Perverse Dollar Trade Sends Stocks South

The US Dollar was stronger against most world currencies on Thursday. Stocks fell.

If that sounds odd to you, it should. The normal relationship of a strong dollar to strong stocks has been undercut in recent days as the new carry trade of borrowing cheap dollars and investing in risky equities has produced one of the more remarkable rallies of the past 100 years.

Sadly, it cannot continue. Eventually, days like today, when the dollar strengthens and stocks are obliterated as traders are forced to liquidate out of positions, will proliferate, killing the stock market rally. Either that, or, stocks continue to climb while we kill the dollar. Today's trading may have been illustrative in just how perverse and destructive the inverse relationship has become. One way or another, somebody's got to lose, when the truth is that a stronger dollar should encourage more investment in stocks and US companies, rather than the reverse.

There's a bit of illogic to this trade, so excuse me for thinking out loud here. If it's true that many of the hedge funds are already out of this market, then today's trade would not have occurred. There would have been honest bets on stocks, not liquidity-driven hedge-type activity. So, that argument is probably full of large holes.

Then there's the idea of trillions on the sidelines - some say as much as $3 trillion invested in money market funds, some more in bond funds and plenty in cash. Just because those people don't want to engage in the high risk of equities, it does not necessarily follow that they'll want to jump in when stocks are cheaper. Were that the case, they had ample opportunity back in the Winter of 2009-10. So, toss that rationale.

What makes sense is that the dollar will continue to weaken until the Fed signals that they're going to begin raising interest rates. Estimates of when that might happen range from June 2010 to some time in 2011. What's certain is that the Fed cannot keep rates at "near-zero" for much longer. Other nations have already begun raising interest rates - Australia and Norway to name two - while more are hinting at doing the same. When the Fed decides to begin raising rates the dollar will stop sliding against other currencies. It will actually begin gaining when our blessed federal government decides to start acting like adults and do something about the enormous deficits they are running.

Both of those events - Fed tightening and government responsibility - are inevitably tied to politics, and, with mid-term elections upcoming in less than a year, there's a good bet that there will be action by then, in fact, 4-6 months before the elections. So, June sounds like the right time for the Fed to boost 25 basis points, maybe even 50. It's also likely that the federal budgeting process will begin sounding more Republican, even though it will be dominated by Democrats.

So, where does that leave stocks? Little changed until then. The bull market remains intact, the carry trade goes on for a few more months, because, as the market is the ultimate discounting mechanism, the Fed moves will be baked in long before they actually occur. The rally should run nicely through January, and even into Spring, with a small respite during the summer and glorioski! another rally just in time for the election!

That's one way to play it. Ignore all the talk and chatter about the carry trade, weaker dollar, etc. and focus on good companies making money. Sooner or later, fundamentals will be your friend, and, by all indications, they're not too bad right now. A year from now, the crash of 2008 will be a fast-fading memory.

Dow 10,332.44, -93.87 (0.90%)
NASDAQ 2,156.82, -36.32 (1.66%)
S&P 500 1,094.90, -14.90 (1.34%)
NYSE Composite 7,117.64, -109.07 (1.51%)

Today's final numbers could have been much worse. The dollar actually weakened throughout the session, and stocks pared their losses after 10:30 am. The Dow was down 170 in the early going and gained much of that back by the closing bell. At the end, declining issues outnumbered advancing ones, 5210-1381, or nearly 4:1. It was one of the more lopsided days in recent memory, though hardly a rally-killer. It should be noted that options expire tomorrow, so much of the trading had to do with gains and losses on option trades. There were only 108 new highs, as compared to 67 new lows. The indication is that stocks are weak, though this measure cannot be trusted on a one-day move. We'll need more evidence that the bears have control before changing strategy, which remains bullish with a target of 10700 on the Dow by year end.

NYSE Volume 4,909,767,500
NASDAQ Volume 2,148,559,000

Commodities would be expected to take a hit, especially oil, which fell by $2.12, to $77.46, but gold actually rose $1.00, to $1,142.20. Silver gained 5 cents, to $18.46 per ounce. The precious metals markets have shown a recent trend away from the dollar trade. They can now be considered almost anti-currency, as they act as a hedge against all fiat (paper-based) currencies, which just happens to be everywhere in the world.

Other then the dollar movement, there was a little bit of news that might have moved markets so severely. Tim Geithner testified to the committee looking into financial reform, and any time Timmy opens his mouth in congress, it's usually a bad thing. A couple of members actually think he should resign. Not surprisingly, most of those requests for Mr.Geithner to step aside came from Republicans.

Early in the day, the entire world was reminded that bureaucracies seldom function perfectly, as air traffic across the nation was grounded due to an FAA "glitch."

Unemployment claims data was benign, and the week come to an end with no important economic data due out on Friday, and just 35 days until Christmas.

Leading Indicators for October were down slightly, while the Philadelphia Fed index was up. We have reached what is known as an inflection point.

After the bell, Dell (DELL) announced 3rd quarter results below expectations. The stock was trading down about a point, or 6.5% in after-hours activity. Gap Stores (GPS) reported a 25% improvement in profits, but the stock was being sold off after-hours, down about 1/2 a point, or 2.5%. Shares of the retailer, which includes GAP stores and Old Navy, have more thn doubled since their lows in March.

Some Relief for Small Business

After the near-collapse of the entire global banking system last fall (yes, it really was that close to the edge), many changes have occurred in the realm of finance, especially in the area of small business lines of credit. It's now tougher than ever for small businesses to get start-up loans, much less maintain adequate lines of credit with which to operate going concerns.

The big banks don't want to know about risky loans, since they almost went belly-up themselves just months ago because they took on more risk than they should have. Now, Citibank, JP Morgan Chase, Bank of America and Wells Fargo are still standing thanks to taxpayer-funded bailouts, but there are thousands of small businesses littered across the vast tapestry of the American financial landscape that are close to the edge or already insolvent due to the carnage from the economic tsunami.

Now that CIT, one of the large "factoring" lenders has fallen into bankruptcy, there is a need for more emergency loan lenders to handle the ongoing needs of American small business.

Many small business-people are looking forward to passage of the Business Emergency Loan Relief Act, recently introduced in the Senate by Ohio's Sherrod Brown, which would temporarily raise the SBA 7(a) loan size from $2 million to $5 million, the 504 loan size from $1.5 million to $4 million, and the ARC loan size from $35,000 to $50,000. The bill also temporarily allows customers to use the 504 loan guarantees to refinance existing business debt, which would help small businesses address cash flow issues.

The bill was introduced by the Ohio Senator in an effort to ease some of the financial pain currently plaguing American small business.

Markets Lower, But Not By Much

Once again, US equity markets showed incredible resiliency, closing with tiny losses in the face of dour economic news and a sputtering trading regimen.

With options expiration just two days away, stocks skidded close to support levels, but by the end of the day had recovered most of the lost ground and finished with modest losses.

The biggest news of the day was threefold: Warren Buffett and Goldman Sachs announced a $500 million initiative for lending to small businesses; American Express (AXP) Announced the purchase of AOL founder Ted Case's Revolution Money, a PayPal competitor; and October housing starts fell 10.6% from September and 30.6% from a year ago.

All of that news hit the street before the opening bell, the slack housing data contributing to an overall slide right out of the gate.

Dow 10,426.31, -11.11 (0.11%)
NASDAQ 2,193.14, -10.64 (0.48%)
S&P 500 1,109.80, -0.52 (0.05%)
NYSE Composite 7,226.71, -7.35 (0.10%)

By the end of the day, however, stocks stood just below where they had at the end of Monday. For the full session, declining issues beat advancers, 3716-2726. New highs beat new lows, 324-67. Volume was, as has been the case since Spring, weak.

NYSE Volume 4,902,849,500
NASDAQ Volume 1,951,870,250

Oil finished higher, up 44 cents, at $79.58. Gold rose $1.90, to $1,141.30, but was up over $1,151.00, a new record. Silver continued to ascend, up just 3 cents, to $18.42.

Trades will continue to be pushed along by the usual suspects: the US Dollar and options expiration, though the latter may not have much impact after mid-day tomorrow.

Logic-Defying Market Clambers Over Dollar, Data, Higher

The dollar was stronger against the Euro and the Pound.

Didn't matter.

Capacity Utilization was flat. Retailers warned of softer holiday season. The Fed was out jawboning about the dollar, bubbles and overpriced markets. More stocks closed lower than higher.

Didn't matter.

Industrial production was lower than expected and the PPI was also up less than anticipated.

None of this mattered to a market that only knows one direction presently. Up. Up. And up some more.

All of the major indices, except the NYSE Composite, closed at new 13-month highs on the day. The moves were made despite Home Depot (HD) and retailer Target (TGT) reporting earnings, warning about a slow holiday season and finishing lower. It's a market right out of a bad horror flick, that refuses to obey, refuses to die. It's the Energizer Bunny in disguise. It keeps going and going and going. There's hardly any reason to report on it, except to tell that it's up once again, or to analyze it, because any technical or fundamental analysis will be proven wrong within a session of two. It's not that one should be upset that stocks are going up, rather, to the contrary. It's just that one would like to see some rationale for the movement.

Dow 10,437.42, +30.46 (0.29%)
NASDAQ 2,203.78, +5.93 (0.27%)
S&P 500 1,110.31, +1.01 (0.09%)
NYSE Composite 7,234.06, -3.04 (0.04%)

Losers beat winners, 3502-2921. New highs were ahead of new lows, 378-72. There was no volume of which to speak. It was the weakest day, volume-wise, in the last two weeks.

NYSE Volume 4,423,809,500
NASDAQ Volume 1,837,747,125

Commodities, despite the dollar stronger against most foreign currencies, mostly finished with gains. Oil closed up 24 cents, to $79.14. Gold finished unchanged at $1,139.20, while silver slid 3 cents to $18.37.

Most of the trade today, as it likely will tomorrow, had more to do with options expiration than anything else. Anything that could have moved the market would have moved it lower. Obviously, nobody was paying any attention to the normal forces at play. This market is about as tricky to play as any ever seen. Many, who have made their money in the earlier run-up, are already out, which may be the best idea of all.

All Major Indices At YTD Highs

Each of the major indices - the Dow Jones Industrials, Dow Jones Transports, S&P 500, NASDAQ and NYSE Composite closed today at highs for the year. For all of the indices, these are new 52-week highs as well, as the markets continue to recover from the financial meltdown of last fall.

Of particular interest to traders were the gains on the S&P and Dow Jones Transports - especially the latter, which confirmed new highs on the Industrials, to the delight of the Dow theorists. The S&P closed above the magical 1100 mark, which for many has been viewed as an impenetrable line of resistance. The S&P had failed in three prior attempts to close above that figure.

Stocks were once again buoyed by what's become known as the "risk trade", playing the weak dollar, which works in inverse relationship to stocks. The buck was bashed again; stocks flew. It's that simple.

There were a couple of hiccups which were worth noting. Around 12:00 noon, when Fed Chairman Ben Bernanke's remarks to the Economic Club of New York were released, stocks took a bit of a nosedive on the chairman's comment that the Fed had tools available to promote the US dollar, and again, right after 3:00 pm, when Meredith Whitney announced on CNBC hat she hasn't been "this bearish in a year," and viewed stocks as overvalued, with prices unrelated to fundamentals. Both times the markets dipped, then quickly recovered, but it may be notable that the indices did close off their highs for the day, with some serious tape-painting occurring at right before the final bell. In the case of the DJ Transports, the index finished the day at 1046.50, just a point above the previous high (October 20, 4055.11), hardly a ringing endorsement.

While nobody can deny anything the Fed chairman said, nor, for that matter, Whitney's views on the market, the trade is still based on a fundamentally flawed equation: that of a cheaper dollar making stocks worth more. The disconnect between a cheaper dollar and rising stocks is alarming because, while the lower dollar makes US exports more affordable overseas, it also has the relative effect of higher import prices which will no doubt negatively affect a working population that continues to see its standard of living in decline - again, one of the effects of the drooping dollar.

So, it's entirely possible that the Fed can be right, meredith Whitney can be right, but stocks will continue to go higher regardless, all due to the inverse US dollar - US equities trade.

With a number of key economic reports due out tomorrow before the opening bell, including PPI, TIC outflows and capacity utilization, trader's hope is that the numbers are overall negative toward the US economy, because that would once again slam the greenback and make stocks move higher. It's one of the most perverse trades ever seen, though after the financial implosion of 2008 and the Madoff rip-off, anything that works is simply tolerated and played until it no longer works.

Dow 10,406.96, +136.49 (1.33%)
NASDAQ 2,197.85, +29.97 (1.38%)
S&P 500 1,109.30, +15.82 (1.45%)
NYSE Composite 7,237.10, +117.21 (1.65%

Advancing issues, as expected, far outdistanced decliners, 5156-1410. New highs pounded new lows, 688-96. Volume, however, was again on the anemic side.

NYSE Volume 5,300,401,500
NASDAQ Volume 2,050,422,375

Commodities also took advantage of the weaker greenback. Oil gained $2.55, to $78.90. Gold shot to new records, up $22.70, to $1,139.40, and silver finally took off, adding $1.03, to $18.41, a record close for 2009.