I was commenting today to a subscriber how “crazy” it is to see the market rally in the face of rumors regarding some oil producing nations establishing a trade currency to replace the dollar based on several global currencies and Gold. In the past, such rumors would have sent the market down quite a bit but today, it inspires a stunning rally. Such are the times we live in when short term stock market ‘benefits” outweighs the longer term perils of a weak dollar.
The stock market as a discounting mechanism prices in an outlook for equities in the time frame of 3 to 6 months. A weaker dollar is going to allow for corporations to post better short term operating results so it is not surprising that stocks have rallied. The Bond market on the other hand is a better indicator of the longer term prospects for the economy. The bond market is telling us that the prospects for the U.S. economy longer term are much less rosy. As stocks have rallied over the past several months, interest rates have actually declined. Even factoring in governmental manipulation of long term rates via “quantatative easing”, the trend towards safe U.S. Treasury notes, bonds and bills has been on the upswing.
So who is right? well they both are. Short term the depressed dollar and extremely accomodative stance by the Fed is the “sweet” spot for equities especially those which derive a large portion of their revenues from overseas. Short term that is good for equities. Bonds prices are signaling that the U.S. economy is headed for a double dip of the recession or at the very least a weak recovery. With unemployment still rising and consumer spending on the decline, the prospects for a quick recovery in the U.S are not very good which will keep interest rates low for a prolonged period. At least that is what the bond market seems to be saying.
The spike in gold on the other hand is a direct result of inflation fears down the road because of the massive amount of debt that we have accumulated. Gold , and most commodities in general, are usually assets that investors run to when there is a sense that paper assets are overvalued and risky. The traditional flight to quality trade into U.S. Treasuries is being partially replaced by the flight to Gold trade because investors feel insecure about the dollar.
So how does that relate to trading? Well in my opinion there has never been a better trading market but also a terribly “deceiving” market for “long Term” investors. Again longer term you have to believe that the bond market is a better indicator of the real prospects for the economy and the bond market is telling us to be careful because there is substantial risk of a prolonged downturn.
