Summary
The rally in longer-term bond prices is probably about over. If so, it will not help the stock market in attempting its stabilization. Meanwhile, the dollar is in trouble again. Will Paulson at Treasury help the greenback?
_____
Overall Conclusions: The price rally at the longer end of Treasury curve is about over, and I have a similar hunch regarding the dollar. Stocks continue the process of working off their heavy oversold condition, but the next major move here is likely to be down.
Introduction
My watchword for the three primary financial markets (debt, currency, equity) this week is "transition." All are at some phase of one, although interest rates and the dollar are probably farther along in theirs.
Politics
* I am going to avoid any detailed political discussion at this time. On a less detailed, note, though, I do want to express the strong opinion that now adding to a very troubled international geopolitical picture will be an increasingly troubled domestic political climate. The public's anger -- severe anger -- over what the Senate has done on immigration, at the direct behest of the President, is a major part of a worsening situation, but there are other things, too. Admittedly, though, Hank Paulson is a great choice to head Treasury.
* I've been warning for some time that the Bush Presidency was in jeopardy of an out-in-out failure. It's not there yet, but I strongly sense the situation is in transition towards a higher level of danger. Anyone around as in the 1970s remembers the horrors associated with such circumstances. At that time, the failing Nixon Presidency added significantly that era's severe financial-market problems. I feel certain this also would be the case today, particularly considering that George Bush has more than two and one-half years yet before his term is over.
Interest Rates
* Stock bulls remain as dedicated as ever in their incessant attempt(s) to parlay the "end of the Fed's raising cycle" into a super, big deal for the equity market. I pose a metaphorical question I've asked on other occasions: how many times can you go back to the same pitch? And as in baseball, the answer is: as many times as you can get away with it!
* The expectations over in the fixed-income world is that the Fed may be nearing the "pause point," as exhibited by the federal funds futures market:
Federal Funds Futures
-------------------------------------------------
Fed Funds
Action
05/26 05/19 03/27 FOMC ---------
Contract Yield Yield Yield Meeting To
--------------------------------------------------
Mar. '06 na na 4.59% 3/27-28 25bp 4.75%
Apr. '06 na na 4.77% No Meet. -- --
May '06 4.95% 4.95% 4.89% 5/10 25bp 5.00%
June '06 5.03% 5.03% 4.94% 6/28-29 na na
July '06 5.14% 5.16% 5.00% No Meet. na na
Aug. '06 5.21% 5.22% 5.02% 8/8 na na
Sep. '06 5.24% 5.25% -- 9/20 na na
Oct. '06 5.25% 5.27% -- 10/24 na na
--------------------------------------------------
* Nevertheless, the dollar's behavior is driving what will or will not happen on the Fed-administered rate front as much as anything else right now, although the central bank dare not be too public in talking about it. Moreover, my near-term prognosis for the dollar is not favorable, so what happens here, on balance, over the next few weeks will have a major impact on what the FOMC does and says at its next meeting at the end of June.
* In addition, the stock people either are insufficiently schooled in this area or they simply and conveniently neglect recognizing that there are two sets of interest rates: the one the Fed controls directly, and the set determined by supply and demand in the open market. Over longer periods, the second set is exceptionally important. (As an aside, have you ever seen or touched a federal fund, no less ever borrowed one at its own, very special, contrived rate?)
* My own view is that the recent rally in longer-dated, fixed-rate debt obligations priced in the open market is about over -- in fact, probably is over. The last edition of "Market Thoughts" (#21, dated 5/23) made the following observation:
"In early trading yesterday, the yield on the 10-year note fell to 5.00%, maybe even a touch lower... while the yield on the 30-year bond was down to 5.09%... For investors looking to reduce exposure to longer-dated maturities, I suspect sales of both the 10-year and 30-year at around current respective levels will look just fine in the weeks ahead."
Versus their respective recent lows yields, the 10-year T-Note and 30-year T-Bond are up about five and seven basis points. I suspect this is the beginning of a considerably bigger rise.
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TREASURY YIELD CURVE AS OF 05/26/06
-------------------------------------------------
90-Day 2-Yr. 5-Yr. 10-Yr. 30-Yr.
Date Bill* Note Note Note Bond
-------------------------------------------------
05/26/06 4.82% 4.94% 4.94% 5.05% 5.16%
05/19/06 4.81% 4.96% 4.96% 5.06% 5.14%
12/31/05 4.08% 4.40% 4.35% 4.39% 4.54%
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BASIS-POINT CHANGE TO 05/26/06 FROM:
-------------------------------------------------
05/19/06 1 -2 -2 -1 2
12/31/05 74 54 59 66 62
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YIELD-SPREAD DIFFERENTIALS
-------------------------------------------------
90D-> 02Y-> 05Y-> 10Y-> 90D->
02Y 05Y 10Y 30Y 30Y
---------------------------------
05/26/06 12 0 11 11 34
05/19/06 15 0 10 8 33
12/31/05 32 -5 4 15 46
-------------------------------------------------
*Coupon-equivalent yield.
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The Dollar
* The US dollar is in what I believe to be a major decline. Employing the Dollar Index as a proxy, the greenback's recent rally, albeit modest considering the magnitude of decline to date, has been sufficient to modify the negative slope enough to set up a new leg of the decline. Notwithstanding the appointment of Hank Paulson as Treasury secretary, the dollar's immediate objective is a decisive lower low, something, say, in the general area of 83.25 to 83.50.
* In deference to Don Evans, Hank Paulson, currently co-chair of Goldman Sachs, is clearly a much "heavier duty" choice to head Treasury than Don Evans would have been. (One of the earlier thoughts coming to mind for me was why would Paulson do this? What lies ahead of him with the dollar as well as with other matters is not likely to be pleasant.) The dollar's problems go far deeper than one person's ability to do much about them, no matter how talented the person. As it relates to Paulson's involvement in this area, I suspect it often will be one of crisis management. But is sure does bring back memories of one Robert Rubin, doesn't it?
* What will be of special interest over the immediate future is whether the Paulson news is capable of giving the dollar even a short touchy-good, feely-good period.
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U.S. DOLLAR INDEX - 2006 PERFORMANCE
--------------------------------------
Change From
$ Index -------------------
Date Close 03/10/06* 12/31/05
--------------------------------------
2006
05/26 85.17 -6.2% -6.6%
05/19 84.88 -6.6% -6.9%
05/12 83.88 -7.7% -8.0%
05/05 85.14 -6.3% -6.6%
04/28 86.10 -5.2% -5.6%
03/31 89.76 -1.2% -1.5%
03/10* 90.84 na -0.4%
02/24 90.56 na -0.7%
01/27 89.31 na -2.0%
======================================
2005
12/31 91.16 na na
--------------------------------------
*2006 end-of-week high.
--------------------------------------
Gold
* Not much today on gold, other than to say that the dollar's continuing loss(es) will accrue to the benefit of physical gold. If I am roughly correct in my timing on the dollar, then it is quite likely that spot gold's recent lows were the lows for a while. Conversely, that would create an objective for bullion of an upside test of the old highs (very general area of $700 to $725) in rather short order.
The Stock Market
* If there really were such a body known casually as the "Plunge Protection Team," which had the Treasury secretary as one of its members, then, if you were President, with your Presidency in more than a modicum of doo-doo at the moment, and you knew it was in your best political interest to have the stock market "managed" a little from time to time, it might not be a bad idea to have an ultra-powerful Wall Street insider as your Treasury secretary, right?
* A summary of my March 20th sell recommendation follows. In retrospect, I remain more than pleased with having taken this action, as well as with how, on balance, the situation has subsequently turned out. Hank Paulson not withstanding, I would do it all over again, every bit as emphatically, because I continue to believe stocks are heading for much lower levels -- no matter who is Treasury secretary!
-------------------------------------
SUMMARY OF GRA STOCK-MARKET SELL
RECOMMENDATION ISSUED ON 03/20/06
-------------------------------------
Change from 03/20/06
As Of ----------------------------
Week NASDAQ S&P
Ended DJIA 100 500 Average
-------------------------------------
2006
05/26 +0.0% -4.8% -2.0% -2.3%
05/19 -1.2% -5.1% -3.0% -3.1%
05/12 0.9% -3.0% -1.1% -1.1%
05/05 2.7% 1.6% 1.5% 1.9%
04/28 0.8% 0.8% 0.4% 0.7%
04/21 0.6% 1.3% 0.4% 0.8%
04/14 -1.2% 1.5% -1.3% -0.3%
04/07 -1.4% 2.1% -0.8% -0.0%
03/31 -1.5% 1.0% -0.8% -0.4%
------------------------------------
03/20* 11275 1687 1306 --
------------------------------------
*Respective levels at time
of sell recommendation.
------------------------------------
* I thought Wall Street would try and would succeed at using the GDP revisions out last Thursday morning to stabilize and rally the stock market. It did, and so far, so good. However, that report was merely a catalyst ("excuse" may actually be a better description). The report did what it needed to do -- last week!
* Technically speaking, stocks were exceptionally oversold at the time, but the gains of late last week did help alleviate this condition somewhat. More important, though, is those gains helped create some additional parameters by which to measure rallies and sell-offs. Following is a table I use frequently, but with an important modification to it:
-----------------------------------------------------------------
SELECTED STOCK-MARKET MEASURES
(GRA Seven-Measure "Tracking
Group," Listed by Week's Returns)
-----------------------------------------------------------------
05/26 From
-------------
05/26 Week Most Most Most Recent Most Recent
2006 Ended Recent Recent 2006 Bottom* 2006 Top*
Close 05/26 Bottom Top Close/Date Close/Date
===== ===== ====== ====== ============ ============
DJIA 11279 1.2% 1.6% -3.1% 11098 05/23 11643 05/10
Russ. 2000 730 1.0% 2.7% -6.6% 711 05/24 782 05/08
S&P 500 1280 1.0% 1.8% -3.5% 1257 05/23 1326 05/05
Wilsh. 5000 12933 1.0% 1.9% -3.9% 12690 05/23 13457 05/09
NYSE Comp. 8241 0.8% 2.2% -4.7% 8063 05/24 8647 05/09
Value Line (G) 431 0.5% 1.9% -5.7% 423 05/24 457 05/08
NASDAQ 100 1607 0.3% 2.4% -8.6% 1569 05/23 1758 01/11
-----------------------------------------------------------------
Average 0.8% 2.1% -5.2%
Median 1.0% 1.9% -4.7%
-----------------------------------------------------------------
*Measured using closing prices.
-----------------------------------------------------------------
* The modification is the "Most Recent 2006 Bottom" column. There is now enough headroom on the one side ("Most Recent Tops") to help in assessing a possible "failing rally." The other side provides levels against which to measure "successful retest" rallies or "new low" sell-offs.
* With Dow Jones now having calculated the industrial average's earnings for the March quarter, I decided to have another look at general valuation levels against my favorite decade for comparison purposes -- the 1950s. The latest results:
----------------------------------------------------------
DJIA VALUATIONS AND TREASURY YIELDS --
1950 THROUGH 1959, AND AS OF 05/26/06
----------------------------------------------------------
Treasury Yields@
DJIA Mkt./ ---------------------
As of Annual P-E Div. Book 10-Y
12/31 Ret.* Ratio Yield Ratio 90-D# 10-Y Recip.
----------------------------------------------------------
1950 17.6% 7.7 6.85% 1.21 1.35% na na
1951 14.4% 10.1 6.07% 1.33 1.74% na na
1952 8.4% 11.8 5.29% 1.37 2.10% na na
1953 -3.8% 10.3 5.73% 1.15 1.61% 2.59% 38.6
1954 44.0% 14.4 4.32% 1.62 1.15% 2.51% 39.8
1955 20.8% 13.7 4.42% 1.80 2.56% 2.96% 33.8
1956 2.3% 15.0 4.60% 1.75 3.24% 3.59% 27.9
1957 -12.8% 12.1 4.96% 1.46 3.06% 3.21% 31.2
1958 34.0% 20.9 3.43% 1.88 2.79% 3.86% 25.9
1959 16.4% 19.8 3.05% 2.00 4.54% 4.69% 21.3
----------------------------------------------------------
Avg. 14.1% 13.6 4.87% 1.56 2.41% 3.34% 31.2
Med. 15.4% 12.0 4.78% 1.54 2.33% 3.21% 31.2
----------------------------------------------------------
As of
05/26 [1] [2] [3] [4] [5] [5] [6]
2006 5.2% 19.8 2.25% 3.36 4.82% 5.05% 19.8
[7] 13.0% -- -- -- -- --
----------------------------------------------------------
*Price-only (excluding dividends). #Coupon-equiv-
alent yield. @Constant maturity, average of business
days in December of each year. [1]2006 year to date.
[2][3][4]Calculated on latest 52-week earnings and
dividends of $569.83 and $253.87, respectively, and
book value of $3359.70 (source: Barron's). [5]Actual
as of 5/26/06. [7]Annualized as of 5/26/06.
----------------------------------------------------------
* For the bullish camp, there is nothing in the above data from which to take comfort. That is why the bullish camp will never draw investor attention to those good, old days of the 1950s. But as I've opined before, the United States would be terribly fortunate, in many respects, to have as solid a decade in its future.
The final item for this sitting is "sentiment," and for this I will employ the CBOE data found in the table below.
* Recently, there have been moments exhibiting elevated amounts of fear, but nothing even approaching the out-and-out "terror" one would want to see in creating an important, lasting bottom. Which is one of the major reasons I don't believe an important, lasting bottom has been made. In addition, look how quickly even the fear dissipated.
* In a couple days, the VIX declines from a multi-year high of 19.87 -- not very high by historical standards -- to end last week at 14.26. This 5.61-point, 28.2% drop borders on remarkable, particularly when you couple it with an equity option put-call ratio of 0.47 on Friday.
My metaphorical bottom line: there's an exceptionally hungry, equally aggressive Great White cruising the area. Why, then, do all the people think it's safe to go back in the water?
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THE BEHAVIOR OF CBOE SENTIMENT-RELATED MEASURES
AND THE S&P 500 FROM 10/29/04 THROUGH 05/26/06
------------------------------------------------------
CBOE Options S&P 500
Date --------------- --------------------
or Put/Call Ratios Vs. 10/29/04
Week CBOE -------------------- Prior 1130.2 =
Ended VIX* All Equ. Ind. Tot.@ Close Week 100.00
------------------------------------------------------
2006
05/26 14.26 0.75 0.47 1.28 0.83 1280.2 1.0% 113.27
05/19 17.18 1.27 0.75 1.95 0.82 1267.0 -1.9% 112.10
05/12 14.19 1.27 0.72 2.10 0.83 1291.2 -2.6% 114.25
------------------------------------------------------
05/05H 11.62 0.82 0.46 1.72 0.83 1325.8 1.2% 117.31
------------------------------------------------------
04/28 11.59 0.87 0.62 1.69 0.83 1310.6 -0.1% 115.96
04/21 11.59 0.93 0.60 1.65 0.83 1311.3 1.7% 116.02
04/14 12.38 0.86 0.60 1.45 0.83 1289.1 -0.5% 114.06
04/07 12.26 0.91 0.58 1.83 0.83 1295.5 0.1% 114.63
03/31 11.39 0.83 0.61 1.68 0.82 1294.8 -0.6% 114.56
03/24 11.19 0.84 0.63 1.55 0.82 1303.0 -0.3% 115.29
03/17 12.12 0.79 0.61 1.05 0.83 1307.3 2.0% 115.67
03/10 11.85 0.87 0.53 2.02 0.81 1281.6 -0.4% 113.40
03/03 11.96 0.87 0.66 1.41 0.82 1287.2 -0.2% 113.89
02/24 11.46 0.93 0.64 2.07 0.82 1289.4 0.2% 114.09
02/17 12.01 0.83 0.51 1.36 0.81 1287.2 1.6% 113.89
02/10 12.87 0.68 0.86 0.57 0.82 1267.0 0.2% 112.10
02/03 12.96 1.08 0.70 2.50 0.83 1264.0 -1.5% 111.84
01/27 11.97 0.80 0.59 1.45 0.84 1283.7 1.8% 113.58
01/20 14.56 1.08 0.69 1.91 0.88 1261.5 -2.0% 111.62
01/13 11.23 0.78 0.59 1.64 0.87 1287.6 0.2% 113.93
01/06 11.00 0.68 0.58 0.87 0.86 1285.5 3.0% 113.74
======================================================
2005
12/30 12.07 0.80 0.50 1.39 0.86 1248.3 -1.6% 110.45
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VIX Highs and Lows (Including Intraday)
---------------------------------------
Year/
Week High Date Low Date
---------------------------------------
2006 19.87 05/24 10.53 03/14
-------------------------------
05/26 19.87 05/24 14.26 05/26
=======================================
2005 18.59 04/18 9.88 07/20
2004* 22.67 03/22 11.14 12/23
2003 41.16 03/12 14.83 12/15
2002 56.74 07/24 18.87 03/28
------------------------------------------------------
*New series, all of 2004 forward. @All
products. L-Lowest S&P close during 2005.
H-Highest S&P close during entire period.
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