financial weather watch Archives - Page 21 of 24

How low can you go? Bond yields are going negative!

Negative interest rates are a fascinating topic for professional economists as well as the investing public. Using conventional wisdom, one would think that interest rates earned on investments are never less than zero because investors could just stuff their money under their mattresses for free.

Why would anyone want to pay for the privilege of owing a government bond? Generally nominal rates are positive but negative rates come at times of extreme fear, uncertainty and turmoil, with investors fleeing risk assets to perceived safer assets. We saw this in 2008 when Treasury bill auctions tipped into negative yields. The Treasury market saw this again several times in the weak recovery and as recently as September 2014 with T-bills dropping slightly into the red.

Where have all the (S&P 500) earnings gone?

In the short term, many factors can influence the direction of stock prices. We discussed central planners impacting the markets just last week. However over the long term, it's earnings that drive stock prices higher or lower. This is a simple concept to understand. If a company loses money year after year, it will struggle to stay in business. Not many people will choose to invest in a losing operation so the stock price will go down. On the other hand, if a company delivers consistent high levels of growth, it will attract many investors driving the stock price higher. This concept can also be applied to the broad market indices like the S&P 500. Therefore it makes sense to look at S&P 500 earnings estimates.

Show Me the Money: Where did the Fed’s QE money go?

Most people believe that when the stock market is going up, the economy must be doing well. The argument was generally true in the 20^th century. Now a days, things are different in the era of the New Normal. So far in the 21^st century, when both the bond and stock markets are cheering, the economy may actually be slowing or operating below trend.

What does Irving Fisher’s Equation of Exchange tell us about 2015?

Irving Fisher, who was one of the well-known economists of the early 1900’s, came up with the “Equation of Exchange” concept. In its time, it became a landmark theory and today, many people still consider the equation to be one of the most important theories of economics.

That equation was MV=PT to explain the key relationships as to how these variables interact with each other and the economy. M is the money supply. V is the velocity of money. Essentially this says how quickly the money supply is turned over. P is the price level. T is the aggregate transactions. So MV = PT means that the total transactions at the current price level is equal to the total money stock multiplied by how often it is turned over.

Follow the Loser: The Abnormal Behavior of Central Bankers

In sports, business or most avenues of life, people are encouraged to learn, imitate or follow the winners. In golf, we want to learn from Rory Mcllroy, Adam Scott or Phil Mickelson. In tennis, we want to emulate Novak Djokovic, Roger Federer or Rafael Nadal. To this motivational wisdom of following the winners, there is one exception, however. Central bankers seem to like to follow the loser.

Quantitative Easing (“QE”), creating money to buy bonds issued by the government, was first used by the Bank of Japan in the early part of the 2000’s. Japan was once known as the land of technological and engineering marvels, but more recently it has become known as one of the worst-managed economies in the world. The lost decades of the 1990’s/2000’s have extended into the 21st century, with subpar economic growth, Fukushima radiation out of control and a declining population amongst the list of negative trends.

Black Swan Watch: The Oil Bubble Bursts

Major bear markets are typically caused by sharply rising interest rates, declines in corporate profits, gross overvaluation and severe recessions. The Runnymede team is always diligently and systematically monitoring the standings of these critical variables.

The most challenging factors which we spend time thinking about and analyzing are “”Black Swan”” events. These rare and unpredictable events cause severe damage because of psychological biases that make people individually and collectively blind. One potential black swan in our sights is the US shale oil bubble bursting. This has appeared on our radar screens because of the crude oil crash over the last half year which has seen prices of crude oil fall from $107/barrel to just $46/barrel today. Needless to say, this is a large deviation which has laid witness to a 57% decline in the price of oil. So what are the possible implications for the US economy and the stock market?

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