James Gerrish - Morning Note

11/08/10   - 8.13am   -  by James Gerrish 

Last night the US Central Bank outlined plans to roll over its holding of Treasury Securities as they mature to maintain their exposure and stop money flowing out of the system.  Essentially, this is a form of quantitative easing that means the Government buys its own securities to help stimulate or maintain growth. Its really a double edged sword and the market can take it two ways. 

1. It's an admission that the US economy is not recovering as fast as they had originally predicted. 
2. It shows the willingness of US officials to pump more stimulus into the system to support growth if economic data continues to be soft. 

If we take a step back and look at the measures used by the Fed during the GFC, we can get a better handle of where we are now. 

- Interest rates were cut aggressively down to basically zero - they reiterated last night that this setting would be kept in place for an 'extended period'. Our view is that rates will remain at this level for the rest of 2010 and half of 2011. 
- The Government purchased toxic assets such as mortgage backed securities - some of which are now maturing. There is scope for the Government to once again become active in the market if the need arises
- The Government offered emergency funding to troubled banks - They've actually realized significant profits on the majority of these investments(AIG is one exception) and the money can now be reallocated into additional liquidity measures. 
- Other stimulus measures to support housing etc (via tax cuts/concessions). 

As it stands, interest rates remain low, the Government still holds mortgage backed securities however the underlying housing market seems to have bottomed, they have largely exited holdings in banks as profitability has rebounded and they've made moves to wind back stimulus programs such as tax cuts in the housing market. 

Given these circumstances, I think its sensible that they remain active in the bond market and if we look at past recessions, we see a trend by US officials of over stimulating rather than under stimulating. This is a positive for the stock market and should be supportive. 

On the market last night the DOW JONES lost -54.50 points or -0.51% to 10644. The FTSE 100 lost -34.11 points or -0.63% to 5376. Locally, SPI Futures were matching 4 points higher this morning suggesting a flat to positive start. 

We've been speaking about the move into risk assets over the past month or so and last nights trading was interesting on this front. The session opened down and there was a sharp move back into defensive plays. The USD was bought into aggressively and the EURO was dumped while the equity market traded sharply lower. 

It them seemed that traders turned on a dime and bought back into risk. It was a similar case on our market yesterday when we were optimistic in the morning then the market was sold down in the afternoon on the back some weakness in Asia. It really does highlight how fickle the market is at the moment but I still maintain that risk assets that have exposure in Asia is where we want to be. 

Just across the ticker was Full year results from Commonwealth Bank (CBA). On face value, the result looks positive. Full year profit of $6.1 billion (against market expectations of 6 billion), and Dividend Per Share of $1.70 (against market expectations of $1.69). Tier one capital also seemed strong. The outlook statement was a little concerning though.