FYI | Jun 12 2007
By Greg Peel
(Friday:) Bargain hunters moved into the US stock market on Friday as ten-year bond yields peaked at 5.25%. Weakness in equities had seen a rush to switch into bonds – a move which ultimately halted runaway yields. The benchmark finished Friday at 5.11%. In the meantime, a strong return to equities saw the Dow finish the day up 157 points or over 1%. The S&P 500 and Nasdaq posted similar rallies.
The end result was that the Dow was down 1.78% for the week off record highs. Finishing on an up day should provide confidence for investors to return in force on Monday, traders suggested. This week brings options expiries, which have resulted in positive moves in 12 of the last 17 expiry weeks.
The slide was halted as two pieces of positive information hit the market. Firstly, the April US trade deficit narrowed by 6.2% to $58.5bn – the biggest fall since October. Economists had tipped a result of US$63.5bn. A combination of a record monthly result for exports and a decline in imported consumer goods (the two elements which have placed the US in a worrying deficit situation) were an indication that the economy is indeed in better shape than most previously believed. Having achieved annual growth of 2.5% in 2006 some economists now have second quarter growth estimated at as much as 4.0%.
But this is a two-edged sword, as it only increases the chances that the Fed will be forced to raise rates perhaps some time later in the year. This is the message the bond market has been sending. A reduction in the trade deficit also implies a reduced need for foreign trading partners to buy US bonds, if that’s where receipts would have headed, again removing one of the weights on yields. Thus the equity market is torn between strong economic news and the possibility of a rate rise. With M&A activity showing little sign of abating just yet, the accentuation is on the positive. However, if bond yields were to continue their climb, highly leveraged buyouts would become more costly.
And despite the fall in the aggregate deficit the trade balance with China actually worsened, increasing from US$17.2bn in March to US$19.4bn in April. This will only serve to strengthen the resolve of those in the US Congress calling for an introduction of protectionist measures against China and put further pressure on the Chinese to revalue the renminbi at a greater pace than it is currently.
The other piece of positive news related to the very unusual situation of a hurricane that had built up in the Arabian Sea. Crude oil prices had been rallying late in the week as appeared there was a possibility of the hurricane passing directly over Oman’s extensive oil installations. US gasoline prices are already near record highs. A Katrina-style interruption to oil supply in the Middle East could well have proven quite devastating.
But Allah smiled, and the hurricane diverted out to sea, no longer providing a threat. Crude prices fell US$2.17 or over 3% to US$64.76/bbl for July delivery. While no good for US oil stocks, the fall is a positive for the wider US economy and relieves one of the major inflation threats.
The narrowing of the trade gap was also a positive for the US dollar, which gained against all currencies on Friday. Assisted by a greater than expected fall in German industrial production in April, the euro fell to US$1.3371, down from US$1.3425 on Thursday, and now a long way from the prospective break-out level above US$1.35. The move was, however, somewhat devastating for precious metals. Gold fell US$14.40 or over 2% to US$645.60/oz. This fall below US$650/z is technically worrying for gold traders, although the bulls feel jewellery buying should support the metal at these lower levels. Silver fell US$0.40 or 3% to US$12.99/oz.
(Monday:) US bond yields halted their pullback overnight, sneaking up from 5.11% to 5.16%. The mood on Wall Street was one of indecision, with the Dow falling and rising and finally settling only 1 point ahead. It may possibly a quieter week as traders await May inflation data on Thursday and Friday.
The sell off in gold on Friday was attributed to investors selling gold to cover equity losses over the week. Where as once gold was considered a safer place to be when equity markets were falling, it seems the trend these days is that sharp stock market corrections will result in sharp gold price corrections, at least initially. However, gold managed to recover from its losses last night despite little direction in the stock market. The upshot is that the equity sell off was prompted by inflation fears as the bond market broke through 5%, and ongoing concerns that the effect of higher oil prices are yet to filter through to the data. Gold is supposedly a hedge against inflation. Moreover, the selling was seen simply to be overdone.
Gold rebounded US$7.40 to close at US$653.00/oz – safely back over the critical US$650/oz level. Once again it seems disaster has been avoided. Assisting gold’s recovery was the crude oil price, which responded to comments from Iran’s oil minister that OPEC was not planning to release any additional oil into the market prior to the next meeting in September. Oil rose US$1.21 to close at US$65.97/bbl for July delivery, more than halving the losses from Friday.
Base metals finished mixed after two days of trading. Aluminium was down a net 1% in New York, and nickel 2.5%, while copper managed a 2% rally and zinc 3.5%.
The local market will likely start the day on a positive note, with the SPI Overnight closing up 56 points. There will no doubt be interest in those stocks affected by the weekend’s wild storms, with Hunter Valley coal miners and wine growers in particular probably waiting to be able to conduct damage assessments. Insurance companies exposed to the area may also feel some pressure.
