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After the close of yesterday’s session, commentators attributed the
drop in equities (S&P500 closed at 1087.24 or -1.03%) to the Crude
Inventory Report. Indeed, it was after the release of the report at
10:30am, that the sell-off was triggered. However, if the move had to
come from that corner, we should have seen a better bid for the
Treasuries auction at 1pm. The Treasury auctioned $16BN in 30-yrs. The
auction was a bit soft vs. others in the past months, and awarded at
4.469% or at 2bps higher.
Thus, yesterday, even though the session started with the jobs data
release coming better than expected (Initial jobless claims at 502,000
vs. 510,000 expected and 512,000 prior week), the market had made up
its mind. Would it take profits and seek refuge in Treasury Bay? Not in
my view. The market only wanted to money. The market preferred the USD,
in my view.
My interpretation is in disagreement with the consensus view. The
consensus view is that yesterday, as the USD strengthened, commodities
had to sell off, which weakened energy stocks, dragging everything
else. To me that was the symptom. My question to you is: Why did the
USD strengthen? The answer to this question will be the real
explanation. I am including below a chart of the Dollar Index (DXY). As
you can see, the trend upwards was very solid all day long. Weakness
after the jobs data release was bought. Strength after the Crude
Inventory Report was not sold.
I will try now to explain why, in my view, the USD strengthened:
Since October, the yield curve has steepened. The Fed has finished
its $300BN Treasury Purchase Program and the market is wondering who’s
going to finance the obscene 2010 deficit + refinancings, next year.
Recent data shows that it may not be foreign institutional accounts.
Furthermore, the Treasury has announced its intention to increase the
average maturity of its debt. In summary, while the US government
insists in keeping or even increasing the current stimulus programs,
the Fed is honoring its word that although it will not raise rates, it
will not accommodate fiscal budgets either. The financial situation at
the municipal level has not improved and consumer weakness is still out
there. This is enough to understand that a steeper yield curve is very
feasible, hurting credit, stocks and Treasuries, and strengthening the
USD, ceteris paribus.
May this mean that we are set for some range-bound trading? What
will decide a future gap higher or lower in risky assets? On the fiscal
side, the situation looks very solid in favor of stable deficits.
Therefore, what is the missing piece here? I suggest it is the actions
other central banks may take.
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