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2008 Market Outlook: The Fed, The Dollar, and Financials
Author: Bob Lang (info)
Website: http://trade-mentor.com
Posted: January 4th, 2008 at 10:24 am EST
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2008 Outlook - Bonds, The Fed, The Dollar and Financials
Bonds
The last year was a pretty good one for bonds. In a world of benign inflation one would expect bonds to perform well. This was certainly the case for treasuries as the drop in yields did not deter investors from a flight to safety and quality. While rates are relatively low (and closed the year at or near their lows), I suspect bonds will only do marginally well in 2008. Why is this? Towards the end of the year we saw some signs of inflationary fears, with a very high PPI and CPI. Inflation is bad for bonds. While one number is not alarming, another bad number would be disturbing and probably cause a flight from bonds. Low rates are good for equities…and while we don’t expect a full blowout of rates… a bump up to 5% on the ten year wouldn’t be a surprise…in fact, quite healthy for the curve.
Yield Curve
The Fed
Bernanke and Co. have been in the news in recent months. They ended the year cutting once again…albeit reluctantly. Following their December meeting the poor inflation data was released…and one would believe the Fed members were grumbling afterward. They cut rates with an increase in prices…counter to their modus operandi. The Fed cut 100bp in 2007, but the market is looking for more in the new year. How low will they go? Some have a 3% funds rate target in 2008…which seems pretty aggressive. However, the economy’s recovery is the top issue here, and the Fed will cut until that situation improves. In fact, the Fed will know they are about done when they see bond yields start rising….to straighten out an inverted curve.
Fed Funds
The Dollar
The greenback was a major story in 2007, mostly for the big decline in value. The US dollar index sits near all-time lows here (circa 76), and while that won’t inspire much confidence in the economy, it’s positively working for the US trade deficit. Our goods are cheaper overseas now. The negative, of course…are the inflation implications…along with the confidence factor. While the dollar is at historical lows, foreign countries still flock to the stronger economies for investment. Early we stated the strength in bonds…this would not be the case if dollar-confidence was completely abandoned. We should see a rise in the dollar in 2008, perhaps as early as the first quarter.
U.S. Dollar
Financials
The lynchpin of the market, financials, were battered in 2007…and the carnage may continue into the new year. Subprime and housing issues continue to plague the group and while the risky side of the market is likely gone, the bad news just keeps on coming. Big names such as Citi, Merrill, Wachovia and Bear Stearns are likely to be moving lower to range-bound for months. Like the housing sector in 2007, the news is the likely driver of performance for financials…which is not likely to be good until 2009 and beyond.
Financial Select Spiders (XLF)
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Bob Lang, Economics, Stock Market, Stocks, Trading
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