Wednesday, September 13, 2017

S&P Strength and Bond Weakness

The two big things that have happened over the past 2 days is the rise in the S&P 500, but more importantly, the disproportionately big drop in bonds relative to the SPX strength.  In a short term risk on move, you usually get about a 0.04% rise in 10 year yields for a 1% rise in the SPX.  We have gone up 0.12% on the 10 year since Friday, while SPX has gone up 1.2%.  In normal circumstances, the 10 year should have gone up only about 0.05%.

Obviously it does speak to the overshoot short squeeze higher that happened in the bond market last week while the stock market was only slightly down.  But it also re-emphasizes what I believe to be the new en vogue hedging strategy for the hedge fund manager.  They are now going long bonds as a hedge for their long stock positions.  In the past, they would have just used VIX or shorted SPX for a more direct hedge.  It probably means that you will not likely see much more upside in bonds this year until you start seeing stock weakness.  At these levels, I find it hard to believe that both stocks and bonds will just keep going higher without a break in that positive correlation.

I do expect the SPX to stall out here as we are right at that psychological 2500 level, which should provide short term resistance.  Also the weakness in bonds should be a bit of a headwind for stocks to go even higher.  Due to the near term SPX resistance, I don't think bonds will sell off much more, but I don't see much of a bounce either.  So while near term downside in bonds is limited, the near term upside is also limited.  It looks like last week took out most of the weak hands in both bonds and gold.

SPX should flat line around these levels right under 2500, and then expecting a dip next week. That should help bonds have a bounce, which probably won't last long, just as I don't expect any dips in stocks to last long.  Low conviction here, so I won't be putting on big positions.  October should provide better levels to make longer term trades. 

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