The Fed Awakens

Equities start the day higher as the Fed Awakens. If there’s anyone more excited about the Star Wars movie on Friday I’d love to meet ‘em. I guess it’s time to dust off that Chewbacca outfit because I wanna see some Stormtroopers get blown up. Speaking of blowing up, have we talked about High Yield yet? No? Ok let’s keep this one simple and quick: you are witnessing the final chapter of this “ZIRP / Reach for Yield” era. It’s coming to an end and you have a front row seat. High Yield is a class of debt that a lot of people own at the wrong price. You bought a bunch of unsecured debt yielding 5% on a company that may or may not actually have a working product? Sorry, you reached and it didn’t work out. You speculated on a CCC rated debt yielding 6% for a company in restructuring? It’s over, you probably lost. The Fed is about to engage in a rate tightening cycle and it was always going to catch someone offsides. This era of people chasing yield was always going to be messy when it finally unwound but you know what? This one isn’t systemic, banks aren’t going to be the big losers here (whew). They don’t hold big inventories in it, they don’t trade big size in it, and they don’t have short term borrowings that are pledged against it. Investors are the one’s who will bear the brunt of the losses and…well….isn’t that how it should be? People take risks, sometimes they work out and other times they don’t. The high yield unwind heralds the beginning of a new era and risk “re-pricing” comes along with it. As equity market participants we will be forced to watch the carnage (and feel some pain along the way) but this one isn’t going to nuke your SBUX or DIS holdings while you sit there shell-shocked. We aren’t looking at the next great financial crisis, the recipe is just not there. But…an era of risk “re-pricing” does affect equity market valuations so that WILL BE something we need to monitor. My friends you sit on the cusp of a new age…let’s hope it’s a friendly one.

After the open it felt like we were set up for one of those “waaaay too many people are bearish, rip their faces off” type of rally. All morning long we heard less and less about High Yield and more and more about “maybe things will be ok after tmmrw”. Here’s a question (one that Josh Brown asked too)….did we just live thru the Fed selloff? We fell from 2,100 down to 1,994, couldn’t we make the case that the hike was just priced in? Are there people who think a Fed move on Wednesday would be met with FURTHER downside? I don’t, but I also thought the hike was priced in weeks ago. I bet a lot of that move was pricing in the Fed, but also things like tax loss selling and those aforementioned debt worries.  Still, you have to feel better about where we are now vs on the highs going into tomorrow’s meeting. Ok, what moved today? Energy, by a lot. The S&P Energy sector was up 2.8% as names like ESV, RIG, HP, FTI, and DO roared higher. Other winners included AMG, ILMN, ENDP, and LUK. Losers were MMM, CNX, COG, and CHK proving that a rising tide doesn’t lift all boats, especially if they are filled with coal and leveraged balance sheets. By lunch we sat on 2,050, up 1.3%, in a full blown short covering rally.

The final hour saw us pull back slightly from the highs to close at 2,043, up just a shade over 1%. Ok, look, the market is running out of days here and you are about to witness something that hasn’t happened since 2006. Does that mean you should buy the open tomorrow? No, but you don’t need to sell it either. It looks like 2015 wants to land on unchanged so try and ignore all the noise until January.  High Yield implosions and energy weakness aren’t going to go away and I’m not trying to minimize their importance.  Credit leads (like Transports) so we will need to see that bizarre sector of the capital markets settle down before any meaningful rally can happen. Santa: all I want for Christmas is 2,100 on the S&P and Star Wars not to suck. Actually I’ll just take the second part please.   

Final Score:  Dow +90bps, S&P500 +106bps, Nasdaq +87bps, Rus2k +141bps.

News Highlights:

We’ll end tonight with the absolute worst martial arts demonstration ever.   I have a treasured client from Scotland, I hope she doesn’t see this.

Have a good night.