Daily Market Reports | Oct 28 2011
By Greg Peel
The Dow rose 339 points or 2.9% while the S&P gained 3.4% to 1284 and the Nasdaq added 3.3%.
Break out the bouzoukis and pass the retsina! All the worlds problems have been solved!
Or have they?
The on again, off again, Monday, Wednesday, next week, scheduling of when we were going to be informed of Europe's debt resolution plan was at least to some extent settled late on Wednesday night in Brussels, or about lunch time in an Australian market which was rather inconveniently shut down. On what may have proven otherwise to be one of the biggest volume days we've seen for a while, the ASX blew it. It took only a couple of hours for our market to run 2.5% but a lot of that move simply reflected step-jump prices.
There was solid volume in New York nevertheless, and the S&P 500's 3.4% jump paled in comparison with a 5.4% rally in France and a 6.3% surge in Germany. Wall Street also step-jumped on the open, and there met a brief attempt at selling. Good luck if it was profit-taking, bad luck if it was shorting on a perception of an overreaction. The Dow pushed ahead to be up 400 points with about half an hour to go before finally the sellers made some ground.
Across the globe, stocks were led higher by financials. US banks jumped mostly by just under double digit percentages, British and German banks all put on around 15%, and French banks soared 20% or more. Of course French banks have lost at least 50% in value this year, and to recover a 50% fall a stock must rally 100%.
So what's the deal?
Holders of Greek sovereign debt have agreed to take a voluntary haircut of 50%. The banks said 40%, European official said 60%, and they finally met in the middle. The fact that the debt value reduction is voluntary means it is not technically a default, and hence credit default swap positions cannot be called in. As to exactly how the restructure will be implemented is yet to be decided.
The EFSF will be leveraged to E1trn. Just how that is to occur is still up in the air. Will it involve credit enhancement of sovereign bonds or will it involve a special purpose vehicle that others, such as China, can invest in? The Germans want the EFSF to act like an insurance company and the French wanted it to be a bank, with access to the ECB. The French plan was hosed down but the final plan is, again, yet to be decided.
Greece will get E100bn next year as the next round of its bail-out fund, provided it moves towards a debt target of 120% of GDP by 2020. European banks will get E106bn to assist them to reach a tier one capital ratio of 9% after they've taken a loss on Greek debt. Despite the injections, the target may require banks to cut dividends.
It is this last figure which is most contentious. Many believe E106bn is simply not enough, and that 9% capital is insufficient in the face of positions held in Spanish and Italian debt. We might note that Australian banks have had tier one levels of around that amount for the past couple of years and they're not holding anyone's rubbish paper. We might also note that while last night virtually every market moved substantially, yields on Italian bonds did not. There is a school of sceptics out there suggesting that, yet again, this Final Solution won't be, and we'll all be back again next year fighting against potential European default.
But so much for “sell the fact”, or patience for that matter. The beast was unleashed last night and while the surge might suggest over-enthusiasm from the outset (particularly considering how far we'd run before yesterday, and the fact nothing announced yesterday constituted a surpise) it has long been noted in this Report and elsewhere that the big fund managers are all very underweight equities and overweight cash. Whether or not those managers believe we are at the beginning of the next bull market, or at least a big recovery rally, if they don't join in then their returns are not going to look good enough. There's a deal of self-fulfillment here.
So how about those overnight moves? The most influential was the euro, which rocketed 2.1% to US$1.42 to mark the biggest move since March 2009 when the Fed suddenly announced QE1. The US dollar index fell 1.6% to 74.96.
The Aussie screamed up a full three cents to US$1.0713 while gold strolled US$23.80 higher to US$1744.00/oz. The US ten-year bond yield jumped 19 basis points to 2.39%.
Copper was up 6% and all base metals were up 2-6%. Silver jumped 5%. Brent crude added US$2.78 to US$112.08/bbl and West Texas gained US$3.67 to US$93.87/bbl.
The VIX volatility index plummeted 14% to 25.
On top of yesterday's 2.5% jump in an ASX half-day session, the SPI Overnight gained 59 points or 1.4%.
We still need to wait for the eurozone finance ministers meeting on November 6 for a lot of this missing detail to be, we're told, settled on. There may yet be delays. We also, from a longer term perspective, can look forward to EU attempts to bring the bloc closer to a fiscal as well as a monetary union. Such moves imply the erosion of identity of individual European nations. Such moves will not be easily achieved.
Will the dust settle on this immediate reaction and more scepticism emerge, such that a big pullback is around the corner? Possibly. But for the time being going short is going to be a very risky business. This momentum can keep building. A popular expression in 2008 was “don't try to catch the falling knife,” as stick prices tumbled and tumbled and tumbled. We might now imagine that scenario upside down. Unless, of course, suddenly negotiations break down again in Europe.
Oh by the way, the first estimate of US September quarter GDP came in at 2.5%, on the money of expectation. It's a beautiful world we live in.
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