Daily Market Reports | Sep 16 2010
By Greg Peel
The Dow closed up 46 points or 0.4% while the S&P rose 0.4% to 1125 and the Nasdaq added 0.5%.
Currency markets have been on edge these past weeks in the expectation the Bank of Japan would be forced to intervene to cap a rising yen. After fiddling for weeks as Tokyo burned, fannying about around the edges of monetary policy, the BoJ yesterday debased its currency for the first time since 2004. Analysts suggest the central bank “sold” anything from US$2-17bn worth of yen. I qualify the expression given it effectively amounts to printing money.
The yen subsequently fell 3% against the US dollar. While this represented the biggest single move in the yen since 1995, forex markets were well prepared. The US dollar index rose only 0.3% as everyone else adjusted.
The reason the BoJ was forced to act is because the yen had reached a 15-year high against the dollar. The Japanese prime minister yesterday survived a leadership challenge and commentators suggest the BoJ was holding out until parliamentary stability was assured. The reason the yen is at a 15-year high to the dollar, despite the Japanese economy still being in the deflationary doldrums which began in 1990, is because the US economy is also in the deflationary doldrums. Japan has been forced to print money because the US has been printing money.
Imagine playing Monopoly with the caveat that every time you looked like going out backwards, you could just take some more money from an unlimited bank. And every player had the same access. Monopoly games can be long, but when would this one end?
When everyone else was booming early this century and Japan wasn't, Japanese interest rates remained near zero while everyone else's rose. The Fed cash rate reached 5.25% before the GFC when the BoJ rate was 0.25%. This is what fuelled the yen carry trade, which saw Japanese investors borrowing yen to invest anywhere else in the world to find a return and American investors also taking advantage of Japan's low rates to fund any manner of risk-taking.
The resultant low yen was an advantage to Japanese exporters and it was little surprise, for example, that Toyota became the world's largest seller of vehicles in the period. But since the GFC, the US cash rate is now near zero and not looking like moving for at least another year. Risk trades were unwound in the GFC, meaning yen loans were bought back, but any risk trade today can be funded by greenbacks without (if you are American) having to take on currency risk. So the yen has been abandoned as the carry trade currency of choice, allowing it to rise rapidly. Japanese exporters have lost out.
The Fed's zero cash rate has been further supported by money printing, and expectations are that the Fed will again have to print more money before the end of the year as the US economy falters and unemployment remains too high. This would put more downside pressure on the dollar, which in turn would put more upside pressure on the yen. If the Fed acts, maybe the BoJ will have to act again too. Round and round we go.
Meanwhile, over in the economy that is suffering from inflation rather than deflation, largely because its currency is artificially pegged to the US dollar, Beijing is expected to introduce further monetary tightening at any moment. There is disagreement from commentators about exactly what form policy changes will take, but the recent round of positive Chinese data were strong enough to assume something will happen.
So the supposedly free financial markets are currently being overridden by intervention from higher powers. The BoJ has eased, the Fed may ease further, the PboC may tighten, and let's not forget that the ECB is still feeding the PIIGS with cash lest they are forced to restructure sovereign debt.
Now I ask you: Would you play a game of Blackjack with your own money if the Bank could change the rules mid hand? No? You'd stay right away from the table? Well that's exactly what's happening.
Last night Wall Street managed another rally driven by some supposedly better economic data but once again it was on minimal volume. And everywhere else, the earth stood still. Base metal prices in London closed on barely perceptible moves, with the exception of tin which jumped 3% on news of temporary mine closures in the Congo. Oil fell US78c to US$76.02/bbl as the weekly inventory report failed to surprise.
The US bond market saw rare activity in recent terms. Because the expected flow-on from Japanese yen printing is into short-end US Treasuries, short-end yields fell while the ten-year yield rose 4 bips to 2.72%. It was merely a yield curve flattening session.
Gold settled back a mere US50c to US$1268.20/oz having ramped up the night before. Why is gold so strong at the moment? Well who can trust paper currency? And who is game to play the financial markets as a result?
The Aussie risk indicator also stood relatively still at US$0.9384.
The movement on Wall Street can be divided into an initial drop (Dow down 46) when it was announced the Empire State manufacturing index fell to 4.1 in August from 7.1 in July – this is the lowest reading since July 2009 and well below the 31.9 of April 2010 – and a rally to the close (up 46) following the release of the August industrial production result which showed a 0.2% gain compared to expectation of 0.1%. July had seen a 0.6% gain.
What both results actually show is that US economy has slowed to a crawl but growth is still (just) on the positive side of the ledger. Those left actually playing the stock market are merely clutching at straws. And while such numbers are not enough to suggest the “appreciable deterioration” that would set off QE2, the underlying unemployment growth implications likely are, at some point.
The S&P 500 closed at 1125, just shy of the previous high of 1127 in early August.
The SPI Overnight gained 11 points or 0.2%. Note that the September SPI contract expires today which may or may not spark a bit of argy-bargy in the physical market.
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