The Overnight Report: If You Blinked…

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By Greg Peel

The Dow closed up 74 points or 0.9% while the S&P added 1.1% back to 942 and the Nasdaq added 1.3%.

Wall Street was steady for most of the day before quietly rallying in the afternoon to close on its highs. Volume was light as traders refrained from getting carried away ahead of tonight’s jobs number. But the sober action on the stock markets belied what was going on elsewhere.

If Wednesday was a reality check for inflation traders, reflected in a big drop in oil, base metals, and gold prices and the yield on the 10-year bond, all was forgotten last night.

The economic news of the day was the weekly new jobless claims number which, while volatile, fell by 15,000. Most importantly however, the number of continuing claims, which has been setting weekly record highs since January, fell by 4000 to 621,000. In another “green shoot” consideration, analysts are now beginning to think their forecasts for an unemployment level peak above 10% may be too pessimistic. More good news came in the form of the first quarter productivity reading, which showed better than expected 1.6% growth. (Although this does imply less workers for more output).

This bit of optimism meant those rushing back into 10-year bonds on Wednesday rushed back out again, and the 10-year bond yield jumped straight back to 3.7%. In the meantime, both the Bank of England and the European Central Bank left their cash rates unchanged. This was expected, but provided a green light for the US dollar to slide again. The dollar index fell 19 points to 79.34.

A weaker dollar is always good for commodities, but no one would have predicted what might transpire.

Firstly, Goldman Sachs announced it had increased its 2009 average crude price forecast from US$65 to US$85/bbl and suggested the price could go to US$90 in this rally. Goldman famously called oil at US$105 in 2006 when oil first hit US$50 and US$200 last year when it was at US$130. The market took the upgrade as a good enough reason to buy, and the oil price surged back US$2.58 or 3.9% to US$68.70/bbl and a new 2009 high.

Never mind that a report issued yesterday by the Energy Information Agency – the source of oil price weakness – showed US demand down 7.7% on the driving season of last year. No prizes for guessing Goldmans’ proprietary oil position at present.

Traders on the London Metals Exchange were surprised to learn that there had actually been a fall in aluminium inventories. Despite the fact inventories have been setting new records with monotony every week of late, speculators decided aluminium was the new hot trade. The metal is usually the least volatile in price movement among its peers, but last night aluminium shot up 7.8%.

The others weren’t going to sit back either, and copper, lead, tin and zinc jumped 4% while nickel added 6%.

Gold simply reversed Wednesday’s fall, and rose US$17.50 to US$981.40/oz.

In short, it was a rapid return to the inflation trade, showing Wednesday’s blip as nothing more than that. Weighing on Wall Street is next week’s action in the bond market. The US Treasury will auction US$35bn of 3-year bonds on Tuesday, US$19bn of 10-years on Wednesday, and US$11bn of 30-years on Thursday. These numbers, particularly the 3-years, are large.

Wall Street is concerned as to just how much US debt the world can continue to absorb. With the US economy attempting to show signs of recovery, preference has been to move out of safe haven Treasuries and back into the stock market, and more particularly the commodities market. There is an element of self-fulfilment here as investors buy real commodities in anticipation of rising inflation, only to push up commodity prices and cause inflation. The flipside of this effect, nevertheless, is that rising raw input prices and a return to high oil prices is not good for an economy attempting to get back up off the floor.

Note that the VIX volatility index is still stuck on 30, meaning there is still plenty of caution out there.

Wall Street also paid close attention last night to action in Australia, focussing on the failure of Chinalco and Rio Tinto ((RIO)) to reach an agreement on a restructured deal. Talk of an alternative iron ore tie-up with BHP Billiton ((BHP)) was also highlighted. Rio shares fell over 6% in London and 3% in New York while BHP fell 2.5% and 1% respectively, despite the big bounce in metals and energy.

Throw in yesterday’s local reality check – that recent drops in price of bulk commodities by at least a third have made the first quarter GDP number a mockery – and there was little fresh interest in the Aussie dollar last night as one might otherwise expect. It only ticked up slightly to US$0.8023.

Similarly, the SPI Overnight only rose 10 points despite the big fall in the ASX 200 yesterday.

Monday is the Queen’s birthday holiday on the east coast at least, and the ASX is closed for all bar WA. FNArena will not be in action on Monday. There is no Overnight Report on a Monday anyway but there will be one tomorrow as usual.

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