Equity Markets to Congress: “What, me worry?”

Wardwell’s Weekly Market Report

Observations on the Capital Markets – Week Ended October 11, 2013

  • Washington watch: no deal yet, but the parties appear to have begun to look for a deal (as opposed to a crisis they can blame on the other party)
  • A couple of debt ceiling tidbits
  • Last week in the capital markets: money markets tremble, equity markets say “what, me worry?”
  • Obama nominated Janet Yellen to be next Fed chair
  • FOMC minutes showed that the decision not to taper was “a relatively close call” despite the 9-1 final vote; the key reason to delay was “risk management”.
  • Initial unemployment claims jumped 66k to 374k . . . mostly noise
  • Other U.S. data wasn’t really upbeat
  • Next week: waiting for Washington

Washington Watch: No Deal Yet, but the Parties Appear to Have Begun to Look for a Deal (As Opposed to a Crisis They Can Blame on the Other Party)

President Obama said he was willing to have discussions, though he said he wouldn’t engage in negotiations. (Comment: I guess it depends of what the meaning of “is” is.) So far, those discussions haven’t produced a deal, but at least they’ve started talking.

Paul Ryan (invisible while the Tea Party was focusing on Obamacare) reappeared: the fiscal conservatives (more focused on long-term debt sustainability, and thus entitlement reform than Obamacare) now appear to be in the driver’s seat in the House. A short-term hike (deferring the debt ceiling deadline) was floated. So were ideas of a “grand bargain.”

Bottom line: markets still appear to be discounting a scenario in which discussions continue and positions evolve as the debt ceiling deadline (which is not Oct 17, but later in the month) approaches and in which a deal which avoids default is made . . the deal terms are not yet knowable, but it’ll probably be a short-term (kick the can down the road) fix linked to a pledge to engage in constructive negotiations (as opposed to name-calling and making unrealistic demands).

A Couple of Debt Ceiling Tidbits:

  • As noted before, the drop-dead deadline isn’t October 17: the government will probably have enough cash to operate for another week or two.
  • On Nov 1, more than $50b of Social Security, Medicare, and Military pay is payable…there’s no way the government can come up with that much money without raising the debt ceiling.
  • Only $6 billion of interest is due on November 1 (and none before then, I think) …suggesting that there’s negligible risk of debt default before November 1 even if the debt ceiling isn’t raised before then.

Last Week in the Capital Markets: Money Markets Tremble, Equity Markets say, “What, Me Worry?”

Bonds: The 10-year Treasury yield rose 4 basis points (bps) to 2.70%; the 10-year Treasury Inflation Protected yield was up 4bps to 0.50%. The broad bond market was essentially flat as were high yield bonds. Foreign sovereign markets were generally quiet as well …Portuguese yields came down again (another sigh of relief).
T-Bills: While bond markets were quiet, short-dated Treasury bills were not: the yield curve inverted out to about 3 months as money market funds dumped short-dated bills; the 1-month T-bill yield rose to 0.25% and one-week paper reached 0.50% (the 3-month bill ended the week at 0.8%).
Equities: No deal in DC didn’t stop equity markets from rallying. The hint of willingness to make a deal started a big Thursday/Friday rally that left the S&P 500 up 0.8% for the week and above where it was when the government shutdown started (the market being technically oversold also helped). Within the S&P 500, defensives (the Utilities, Telecoms, and Consumer Staples sectors) were strong early in the week (when the market was falling; they lagged in the rally, but ended the full week as the market leaders. Consumer Discretionary (pulled down by retailers) was the only sector to post a negative return for the week; Health Care (biotech was notably weak), and Materials also lagged. Regionally, the MSCI Japan Index, rebounding from a week-earlier drop, led last week, up almost 3%. MSCI Emerging Markets and MSCI Europe Indices rose roughly 1%.
Commodities: Oil was down about 2%, and gold was down about 3%.
Currencies: The dollar was up about 1% against the Yen, roughly even against the Euro, and down modestly against most key emerging market currencies. The Indonesian rupiah (notably weak recently) was strong (sigh of relief). The Chinese currency appreciated modestly, to a new all-time high against the dollar.

Obama Nominated Janet Yellen to be Next Fed Chair

  • Market reaction was muted . . .this was not entirely unexpected.
  • Observations and implications:
    • She’s eminently qualified: Summa Cum Laude in economics from Brown, PhD from Yale, former professor at UC Berkeley, Chair of President Clinton’s Council of Economic Advisers, San Francisco Fed president, and Fed vice-chairman.
    • She’s a Keynesian, not a monetarist. Her speeches suggest she thinks high unemployment is cyclical, not structural, and that the Fed can/should be working to lower it.
    • She’s considered to be a somewhat more forceful leader than Bernanke (who was perceived as a somewhat more consensus-oriented and non-confrontational).
    • She helped design quantitative easing (QE) and was a proponent of continuing it . . .(but see also the comment below about the Fed minutes).
    • With continuity of leadership, the Fed’s forward guidance is more credible and should be more effective than if an outsider were to take over.

FOMC Minutes Showed that the Decision Not To Taper Was “A Relatively Close Call” Despite The 9-1 Final Vote; The Key Reason To Delay Was “Risk Management”.

  • The minutes suggest Bernanke and Yellen persuaded others to continue QE.
  • The minutes do NOT back away from the idea that QE might (still) be tapered later this year and terminated next year. Note: the next Fed meeting is Oct 29-30.

Initial unemployment claims jumped 66k to 374k…mostly noise

  • About 33k was catch-up from California’s systems issues, and 15k was private sector workers impacted by the government shutdown; the other 18k was just the normal noise.

Other U.S. data wasn’t really upbeat

  • Consumer credit rose slightly more than anticipated, but it was driven by student loans: credit card debt declined.
  • The NFIB Small Business Index fell from 94.1 to 93.9 below expectations.
  • Purchase mortgage applications ticked down slightly.
  • Consumer confidence appears to be falling sharply.
  • Earning season is just underway, but so far, there have been fewer “beats” (beating consensus) than usual.

Next Week: Waiting For Washington

It’s crunch time for a debt ceiling/budget deal . . .maybe not a drop-dead deadline, but getting close.
Eurozone industrial production and CPI
Chinese Q3 GDP—expect a number at or above 7.5%

Data Sources: The Wall Street Journal, Financial Times, Bloomberg.

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