The Daily Reckoning
Weekend Edition
January 8-9, 2005
Baltimore, Maryland
By Addison Wiggin and Tom Dyson
MARKET REVIEW: LONG BOND REBELS
What a start!
The year 2005 is but 5 trading days old, and already we've
seen bigger moves in most markets than we had all last
year...(we exaggerate of course, but the idea still stands
- last week's market action was furious.)
Take the dollar for example. It bounced like a golf ball on
concrete. Against the euro, the dollar gained over 5 cents -
moving from $1.3554 on Sunday night to 1.3052 by close on
Friday.
Or gold. Our favorite yellow metal slumped $18.70 over the
week and now trades below $420 an ounce.
The Nasdaq is already down 4% for the year, and the other
major indices aren't too far behind.
So what happened?
In short, we think it might have something to do with
inflation...or at least the Fed's reaction to it. Last
week, we got to see the minutes from December's FOMC policy
meeting.
"The current level of the real funds rate target remained
below the level it most likely would need to reach to keep
inflation stable and output at its potential," said the
Fed. And later: "With the economic expansion more firmly
entrenched, cost and price pressures were likely to become
a clearer intermediate-term risk to sustained good economic
performance absent further reduction of accommodation."
Bond market translation: more rate hikes.
Then on Friday, we saw the year's first non-farm payroll
report. 157,000 new jobs were added in December, and they
revised November's number up by 25,000. While 157,000 is
slightly below expectations, it wasn't bad enough to make
anyone think the Fed might not raise rates at their next
meeting in early February. It's rumored the Fed pays more
attention to the jobs numbers than anything else. And as
long as the jobs picture is improving, they have room to
maneuver against inflation.
Of course, you'd be forgiven if you thought bond yields and
inflation had anything to do with each other. The long end
of the curve - bonds with maturities greater than 15 years
- refuses to react as we'd expect in this environment...and
the yield curve almost looks like it wants to invert. In
fact, 30-year Treasury yields have fallen by 22 basis
points since January 1, 2003, while overnight rates have
risen by 125. Last week 30-year yields rose, but only by 3
basis points, to 4.85%.
Morgan Stanley's Stephen Roach captures this strange bond
market lethargy:
"And that takes me to the second lesson of 2004 - a
shockingly benign climate in U.S. and global bond markets.
Take yourself back a year ago: If you had known that the
Fed would tighten by 125 basis points (I publicly urged
Chairman Greenspan to go by 200 bps), that the U.S. core
inflation rate would essentially double, that crude oil
prices would shoot up into the mid-$50 range, that the U.S.
economy would grow by nearly 4.5%, that America's twin
deficits (budget and current-account) would soar, and that
the dollar would come under renewed pressure, the bearish
call for longer-term U.S. interest rates would have been a
no-brainer. And yet yields on 10-year Treasuries basically
ended the year where they began at approximately 4.2% -
with a modest increase in inflationary expectations largely
offset by a surprising decline in real interest rates (as
captured in the inflation-indexed TIPS market). Hard as it
may be to admit, this result basically turns the art of
interest rate forecasting inside out."
We agree. Bond yields ought to be much higher. But for now
they hold steady. Will this continue? One week ago, we
would have said yes. After last week's volatility, we'll
need to rethink...
Regards,
Tom Dyson,
The Daily Reckoning
P.S. We're very familiar with Roach's views...we always
read his column, and once, we even went to see him speak at
the IMF in Washington D.C.
Roach's analysis echoes that of Dr. Richebächer. Both agree
that the American consumer cannot be relied upon to drive
the world's growth. Both agree that U.S. corporate
profitability is overstated. Both would argue that returns
on U.S. securities do not compensate the owner for the true
risk in holding them. Both think the Fed is incompetent.
But only one of them shows you how to make money from this.
The Richebächer Letter
http://www.agora-inc.com/reports/RCH/WRCHEC09
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It's a controversial idea, arguing that 'group-thinking'
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THIS WEEK in THE DAILY RECKONING
UNDER THE TOP 1/7/05
By Bill Bonner
"
Kiplinger, on the other hand, lives in a different world.
It is a world, as near as we can tell, where every thought
is commonplace...every idea is convenient... and every
stock always goes up. We say that not as a calumny. There
is no shame in it. But neither is there any glory."
http://www.dailyreckoning.com/body_index3.cfm?id=11210
IT'S NOT SUCH A SMALL WORLD AFTER ALL 1/6/05
By Nassim Nicholas Taleb
"
Consider that all one needs is two bad years in the
investment industry to terminate a risk-taking career and
that, even with great odds in one's favor, such an outcome
is very possible. What do people do to survive? They
maximize their odds of staying in the game by taking black-
swan risks; those that fare well most of the time, but
incur a risk of blowing up."
http://www.dailyreckoning.com/body_index3.cfm?id=11200
THE DOLLAR BOUNCE 1/5/05
By Doug Casey
"I suspect that it's almost time for Business Week to run a
cover story projecting the death of the dollar, ringing the
bell for a temporary bottom. But the dollar is still (for
the moment) the world's currency. The recent anti-dollar
hysteria will wear off and sellers will buy back a lot of
dollars, simply because the dollar is still, for all its
faults, a liquid and convenient holding."
http://www.dailyreckoning.com/body_index3.cfm?id=11190
APOCALYPSE LATER 1/4/05
by Kurt Richebächer
"A 'self-sustaining' U.S. economic recovery urgently needs
accelerating employment and income growth. Just the
opposite is happening. During the six months up to last
November, real disposable personal income grew just 1%, or
2% annualized. This is down from 3% in the first half of
2004 and 4.8% in the second half of 2003."
http://www.dailyreckoning.com/body_index3.cfm?id=11174
GOING FROM BAD TO WORSE 1/3/05
By The Mogambo Guru
"
Fannie Mae has actually driven up the price of housing to
the point where not only can the POOR not qualify for a
loan to buy a house anymore, but in some places not even
the freaking middle class can afford to buy a house
anymore, either! And why can't these people afford to buy a
house? Because housing prices have been going up in price
at double-digit inflation rates for years now, thanks to
Fannie Mae."
http://www.dailyreckoning.com/body_index3.cfm?id=11165
----------------------
HEADLINE, NEWS And INSIGHT:
Social Tsunami
by Byron King
"There are many factors in the equation of Chinese social
stability, certainly more than I can attempt to list here.
But take a look at some of the most significant. There are
the social dislocations, caused as tens of millions of
Chinese move from rural landscape into urban enclaves.
There is the loss of agricultural land as cities expand and
pave-over the ground. There is the air and water pollution,
which is legendary in China."
http://www.dailyreckoning.com/body_headline.cfm?id=4398
A Wave of Solidarity
by Bill Bonner
"The mud houses on the beachfront had been destroyed or
washed away. Broken furniture lay besides the road,
television sets beyond repair were put into the sun to dry,
pieces of thatched roof blocked the road, power lines had
fallen down, the steps leading to an old temple had
collapsed."
http://www.dailyreckoning.com/body_headline.cfm?id=4388
Going Cold Turkey
by Martin Spring
"Its high growth in recent years has been driven by an
unusually powerful combination of factors. Not only
abundant cheap credit at absurdly low interest rates, but
also tax cuts, higher government spending, rising property
values, incentives for buying new cars. However, the lift
from those stimuli is fading, and there's little the
authorities can do in the way of providing new ones."
http://www.dailyreckoning.com/body_headline.cfm?id=4385
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