Stocks and Bonds are telling two incompatible stories
If you wanted to know what the markets are predicting to happen, the story you would be getting told would sound like it was created by someone who is bipolar.
With rates on two- and 10-year Treasuries up a sixth straight week, and payouts on cash at or above the earnings yield of the S&P 500, stock investors are barely registering a shrug. Benchmark US share indexes just posted their biggest runup in a month, climaxing Friday with a jump in the Nasdaq 100 that topped any since early February.
So while stocks are seeing nothing by blue skies and sunshine, the bond market is predicting a hurricane.
One of the bond market’s most reliable gauges of impending U.S. recessions plunged further below zero into triple-digit negative territory on Tuesday after Federal Reserve Chairman Jerome Powell pointed to the need for higher interest rates and a possible reacceleration in the pace of hikes.
The widely followed spread between 2- and 10-year Treasury yields finished the New York session at minus 103.7 basis points — a level not seen since Sept. 22, 1981, when it reached minus 121.4 basis points and the fed funds rate was 19% under then-Federal Reserve Chairman Paul Volcker.
Now you may be thinking "the markets having two opinions means both opinions are equal", think again. Firstly, the bond market is about twice the size of the stock market. Secondly, the bond market is generally the domain of grown-ups, while stocks are for speculators.
However, the truth is even simpler than that.
While stock-picking investors wait around trying to decide their next market move, their computer-driven counterparts have no such luxury.
The quants’ taskmasters — trend lines on charts and volatility targets — are forcing them into a concerted buying spree, just as the bond market creates fresh headaches for traditional money managers.
“That sums up the market mood rather well, but leaves us with the very important question about who is correct,” Steve Sosnick, chief strategist at Interactive Brokers, wrote in a note. “The technical are doing a solid job of guiding us through the recent momentum-driven rally that we have seen since the start of the year. The larger question is whether they are guiding us to the proper ultimate destination.”
To put it another way: The stock market isn't going up because those savvy insiders are making a bet on the future. The stock market is going up because a bunch of computer programmers have written algorithms that are totally focused on stock prices a only couple milliseconds in the future. No human being made any trades. Those algorithms have absolutely no opinions about the economy in the next week, month, or year.
There are algorithms in the bond market too, but they've only recently arrived and most trades in the bond market are done by humans.
Isn't algorithmic trading illegal
or at least immoral? It's all computer generated fantasy anyway.