The major indices were also helped by a successful $35 billion auction of three-year Treasury notes. Treasury auctions are normally a non-event, but as the government is in the process of driving the deficit-to-GDP ratio to double-digit rates over the next two years (the long-term average is 2.4% with the post-WWII record being 5.6%) and high single digits for the next several years at least…well auctions are becoming quite the event. When they go well, stocks will be fine. If/when they don’t, watch out.
As a result of the TI news and the commodity rally, technology, energy and basic material shares led the broad market higher. Consumer staple, utility and health-care shares were the biggest losers. We’ve some early inflation and interest rate fears rumbling throughout the market and consumer staple and utility names have a difficult time when that’s the case. Health-care has traded lower for five-straight session as the administration’s national “one-payer” system has received more press.
Market Activity for June 9, 2009
Chrysler Can Proceed
The stay order issued by Justice Ginsburg on Monday night has been lifted and Chrysler can proceed with its sale to Fiat – well, as we mentioned yesterday “sale” may be the wrong word as Fiat isn’t paying for these assets, just engaging in technology sharing as they put it. More important than that, I think this is a troubling setback for contact law as junior creditors were put in front of senior bondholders, but maybe I’m over-reacting. Contract and property-right law isn’t that important, it’s just the backbone of our system.
Up, Up and Away
The price of crude has hit the $70 handle this morning and one wonders what price will trigger another wild wave of Washington populism – you know, calls for “windfall” profit taxes and attacks on speculators. Of course, politicians would never think of looking inward to their own policies that drive the dollar down and cause traders, investors and governments to run for the inflation hedge of commodities. And among those looking to hedge dollar weakness there probably is none more powerful than China right now. There is no way for China to aggressively reduce its dollar exposure without hammering their current positions, such as the $700 billion in Treasury securities they own. But they can stockpile hard assets, and oil is certainly one, in order to hedge against dollar weakness and the expectation that it will lose additional purchasing power.
Auction Goes Well
A record-tying auction of $35 billion of three-year Treasury notes went swimmingly yesterday as it was very well bid at a yield of 1.96% -- even a bit below the forecast. The bid-to-cover ratio, which measures demand by comparing the number of bids with the amount of securities sold, came in at 2.82 – a high number.
Treasury auctions have become a jittery event lately as investors go into days in which there’s an offering worried that things won’t go well and yields may spike. As we touched on yesterday, there shouldn’t be a big issue with demand over the short term as yields have been pushed to levels that make buyers comfortable, for now. Still, these auctions will be watched closely and if the bid-to-cover falls below 2 it may cause havoc. It is tough to see the market willing to accept these yields for very much longer but for now we seem to be ok. We’ll get 10 and 30-year auctions over the next two days and they better go well.
Wholesale Inventories
The Commerce Department gave us our first look at the current quarter’s inventory picture yesterday by way of wholesale inventories and it didn’t get off to a great start. However, the numbers appeared to be worse on the surface than they actual were due to auto-industry woes.
Inventories at U.S. wholesalers fell a larger-than-expected 1.4% in April, marking the eighth straight month of decline. In addition, the March data was revised down, which may cause a slight downward revision to the final print of Q1 GDP. However, much of the decline was due to another massive scale-back in auto stockpiles, which are now down 14.3% year-over-year – GM will idle 13 plants for as long as nine weeks and currently has seven shut down.
The sales data within the report showed caution among firms may be waning. Distributor sales fell 0.4% after a substantial 2.4% plunge in March and. Wholesaler sales have declined in nine of the past 10 months – down a big 19.5% year-over-year. This figure too was weighed down by the auto sector, which will remain a trouble spot for some time still, as sales within this segment got hammered, down 7.8% for the month and off by 36.2% year-over-year.
The wholesale inventory/sales ratio declined a bit but remains near an eight year high. We went into this recession at a historically low level of inventories, particularly for that point in the business cycle, but the crushing blow to the sales side caused the figure to spike. Therefore, it won’t take much of an increase in demand to bring this ratio significantly lower. As of April, it would take 1.31 months to deplete stockpiles based on the current sales rates. The record low of 1.10 months worth was hit in June 2008.
The best data on the inventory picture will come on Thursday via the business inventories figure. This data includes retail-sector stockpiles and will offer a better indication of how the management of inventories, and the effect sales had on the inventory of goods, began the current quarter. It’s likely we’ll see another reduction in business inventories for the quarter, but much milder than the previous quarter’s record liquidation. The inventory dynamic, the production needed to rebuild stockpiles even on the slightest boost in demand, should help to push GDP positive for the first time in five quarters by Q3.
Athwart History
I ran across an article a couple of nights ago that reminded me of the story of three scientists trapped at the bottom of a deep well – a physicist, an engineer and an economist; you probably know where I’m going with this already. The physicist is forced to admit that there is no law of physics that will help them. The engineer admits he’s of no help without tools and material. Only the economist is without concern; he proposes they begin with the assumption that they have a ladder.
And this is essentially what the fiscal stimulus is all about. There is this assumption that simply because the government is spending massive amounts of money – a ladder to economic growth as some see it – that by definition the economy must rebound in a sustainable way, net jobs will be created, and the entire system shall enjoy a much more solid foundation. (Surely the geniuses in Washington know how to allocate scarce resource in a more efficient manner than the market is able – ie. cap and trade, health care, lending, autos, etc -, right?). Well, there is no point in history with which this is the case; this after all is certainly not a new idea, it is the way of the long past (monarchy, feudalism, empire, theocracy, military junta, communism, modern European socialism) no matter the system of government.
Conversely, we have democratic capitalism that in 233 years of our official existence has enabled the most prosperous society in history to become just that. There isn’t an argument. Ok, even if we haven’t been a full-blown capitalist system in a long time, we are a blend of capitalism and socialism with a mix of 80/20. Sorry, but it doesn’t work at 20/80, which based on the current trajectory we are on pace to devolve to in about a decade.
We know what works (and I’m not talking about a utopia, just the best there is to offer relative to everything else), but sometimes we have these spells in which the country wants to go against that which comports with reality. We’re in one of those spells right now.
Have a great day!
Brent Vondera
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