Daily Market Reports | Aug 09 2011
By Greg Peel
The Dow fell 634 points or 5.6% to 10,809, the S&P fell 6.7% to 1119 and the Nasdaq fell 6.9%.
At the end of the day the selling was just too overwhelming. As we saw in Australia yesterday, there are those in the market who consider stocks to be oversold and considered the S&P downgrade of the US to be of less significance in an already de-rated market than doomsayers might suggest. The ASX 200 rallied back from an initial plunge of around 100 points to be only down about 25 points but when Asia opened to the downside and didn't bounce, the sellers swamped the buyers.
Wall Street's also attempted a rally, taking the Dow from 600 points down before 3pm to around 330 down half an hour later. The buying surge at that point looked it might gain momentum but it is in the last hour when margin call selling hits the market, as well as redemptions, if any windows are open. The suggestion is that hedge funds were leading the exodus, many having been established post 2008 and looking good up until recently. Volume on all US stock markets was enormous by recent standards.
Selling in Europe was no less ugly, and across the globe the worst performing sector was financials. Despite the Fed declaring that no US bank would be required to increase capital as a result of the downgrade, all banks in the US and Europe were down double digit percentages. Bank of America has its own problems as well and was down 20%. Government-sponsored agencies such as Fannie Mae and Freddie Mac were, “by default”, also downgraded by S&P.
The obvious question is: Is that it? Last night saw the biggest plunge since 2008, volume was heavy and the VIX volatility index leapt 50% to 48 – well into panic territory and also the highest level since 2008. But then the same question we're asking on a day when the Dow is down 634 we were asking last Friday on the 512 drop and on the Wednesday with a 266 point drop. This is not a market to play in. Buying opportunities should not be exploited until volatility eases unless you are a very bold day-trader. There is no doubt a sharp rally of a day or more around the corner but that is very unlikely to represent the turn. Turns only come when no one is expecting them, and if you miss the first few percentage points on the true recovery rally – if and when it comes – then you're not missing much.
Retail investors are heavily weighted in cash, both in Australia and globally. There is thus less of a chance of a wholesale retail dump, although clearly long term investors are still holding proportions of equities and hurting. If at this point you are doing no more than crossing your fingers and willing a bounce, then ask yourself if that is sensible. The risk is still very much to the downside and sharp rallies, as noted, likely temporary at this stage. If you can afford to be more circumspect then your portfolio is better positioned on a longer term basis.
History shows that the impact of a credit downgrade does not last long. The problem is this is not a credit downgrade in isolation. Indeed, on the strength of the selling one would argue the downgrade really doesn't have that much to do with it. Fears of a recession had already manifested. Debt issues in Europe were beginning to look insurmountable. Note, however, that at 1119 the S&P 500 still needs to fall another 8.7% to hit the July 2010 low of 1022 – the last time recession fears were heightened. That was saved by QE2. The Fed meets tonight.
Wall Street does not expect QE3 to be announced tonight but the Fed will need to say something calming. QE2 was announced in August last year after Wall Street had bounced off the July low and failed again before hitting its final 2010 low in late August at 1047. The Fed has already suggested that while QE3 is standing by it will not take the same form as QE2, being that of buying US bonds. It may simply be a definitive time frame for zero interest rates and a reduction in the Fed's bank deposit rate. Fiscally, there is nothing the US Administration can do. It's just been forced to go the other way and tighten.
So the US government is impotent and the Fed less potent in its options than in 2008. It must be acknowledged, however, that a Fed decision to lower its deposit rate would be made because US banks are holding too much cash and not releasing it into the economy via lending. This is the diametric opposite of the situation in 2007-08. Australian banks are very well capitalised now and still carrying provisions against disaster. Across the whole economy, from US mega-banks to humble investors, cash levels are historically high.
As stocks were sold off in the “risk out” trade last night, their risk partners in the form of commodities were also dumped. Brent oil was down US$6.05 or 5.5% to US$103.83/bbl. West Texas fell by the same amount but 7% to US$80.78/bbl. Aluminium fell 1.5%, copper 4%, nickel and zinc 6% and lead and tin 7%.
Another difference between the various “rout” days of 2008 and now is in the gold market response last night. In 2008 gold was mostly sold heavily in such sessions as desperately overleveraged investors were forced to raise cash wherever they could. Last night gold rallied US$55.90 or 3.4% to US$1719.30/oz from its level on Friday night. It is sovereign debt risk in the spotlight now, not investment bank risk. Gold was last night one of two safe havens.
Silver rallied 2% to US$39.05/oz, somewhat splitting the difference between commodity and precious metal currency. But the other safe haven was the ironic one. When Greek debt gets downgraded, the world sells it. US debt was downgraded and last night the world bought it with their ears pinned back, sending the benchmark 10-year yield down 22 basis points to 2.33%. That's a 9% rally in an asset now deemed to be worth less than it was on Friday.
The now AA+ rated US dollar also rallied last night in index form, but only by 0.4% to 74.83. The dollar was fighting moves into the Swiss franc and yen but the euro and pound were hammered. And the AAA rated Aussie has also been pounded against the AA+ rated dollar since Friday night, falling two and a half cents to US$1.0187.
Rather makes a mockery of the downgrade, and for that matter any credit agency ratings. At the end of the day a downgrade of the reserve currency is almost by definition absurd given the reserve currency is the global benchmark. Until someone else has more guns and more printing presses than the US, it will remain AAA “by default” and everyone else can be rated around it. The world sold the debt of AAA nations to buy AA+ US debt last night.
And AAA Australia, which avoided recession, is not trading above its stock market lows of 2010. We've already smashed those and are smarting from the amount of foreign investment now being double-whammy hit on both price and currency and subsequently dumped. After yesterday's 3% fall in the physical market the SPI Overnight is down another 156 points or 3.9%, which brings it roughly into line with the fall in S&P 500 last night but to a much lower equivalent level.
China's monthly data dump is today.
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