Central Banks to the Rescue

Markets exploded higher today on the news of a couple big actions from global central banks. First was the report that China had lowered its reserve ratio by a half percentage point, indicating that it has now shifted to policy easing and boosting economic growth, rather than continuing to battle inflation through policy tightening (as they’ve been doing for the past two years). Then came the announcement that six major central banks -- including the Fed, ECB, and BOE -- were unveiling a new arrangement that lowers the interest rate on dollar currency swaps in an attempt to end the worsening bank funding crunch in Europe.

It seems like we’ve been down this road several times since the European debt crisis began to intensify earlier this year. Some grand plan or solution is floated, and the markets rejoice, only to fall back again when investors realize that the core problem -- the ultimate solvency of over-indebted nations -- has not been resolved. However, we’re also aware that the central banks are powerful enough to spark sustained market advances even in the face of suspect fundamentals, as the Fed has done in the past couple of years with QE1, QE2, etc. So today’s actions can't simply be ignored.

Once again we’re left to ponder whether “this is it” -- the game changer that signals all is well and investors can safely swim in the risk pool again. While today’s rally is certainly impressive, we don’t think we can make that determination just yet. For our part, we’ll be looking for signs of confirmation in coming days – key technical levels being taken out on the upside, a credible plan out of Europe, etc.