By: Kent Engelke | Capitol Securities
Yesterday, a trio of large money center banks warned of an impending bear market. Citi, Morgan Stanley and HSBC all warned of a “big reversal.” The reason for their bearishness is the “breakdown of the 10-year relationship between stocks and other asset classes. This trend of highly aligned and correlated markets has all but disappeared.”
Is this breakdown of the correlated trade the result of everyone using the same strategy… aka chasing returns and momentum? Is it the result of the massive proliferation of ETFs, indexing and algorithms? Is it the result of a tectonic change in geopolitical politics? Or is it the result of potential greater growth that increases inflationary pressures?
Only history will answer this question, but perhaps what I could potentially declaratively write is the cause of this breakdown is probably all of the above and several other reasons few have yet even considered.
Speaking of inflation, the Dallas Fed published a report indicating that inflationary pressures are actually higher than reported and the PCE is closer to target than currently reported. Will FRB Chair Yellen comment about such in today’s Jackson Hole speech?
Speaking of surging, the Bloomberg Weekly Comfort Index reached its highest level in sixteen years. As noted many times, sentiment indicators are the ultimate feedback indicators for they only tell us where we have been, not where we are going. However, given the incredible vitriol and animosity of the last 8 weeks, I think the consistency of these surging sentiment indicators is significant.
I again ask… is the breakdown of the correlated trade that has been in existence for 10 years partially the result of greater than expected growth that shatters current assumptions? All must remember the economy has not grown by a 3% annual rate for over 11 years, the longest stretch in history, far eclipsing the previous record of three years in the early 1930s.
The WSJ reported yesterday that the entire 45 member OECD, comprising the vast majority of the global economy, is growing in sync for the first time in a decade. It has only occurred three times in about fifty years and the last time prior to 2007 was in the late 1980s and for a few years before the 1973 oil crisis. Wow!
Consensus always believes the current trend will last to infinity, defined as the next 10 years, and will be a repeat of the previous 10.
Markets were relatively quiet yesterday, closing nominally lower.
Last night the foreign markets were up. London was up 0.36%, Paris was up 0.24% and Frankfurt was up 0.32%. China was up 1.83%, Japan was up 0.51% and Hang Sang was up 1.20%.
The Dow should open nominally higher ahead of two key speeches today at the Jackson Hole forum, perhaps the two most powerful central bankers in the known universe. The direction however can change significantly if FRB Chair Yellen or ECB Chief Draghi offers insight different than what is expected. The 10-year is unchanged at a 2.20% yield.