Update 1:05 p.m.:
For the first couple of hours after the release of the European bank stress tests, the markets did virtually nothing. The results, warts and all, were as expected and sparked little buying or selling. Once that test was passed, U.S. stock traders apparently decided to push stocks higher to polish off an uncertain but good week. The Dow closed higher by 102 points, and the S&P managed to close back above 1100. For the week, the Dow was higher by roughly 300 points. For that you must say merci, danke, or grazie! As you recall, it was the rally in Europe yesterday that turned the market around.
Bond prices did close lower today as stocks rallied. The 2-year ended at .58%, the 5-year 1.72%, and the 10-year lost 13/32s to yield 2.99%. The 30-year bond dropped a point to yield 4.01%. Dealers said volume was light with trading accounts accounting for the selling.
In the Morning Comment I laid out the scheduled events for next week. Before the week begins, we’ll start Monday morning dealing with any big positive or negative reaction in European markets to the stress test news. Those markets were closed when the announcements were made. We wouldn’t expect anything significant given how the euro closed today, but you never know what might be said over the weekend.
After all of the ups and downs this year, amidst alternating soaring hopes and mounting fears, we find the market is back to unchanged for the year. I still can’t imagine this will go on this way the rest of the year, but it looks like something startling and irrefutable must happen for a lasting trend to take hold.
Update 9:25 a.m.:
The results are in now and only 7 of 91 banks technically "failed" the stress test. The ones named were already known as problem banks. The ECB estimates those banks would need to raise a total of $3.5 billion to be well capitalized. That number seems incredibly small, and some banking analysts have said the numbers from the ECB make no sense. There are also more questions about the leniency of the tests. But, the market doesn't seem to care about the details. The euro is steady at 1.285 vs. the dollar and the Dow is higher by 16 points.
I don't really know why such a big deal was made about these stress tests. The good banks in Europe have had no funding problems, and the few bad banks haven't been able to participate in the funding markets for some time and this won't change a thing.
Bond prices remain modestly lower. The 2-year is .57%, the 5-year 1.69%, and the 10-year is down 5/32s to yield 2.96%.
Update 9:10 a.m.:
The stress test results for European banks are slowly being released. There have been no big surprises, despite some of the early rumors in the market. Over the weekend there will be more analysis that could change the initial benign view, but the initial reaction is ho-hum. The most questionable element of the test was the fact that the ECB exempted all soverign debt holdings at the banks. The ECB says those weren't included because the EU would bail out any failures.
The euro is about where it was before the release at 1.285 vs. the dollar. The Dow is now higher by 5 points. The 2-year is .57%, the 5-year 1.69%, and the 10-year is lower by 5/32s to yield 2.96%.
I'll be back with updates, but the initial reaction is muted.
Update 7:45 a.m.:
It's going to be one of those days. Stocks were higher, then lower, then higher, then lower, then higher etc. All this based on speculation about something that isn't even U.S. based. (see below) The Dow is currently higher by 28 points.
Regarding the 9:00 a.m. PDT release in Europe of those stress tests, the release won't be a clean one or two headline report. Each European country will release its own set of reports on the domiciled banks. This will be messy.
The 2-year is .57%, the 5-year 1.69%, and the 10-year is down 4/32s to yield 2.95%. Bond trading activity is light, and dealers expect the bond market to simply follow stocks today.
Update 6:40 a.m.:
Instead of opening higher as futures indicated in earlier trading (see below), the Dow has opened down 30 points. What happened in those minutes before the open was that the euro started falling, and European stock indexes gave up all the early gains. This is all rumor-driven on those European bank stress tests. Some rumors have floated around that the results might not be as positive as expected. But, these are nothing but rumors.
What matters to the U.S. market today is that after those stress tests are released, our markets will be the only markets open. The European markets will all be closed. That means that if there are any big surprises in the test results, international traders will react to that in the U.S. market stocks. Volatility ahead.
Bond prices have recovered all the early losses. The 2-year is now .56%, the 5-year 1.67%, and the 10-year is now higher by 2/32s to yield 2.93%.
Morning Comment:
After yesterday’s big rally, Dow futures are pointing toward a modestly higher opening of +30. The results of those European bank stress tests are still ahead. Those results will begin to be released in Europe at 9:00 a.m. PDT time. As I mentioned yesterday, the tests are being looked at skeptically and everyone seems to know that most if not all the banks will pass, but the markets still have to play through this charade.
There are no economic releases today and there were no blockbuster earnings reported. Bullish traders are focused on putting a happy end to a turbulent week. As we head into next week, the earnings game will be pretty much played out. There are still a lot of earnings reports left to go, but the big names that represent the major sectors of the corporate world have reported.
Bond prices continue to retreat this morning as dealers say big trading accounts continue to take profits after the big run. The 2-year is .58%, the 5-year 1.71%, and the 10-year is down 12/32s to yield 2.98%. The 30-year bond is down 23/32s to yield 3.99%. Traders believe that a continuing stock rally will cause the 10-year note to back up to roughly 3.25-3.30% before “real” money buyers will come back in force.
What will begin next week is Countdown to Payrolls. Nonfarm payrolls will not be released until August 6, but the excessive build-up to that report will begin next week. But we will get plenty of data next week from the releases of New Home Sales, the Case-Shiller Home Price Index, Consumer Confidence, Durable Goods Orders, the Fed’s Beige Book, Weekly Jobless Claims, the Chicago ISM manufacturing index, and 2nd quarter GDP. That should give us enough to talk about next week. Although GDP is my least favorite economic report that I believe has the least meaning for current and future conditions, I know there will be a lot of interest in this report. The consensus is for a gain of 2.5%. If this report follows the pattern of the last couple of reports, the government will report a number higher than expected. Then, in the next two revisions in upcoming months, GDP will be revised downward to a number below the original expectation. But by then no one will notice.
We’ve all heard the old wisdom “Don’t look a gift horse in the mouth.” Well maybe sometimes it pays to take a very close look at that gift horse. For those home buyers who escalated their home buying plans to take advantage of the government’s $8,000 gift, they should have kicked the gift horse in the rear and sent it on its way. Mortgage rates are down roughly 75 basis points now from the March-April period during the home tax credit buying frenzy. On a $300,000 mortgage, that differential amounts to $12,000 in higher interest payments the first 5 years and $50,000 over the life of a 30-year mortgage. That’s worse than receiving socks for Christmas.
I’ll be back with updates, but look for volatility to increase just before and after the 9:00 a.m. stress releases.
Dwight Johnston
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