MARKET REPORT

By Julian Sudre

The elements have been felt across money markets; European and Asian equities put in mixed performances and the yen lost ground against most major currencies – most notably the high-yielding Australian dollar. Also Canada which has been affected by the commercial paper crisis had to raise its rate in July for the first time in more than a year. The market has remained frozen mostly due from issuers’ inability in mid-August to roll over maturing issues as a result of the credit turmoil in the US sub-prime market. Hence, some of the big issuers of asset-backed paper in Canada are still unable to find buyers, forcing them to warehouse securities and in some cases, draw on bank loans.

The maxim, it never rains but it pours could not be more adequate in these circumstances with the presence of Hurricane Felix lurking about in the Gulf of Mexico. Oil prices were pushed higher amid concerns about potential damages. Meanwhile money-market lending rose to their highest level in more than eight years. The three-month interbank rate or Libor had climbed to 6.7975 per cent more than a percentage point above the 5.75 per cent base rate.

Undeniably, this has had the impact of the domino effect in financial markets with another hedge fund – Synapse Investment Management closing a £135m fund investment in asset-backed securities (ABS) owing to severe illiquidity in the market for investment.

Weather-ravaged Australia and Argentina which represent about 23 per cent of global wheat export have fallen on hard times. Wheat prices last week rose above the $8-a-bushel level for the first time ever in Chicago, soaring in August more than 20 per cent – the steepest monthly increase in more than 30 years.

Although the discount rate used by the Federal Reserve which has been dismissed by many observers as a “symbolic gesture” could actually show that it is a great indicator of the direction of monetary policy. When it changes direction, it signals a shift between expansionary and restrictive monetary policy.

Such sectors as resources, consumer staples, and utilities remain mostly insensitive to the overall economy could be used as defensive stocks when the discount rate goes up – that is the start of restrictive policy. But when the rate is cut, the idea would be to buy cyclical stocks such as consumer discretionary, financials, industrials and technology, ergo signalling easier money.

Be as it may, nevertheless, such crude strategy would have beaten the market by 3. 78 per cent a year between 1973 and 2005.

The discount rate, so far, has shown to be a remarkably powerful signal.