Temporary relief of pressure. Stocks rallied yesterday, breaking a losing streak, as China quelled fears and sellers were exhausted. China’s promise to keep the Yuan from falling further gave traders the cue to buy the dip.
MY TWO CENTS
- The pain is far from over. In the wake of a disastrous 4-day selloff, sellers capitulated resulting in a relief rally of sorts. The rally’s primary driver cited by traders is the PBOC's making a statement that they would not allow the Yuan to drop further… until they do. First - when trade wars escalate into currency wars things always get ugly. There is a reason why competitive currency devaluation is governed by G-20 agreements, and China’s breech of agreement on Monday was a direct response to Trump’s latest threat to impose new tariffs. Both moves, which are relatively extreme, hint that things may not be going so well behind closed doors between the negotiators. In a conventional war, militaries generally save their big bombs for the darkest, most desperate hours of battle. A tariff on consumer goods by Trump and a currency devaluation from Xi are both big bombs. Second - China already violated its treaty and there is nothing to stop them from devaluating further if the US ratchets up its campaign further. Until a real solid solution is achieved and released to the public, downside risk for stocks will remain.
- What’s up with these low yields? There is a lot of talk about the growing amount of negative yielding global debt. Think about it: you buy a bond and must PAY the bond issuer, all you get in return is a promise to have your face value principal returned. Doesn’t sound like a good deal, so how can this exist? Central banks around the world have been lowering benchmark rates in order to stimulate the decaying global economic expansion. WHILE YOU SLEPT the Royal Bank of New Zealand, the Royal Bank of India, and the Thai Central Bank all cut interest rates. Here in the US, the Fed just cut interest rates and the probability for a further cut next month is 100% according to Fed Funds Futures . Target rates are low bringing down yields of sovereign, or government issued, bonds. Public asset managers and corporate treasurers are responsible to manage huge sums of money but do not have the luxury of sitting in cash like a typical retail investor. They must put it somewhere and with equities on shaky ground just below all time highs, too much allocation into stocks would be imprudent. The bond market is the answer. It is the only place where a money manager can expect to get their face value principal back (assuming there are not defaults). High demand for bonds pushes prices up which causes yields to go down… even into negative territory. Institutions have no choice but to take the negative yields, but retail investors and pensioners do. Guess where they turn to when yields are low and even negative? Asset classes which are far too risky for their objectives. If the stock markets continue to rally, things may work out, but if they don’t, things can get ugly. In the US, yields are not negative, but they are quite low. The US 10-year treasury note yields 1.65% this morning, down quite a bit in the last few weeks. With this latest shake in the trade war, expectations for further rate cuts are mounting putting further pressure on the yield curve and with Fed Funds at 2%, the FOMC does not have a lot of headroom between here and 0%.
THE MARKETS
Stocks rallied yesterday as China assured markets that the Yuan would not be allowed to fall any further. This, despite the US Treasury’s officially labeling China as a currency manipulator, which is, in effect a counterpunch by the US. Yesterday’s rally was most likely caused by seller exhaust and investors looking to buy oversold equities. The S&P500 climbed by +1.30%, the Dow Jones Industrial Average traded up by +1.21%, the Russell 2000 advanced by +0.99%, and the NASDAQ 100 jumped by +1.42%. Bonds climbed slightly and 10-year yields were unchanged at 1.7%.
WHAT’S NXT
- The Federal Reserve will release Consumer Credit this afternoon which is expected to have fallen to $16.100 billion from $17.086 billion in May.
- DOE will release Crude Oil Inventories which is expected to reflect a drawdown of -1.53377 million barrels.
- Chicago Fed President Charles Evans will speak.
- The Treasury will auction $27 billion 10-year notes.
- This morning, CVS beat expectations while QEP resources missed by -253%. After the bell earnings include AIG, Zillow Group, Roku, Skyworks, Monster Beverage, Lyft, and TripAdvisor.