11 May 2009
Now that the bank stress tests, the unemployment report and the Treasury auctions are out of the way, traders are likely to return their focus to interest rates this week.
Yields have been rising lately driving June Treasury Bonds and June Treasury Notes lower. This has also helped push mortgage rates back over 5%. The Fed is concerned about the higher mortgage rates so it is preparing to buy back several billions of dollars of mortgages this week.
I think that mortgage rates are higher than the Fed is comfortable with so it may begin to increase its aggressiveness in the government asset buyback program. If mortgage rates get too high then the housing recovery could stop in its track and erase some of the gains beginning to show in this economy.
Look for Treasury bonds and notes to rise this morning and perhaps all week based on the strong buying from the Fed.
Equity futures are under pressure overnight. Money is leaving the stock market to be reallocated into the Treasury markets. Traders are attempting to lock in the guaranteed higher government yields while lightening up their exposure to more risky stock assets.
Equity prices are overpriced at this time. Stock prices have overshot the current outlook for profits. Since the economy is only beginning to come out of the recession at this time, it seems impossible for corporate profits to match the performance of some of the individual stocks.
Over 200 of the S&P 500 stocks are up over 50% since bottoming in March. It seems unlikely that the market will be able to maintain its current bullish pace and may be setting itself up for a huge corrective break.
As traders take profits in the more risky stock market, investor appetite for risk is diminishing for other risky assets including currencies and commodities. The U.S. Dollar is gaining strength overnight which should carry over to the U.S. futures opening. Traders are selling foreign currencies to lock in higher priced Treasury yields priced in U.S. Dollars. The June Japanese Yen is stronger than the Dollar this morning as Japanese investors repatriate some of their funds invested in higher risk asset elsewhere.
As mentioned earlier, the theme of today is risk aversion and that means increased selling of more risky assets including commodities.
Precious metals are down. Traders are assuming short positions again as prospects of higher inflation diminish. Relief that the bank stress tests failed to reveal any major banks facing a collapse is also triggering selling in both June Gold and July Silver.
July Platinum and July Copper are also falling. Platinum has not been able to rebound because of the huge drop in demand from the global auto industry. Copper is seeing a slowdown in demand as traders believe the U.S. recovery may be slower than previously estimated.
June Crude Oil is also falling overnight. Selling pressure is coming from profit-taking and perceptions that the global oil glut is likely to continue. Many traders also feel that even if the economy turns around, it is going to take months to reduce the huge amount of crude oil and gasoline in storage.
Profit-takers are also taking a chunk out of the recent gains in July Corn and July Soybeans. The fundamentals in both of these markets remain bullish for the short-run.
Farmers are having trouble getting the corn crop in the ground because wet weather is limiting fieldwork. A drop in South American production as well as increased demand from China has cut soybean inventories to a five-year low.
In summary, as long as money is flowing into the Treasuries, look for pressure on equities. Demand for safer U.S. assets should also put pressure on most foreign currencies as well as commodity prices.
