By Sean Vidolin, Rutgers University
In the past month or so we have seen a rally in equities and commodities. As the bond markets are starting to seem a little overbought, people's appetites for risk may finally be reemerging after fears of the double dip recession are starting to diminish. We will take a look at the reasons behind the movements and gauge where the markets could head going into 2011.
The equities markets have seen a nice rally since the beginning of September, with the Dow climbing about 10% from 10,000 to 11,000. Better than expected 3rd quarter earnings from Google are looking to be driving techs, while surging commodity prices are undoubtedly helping the metals and mining sectors. Despite the huge rally, financials are lagging and have not participated in the share price appreciation seen in the other sectors. Better than expected earnings last week from JPMorgan were not enough to stimulate the financials, who have been under a lot of stress this past year between regulations and the new foreclosure mess. Despite beating on the bottom line, JPMorgan's investment banking revenue dropped 33% which could be a warning sign as to the future Wall St. climate. Financials are looking like they are treading water a little bit, and until the economic environment begins to change we may see them continue to lag the rest of the sectors. Great 3rd quarter earnings from CSX and AA may be signs that the global economy is picking up so we will continue to look for the metals and transportation sectors to lead the rally.
The bond market has been pulling back a little despite an increased probability of the Federal Reserve resuming it's quantitative easing. While a continued funneling of Fed money into long term bonds should lower yields even further, I think the recent increase in yield is the markets way of signaling bonds may still be overbought. If you want more details on the Fed's QE2, take a look at my article from two weeks ago. It seems like the market is afraid of the inflationary consequences of QE2 and thus are piling into hard commodities. The dollar has been getting clobbered and the prices of metals and other commodities have been the beneficiary of what many people deem as unscrupulous government spending.
So what are we looking for in these upcoming months? You're guess is as good as mine. Gold bugs will tell you that gold is on it's way to $4,000 and doomsday bears will claim we are heading back into the depths of the recession. Others may point to the fact that stocks are extremely undervalued when looking at price to earnings and believe equities will continue to rally into 2011 as overvalued bonds begin to fall off. Besides QE2, there are plenty of political occurrences that may move the markets in upcoming months. The mid term elections may offer equity proponents a relief if the Republicans are able to take the House and continue the Bush era tax cuts. Regardless of what the next few months hold for capital markets, it will be a combination of both economic and political happenings that point us in a direction.
