Editor’s Note : While Sam Collins is on vacation, we’ve asked Nick Atkeson and Andrew Houghton, editors of Big Money Options, to provide you with a comprehensive market outlook and a trade of interest until Sam returns June 1.
At the 30,000-foot level, credit availability has improved greatly. Earnings revisions continue to rise. International economies, such as China, Taiwan and Germany, appear to have stabilized.
But on Wednesday, none of the global macro issues mattered. What mattered was growing concern in the bond market regarding the Treasury’s plans to auction $26 billion of seven-year notes. Equity investors saw the 10-year Treasury rate rocket up through 3.60% and the bonds plummet. 3.55% was the “Street talk” level. Rapidly rising Treasury rates have historically been a negative for the equity market.
Mortgage debt trading desks added fuel to the fire by hedging their MBS portfolios by selling the long-end of the Treasury curve. Many debt players have been naked long MBS in 2009.
Bank portfolios were negatively impacted with 10-year Treasuries rising as they were sitting on unrealized MBS gains they had hoped to recognize in the second quarter. With the long-end of the curve going higher, those gains are evaporating which could show up in the Q2 earnings reports.
A troubled seven-year note auction is anticipated today so a good auction could prove to be a very powerful positive catalyst. So far this week, the two-year and the five-year auctions have gone well.
The S&P 500 (SPX) closed at 893.06, down 1.90%. The Dow (DJI) was down 173.47 points, or 2.05%. The Nasdaq (NASD) closed down 1.11%. The CBOE Volatility Index (VIX) closed at 32.43.
What the Markets Are Saying
Since the credit crisis began, the equity market has been ruled by the credit markets. Toxic debt, unavailability of debt, high corporate debt rates, government debt, etc. have been the determining forces in setting equity prices.
A critical component of the March 9 market rally has been an improvement in private capital flows in the corporate debt market. The unfreezing of the corporate debt market is a necessary and important component of rebuilding our economy. What is currently starting to stall the rally is government debt.
As the U.S. goes deeper into debt, fears of inflation rise which lead to fears of eventual U.S. government default.
In 2008, the federal government spent $412 billion on interest payments (this is relative to $15 billion for NASA, $61 billion for education, and $56 billion at the Dept. of Transportation). As of April, 2009, we have spent $193 billion on interest.
Interest payments on debt are crowding out other productive investment. Today, we will see how the seven-year Treasury auction goes. In the short-term, this auction is likely to be a key driver of stocks. Longer term, the issue of mounting national indebtedness may become the controlling factor in our standard of living.
Today’s Trading Landscape
Earnings Before Market Open: Arctic Cat, Ahold, Big Lots, Canadian Imperial, Costco, dELiA*s, Descartes, Fred’s, Freeseas, Frontline, Genesco, Heinz, Mentor Graphics, Monro Muffler, Perry Ellis, Sanderson Farms, Show Carnival, Toronto-Dominion Bank, Trina Solar, VimpleCom.
Earnings After Market Close: Dell, Esterline Technologies, GSC Investment, Iteris Holdings, J. Crew Group, Jamba, SourceForge, Marvell, Novell, Quanex, OmniVision, QAD Inc., Sonic Solutions, Wet Seal.
On the economic front, we will see Initial Jobless Claims (for the week ending May 23 — the consensus is 635,000), Continuing Claims (the week ending May 16 — the consensus is 6730,000, Durable Goods (for the month of April — the consensus is 0.5% and excluding transportation the consensus is 0.3%) and New Home Sales for April (the consensus is for 360,000; month over month, the consensus figure is 1.1%)
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Sam Collins is a registered, fee-based portfolio manager who may be contacted at samailc@cox.net. You can also check out an archive of some of his most recent market outlooks by clicking here.
