TERADAT SANTIVIVUT
We have always believed that the bond market is a leading indicator for the stock market. Changes in the bond market tend to precede and forecast changes in the stock market. Or, as we see it – the bond market is like the stock market’s smarter, older brother. Changes in the bond market reflect changes in interest rates, inflation expectations, and overall economic conditions, all of which have a significant impact on the stock market. When interest rates rise, for example, it becomes more expensive for companies to borrow money, which can negatively impact their earnings and stock prices. This week, we saw a bit of a dislocation in the bond/stock market relationship. The bond market is not buying what the stock market is selling. Corporate bonds and high yields have begun to struggle and diverge from the northern trajectory of the stock market. When the bond market diverges with the stock market, we go with the bond market.
We spent the week going through a mountain of research. We were inundated with a plethora of charts of soaring asset prices followed by a sharp fall and a subsequent rebound. Lumber, used cars, eggs, orange juice. The whole world during COVID was doing the same thing at the same time. Government after government also did the same thing – shove money into people’s hands. There is too much money in the system, and the Federal Reserve needs to get it out. Inflation is going to come in waves. This is just wave #1. It will take years to normalize policy. Next week is a big week, as inflation data is coming out and we have an options expiration at the end of the week. This week will go a long way in determining the direction for the rest of the quarter.
The pain trade might be lower now. The positioning that pushed markets higher at the dawn of 2023 has now flipped. CTAs and systemic strategies are now long. Shorts have covered, and retail has bought in. If the market were to turn down, the CTAs and systematic strategies would all flip on a dime and begin to chase markets lower. If we head higher, it should be more controlled. The pain trade is lower. There are concerns in the market that Adani Group (until November it was the largest company in India) has liquidity issues. Another company fighting those rumors is Credit Suisse (CS) – the second-largest bank in Switzerland. Interest rates are rising. That is like the tide going out. We might be about to find out that some have been swimming naked.
Disclosure: This blog is informational and is not a recommendation to buy or sell anything. If you are thinking about investing consider the risk. Everyone’s financial situation is different. Consult your financial advisor.
Editor’s Note: The summary bullets for this article were chosen by Seeking Alpha editors.
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