Market Wrap 10/28

Our benchmark FNMA 6.0% mortgage bond struggled for the 4th consecutive session and continued its losing ways with a loss of 53bp to close at $99.75.


Bonds were sold ahead of tomorrow’s FOMC interest rate decision and Policy Statement set for release at 2:15 p.m. ET.


Added supply of $34 billion in 2-year Treasury Notes also weighed on the bond market.


Most Fed analysts are expecting a 50bp rate cut and such rate cuts usually weaken the U.S. dollar and make investments in higher yielding foreign debt more attractive to investors with the net effect of lowering U.S. bond prices and raising interest rates.


Today’s poor economic news failed to provide support for bonds.


The recent plunge in the stock market coupled with declining home values and job losses sent Consumer Confidence reeling in October to its worst level in history with a reading of 38 vs. expectations of 52. For comparison, Consumer Confidence was 95.2 a year ago.


The S&P Case-Shiller 10 and 20-city Home Price Indexes fell for the 25th straight month with the 10-city index falling 1.1% in August while the larger 20-city index fell by 1%. Both indexes set record year-over-year declines.


In the credit markets, both one and three-month dollar-based LIBOR rates widened very slightly to 3.22% and 3.51% respectively indicating banks would rather hold onto their cash rather than to loan it out.


This is not being ignored by the government as the Administration served notice to U.S. banks today to stop sitting on their cash and to loan it out instead.


Asian and European stock markets bounced back today and this positive investor sentiment spread to our stock market as well.


As a result, bond prices fell as money flowed back into stocks from bonds. The German DAX Index had a particularly good day with a 11% rise triggered by an ongoing short squeeze in shares of Volkswagen.


VW’s shares rose 150% yesterday and another 80% today following an announcement that Porsche increased its holdings to 42.6% in the automaker along with buying an additional 31.5% in cash-settled stock options to boost its ownership to 74.1% in VW.


Porsche’s buying has squeezed hedge funds having large short positions in VW at a time when there is now only 5% of free-floating shares available for purchase.


These hedge funds are not only losing their short positions, they are losing their shorts as well.


Meanwhile, the U.S. stock market shrugged off today’s dismal economic news and roared back with one of its best days ever.


The Dow shot 889 points higher, its 2nd largest gain in history, to close at 9,065 as traders anticipated another juicy Fed rate cut tomorrow.


The broader S&P 500 Index soared 91 points to finish at 940 and the NASDAQ Composite Index jumped 143 points to end at 1,649. It will be interesting to see whether or not today’s stock market rally is a case of ‘buy the rumor and sell the news’ with respect to tomorrow’s Fed rate cut.


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