http://blog.mutualdecision.com/articles/2007/07/16/the-glass-is-half-full-and-half-empty en-us 40 Insight from the minds behind MUTUALdecision <div>Last week was a week of records.&nbsp;The Dow and S&amp;P closed at new highs.&nbsp;The NASDAQ closed at its highest level in six years.&nbsp;Oil closed at $74 a barrel, an 11 month high.&nbsp;The Euro hit an all-time high against the dollar.&nbsp;It now takes over $1.38 to buy one Euro.&nbsp;(My sympathy to all of you vacationing in Europe this summer.)&nbsp;</div> <div>&nbsp;</div> <div>Twice last week I read/heard commentators saying that rising oil prices are good &ndash; they&rsquo;re a sign of a strong economy.&nbsp;The talking heads glass is half full (and I think it&rsquo;s filled with something stronger than water).&nbsp;Rising energy prices worry me.&nbsp;They take money out of the consumers pocket, add to inflation and increase our balance of payments deficit, leading to higher interest rates.&nbsp;Sorry, my glass is half empty on this one, but maybe I&rsquo;m just old school.</div> <div>&nbsp;</div> <div>Something else happened last week, which received almost no press.&nbsp;Credit spreads widened.&nbsp;This means the yield on junk bonds rose, even though the Treasury market was flat.&nbsp;Why did junk bond yields (and the cost of financing with junk bonds) go up?&nbsp;It could be due to ongoing problems in the subprime market and/or the amount of private equity transactions which need financing.&nbsp;Or it could be something more ominous.</div> <div>&nbsp;</div> <div>The bond market has been better at calling turns in the economy than the stock market.&nbsp;The players in the junk bond market are really smart guys (and women).&nbsp;If their glass has gone from half full to half empty we better beware. </div> <div>&nbsp;</div> <div>Here&rsquo;s how events could play out.&nbsp;Rising interest rates in the junk bond market ripple through all classes of debt.&nbsp;The continuing record trade deficit and the declining value of the dollar cause foreigners to demand higher returns to hold US Treasuries.&nbsp;The result is both rising interest rates and rising credit spreads (making junk debt financing more expensive/driving the price of existing bonds lower).&nbsp;&nbsp; The tipping point from rising interest rates to a full blown credit crisis is a debacle in the subprime market or the inability for a private equity firm to finance a big transaction (think Chrysler, Hilton, Sallie Mae).&nbsp;</div> <div>&nbsp;</div> <div>Interest rates will rise and, at some point, the stock market will switch from viewing the glass as half full to half empty.&nbsp;Soon, I think.</div> Mon, 16 Jul 2007 12:41:00 -0500 urn:uuid:eb561d09-780f-45c7-b131-2731a49e9f2b Bill Byrnes http://blog.mutualdecision.com/articles/2007/07/16/the-glass-is-half-full-and-half-empty Market Mutual fund blog Mutual Funds Economy Bond Market