What Do Rising Rates Say About Markets
Like shifting sands, financial markets are rapidly realigning, and that trend will be the thing to watch Thursday, when inflation data and the latest jobless claims are released.
The most dramatic move Wednesday was in the bond market, where a major selloff sent rates higher, to levels last seen in October. The stock market was barely changed, but gold sold off sharply and the dollar rose against other major currencies. The 30-year was yielding 3.40 late in the day, and the 10-year yield was at 2.27 percent.
“The bond market has finally woken up,” said Nomura Americas Treasury strategist George Goncalves. “It’s telling you it’s been disjointed from reality and now we’re getting a wakeup call.”
The selloff in bonds comes as investors are weighing improving U.S. economic data, while at the same time becoming less convinced the Fed will carry out further quantitative easing . After its meeting Tuesday, the Fed made no new comments on easing but it did upgrade its economic outlook slightly.
“One of the problems for the dollar was people were so willing to dismiss good economic news because the Fed wouldn’t respond to it,” said Robert Sinche, head of global currency strategy at RBS.
“I would guess the Fed didn’t intend to send a signal that’s as aggressive as the markets have reacted to. So, something’s gone awry somewhere. It could be a combination of their communications, the strong data, or just the big positions being unwound,” he said.
The dollar in the past two sessions gained 0.9 percent against the euro, which was at 1.30 in late trading Wednesday. The greenback was up 1.8 percent against the yen in the same time frame.
Nomura currency strategist Jens Nordvig, in a note, called the dollar’s rise healthy, while Deutsche Bank strategist Alan Ruskin said the market has taken away the “Fed’s punch bowl,” referring to the effects of more easing. Fed officials have said they could buy mortgage securities to send rates lower, if the economy needs help, but some market participants see another Fed easing as less likely.
“We do think this is a time for the dollar. We think it will last through the first half of the year,” Sinche said.
Quantitative easing is viewed as negative for the dollar, and it has been credited with pushing the prices of stocks and commodities higher.
Sinche said unlike last year, the dollar may have a chance to hold its gains. One positive is that markets are not facing a high level of commodity inflation, as they did last year. Also, a year ago, markets and the global economy were hit by the impact of the Japanese earthquake and tsunami. That was then followed by the tightening of financial conditions, due to Europe’s debt woes.
Several strategists say while rates could continue to rise, they don’t expect them to rise much further without dramatic improvement in the economy, and that could cap the dollar’s gains. The dollar index is up 0.4 percent for the year-to-date so far.
The bond selloff comes soon after the resolution of Greece’s latest bailout, which had concerned markets and sent investors into the safety of Treasurys. The successful stress tests for most major U.S. banks, announced by the Fed Tuesday, were also seen as negatives for bonds.
“It may not be 4 percent growth but I think that there are people out there saying, ‘it’s (the economy) about to roll over,’” said Sinche. “ I think there’s some reevaluation of that position.”
“I don’t think this goes all that far,” he said of the bond selloff. “Is this the beginning of a couple hundred basis point move in yields? I doubt it. It is enough, and we’ve taken out some important levels that I think the downside for the dollar is very limited in this environment.”
Stocks were sluggish Wednesday after Thursday’s big run up, with the Dow up 16 at 13,194, and the S&P 500 was down 1 at 1,394.
“The big debate is — is this the beginning of the massive switch out of Treasurys and bonds and into equities. The fact it’s slow and calm doesn’t panic anyone,” said Art Cashin, UBS director of floor operations. “It’s the watch and wait period. Nobody wants the switch to happen when they’re not on board.”
Wells Capital Management’s James Paulsen said the bond market is finally catching up with some of the optimism that has permeated the stock market, pushing the S&P to 2008 levels.
“There’s another issue running through the bond market – it’s that the Fed agrees with the stock market. There’s been a nagging question running through the back of your mind as an investor, and that’s what does the bond market know that the stock market doesn’t,” said Paulsen, who is chief investment strategist.
He said if rates get high enough, the stock market, up more than 25 percent since October, could start to correct. He expects the S&P 500 to reach 1,500 by year end.
Data to watch Thursday includes weekly jobless claims, producer prices, and the Empire State survey, at 8:30 a.m. ET. The Philadelphia Fed survey is released at 10 a.m., and the Treasury’s international capital flow data is reported at 9 a.m.
“Claims unexpectedly rose last week. I think the four-week moving average is going to stay around 355,000,” said Deutsche Bank chief U.S. economist Joseph LaVorgna. “If tomorrow’s number is higher than expected, bonds are going to catch a bid and then we’re going to worry about next week’s number because that’s when people are going to be making a guess on what March employment will look like.”
PPI is expected to be up 0.5 percent, but the core number without energy or food, is expected to rise 0.2 percent. “The trend is definitely upward... This is just a general inflation rise reflecting the fact the economy is healing,” LaVorgna said. The Consumer Price Index is reported Friday and that is also being watched for the impact from rising gasoline prices.
What Else To Watch
AMC Networks , Scholastic , Winnebago and Ross Stores report earnings.
The IMF is expected to hold a meeting where it will discuss Greece’s bailout, while European Commission vice president Olli Rehn visits Portugal.
NOAA releases its spring outlook, including temperature and precipitation outlooks, at 12:30 p.m.
Natural gas inventory data is released at 10:30 a.m.
Treasury Secretary Timothy Geithner speaks to the Economic Club of New York at 7 p.m.
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