The much anticipated employment report came out Friday with a flurry of numbers and revisions. It took a while before the markets figured out that the report was solid, without the usual ugly “yes, but” comments that typically go along with each monthly release. Past months were revised higher; the current month was well above expectations and while some in the market point (incorrectly) to the huge drop in participation – due to using the 2010 census vs. 2000, the report was solid all around. The jobs report was confirmed by the weekly jobless claims that also continue to trend lower and remains 7-10% below levels from a year ago. While there was lots to be cheerful about this past week from an economic perspective, housing remains in the doldrums and likely to stay there until the jobs reports improve further. This economic recovery remains weak by historical standards and the meddling by central banks creates more uncertainty about how we get from today to “normal”. The financial markets are beginning to take note of the better economic tone, but remain wary of news out of Europe, the dark cloud behind the silver lining. Plenty of central bank activity this week to keep the markets focused on money flows as England may announce another round of quantitative easing on Thursday to keep the party going.

Everyone knows that trees don’t grow to the sky and the markets will eventually retreat, but just not now is the current thinking. With only a few down days so far this year, the markets have been buoyed by the easy monetary policies around the world, keeping the banks extremely liquid, but failing to solve anyone’s solvency issues. Volume continues to dry up as it seems only a few market participants show up anymore when the markets are open. The rally has been fairly broad, and resembles the blast off from September 2010 when QE2 was announced. That being said, a break is certainly warranted, however as long as central banks feel the need to inject billions into the financial system, the markets will tend to rise. The rotation from the defensive sectors to the more cyclical and more “juiced” parts of the markets also follows the ’10 liftoff that lasted 4-6 months. While this rally has been going on for a few months already, we are seeing broader participation from small/mid cap stocks to the commodity related emerging markets.

Last weeks negative reading in bonds was confirmed this week as it remained at a “1”, as only corporate bonds remained in positive territory. Even the short end of the yield curve that has been nailed to near zero has skyrocketed to 0.05% from 0.01% in two weeks. Not a big deal, however the long end of the yield curve has also begun moving higher and did so dramatically following Friday’s job report. As measured over the past 35 years, the next couple of months have been the worst part of the calendar year for bonds, so some backup in yield may be in the offing the remainder of the quarter, in conjunction with the global monetary injection. Still not seeing significantly higher rates, but higher over the short-term. The housing market continues to be the weakest part of the economy by nearly any measure used, however looking at the housing related stocks indicate something completely different. Nearly without exception, the housing stocks bottomed in the two-month period from mid-August to mid-October and have now jumped by 50% since. While it may be just another rally that ultimately fails, similar to fall of ’10 when many showed the same characteristics, this time the rally has been met with a better following of similar stocks, like Home Depot (HD), Sherwin-Williams (SHW) and other construction material companies are demonstrating much stronger patterns this time vs. a year ago. This may also be part of the “risk on” trade engendered by easy money, but the rally should be watched for indications of weakness that may be an early signal of monetary pullbacks or change in overall sentiment among market participants. Given other broader asset classes are also coming along for the party, this rally could be lasting a while more, even after a much needed breather. Indications of an early break in stocks will be a resurgent utility sector and weakness in these cyclical groups.

The changing market landscape away from bonds toward stocks, while still dangerous given the participation of central banks, is keeping a floor under stocks. As such, I am shifting portfolios toward the equity markets with a focus on emerging markets and smaller stocks to complement the large holdings in large cap stocks. Bond investors, at least over the next few months, may be able to use the rise in rates to re-establish bond positions in the 7-10 year range. Returns in bonds may be minimal over the next few months.


The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable, but are opinions and do not constitute a guarantee of present or future financial market conditions.