Stocks go nowhere - what you need to know in Markets on Tuesday

Myles UdlandMar 23, 2016, 01:32 IST

Google Finance

Markets did nothing on Tuesday.

US investors woke up to tragic news out of Europe that at least 30 people were killed in attacks at the airport and a metro station in Brussels, Belgium on Tuesday morning.

And while markets sometimes use geopolitical events as catalysts for sell-offs, but the reaction in global markets on Tuesday was notably muted as stocks in the US and Europe went nowhere.

First, the scoreboard:

Dow: 17,583, -40, (-0.2%)
S&P 500: 2,049, -2, (-0.1%)
Nasdaq: 4,819, +10, (+0.2%)
WTI crude oil: $41.50, -0.1%

Housing

It's a short week for markets but we've still got a busy one on the economic data front and Tuesday morning we got readings out of the housing market and manufacturing sector that were mixed.

The Federal Housing Finance Authority's home price index for January showed a 0.5% increase in home prices, in-line with expectations. Compared to the prior year home prices were up 6%.

On Tuesday we also noted that the number of starter-homes being built for US households isn't keeping pace with the larger, more expensive homes. And so as we continue to see signs of home prices in the US rising - notably, at faster than the rate of inflation - what we're seeing as much as anything is a reflection of the tight supply pushing prices higher, faster.

As we wrote on Monday, buying a home is becoming an unrealistic goal for many would-be first-time buyers. Supply is down, prices are up. This is the next crisis.

Owning a home has been increasingly viewed as an investment, and when prices rise existing homeowners are positioned, of course, to take advantage of this in any number of ways. But is a home really an investment in the traditional sense?

In practice, yes, sort of. In theory, it shouldn't be.

Or as Warren Buffett explained in an interview with the Financial Crisis Inquiry Commission back in 2010, owning a home is a hedge against inflation that also gives you a place to live, which is something everyone needs.

But when you warp this premise, bad things happen. Here's Buffett (emphasis mine):

It's a totally sound premise that houses will become worth more over time because the dollar becomes worth less. It isn't because - you know, construction costs go up. So it isn't because houses are so wonderful, it's because the dollar becomes worth less, and that a house that was bought 40 years ago is worth more today than it was then.

And since 66 or 67 percent of the people want to own their own home and because you can borrow money on it and you're dreaming of buying a home, if you really believe that houses are going to go up in value, you buy one as soon as you can. And that's a very sound premise. It's related, of course, though, to houses selling at something like replacement price and not far outstripping inflation.

So this sound premise that it's a good idea to buy a house this year because it's probably going to cost more next year and you're going to want a home, and the fact that you can finance it gets distorted over time if housing prices are going up 10 percent a year and inflation is a couple percent a year. Soon the price action -- or at some point the price action takes over, and you want to buy three houses and five houses and you want to buy it with nothing down and you want to agree to payments that you can't make and all of that sort of thing, because it doesn't make any difference: It's going to be worth more next year.

It's a place to live, not a piggy bank. It's also not an asset to flip: homes are expensive and the process of trading them is hard.

But prices went up a lot and we built too many homes and financed them poorly and then we had a bubble.

And now the problem is the other direction.

Manufacturing

The preliminary report on manufacturing activity in the US during March out of Markit Economics crossed the tape Tuesday morning and was mixed.

The reading hit 51.4, indicating expansion in the sector but missing expectations for a reading of 51.9. Markit's Chris Williamson called this reading a "disappointment."

"US factories continue to endure their worst spell for three and a half years," Williamson said.

"Headwinds include reduced spending by the struggling energy sector, the strength of the dollar, persistent weak global demand and growing uncertainty caused by the looming presidential election."

Liquidity

People are, of course, worried about bond market liquidity.

Now, my view is that the whole reason that this discussion continues is because liquidity is sort of vague and amorphous thing.

Is it the investor's misconceived "right" to buy and sell positions without seeing material changes in the market that leads to concerns about bond market liquidity? Or is there something structurally deficient in the market itself due to regulations and the unforeseen consequences of changes made in reaction to an event like the financial crisis that is creating an actual reason to be worried about bond market liquidity? So many questions!

On Tuesday, for some clarity, Matt Turner surfaced a concrete discussion of the issue from Chris Bowie at TwentyFour Asset Management, who walked through an example of when liquidity should have been available but tuned out to be absent.

Here's Bowie:

Just last week, I had a broker offer me 509,000 bonds of an insurance company we like, at a price 1 whole point higher than the best screen offers. I contacted three other brokers who had lower offers on their screens, to ask if they could sell me just 500,000 bonds. All replied saying "flat - can't offer" meaning they do not own that bond so cannot sell me any, as to do so would take them short. So as a Portfolio Manager, do you buy from the only bank who has inventory, but then report an immediate 1.5pts loss compared to the mid-priced mark that will used on the portfolio valuation? Or do you pass on the trade? This is the reality of life at the coalface.

And so on.