You shouldn’t be surprised by the big rally on Wall Street last night. It began in Australasia yesterday afternoon! Traders couldn’t wait for new Fed Chairman Janet Yellen to start talking. So they started positioning for it during Asian trade.
Gold popped higher, the Aussie dollar surged and is now back over 90 cents, and stocks moved higher too.
This was all before Yellen spoke to Congress. And when she did, she didn’t say anything different or unexpected. She said she was going to be just like Bernanke. The taper timetable would continue, unless a dramatic change in conditions warranted a halt to the program. Nothing to see here folks…
Initially markets sold off, but then quickly reversed into full bulldom. The punters loved it! Yes, the bulls are running and the bears are in full retreat. A bit like this:
Given that Yellen said absolutely nothing out of the ordinary, nether bullish or bearish, we can offer no real reason for the rally. Short-sellers continue to take a beating. The worst stocks, as represented by the Goldman Sachs most shorted index, have outperformed the market in this latest rally.
Yes, dear reader, it’s madness. As risks continue to mount from the Fed’s withdrawal of stimulus, the market goes into hear, see and speak no evil mode. Bullish momentum is hard to shake, and when you have some scrawny bear in your horn sights, you want to inflict a ‘cornada‘. But in your stubborn haste, you don’t see the sword, or ‘estoque‘, about to plunge into your neck.
Below is a chart of the Dow Jones Industrial Index. As you can see we are now experiencing a very sharp rally following the January sell-off. But the volume has been weak (see bars at the bottom of the chart) suggesting there’s not a great deal of conviction behind the rally.
Given the diminishing fuel for the rally provided by the Federal Reserve, we reckon the almighty Dow will turn back down soon, probably before it breaches the 50-day moving average (the blue line).
The Fed has tried to convince the market that tapering isn’t tightening. But that’s rubbish. If QE provides liquidity to the market, and that liquidity pushes asset prices higher, then the removal of liquidity will have a detrimental effect.
Albert Edwards from Soc Gen wrote recently that ‘Tapering is tightening, which inevitably ends in recession, bailout and tears.’
And Doug Noland, author of the Credit Bubble Bulletin says,
“Is Tapering Tightening?” has become topical. From the perspective of my analytical framework, of course it’s tightening. No question about it; silly to think otherwise. The risk of leveraging in the marginal global securities markets and economies (EM) has increased; market behavior has begun to adjust; and financial conditions have started to tighten at the margin.
So don’t get too excited looking at the performance of the ‘core’ economy stock markets. Change happens at the margin, and those changes flow back through to the core. Just because the market doesn’t give a hoot about that right now shouldn’t make you complacent about the dangers.
So what else is happening at the margin? Well, Bloomberg reports that credit conditions for China’s riskiest companies are at their tightest levels since July 2012. That was just prior to the rapid, late 2012 slowdown that brought about another destabilising stimulus package. That was when iron ore prices plunged to nearly US$80/tonne.
Tomorrow we’ll get the latest trade data from China which is likely to confirm an economic slowdown is underway. And credit data is due out this week too, which will give us an idea of how much the tighter credit conditions are biting into the shadow banking sector.
Speaking of China, there’s renewed buzz around its gold consumption habits after the Financial Times reported that a 500 tonne discrepancy in the data points to central bank buying.
‘A 500-tonne gap in China’s gold consumption data is fuelling talk that the central bank took advantage of weak prices last year to bulk up its holdings of the precious metal.
‘…the latest official figures show that China imported and produced far more gold in 2013 than its citizens bought. This chasm suggests that the central bank was a buyer in the gold market last year in spite of its protestations to the contrary, say analysts.’
Look, you don’t have to be Sherlock Holmes to see that China is trying to buy as much physical gold as it can get its hands on without disturbing the price. And when China’s central bank tells you it’s not a buyer, well, there’s all the evidence you need.
Gold has had a good run lately. And in a good sign for the bulls, the general opinion of mainstream analysts is that this rally is nothing to get excited about. That’s what happens at the end of bear markets. Analysts treat rallies with skepticism and the punters ignore it, instead looking at what’s hot.
Gold’s recovery from last year’s lows has been a stealthy one so far. It’s due for a pullback after a strong recent run, but the lack of hype and suspicion about this rally is a good sign.
There’s no suspicion when it comes to banks though. Yesterday, ANZ issued a trading update and reported a 13% year-on-year profit increase in the three months to December 31. The CBA followed that up this morning with a 14% profit increase in the six months to December 31.
The simple math for CBA was that income grew faster than expenses, and when this happens to a highly leveraged balance sheet (all banks have high leverage) you get good profit growth. Add to that impairment charges remaining at historically low levels and you get a crowd pleasing result.
Yesterday we wrote about Australia’s ‘inflationary’ economy and how banks are the prime beneficiaries. Well, you’re seeing the evidence with the latest bank results, and you’ll see it again when the NAB and WBC issue their trading updates.
But if interest rates are now on hold, then there’s not much inflationary fuel left in the fire. The significant rate cuts of 2012 have already worked their way through the system and the two cuts made during 2013 will have largely burned out by June. Throw in China pouring cold water on its credit inflation fire and it could start to get a little cold for the banks within the next few quarters.
It seems crazy that banks remain so popular despite visible signs emerging of Australia’s past (and present) woeful economic management. We’ve got a perfect storm almost upon our shores and investors remain blissfully unaware.
Is it ever any different?
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