The Overnight Report: Taking The Easy Road

This story features PREMIER INVESTMENTS LIMITED. For more info SHARE ANALYSIS: PMV

By Greg Peel

The Dow closed down 65 points or 0.4% while the S&P lost 0.3% to 1990 and the Nasdaq rose 0.1%.

Expiry

There’s little to say about yesterday on Bridge Street given what has since transpired. Basically we saw the rally kick on thanks to a big rebound in oil prices and some support from base metal prices to ensure energy and materials led the charge from the opening bell.

From that point the magnetic force of index expiry day sucked the ASX200 towards the 5200 level in a big hurry, which has proven to be the top of the post-correction range of late. But given anything could have happened last night in the US and probably would, selling returned in the afternoon to square up positions.

It was still a positive finish by any measure and while it will be interesting to see which way we go today, the good news is the September expiry is now out of the way which means removing a good deal of potential intraday volatility from the equation.

No Go

Wall Street has to wait for tonight for its own expiry, and inherent volatility in the lead-in was evident in last night’s response to the Fed statement.

The Fed did not raise its funds rate. At 2pm, when the statement was released, the Dow was up 69. At 2.04, it was down 52. At 2.12, it was up 67. At 2.30, it was up 4. At 2.48 it was up 181 and half an hour later it was down 44. At 3.30 it was up 22 and at 4pm it closed down 65.

While the approaching expiry would have exacerbated volatility, the bottom line is the Fed managed to create its own volatility. I mentioned yesterday that half the market thought the Fed would raise and half didn’t, and that the market was split on whether stocks would plunge or rally on a yes, or plunge or rally on a no. Well, between 2pm and 4pm Wall Street pretty much did all of the above.

We can’t conclude by the Dow closing down on the session that Wall Street would have rallied on a rate hike, given two strong lead-in sessions and thus likely profit-taking last night. Tonight will be the better indicator, given the smart money typically stands aside from the volatile last two hours post Fed statement. But it’s also quadruple witching.

The Fed has two mandates of control: employment and inflation. The Fed’s two targets in that respect are 5.0-5.2% and 2%. August unemployment came in at 5.1%. Tick box A. Inflation, measured by core CPI, is 1.8%. Do not tick box B. Headline inflation which includes the influence of oil prices, is 0.2%. Go nowhere near box B.

One could say there’s the simple reason why the Fed didn’t raise, but only if it were that straightforward. Aside from suggesting in its statement that the FOMC would like to see higher inflation, the Fed also cited global uncertainty as a reason to remain cautious. Janet Yellen qualified “global uncertainty” at her press conference as meaning China and emerging markets. Three major global institutions – the IMF, World Bank and Bank for International Settlements – had pleaded with Yellen not to raise. Seems she listened.

“Global uncertainty” has unleashed a raging argument amongst Wall Street commentators. On one side, the angry mob is accusing the Fed of playing the role of global central bank when its mandates are simply US-centric. On the other, cooler heads note Yellen’s concern, as qualified in her press conference, is that global uncertainty has weighed on global inflation (in simple terms, weak China, falling commodity prices) and thus US inflation expectations.

The statement showed the net forecasts of all FOMC members for US inflation being lowered from the June meeting, and subsequently projections for the Fed funds rate. In June, four members voted to raise there and then, and last night, only two voted for a raise. It was stated that the majority of the FOMC still want, and expect, to raise in 2015. But it will depend on how global uncertainty plays out, and what the data say in between.

Ms Yellen, if I may have a word. Two major factors have driven global uncertainty all year. One is China. The other is not knowing what the Fed is going to do. And now we still don’t know. The next Fed meeting is in October – too soon. The following is in December, and we recall that in 2013, the Fed chose December to announce the taper.

To my mind it seems the longer the Fed waits to see how “global uncertainty” will play out, the longer the globe will remain uncertain. Thus strike out 2015. Strike out eternity.

Beyond US Stocks

So what were financial markets really expecting the Fed to do? The movements in the Dow, as noted above, underscore the fact the US stock market had no idea.

The US dollar index plunged 0.9% to 94.44. Rate rise expected. The US two-year bond yield has been rising sharply this week, and it fell 11 basis points to 0.70%. Rate rise expected. The ten-year yield fell 9bps to 2.22%. Ditto.

Gold responded to the US dollar plunge in rising US$12.60 to US$1132.20/oz.

The LME closed just as the Fed statement was being released, thus we have to wait until tonight to gauge the response in base metal prices. Nickel and tin dropped over a percent last night but everything else was little changed.

Iron ore pays no heed to such trivialities. It rose US80c to US$56.80/t.

Oil prices jumped about 5% on Wednesday night, so last night’s drop in the US dollar did not affect further gains. Instead, West Texas slipped back US22c to US$46.91//bbl and Brent fell US64c to US$49.24/bbl.

Where to now?

The SPI Overnight about sums it up. The most momentous rate decision in history, and the SPI closed down one whole point, on the new December contract. You can just see “Now what?” written all over futures traders’ faces.

Speaking of December, we now have three long, tedious months of more tiresome will they/won’t they unhelpful Fed rate discussion. If history plays out to typical trends, we’ll bungle our way through the rest of dangerous September and through scary October before November sees some hope returning and Santa starts putting in his buy orders.

By December we’ll have more US jobs and inflation data to consider. Perhaps we will also see the impact of the Chinese currency devaluation starting to flow through, and maybe Beijing will have implemented further stimulus measures. Maybe, as was the case in 2013, the Fed will see a safer environment in which to make its move.

Maybe the Fed was right not to raise just yet. But what we do know is the volatility commentators have been warning about all year that the first Fed rate rise will bring has now been dismissed as a concern. Were at rate rise to cause a Wall Street collapse, as many had warned (even after the recent correction), then by default no rate rise should have meant a big Wall Street rally. It didn’t.

I noted yesterday that in a CNBC survey of US economists, a total of 0% cited interest rates as the greatest threat to the US economy. The Fed had its chance to exploit such disinterest. History shows that central banks are always behind the curve.

Today

It is also interesting that of the same sample set of economists, 0% cited Europe as the biggest threat to the US economy. The Greeks – remember them? – go to the polls again on the weekend.

It’s quadruple witching on Wall Street tonight.

Glenn Stevens will testify before a parliamentary committee today, as he is scheduled to do each quarter.

The changes announced two weeks ago to the constituents of the S&P/ASX stock indices will become effective today.

Premier Investments ((PMV)) will release its FY15 result.

It’s Friday.
 

All overnight and intraday prices, average prices, currency conversions and charts for stock indices, currencies, commodities, bonds, VIX and more available in the FNArena Cockpit.  Click here. (Subscribers can access prices in the Cockpit.)

(Readers should note that all commentary, observations, names and calculations are provided for informative and educational purposes only. Investors should always consult with their licensed investment advisor first, before making any decisions. All views expressed are the author's and not by association FNArena's – see disclaimer on the website)

All paying members at FNArena are being reminded they can set an email alert specifically for The Overnight Report. Go to Portfolio and Alerts in the Cockpit and tick the box in front of The Overnight Report. You will receive an email alert every time a new Overnight Report has been published on the website.

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" – Warning this story contains unashamedly positive feedback on the service provided. www.fnarena.com

Click to view our Glossary of Financial Terms