Monday, November 27, 2006

Stocks push bonds higher

The Dow is getting hammered today and I think that's what's keeping the bond market above water. The 10-year was down 10 ticks earlier today on reports that the weekend sales were strong, but with the Dow down 160, bond have rallied and are now +5 ticks on the day. That's a 1/2 point turnaround.

Interesting that the bond market has performed so well the last two trading days given the dollar sell off. If inflation is defined as a decline in purchasing power, then a weaker dollar is synonymous with higher inflation. This is particularly true in the U.S., where such a large percentage of consumer goods are imported. Weaker dollar means the price of imported goods goes up.

A more technical way to look at a dollar sell-off is that storing capital in U.S. dollars has become less attractive. So for example if foreign interest rates are higher than U.S. rates, then investors may choose to invest overseas and enjoy the greater carry. Of course, if this were happening, then we'd still expect the bond market to decline, which isn't happening.

One realistic possibility is that investors are pulling money out of the U.S. stock market and investing it overseas. This seems plausible given the sharp sell-off in U.S. stocks today. But if that were happening, I'd expect European stocks to ourperform the U.S. over the last few days. That's not happening either. The FTSE, the CAC, and the DAX are all underperforming the DJIA since Wednesday. The Nikkei is a little better, but it isn't the yen that's been driving this recent move, its been the euro.

Anyway, I think there will be better entry points in the near future. I'm holding any cash I have until I see 4.65% on the 10-year.