The Overnight Report: Bring On December

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By Greg Peel

The Dow rose 247 points or 1.4% while the S&P gained 1.6% to 2083 and the Nasdaq added 1.8%.

Put Options

The futures were right on the money in calling the local index down 37 points yesterday morning, based no doubt on falls in commodity prices overnight, as that’s pretty much where we were at from the bell. We then staggered through the morning but from midday, the buyers returned.

It would appear that yield is what they were after. The push towards a positive close was led by the banks, telco and utilities, all with gains of around 0.7-0.9%. Materials was the drag with a 1.5% drop following big falls in iron ore and base metal prices but energy managed to sneak into the green despite a pullback for oil prices.

The yield case was likely revisited following the last morning release of Australia’s September quarter wage price index. It rose 0.6% for the quarter to leave annual growth unchanged at 2.3% — the lowest rate since data began being kept.

The numbers came in as economists had forecast and supported the RBA’s view that spare capacity in the labour market will continue to hold back wage growth and thus inflation for a while yet, even as the unemployment rate falls. While “lowest in history” seems significant, never in history have we seen the RBA’s cash rate so low or rates as low as they are across the globe, including zero in the US. Inflation is running at 1.5% locally, thus real wage growth remains positive at 0.8%.

The implication from the data is that while the minutes of the November RBA meeting, released this week, provided a cautiously upbeat assessment of the progress of Australia’s economic transition, thus ruling out a December rate cut, the board noted that the low inflation environment continued to provide “scope” for a rate cut if deemed necessary.

Were we to have another rate cut it would act as counter to a Fed rate hike for foreign investors, thus maintaining the value of local yield stocks. With the index buying we’ve seen this week, particularly on Tuesday, it is also likely foreign investors are eyeing off an Aussie near 70c now when not so long ago it was over the dollar. The Aussie is reflecting weakness in commodity prices and if one assumes commodity prices can’t fall by too much more, and that the Aussie will likely only fall into the high sixties from here at worst, then now is a good time to invest in Australia from offshore.

So locally, as I suggested yesterday, investors have a “put option” in the form of “scope” for the RBA to cut if it has to, while investing in the “moderate economic expansion” the RBA currently perceives. Foreign investors have a put option in the form of a currency that is at the lower end of its historic range.

No Choice

“Most participants” believed that conditions for beginning to raise interest rates “could well be met by the time of the next meeting”.

So said the minutes of the October Fed meeting, at which, it appears, the number of FOMC members now happy to go next month has shifted into majority. And since that meeting was held, the runaway October jobs numbers were released.

But for a lot of observers around the globe it’s now a case of the Fed hiking in December not because US economic data are positive, but because the central bank has come under enormous criticism for its hesitation and lack of decisiveness. The Fed should have pulled the trigger 18 months ago, many suggest. At least in June. And why not in September? Now it looks like they have simply backed themselves into a corner and have no choice but to get this rate rise out of the way.

Previously the Fed was worried a rate rise might spark volatility in markets. Now they are likely worried the opposite would be true. Yet aside from jobs, recent US data have been weak at best. As one commentator put it, if the cash rate was 3% and not zero, a very good case could be made right now for a rate cut. But the Fed can’t cut, because the rate is zero, It has missed the opportunity to provide itself with the sort of leverage the RBA is currently enjoying. Therefore December is likely to bring a rate hike simply for the sake of having a rate hike.

It is never quite clear which way Wall Street is going to run on the cut/no cut argument, given the response seems to vary. But a 250-point Dow rally last night with no other real incentive (the day’s economic data release was an 11% drop in housing starts) suggests Wall Street is looking forward to getting it all over and done with.

There was little response in forex and bond markets nonetheless. The US dollar index is steady at 99.62 and the US ten-year yield rose a point last night to 2.27%. Both markets have already moved to a position which suggests a December rate hike is now baked in. It is the stock market that remains fickle.

Commodities

The Fed minutes had not been released when the LME closed last night, so that response will have to wait till tonight. But weak US housing starts were matched by data yesterday showing an easing of house price growth in China, and talk at an industry gathering in Shanghai was of copper prices remaining weak for at least another two years.

Copper was down 1.5% last night, as was zinc, and nickel fell 1%.

Iron ore was thankfully unchanged at US$45.80/t following Tuesday night’s big fall.

West Texas crude had another look at the 39 mark last night, briefly, before recovering to be up US16c at US$40.89/bbl. Brent is up US75c at US$44.32/bbl on the new January delivery contract.

As the greenback is steady, so too is gold at US$1071.90/oz.

The Aussie is off 0.2% at US$0.7107.

Today

The SPI Overnight is up 58 points or 1.1%. Did someone mention Santa?

The Bank of Japan will hold a policy meeting today.The BoJ seems to be accomplished in changing monetary policy just when no one was expecting it to and then not changing policy when everyone expects it will. Markets had thought there was a chance the BoJ would extend QE to counter the ECB and Chinese stimulus at both of the past two meetings, with no result. Thus no one is now expecting any change today, but in the wake of Japan’s “recession” GDP result, who knows?

On the local market the AGM bandwagon rolls – today’s highlight being BHP Billiton ((BHP)) — while James Hardie ((JHX)) released its interim result (profit warning) and Stockland ((SGP)) hosts an investor day.

Rudi will make his weekly appearance on Sky Business's Lunch Money, noon-1pm, and then again between 7-8pm on Switzer TV.
 

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