Follow me, don't follow me, I've got my spine, I've got my orange crush. -- R.E.M. Spines and orange crush aside, U.S. markets were in the mood to follow in the footsteps of others Thursday. Emerging markets, and particularly Latin American stock market indices, continued to rebound from their sharp downturns earlier this week. The bounce is a welcome relief for U.S. stock investors, who had been dogged by worry that the concurrent drops in commodities and emerging market stocks meant a deeper global economic slowdown. World markets shrugged off the commodity weakness and opened the door for investors to see the bright side of a strong start to earnings season -- Genentech ( DNA) being the prime example Thursday -- and another bout of strong economic data in the U.S. Benchmark indices in Brazil and Mexico and throughout Europe finished up sharply for the day. The optimism spilled over into U.S. equities, where the Dow Jones Industrial Average finished up 0.6% to another all-time high of 12,514.98. The S&P 500 finally bounced as well, closing up 0.6% at 1423.82. The Nasdaq Composite moved up 1.04% at 2484.85 to mark a new six-year high. Investors tested the 1411-1415 range in the S&P 500 all week, and it bounced each time, says Randy Diamond, trader at Miller Tabak. "An oversold condition was created, and following today's global rally, we got the bounce here."
Those technical factors combined with investors "cheering the better economic data" and "coming to terms with no rate cuts" to make for a strong rally, says Diamond. The rotation into technology stocks continued: Shares of Microsoft ( MSFT), Intel ( INTC), eBay ( EBAY) and Level 3 Communications ( LVLT) surged between 1.8% and 7.5%. Shares of Internet companies such as Yahoo! ( YHOO) and Google ( GOOG) also gained over 1% on the day. Apple's ( AAPL) stellar run this week came to a halt Thursday as its shares fell 1.2% on news that Cisco Systems ( CSCO) is suing Apple for trademark infringement for the name "iPhone." Shares of Cisco were up a fraction. The price of oil plummeted another 4% Thursday, putting light, sweet crude at $51.88 per barrel. The oil stocks were therefore unable to participate in the day's rally, but the bleeding wasn't as bad as it has been in recent days. The Oil Services HOLDRs ( OIH) exchange-traded fund fell 1%, but shares of Exxon Mobil ( XOM) slipped only a fraction, and BP ( BP) actually added 0.2%. Also, Valero ( VLO) and Sunoco ( SUN) were upgraded by Sanford Bernstein and gained about 1% each. While stocks rejoiced, the day was dark for U.S. Treasury bond traders, who recognized that an example from overseas reveals a threat. Treasury bond traders were shocked by the Bank of England's surprise hike of its overnight lending rate to 5.25%. The BOE's decision was a harsh reminder for Treasury traders that U.S. monetary policy might follow in kind. With each piece of strong U.S. economic data, the likelihood of a rate cut falls. Indeed, the fed funds futures market has pushed out the odds of first rate cut to August. Traders focused on the idea that England's economy has reaccelerated after a massive housing market boom and bust. Sound familiar?
The risk of a rate hike gets greater as employment data, in particular, get stronger, a phenomenon that is defying many economists' expectations. Wage inflation is what economists call "sticky," and it can have much more impact than energy price-driven inflation. It seems the Fed is still concerned about inflation, despite the decline in oil and commodities prices. Fed speakers have remained hawkish throughout this oil market selloff, with Fed presidents such as Chicago's Michael Moskow and Dallas' Richard Fisher reiterating this week that inflation is still their biggest concern. "What if the U.S. economy takes off in the second half? And the labor market never really softens? You can possibly get higher inflation," says T.J. Marta, fixed-income strategist at RBC Capital Markets. To wit, initial jobless claims fell 26,000 to 299,000 for the week ended Jan. 6, much lower than the 320,000 analysts had expected. "The latest news on jobless claims suggests unemployment is likely to be higher rather than lower, and you will not get a rate cut unless the unemployment rate gets higher," says John Lonski, chief economist at Moody's Investors Service. The 10-year Treasury bond fell 12/32 to yield 4.73%, while the 30-year bond fell 21/32 to yield 4.82%. Marta believes that the 10-year could test a 4.80% yield but says that that level has usually drawn foreign central bank buyers who think that's a good place to buy.
The odd twist is that if the 10-year yield remains at or above 4.80%, the Treasury bond market could fulfill its own dreams of economic weakness. Higher 10-year yields come with higher mortgage rates, and the housing market could suffer another blow. Maybe in the end, we'll break from England yet again.