Looking For?

Markets are poised but markets are not sure what they are looking for. Stock and bond prices fell in unison, not by much but by enough to unsettle their respective markets. The S&P 500 saw all 11 sectors weaker on the day. Bonds retraced a little bit.

The day’s trading activities have a whiff of profit taking.

So, what was the news? Simply put Draghi was not dovish enough and investment managers now that the adrenalin has worn off are questioning earnings and how much more upside is left in what is a very hot equity market. Ford sold off 7.45% after it reported lower than expected earnings. Facebook was down 1.9% and the big loser on the day was Align Technology. Align fell 27% after its quarterly forecast came in below estimates. Demand for orthodontic devices may be declining. Volume on the day was good with 6.6 bio shares exchanged versus a 20-day moving average of 6.3 bio shares.

Global economic indicators are weak, and investors are starting to question the fundamentals. Besides, we still don’t know the issue of trade stands nor the trade issue between the Trump administration and the global economy. If anything, Trump’s trade policy seems to reflect the trade policies of the old warlord states of Greco Persian empires.

Draghi set the markets alight by not changing rates. The euro initially fell but then regained lost ground, but the key words were “when describing the Euro economy was that it was getting worse and worse”. Draghi’s view is that a significant amount of stimulus is now required. Of note was the option of resuming the ECB’s 2.6tr euro bond buying programme. However, there are concerns that the ECB has done as much as it can do and is now rapidly losing firepower and the ability to have an impact on the European economy.

The U.S. treasury market was a little weaker post Draghi’s comments. The U.S. traders interpreted Draghi’s comments as a little bearish because Draghi said the risk of recession was low. Treasuries were sold and the 10-year backed up to 2.11%.  The trend of weak demand at the treasury auctions continues. The 7-year auction was soft with just a 2.27 bid-to-cover ratio. Watch for Friday’s GDP number and watch the business investment number which is likely to be down.

The Rant.

Greenlight Capital has waded into the bond fray and their founder David Einhorn is suggesting that high yield debt is near its top. Einhorn has been shorting both junk and investment grade debt on the basis that debt protections have deteriorated and so too the fundamentals.

In a stinging attack on the ratings agencies which he views as being complacent he suggests that ratios such as debt/EBITDA, and debt equity ratios have deteriorated significantly and that ratings agencies have not maintained standards.

Einhorn is complaining that many companies have loaded up on debt with minimal rating reductions. This is borne out by a Bloomberg study that showed that in the merger boom more than half the companies making acquisitions pushed their debt levels into junk rated levels with no impact on ratings.

Of concern is that with easy money and the ability to borrow cheaply many companies in the BBB sector have been heavy borrowers and to such an extent that BBB issuers now account for over half the U.S. high-grade universe. Triple B issuance now exceeds $2.8tr.

Market Recap.

Equities: The S&P 500 fell 0.53%. The Dow fell 0.47%. The Vix closed at 12.74. The Stoxx Europe 600 Index fell 0.6%.

Currencies: The pound fell 0.3%. The Bloomberg Dollar Spot Index rose 0.2%. The Swiss franc fell 0.6%.

Bonds: (as at 4.30pm). The ten-year is trading at 2.083%. The 2-year is trading at 1.868% and the 30-year is at 2.609%. The U.S. curve closed on the day with the following closes 2/10 at 21.3 bp, 2/30 at 74 bp and the 10/30 closed at 52.5 bp. The U.S. 5-year closed at 1.862%. The 2/5 spread is now -1 bp. The ten-year bund closed at -0.407% and the British gilt closed at 0.708%. The 10-year yen gilt is trading -0.152%.

Commodities: WTI was flat on the day. Gold fell 0.8%.

Bitcoin is trading around $9,866.

Aussie Market Today.

Stocks to rally on the day. The lure of low interest rates for an extended period should outweigh other concerns. We may see a little profit taking ahead of next week’s FOMC meeting, however the any sell off is now probably an opportunity.

Bonds are set to continue to rally after the RBA Governor Philip Lowe suggested that low interest rates would be around for an extended period. This announcement is a shift in the policy in guiding market expectations and Lowe’s comments were seen as very dovish.
At least one more rate cut is now expected.

Credit will remain strong as the equity market rally in Australia continues. Demand for credit is likely to increase as the extra yield provided by credit is looking very attractive. With a 10-year bond at 1.24%, the addition of an extra 30 bp or so starts to look very appealing and especially so if we are to remain in a low interest rate environment as suggested by the RBA Governor.

Geopolitical risks remain high and still need to be monitored.