Thursday February 4

Stocks managed slight gains in spite of further declines in oil prices. The S&P gained 0.2% to 1,915 and the Dow Jones added 0.5% to 16,416. Stocks once again rose today on expectations that the Fed will be hesitant in further raising interest rates which has led to a weaker US dollar. The US dollar fell 0.9% against both the euro and the Japanese yen to $1.1201 and Y116.80 respectively. The broader dollar index fell 0.7% to the lowest level since October. The recent slide for the dollar is a positive development for US equities, since investors and corporations have recently expressed concerns about the effects of the strong USD on earnings. This may not be a sustainable trend as foreign central banks such as the ECB and the BoJ are very committed to easing. In spite of an early rally, oil prices fell late in the session. Both Brent and WTI fell 1.7% to $34.46 and $31.73 respectively. Gold prices have rallied this week as a result of the weaker dollar. US yields continued to fall along with expectations about the Fed. The 10 year Treasury fell 2 basis points to 1.86% and the 2 year fell 1 basis point to 0.71%. Yields in the UK as well as the British pound were more or less flat even though the MPC took a dovish stance.

The market is significantly pricing down the possibility that the Fed will stick to its plan of four rate hikes this year. Global turmoil, monetary policy divergence, and subdued inflationary pressures have led investors to believe that the Fed will be hesitant. Investment banks such as Credit Suisse, Goldman Sachs, and JP Morgan have revised their estimates for when the Fed will next raise rates. Similarly market based gauges for inflation expectations such as the breakeven rate and the 5y5y future rate have both fallen significantly. This is relevant because expected inflation is a large factor in what in fact turns into actual inflation. These strong statements from markets come even as the Fed last week indicated that it may be too early to tell the effect of global pressures on the US economy. The Fed walks a tight rope in implementing policies that won’t surprise or act as a shock to markets, but at the same time not letting financial market forces drive the policy. According to the market for Fed funds futures investors see just a 10% chance that the Fed will raise rates in March at the next meeting. This is down from 60% at the beginning of the year. Expectations for meetings even further in the future are similarly being shifted downwards.

Treasury yields falling notably over the last few weeks to levels not seen October, and in addition to market forces driving down yields, the Treasury has announced that the issuance of long term debt would decrease in the future. This announcement puts downward pressure on long term yields, as the supply of such bonds will be decreased. This factor, in addition to the widespread risk off atmosphere in global markets, has contributed to the Treasury yield that is below 1.90% and trending downwards. According to the Treasury as a result of the falling US deficit there will be a reduction of $18bn in Treasuries maturing in five plus years in the first quarter of this year. Many hedge funds and asset managers at the onset of this year placed bets that interest rates would rise as the Fed began its tightening cycle. Now given market conditions analysts are expecting that there may be a short squeeze, which would put further downward pressure on yields.

The Swedish Riksbank marks another central bank that is on the brink of further expanding unorthodox monetary policy rates. Interest rates in Sweden have been negative for a year now, however inflation still remains low. As a result, according to Riksbank officials interest rates that are further negative, expanded quantitative easing, as well as intervention in the currency market are all viable options. This once again reflects central banks competitively easing with one another in order to depreciate currencies which is an inflationary pressure. So far this trend has not been beneficial for any one country. Other central banks with similar challenges that have imposed negative interest rates include the ECB, the BoJ, the SNB, and Denmark. Negative rates are intended to incentivize banks to lend, and to disincentivize foreign investors from bringing money into the country. This unorthodox monetary policy may be contributing to asset price bubbles, and in Sweden home prices have risen 20% in the last year alone.

Thursday February 4

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