I hope everyone is enjoying their summer as we only have a few weeks left until school and the Fall months begin. There has been high drama this month as the Bank of Japan triggered an unwind of a Yen-carry trade (when institutions take a loan out in Yen and buy US stocks/bonds) by raising interest rates 10bps to 0.25%. Not a big increase but the volatility that ensued demonstrates how much leverage can be created when central banks keep interest rates too low for far too long.
The S&P 500
You can see the effect on US stocks as we had a steep drop into Monday’s open with a rebound into the Friday close. It is very possible this was just an oversold bounce and we could continue falling net week, however, we should get an indication on direction early next week. If not, then it is likely we recapture new highs as we head into the Fed meeting on September 18th. So, a rally into the Fed is possible and would be a nice trade given some individual stocks have dropped over 20%.
The 10Yr Treasury Yield
I have been showing this chart in my posts for months as this pattern indicated a drop in yields and that finally happened this month. However, I think we still have some room to go down to 3.24% but for now it looks like we may rebound a bit higher before we turn lower. This unwind of the Yen carry trade also has many concerned about US growth and some economists are now calling for a 50bps rate cut next month.
Yield Curve
Looking at the shape of the yield curve below, it is now implying the Fed would cut rates down to 4% from the current rate of 5.5%. Notable is how the T-Bill curve (blue line) has shifted lower over the past few months and I think the Fed will follow this path which means 50bps by the end of the year.
It is going to get interesting in the coming weeks and I will be watching corporate credit spreads as one indicator of problems in the capital markets. If spreads blow out then the Fed will be more aggressive in lowering interest rates but we are not seeing that just yet.
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Paul J McCarthy III CFA
President, Kisco Capital
