Market Analysis

Oceans of Uncertainty

With Dubai World’s problems fading from the headlines like the latest scandal in the tabloids, the markets began this past week by regaining the strength they gave away briefly in the face of Dubai’s announcement the prior week that it would skip its massive debt payment. By Tuesday evening, the Dow Jones Industrial Average had already put back on all the weight it had briefly lost, making its way to 10,471.58.

Though we had good economic data smiling on the real estate market—a strong Pending Home Sales Index and a report of stability in construction spending—Treasury securities began to rise slightly more in anticipation of Friday’s employment report for November than because of numbers already reported in other areas. Still, the Fed issued its beige book on Wednesday and it told a tale of continuing recovery, which gratified the markets but—since good news is bad news for interest rates—took interest rates a bit higher.

The DJIA fell 0.8% on Thursday and interest rates edged very slightly higher as investors awaited the employment news. What is important here, perhaps, is that more analysts expected the data either to look very much as it did last month, or to look worse. Many analysts wrote that a higher unemployment rate wouldn’t surprise them at all.

Thus, when the unemployment rate dropped from 10.2% to 10%, most analysts and investors were surprised—and surprise is what moves markets. The slimming down of job losses, from 190,000 in October to 11,000 in November, also took the markets by surprise.

Nonetheless, Friday’s gain on the DJIA after the announcement only amounted to 22 points, and the 10-year Treasury was only up about 11 basis points. This is extraordinary, given the relative strength of the employment news. What will it take to produce solid moves—up or down—in these indices?

So we moved from analysts’ declarations that this might be the turning point for employment and therefore the moment when the recovery becomes a solid reality…to yet another fading event on Wall Street.

Still, there were two major moves that did not fizzle at all. The dollar gained greatly on the employment data, as the world seemed to sense a stronger American recovery in the air, and the price of an ounce of gold plunged. As for the latter, many economists (whom I tend to respect) have been increasingly skeptical about the recent reverence for gold. The argument has been that gold has much further to climb because, adjusted for inflation, its price is well below the last peak in the 1980s. This reasoning does not convince them—or me. Gold may well continue to demonstrate weakness now, especially if our recovery continues to gain strength. It is well worth watching.

And strength in our recovery is what both of these indicators seem to suggest. They only tell a small part of the overall story, though. The spread between the 10-year note’s yield and the average 30-year mortgage rate has narrowed enough to make one suspect that the next move for mortgage rates is up. But the markets are telling us nothing very clearly. Best to wait a few days before hazarding a guess about where the markets will go next.

I would not, in any case, expect interest rates to decline at all significantly any time soon.

by: Bill Fisher