The initial revision of Q3 real GDP to 2.0% this morning confirmed, yet again, that the U.S. economy slowed during the summer period. And while this reading proved better than the original estimate of 1.7%, sluggishness is still the clear take away. But as Peter Boockvar points out in his comments on The Big Picture blog, nominal GDP actually exceeded expectations at 4.3% (estimate of 3.8%). This outsized growth in nominal GDP clearly points to an environment where inflation is picking up, which is a marked change from the rampant deflation concerns seen only a few weeks previous. Most of this inflationary pressure has been coming from the commodity sector as food prices, in particular, have seen significant price increases of late. Having started out in the commodity pits many years ago, I tend to discount much of this increase being maintained over an extended term given the highly responsive nature of planting intentions to price changes, which should cap any rally. That said, this price surge is forcing inflation back onto the front page of investor concerns.
With slightly better growth in the books for Q3, it would seem that this yet another data point that could put a damper on the Federal Reserve’s stimulus program intentions. While certainly not dependent upon any single data point, the better than expected performance of the U.S. economy during Q3 (though still down from Q4 2009) and expanding inflationary pressures are making the palatability of a single large monetary stimulus action less plausible. In my view, this all but assures that any action that is undertaken will be relatively small, incremental, and highly dependent upon subsequent economic data points. Such a program will almost certainly disappoint the marketplace and will, in my opinion, continue to steer investors’ focus towards subsequent Fed action rather than the underlying earnings/economic outlook.
However, this morning’s trading action doesn’t seem to reflect this conclusion. With lesser stimulus likely in the offing, I would have expected the U.S. Dollar Index to rally (it’s only up slightly) and gold to back off from yesterday’s rally. In the case of gold, prices have been up as much $5/oz. this morning. While this could simply be a technical test of the $1,349 intraday high that was seen on Monday, the resiliency of the yellow metal in the face of potentially reduced monetary stimulus is certainly supportive of the bull’s case. To an extent, support for the gold market has been coming from the weakness seen in the greenback overnight, but if the DXY continues to firm through the day and gold does not weaken in tandem, this will be a stark change from the recent trading action. I still remain firmly in the bearish gold camp over the near term, but you can be sure that this price action is something I’m watching quite closely.
Almost as puzzling as the trade in the Dollar and gold this morning is that of long-term Treasury bonds. Again, creeping inflation and softening monetary stimulus would have lent weight to the argument for selling Treasury securities. However, the early action has seen 30 year Treasury yields falling 2.25 basis points to 4.0323%. Certainly not the kind of trading that expresses concern over looming inflation and reduced Federal Reserve purchases.
For the rest of the session, I’ll be watching the usual suspects: the Dollar, gold, and Treasuries. While these and most other markets are likely to continue their range-bound trade ahead of next week’s revelations, how they trade ahead of the news should give a sense of where investor biases lie. Corporate earnings continue to come in ahead of expectations, which have still been largely ignored by the equity markets. While I’ve been quite vocal in my bearish view of equities on both a fundamental and technical basis, I have to admit that the robust nature of Q3 earnings is causing me to rethink my position somewhat. While I haven’t yet come all the way back to the bull camp, these earnings reports and the historically bullish time of year that is upon us are certainly providing a persuasive case.
Until later…..
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