Fed Chairman Bernanke rides to the rescue of the Dow...
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In This Issue.

* Bernanke to the rescue...

* The US$ trends lower and then tumbles...

* China allows further appreciation of the Renminbi...

* Blue lights flash for the Aussie dollar...

And, Now, Today's Pfennig For Your Thoughts!

Fed Chairman Bernanke rides to the rescue of the Dow...

Good day. The equity markets had about as volatile a day as we have seen, with multi-hundred point gyrations. The locker room conversation which I observed yesterday morning must have taken place across the country as investors jumped back into the market right away Tuesday morning and 'turned it around' with their buying. But the excitement calmed around noon as everyone took a breather while waiting for the FOMC rate announcement. As expected, Ben and his compatriots kept rates unchanged, but caught the market a bit off-guard with their commitment to keep rates at record low levels into 2013. The markets continue to rise, but quickly turned and slid a couple hundred points as the realization sunk in that the Fed was basically admitting the US economy will be stuck in a rut for the foreseeable future. But the big brokerage houses were able to 'rally the troops' at the close and the US equity market ended up over 400 points, close to a 4% increase.

The market's reaction to the FOMC news was a bit counterintuitive. I actually understand the kneejerk reaction of the equity markets, as stock jockeys were demanding the Fed do something, and Bernanke came through. Equity investors and brokerage houses know the Fed Chairman 'has their back'. But if you really think about what the FOMC said yesterday, the outlook for the US economy isn't so bright. They basically threw in the towel and admitted they were wrong with their predictions of a 'strong recovery' and have now had to admit that a recovery is at least a couple of years away. Rates are as low as the Feds can get them, and the boys over at the Treasury department haven't yet figured a way around the new debt limits; so a dramatic announcement that rates would stay low for a specific period of time is all they could do. I am amazed the Fed actually set a firm date. They couldn't predict the mortgage crisis, nor where the economy was headed just 3 months ago, but now they can predict that inflation will remain controlled for the next two years?? They certainly haven't impressed me with their clairvoyant powers!

Chuck had a long day of travel to the West Coast, but took the time to send me his thoughts on the FOMC decision:

"I read a lot today from different sources. one of the best is David Rosenberg. He believes much like I do that the Fed is out of bullets. no arrows in their quiver. or as Jackson Browne sang. Running on Empty. running on. running blind. running into the sun, but, I'm running behind.

So empty is their gas tank, that the Fed announced on Tuesday that they were going to leave rates near zero until mid-2013! And that brings me to another thing I told you all a long time ago. When all the pundits were saying that U.S. interest rates were going higher, but I went out on the limb and said, they would not! Well. who's slapping themselves on the back now?

Ahhh. yes. weren't higher interest rates here in the U.S. going to be the dollar's savior? The Fed did not mention Quantitative easing. not yet. But they knew that they had to do something to save the stock market, which had lost in a few days what took several months of QE to achieve. So. they let everyone know that rates were remaining near zero for the next two years! That ought to help someone with their campaign!

Not that I'm inferring that the Fed takes political sides.

Chris again. Thanks to Chuck for sending me his late night thoughts!

I can just hear bond guru Bill Gross blowing a raspberry to former White House economic adviser Lawrence Summers and the former chairman of the US council of Economic Advisers, Christine Romer. Both Summers and Romer were sharply critical of Gross' call a couple years ago that the US economy was headed for a long period of below-average growth and high-unemployment, a scenario he called the 'new normal'. Money manager Kenneth Fisher went even further, calling the concept of a 'new normal' idiotic. But we actually agreed with the concept. At the time Gross made the call, Chuck pointed to it as further vindication of what he had been telling readers of the Pfennig. Now Romer and Summers' friends over at the Fed have had to admit Chuck and Bill Gross were right. Maybe that is why both Summers and Romer are no longer with the administration. Again, the news that the economy is going to be weak for the next two years certainly doesn't seem to be a good reason to rush back into equities. I have been taught that equity prices reflect the future earning ability of the company, and if that company is doing business in the US, earnings are probably going to remain weak for the next few years.

But Pfennig readers have repeatedly told me to 'stick to what I know' and I wouldn't even be your last choice as a stock picker, so let me move to the currency and metals markets. The dollar was actually a bit less volatile than the stock markets, trending downward most of the morning with a sharper drop immediately after the FOMC announcement. This is really just what we should have expected, as the Fed's pledge to keep rates low for an extended period convinced investors to move out of the dollar and back into some of the better yielding currencies. But the safe haven currencies of the Japanese yen and Swiss franc held on to their recent gains. I guess the Federal Reserve's pledge wasn't quite as convincing to the international investors.

I would expect to see some additional currency intervention from the Bank of Japan and perhaps the Swiss National Bank today, as they want to try and take advantage of the pause in their currencies' rise. The Bank of Japan still has plenty of ammunition to use in the markets, but the SNB is probably going to be a bit more skittish. I read where the Swiss central bank had accumulated a loss of $36 billion in their attempts to hold the Swiss franc down. But the risk of additional losses didn't keep the Swiss from selling francs, as I just saw a news flash that the central bank was in the currency markets. Apparently the SNB is doing FX Swaps to try and curb the francs gains. These swap contracts push liquidity into the markets over the short term as the central bank agrees to 'swap' Swiss francs for some other currency (probably Euros or US$). The addition of the Swiss francs into the markets, if large enough, will force the price of the franc lower. But a key to these swap agreements is that they are for a limited time period, so eventually the SNB will be getting these francs back. The intervention is meant to try and cause a short term reversal, but the Swiss continues to look like it will stay on an upward trend in the long term.

A central bank which can control the value of their currency is China, and the Chinese continue surprise the markets with their new willingness to allow their currency to appreciate. China pushed the Renminbi up to a 17 year high overnight as they continue to break the ties between their currency and the falling US$. Data out of China indicates the world's second largest economy continues to maintain an impressive growth rate. Last week a report showed a Chinese non-manufacturing index rose for the first time in three months, an indication that sectors of the economy are withstanding the government's fight with inflation. Rising prices continue to be a focus of China's leaders, as consumer prices rose 6.5% last month, the fastest pace in three years. Chinese officials have used both increased interest rates and currency appreciation to try and slow the pace of price increases. Both exports and imports have been increasing for China, with imports outpacing exports (22 percent vs. 17 percent). Despite the faster growth of imports, the size of China's trade surplus increased to $31.5 billion, the highest level in two years. A growing Chinese middle class is slowly turning China's economy away from their dependence on cheap exports which should be good for the overall health of the global economy.

The Norwegian krone has been a long time favorite of the desk. We like the krone because of the rock solid economic fundamentals underlying this oil based economy, and the hawkish nature of the Norges Bank. Norway's central bank will probably announce another rate increase today as they combat rising inflation. The bank kept rates unchanged at their last meeting in June, but indicated they would be increasing them at today's meeting. There continues to be a possibility of another rate increase this year, although the recent fall in the price of oil has many questioning if we will see another move after today. Regardless, Norway's interest rates will certainly remain higher than those in the US, making this an attractive alternative. We continue to suggest the Norwegian krone should be part of the 'core' of an investors currency allocation.

The Brazilian real and South African rand have both regained some of their recent losses as investors have begun to search for yield again. The rand rebounded from a one-year low yesterday as demand for stock and riskier, emerging market investments increased. The rise in the value of the Brazilian real is a bit more of a paradox, as recent indications point to slowing inflation and lower future interest rates. But even with a rate cut, interest rates in Brazil will remain among the highest available, and investors seem to like the growth prospects of South America's largest economy.

A reader read my comments about the Canadian dollar and reminded me I hadn't written anything about the Australian dollar's recent volatility. With everything which has been happening in the markets, it has been hard to keep up with everything, but the Aussie is one of the most popular currencies with EverBank investors, so I should try to focus on it. The blue lights were flashing yesterday as the Aussie dollar had fallen below $1.00. The bargains didn't last, and the Aussie dollar jumped over two cents at the end of the trading day. Australian business confidence stayed near a six month low in July according to a report released yesterday. That report, combined with China's rising inflation caused the sharp sell off in the Aussie dollar. Investors thought higher prices in China would mean the Chinese government would need to take more drastic measures to slow their economy which would be a big negative for Australian exports. But the FOMC news turned the fortunes of the Australian dollar around and calmed investors fears. The New Zealand dollar also pared recent losses and rose for a second straight day. Stock markets were positive in Asia overnight, so both of these currencies should continue to hold on to their gains in trading today.

Gold also held on to its recent gains, and continues to trade in the upper half of $1700 handle. Gold continued to march higher as the FOMC announcement didn't seem to deter investors interest in this 'uncertainty hedge'. The Fed's decision to keep US rates low for the next two years is good news for gold as rising interest rates typically make the non-interest bearing metal less attractive. With rates remaining lower here in the US, gold continues to be attractive. Gold is also a traditional hedge against inflation, and the Fed has definitely turned a blind eye toward any indications of rising inflation, so investors certainly should be worried about the possibility of future spikes in prices. Silver hasn't seemed to capture investor's interest as much as gold has, and the price of Silver has failed to keep pace with that of gold. This should not be a big surprise, as Gold failed to keep up with Silver's rise during the first half of the year. Gold simply had a bit of 'catching up' to do.

To recap. FOMC policy makers stated they would keep rates in the US near zero through 2013, causing a sharp recovery in the equity markets. The move by the FOMC sent the dollar sliding vs. most of the major currencies. Surprisingly the safe haven currencies of the Swiss franc and Japanese yen held on to their gains. The Chinese economy continues to grow, with large increases in both exports and imports. Norway will probably raise rates this morning, and the Norwegian krone should do well on the news. The emerging market currencies regained some of their recent losses. Aussie dollars slipped below $1.00 for a short period, but closed up 2 cents higher. Gold continued to outpace Silver, but still has a way to go in order to close the gap with Silver's earlier gains.

Currencies today 8/10/11 American Style: A$ $1.0347, kiwi .8367, C$ $1.0176, euro 1.4357, sterling 1.6249, Swiss $1.3770. European Style: rand 7.1093, krone 5.4286, SEK 6.4191, forint 190.46, zloty 2.8591, koruna 16.7938, RUB 29.36, yen 76.52, sing 1.2136, HKD 7.8048, INR 45.2537, China 6.4180, pesos 12.1295, BRL 1.589, dollar index 73.95, Oil $82.42, 10-year 2.22%, Silver $38.3275, and Gold $1,761.88

That's it for today. Tough morning for yours truly as I got to work and realized I didn't have my badge to get into the office. Last night I had to go right from work to a wake for a close friends mother, and I put the badge in the front pocket of my blazer. That is where I found it this morning after returning home. Mike Meyer was still out at the desk when I finally got out of the testing room late last night. He told me yesterday was one of the busiest trading days he could remember, with investors taking advantage of our diversification opportunities. I'm sure today will probably be just as busy, so I am going to try to get this out the door and get to work. Thanks for reading the Pfennig, I hope everyone has a Wonderful Wednesday!!

Chris Gaffney, CFA

Vice President

EverBank World Markets



Posted 08-10-2011 11:06 AM by Chuck Butler
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