Basic material, utility and energy shares led the broad market’s decline – so much for that commodity-related rally extending to a second session; I’m obviously referring to material and energy sectors, which led the market higher on Tuesday. Financials were the only of the 10 major sectors that closed higher for the day.
Volume remained weaker than weak with just 960 million shares traded on the NYSE Composite. Through hump day volume has averaged just 1.06 billion shares per day, 10% below even the low average of the past six months.
Market Activity for February 10, 2010
The Great Unwind; It’s Going to Be Slow and Extremely TelegraphedBernanke laid out the elements of his exit strategy in a text release yesterday and nothing was unexpected. They will continue to let some of the temporary lending programs expire -- the exit from these programs is substantially complete. They will also increase the discount rate, thus modestly widening the spread between the rate banks can borrow from the Fed (discount rate) and the rate banks borrow from one another overnight (fed funds). That spread was narrowed during the crisis.
The bond purchase program (quantitative easing) will end on March 31. Although, where the Fed leaves off Fannie and Freddie picks up as it has been reported the GSEs will increase purchases of delinquent loans beginning in March; expecting to purchase a significant portion of the seriously delinquent population within a few months, but I digress.
The Fed will also engage in reverse repos, which means they’ll sell Treasury and agency-debt securities to primary dealers thus taking money out of the system.
Bernanke & Co. will also engage in more unconventional measures, such as adjusting higher the interest paid to banks that keep excess reserves at the Fed and set up term deposits that hold these funds from the system for a specified period of time. This, they hope, will incentivize banks to keep more reserves in these accounts rather than lend them out – lending them out would expand the money multiplier thus boost inflationary ramifications. (This will be quite interesting to watch in the highly charged political environment. Politicians are trying to get banks to lend more and Congress will make it tough on Bernanke to engage in this policy, even if it is well in the future. The Fed is supposed to be independent of Congress, but we’ll see how that goes.
Since the Fed’s been at zero for so long it means a massive excess of reserves are in place (makes cash very easy to procure), swamping the demand for those reserves – basically, it makes it very tough to manage the fed funds rate and I think this is where the term deposit strategy comes in, it immobilizes this money.
They also stated, if necessary, they can begin selling their holdings of Treasury and mortgage-backed securities to truly reduce the Fed’s balance sheet. That would jolt interest rates higher and it’s highly highly unlikely that they would do so.
Bernanke made a point of explaining that none of the most effective paths to unwind policy (drain liquidity) will take place for some time. He emphasized this point by throwing in the “exceptionally low” and “extended period” phrases with regard to fed funds.
Mortgage Applications
The Mortgage Bankers Association reported their applications index fell 1.2% for the week ended February 5, following the 21% bounce in the week prior. The index was dragged down by a 7% decline in purchases; refinancing activity rose 1.4%.
The rate on the 30-year mortgage fell below 5% for the first time since the week of December 18, averaging 4.94% last week. The decline in purchases even as the fixed rate on 30-year money is so cheap, along with other government incentives, shows the troubled nature of housing. It will ultimately take a significant improvement in the labor market to spark a durable rebound in the housing market.
Trade Figures
The U.S. trade deficit widened substantially more than expected in December, largely due to higher crude imports and the price we paid for those supplies. You know, as longer-term readers are familiar, I think it is quite ironic that many of the people who complain about the perils of our deficit in trade (importing more goods than we export) are many of the same people who work (or at least have no problem) to restrict domestic energy production. Our energy policy is a major reason for the degree of our deficit in trade, you take out energy and the trade deficit is just 40% of what it is in total including crude oil. I’m not saying we should attempt to produce all of our energy needs, we get 35% of our energy imports from Canada and Mexico. Partnering with our North American neighbors makes sense, particularly since many of their supplies are sources that are cheaply produced. But it makes no sense to restrict our own capabilities. It makes zero sense economically and is dangerous from a national security perspective.
Anyway, to the numbers. The trade deficit widened by 10.4% to $40.18 billion in December from $36.58 billion in November – economists had expected the figure to narrow to $35.8 billion. Exports rose 3.3% as imports increased 4.8%.
I’m not one to worry about deficits in trade, outside of the energy story, as higher imports do suggests at least some increase in domestic consumption is occurring – besides as long as we engage in the right economic and fiscal policy those dollars come back home in the form of investment. By way of how the numbers came in it suggests U.S. corporations spent some of the mounds of cash they currently sit on, which is needed to make up for the lack of consumer outlays. This is a function of the inventory rebuilding, even if it is scant compared to the normal expansion.
The increase in imports was boosted by not only a 16.9% month-over-month increase in crude oil but capital goods also looked good, up 4.7%. Telecom equipment, computer accessories the pushed the ex-aircraft capital goods reading higher. Consumer goods were unchanged.
Exports were also boosted by the capital goods component (up 5.2%), namely the 44% jump in civilian aircraft – that’s good to see. Industrial supply exports rose 6.1%, thanks to a 10.3% increase in exported automotive products. There is this sense of frustration among a certain segment of the U.S. population due to our appetite for foreign-owned (not produced, but owned) vehicles. But the rest of the world, specifically China, does buy a lot of cars from us and that shouldn’t go unnoticed.
The Greek Bailout
The European Union (EU) is expected to hold official discussions, the vaunted “summit,” today as they decide how to extend help to the Greek government to avoid a funding problem. A bailout raises the concern that the EU will cave to member countries that are the worst violators of budget deficit constraints. Will these countries pull down the Union over time? The EU was always walking a fine line, attempting to manage a one policy monetary system with various political budget policies. If they don’t get a handle on things it does raise the question: How long can the euro survive? This may sound like a ridiculous suggestion right now; it may not be so outrageous a couple of years out.
But the fact that they are going ahead with a bailout, which should have been expected all along, shows that they view a member defaulting on payment as a larger risk – even a small member such as Greece. But bailouts are only a short-term fix; the snowball continues to roll and get bigger.
The EU needs to understand that only growth and reduced spending will ultimately ease concerns over budget problems. That means a complete restructuring of their entitlement programs and tax structures. I’m not sure the EU citizenry has it in them to accomplish such action, they’ve been living the very comfortable life of European-style socialism for too long perhaps – but this system isn’t viable in the long-term, that’s the problem. The U.S. better heed the lessons coming from Europe right now, and fast, or we’ll have the same debt-funding troubles hit our shores.
Have a great day!
Brent Vondera, Senior Analyst
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