Market Commentary

In my view participants in the various markets are still
February 22, 2010

In my view participants in the various markets are still eying each other in an attempt to discern the importance of the rare intermeeting change in the discount rate. Treasury prices were little changed Friday suggesting this increase is indeed only technical in nature and not a precursor to a broad based tightening in monetary policy.

However against this backdrop fed fund futures have now fully discounted at least one 25 basis points tightening by year end and the odds of a second about 50%.  This is a moderate change in prevailing sentiment for as recently as Wednesday conviction was low that such a change could indeed occur in 2010.

Stocks were also relatively quiet Friday with perhaps the underlying view that this action is an unexpected signal of strength suggesting the recovery is sustainable.

All in all last week was a volatile one for both stocks and bonds.  Will this volatility continue this week?  There are a slew of treasury auctions totaling $128 billion, data that is expected to be mixed and the  FRB Chairman’s Humphrey-Hawkins testimony where some believe will quell the rising worry the Fed is about to embark upon a traditional period of monetary tightening.  Against this backdrop I think yes but will also write all transition points are volatile.

Late last year I opined a change in monetary policy could potentially occur by mid February.   In my view such a change has indeed occurred as a change is a change. 

Where might fed fund close at year end?   If the jobless rate improves at the pace I think could occur and if growth maintains a 3% to 3.5% pace, I think the overnight rate could be around 1% to 1.5%.

To place this view into the proper perspective, the 25 year average of fed funds is around 5% thus suggesting a 1% rate or even 3% as stimulative. 

The consistency of this crisis is the velocity of change.  As little as two weeks ago few would have suggested a discount rate increase was imminent.

Last night the foreign markets were mixed. London was up 0.11%, Paris down 0.11% and Frankfurt down 0.16%.  Japan was up 2.74% and Hang Sang up 2.43%.

The Dow should open nominally higher on the belief that FRB Chairman Bernanke will tell Congress Wednesday that the Central Bank intends to keep interest rate low. The 10-year is off 7/32 to yield 4.72%.