The Bond Market Isn't In A Panic.
First, today is the 251st birthday of the United States Marine Corps. On November 10, 1775, the Continental Congress called for two battalions of Marines. Two and a half centuries later, they are still first to answer. To all the Marines out there...Happy birthday.
1.) BONDS - The Bond Market can be boring. But bonds are also very smart. Last Thursday when the stock indexes were getting hammered, you would think that the bond market would have been screaming as well. Not so much. Of everything that happened in markets over the last weeks' worth of trading, that’s what stood out to me the most. Stocks can fall because investors think companies are too expensive. But when investors start worrying that companies won’t be able to pay back their debts, that’s a different kind of problem. That's why watching the bond market is valuable. I've written about CCC-rated bonds before. These are the riskiest corporate bonds out there. When investors get scared, these are usually the first guys to start causing trouble. But, even after Thursday’s Nasdaq crash, the extra yield investors demand to own CCC bonds instead of safer bonds was actually lower than it was last week. That's remarkable and valuable information. If you told me that the Nasdaq was going to get crushed on a day, I would expect credit spreads to blow out as well. They didn’t. Not even close. They’re still just in their range. To keep things simple, below I’m showing you the ratio between junk bonds (HYG) and U.S. Treasury bonds (IEI). It's simple to read. When this line falls, investors are favoring safer government bonds over riskier corporate bonds. When it rises, they’re more comfortable taking risks. And look at that. Even after Thursday’s stock market selloff, this ratio is still above last week’s lows. Maybe the bond market is right. Maybe Thursday’s stock market selloff isn’t the beginning of some bigger disaster. Or maybe bonds just haven’t gotten the memo yet. Maybe still too early to tell. But what we do know is that the riskiest part of the bond market isn’t confirming the fear we’re seeing in stocks. Not yet anyway.
2.) LEVERAGE - I've written before about unchecked leverage and how, without a careful process, leverage can kill. So, to get a glimpse of what's happening with leverage in the system, we can look to the vast amount of leveraged and inverse exchange traded funds (ETFs). Inverse ETFs do what they say. They move inverse to whatever index or sector they are tracking. It's a way for an investor to express an opposite view of markets...a way to "short" markets without a margin account. When leverage decreases / bottoms, markets often get nearer to a turning point. You can see in the chart below that we had a rapid decrease in leveraged fund assets in April which also coincided with a correction and bottom in equity indexes. There was another drop over the summer into August...another time of slight corrective action. Levered / inverse ETF assets are now just under $140B. This is down $55B over the past 20 days. Gross exposure is also down $135B over the same stretch, which should mean less forced buying and selling on big index moves.
3.) INFLATION - Data this morning came in "hotter than expected" on a month over month basis. That should not be a surprise since Oil was up over 11% in Oct. But, at the same time October CPI showed some progress. Headline inflation eased to 0.4% from 0.6% (MoM). Now, I know that sounds great...inflation is starting to tame in some areas, and now we're seeing oil come down pretty hard. Oil (WTI) has gone from $104.32 on Oct 30 to $85.10 this morning. Yes, oil coming down is great for the consumer. But we have to think about how a "crashing" oil price has affected equity markets. People forget that Oil crashed from $119 to $67 during the 2021 - 2022 growth and inflation deceleration. I'm, not saying markets are ready to crash here...I don't think that is the case. But it is good to remember that markets tend to not like it when both growth and inflation decelerate together. We'll need to keep a keen eye on oil here.
