Weekly Wrap-Up October 4-8, 1999

The North American bond markets continue to be caught in the downdraft started several weeks ago. The Federal Reserve Board's move to a tightening bias has many investors concerned about the potential for the Fed to raise rates before the next FOMC meeting November, 17. The equity markets were helped this week by sector rotation, range trading, and the expectations of strong third quarter earnings. The Federal Reserve Board's decision to leave interest rates unchanged helped the market, as did stabilizing $US/Yen levels.

The North American bond markets continue to be caught in the downdraft started several weeks ago. The Federal Reserve Board's move to a tightening bias has many investors concerned about the potential for the Fed to raise rates before the next FOMC meeting November, 17.

Monetary policy in several markets remained unchanged this week. In the US, the Federal Reserve Board Chairman Alan Greenspan announced that the Fed would leave rates unchanged, but move to a 'tightening bias'. Many market participants are confused as to whether this indicates that the Fed may raise rates between now and the next FOMC meeting, or that the Fed is just trying to lean into the wind in an effort to signal to the market that the interest rate increases initiated in June are not over yet. Don't forget that the Fed Chairman indicated in the spring, that he wished to remove the excess liquidity he provided the market last summer and fall. That means that there is a minimum of 25 basis points further tightening by the Fed.

Elsewhere, the European Central Bank left its benchmark rate unchanged at 2.50%. The Bank of England also left its overnight rate unchanged at 5.25%. However, commentators and analysts in both markets widely believe that both central banks will raise rates before the end of the year. Strong economies in both Britain and Europe may fuel inflation, and both banks wish to maintain price stability.

Gold's rally of last week continued this week, although not to the same magnitude. The follow through was sparked by the announcement that lease rates on borrowed gold would be rising. This means that anyone who sold gold 'short' would have to pay more to borrow the gold required to deliver against the sale. As a result further short covering occurred this week as weak short positions were closed out.

Oil prices have been coming off their recent highs over the past week. This is the result of increased production announcements by non-OPEC nations. Norway announced that it would be increasing crude oil production by 18% in 2000. The cash-strapped Venezuelan government announced that it would be increasing production of crude oil by 12.5%. It is also believed that the OPEC cartel itself, is beginning to cheat on the quotas established in April. Also easing the price pressures on oil was US President Clinton's comments that the US government may sell some of its stockpile of oil in order to ensure there is no shortage of heating fuel for the US northeast come winter.

Economic data this week continued to show a strong economy with the beginning of wage pressures, in a tight labour market. In Canada, unemployment fell to the lowest level since 1990, dropping 0.3% to 7.5% in September. The economy added 64,000 new jobs, all in the full-time category; housing starts rose 3.7% in August. In the US, consumer credit rose 9.6% on an annualized basis to $US 10.8 billion; US non-farm payrolls declined 8,000 in September; the unemployment rate remained unchanged at 4.2%; average hourly earnings rose 0.5% - the largest increase since September 1983 (16 years). The employment numbers were probably scewed due to hurricane Floyd, but the wage numbers indicate that the tight labour markets are starting to translate into wage pressures.

For anecdotal evidence on the wage front, look at the recent settlements by the United Autoworkers in the US and the Canadian Autoworkers in Canada. As well, flight attendants at Northwestern Airlines in the US are contemplating strike action after the company offered a 25% pay increase.

The bond market continues to underperform as weak technical conditions, corporate supply and continuing fears of further interest rate hikes have the markets unnerved. In Canada, the Government of Canada 30 year long bond added 12 basis points to close the week at 6.10%. In the US, the Treasury 30 year long bond added 6 basis points to close the week yielding 6.20%. (A basis point is 1/100th of a percent.)

As a result of the weak nature of the bond market, several corporate issuers pulled the long tranches of their underwritings this past week. With long government debt selling off significantly over the last couple of weeks, there is little appetite on the street for expensive corporate long bonds. Investors continue to buy 7 year and under bonds, but longer dated debt is not a favourite at present.

The North American equity markets were helped this week by sector rotation, range trading, and the expectations of strong third quarter earnings. The Federal Reserve Board's decision to leave interest rates unchanged helped the market, as did stabilizing $US/Yen levels.

Merger activity saw the largest corporate amalgamation in history. MCI WorldCom announced it would purchase Sprint for a total of $US 129 billion in debt and equity. Big. In Canada, Onex Corp continues in its bid to purchase both Air Canada and Canadian Airways. Onex intends to merge the two airlines into one under the Air Canada banner in an attempt to make the industry in Canada profitable.

Labour settlements were in the news for the equity markets this week as the Canadian Autoworkers came to an agreement with Dailmer/Chrysler Canada. Similar to the deal earlier last month with Ford, the CAW secured a 3 year deal with 4.5% annual wage increases, a signing bonus, a day care subsidy, a subsidy for post-secondary education and a guaranteed Christmas bonus. President of the CAW, Buzz Hargrove, had to blink after it became apparent that his members would not give up their financial gains in order to secure Chrysler's support of an attempt by the CAW to unionize Chrysler suppliers such as Magna International. Sounds rather capitalist, rather than collective. Is this another indication of organized labour's move to the political right?

The TSE closed the week at 7116.04, up 2.67%, or 184.73 points. Despite the continued strength in golds, the Toronto markets gold index lost ground on concerns that the major producers are caught off-side on their production hedges. In New York, the DJIA gained 376.76 points, or 3.67%, to close at 10649.76. The S&P500 added 4.15% to close at 1336.02. While the Nasdaq outperformed other major markets on the week adding 5.47%, to close at 2886.57. An earnings announcement form Yahoo! which surprised to the upside added to the market hype for technology stocks which have been punished over the last couple of weeks.

Sector rotation and buying the 10% drop classified as a 'correction' by the Street added to the markets' momentum. Portfolio managers and individual investors are looking for the sector which will be the next engine of growth for the market. Many continue to bet on the internet sector as a growth play, while a significant number of mid and small-cap companies with strong cash flows continue to be ignored in favour of the liquidity provided by larger cap tech stocks.

Next week is a holiday Monday shortened session. In Canada, the Government will be issuing 30 year long bonds, so look for that sector of the curve to get even cheaper. As well, the equity markets will be watching third quarter earnings reports. In order for individual companies to be rewarded with higher equity prices, there will have to be surprises to the upside, just meeting expectations or missing to the downside will be painful. Good trading.

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