This article is a guest contribution by David Rosenberg, Chief Market Economist, Gluskin Sheff.
MARKET COMMENT
Perhaps it wasn't unusual to see new home sales trail off in the aftermath of the expiry of the housing tax credits but the magnitude was very surprising. Moreover, since mortgage applications for new purchases through the first three weeks of June are a huge 15% below May’s tally, this massive slump in home sales is not exactly a one-month wonder either. New home prices are down 10% year-to-date and one has to wonder whether yesterday’s message in the post FOMC press statement was the first hint of an eventual return to quantitative easing.
As for the markets, everything seems to be bouncing off the 50-day moving average – the S&P 500, oil, and the U.S. dollar. The stock market is down 2% for the year in what looks to be a very important topping formation. That was not expected at the start of the year, that much is for sure.
The really big story is in the bond market. The yield on the 10-year T-note yield and the long bond, after yesterday’s rally, is down to levels that are below those prevailing when the Fed was busy building the firewall against deflation back in mid-2002. Back then, the Fed cut rates (75 basis points during that borderline double-dip), the government could cut taxes, and for good stimulative measure, go to war. And of course, we had Congress turn a blind eye towards the credit excesses that provided further juice with leverage ratios among Wall Street banks and the GSEs that ranged from 30% to 70%.
Look at what we have today: No room to cut rates. No room – let alone ideology – to cut taxes. And, in contrast to starting a new war, the U.S. is going to be pulling troops out of Afghanistan, which is a good thing for the troops and their families, but in terms of GDP impact it does represent fiscal withdrawal. The options to resuscitate the economy when it – no longer an if – enters a 2002-03 style growth collapse are extremely thin. And, they probably lie on the Fed’s balance sheet, which means the bond-bullion barbell will likely remain a viable strategy.
