As US10Y yields double dividends, current levels for equities difficult to defend

Market Review

Equity markets saw a sell off from the highs last week as The Dax struggled to gain ground from the 10,000 handle, and the 2,000 mark in the S&P was not obtained this time. There is still possibilities to head higher, though with the situation in Iraq emerging last week as rebels took controls over big parts of the country including parts that are crucial for oil supply the geo-political risks escalates to new highs as well. With Iran siding with the Iraqi Government, they are in theory allies as well as enemies with the United States at the moment which just adds to the sensitivity of the issues faced. Strategies last week were mixed, and the week was ended slightly in to negative territory. US data last week saw a turn for the worst, with jobless claims slightly increasing and consumer sentiment posting the lowest number since March.

Today's Fundamental View

As we have mentioned before, with dividend yields only half of what the US10Y yields, it is difficult to defend current levels trading in equities. Traders and analysts are assuming limited upside, though over the weekend we learned that amid lower profits in the borrowing market, Central Banks have shifted their focus and have also been active in the equity market. Apparently China’s PBoC is the largest, with the Federal Reserve a close second. This calls for increased uncertainty as regular banks have had to refrain from such operations due to regulatory requirements, though central banks has yet to make a single filing of their holdings. Furthermore, any losses in the market can be met by money being printed, leading to inflation pressure. At this point we are unsure if there are any historical records of similar events, and will continue to research the topic. This morning have seen the release of Euro-zone inflation numbers in line with expectations. Trading in to the release, dollar currency pairs were down, though recovering these losses once the in line numbers were posted. We speculated in much lower numbers beforehand as a the euro had weakened across the board. Overall the biggest mover today is the USD, which is up on the back of safe haven movement. Same is seen in bond markets. We are neutral on the afternoon data as the overall impression last week was mixed. The Iraqi developments should continue to weigh on the price of crude oil, with alleged mass executions of soldiers and ISIS closing in on the capital. The US has evacuated their embassy, and Iran has called for regional powers to launch coordinated response to the escalating violence in the troubled country. Today’s strategy is long safe assets. Later this week we will see the release of the FOMC minutes. Mark Carney hinted last week that large Central banks will need to deviate from communication and action the coming year, basically hinting to increased rates quicker than market expects. Should this be the case for the Fed’s as well we should see further USD strength later in the year, but for now we believe most parts of the release will be unchanged from last time, albeit with comments on the ECB actions.

Alternative View

Hawkish monetary comment speakers from the Eurozone may adversely affect our strategies.