Daily Market Reports | Sep 14 2012
By Rudi Filapek-Vandyck
The Dow Jones industrial average jumped 207 points, or 1.6%, to 13,539.86, while the Nasdaq rose 1.3% and the S&P 500 gained 1.6% after the US Federal Reserve wrote yet another chapter of its unprecedented monetary experiment, commonly referred to as Quantitative Easing, or simply QE3.
At its core, Bernanke and Co maintain their strong conviction that monetary policy can change the dynamics of an otherwise sluggish economic recovery and they are targeting the US housing market specifically to create new jobs and drive down the unemployment rate. Will it work? The jury remains out, but financial markets love these kinds of experimental policies, as it ads to global liquidity. One only needs to look at what happened pre and post the QE1 and QE2 announcements. US equities are back within reach of their all-time highs. Commodities are anticipated to receive a boost. The underperformers in equities, miners and energy companies, are expected to catch up with the defensive outperformers. UBS strategists said so this morning (not that anyone doubted their wisdom in the first place).
The key sentence in today's FOMC statement is the following:
“If the outlook for the labor market does not improve substantially, the FOMC will continue its purchases of agency MBS, undertake additional asset purchases, and employ its other policy tools as appropriate until such improvement is achieved in a context of price stability.”
Now, this reminds me of a joke I stumbled upon recently and it goes as follows: If we all stopped looking for work, the unemployment rate would drop to zero. Helicopter Ben gets it, but he doesn't think this is funny. As a scholar of the 1930s Depression Era he once upon a time drew the conclusion that excessive monetary liquidity measures would have been the panacea for all ailments and troubles during that era and he certainly wasn't going to waste this unique real time opportunity to put his theoretical conclusions into real action. Apart from the explicit reference to an unquantified unemployment target, the second key factor in today's policy announcement comes with the term "open-ended".
It means the world's mightiest central banker is prepared to go as far as it takes to force Americans on food stamps (record high numbers) into a job (historically low numbers). This, we all have to realise, could potentially make QE3 the largest program of the three announced thus far. The gold bugs were right all along. Free, unbacked money is coming our way in spades, soon.
To recap, this is what today's announcement revealed in terms of monetary stimulus:
– Ultra-low interest rates (0-0.25%) will be kept ultra-low until at least mid-2015 (from late-2014 prior)
– Operation Twist whereby the Fed buys longer dated US Treasuries and sells the shorter end of the market will continue until (at least) the end of this year
– The Fed will (starting tomorrow) purchase US$40bn in mortgage-backed securities each month – note the label "open-ended" that was attached to this part of the announcement
At first glance, the numbers mentioned all seem a bit less than market speculation beforehand, but what pushed the balance into positive was the mention of two words: "open-ended". Layman's translation: whatever it takes, for how long it takes.
Let's take a step back and take one more look at what QE3 is all about. Newswire Reuters published a timely explanation this morning and here's the part to digest in order to understand how all this financial hocus-pocus is intended to work:
"To buy bonds, the Fed essentially creates money from nothing, paying for its purchases by crediting the accounts of banks from which it buys the bonds. That's a clue as to how it works — as money piles up in their Fed accounts, earning the paltry quarter-of-a-percentage point in interest that the Fed pays, banks may be keener to lend to companies and people. If companies use that money to buy equipment, and households use it to buy homes and cars, the economy gets a jump.
"Fed bond-buying also helps the economy by pushing down borrowing costs. Massive buying of any asset tends to push up the prices, and because of the way the bond market works, rising prices force yields down. Because the Fed is buying mortgage-backed bonds, the purchases act to directly lower the cost of borrowing to buy a home. In addition, some investors, put off by the rising price of the bonds that the Fed is buying, turn to other assets, like corporate bonds – which, in turn, pushes up corporate bond prices and lowers those yields, making it cheaper for companies to borrow – and spend.
WHY IS THE FED DOING IT?
"By lowering borrowing costs and spurring banks to lend more, the Fed hopes to induce more spending and eventually set the stage for more hiring. This time around, the Fed tied its bond-purchase program explicitly to jobs, saying it will keep buying bonds until it sees a substantial improvement in the labor market."
And That, mesdames et messieurs, is what is going on in the world as from tomorrow.
Two hours after the QE3 announcement, the Fed made it clear as to why Desperate Measures had become necessary. The growth outlook for the US economy for 2012 had been lowered to 2% from a previous forecast of 2.4% in June plus the unemployment rate is expected to remain above 8% this year. But -and here comes the good news- US growth is now anticipated to accelerate to as much as 3% in 2013, up from a previous projection for 2.8%. And for 2014, the Fed anticipates growth between 3% and 3.8%.
Gotta love these projections, especially with mining and energy stocks at or below levels seen in 2009.
For the stats lovers among you: the S&P500 has now risen to its highest level since December 2007. The Nasdaq is back up to its November 2000 level. All thirty stocks in the DJIA rose today. Stats-connoisseurs at Bespoke reported today's session also saw the highest percentage of new highs in the S&P 500 (18.2%) since early May 2011.On a net basis, reports Bespoke, 66.6% of S&P 500 stocks are now trading at overbought levels; the highest percentage since November 2011. And finally, the S&P 500 now needs to gain a further 7.6% to hit a new all-time high.
All is well in the Land of Helicopter Ben. Note: last night, the CME halted trading in gold futures twice to prevent excessive price volatility.
In news that didn't matter last night, the US Labour Department announced the number of Americans filing applications for unemployment benefits rose 15,000 in the week ended September 8 to 382,000, well above market expectations of 370,000 claims. (Aha! That's why!, etcetera).
Also, the Labor Department revised the previous week’s figure to 367,000, from an initially reported 365,000. Apparently, Tropical Storm Isaac resulted in about 9,000 applications for benefits last week. The four-week moving average, a less volatile measure than the weekly figures, climbed to 375,000 last week, the highest in almost two months, from 371,750.
The producer price index climbed 1.7% (expectations of +1.2%) after an increase of 0.3% in July. Core wholesale inflation, which excludes volatile food and energy prices, rose 0.2%, in line with forecasts. The gain in producer prices was the biggest since June 2009 and reflected the biggest jump in energy costs in three years.
The LME was already closed at the time of the announcements, but gold is back above US$1770/oz, a level last seen in February this year. Spot iron ore per tonne fell US$2.00 to US$96.10, but it remains to be seen whether this matters today. Benchmark crude oil prices rallied for the sixth straight session. Brent crude rose by US94c to US$116.90 a barrel. US Nymex crude rose by US$1.30 to US$98.31 a barrel.
The one company investors might keep an eye on is Fortescue ((FMG)) as the admission the company is negotiating with its lenders brings home the ultimate truth that, in times of adversity, debt becomes the ultimate evil. At least until a solution can be concocted between lenders and debtors.
US 2yr yields stayed flat at 0.254%, but US 10yr yields rose by 6pts to 1.76%. The US dollar fell against major currencies. The Euro rallied from lows of US$1.2900 to near US$1.3000 and closed US trade near US$1.2985. The Aussie dollar rose from lows around US104.30 to US105.60c and ended US trade near US105.35c. And the Japanese yen rose from 77.71 yen per US dollar to JPY77.33 and ended US trade near JPY77.50.
Expect a buoyant session for the Australian share market today.
Finally, is all this going to achieve the desired outcome?
That, my friends, is the $64m question nobody will be asking in the short term.
Here's how Yogi Berra would put it: In theory there is no difference between theory and practice. In practice there is.
Greg Peel will be back next week.
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