Notes From Underground: Just like Frank Zappa, the markets are like a Penguin in Bondage

During the last two days the markets have heard from the Australian and Canadian central banks and both institutions held its rates steady. Both banks cited its strong currencies and the still-fragile state of the global economy outside of emerging Asia as the primary reasons for holding. The RBNZ Central bank will make its announcement at 2 p.m. CST. The consensus is for rates to remain at 3 percent. As the world’s banks hold, the long end of sovereign debt markets have been under heavy selling pressure as the 10-years in Germany, the U.K. and U.S. have all increased 20 to 30 basis points during the last week.

The sudden rise in long rates has led to profit taking in previous precious metals and some commodities but I wonder, what commodities have held recent high prices? The GRAINS and other softs have held and currently COPPER is back on its recent highs. The ENERGY complex is also holding well so this recent commodity correction is much different than other selloffs the market has experienced during the last two years when all things fell in unison. Even of greater interest is the continued strength in global equities, which begs the question: Is the large global debt market selloff a statement about the increased possibility of far more robust growth than central banks are perceiving?

An addendum to the question: Now that the FED has signed on QE2 and unemployment in the U.S. at 9.8 percent, how much increase in the long end of the debt markets will the FED tolerate before it attempts to turn the tide?

 If the Fed is committed to Bernanke’s Jackson Hole speech and the concept of PORTFOLIO BALANCE CHANNEL, it would seem that the FOMC will tolerate a rise in long rates as long as the equties keep rising. The problem will be if the rise in long rates begins to have a deleterious effect on equities. Then the FED will be in a CONUNDRUM of its own making. Presently, Bernanke is getting what he wishes as the S&Ps are up 10 percent on the year lending hope to corporate capex [capital expenditure] plans and the increase of spending from firms’ bloated cash hordes.

Coupled with the Obama compromise on the BUSH tax rates, the equities have been given a year-end gift that should help raise the markets’ animal spirits. Some analysts are sure that the increase in long rates is really a statement about the underlying strength in global demand. Thus, the increase is a good thing as conservatively parked money is leaving safe harbors for fear of being left behind as better growth begets higher returns on risker investments. Again, if this analysis is correct, the FED and the other central banks have gotten the global growth picture very wrong. The surge in U.S. long rates has put a bid to the DOLLAR, which cannot make certain policy makers happy as increased export growth based on a weaker currency is part of the U.S. recovery plan.

Remember that Bernanke threw down the gauntlet to the Chinese in his Washington Post Op-Ed, where he let it be known that the Chinese needed to restructure from an export-based economy to one of increased domestic demand. If the Chinese failed to comply with U.S. wishes, a weaker DOLLAR certainly would be necessary. Higher BOND prices are causing some serious short-term price volatility in some asset classes but I don’t believe that this is the beginning of a major correction.

The BONDS may have raised eyebrows but at these historic low rates it is not a seachange as of yet. If the FED is not bothered enough to stem the rise, I would advise using large movements as opportunities. Europe is a problem and growth is still weak so the FED is not moving. Can LONG RATES CONTINUE HIGHER? Yes, of course, but in the present environment it is not a problem. Now, back to you Mr.Bernanke.

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2 Responses to “Notes From Underground: Just like Frank Zappa, the markets are like a Penguin in Bondage”

  1. Doug Says:

    Great post: “Is the large global debt market selloff a statement about the increased possibility of far more robust growth than central banks are perceiving?”

    Being that we are human our perception is almost always wrong.

    It was mighty impressive today seeing coppers strength relative to the other metals.


  2. Arthur Says:

    Well, I don´t like too much copper… however, big banks forecast copper will rise to as much as $12,000 by the end of next year, up from about $9,050.

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