Wednesday June 28

Stock prices rose today approaching record highs after a busy day for central bankers in Europe, the UK, and Canada. The S&P 500 rose 0.9% to 2,440 while the Dow Jones added 0.7% to 21,454. The KBW Bank index rose rose 1.7% while utilities lost 1%. The EIA Petroleum Status report showed that crude oil inventories today rose 100k barrels last week compared to estimates which have called for a decline. However traders looked bullishly on data that showed that gasoline inventories drew down by far more than expected. Members of the ECB tried to backtrack after comments made yesterday led investors to believe that the ECB may soon shift to a tightening bias. In the UK Mark Carney said that if business sentiment and economic indicators continue to improve then he would vote to tighten policy. That puts him closer in line with Andy Haldane last week with his hawkish comments. In Canada as well the head of the central bank also made hawkish comments. In spite of that the 2 year Treasury yield fell 1bp to 1.36%. The 10 year Treasury yield rose 1bp to 2.22%. 2yr vs 10yr steepened to 0.87%. The dollar was weaker against peers as investors digested the central bank comments. USD fell 0.3% against EUR to $1.1379. USD fell less than 0.1% against JPY to Y112.27. USD fell 0.9% against GBP to $1.2929. Oil prices rose after the EIA data. WTI rose 1.3% to $44.83. Brent rose 1.6% to $47.41. That coupled with gains in financial in technology shares could have been driving sentiment in the equity market today.

The shift from active to passive investing has contributed to the stock market rally that has been seen this year. ETFs have been big buyers of US stocks as more and more investors put their money into passive investments. ETFs bought $98bn in stocks in the first quarter as other types of investors and market participants stepped away. Corporate share buybacks, which were common in recent years, have decreased and active managers have reported outflows in order to meet redemptions. Data from the Fed shows that ETFs own around 6% of the US stock market which is the highest portion on record. ETFs own nearly 6% of Microsoft shares and around 5.5% of the shares outstanding for Apple and Amazon. That is up from around 4% in 2012 for all three names. That could also be contributing to the recent trend of low volatility. As a larger and larger portion of stocks is held by ETFs, which do not frequently trade their holdings, volatility and quick price movements could be suppressed. The risk that some analysts cite is that ETF investors will all rush for the exits at the same time when volatility picks up, however that remains to be seen aside from some isolated cases.

Investors have reversed course somewhat after the initial reaction from Mario Draghi’s speech yesterday. The ECB’s vice president spoke in an interview with CNBC that was posted on the ECB’s website. In the interview the vice president said that he doesn’t see much difference between the speech yesterday that markets reacted to and the prior two speeches that Draghi has made. That had the effect of confusing investors and some of the movements in currency and fixed income markets reversed. The euro fell slightly as did government bond yields. This highlights a difference between the ECB and the Fed. The Fed seems to do a better job of painting a clear picture and making sure that its intentions are accurately telegraphed. The ECB on the other hand tends to leave investors confused and unsure more often which could hurt the transmission of monetary policy. As yields rose in Europe this morning however there was definitely a definitive cap to how high rates would go. Traders noted the presence of international institutional investors, particularly insurance companies in France and Japan who were waiting to buy the dip. That will put a cap on long term yields in spite of the uncertainty surrounding the future monetary policy.

For the first time since stress tests began in 2011 the Fed has approved of all 34 banks plans to return capital to shareholders. This marks a major turning point for the financial industry just as regulations are set to get less stringent in some ways. Already the tests were made easier for some banks, as only the largest and most complex financial firms were subjected to the qualitative portion of the test this year. The move is a welcome development for bank shareholders, as they will be able to receive payouts in the form of dividends and share buybacks. This year the expected capital payouts come out to close to 100% of expected earnings for the 12 month period, and for some firms such as Citi it is as high as 130% of expected earnings. For the group as a whole the payout as a percentage of earnings is up from around 65% last year. Banks have underperformed the broader market this year with an around 3% increase for the KBW Bank index compared to an 8% increase for the market broadly. That comes as political concerns and Washington as well as a flattening yield curve have weighed on share prices. Goldman Sachs and Morgan Stanley just barely passed the tests by a few tenths of a percentage point which suggests they are getting better at preparing for the tests.

Wednesday June 28

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