Bonds Are Back to Playing Defense

From the Desk of Ian Culley @IanCulley

What caught my attention following the SVB collapse wasn’t the headlines so much as how the markets handled the news and the stress that followed.

It’s difficult to find the silver lining of one of the largest bank failures since the financial crisis. But I’m more of a glass-half-full kind of guy.

Despite the relentless barrage of negative headlines, it’s undeniable that risks have been contained, and the markets have weathered the storm – at least for now.

Investors ditched equities and ran to the safety of US Treasury bonds as the saga unfolded. It was like the good old days when stocks were risk assets, and bonds acted like – well, bonds!

Now that the dust has settled, I believe the renewed classic intermarket relationship between stocks and bonds and the familiar patterns of risk-on/risk-off behavior bodes well for the overall market.

Especially when you consider easing volatility…

Here’s an overlay chart of the Bond Volatility Index $MOVE and the S&P 500 Volatility Index $VIX:

Both indexes shot higher last month as markets struggled to reprice bank stocks in light of added risks. The MOVE index rose to its highest level since the financial crisis. And the VIX revisited levels from last Oct.

But the levels aren’t that important. Instead, the directional moves carry far greater weight. Serious problems occur when the MOVE and VIX indexes trend in opposite directions.

Last year provided an excellent example:

Notice the eight-month divergence from March to October coincided with the bulk of last year’s selloff.

Since last fall, these two indexes have fallen back in line with each other. Even during the recent stress test.

It’s encouraging for the overall market as the MOVE is well off its recent peak, and the VIX is printing fresh 52-week lows. Volatility indexes suggest the storm clouds have passed and brighter skies lay on the horizon.

That could change at any moment, of course. But based on the market's response to the most recent bout of selling pressure, I have a feeling bonds will shelter investors from that eventual storm.

Stay tuned!

Countdown to FOMC

After the recent 25 basis-point increase, the market is pricing in another single-hike at the May meeting.

Here are the target rate probabilities based on fed funds futures:

Click the table to enlarge the view.

This data is from the CME FedWatch Tool as of April 20, 2023.

Thanks for reading. As always, be sure to download this week’s Bond Report!