Monday, June 18, 2007

Equity market up again this week?

Stock index futures suggest that the U.S. equity market will begin the week on a positive note. It's likely that the traders will let the market rise in the morning and then, considering the market gains of last week, take the market back down in the afternoon, leading to a volatile but ultimately uneventful day. Guessing what the market will do on any given day is sort of a joke, but why not. The remainder of the week will continue to be one of shorts versus bulls, continued volatility, and with the bulls coming out on top once again. So the joke continues here.

The situation ruling the market now is the Fed's pickle. The Fed cannot raise rates to slow a strengthening economy with some worrisome inflation concerns. The decent core CPI number, the declining consumer sentiment numbers, high gasoline prices, and the continuing overhang of the residential real estate market's softness mean that any rate rise has serious economic risks. A rate rise could put more pressure on the consumer credit markets and on the longer term bond markets. The Fed cannot lower rates because total CPI, including food and energy, remains higher than is generally viewed as desirable and because the Fed would not want to add liquidity to what at times feels like an emerging commercial credit and equity bubble. Additionally any rate cut would exacerbate pressure on the dollar, which would untimately lead to more inflation pressure. In the short term, the market always likes certainty and unequivocally that's what we have on the Fed front. Trade away.

That does not rule out the possibility that the bond market will continue to take things into its own hands, and push up longer term rates. That can happen in a more meaningful way today, considering that the Fed's control over the banking system's diminished power in a global market is less important(is that a secret?). At the moment, however, one can't predict when or if a meaningful bond market move will occur but, given last week's brief jump up to a 5.3% yield on the ten year, it's one of the scenarios and it would be ugly. The near term horizon doesn't seem to suggest that possibility, but of course what fun would it be if it could be predicted.

For the moment, though, the defensive posture seems to be sitting tight with stock allocations in general, add on dips to large cap multinational names, and look for those one off opportunities in overlooked small and mid caps.

So that's another bland market outlook, and in a few minutes the summer roller coaster ride will start up again. Don't fall off.

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