Good analysis, I never really follow the mortgage backed variety for various reasons. Most notably what my college finance professor said in that these only perform well in "sweet-spot" conditions. You don't want rates to go up, yet you don't want rates to go down too far and then get a bunch of payoffs and refis. Sort of like hoping for very little volatility and as you say a nice spread between shorter term rates and the long bonds. Might not be the best market for them over a few years, but the likelihood that the Fed stays put for awhile and the really low PPI numbers make this a potentially good place to stay for the time being especially considering what little upside bonds have compared to their potential downside that lurks once the economy gets its act in gear and fires on all cylinders.


As for currencies, I like the dollar to make a rally for awhile. The pound will have downward pressure because the talk is on now about how sterling is closer to the necessary rate to join the Euro. That is the type of talk that could really hurt its potential as the wide spread to the Euro has been its only hope of staying out. On the other hand I think the Euro is going to get a little weaker here because people are going to inevitably see that despite all this run on the dollar, supposedly by Euro holders in large part, the FTSE and DAX have gone lock-step with the US market. If you aren't getting any better returns at home, why keep pulling your money out? Only reason why Europeans "feel" they are getting money now is because US equities have gone down more purely as a function of exchange rate. So US equities have become really cheap relatively speaking.


Remember that the world has all gotten equity culture and it is growing even more in Europe and Japan. The US has made the switch in great strides, the other parts of the world still value paper and gold under mattresses more so than we do here. As much as people like to think the scandal and bursting of the bubble has changed minds, they are fooling themselves to think that. People that are getting out of the market now aren't saying screw Wall Street so much as they are saying I don't want to lose any more money right now, but I will be back when I feel its safe to invest in stocks again. Valuations would really be in trouble if people were wholesale exiting the market for good, but I don't think there is much of that at all. You have risk-adverse people and foreigners take out their money, just as Elroy points out. Everyone else hasn't really gone too far from the pack. As the rest of the world joins in on the equity frenzy, you have a lot more money chasing a somewhat limited supply of stock. Keep in mind that stock buybacks are all the rage right now and that very few IPOs or mergers made with shares have hit the market. That should mean a lot less supply and eventually more demand. That is why I have tended to ignore all these people with the market is overvalued theory. Maybe it is if this was 1980 or 1990, but its not. There is a lot more money chasing stocks and a pretty static supply for now. Many of the IPOs that did come out in the bubble became worthless, they aren't absorbing the vast new demand for equities that is out there. Once again, remember in the end pricing is all about supply and demand, not fundamentals.