Where did all the money go?

Typically whenever one reads a market round-up, the reader is accustomed to learning in terms of how money flows from one asset to another. Most typical is that investors sold the dollar and bought equities as risk appetite increased. And while this is as logical as the day is long, it’s also largely a plateful of baloney that reporters find easiest to spoon-feed you day-after-day. They know no better than any of us what happened. 

A great example of this came last Friday when the Bureau of Labor Statistics reported a glowing job report for November. There were significant back revisions to job losses in September and October data. The upshot was a fall by two-tenths to a 10% rate of unemployment. This was unexpected despite other evidence over recent weeks that labor market pressures were lifting ever so gradually.

The fact that only 11,000 workers lost jobs perhaps indicates that employers are less fearful about the future of the economy and raises the question, “is the stimulus working after all?”

Whatever the answers here, we’re delighted with such good news for the economy and look forward to an altogether better 2010.

The market’s reaction to the stunning employment data was a reporter’s nightmare. Investors quickly reined in their view that the Federal Reserve would be able to maintain its ultra-low interest rate policy. As we noted last week in this column, investors have for the longest time been wallowing in the perceived safety of government bonds. The impact has been to artificially drive down market yields. As a result yields on the benchmark 10-year government note rose to 3.48% having been as low as 3.16% exactly a week ago.

So money flowing out of government bonds went where?

Well, investors also bought dollars in a big way. The euro shed about two cents during the day to close at $1.4867 from almost $1.51 before the data. The dollar made sweeping gains against all currencies as the prospects for the economy improved. By extension the implication for interest rates worsened. But you can’t ditch U.S. dollar denominated bonds and use the proceeds to buy dollars. By definition you are already long of the greenback under either scenario. So to claim investors did this would be misleading.

Investors also sold gold down, which dropped about $40 per ounce. Now, here’s an exception. We can see investors ditching gold in order to hold money on short-term deposit. Gold has become its own asset class of late, fuelled by fears of a stagnating economy. Yet alone, the transaction of liquidating a long gold position for dollars does not spur a rally in the dollar alone.
The surge in the dollar nailed commodity prices to the floor. They got whacked all day long. Crude oil, copper and corn prices all fell sharply as investors liquidated positions held as an alternative to the falling dollar.

And you will often hear it said that there is a wall of cash sitting in money market funds, simply sitting on the proverbial sidelines as investors bide their time before diving into the market. Yet none of the proceeds from commodity or bonds sales apparently found its way into the traditional haven of the equity markets. The Dow industrials rose a mere 0.2% while the S&P 500 index rallied 0.5%. Hardly a strong sign of conviction.

In the grand scheme of things the money didn’t really flow anywhere. Investors just reassessed the situation and covered positions that had been moving incrementally in their favor for days and weeks. Only on Friday everyone headed for the exit at the same time with the result being a fire sale for commodity and currency prices.

When investors gather their thoughts and realize that improving economic conditions is likely to be a positive for commodity prices, perhaps the rally will gather a head of steam again. 

The Supreme Council of the Secret Order of Jurojin

 Tyche Research

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