By Louis S.
Barnes
This week an exercise in perspective, stocks versus bonds and mortgages, and
here versus over there.
In
a week with little new US data (apartments hot, single family not), bonds and
mortgages stayed the same — which is remarkable given the performance of
stocks. The 10-year T-note could not break below 2.00%, mortgages just under
4.00%, but unchanged all through October while the Dow rocketed 500 points in
the last two days.
These two markets usually trade opposite each other, stocks up on good economic
news, bonds down in price and up in yield, and vice-versa on bad news. Good
news should help corporate earnings and stocks, but any good news brings fear
to bonds that the Fed will do something awful.
I
have worked in or near credit markets for forty years, and like all colleagues
regard the stock market as cognitively impaired and bi-polar, heavily
overweighted to the manic side. Those people reciprocate, viewing us as
depressed and void of imagination. How could these two pathologies join minds
this week?
The first stock up-burst coincided with ECB chief Mario Draghi’s suggestion
that he would expand its QE and perhaps drive euro-zone rates more deeply
negative. The German 10-year fell in yield from 0.63% to 0.51%, pulling
downward on US 10s. Meanwhile stocks interpreted more central bank easing as
economic stimulus good for them. Then today, the People’s Bank of China cut by
surprise its overnight and reserve rates — more glee for stocks, but bonds
holding.
Who is right here? My bias declared, of course bonds are right, and stocks
don’t get it. In a normal world, big central bank stimulus would be good news
for stocks, but this world is not at all normal. Unprecedented, fantastic
stimulus by the ECB, PBOC, and BOJ has done nothing more than to hold up the
economic floor and to buy time.
Europe is caught in its own wire and trenches, the euro a proxy for the Western
Front in 1917. Germany profiteers and the weak cannot recover while the ECB
merely maintains the meat-grinder — a situation unique to Europe, but real
recovery impossible no matter what the ECB does.
China is different. It has hit its head on the ceiling of investment-led
growth, and reforms attempted in the last year have all backfired. On
Monday it reported Q3 growth slipping below its imaginary 7%, to 6.9%.
Other indicators suggest a far deeper slowdown: as of September, industrial
production is down 5.7% year-over-year, and fixed investment is off 6.8%.
More to the story: unadjusted for inflation, reported China growth was only
6.2%. China is in deflation, an upside-down adjuster. Factory prices have
fallen there for 43-straight months. As China in some desperation tries to keep
the machine going, it holds its export volume (down only 3.7% YTD) by predatory
pricing, exporting its deflation and unemployment to the world while
constricting its imports. Double damage.
Stocks misinterpret China stimulus even more than European. The weaker China
becomes internally, the more harm it can do to the rest of us. I do hope that
more people will understand that ongoing global economic mire has far more to
do with the rise of China and its misbehavior than the financial crisis.
Okay, if it’s that ugly, why didn’t bonds and mortgages do better instead of
just holding? Because of the great disconnect of our time: were it not for the
rest of the world’s self-entanglement, the US would be rocking. Fed-haters here
include automatically in their screeds: “The Fed’s stimulus has failed to
produce economic growth.” Horsefeathers. We have been growing so well that the
Fed fears overheating, its leadership dying for an excuse to lift off, and
might even be right.
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Take some credit. No, not the Fed — take
credit for US flexibility, and endurance of pain. We have recovered from the
Great Recession as nowhere else, our government dysfunctional throughout,
because we alone could inflict millions of foreclosures and job losses, adjust
and move forward. The rest of the world is politically and culturally stuck.
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