For traders on Wall Street, 'good news is bad news'

THE US stock market just went through the looking glass.

Last week's retreat was caused by one of the best economic reports in a decade. Investors are hoping that reports from the jobs market and retail sector this week will be terrible. Confused? You should be.

"It's an upside down world we live in," said Joe Kinahan, chief derivatives strategist at TD Ameritrade.

It's an old Wall Street phenomenon known as "good news is bad news" that takes hold when traders' usual focus on economic and corporate growth is supplanted by concerns about rate hikes. According to this twisted logic, the more positive the data, the sooner rates will rise, hurting long-term growth prospects. Data will likely be seen through this inverted lens until the Fed sets the date for the first hike.

For years, traders had complained that only one thing was holding back the US economic boom, and by extension, the bull market: the jobs market. When stock traders finally saw a radiant jobs report on Friday, however, they recoiled in horror. With 295,000 people added to payrolls in February, and a drop in the unemployment rate to 5.5 per cent, the lowest since before the Great Recession, the jobs data was thought to force the Fed's hand, expediting interest-rate hikes.

Treasury rates rose in the wake of the report, and stocks, particularly those that are sensitive to higher borrowing costs, plunged.

In a speech later that day, Richard Fisher, president of the Federal Reserve Bank of Dallas, said the unemployment rate is close to the limit of "non-accelerating inflation" - at the point where any further employment growth will likely drive up consumer prices. That's central-bank code for "the time for rate hikes is nigh".

Mr Fisher was not worried about or surprised by the stock-market reaction to the report.

"You're beginning to see some ripple effects in anticipation of my successors hiking rates some time in 2015," said Mr Fisher, who is retiring on March 19. "All you're doing is getting a little bit of an adjustment period."

Still, Mr Fisher noted that the central bank would likely move "gingerly", transitioning its policy in the gradual manner that a great ship would approach a new port.

The adjustment in the stock market is partly playing out on a sector level, as traders rotate out of some of the sectors that benefited the most from quantitative easing.

"The beat-down of anything related to interest rates continues," said one money manager who couldn't be named because of firm policy. "From real estate investment trusts to utilities, to bonds, the potential for a stronger economy has punished these areas over the past month as long-term rates have jumped significantly."

Utility stocks were the surprising stars of last year's stock market. The power plant operators were the toast of elderly fixed-income investors who try to live on the interest paid by their investments. Typically, these retirees park their money in bonds. But the historically low rates - Treasury rates fell last year again, this time unexpectedly - drove the retirees into the arms of the power plant operators.

In their place, traders are buying into tech stocks and financials. Tech stocks do not typically carry as much debt as utility companies and other big borrowers. They are geared for growth: the more jobseekers who are finding employment, the more potential customers for Apple's new "smart watch", which the company is expected to unveil on Monday.

The watch's reception may decide whether Apple can continue its remarkable 2015 run. It was added to the 30-stock Dow Jones Industrial Average and became the largest company by market capitalisation in history. A strong showing for the watch could carry the Nasdaq Composite to a new record.

Financial companies are also having a good year. Last week, JPMorgan Chase, Citigroup, Bank of America and other "systemically important" institutions passed the Fed's latest stress tests. That frees up capital for the banks at a time when they should be able to earn larger profit margins on loans, given that the interest they charge customers is tied to the rising Treasury rates.

But these global banks and other major US multinationals are also exposed to another side effect of the Fed's policy, the resurgent dollar. On Friday, the dollar rose a staggering 1.5 per cent against the euro to around $1.08, the closest to parity than it has come since the dawn of the European currency.

The reason for the spike is divergent economic fortunes and - particularly - the "interest-rate differential". The European Central Bank said it would launch its quantitative-easing programme on Monday, effectively printing euros just as the US printing press shuts off.

The dollar's spike will alleviate inflationary pressure as imported goods become cheaper in the US, and "we import a good deal", said Mr Fisher of the Dallas Fed. It will also hurt companies that generate revenue overseas and bring earnings back to the US, which could be a critical factor in the first-quarter earnings season come April.

"I think the question that needs to be asked is have major corporations in the US increased and changed the way they hedge their currency from foreign sales so that it no longer impacts earnings as much," said Oliver Pursche, chief executive of broker dealer Bruderman Brothers. "Obviously we don't know that answer."