By Barbara Cohen
Chief Information Officer
At the beginning of this last week, the Market was flying again, perhaps because Wednesday was the 4th of July. Perhaps because they knew that on Friday the unemployment numbers were not going to be wonderful and would likely cause the Market to come back down. Taking no chances, institutional traders ran the S&P 500 ran back up to 1374. By Thursday, the Dow had regained 12,955, looking as if it were going to break back above 13,000. Could the Market recover all it had lost in May? Well, Friday came and took the wind out of the Dow's sails, dropping the Dow back down to 12,778.
Despite the run of the Market throughout June and now July, what makes no sense is why U.S. Treasury Bonds and Notes continue flying higher. Traditionally, stocks and bonds/notes have what is known as "negative correlation." Negative correlation refers to a relationship between two Markets in which one Market’s increase is directly proportional to the other decreasing. In the case of stocks and bonds/notes, when the Stock Market rises, bonds/notes fall, and vice versa. When the Stock Market rises, investors feel that their return on investment is much better by purchasing stocks and securing dividends. But when the Stock Market falls, investors flee to bonds or notes as a safe haven.
What is so difficult to explain this week is why bonds/notes did not retreat, while the Stock Market was flying up because the bonds and notes stayed flat. They did not rise, but they did NOT fall as expected. In fact, by Friday, the 10-year Note had exceeded 134.
So what does this show you?
Why are investors flocking to treasury bonds and notes when the Market is making a strong recovery? What makes this especially confusing is that right now the yield on the 10-year note is just 1.54, so why would anyone run to buy Treasury Notes with almost no yield?
Another anomaly is this preference while the U.S. economy is not displaying a significant recovery. The unemployment number at 8.2% showed no improvement from last month. In fact, actual new jobs created was only 84,000. April's job gains were revised down to 68,000 from 77,000 and discouraged job seekers including those who can't find full-time work and the unemployed looks like 14.9%. The only plus side was that the temporary workers number rose by 25,000, but again those are temporary jobs.
Now add to this the fact that June saw weak retail sales and the manufacturing sector contract. Both ISM Manufacturing and ISM Non-Manufacturing numbers were lower than forecast. And as the third quarter gets underway, U.S. GDP is forecast to have slowed to 1.9%.
And yet, with all the difficulty the U.S. economy is having, the Dollar Index has not fallen. On Friday, the Euro fell once again against the Dollar to close at 1.2283 with the DX closing above 83 at 83.495, nearly the highest in 2 years.
Given that institutional investors are more likely to invest in US Treasury Bonds and Notes over retail customers, it is clear that they have been buying these treasuries quietly, behind-the-scenes, while the Market has been running back up.
Third quarter reporting is about to begin on Monday, with Alcoa (AA) reporting after the Market closes. The aluminum producer is only forecast to post 5 cents earnings per share, down from 32 cents one year ago. Unfortunately, Alcoa, having become the worst performer in the Dow Jones Industrial Average, down 46%, it is still looked upon as a bell weather for the rest of earnings season.
Alcoa is not the only (stock) question on everyone's mind as earnings season begins. On Friday, JP Morgan (JPM) is set to report. Already the $2 billion loss has grown to closer to $4-6 billion. How will this affect its quarterly earnings? Add to that the fact that J.P Morgan, like Barclays Plc (BCS), is under investigation for rigging the London interbank offered rate. Barclays paid $452 million fine and their CEO resigned. How much will JP Morgan pay if similar charges are substantiated? And this time, will Jaime Daimon's job as CEO be ended?
If Alcoa and JP Morgan do not report well, this could be why institutional customers have been quietly buying up U.S. Treasuries behind the scenes and sending the Dollar Index to its highest in 2 years?
In a few days, we'll all know what's really going on.