The stock market has endured a lot of pain the past week or two, tech stocks in particular, but what is the catalyst for this severe hit to the stock market?
As of August 2020, we have seen 10YR bond yields rebound off of 0.50% and begin climbing towards prior support. Starting off the year on a rather volatile note, we saw yields breach the 1.00% level after consolidating prior. This rapid move upwards triggered fear in the market.
It was stated that bond auctions did awfully yesterday, with “anaemic demand” essentially seeing little to no buyers. Bond prices are dropping, in turn pushing the yields up, incentivising buyers to step in.
Bond yields are now at 1.48% at the time of writing this article, after printing highs around 1.56%. Bond yields at the level of 1.50% matches the S&P500 dividend yield, thus creating stock exposure less attractive.
There are 2 levels for traders to stay vigilant of:
US10YR – 1.50%
US5YR – 0.75%
Should we see an advancement above these levels, stocks will likely sell off. At the peak yesterday, we saw yields well above these levels, allowing stocks to continue their descent.
Bond buyers are sitting on their hands in anticipation of further discounting, producing higher yields.
Bond buyers are awaiting stimulus as the government is set to sell even more bonds onto the market. This is likely to come in at even lower prices, creating As supply goes up, the price will come down. This will push rates higher. 30% of individuals receiving stimulus checks stated they will be using a portion to buy stocks, adding more fuel to the fire as we await the $1.9T stimulus package to be passed.
Congress is meeting today to discuss stimulus & the budget reconciliation vote. The $15 minimum wage is an issue as we see the filibuster continue. It is argued that should wages be raised, we will see higher cost of social security benefits & unemployment costs could also increase dramatically. Elizabeth MacDonough, the Senate Parliamentarian ruled that the minimum wage cannot be included in the budget reconciliation package.
If in the House of Representatives, the Democrats lose 6 votes, the stimulus won’t be passed today or tomorrow. We will need to see if Senate will overrule or amend the bill. This could cause delays should we amend the bill.
There is a possibility to compromise the minimum wage at a lower level. This would likely come as a separate bill. There are rumours surrounding $10-11 as a compromise to the $15 minimum wage. It is likely we see the minimum wage thrown out for the upcoming stimulus package.
Recently we have seen spikes in volatility and increased fear in the market. Could we see a repeat of 2020?
Inflation & Rate Hikes
Many people are anticipating hyperinflation as the FED continues quantitative easing & stimulating the economy. This will in turn render the bond yields useless. There is an increasing consensus that Jerome Powell will also hike rates earlier than the anticipated timeframe around 2023. Should we see rate hikes in the coming year, this will increase bond yields further.
Real interest rates have pushed off the lows of -1.0% as well. This could be a signal for yields to continue higher. What is a real interest rate ? The real interest rate has been adjusted to remove the effects of inflation to reflect the real cost of funds to the borrower.
Across the ocean we also see the ECB signaling additional support can be given, should yields hurt growth. ECB’s Schnabel stated they still have room for further interest rate cuts. With so much going on in the market, we look to the bond market as a clue to what could potentially happen to the stock market.
Additional dates to be mindful of is the next FED meeting around the 4th of March as well as the end of tax return filings on the 15th of April. These could be market moving events. For more market updates like the one above, subscribe to receive all updates via email in real time. As always, exercise risk management & we wish you a well rested weekend & successful trading week ahead!