If Stocks Could Talk

Markets felt cautious Wednesday. If equities were things that could talk, they’d be asking each other about rising yields.

“Are you feeling sick, Dave? There’s just something about 1.30% that makes me nauseous.”

“I can’t say I’m worried, Bob. But then again, I’m not a bond proxy.”

US yields eventually gave some back after rising to 1.33%. Tuesday’s bond selloff probably needs to take a breather, lest it should push up the dollar, and begin to tighten financial conditions, against a backdrop of extremely elevated equity multiples that many believe cannot sustain themselves at higher yields.

“The uptrend in Treasury yields is the key driver to push up the dollar,” one Tokyo-based FX strategist at Barclays said. Note that 10-year US real yields rose 7bps Tuesday (denoted by the red dot in the figure, below).

Obviously, reals are still deeply negative, but that’s the kind of move that could cause problems.

“The rise in long-term US yields has yet to lead to a major breakout in favor of the USD against a broad range of currencies, but in the case of the negative yielders, the growing asymmetry in favor of USD strength can be seen through variables such as shorter-dated USDJPY 25-delta risk reversals finally turning positive,” Credit Suisse remarked. “Overall, we still prefer being long pro-cyclical currencies against the classical funding currencies as a means to trade global reflation to simply being long USD across the board.”

Stocks trading at multiples last seen during the dot-com days likely can’t digest a swift backup in real rates. This is a familiar refrain, but it can’t be emphasized enough. Remember: It was rising real yields that tipped stocks into a deep correction (a “mini-bear market,” if you like) in late 2018. You can draw a pretty compelling visual with the S&P’s forward multiple and real rates (below).

And yet, it’s probably too early to get bent out of shape. “The rise in US yields is broadly being matched by yields in other major bond markets, which is limiting the positive impact on USD, as is the response in equities,” RBC said.

Don’t forget about gold in all of this. It was on track to fall a fifth day.

At the same time, oil is dancing to its own drumbeat. The energy crisis stateside is bolstering already buoyant crude, which means it need not necessarily roll over in the face of a stronger dollar. Its advance also drives up breakevens, so it’s not inconsistent with rate rise either. “Any inflationary pressures right now are likely to be met by a disproportionate rise in yields, and with it reduce the incentive to own none-yielding metal,” Bloomberg’s Eddie van der Walt said Wednesday.

If you’re a gold bull this is disconcerting. You don’t generally want to see your ostensible inflation hedge performing poorly just as evidence of inflation looks to be materializing. But then again, maybe this is just another example of “reflation” being something different than actual “inflation.”

Total oil production in the US dropped by a third thanks to the deep-freeze according to industry sources.

Meanwhile, Bitcoin rose above $51,000.