Economic Data: An Infinite Loop

Everyone knows–or at least we’re supposed to know–that the market for U.S. stocks today is dominated by momentum traders, day traders, and technical traders, none of whom are paying attention to the underlying fundamentals of the companies whose shares they’re buying and selling, and all of whom are putting the U.S. economy at risk by converting the stock market into an elaborate shell game/pyramid scheme.

As it happens, this is wrong. There are lots of momentum traders and day traders and technical traders, but there always have been, and in any case the increased volume on the stock market and the greater number of traders has almost certainly made stock prices more efficient and more accurate indicators of underlying value than they once were.

What’s interesting about this, though, is that the same picture is very rarely drawn of the bond market, even though if you talk to (or listen to) bond traders, what you mostly hear is a host of technical information–stuff about the trend of bond prices over the last month or last week, about support levels that bond prices have to hold or break through, and about overbought/oversold indicators that are or are not flashing green or red. And you also get a lot of rapid reaction to things like Alan Greenspan speeches or employment-cost-index numbers. The conventional image of bondholders is that they’re conservative, long-term, careful investors. (Why else would you be content with a 6.3 percent yield for 30 long years.) But bond traders are as manic–no, more manic- than their counterparts in the equity market.

This doesn’t mean that the bond market is any less efficient than the stock market, though it does seem a bit curious. But what bond traders’ reliance on technical analysis–the idea that future price movements can be deduced by studying the patterns of past price movements–speaks to is just how impossible it is to successfully predict a market in which every piece of potential information seems to point in two different directions at once, and in which there seems to be nothing that doesn’t count as potential information.

Take today’s trade-deficit number. Although it was the third worst in U.S. history, it was still weaker than expected and smaller than last month’s trade deficit. That was good news for the U.S. dollar, which rallied, and since bonds have–at least recently–been following the dollar, it might have been good news for the bond market. On the other hand, a weaker trade deficit meant that U.S. exports were up sharply, which means that people were working more and factories were producing more, which probably means higher growth and, potentially, higher inflation. That seems like it would be bad news for bondholders, who hate inflation.

But then you had to consider that imports actually rose 2 percent, suggesting that the American consumer is still buying foreign goods freely and that potential inflation from the weaker dollar (which would drive up the price of foreign goods) hasn’t had much of an impact. So maybe inflation is still really just a mirage. But wait. If U.S. exports are up, that must mean that foreign demand is rebounding, and since the slump of the rest of the global economy has helped keep commodity prices down, a global rebound could have inflationary implications. So that could be bad news.

Then you have to divide the import side of the trade deficit ledger into non-commodity and commodity goods, particularly since oil-price hikes had a big impact in the last month. And you probably want to take a look at capital flows, too. And then there’s …

This is all fascinating (no, really, it is), but it is also a Moebius strip, in which it’s difficult to tell where anything begins or ends. And we haven’t even taken into account that the bond market needs to interpret not only all these numbers but also what impact the numbers will have on the Fed, and then in turn what impact the Fed’s interpretation of the data will have on future numbers.

Given all that, it’s not too surprising that the bond market preferred to meander around today, basically ending where it began. Set yourself the impossible task of predicting a macroeconomic future, and your head will start to hurt, too.