Wednesday, October 27, 2010

The Bond Market Cranks up the heat on the Fed as Yields March Higher

I wanted to start today with some stock market analysis:

Quick Take:

Looks like the blue robot won today!  The red one should have been victorious because we saw a lot of red in the markets today.

I hate to make a joke of the markets but what else can you do at this point?  The market is acting absolutely absurd.  It trades with no conviction.  Should we be surprised at this when the average trade is held for just 11 seconds?

70% of the trades on Wall St are now made via high frequency trades.  None of these positions are taken with any conviction.  When you throw in the retail day traders and the hedge funds this percentage of "speculative betting" rises even higher.  I wouldn't be surprised if  90% of all trades on Wall St are held for only a matter of minutes.

Since this is the case, what is there really to analyze?   Unless you have a trading algorithm that matches the HFT's you really have no chance day trading stocks. 

Day after day all I see is chop chop chop.  Whenever a trend is established early on in the session it appears to break down by the end of the day. 

If the market rises or falls more than 100 points during the day it almost seems as if a circuit breaker goes off inside each of these trading algo's that tells them to "take profits" and then take the other side of the trade.

Essentially, the market has no substance or soul at this point.  Everyone is speculating.  No one is investing.  The market has morphed into another example of our "I want everything right now" culture.

I don't know how you can be a bear or a bull right now and feel very confident.  The market has clearly been taken out of the fundamental investors hands and given to the computers who have turned it into a high stakes casino that has no meaning.

Some advice:

Use a dart board if you wanna make some stock picks!


This is where the action is people!!!

Stocks tried to follow bonds today but they appeared to be kidnapped by the robots late in the day.

The 10 year however sent a clear message:

My Take:

Bonds continued yesterday's sell off after word got out that the QE2 will be much smaller than many anticipated.  Bill Gross's bearish bond call didn't help things today either. 

I am kinda torn on this price action.  The skeptic in me wants to say that the bond boys are trying to pressure the Fed into upping the QE2 ante. 

However, the fundemental side of me thinks that bond yields were way overdone to the downside and did not reflect the real risk of our deficits and the risks of inflation.  My fundemental side also believes that yields are rising as the bond market starts baking in the reality of a smaller QE.

The Bottom Line

After word got out about a smaller Fed easing last night I am now leaning more towards the fundementals when it comes to analyzing why treasuries are selling off.

Folks, if this trend continues it could mean real trouble for both housing and the USA's fiscal health.  Higher rates will be crippling for our government's balance sheet because it increases the cost of servicing our massive treasury debt issuances.

It's bad for housing because higher bond yields lead to higher rates which hurts housing prices.

The next few days are going to be interesting to watch because there is so much at stake.

I am sure there is a lot going on behind the scenes right now when it comes to the FOMC statement.  IMO, our economy hangs in the balance. Let's not forget:  The pressure on the Fed is increased by the fact we also get the mid term election results the same day as the FOMC.

Talk about a recipe for firworks!

If bond yields continue to move violently higher following the combination of a QE announcement and a huge Republican victory then Obama is going to have to face the music and cut spending sooner versus later.

Clinton faced the same dilemma in the early 1990's:

As you can see above, bond yields went from almost 5% to over 7.5% as the bond market opposed Clinton push for huge amounts of government spending...Hillary Care anyone?

If we see rate increases that look anything like this today then Obama is in a world of hurt and the spending will have to be stopped..

Let's see how this all plays out before we come to any conclusions.  If the vigilantes are back and rates begin to soar then we are in for some dark times ahead.

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