Weekly Wrap-Up September 14-18, 1998

Closing Numbers

The North American bond markets continued to see a supportive bid as a result of the ever present volatility on the international markets. The failure of the G-7 meeting this past week to bring about a concerted effort to cut interest rates in the industrialized nations was offset by Federal Reserve Board Chairman Alan Greenspan holding out the hope that the Fed may unilaterally cut rates in the US. The expectations of a rate cut in a the US, and the Bank of Canada's ability to match the US rate cut, allowed the bond markets to put in a strong performance.

The bond markets performance continues to be aided by events on the international scene. The Russian economic system is virtually bankrupt. Even with the appointment of the new Prime Minister, there is little concrete activity going on to show the political resolve to move forward with economic reforms. Instead, the Russian government is approaching the industrialized nations with its cap in its hand looking for more money to help with the countries current financial woes.

In Asia, the Japanese have taken control of the financial institutions away from the Ministry of Finance. The Japanese government has also come up with the first stage of a rescue plan for the banking system. Under the plan the Long Term Credit Bank will be taken over by the government. As well, all financial institutions will have to recognize their bad loans and may request "assistance" from the government to help remain liquid. Details are still limited as to the extent of the plan, but the Japanese Prime Minister Obushi is meeting with President Clinton on Tuesday, and there was a need to show progress is being made. Japan is, however, still in the midst of a liquidity crisis.

Latin American economies continue to see a run on their currencies, as citizens rush to convert their local currency holdings into $US. Interest rates have risen significantly in these countries in an attempt to stem the currency flow. This rise in interest rates to defend the Latin American currencies will only tip the balance towards recession in already impoverished economic areas. These countries depend significantly on commodity exports. As the demand for commodities declines globally, there is little left to support the economies of the region. Look for more turmoil in the region.

Once again, the economic releases were glazed over by the market, as emotion continues to be the primary driver, rather than economic fundamentals. In the US, retail sales rose 0.2% in August, up 0.3% ex-autos; business inventories were unchanged in July; industrial production rose 1.7% in August; capacity utilization rose 1.2 to 81.7; CPI rose 0.2%, ex-food and autos CPI rose 0.2%; housing starts for August were down 5.5% on an annualized basis; building permits rose 2.2%. In Canada, existing home sales dropped 0.2% in August; manufacturing shipments declined 2.4% in July; inventories rose 0.2%; unfilled orders rose 2.3%; new orders declined 1.4%; international trade balance roe $CDA 650million to $CDA 1.55billion as imports dropped 2.1% and exports rose 0.6%; CPI rose 0.8% annualized in August with core rate up 1.4%, month-over-month CPI was unchanged.

The Government of Canada 30 year long bond finished the week at a record low yield of 5.42%, stronger by 6 basis points. The US 30 year Treasury bond closed the week at a record low yield as well, finishing 8 basis points better at 5.15%. The Canada/US 30 year spread has widened back out to 27 basis points. The Canadian market is being pulled lower by the strength of the US market, but is underperforming the US due to the weakness in the Canadian dollar. The Canadian corporate bond market was hurt this week by a $US 400million deal by Canadian issuer TransCanada Pipelines. The deal, placed in the US, and unavailable to Canadian investors, caused the corporate market to underperform the government market by 10-15 basis points. The weakening trend in corporate bonds will continue until the equity markets find their legs. (A basis point is 1/100th os a percent.)

The North American equity markets showed some signs of life over a volatile week. The troubles of Russia, Asia and Latin America continue to haunt New York and Toronto. The New York market managed to take the Greenspan comments on concerns over global deflation as a signal that the Fed would ease interest rates soon. This would be positive for corporate earnings, but is unlikely at the next Fed meeting in late September.

The financial sector where expectations of an interest rate cut would benefit the sector, actually underperformed the market as renewed concerns of derivative losses and bad debt write downs associated with emerging markets continue. BankAmerica indicated that so far this quarter trading and loan losses stemming from emerging market activities had cost the bank $US 330million. In Canada, the Bank of Montreal announced that the losses associated with its exposure to Latin America amounts to $CDA 80million. North American banks have significant exposure to the Latin American economies, as a result look for more bad news before the good.

Oil companies may be in for even more bad news. As if the price of oil and natural gas has not been bad enough for investors in the sector, one of the largest producing companies has indicated that the future may not be rosy. Royal Dutch/Shell announced this week that it may have to write down the value of its assets due to the decrease in demand stemming from the Asian slowdown. If this becomes wide spread the oil and gas sector should continue to feel the pain of the 'correction'.

The TSE was the goat of the week, dropping 2%. The Toronto exchange lost 118.04 points to close the week at 5771.40. The financial sector did not help, nor did the mid-week weakness which the Canadian dollar experienced, or the decline in gold. Gold is inversely related to the $US at present. If the $US rallies against the major world currencies, particularly the Yen, then the price of gold has dropped. The DJIA added 100.16 points, or 1.28%, closing the week at 7895.66. The S&P500 added 1.09% to close at 1020.09, while the Nasdaq rose 1.35% to 1663.77.

As we move into the last half of the month several issues arise. Portfolio managers are approaching the end of the third quarter. This means that there may be some games played as money that has been sitting in cash is put to work for appearance sake. As well, the FOMC is meeting the last week of the month to discuss the direction of short-term interest rates in the US. Many are expecting the Fed to adopt an easing bias, without cutting rates. Troubles with the global economy will only be exacerbated by the current Clinton situation. The largest economy in the globe is about to lose the head of state over an extra-marital affair. Good trading.

Weekly Wrap-Up Archives

The Markets Page

The Financial Pipeline Homepage