Market Commentary

Where are we going?
June 25, 2010

Where are we going?  Treasury rates are approaching Lehman Brother lows.  Conversely anxiety is increasing, partially the result of falling treasury rates, soft data and intense volatility.

Can I make an argument the proverbial spring has coiled to tightly and an unexpected increase in activity is about to occur predicated by the fact that the economy is awash with excess liquidity?  M-3, the broadest measure of money supply, has been contracting for lack of bank lending, perhaps the result of regulatory fears.  Is this about to change, perhaps predicated by the passage of the financial reform bill that quantifies some of the unknowns?

Last week the Federal Reserve reported non financial companies have amassed a record $1.84 trillion.  Cash is now 11% of assets, a 60 year high.  Also as per the Federal Reserve excess bank reserves are around $1.05 trillion, nominally lower than the $1.1 trillion measured on April 30.  As written many times and as per the Federal Reserve excess bank reserves are historically $1 to $2 billion.

An obvious conclusion to make a lot of these excess funds has gravitated to treasuries.  A case can also be made monies are also gravitating to mortgages given their historical low yields and lack of supply, perhaps the result of regulatory oversight and slow housing sales.

What I find interesting and as per the CoStar Real Estate Consulting group, funds are also gravitating to commercial real estate.  I wrote at the beginning of the year that I did not think 2010 will be the disaster for commercial real estate as many were suggesting.  My logic was simple.  In every post WWII recession, commercial real estate values bottom and vacancies reach their apex six month into a recovery. 

As stated above and as per CoStar liquidity has now started to gravitate back into this market as evidenced by the decline in cap rates which is a measurement of risk

Inflation is defined as too much money chasing too few good fearing higher prices tomorrow.  I think most will agree the markets are extremely liquid; a massive amount of funds chasing too few deals as evidenced by low rates.

As questioned above, will there be an unexpected increase in activity because of this massive liquidity.   I place the odds around 50%.

Speaking of activity, durable goods orders for May were strong.  Non defense capital goods excluding aircraft posted a bigger than expected gain of 2.1% leaving them up 28.7% (annualized) over the last three months versus a rise of 15% for all of Q1.  All data points are suggesting sold growth in business investment in equipment for at least the next couple of quarters.

Yesterday’s jobless data was also positive.  The data is suggesting a large drop in the national unemployment rate to perhaps 9.4% to 9.5%.

Stocks declined modestly yesterday on Grecian debt concerns even as several high profile economists raised second quarter growth forecasts to 4%, perhaps the result of yesterday’s data and from corporate announcements stating sales have been greater than anticipated.  Equities were also spooked by the financial reform bill as some now fear it will be more draconian than feared.

Last night the foreign markets were down.  London was down 0.16%, Paris down 0.29%  and Frankfurt down 0.41%.  Japan was down 1.92% and Hang Sang down 0.21%.

The Dow should open nominally higher.  Early this morning lawmakers approve the most seeping overhaul of US financial regulation since the Depression. The impact will debated for years to come but at this juncture this unquantifed aspect is no quantified.  Human nature dictates we fear more of the unknown than the known.  The 10-year is up 1/32 to yield 3.313%.