Wednesday, September 01, 2010
A WARNING SIGN FROM "STICKY" INFLATION?
When we last checked in with the monthly consumer price index, headline inflation was running at an annualized 1.2% pace as of this past July, off sharply from 2.7% in January, the Labor Department reported. Clearly, the trend so far this year is down. The question is whether we’re headed for even lower rates of inflation? Or deflation?
The future's always open to debate, of course, but it’s clear that disinflationary momentum has had a head of steam lately. One reason for thinking the trend might roll on comes from separating so-called sticky components of CPI from the flexible parts. A study by the St. Louis Fed finds that the flexible component prices are quite volatile while the sticky ones are relatively calm. What’s the relevance? As one of the study’s authors explained last week, "sticky-priced components tend to be more forward-looking and better indicators of future inflation." He goes on to report:
Recently, the growth rate in the sticky CPI has been quite soft relative to its longer-term (five-year) trend growth rate of 2.3 percent. Also, compared to the core CPI, the sticky CPI has been on a sharper disinflationary path over the last two years�"falling from a 12-month growth rate of 3.1 percent in mid-2008 to just 0.8 percent as of July (a series low with data back until 1968). Moreover, in July the sticky CPI rose 0.9 percent, consistent with its near-term trend, while the flexible CPI jumped up 11.4 percent after three consecutive monthly declines. After stripping away food and energy prices from the flexible price series, it still rose 5.2 percent in July and is up roughly 6.0 percent over the past three months, compared to its three-month annualized growth rate of �'0.1 percent through the first three months of this year. Based on this evidence, it seems that the price increases from the more volatile flexible price series have been putting upward pressure on some underlying inflation measures, while the sticky-price series has continued on its subdued (but positive) inflation trend.
A chart from the St. Louis Fed tells the story:
Is this a smoking gun that guarantees inflation will continue falling in the months ahead? No, but it's one more reason to think twice before dismissing the disinflation/deflation risk. Sticky prices of late suggest that we go lower yet.
Meantime, the August update on consumer inflation arrives later this month, on September 17.
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Are You Watching this Monthly Price Level on Google GOOG?
It’s often helpful to pull the timeframe back to see what the weekly and sometimes monthly chart are showing about popular or volatile stocks.
That’s especially the case right now in Google (GOOG). Have you seen its monthly chart lately?
Let’s take a quick look:
A quick glance shows us a double chart confluence at the $440 price level �" that’s your reference level going forward.
The 50 week EMA rests at $443.35 �" but that’s not as important perhaps as the 61.8% Fibonacci retracement as drawn at the $439.34 level.
The $440 level is also a price polarity point (fancy word for “it’s been both support and resistance”) from the closing low of March 2008 and March 2007 �" as well as a level of resistance in 2006.
Interestingly enough, volume has been steadily trailing lower and lower over time, and that doesn’t appear to be a factor of stock price if you look closely.
As is the case with Apple (AAPL) and many other high-flying stocks, volume tends to be very heavy when the share price is low (people purchase more shares for positions) and then decrease as the share price becomes more expensive.
Google has swung up to $750, down to $450, back to $625, and now down to $450 and during the whole time, volume has steadily trailed off.
The volume spikes in the scenario came in during the sell-phases in late 2007 and late 2008.
Going forward, watch for bulls to support price at the $440 level, and if bears can push price to close strongly under $440, then we have a lot of room to the downside.
For reference, overhead monthly resistance appears to be a loose zone at $500 �" that’s the 20 month EMA at $482 and the 50% Fibonacci line at $498.
Corey Rosenbloom, CMT
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More Upside for BMY
Increasingly the pattern carved out by Bristol-Myers Squibb (NYSE: BMY) during the past three weeks has the right look of a bullish digestion period from the Aug 10 high at 26.78 to the Aug 27 low at 25.66. Since the corrective low, BMY has climbed to today's high at 26.55 that represents the start of a new upleg within the larger advance off of the May low at 22.24.
insert.a.chart.BMY
If my analysis proves accurate, then BMY will hurdle and sustain above its Aug highs (26.78/79), which will create the power to climb above the March high at 27.07 -- on the way to 28.20/60.
At this juncture, only a sudden reversal and breach of key near-term support between 25.90 and 25.66 will compromise the current bullish chart pattern and technical set-up.
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Remaining On An Even Keel
Growing up I had a soccer coach that was highly influential in my development as a person and as a player. While I was a good athlete, I was never the fastest or the most skilled player, but Coach Jacobs made me captain of the team because he felt that other qualities as a person and leader superseded any measure of skill. Before we even touched a soccer ball at our first practice, he preached mental toughness and awareness.
As a native New Yorker who idolized NC State coaching legend Jim Valvano, Coach Jacobs produced a lot of quotable sound bites, but there was one thing he used to say that has always resonated in my head, and one I feel is very applicable to trading: “Things are never as good as they seem or as bad as they seem.”
It is human nature to perceive the extremes in any situation. As a species we are manic, especially when it comes to money. In life, on the soccer field and in the stock market, it is important to fight that tendency to be overemotional, and instead to remain on an even keel. To achieve optimum results in any setting, you have to be diligent, acutely aware of your surroundings, and posses a basic skill set to take advantage of opportunities.
THE YEAR SO FAR
At the beginning of 2010, my market mentor Scott Redler announced his predictions for the year ahead. After the unprecedented events of the last two years, the market needed to rest and digest. 2010 would be the year of the active trader, he proclaimed, a year defined by range-bound action. In 2008, traders made money trading the extreme moves of a market in turmoil. In 2009, there was the buying opportunity of a lifetime as the market bottomed and made a fierce snap back with the aid of heavy government intervention. In 2010, the only way to make money and avoid risk would be to take a highly stock selective, active trading approach to the market.
As someone relatively new to the markets, I especially take Scott’s advice and analysis to heart. It helps that it made perfect sense. In 2010, you will not be able to buy every breakout or sell every breakdown. You will not be able to take a primitive technical approach; you must do your homework, develop a plan and adjust to the environment around you. Whenever I am on the trading floor or in the T3Live chat room, I hear successful market veterans lamenting the difficult nature of this market. And I certainly understand where they are coming from. Timing trades in a range-bound, news-driven, fundamentally complex market is damn near impossible 95% of the time. I think perhaps, though, my lack of experience as an active trader puts me in a position to more quickly adjust to this “new normal” that Scott always talks about. The “new normal” feels just plain normal to me because it is all I know, and I think that will serve me well now and going into the future.
“Things are never as good as they seem or as bad as they seem.” This market right now is confused, and different market players (or powers-that-be as I like to call them) are pulling stocks in altogether different directions. Polarization is in vogue in this country today, whether it be in terms of politics, sports, marriages or opinions about the economy and market.
The chorus of double dippers just doesn’t ever seem to quiet down. There is too much consumer and federal debt. Loose monetary policy and stimulus have compounded our problems. The financial sector remains overleveraged and undercapitalized. Tax revenues are down. Unemployment is through the roof with no end in sight. Trade imbalances are killing the dollar. The aging of the baby boomers will increase Medicare and Social Security costs. The thing is, they are exactly right. There are deep-lying issues in our economy that, in the long-run, will ultimately lead to a diminished quality of life in this country.
On the other side are the rascals that are driving this melt-up. They, too, have a set of facts to point to, and it just feels like the powers-that-be ultimately want to take this market higher. The economy is recovering, albeit at a less than desirable pace. Today, for instance, the monthly Institute of Supply Managers survey (ISM) revealed a greater than expected increase in activity, with managers additionally noting a significant amount of restocking. The most recent corporate earnings season generally exceeded expectations, albeit partly due to cost cutting. Stocks are still trading relatively cheap at these levels. Maybe most importantly of all, the government and Federal Reserve have made it abundantly clear that they will make sure this thing gets better before it gets worse, no matter how far down the road they have to kick the can. In due course, austerity measures will likely be implemented to avoid futures bubbles and calamities, but in the mean time we seem intent to spend our way out of this mess. While in the longest of runs, everything goes to zero, in my lifetime the markets are certainly going to blast off from this point sooner or later.
TRADER TAKEAWAYS
The crosswinds will continue to blow. In the last 12 months the market has built, and breached, nine separate ‘mini-trends’ within the range between the 1010 and 1220 in the S&P. Each break has led to a significant ‘correction’, frustrating traders who are chasing moves and looking for follow through. More recently over the last four months, we have built a tighter range between the 1130 are to the 1040 level on the S&P. Everyone wants to blame the indecision in the market on light volume; everyone is apparently out at the Hamptons this summer. While volume has been uncharacteristically light even for the summer months, I think the indecision runs much deeper. After a tumultuous 3 year stretch in the economy and the market, a period of rest is healthy. The bears gorged themselves in 2008 and the bulls devoured cheap stocks in 2009. After a big meal, you don’t immediately go out and run 5 miles, you sit on the couch and digest.
The mentality of a trader or investor must be fundamentally different when you encounter a manic market like this one. It doesn’t make sense to make the same number of trades every day or to chase scenarios that just do not meet certain strict criterion. Just like an outfielder in baseball, if you are unsure where the ball is going your first step should always be back. By taking a step back, you are taking heavy risk (the extra base hit) off the table and giving yourself an opportunity to see things more clearly before making your next move. Traders need to spend more time should be spent watching, learning and waiting. But waiting for what?
If you are trading the indices right now, I believe it is a time to be somewhat of a contrarian. “Things are never as good as they seem or as bad as they seem.” Whenever the bears reach a fever pitch (and CNBC even seems willing to admit the outlook is bleak) I start to think, hey, maybe things aren’t as bad as they seem, at least from a purely market perspective. The buyers that have been there during this entire melt-up are still there, the odd report comes out every once in a while that shows real economic growth is occurring. Copper, a strong leading indicator, is bullish right now. Let me look for the right spot to test a reversal in small size. Within each mini-trend or range only trade the extreme moves, the ones that present an overwhelmingly positive risk-reward parameter. I like to take a slightly longer-term approach to trading, and rather than getting in and out of cash I take those opportunities to get in and out of hedges.
The real opportunity in this market exists in a stock specific approach. My approach as a stock picker is simple: I like to identify technically strong stocks with compelling fundamental stories and find opportunities to snap them up as cheaply as possible. Not quite a ground-breaking approach to trading and investing, I know, but simple is good in a complex environment. At the beginning of this year for example, Scott highlighted several “go-to” stocks, concentrated in tech, that looked poised to outperform. At the top of that list was VMW. While trading at a very high multiple, VMW fit my criteria as a technically herculean stock that is the industry leader in cloud computing solutions�"a paradigm shifting technology. I have stalked it all year, looking for opportunities to add when others come in to take profits and when the market looks ready to cooperate with a bounce. My executions are by no means clean and perfect, but as Coach Jacobs taught me, success has more to do with knowledge and awareness than it has to do with skill. I have enjoyed similar success with stalking attractive pullbacks in names like NFLX, RHT, and BIDU, and not so much with SNDK, although I tiered down heavily prior the break of the 40 level. In the coming months, I will be looking for entry signals in names like INTC and MSFT.
The real lesson this year, and especially this summer, has been to take a look around you (both literally and figuratively). Be aware of your surroundings and remain on an even keel. Traders with no appetite for this action have lightened up their size and taken vacations to avoid losing money in an environment that does not suit them. Others have taken note of this manic market environment, scaled down longer-term risk and made consistent money on short term reversal set-ups. I have concentrated on narrowing my focus, only considering investments in the most compelling companies with the most compelling charts. Results so far have been mixed, but with good average entry prices I feel confident that I can hold longs through some ups and downs until the market has finally digested the action of the last few years.
“Things are never as good as they seem or as bad as they seem.” I always repeat this mantra to myself whenever those around me get overly fearful or exuberant. I feel that one of my greatest strengths is that I am circumspect; I remain on an even keel. A soccer coach and a Red Dog have taught me well as an athlete, a trader, and a person.
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GMI back to zero
Technical difficulties prevented me from posting. In the face of a down-trend there are some stocks I have been following that are showing continued strength. Check out the stocks in my list to the right. Let’s see how long today’s bounce will last.
- gmi: 0
- gmi-r: 0
- t2108: 39
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Forex Trading Volume Officially Hits $4 Trillion
This morning the Bank of International Settlements released its Triennial FX survey which is basically the market’s benchmark for forex volume and turnover. To no one’s surprise, volume has surged over the past 3 years. Between April 2007 and April 2010, global foreign exchange market increased by 20 percent from $3.3 trillion to $4.0 trillion, which is now the golden number for forex volume.
Reading between the lines, we can tell that a large part of the increase in volume is due to the trading activities of RETAIL traders! (Yes, we are making a BIG difference) According to the BIS report, 48% of the growth was in spot transactions which represents 37% of the total turnover (or total FX flow). Although swaps became more popular to trade, all other related foreign exchange instruments saw only a 7 percent increase in volume. The report also says that “the higher global foreign exchange market turnover is associated with the increased trading activity of “other financial institutions” (think retail forex brokers). Turnover in this category rose 42% and for the first time ever, reporting dealers (banks) did more transactions with “other financial institutions” than with other banks.
Having just come back from Singapore where shelves and shelves were filled with forex trading books, I am in no way surprised that the BIS has confirmed the popularity of forex trading.
The foreign exchange market also became more global with cross-border transactions representing 65% of trading activity in April 2010, while local transactions account for 35%.
U.S. Dollar Becoming Less Important
Back in 2001, the U.S. dollar was involved in 90% of all currency transactions and as of April 2010, this fell to 84.9%. The decline in trading of dollars has benefited the euro, which gained 2 percentage points in market share since the last survey and accounts for 39% of all transactions. “The Japanese yen also increased its market share by 2 percentage points to 19%, a recovery relative to the 2007 survey but still below its peak of 23.5% reached in 2001. The pound sterling gave up most of its post-euro gains, with its share returning to the immediate post-euro level of around 13%. Trading in the Swiss franc also declined marginally to 6.4% from 6.8% in April 2007. The Australian and Canadian dollars both increased their share by around 1 percentage point, to 7.6% and 5.3%, respectively.”
“The percentage share of the US dollar has continued its slow decline witnessed since the April 2001 survey, while the euro and the Japanese yen gained relative to April 2007. Among the 10 most actively traded currencies, the Australian and Canadian dollars both increased market share, while the pound sterling and the Swiss franc lost ground. The market share of emerging market currencies increased, with the biggest gains for the Turkish lira and the Korean won.”
Of the major currency pairs, trading of EUR/USD and USD/JPY have increased while trading of the GBP/USD has decreased.
The U.K. is still the largest trading center for forex but the relative ranking of foreign exchange trading centres has changed slightly from the previous survey. The United Kingdom continued to be the most active location with a share of 46% of worldwide trading, followed by the United States with a share of 24%, slightly down from 2007. Outside these two centres, trading took place primarily in France (7%) and Japan (3%), both slightly down from 2007, Singapore (3%) and Switzerland (3%), both slightly up. Turnover in Germany almost halved to less than 2% in April 2010 compared with 2007. Banks located in the United Kingdom accounted for 36.7%, against 34.6% in 2007, of all foreignV exchange market turnover, followed by the United States (18%), Japan (6%), Singapore (5%), Switzerland (5%), Hong Kong SAR (5%) and Australia (4%).
Lower Forex Margin Should Temper Volume Increases in the Future
However the pace of growth will most likely be moderated by the reduction in leverage announced in the U.S. and Japan. Last month, Japan reduced leverage to 50:1 and plans to bring this down even further to 25:1 next year. U.S. regulators announced earlier this week that leverage will be capped at to 50:1 for major currencies and 20:1 for all other currencies. This will go into effect on October 18. Lower leverage will make forex trading less attractive to some participants but 50:1 is still very generous leverage by all counts and so it will not be catastrophic for the retail forex industry. We should still see retail trading contribute positively to forex volume, but probably not by the double digit levels seen in past years.
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No Place for Bears as ISM Comes in Bullish; Covered Toll Brothers (TOL) Among Other Things
ISM Manufacturing came in well, ahead of expectations by a good amount and even over July's figures - so the market is adding another leg upward. That darn S&P 500 gap at 1067 that would not fill last week or earlier this week (frustrating me) filled today of course. Within the pantheon of 1010,1040,1057,1070 we have passed the upper end of those technical levels on today's news. So now we have to look at the 200 day simple moving average as the last of the resistance lines. (currently in the 1081ish area)
What has been remarkable is 1040 held so rock solid, and both Friday and today it led to 25+ rallies within 1-2 sessions. What I did wrong this past week is assume that level would break, and instead those who bought the 1040 level were rewarded. Bummer. Just a very strange thing to see it tested every other day for 5 sessions and yet hold. That said, I remain amazed how people's entire perception of an economy can change on 1 or 2 data points. Days where data creates bipolar reactions are always difficult in my view - today is a great example.
So it's time to make some adjustments for the near term since I am being scalded on some trades. (on a % basis, in real dollars its not life or death)
First, I have covered the short on Toll Brothers (TOL) - this was a limit order so not to lose more than 3% and that has hit on it's own this morning. The stock has cleared its 50 day moving average for the first time in many months. No big deal there.
Second, I had cut back some of the TNA/BGU short I put on yesterday first thing this morning - took losses but the positions I had put on yesterday were modest since I'm sticking to small ball until the market acts more normal.
I bought a SPY put for October for "insurance" yesterday, assuming 1040 would break "soon" - thinking 3 retests of a level would lead to a breakdown. Now my thesis is not looking so great so I sold this for a substantial loss (only a 1% exposure). I did call an audible on this as I was going to hold this for the next 7 weeks but changed my mind. I don't have any high falutin (sp?) great reasoning to offer why I changed my mind - there is a reason I don't hold option positions long term and I am reminded why this morning.
To help offset that SPY put I bought some SPY calls (107s) for September, which I might be out of in hours just to offset the loss and try to make a quick gain. ( edit: this is/was a 3% exposure - again could be gone by end of day; just a quick trade off the ISM print to try to make some hay)
Thus far the only real positive on the day for me is I was not short Burger King!
Now we face a mountain of resistance ahead, and in a snap have gone from the bottom of a range to the top. With the potential for the same reaction (or completely opposite) Friday morning - hard to do anything more here. So for now, readjust and catch breath. It's been a long while since I had my finger burned so have to have it happen every so often to remember.
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Channel Surfing
This morning I sent you a chart that looked like Swiss cheese, and that's what a lot of traders feel like right now. This is the new normal. Today we broke above 1060-1065 and now officially broke this most recent descending channel to the upside. This is 4th time this year we’ve broken this type of pattern and it has led to a nice upside move. Where it leads to you never know, but you might as well put together a plan before hand and be on the right side of the trade the day it happens.
There is nice participation from our go-to stocks today as they held up well during the last correction.
CMG Chipotle Mexican Grill (ROCK STAR) broke above my 152-154 buy price and is now at historic highs, showing Investors that if you are longer term stock picker, you can make money. You have your longer term plays and then you have stocks you cash flow trade. This one was an example of one that is more than just a “cash flow trade”.
CRM, which I added to the list Monday, is a very close to breaking above the bull flag of 112-114. It looks good.
AAPL held lower range of 238-240 and is back in the channel but needs time.
AMZN is doing well, and gave us a nice long entry around 126-126.50.
BIDU is back in the game and strong.
VMW our stock of the year keeps moving well.
FFIV pattern is great and back above 90. This should be at new highs soon.
NFLX is up 6 today and needs to be on every trader’s watch list. 133 next resistance, then old highs.
PCLN is hard to trust, but still goes with market. The stock held earnings gap and the next big level is 310.
FCX has held up well, is up a lot and looks good
Banks that have been weak are getting a bounce today. Nothing so compelling on a longer timeframe, just a trade.
GS can see 142-143 before it contends with resistance.
Casinos look okay but are not compelling; they need time.
The agricultural group still looks good.
POT one day they will get real cash bid higher, it’s holding above 145 well.
AGU and CF, the other two strongest ags, continue to work well.
Nice bounce in OIH, see how it handles 102-103.
Beaten up big cap tech are bouncing a little
INTC
CSCO
MSFT
As a market participant you need to figure out your time frame. Are you trading these channels for nice percentage moves? There has been now 9 of them now!
Are you a longer term stock picker accumulating great stocks, monitoring them closely for composure? Some stocks have been great holds this year, or this decade, even though the S&P is down 10% for the decade. This is why you actively manage portfolios, and watch key levels, measuring strength along the ride.
As far as the year-over-year. We did have a 60-70% move off the 2008 lows. We are down about 3% for the year. This was very expected as we knew it would take time to absorb the excess of the huge structural breakdown we’ve seen in our economy. A lot needs to be fixed and it will take a ton of time. Take what the market gives you and keep your likes and dislikes out of your trading plan unless it’s a great chart with great fundamentals.
While it is possible to find strong stocks, don't be stubborn. When things change, you must have a strategy to change with them.
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Trust this Rally
The level holds again, September starting strong
The much-watched 1,040 level on the S&P 500 held on its 5th test since the April highs. My toe dip last Friday turned into an aggressive long yesterday as we saw strength off the open. Of course, reversal trades are never easy and the late-day sell-off tricked me into selling about 1/3 of my position before the close as I started to fear a gap down through 1,040. Alas, the gap up came and the willingness to be a buyer at the 1,040 level is being paid today compounded by a very bullish data point at 10 AM: August ISM data handily topped estimates and came in ahead of July readings. ISM's Ore was quoted as saying they're seeing a "major restocking" occurring.
I realize I didn't get a post out yesterday telling everyone I was buying so writing today talking about how I bought is somewhat useless. Yet, it's my post so I get to write what I want and you could have seen my portfolio on T3Live.com (and the shameless plug...I'm on a roll today :)
My rationale for being a buyer was based on many factors which I explained in a long post over the weekend. Long bonds finally had a downtick signaling that, at the very least, momentum in that market had stalled opening up the possibility of a shift to equities. Doctor Copper, my leading indicator, is in breakout mode after showing hardly a whiff of weakness through August as equity markets dropped 4.7% for the month. And, although I generally despise sentiment readings, suffice it to say that sentiment was really poor. All these data points aligned with a level where I believed risk/reward was drastically in my favor.
We'll see how this all plays out but I think yesterday was the buy of 2010 and I'm holding for much higher prices. We'll see how long it takes to eat those words :)
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Short Form Buffalo Trader Bullish Reversal Report 09/01/2010
For the time being, this will be the new format, showing only the basic U.S. stock index momentum, the bullish reversals in ETFs and bullish reversals in stocks. I will periodically comment on major issues at critical times, but during the time I am attempting to build the algorithm required to download signals from almost 1300 stocks that I have built models for using NeuroShell Day Trader Professional, this is what I will leave you with. Most who have commented (and I have received, thankfully lots of comments with great appreciation to readers) want to see the reversals and not necessarily trade signals I generate. That makes life simpler for me, though at some point I will discuss methodology for building your own models. For now, I will present the data with little commentary. I will always respond to readers’ comments. This blog will steadily evolve as the time I have and the technology I use evolves. Thanks for your patience during this transition.
For 09/01/2010:
$INDU $SPX $COMPQ $RUT
Monthly Momentum Neg Neg Neg Neg
Weekly Momentum Neg Neg Neg Neg
Daily Momentum Pos Pos Neg Neg
N means neutral, Neg means negative, Pos means positive (OS) means oversold and (OB) means overbought. The value to price estimate (it is not a guarantee, only a cash flow based estimate) can be defined loosely as a multiplier of price. A number higher than one means the stock is undervalued using this model and a number less than one means the stock is overvalued.
Index and ETF I-shares Bullish Reversals (Note: to look up quotes for the Dow Indexes (starting with DJ or DW, add a dollar sign. No dollar sign is required for the ETFs beginning with other letters.) Today’s list includes only those ETFs with a 50-day moving average of daily volume greater than 100,000 shares:
| Company | Symbol | Exch. | Industry | Sector |
| iPath India | INP | xN | ETFs (Foreign\Country) | ETFs |
The stocks listed below are ranked by pattern bullish reversals based on a momentum indicator. Each stock by sector is listed with the cheapest stocks on a near-free-cash-flow value/price basis at the top, and more expensive stocks on that basis farther down each sector list (they are listed alphabetically):
| Company | Symbol | Exch. | Industry | Sector |
| Natural Rsce | NRP | xN | Energy (Coal) | Energy |
| CBOE Hlgds | CBOE | xO | Financial (Brokers) | Financial |
| Molson Coors | TAP | xN | Food (Bev-Alcoholic) | Food |
| Smucker (JM) | SJM | xN | Food (Prepared) | Food |
| PepsiCo Inc | PEP | xN | Food (Prepared) | Food |
| Cooper Cos | COO | xN | Healthcare (Med\Den Suply) | Healthcare |
| China Life ADR | LFC | xN | Insurance (Life) | Insurance |
| Lululemon Athtc | LULU | xO | Retail (Apparel) | Retail |
Stocks that almost passed the neural net screens but just missed: COO (passed the nets, but NOT the value screens).
Note: It’s still all about Friday’s employment numbers and the weekend reaction and analysis. Those IBD 100 stocks might be pointing north, but the rest of the market is a wet noodle with a lot of nervous institutions watching data. Though consumer confidence seems to be improving, the Chicago Purching Managers’ Index slumped. Though some consumer staple and healthcare names made the bullish reversal list, the patterns are weak. I know I get to use my pre-Labor Day excuse to avoid the markets again, but longer term momentum is not the bull’s friend and volume is no one’s friend long or short. COO passed the net screens, but the value screens reject it. For that reason, it will not be traded.
Again, take the time to review potential set ups and only trade what your trade plan specifically allows. Do not blow up equity for entertainment. The entertainment will only last as long as the trading capital will.
Take care,
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ASA Staffing Index, NRA Restaurant Index Flat
Compared to the same week last year, the latest ASA Staffing Index has improved by 25% for Week 34 (see bottom chart above). This marks the 18th week in a row with percentage gains above 20% compared to the same month in 2009, the 27th straight week of double-digit percent increases vs. 2009, and the 33rd consecutive week for the ASA Index being above the same level in the previous year (every week this year). The improvements this year follow 80 consecutive weeks of percentage declines in the weekly index vs. the previous year that started in May 2008 and continued through the end of 2009.
In another report released yesterday, the National Restaurant Association's Restaurant Performance Index was flat in July compared to June, but above the index levels in July of 2008 and 2009.
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ADP Reports 10,000 in Private Sector Job Losses
ADP private sector employment is always reported the Wednesday before the Friday where U.S. government employment data is released. Since it varies from what the government reports relatively substantially it is usually given less attention but this morning ADP released a -10,000 private sector contraction in employment. This was my fear for Friday - that we'd see the first contraction in the private sector in many months.
Now with that said, the government can add 100-125K "birth death jobs" [Jan 27, 2008: Monthly Jobs Report & Birth Death Model] and inflate away the losses* as it has been doing a great job of during the entire Great Recession so with the 'help' of that piece of fiction private sector jobs might still show positive when the government reports their data Friday..... but either way, we seem to have passed back over to at best marginal job growth far below that needed simply to keep up with population growth. Worst case? See the cartoon at bottom of post for the new American nirvana.
*please note you cannot just add or subtract birth death model jobs to the reported number to get the 'true' number.
Bigger picture with all the massaging of data over the years, what we trade on each month for employment is actually quite ridiculous considering it's been turned "sunny side up" versus how it used to be measured pre early 1990s - by both political parties. If you are new to the site a few posts for you to review as you grapple with "9.5%" as the official unemployment rate. [Apr 3, 2009: Real March Unemployment Rate Reaches 12.5%] [Oct 2, 2009: True September Unemployment in America Reaches Towards 14%; Our System is Broken]
Whatever the case, futures could care less about ADP because Chinese PMI was +0.5 higher than last month and a factory gauge thousands of miles away is all that matters. Or we can take the view that more job losses are great because it means higher profits. (I'll have a piece related to that in the next 24-48 hours!) To that end, hopefully we can get rid of all workers not in the C suite by 2014. Party on Garth.
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Persistent Concerns Over Structural Vulnerabilities
EUR/USD
The Euro found support below 1.2650 against the dollar during Tuesday and rallied to highs just below 1.2750 during the US session. The Euro was unable to sustain the advance and re-tested support levels near 1.2650 during Wednesday.
The Euro-zone data was broadly in line with expectations and did not have a major impact. There will be persistent concerns over structural vulnerabilities and Chinese Premier Wen called for confidence in the Euro to be enhanced which suggests that China will tend to be cautious over buying Euro assets in the near term.
The US economic data was mixed and did not have a decisive impact, but there was still an underlying mood of unease over prospective developments. Consumer confidence rose to 53.5 for August from a revised 51.0 the previous month with the index still at depressed levels historically as labour-market fears persisted.
The Chicago PMI index fell to 56.7 from 62.3 the previous month which maintained expectations that the economy is losing momentum. The Fed minutes from August’s meeting recorded that some members were uneasy over the changes to the asset-purchases scheme and there is certainly the risk of greater divisions within the Fed over the next few months which will maintain the threat of volatility. Despite important reservations, the Euro again found support above 1.2650 on Wednesday as risk appetite attempted to stabilise.
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Yen
The dollar remained under pressure during Tuesday and tested support below 84 against the yen. There were further concerns over a slowdown in the global economy which maintained defensive demand for the Japanese currency.
The US data and a late rally on Wall Street eased immediate fears to some extent and the dollar resisted further selling pressure. There were also reports of central bank buying support below the 84 level which curbed yen demand.
The latest Chinese PMI data, together with stronger than expected Australian data had a positive impact on risk conditions which lessened upward pressure on the yen during Wednesday. In this environment, the US currency rallied to the 84.50 area.
Sterling
Sterling came under further pressure against the dollar during Tuesday with a five-week low below 1.5350 during US trading and there were further tests of support towards 1.5320 in Asian trading on Wednesday. Technical considerations played a role with Sterling dipping underneath the 200-day moving average which triggered some increase in selling pressure.
The consumer lending and mortgage approvals data was slightly weaker than expected and there are considerable fears that the economy will stall during the next few months.
There will also be persistent fears over an underlying credit crunch which could have a serious negative impact on the economy during the next few months.
The UK currency did find some respite after a stabilisation in risk appetite and it rallied back to the 1.54 region in Asian trading on Wednesday while the Euro rally stalled close to 0.8280. The latest PMI data will be watched closely on Wednesday.
Swiss franc
The Swiss franc maintained a very firm tone on Tuesday and advanced to fresh record highs near 1.2850 against the Euro. The dollar also retreated to lows below 1.0150 before finding some support while the Euro was able to regain the 1.29 level.
There was further defensive demand for the Swiss currency as underlying confidence in the global economy remained weak. There were also some fears over a renewed deterioration in credit conditions which underpinned the franc.
Domestically, there was a solid reading for the UBS consumption index which boosted confidence in the economy and lessened immediate fears over a return of deflationary pressures which would also lessen the case for currency intervention.
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Australian dollar
The Australian dollar tested support levels below 0.89 against the US dollar during Wednesday as risk appetite remained generally weak. There was some recovery late in US trading as equity markets attempted to rally. The Australian currency also gained support from firmer than expected readings for the China PMI indices.
Domestically, there was a disappointing reading for the PMI manufacturing index as it fell to 51.7 from 54.4 the previous month, but the GDP data was stronger than expected with a 1.2% second-quarter advance which pushed the Australian dollar to near the 0.90 level. Despite an immediate boost to confidence, underlying doubts over the economy are liable to increase.
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Grain Market Analysis
December corn futures closed down 1/4 cent at $4.41 1/4 yesterday. Prices closed nearer the session high yesterday. Good export demand and disappointing early U.S. corn yields from the harvested crop are bullish for the futures market. The corn market bulls have the solid overall near-term technical advantage. Prices are in a two-month-old uptrend on the daily bar chart. Corn bulls' next upside price objective is to push and close prices above solid technical resistance at $4.50. The next downside price objective for the bears is pushing and closing prices below solid technical support at last week's low of $4.15 1/4. First resistance for December corn is seen at this week's high of $4.45 1/4 and then at $4.50. First support is seen at $4.38 and then at yesterday's low of $4.32.
Wyckoff's Market Rating: 7.5
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November soybeans closed down 14 1/4 cents at $10.08 1/4 a bushel yesterday. Prices closed near the session low yesterday and saw more profit-taking. The soybean bulls still have the overall near-term technical advantage, but trading has turned choppy. The next upside technical objective for the bulls is pushing and closing November prices above solid technical resistance at the August high of $10.49. The next downside price objective for the bears is pushing and closing prices below solid technical support at last week's low of $9.93 1/2. First resistance for November soybeans is seen at $10.20 and then at yesterday's high of $10.27. First support is seen at yesterday's low of $10.06 3/4 and then at $10.00.
Wyckoff's Market Rating: 6.5.
December soybean meal closed down $4.00 at $294.70 yesterday. Prices closed near the session low yesterday and saw more profit-taking pressure. Meal bulls still have the overall near-term technical advantage. A three-month-old uptrend is still in place on the daily bar chart. The next downside price objective for the bears is pushing and closing prices below solid technical support at last week's low of $288.40. The next upside price objective for the bulls is to produce a close above solid technical resistance at the August high of $304.50. First resistance comes in at $297.00 and then at $300.00. First support is seen at yesterday's low of $294.30 and then at $292.00.
Wyckoff's Market Rating: 7.0.
December bean oil closed down 35 points at 40.18 cents yesterday. Prices closed near mid-range yesterday. Bean oil bears have the near-term technical advantage. Bean oil bears' next downside technical price objective is pushing and closing prices below solid technical support at last week's low of 39.50 cents. The next upside price objective for the bean oil bulls is pushing and closing prices above solid technical resistance at 41.75 cents. First resistance is seen at yesterday's high of 40.53 and then at 40.86 cents. First support is seen at yesterday's low of 39.91 cents and then at 39.75 cents.
Wyckoff's Market Rating: 4.0
December Chicago SRW wheat closed down 19 3/4 cents at $6.85 3/4 yesterday. Prices closed near the session low yesterday. Prices are still in a choppy and sideways trading range. However, good follow-through selling pressure on Wednesday would produce a bearish downside "breakout" from the trading range. Bulls' next upside price objective is to push and close Chicago SRW prices above solid resistance at $7.32 a bushel. The next downside price objective for the wheat futures bears is pushing and closing prices below solid technical support at the August low of $6.77 1/2. First resistance is seen at $7.00 and then at yesterday's high of $7.14. First support lies at yesterday's low of $6.83 1/4 and then at $6.77 1/2.
Wyckoff's Market Rating: 6.0.
December K.C. HRW wheat closed down 21 1/4 cents at $7.02 1/2 yesterday. Prices closed near the session low yesterday. Prices are still in a choppy and sideways trading range, but the bulls do still have the overall near-term technical advantage. However, good follow-through selling pressure on Wednesday would produce a bearish downside "breakout" from the trading range. Bulls' next upside price objective is pushing and closing prices above solid technical resistance at this week's high of $7.44. The bears' next downside objective is pushing and closing prices below solid technical support at the August low of $6.88. First resistance is seen at $7.15 and then at yesterday's high of $7.29. First support is seen at $7.00 and then at $6.88.
Wyckoff's Market Rating: 6.0.
December oats closed down 1 1/2 cents at $2.76 3/4 yesterday. Prices closed near mid-range yesterday. Oats bulls still have the overall near-term technical advantage. Prices are in a three-week-old downtrend on the daily bar chart. Bears' next downside price objective is pushing and closing prices below solid technical support at last week's low of $2.70. Bulls' next upside price objective is pushing and closing prices above solid technical resistance at $2.90. First support lies at $2.75 and then at yesterday's low of $2.73. First resistance is seen at yesterday's high of $2.80 3/4 and then at $2.82.
Wyckoff's Market Rating: 6.0.
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Grain Market Analysis from Jim Wyckoff
GRAINS: December corn futures closed down 1/4 cent at
$4.41 1/4 today. Prices closed nearer the session high
today. Good export demand and disappointing early U.S.
corn yields from the harvested crop are bullish for the
futures market. The corn market bulls have the solid
overall near-term technical advantage. Prices are in a
two-month-old uptrend on the daily bar chart. Corn bulls'
next upside price objective is to push and close prices
above solid technical resistance at $4.50. The next
downside price objective for the bears is pushing and
closing prices below solid technical support at last
week's low of $4.15 1/4. First resistance for December
corn is seen at this week's high of $4.45 1/4 and then at
$4.50. First support is seen at $4.38 and then at today's
low of $4.32. Wyckoff's Market Rating: 7.5
November soybeans closed down 14 1/4 cents at $10.08 1/4
a bushel today. Prices closed near the session low today
and saw more profit-taking. The soybean bulls still have
the overall near-term technical advantage, but trading
has turned choppy. The next upside technical objective
for the bulls is pushing and closing November prices
above solid technical resistance at the August high of
$10.49. The next downside price objective for the bears
is pushing and closing prices below solid technical
support at last week's low of $9.93 1/2. First resistance
for November soybeans is seen at $10.20 and then at
today's high of $10.27. First support is seen at today's
low of $10.06 3/4 and then at $10.00. Wyckoff's Market
Rating: 6.5.
December soybean meal closed down $4.00 at $294.70 today.
Prices closed near the session low today and saw more
profit-taking pressure. Meal bulls still have the overall
near-term technical advantage. A three-month-old uptrend
is still in place on the daily bar chart. The next
downside price objective for the bears is pushing and
closing prices below solid technical support at last
week's low of $288.40. The next upside price objective
for the bulls is to produce a close above solid technical
resistance at the August high of $304.50. First
resistance comes in at $297.00 and then at $300.00. First
support is seen at today's low of $294.30 and then at
$292.00. Wyckoff's Market Rating: 7.0.
December bean oil closed down 35 points at 40.18 cents
today. Prices closed near mid-range today. Bean oil bears
have the near-term technical advantage. Bean oil bears'
next downside technical price objective is pushing and
closing prices below solid technical support at last
week's low of 39.50 cents. The next upside price
objective for the bean oil bulls is pushing and closing
prices above solid technical resistance at 41.75 cents.
First resistance is seen at today's high of 40.53 and
then at 40.86 cents. First support is seen at today's low
of 39.91 cents and then at 39.75 cents. Wyckoff's Market
Rating: 4.0
December Chicago SRW wheat closed down 19 3/4 cents at
$6.85 3/4 today. Prices closed near the session low
today. Prices are still in a choppy and sideways trading
range. However, good follow-through selling pressure on
Wednesday would produce a bearish downside "breakout"
from the trading range. Bulls' next upside price
objective is to push and close Chicago SRW prices above
solid resistance at $7.32 a bushel. The next downside
price objective for the wheat futures bears is pushing
and closing prices below solid technical support at the
August low of $6.77 1/2. First resistance is seen at
$7.00 and then at today's high of $7.14. First support
lies at today's low of $6.83 1/4 and then at $6.77 1/2.
Wyckoff's Market Rating: 6.0.
December K.C. HRW wheat closed down 21 1/4 cents at $7.02
1/2 today. Prices closed near the session low today.
Prices are still in a choppy and sideways trading range,
but the bulls do still have the overall near-term
technical advantage. However, good follow-through selling
pressure on Wednesday would produce a bearish downside
"breakout" from the trading range. Bulls' next upside
price objective is pushing and closing prices above solid
technical resistance at this week's high of $7.44. The
bears' next downside objective is pushing and closing
prices below solid technical support at the August low of
$6.88. First resistance is seen at $7.15 and then at
today's high of $7.29. First support is seen at $7.00 and
then at $6.88. Wyckoff's Market Rating: 6.0.
December oats closed down 1 1/2 cents at $2.76 3/4 today.
Prices closed near mid-range today. Oats bulls still have
the overall near-term technical advantage. Prices are in
a three-week-old downtrend on the daily bar chart. Bears'
next downside price objective is pushing and closing
prices below solid technical support at last week's low
of $2.70. Bulls' next upside price objective is pushing
and closing prices above solid technical resistance at
$2.90. First support lies at $2.75 and then at today's
low of $2.73. First resistance is seen at today's high of
$2.80 3/4 and then at $2.82. Wyckoff's Market Rating:
6.0.
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Jim Wyckoff's Morning Blog--Wednesday
Wednesday, September 1-Jim Wyckoff's Morning Web
Log
JIM'S MARKET THOUGHT OF THE DAY *
The first trading day of the month today finds
investor risk appetite increasing, as stock and
commodity markets are posting good gains, while the
U.S. Treasury bonds and notes are seeing weaker
prices. With so many expecting the next two months
to be turbulent for the stock and financial
markets, that does argue that the headwinds may not
be so bad. This Friday's U.S. jobs report, and the
markets' reaction to it, could well set the tone
for trading action during the next two months.--Jim
U.S. STOCK INDEXES
S&P 500 futures: The shorter-term moving averages
are still bearish early today.
The 4-day moving average is below the 9-day and 18-
day, but has turned up. The 9-day is below the 18-
day moving average. Short-term oscillators are neutral to bullish early
today. Today, shorter-term technical resistance
comes in at this week's high of 1,072.50 and then
at 1,080.00. Buy stops likely reside just above
those levels. Downside support for active traders
today is located at the overnight low of 1,050.90
and then at 1,040.00. Sell stops are likely located
just below those levels. Wyckoff's Intra-day Market
Rating: 6.0
Nasdaq index futures: The shorter-term moving
averages are still bearish early
today. The 4-day moving average is below the 9-day,
but is turning up. The 9-day average is below the
18-day. Short-term oscillators are bullish early today. Shorter-term
technical resistance is located at the overnight
high of 1,794.50 and then at 1,800.00. Buy stops
likely reside just above those levels. On the
downside, short-term support is seen at 1,780.00
and then at the overnight low of 1,770.50. Sell
stops are likely located just below those levels.
Wyckoff's Intra-Day Market Rating: 6.0
Dow futures: Sell stops likely reside just below
support at 10,000 and then more stops just below
support at Tuesday's low of 9,932. Buy stops likely
reside just above technical resistance at this
week's high of 10,130 and then at 10,145. Shorter-
term moving averages are still bearish early today,
as the 4-day moving average is below the 9-day. The
9-day moving average is below the 18-day moving
average. Shorter-term oscillators are neutral to bullish early today.
Wyckoff's Intra-Day Market Rating: 6.0
U.S. TREASURY BONDS AND NOTES
December U.S. T-Bonds: Shorter-term moving averages
are still bullish early today. The
4-day moving average is above the 9-day and 18-day.
The 9-day is above the 18-day moving average.
Oscillators are neutral
early today. Shorter-term resistance lies at 135
even and then at this week's high of 135 7/32. Buy
stops likely reside just above those levels.
Shorter-term technical support lies at 134 even and
then at 133 16/32. Sell stops likely reside just
below those levels. Wyckoff's Intra-Day Market
Rating: 4.0
DECEMBER U.S. T-Bonds
135 26/32--second pivot point resistance
135 19/32--lifetime high
135 19/32--Previous Month's high
135 14/32--first pivot point resistance
135 7/32--previous day's high
135 3/32--previous day's close
134 28/32--pivot point
134 16/32--first pivot point support
134 9/32--previous day's low
134 1/32--4-day moving average
133 30/32--second pivot point support
133 20/32--9-day moving average
131 27/32--18-day moving average
126 7/32--previous month's low
123 18/32--100-day moving average
112 --lifetime low
December U.S. T-Notes: Shorter-term oscillators
are neutral early today.
Buy stops likely reside just above shorter-term
technical resistance at the overnight high of
125.20.0 and then at the contract high of 126.02.0.
Shorter-term moving averages are bullish early
today. The 4-day moving average is above the 9-day.
The 9-day is above the 18-day moving average. Sell
stop orders are likely located just below support
at 125.00.0 and then at 124.16.0. Wyckoff's Intra
Day Market Rating: 4.0
DECEMBER U.S. T-Notes
126 3/32--second pivot point resistance
126 2/32--lifetime high
126 2/32--previous month's high
125 28/32--first pivot point resistance
125 26/32--previous day's high
125 20/32--previous day's close
125 18/32--pivot point
125 11/32--first pivot point support
125 9/32--previous day's low
125 5/32--4-day moving average
125 5/32--9-day moving average
125 1/32--second pivot point support
124 25/32--18-day moving average
122 16/32--previous month's low
119 28/32--100-day moving average
111 9/32--lifetime low
U.S. DOLLAR INDEX
The December U.S. dollar index is lower in early
trading. Slow stochastics for the dollar index are
bearish early today. The dollar index finds
shorter-term technical resistance at 83.25 and then
at the overnight high of 83.53. Shorter-term
support is seen at the overnight low of 82.83 and
then at 82.50. Wyckoff's Intra Day Market Rating:
4.0
CRUDE OIL
Crude oil prices are trading firmer early today, on
a corrective bounce from big losses Tuesday. Bears
still have the overall near-term technical
advantage. In October crude, look for buy stops to
reside just above resistance at $73.00 and then at
$73.50. Look for sell stops just below technical
support at $72.00 and then at the overnight low of
$71.67. Wyckoff's Intra-Day Market Rating: 4.5
GRAINS
Prices were higher in overnight trading. The corn
bulls have good upside near-term technical
momentum, while soybeans have turned choppy and
wheat continues to trade choppy and sideways.
Traders will continue to focus on U.S. export
demand and the U.S. soybean and corn crop early
harvest progress. Both of those fundamentals are
favoring the bulls at present, as demand has been
rock-solid and early harvest reports have come in
at the lower end of expectations.
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Market Commentary - Sept 1
DJIA Industrial Average
Aug 31
Open: 10,006.42
High: 10,073.38
Low: 10,007.67
Close: 9945.42
Change: 4.99 (0.05%)
RSI: 61
MACD (Delta): -5.91
Strategy: The
Commentary
Stocks made tiny advances in US Tuesday, as the investors remained skeptical of taking fresh buying positions, in view of mixed economic data indicators.
The Dow Jones industrial average gained 4 points, or less than 0.05%. The S&P 500 advanced less than 1 point and the Nasdaq composite shed 6 points, or 0.3%.
With this, the month of August came to a close with a high 4.3% loss posted by DJIA alone, which was the highest since May. S&P500 and Nasdaq also lost strongly in the month.
The uncertainty surrounding the economic outlook and historically low trading volumes led to increased volatility in market during August. The CBOE Market Volatility Index soared substantially in August to 26.05.
The stocks were supported to some extent by the Conference Board's index of consumer confidence, which moved up to 53.5 in August from an adjusted 51 in July. This was higher than economists’ expectations.
A better than expected Schiller Home Prices Index also gave some boost to the stocks on Tuesday.
However, the Chicago PMI, a regional reading on manufacturing activity, fell to 56.7 in August. That was down from 62.3 in July and slightly weaker than expected.
Meanwhile, in cues coming from emerging markets,
On Tuesday, gainers were led by AT&T, which rose 1.5%, while J.P. Morgan Chase advanced 1.4%. Merck advanced 1.2% in the otherwise flat session.
In a nearly listless session of trading, 16 Dow constituents advanced ahead modestly, and another 14 stocks fell marginally.
The advancing sectors in the session included Telecom 1.1%, Financials 0.9% and Utilities 0.4%.
The losers comprised of sectors like Tech -1%, Healthcare -0.6% and Industrials -0.4%.
InterOil Corp. gained 3.3% Tuesday after the company said it will issue nearly 2 lakh shares to settle a
Monsanto dropped 5.8% to 52.65. The agribusiness giant warned it expects fiscal-year earnings to come in at the low end of its prior view.
The dollar edged lower against the euro and the Japanese yen but was higher versus the British pound.
Oil futures for October delivery fell $3 to $71.70 a barrel.
Gold for December delivery gained $11.10 to $1,250.30 an ounce.
The Day Ahead
Wednesday
EIA Petroleum Status Weekly Report
Motor Vehicles sales for Aug
ADP Employment report
Construction spending for July
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Daily Market Commentary: Semiconductors Crack as Markets Pause
In the end it was a clean break; semiconductors gave up nearly 2% and the last hope for a bull trap went away. The nascent CCI 'buy' signal disappeared with the losses - it's looking ugly for the semiconductor index
($SOX)
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While trading volume rose there was little change in the end-of-day price for the rest of lead markets. The S&P finished with a small (indecisive) spinning top and remains on course to test channel support.
($SPX)
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The Dow touched its rising channel support
($INDU)
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The Nasdaq continued to toy with July support as it closed with a spinning top. But today's action in the semiconductor index suggest the breakdown is going to happen soon.
($SPX)
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Even if markets were to rally it's unlikely going to be enough to reverse the break in the semiconductors - and this is the worry for the markets.
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Policy tools that could lower interest rates further
Even though the overnight interest rate has been stuck near zero for 20 months, are there options available to the Federal Reserve or the U.S. Treasury to bring longer-term yields down further? I have been looking into this question with Cynthia Wu, an extremely talented UCSD graduate student. We present our findings in a new research paper, some of whose results I summarize here.
Our starting point was a framework developed by Vayanos and Vila (2009), who interpret the term structure of interest rates as arising from the behavior of risk-averse arbitrageurs. This model is one way to capture formally the portfolio balance channel that Fed Chairman Bernanke indicated is central to the Fed's understanding of how nonstandard monetary operations might affect the economy. Vayanos and Vila's framework has previously been applied to our question by Greenwood and Vayanos (2010) and Doh (2010). One of our contributions is to develop specific measures of how the available supplies of Treasury securities of different maturities might be expected to influence the pricing of level, slope, and curvature risk of the term structure. Although I began as a skeptic of the claim that bond supplies would make much difference, we found pretty strong evidence that historically they have. For example, we found that over the 1990-2007 period, we could predict the excess return from holding a 2-year bond over a 1-year bond with an R2 of 71% on the basis of the level, slope, and curvature of the yield curve along with our 3 Treasury supply factors.
One of the challenges plaguing this kind of research is the problem of endogeneity. There may be a correlation between bond supplies and interest rates, but is that because bond supplies affect interest rates, or because the Treasury or the Fed are responding to interest rates in deciding which maturities of Treasury securities to sell or buy? Our solution to this problem is to pose the empirical question in terms of a conditional forecast. Suppose you already knew today's level, slope, and curvature of the term structure of interest rates, and in addition to those values, I tell you today's 3 Treasury supply factors. How would the latter cause you to change your forecast of next month's interest rate for any given maturity? Our finding is that the Treasury factors make a statistically significant contribution across the yield curve.
We can summarize the implications of that forecast in terms of the following scenario. Suppose that the Federal Reserve were to sell off all its Treasury securities of less than one-year maturity, and use the proceeds to buy up all the longer term Treasury debt it could. For example, in December of 2006, this would have required selling off about $400 B in bills and notes or bonds with less than one year remaining, with which the Fed could have effectively retired all Treasury debt beyond 10 years. The figure below summarizes the implied average change in forecast for the 1990-2007 period as a result of this change for interest rates of various maturities. Yields on maturities longer than 2-1/2 years would fall, with those at the long end decreasing by up to 17 basis points. Yields on the shortest maturities would increase by almost as much. While our estimates imply that the Fed could make a modest change in the slope of the yield curve, it would not make any difference for the average level of interest rates.
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We then extended the framework to the case when, as at present, short-term interest rates are as low as they could go. Even though short term interest rates have been near zero since the end of 2008, longer term yields have continued to vary from week to week, as shown in the solid lines in the graph below. Our interpretation is that these fluctuations in longer-term yields come from investors' beliefs that short-term interest rates are not going to be stuck at zero forever. We suppose that investors attach a probability to escaping from the zero lower bound at various future dates, and that, when we do, short-term rates and the rest of the yield curve will revert to a dynamic behavior similar to that exhibited prior to 2007.
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We were then able to describe interest rate dynamics since the beginning of 2009 in terms of the historically estimated parameters along with three new coefficients, which correspond to the average short-term interest rate as long as we're stuck at the zero lower bound, the average new short-term interest rate once we escape from the zero lower bound, and a fixed probability of escaping in any given week. The red dashed lines in the figure above represent the predicted values from this model. This simple framework seems to do a pretty reasonable job of explaining interest rate movements over the past couple of years.
Moreover, the framework gives us the information we need to assess the effects of nonstandard open market operations under a zero-lower-bound regime. The figure below shows how our model implies that the forecasting relation described above would be different under the zero lower bound. The experiment here is the same as before-- the Fed sells off all its short-term Treasury holdings and buys an equivalent amount of long-term debt. However, under the zero lower bound, the effect on short-term interest rates all but disappears as a consequence of investors' beliefs that near-zero short-term interest rates are likely to persist for some time. Quantitative easing-- buying the longer-term securities with newly created interest-bearing reserves-- would have the same effect in our framework.
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Hence our estimates imply that whereas an asset swap by the Fed could not reduce interest rates in normal times, under the present situation, it would succeed in driving overall interest rates lower. To take an illustration, the Fed's combined $1.1 trillion in mortgage-backed securities plus $300 B in new longer term Treasury purchases might have succeeded in driving 10-year yields 50 basis points lower than they would have otherwise been.
Although our estimates imply that the Fed could do more than it already has, in many ways the U.S. Treasury is the more natural institution to implement such a policy. According to the theoretical framework that motivated our measures of the Treasury risk factors, the average slope of the yield curve arises from the preference of the U.S. Treasury for doing much of its borrowing with longer term debt. For reasons presumably having to do with management of fiscal risks, the Treasury is willing to pay a premium to arbitrageurs for the ability to lock in a long-term borrowing cost. If the Treasury has good reasons to avoid this kind of interest-rate risk, it is not clear why the Federal Reserve should want to absorb it.
But, according to our estimates, if the Fed wanted to absorb more of this risk, it could reduce the slope of the yield curve further by doing so.
The full paper is available here.
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August: A Bad Month for USD/JPY
More than 3 weeks ago, I talked about how USD/JPY has a strong tendency to weaken in the month of August (see post: USD/JPY Falls 10 out of the Last 12 Augusts). The year 2010 was no different as USD/JPY ends the month down nearly 3 percent.
At that time, I said “Although seasonality does not equal a certainty of USD/JPY weakness, it is worth noting that 83 percent of time, USD/JPY has ended the month lower by an average of 2 percent. Considering that USD/JPY started the month at 86.46, a 2 percent move would put it below its November low of 84.83.” Not only did we reach that level, but USD/JPY fell to a low of 83.53 last week - seasonality has proven to be effective once again!
Here are the latest stats:
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