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Stocks are going higher and yields are going lower - The Daily Rundown

Publication Date: 01 Oct 2018 - By Michael J. Kramer By Michael J. Kramer
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Macro FX Equity Fixed Income/Credit USA

Wacky Wednesday

As my four-year-old daughter keeps saying midweek is Wacky Wednesday, yes it sure is. I had the unfortunate pleasure of having to take her to the doctor, for pink-eye no less, last Wednesday (26 September)!  What time could the doctor get us in? 2 pm EST! Perfect timing!  Anyway, so I missed most of the action after the US FOMC statement. By the time I got out of the appointment at 2:30, I had noticed a few things going on that didn’t make a whole ton of sense.

First, I saw yields on the 10-year falling, along with the US dollar. Hmm. Without knowing what the verbiage was in the release, it felt like the Fed must have signaled something about rates not rising as fast or as much as the market had expected. Stocks and the banks sold-off around 2:45 ish.

2:45 Was When Everything Changed

The Wall Street Journal had a wonderful blog running for Powell’s press conference, so I took the time to check it. At about 2:45 Fed Chairman Jerome Powell commented not about the future interest rates, but about the future of inflation. Noting that “Inflation seems to be fairly nonreactive to changes in slack,” he said. “It’s a world of strongly anchored inflation expectations. That’s not just our forecast.”  So looking at the chart we can see that things got wacky at that moment.

It was at 2:45 when banks stocks fell.

It was at 2:45PM when rates fell.

It was at 2:45 when the dollar got wacky.

It isn’t all that different from what we have spoken about here regarding indications that inflation will remain low for some time and that is not likely to run away as market participants have often feared. The Fed itself projects the PCE to stay around 2% through 2020. 

It also likely means rates on the long-end of the curve are likely to stay low and it is bad news for the banks. Anyway, enough with the banks. I’m sick of the banks. They are the disappointment sector of the year. Oh, have you noticed that earnings estimates for the banks for this coming quarter are falling.

Bullish for Equities

Make no mistake if inflation stays low, other than that it is bad news for the banks, it is good for the rest of the stock market. It is bullish for the broader equity market. I don’t know how else to say it. I do not expect the sell-off we saw on 26 September to last. It is good news for growth stocks because low longer-term rates are support of multiple expansions and higher PE valuations.

By the way, the Fed has basically no influence on the long-end of the curve. So, just because the Fed is raising the short-term rates it doesn’t mean all rates are rising. The long-end of the curve is driven by inflation expectations and economic growth.

Follow Bonds and Currency Markets

I’ll tell you what if you get confused at all by what you hear on TV or what the stock market is doing, turn to the bond and currency markets. They are better at getting this stuff right than the equity market. A dollar that is dropping and interest rates that are falling happen because due to two scenarios: that the central banks around the globe will raise rates at a faster pace than the US or that inflation expectations will remain low, and interest rates here the US are likely to not rise as quickly in the future.

Unless the US is going into a recession, and the rates are falling because of a recession, lower long-term rates are better for stocks.

Disclosure:

I have positions in the securities referenced in the contribution

I do not use any non-public, material information in this contribution

To the best of my knowledge, the views expressed in this contribution comply with UK law

I agree with the terms and conditions of ReachX

This contribution is for informational purpose and does not constitute investment advice nor is it an offer to sell or buy, nor is it a recommendation for any security.

Michael J. Kramer

 

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London, United Kingdom

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