Wednesday, July 7, 2010

This has the makings of a bottom



Equities are up over 3% today, and the Vix Index has dropped by almost half since its recent high. Given how depressed the market was until recently, I think this has all the makings of a bottom, at least for now. The financial fundamentals I watch have all improved substantially over the past month or so, even as the equity market worked itself into a lather over the prospects of a big economic slowdown. Swap spreads both here and in Europe are down meaningfully from their recent highs, and implied volatility is down significantly. Commodity prices had a meaningful correction, but they have not collapsed by any stretch. Oil is almost back up to its average over the past year. The dollar is off 5% from its recent high, another sign that the climate of fear that drove investors to dollars has subsided. Ditto for gold, which is down almost 5%.

It looks to me like the equity market just got carried away, letting its attention drift from the fundamentals to worry instead about all the dire warnings being advanced by pundits everywhere.

8 comments:

Benjamin said...

OT but fascinating--very conservative Fed officials appear to want a crackdown on derivatives.

St. Louis Fed President Supports Lincoln’s Derivatives Overhaul
St. Louis Federal Reserve President James Bullard supports the strong derivatives reform authored by Sen. Blanche Lincoln, D-Ark., according to a Senate source who recently spoke with Bullard.

Bullard is currently in Hong Kong and will not return to the United States until Friday. He is the third Fed President to endorse Lincoln’s tough crackdown on derivatives– which has emerged as the most important Wall Street reform still on the table for 2010. Kansas City Fed President Thomas Hoenig and Dallas Fed President Richard Fisher have also endorsed the plan. Several key economists, including Nobel laureate Joseph Stiglitz, Nouriel Roubini, Simon Johnson and Jane D’Arista have also offered support for the provision.

Lincoln’s proposal, known on Capitol Hill as Section 716, would end taxpayer subsidies for derivatives dealing by forcing commercial banks to spin off their derivatives operations into independently capitalized subsidiaries. By ending taxpayer subsidies, the massive speculative market in derivatives would shrink, making the global economy less beholden to Wall Street gambling. Derivatives were at the center of the 2008 financial meltdown...

Is this regulation of the type that will wreck the economy? Or are the Democrats doing something right?

Benjamin said...

The AEI says deflation a threat. Now, those guys are conservative.

AEI OUTLOOK SERIES The Rising Threat of Deflation By John H. Makin | AEI Online
(July 2010) Subscribe to the Outlook series.

July 2010

As we enter the second half of 2010--the "postcrisis" year--while markets have been obsessed with Europe's debt crisis, they have failed to notice potentially more ominous developments. The United States and Europe are heading toward--and Japan already suffers from--deflation, a classic prolonger of crises that boosts the real burden of debt and crushes profit margins.

U.S. year-over-year core inflation has dropped to 0.9 percent--its lowest level in forty-four years. The six-month annualized core consumer price index inflation level has dropped even closer to zero, at 0.4 percent. Europe's year-over-year core inflation rate has fallen to 0.8 percent--the lowest level ever reported in the series that began in 1991. Heavily indebted Spain's year-over-year core inflation rate is down to 0.1 percent. Ireland's deflation rate is 2.7 percent. As commodity prices slip, inflation will become deflation globally in short order.

septizoniom said...

why on your blog are all the pundits the nabobs of negativism? you entitle yourself a pundit as well. perhaps there are equally balanced unbalanced naysayers (the others) and optimists (e.g. you).
also, why would you involve yourself in bottom calling? it's tacky.

John said...

Septi,

You are welcome to your opinion but some of us follow the markets and appreciate Scott's input from time to time regarding it. Perhaps you like to keep up with GDP for grins but a few of us have other motives. It certainly is not tacky me.

Mr. Kowalski said...

In addition to Jonathan's deflation stats, might I boldly add yet more evidence:

"The stock of money fell from $14.2 trillion to $13.9 trillion in the three months to April, amounting to an annual rate of contraction of 9.6pc.. the steepest decline since the Depression"

"The U.S. Census Bureau announced today that advance estimates of U.S. retail and food services sales for May, adjusted for seasonal variation and holiday and trading-day differences, but not for price changes, were $362.5 billion, a decrease of 1.2 percent from the previous month" The upcoming CPI report will be most interesting.

I see copper being mentioned; I myself an short copper from $3.10 and look for the red metal to sink below $2.50 this year. The world's largest consumer, China, is having it's own housing slowdown.. and this comes on the heels of massive Chinese purchases in early 2009 as copper hit below $2.00. There are warehouses full of the stuff in China.

As for equities, who knows.. so much of the trading these days is computer driven that it has, to a large extent, become completely devoid of any reality outside the walls of the exchange.

Dr William J McKibbin said...

Prosperity is right around the corner...

Bob said...

Benjamin,

I don't know anything about Democrats ever getting anything right :), but won't this just drive the derivitives market offshore?

(scarily I find myself favoring this legislation, maybe I'm a closet liberal;( )

Bob

Benjamin said...

Bob-
I am no fan of the Democrats.
People sometimes accuse me of being "liberal" as I point out the huge R-Party flaws, and I participate in right-wing blogs like this one.
To me, wasteful spending is wasteful spending, whether for worthless social welfare progarm, rural lard, or military parasites. The federal government gets about 10 cents on the dollar in value for every dollar it spends, and that ratio sinks lower for our overseas follies.

That said, if very conservative Fed chiefs like this legislation, it probably is good.

And if the AEI says money is too tight, then money is probably too tight.

You know, a few years back, the Reaganites inherited Paul Volcker as Fed Chief; he was a Carter appointee. The Reaganites wanted to stimulate the economy, and ran huge deficits to do so (running roughshod over Davod Stockman), and eventually edged out Volcker, and put in Greenspan (thought to be easier).

The thing of it was, it worked! The economy grew, and inflation didn't go wild. Indeed, to this day, Reagan hagiographers canonize Reagan as an "inflation fighter."

At this point, I think more federal spending is just waste.
But easing up on the money supply, both quantitatively and qualitatively, makes a lot of sense. Inflation is dead, and deflation is a possibility.

Let's take a page from the Reaganites, and boom this economy!