloomberg article, “Draghi Cedes Euro Control to Yellen on Fed Bets,” it is suggested that the DOLLAR is rising in anticipation of moves by the FED, especially now that the ECB has gone to negative yields on reserves. The problem for the Fed argument is that yields in the U.S. have actually softened during the last week and Fed communication has been muddled over when interest rates might possibly rise. When the ECB announced a negative interest rate June 5 the EURO/DOLLAR made a low of 1.3503. Today we are trading at 1.3465, a little below the 1.35 low but well below that day’s close of 1.3650.
Alfred E. Neuman, the beloved character of Mad Magazine, was famous for his deadpan look while espousing the philosophy, “What, Me Worry?”
While the world has certainly entered the madness zone, the world’s equity markets remain in bull mode, floating on a sea of central-bank provided liquidity. Russian support and arming of “rebel” groups results in the downing of a commercial airliner … no problem. An Israeli invasion of Gaza to thwart the nihilistic behavior of Hamas, and the markets shrug and offer up a bland response of, “whatever.”
First, as I have been critical of Chair Yellen’s communication efforts prior to this weeks Congressional testimony, I will give the Chairwoman an A+ for her effort this week. She was very forthcoming in her Senate appearance on Tuesday, and, more importantly, she fended off the idiots in the House of Representatives with clarity and the patience of a saint. The problem with the House is too many ex-prosecuting attorney’s who all try to get Yellen in a gotcha moment, but the Fed Chief was not falling for the trap of providing sound bites for the elections back in the home district. The Senate questions were of a substantial nature while the House was fluff of either adulation or criticism.
Today on CNBC Rick Santelli brought up an issue that NOTES FROM UNDERGROUND has been discussing since Fed Chair Yellen spoke at a Chicago Fed Conference when she placed the names of three long-term unemployed people (as if the Chairwoman’s speech was a State of The Union Address). It is wrong for a Fed Chair to bring moral philosophy to the conduct of MONETARY POLICY IN A FIAT CURRENCY WORLD. The Fed’s role is to preserve the DOLLAR as a store of value even with the DUAL MANDATE. The United States bears an exorbitant privilege with the dollar as the world’s reserve currency, with all commodities priced in dollars. The exorbitant privilege comes with an exorbitant responsibility and that is the maintenance of the DOLLAR AS A RELIABLE STORE OF VALUE.
There’s a little levity during a very stressful week of trading. Germany meeting Argentina in the World Cup final is symbolic of the battles being waged by the world’s central bankers. Jeremy Stein and the BIS view the threat of financial stability a potential concern of Janet Yellen and Mario Draghi. The world’s financial markets will be watching to see what style of play on the pitch prevails: The aggressive Argentinian speed or the more AUSTERE and supreme defensive style of Germany. In the spirit of global macro humor I ask these questions:
- Will presiding referee Thomas Griesa issue a RED CARD to the entire Argentinian team for defaulting on its debt?
- If the Argentinians get control of the ball will someone from Elliott Associates come and grab it as Griesa deems it an asset of the debtors?
- If Argentina prevails, will the trophy be confiscated and given to the intransigent creditors for sale on E-Bay?
- Will Griesa suffer the slings and arrows of outrageous fortune as he is deemed by FIFA to be a biased American judiciary with no genuine knowledge of the international beautiful game of debtor/creditor?
***The question to which we keep returning: ARE THE WORLD’S CENTRAL BANKS THREATENING THEIR CREDIBILITY? A corollary question: DOES THE FED UNDERSTAND ITS OWN FALLIBILITY? As yesterday’s FOMC minutes revealed, confusion reigns within the FED as to the strength of the real economy, especially in ways to measure the OUTPUT GAP of the employment data. How much slack exists in the labor pool to prevent a dramatic rise in wages is of paramount importance for the Fed’s “forward guidance” (and signaling to markets future FED intentions). The FED speaks with great confidence in its projections but if past performance is a guide investors should treat all Fed projections with skepticism. It was the highly regarded Ben Bernanke who maintained well into late 2007 that the housing slowdown was well contained and should pose no problems for the U.S.economy. Yet, the impact of the U.S. credit crisis was severe enough to effect banks and bondholders across the globe. The bottom line is that the FED is fraught with failings and for investors to treat all Fed releases as pearls of perfection should proceed with caution.
“Ms. Yellen told us that policy under her leadership is not rules based. As such, market participants have to rely on the Fed’s ad hoc assessment. And that is very much like reading tea leaves, as the Fed is looking at backward-looking indicators such as the most recent unemployment report. Forward-looking indicators, such as the yield curve, are less reliable as the Fed itself has actively managed gauges. That, in turn, forces market participants to try to read Ms. Yellen’s mind. Her statements make it clear that her focus is on keeping rates low to help promote job growth until inflation readings get enough over the targeted 2 percent level to warrant concern in her mind.”