Daily Market Reports | Sep 27 2011
By Greg Peel
The Dow rose 272 points or 2.5% while the S&P gained 2.3% to 1162 and the Nasdaq struggled with a 1.4% gain following some negative speculation about slowing Apple iPad sales.
A couple of weeks ago, US Treasury secretary Timothy Geithner was invited to join a meeting of eurozone finance ministers to share his 2008 experience and provide some advice on what to do about Europe. Geithner said “lever up” the bail-out fund and create a European version of the 2008 US Troubled Asset Relief Program (TARP). He may have been invited, but his mere presence was resented by what can only be considered a bunch of card-carrying morons. But then they are politicians.
Following another couple of weeks of dangerous market volatility, in which Greece was expected almost any day to default, the latest news in the wake of last weekend's G20 meeting of finance ministers is that Europe will now do exactly what Geithner suggested. At least, what the CNBC network was able to exclusively report on last night can be deemed a Plan A among other possibilities.
It seems complicated, but the idea is for the proposed EFSF (which itself is yet to be passed through the last of the eurozone parliaments) to provide funds to the European Investment Bank – the bank jointly owned by eurozone members – to create a Special Purpose Vehicle. An SPV is an “off balance sheet” entity which protects the capital of the bank in question, and it will then lever up those funds and buy distressed eurozone sovereign debt. The issued bonds can also be placed with the ECB as collateral so that the ECB can provide emergency loans to European banks holding that distressed debt.
Got it? Just think of it in simple terms. Sovereigns, and banks holding sovereign debt, can swap that debt with the EFSF. This is the same idea as was proposed for the original US TARP when the plan was to buy up all the toxic mortgage assets on US bank balance sheets and put them in a “bad bank”, leaving the US banks to all become “good banks” once more.
Never mind that the US soon abandoned that idea and went straight to bank capital injections instead. The reason there was that mortgage CDOs were too hard to price given they did not trade on an exchange. Eurozone sovereign debt trades on exchanges so pricing here is clear, meaning the TARP can work in principal.
What is potentially a big positive for this plan is that it does not involve increasing the size of the EFSF. The EFSF at E440bn is still to be ratified by all parliaments and any talk of increasing it would only bring another break-down of the proceedings and further dangerous delays, one would assume. What the plan does involve is complexity and leverage, which might also be called smoke and mirrors. The real plan here is to suggest to the markets that Europe has unlimited funding, so short more sovereign debt at your peril. Collectively we're a lot bigger than you are.
Problem solved? Well there is just that small matter, as always, of the seventeen eurozone parliaments having yet another bill to pass. When the US Treasury put its final TARP bill proposal to Congress in 2008, it was three pages long. Paulson, Geithner and Bernanke were hoping for rapid passage. But by the time Congress was finished with it, it was 300 pages long and full of concessions. The interim couple of weeks were extremely volatile in the markets.
So don't assume the rocky ride is over yet.
Markets had an inkling before the weekend that something positive might be nigh, which is why Wall Street was tentatively up on Friday night. Why, then, was Australia sold off yesterday having started more confidently as well? The simple answer is those dirty foreigners. They took the opportunity to follow through on the big commodity dump which had occurred, thanks to commodity funds, over the previous couple of days. And where best to sell commodity stocks than in Australia? And let's not forget gold.
I noted in my Monday Report yesterday that having fallen sharply, gold likely had another US$100 to fall before it came back to the longer term trend line. I was, however, not necessarily expecting this to happen all at once in yesterday's Asian session. Gold settled above US$1650/oz in New York on Friday night but by late yesterday afternoon in Sydney had fallen to below US$1550/oz. London then came in and started buying, and New York grabbed the baton. The result is that gold is now at US$1629.40/oz, down US$27.80 from Friday's close. The trend line was found and the buyers reemerged.
Commodity prices were ultimately relatively steady by the close last night. Metals in London were mostly flat, and in copper's case unmoved, although tin decided to rebound 6%. Brent crude was virtually unchanged at US$103.94/bbl while West Texas gained US39c to US$80.24/bbl.
The Eurotarp news provided a boost for the euro, sending the US dollar index down 0.5% to 77.95, which in turn allowed the Aussie to reclaim 0.6% to US$0.9849.
The safe haven trade du jour – US Treasuries – saw more selling as the ten-year yield rose another 10 basis points to 1.90% while the VIX volatility index just managed to dip under the 40 “panic” level to 39.
Was selling in Australia out of place yesterday? Well the SPI Overnight is up 105 points or 2.7%.
Volatility is therefore very much still with us, and there will be more volatility to come. Markets, as I have often noted, never turn when they're volatile, only when they've given up. The volatility of the last few days has also been exacerbated by low volumes – not many investors want to play in this violent market – and to top things off this week brings the end of the September quarter. If the mood remains positive all week, then there may be some solid buying from funds looking to reestablish equity holdings ahead of the cut-off.
Or maybe one or more eurozone member politicians will come out and denounce the Eurotarp plan, vowing to vote against it, and everything can fall apart once more. Or perhaps Plans B,C and D will be put forward instead and argued over while the markets quietly slip into the void. Nothing is certain at this stage.
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