From the desk of Steven Strazza @Sstrazza and Ian Culley @Ianculley
Treasury Bonds have collapsed in recent months as interest rates have rallied to their highest levels in years.
And it’s not just treasuries, the trend is lower for corporate bonds as well.
While fixed income markets have experienced steady selling pressure since 2021, downside volatility has accelerated in recent months. Following the worst Q1 returns in decades, bonds have continued to plunge to kick off the 2nd quarter.
The best way for us to take advantage of this is to keep finding clean setups to short.
Today, we will outline a couple of shorts in high-yield debt and discuss what a sustained downtrend for these bonds could mean for the broader market.
First up is the High-Yield Corporate Bond ETF $HYG:
From the desk of Steven Strazza @Sstrazza and Ian Culley @Ianculley
Benchmark yields have moved in a vertical line higher since the beginning of March. This isn't just the case in the US; we're seeing similar action all across the globe.
But as rates rally higher and higher, more and more classic intermarket relationships are failing to confirm the move.
Yes, commodities and commodity-related stocks remain resilient, and bonds are an absolute dumpster fire.
Most other assets we would expect to do well in a rising rate environment simply aren’t. This is especially true for the banks!
Meanwhile, those groups that we'd expect to underperform in this kind of environment, such as utilities and other defensive stocks, are actually outperforming.
All of this speaks to risk-aversion, not risk-seeking behavior.
From the desk of Steven Strazza @Sstrazza and Ian Culley @Ianculley
It finally happened…
The yield curve inverted for a brief moment as the 2-year yield rose above the 10-year earlier this week.
But whether or not it inverted yet is beside the point. It’s been flattening for a long time, and that’s the direction we’re headed in. It's only a matter of time.
While media outlets and fearmongers will spin this development as an urgent warning of an impending bear market, here's what you need to know: Throughout history, equities have done well during and after inversions.
This commonly observed leading indicator has a tendency to precede major market tops by years, not months. In other words, there's still time. The average lead time is about 18 months after prior inversions.
More importantly, when it comes to forecasting bear markets and recessions, many experts will argue that it is actually not the 2-year we should be focused on, but the 3-month yield.
From the desk of Steven Strazza @Sstrazza and Ian Culley @Ianculley
It's beginning to feel more and more like a risk-on environment out there.
Commodities are ripping higher. Stocks are digging in at critical levels. And defensive assets such as Treasury bonds and the Japanese yen are in freefall.
Despite the market volatility this year, investors continue to be rewarded for buying stocks over bonds. This has been the case for two years now, and there's no evidence it will change anytime soon.
When we look to our risk indicators and risk appetite ratios, the majority are still stuck in a range. With the stocks versus bonds ratio resolving to fresh highs, we're thinking the rest may soon follow.
But first and foremost, the price action from this classic intermarket relationship suggests that stocks are still the place to be.
Let’s take a look.
Here’s a chart of the S&P 500 $SPY versus US T-Bond ETF $TLT:
From the desk of Steven Strazza @Sstrazza and Ian Culley @Ianculley
Benchmark rates around the world have been rolling over as uncertainty sweeps across markets.
Despite the growing pessimism among investors, global yields are digging in at critical levels and bouncing higher in recent sessions.
We discussed how international yields – particularly those in developed Europe – confirmed the new highs in US rates earlier in the year.
Today, we’re going to check in on some of those same yields and see if this is still a piece of confirming evidence for rates here in the US.
With the US 10-year hovering around its breakout level at last year’s highs we’re looking for any clues we can get for whether or not these new highs are here to stay.
If the new highs in global yields are holding, that would go a long way in supporting the upside resolution in the US 10-Year.
On the other hand, if we start to see more and more yields around the world fail and roll over, the US will likely follow.
From the desk of Steven Strazza @Sstrazza and Ian Culley @Ianculley
We could sit back and speculate on what measures the Federal Reserve is likely to take to curb inflation. But it wouldn't change the fact that inflation is already here.
We’d rather focus on what market participants are doing now to position their portfolios for these inflationary pressures.
Since last year, inflation has gripped markets, and we don’t foresee it going away anytime soon. We think the best course of action is to get used to this environment and focus on assets that tend to perform well during periods of inflation.
One of our favorite ways to measure inflation expectations is by analyzing Treasury Inflation-Protected Securities (TIPS) versus Treasuries.
Relative strength from TIPS implies that investors are positioning themselves for a general increase in the prices of goods and services. That’s exactly what we’re seeing today.
Let’s take a look and discuss what we want to do about it.
Here’s an overlay chart of the $TIP/$IEF ratio and the US five-year breakeven inflation rate: