This will be the question throughout all of October.
Is the market setting up for a monster sell-the-news rally come November, when we get both the election and the (likely) commencement of quantitative easing?
It seems inconceivable that the market could continue to rally on two events, when the outcome of those events doesn’t really seem in doubt.
Here’s more from James Hamilton of EconBrowser on what’s priced in from quantitative easing:
That game has been up since the end of 2008, when the Fed drove the fed funds rate essentially to zero. But if the Fed is now using very large-scale asset purchases to push around longer-term yields, should those operations warrant a new venue for Fed-guessing by bond markets? It’s certainly striking how much yields have declined as the conviction of a second round of quantitative easing (referred to by some as “QE2”) has grown. Over the last month, the 10-year yield has fallen 40 basis points. If you wanted to attribute all of this to expectations of QE2, and if you were assuming that $400 billion in long-term bond purchases could lower the rate about 13 basis points, you might think the market has already discounted some $1.2 trillion in additional large-scale asset purchases. All of which raises the interesting possibility that if the Fed were to announce in November another trillion in purchases, nothing would happen, because the market has already discounted it.
And this regarding the simultaneous rally in Treasuries and commodities is interesting:
It’s true that while the 10-year yield is down 40 basis points since September 10, 10-year TIPS are down 50 basis points, consistent with the view that there may have been a modest decrease in real rates and increase in inflationary expectations. That of course is exactly what QE2 is supposed to accomplish. But I’m doubtful that such a modest effect could be reconciled with the 10% moves in commodity prices we’ve seen over the same period. The people who think that 10-year nominal bonds paying 2.4% are a good buy, and who think that copper at $3.80 a pound is a good inflation hedge, can’t both be right.
I continue to believe that the Fed needs to watch commodity prices carefully as an indicator of how far to push on its new-found accelerator pedal. It may be that, as far as the market is concerned, QE2 has already happened, and it’s already accomplished all it could.
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