So much for the summer “lull”.
Investors begrudgingly spent what should have been a vacation week attempting to navigate the treacherous waters around a Chinese yuan devaluation and aggressive rhetoric from an irritated Donald Trump, who is just three short weeks away from slapping 10% tariffs on the remainder of Chinese imports to the US.
The incessant currency/trade war headline hockey manifested itself in a harrowing selloff on Monday, and manic trading for the rest of the week, including outsized rallies on Tuesday and Thursday and a wild Wednesday featuring the best comeback of the year for stocks after a nauseating morning swoon.
Read more: August Market Turmoil Proves ‘Bad News Is Good News’ Trading Philosophy Has Limits
And yet, through it all, the S&P remains just 3.5% from its all time high (top pane in the figure below).
How to reconcile that? It’s actually not difficult at all. The dividend yield for US equities is now higher than the yield on benchmark Treasurys for the first time since 2016.
Although earnings growth has (basically) flatlined, Bloomberg reminds you that the spread between the S&P’s earnings yield and Treasury yields is still higher than it’s been three quarters of the time over the past twenty years.
The bottom line is that we are now so far down the bond rally rabbit hole that we can’t even see a flicker of daylight. This week, the global stock of negative-yielding debt topped the $15 trillion mark.
(Bloomberg)
Although August has tested the notion that plunging yields can continue to prop up equities and other risk assets (see the first linked post above), it’s hard to argue that stocks aren’t cheaper than bonds.
Meanwhile, plunging yields, the monetary race to the bottom and fears of competitive, deliberate currency debasement have pushed gold to six-year highs.
“Gold is now a better performing asset than the S&P 500 or a 7-10-year Treasury portfolio this year”, Nordea wrote, in a Friday note.
(Nordea)
“The more negative the interest rates, the better the performance of gold prices, it seems”, the bank’s Andreas Steno Larsen and Martin Enlund remarked, before asking if it’s a “hunt for yield or [a] hunt for shelter?”
It’s both, gentlemen.
When equity dividend yield equals bond yield, choosing equities is a bullish bet while choosing bonds is a bearish bet.
What does that mean??? I am bearish on both
Yeah, you’re not alone in that respect. If yields were to move more than ~2 standard deviations higher in a short span (i.e., a tantrum-type episode), it would likely dent stocks materially. what we need is for the bond rally to just take a breather and maybe see long-end yields drift higher on marginally positive econ data for a while. another sharp move lower in yields or a sudden lurch higher would both be bad for equities
It takes a long time to absorb a 20% + drubbing the market can render at the drop of a hat if you are trying to absorb it with 3-5% dividend yields.or a rapid rise in bond yields due to inflation ( irregardless of the cause of that inflation…)
I said it 10 years ago..”next time we get a 2008-9 scenario you can run but you won;t be able to hide…” Thus gold….maybe , just maybe…
George,
I’ve never been a believer in investing in gold. It has always felt like a Doomsday Prepper investment (even if you’re right, will it matter?). But in a NIRP world? As you said, “maybe, just maybe . . ”
At some point in this NIRP world, yields are going to be so negative that institutional lenders are better off taking their billions out and putting it under the proverbial mattress. I get there are regulatory, legal, and logistical concerns with doing that but that “tipping rate” has to exist. What happens then? Or do they look at other investments? “Maybe, just maybe . . “
Debt is growing much faster than equity — so what does that mean? I guess that says something about future value, duration, interest rates and risk, but one might question if that’s a good thing! It’s like using credit cards to run up larger amounts of debt and running in place, if not losing ground and falling way behind. It’s a very big macro mess and that’s obviously way too simple. I would think there is some strange imbalance hovering out there in the shadow world of hedging, but then again, it’s just money.
“According to some estimates, the global bond market has more than tripled in size in the past 15 years and now exceeds $100 trillion. By contrast, S&P Dow Jones Indices put the value of the global stock market at around $64 trillion. In the U.S. alone, bond markets make up almost $40 trillion in value, compared to less than $20 trillion for the domestic stock market.”
“Trading volume in bonds also dramatically exceeds stock market volume, with nearly $700 billion in bonds traded on a daily basis. That compares to about $200 billion per day in volume for stocks, according to data from industry group SIFMA.”
Double B
Interesting response ….cause I buried some bucks in Gold years ago…Ignored it all from pure disinterest and now that I don’t give a s..t have come to discover all the reality of VALUE is relative from a philosophical point of view…. In a way it is a nice feeling…
One of these days H….may say something like that and that’s scarey…huh !!!
What I mean is, suppose the market decides that a recession is imminent or has started and that the coming Fed rate cuts won’t stave it off.
Stocks will go down, and your return will be +1.8% dividend yield – X% price (X might be 20%, but probably should be more).
Bonds (meaning Treasuries, not BBB or high yield) will go up, and your return will be +1.8% coupon yield + X% price (X depends on duration and rates, maybe 5% if duration 5 and rates -100bp).
So an economically bearish scenario is bad for stocks, good for (Treasury and AAA-A) bonds.
By similar logic, an economically bullish scenario is good for stocks, bad for (those) bonds.
This assumes that bad news finally becomes bad news, which I think eventually happens if the badness gets bad enough.
I realize this is simplistic and doesn’t capture some black swan type stuff – US government defaults or Treasury auctions start failing etc. Those seem like edge cases.
Corporate debt is indeed excessive. The bulk of growth (in the US) has been in US govt and BBB/HY plus stuff like CLO. I think the fate of those types of debt will diverge – another way to say it is that spreads have been near cycle tights and will widen.
I removed essentially all HY from portfolios a year ago. Moved from corporates to Treasuries. Got rid of the high yielding commercial paper stuff. Trying to move from bond funds and ETFs (opaque) to individual bonds (at least you know what you own).
One area of bonds where I haven’t cut risk is munis. Still have HY muni funds in shorter durations. Need to look hard at that. The default rate on HY munis was very different from the default rate on HY corporates in previous recessions. I’m sort of hanging my hat on that but maybe I shouldn’t.
I never had gold, considered it the domain of nutty tinfoil types. Last year I started putting gold in portfolios. Not crazy big amounts, like lo/mid single digit weights. It’s been okay but still feels uneasy to be in bed with the preppers and goldbugs. Uncomfortable to own something where you can’t rationally calculate a fundamental fair value.
I feel like “broken clock” is the right analogy. If you look at your watch which you are almost certain is operating and you see it matches a known broken clock… I guess I would still assume my working clock is working and not that all broken clocks fail at the same moment in time. The idea that gold is a “barbarous relic” seems more like a sales pitch for fiat to me rather than any realistic evaluation of history. Gold still has all the properties that made it valuable and it has all the restrictions that make it a challenge. The trick is seeing that every paradigm is meta-stable. If I were a real prepper I wouldn’t have gold or silver, I would have blocks of food grade salt and pallets of ziploc bags, glass jars and manufactured goods like cast iron pots and pans. Gold and Silver retaining value and utility supposes that international trade remains strong in a scenario where monetary policy fails globally.
I know a gold bug father of a friend, a retired electrician a widower who works his own claim in Colorado a few months out of the year. Been meaning to pay him a visit, have some rocks i would like him to evaluate. Lives in the comfortable suburbs near me, hesitant to run his AC, keeps a loaded pistol on the kitchen table. Nice guy, 40 years later and he still thinks I should pursuit a HAM license, and buy a “good” metal detector. I am sure he is pretty happy right now. I think his a hunt for shelter, and freedom, and vitality.
Trade headlines turn into currency wars. Many countries diversifying away from USD and stockpiling gold. CBs on a monetary policy tear, and gold is the only ‘real’ asset central banks can even buy.
This was an extremely predictable outcome.