For the mid-week ending February 10, 2016, the Dow and S&P 500 are down as crude oil prices continue to fall. Wednesday’s roller coaster ride saw a big drop in the S&P 500 in the latter half of the day to end flat. In other news: Yellen says the Fed is not likely to reverse course on interest rate hikes this year; crude oil prices continue to decline; and, the danger of negative interest rates.
The markets are down this mid-week as the S&P 500 exhibits more wide swings. The early rally on Wednesday gave way to a swift drop as oil prices continued to fall and Fed Chair Janet Yellen’s words in front of Congress failed to soothe investors. The Dow fell -0.6 percent (-99.64 points); the S&P 500 fell a fraction (-0.35 points); the Nasdaq composite rose 0.4 percent (+14.83 points). The early rally was a response to Yellen’s prepared remarks citing a possible pause to interest rate hikes due to financial conditions and slow global growth. As her testimony continued, the concern over growth began to feed a negative concern with investors that financial conditions worldwide are looking troublesome.
The Fed has not ruled out a March rate hike despite market risks. However, Fed Chair Janet Yellen has ruled out any reduction in rates in the near future despite the growing risk of a recession due to “global financial developments”. Yellen believes that U.S. economic growth would continue slowly enabling the Fed to pursue its plan for “gradual” rate hikes. Investors expect no further rate hikes this year as the risk of a global recession grows. While Yellen’s words were initially soothing, concerns over China’s economic growth, the poor U.S. fourth-quarter corporate earnings news, and the negative impact on the energy sector of declining prices of crude oil, have offset early positive gains.
Crude oil prices continue to drop reaching their lowest level in three weeks. In choppy trading on Wednesday, crude prices (WTI) dropped -1.75 percent to $27.45 per barrel by the close. With refinery maintenance scheduled shortly along with additional oil supplies from Iran expected, the market anticipates further downward pressures on oil prices. Current negotiations between OPEC and non-OPEC countries to reduce production have not yielded any concrete results.
The dangers of negative interest rates as more central banks implement this approach. After the negative interest rate policy was put into effect by the Bank of Japan (BOJ) recently, consideration of this approach by other central banks (with weakening economies) has grown. Eric Sims, an economic professor at Notre Dame, raised the danger flag that negative interest rates will do more harm than good. He cites that currency is less important than transaction costs, and the impact upon depositors might be that they will accept slight negative rates and continue to save (rather than spend). If the U.S. goes into a recession, there is the possibility that the Fed will institute a negative rate, says Sims. The consideration of negative interest rates by the Fed is the same as cutting interest rates, which should spur the economy through increased spending. However, Sims points out the risks associated with negative rates: the decline in credibility of the Fed in reversing course so quickly after raising rates; de-stabilization of private sector expectations as uncertainty in the markets increases; implementation of negative rates will require more complex management; and, the impact on the dollar is uncertain.
If you’re trading options, it is suggested trading Put or Call credit spreads for the remainder of the week at 3 standard deviations or greater (or simply stand aside and not trade). Expect the price of the SPX to fall within 1782 and 1923 (2 standard deviations) by this Friday.
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