Investors Remain Uneasy Even As Equities Stabilize

There is an unease that continues to hang over the market. It is as if a shoe fell last week, and most investors seem to be waiting for the other shoe to drop. It is hard to imagine the kind of body blow that the equities took last week without some kind of follow through and knock-on effects.  

Moreover, the focus today on US CPI may prove for nought. The consensus view is that the rise in US average hourly earnings spurred inflation fears, a sell-off in US Treasuries, triggering the slide in stocks. Journalists and investors have put much weight in today’s CPI report. We think it is too much, but will be looking at how the market responds to the news as an important reflection of market psychology. 

Specifically, the 0.2% and 0.3% rise in the core and headline rates respectively will be unable to prevent the year-over-year rates from slipping lower, due to the larger rise in January 2017. We do look for US inflation to edge higher this year, but see it as beginning later in Q1 and running through early Q3.  

First, we note that the market appears to have nearly fully discounted the likelihood of a rate hike next month, has priced in about a 60% chance of follow-up hike in June. Second, as of Feb 6, speculators in the futures market had a record short 10-year Treasury position. The yield has not been below 2.805 this week and put in the recent high on Monday near 2.89%. The technical indicators favor consolidation or higher prices (lower yields).  Third, the S&P 500 closed higher yesterday for the third advancing session. It finished yesterday a hair above the 38.2% retracement of its swoon (~2662.65). The 50% retracement is a little below 2703.  

The MSCI Asia Pacific Index rose 0.3%, but it was dragged down by the heaviness of Japanese stocks. The Topix fell 0.8% and is now at a four-month low. Excluding Japan, the MSCI Asia Pacific Index was up 0.9%. We note that foreign interest has returned to South Korean equities. Foreign investors bought a modest $154 mln of Korean shares today. European markets are following the US and Asia higher. The Dow Jones Stoxx 600 is up about 0.7% in broad gains.