Friday, December 15, 2006

Bonds Spinning In Place

The Fed told us to relax, watch the data mix and reevaluate in six weeks. The market, doing its reflexive best, reacts to every bit of data as a new trend even, at times, a new business cycle. Sometimes the market travels to several different cycles in one day.

The only one position to take with some confidence, and the one the market keeps drifting back to, is what we call the "Poole Scenario" (see table below). Basically it has the Fed easing some 25 to 50 basis points by the middle of next year because growth has slowed enough for long enough to reduce inflation risk. It will either be that or on hold (Unless the data suggest a too weak economy and then we get the ease in January. No ease in January and you can kiss the recession scenario goodbye.) The shift in pricing to Poole means about a 15bp rise in 2 year yields. Fed keeps the funds rates at 5.25%, 40 odd basis point rise in the yield on a 2-year Treasury. Small shift to a tightening bias for midyear (my personal favorite) and 2 year yield rises 52bps.

You pay your money and take your chances. Understand the risk and you can better evaluate the expected return.

As of day's end Friday, the market is giving only a cumulative 16% chance of an ease by Mar and then builds to certainty for the first 25bp cut at the Jun 28 meeting. At the edge of the Poole.

The street economists who gave us consumer calamity for 06 are, being a shameless bunch, still out there pitching doom and gloom or at least a weaker forecast than the Fed's. Like a stopped clock they will eventually be right, but not anytime soon. Certainly not as long as credit remains as plentiful as it is.


Paolo Pezzutti said...

I like your blog and I wish you posted more often

Steve Blitz said...

Thanks for the kind words. I have been taking a bit of a holiday break. Not much has happened since Dec 15. If the Fed doesn't ease in January, forget about a recession or at least a "too slow growth ease". Will post next week. In the meantime, have a happy and healthy new year.

Anonymous said...

Market has more steam, the huge accumulation in the Nasdaq has shown strength. Institutional selling, distribution has not been seen. We only have 1 distribution day in both the Nasdaq and S&P 500 in the past 4 weeks. There are winners to be had before breaking to the short side. Do not get caught up the negativity about this market. The market will tell us when it is right to short.

Market Speculator

Paolo Pezzutti said...

anything new in your opinion on the interest rates side?