Monday, October 19, 2009
I've been highlighting these charts for a long time now. They both help to understand what is behind the gigantic rally in equity markets today. As I see it, the fuel for the rally is rising confidence. Confidence hit rock-bottom last March, but it is now coming back. The Vix index in the top chart is a good measure for the fear and uncertainty that inhabits the market, and the decline in the Vix has tracked the rise in equity prices quite closely. Similarly, the dollar has had a very tight, inverse relationship with equity prices because as confidence has come back and fears have been reduced, the world's safe-haven demand for dollars has declined. Dollars that were being hoarded under the mattress or in money market funds are being converted back to other currencies and/or being spent, and that is driving the rise in economic activity that we see all over the world. In other words, rising confidence is reducing the world's demand for dollars, at a time when the Fed is still very willing to supply them—that is a perfect prescription for a dollar decline and a reflation of economic activity and prices.
The stock market was priced to an economic catastrophe earlier this year, and it is now in the process of repricing to a less awful forecast for growth (my guess is that the market is now priced to tepid growth of only 2% or so). We could be headed for bubble territory (e.g., in equities, commodities and nondollar currencies), but I don't think we're even close yet. We're still working our way out of the depths of despair.
Posted by Scott Grannis at 9:18 AM