Stocks pulled back again, testing Monday and Friday's lows as the Dow lost 258-points. The investment world is in turmoil over whether the Fed is going to raise interest rates next week, and although a 0.25% hike would not be the end of the world, the concern is whether the accommodative Central Banks across the world are starting to get less accommodating, and that's something the stock market has been feeding on for years.
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We'll be talking a lot about bonds below because there may be something happening that's a little bigger than the normal market pullback, rebound thing. Whether this will be bullish or bearish for stocks going forward may be debatable, but it may be the changes that are causing the short-term agida in investors.
We've been in a near 0% interest rate environment for about 7 years and taking that away won't be a subtle change, but again, is that bullish or bearish for stocks?
The SPY (S&P 500 / C-Fund) came down to test the prior two trading day lows, which isn't unusual in this situation. We've had a few "V" bottoms, like after Brexit, and I'm not saying we are not in one now, but this choppy action after a sell-off is not uncommon.
We saw a lot of it in 2015 where stocks sold off, then spent a couple to several days chopping around near the lows before rallying. Not all will rally, but that was more common that the alternative in 2015.
Let's get right to bonds because something interesting may be happening.
It's a little early to say based on this chart, but we saw a little breakdown in the AGG (Bonds / F-fund) yesterday as it fell below the flag formation.
This long-term chart compares the 10-year Treasury price to the S&P 500. Going back to 2000, it seems like an inevitable that when stocks were rallying, bonds were falling, and vice versa. That is until about 2009 when the Fed starting pushing rates near 0%. Low rates means higher bond prices, but of course the stock market enjoyed that too.
However, the 10-year hit a high in 2012 and if the Fed is going to start raising rates, we may not see a higher high like we saw in stocks. Is this a major change to the financial world and a top in the bond market's long bull market? No wonder the markets are acting out.
But even if it is, it may not necessarily be a bad thing for stocks. I heard Bill Miller talking about this yesterday, where he compared what was happening in 1987, when stocks were peaking, to now.
Source: Bill Miller, Delivering Alpha
The 10-year was paying over 9% in 1987. Can you imagine that? If stocks were looking toppy and bonds were paying 9%, where would you choose to put your, and in the case of money managers, your client's money?
Back then the dividend yield in stocks was a strong 3.57%, but bonds were paying 9%. It wasn't a tough call when you look at it from today's perspective. The dividend yield of stocks now is just over 2% and the 10-year is only paying about 1.6%. It's a big difference a good argument why stocks should survive small rate hikes from the Fed.
The yield on the 10-year has been coming down for years but may have hit a double bottom. It's speculation but if the Fed can get the courage to start to raise rates, this could be a long-term bottom for yields, and that could mean a prolonged bear market in bonds (not stocks).
This really long-term chart of the 10-year yield shows that yields don't go down forever, and when they reverse, the trend can last a very long time. Yields went up from 1946 to about 1980, and have been coming down since. Is that about to change?
Source: http://businessinsider.com
So perhaps an end to the bull market in bonds is developing, and rates will start to go high. That doesn't mean it's the end of the bull market for stocks, but in the short-term it may take a while for investors to get over the thought of easy money getting tougher to get, and volatility could remain high. But don't forget the election is coming up and it may not start to happen until that passes.
Read more in today's TSP Talk Plus Report. We post more charts, indicators and analysis, plus discuss the allocations of the TSP and ETF Systems. For more information on how to gain access and a list of the benefits of being a subscriber, please go to: www.tsptalk.com/plus.php
Thanks for reading. We'll see you back here tomorrow.
Tom Crowley
Posted daily at www.tsptalk.com/comments.php
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