The Holbrook Weekly Wrap
March 11, 2016
The broad market indices continued their march off of the February 11th lows, as risk assets continued to rally higher.
· S&P 500 ↑ 1.11% to 2,022
· Nasdaq Composite ↑ .67% to 4,748
· Dow Jones ↑ 1.21% to 17,213
· West Texas Crude ↑ 10.64% $38.50
· Gold ↓ .9% $1,259
· Ten Year Treasury ↑ 12 bps to 1.98%
Much of the global rally came on Friday, a full day after the ECB lowered its deposit rate to -.4%. Other liquidity initiatives from the ECB included an expanded Quantitative Easing policy which is now €80 Billion per month and can include the purchase of investment grade corporate bonds. The European Central Bank will also fund Banking loan books at the -.4% rate, incentivizing them to lend as part of the four year TLTRO program.
ECB actions were interpreted by the market to be a decisive move against recent weak inflation data. Global bourses rallied on Thursday immediately following the announcement, only to reverse after Mario Draghi tempered future expectations, indicating that this current round of easing could potentially be the last. Currency markets were incredibly volatile in response, the Euro selling off almost two percent on Thursday, and then reversing and closing decisively higher relative to the dollar. Central Bank intervention by both the ECB and the BoJ have failed to weaken domestic currencies after the past two rate decisions, begging the question, do negative rates and Quantitative Easing have any economic benefits for their respective economies? The jury is out. Nevertheless, there has been a tangible effect on asset prices—the most recent market action being the latest evidence that risk assets thrive in response to QE. At least the ECB is directly incentivizing banks to lend through its TLTRO program, which enables lenders to access negative funding rates, without risking deposit outflows, or compressing Net Interest Margins. When the history books are written regarding New Age Monetary Intervention, I suspect that this is the one initiative that will not be regarded as an epic failure.
West Texas Crude continued its resurgence, in spite of a brief setback on Tuesday. Oil prices benefited from a sinking rig count in the United States, which is now lower than it has been in the last 75 years. Comments from the International Energy Agency (IEA) stated that there were signs that oil has bottomed, and a concomitant research piece from Goldman Sachs agreed. Oil finished the week up more that 10%, and is now more than 40% off of its February lows.
Economic data was light last week, and considerably overshadowed by the ECB meeting. Initial Jobless Claims continued to make new multi-decade lows. Small business optimism was weaker than expected, and wholesaler inventories grew more than expected. None of these releases seemed to move the markets as asset prices were more fixated on oil, and the ECB. One piece of data of note was the Federal Reserve’s Labor Market Conditions Index, which was released on Monday. It was weaker than expected, registering a minus 2.4 for February, and might be cited by Reserve Board members next week as a reason for maintaining the Fed Funds rate at .25%.
The corporate bond market continued its rebound, and adds further support that January and February recession fears were overblown. High yield spreads are 183 basis points off of their high water mark set last month. Further tightening of spreads will remove a potent recessionary arrow from the Bear Quiver, and will support the argument that the recent sell-off was isolated to the energy industry, magnified by illiquidity, and not a pernicious prognosis on the U.S. economy in its entirety.
In the middle of February, we posted a couple of articles citing that we believed the lows for 2016 in the S&P 500 and for treasury yields had already been hit. Our market call was based on technical indicators that had glaring positive divergences (RSI and breadth), and that we believed the market was pricing in systemic risks to the global banking system. We did not (and still do not) believe that the energy sector poses such a systemic risk, and insider buying in the money center banks reinforced our conviction. Since then, the ten-year treasury yield has increased 45 basis points to 1.98%. The S&P 500 has rallied 11.7% off of its intraday low on February 11th. Indices are overbought at these levels (at least in the short-term), however, the S&P 500 managed to close above its 200 day moving average on Friday—marking the first time it has done so this year. It has also breached the “fibonacci retracement levels of 1953, 1983, and 2019” that we referenced. Backing and filling is to be expected, however, we still believe that the lows for the year have already been achieved. The markets will likely test their highs over the next couple of months, and those levels will provide formidable resistance at a time when seasonality is not supportive of a breakout. I would not be surprised if indices fail at these levels, only to revisit them later in the year. Obviously, a breakout just prior-to or during the Summer months would be a colossal victory for the Bulls.
This article is distributed for informational purposes only and should not be considered investment advice or a recommendation of any particular security, strategy or investment product. It contains opinions of the author which are subject to change without notice. Forward looking statements, estimates, and other information contained herein are based upon proprietary and other sources. Information contained herein has been obtained from sources believed to be reliable, but are not assured as to accuracy. Past performance is not indicative of future results. There is neither representation nor warranty as to the current accuracy of, nor liability for, decisions based on such information.