Don’s Outlook 12/19/08
What a week! Equity traders celebrated the Federal Reserve’s decision to lower interest rates to a range of 0.00 to 0.25 percent, while oil traders panned OPEC’s decision to cut oil production by 2.2 million barrels per day. Earlier today, the Bank of Japan cut interest rates to 0.1 percent and President Bush announced the automakers could tap $13.4 billion from the remaining funds in the TARP program, and potentially another $4 billion.
The term “quantitative easing” swirled through the financial press, but in simple terms, the Federal Reserve will purchase mortgages, commercial paper, and other assets to push down interest rates across the board. This policy started earlier this fall, as this morning’s Washington Post headline will attest: “30-Year Mortgage Rates Sink to Lowest on Record”. Expect to see rates move lower as the Fed focuses more attention on these assets.
Meanwhile, OPEC announced it will reduce output by 2.2 million barrels per day, and the traders responded this week by cutting the price of oil almost $10 per barrel, or about 20 percent, from the mid-$40 range to the mid-$30 range. A weak economy reduces demand, and June’s high prices still have consumers and industry thinking of energy conservation. On the supply side, countries such as Iran and Venezuela cannot meet their budgets without higher prices and higher volume. OPEC cartel members have a strong incentive to cheat, and traders know it.
Low interest rates will relieve the housing market, especially homeowners facing ARM resets in 2009. With the financial sector apparently saved as well, there’s room for increased investor optimism and higher equity prices, even if the problems have only shifted from these sectors to the Federal Reserve and Treasury’s balance sheets. The S&P 500 Index was 0.6 percent higher than last Friday’s close and opened higher this morning. Investors cheered the auto bailout, which removes the largest cloud over the market and sets the stage for a rally into the New Year.
