Jerome Powell Cartoon

Stocks and Bonds Redux

The interplay of stocks and bonds continued this week as several central banks released policy statements. Central bankers in Brazil and Turkey raised rates while Norway signaled higher yields. Also, the Bank of Japan is allowing their yields to rise modestly to 0.25% as they have yield curve control. The Fed statement on Wednesday signaled no rate changes for a couple of years despite rising inflation expectations. Also, Fed officials upgraded their outlook for GDP this year from 4.2% to 6.5% so a change to their policy later this year wouldn’t surprise me.

The markets are wrestling with how inflation and growth will change the yield curve and its impact on the stock market. However, this is not a new process when exiting a deep recession. What is different is the rate of change in yields is very high, in previous recoveries they were more gradual. The pandemic is a 100 year event so this is new territory for everyone (including the Fed).

I have dialed out the charts of the yield curve below to 5 years as the resistance levels on the shorter time-frame failed to hold this week. In an economic recovery, the spread between 2Yrs & 10Yrs is typically +200bps (or higher). So, that would mean 2.16% on the 10Yr which aligns nicely with the 61.8% Fibonacci retracement at 2.19% in the left chart below. That is still a good deal away from Friday’s close at 1.74% so more selling is very likely.

Dual charts of the 10Yr and 30Yr Treasury yields.

The stock market has been on a see-saw for most of the last three months with several whipsaws as the market consolidates at a high level. In the chart below of the S&P 500, the index should hold the March 5th low in the 3700 area but a re-test could happen if the 10Yr continues to soar higher. In either case, interest rate normalization is part of the recovery process. Next week will be another week of watching yields as the U.S. Treasury will be auctioning $183B of 2Yr/5Yr/7Yr notes Tue/Wed/Thu – the results will be closely monitored by the equity market.

3-Month chart of the S&P 500 futures contract.

Chart of the Week!

A chart from Elliott Wave International that shows 39 years of 10Yr interest rates rising to 15.84% and then 39 years down to 0.5%! The chart is very symmetrical and portends that higher rates are here to stay.

78 Year chart of 10Yr Treasury note yields by Elliott Wave International.

Economic & Central Banking Snippets 

  • The Federal Reserve kept its easy-money policies until the U.S. economy recovers further from the effects of the coronavirus pandemic. The vote was unanimous to keep rates near zero and to continue purchasing $120 billion monthly of Treasury bonds and mortgage-backed securities. Fed Chairman Jerome Powell said the measures “will ensure that monetary policy will continue to deliver powerful support to the economy until the recovery is complete”. (WSJ)
  • The Philly manufacturing index for March jumped to 51.8 from 23.1 as new orders and prices received more than doubled. However, the prices paid was troubling as it climbed to the highest level since March 1980. This suggests inflation pressures are in the pipeline and almost two-thirds of firms complained of labor shortages.
  • The March NY manufacturing index rose to 17.4 from 12.1 and prices paid rose to a 10 yr high while those received did as well. The outlook for hiring almost doubled.
Brazilian flag.
  • Brazil is the first major economy to raise interest rates in 2021. This may be a harbinger for other developing countries that could be forced to follow and endanger their fragile economies. The central bank’s decision was driven by rising inflation and a weakening currency. Economists say the tightening monetary policy in Brazil underscores risks for emerging markets: A strong U.S. recovery is prompting a rise in long-term bond yields, which attracts more investors to buy dollars at the expense of emerging-market currencies. That could lead other developing nations to raise their interest rates to stem the capital outflow, stifling the economic rebound for those countries. (WSJ)
  • The Bank of Japan (BOJ) is pivoting by widening the allowed band around YCC (yield curve control). They are also slowing down their pace of ETF purchases as they buy stocks as part of their stimulus program. Japan’s Topix bank stock index closed at the highest level since December 2018 but remains down 89% from the 1989 peak. (Boock Report)

Macro Snippets

  • The National Football League’s first exclusive digital rights deal has gone to Amazon. For 10 years starting 2023, Thursday Night Football games will only be accessible to Amazon Prime members. The NFL signed long-term deals worth over $100 billion including media partners CBS, ESPN/ABC, FOX, and NBC. (Investopedia)
  • Toyota and Honda are halting production in North America due to a shortage of critical components as global supply chain remain constrained. The shortage would affect Toyota’s production at vehicle factories in Kentucky, Mexico and Alabama. Honda said it would halt production at most of its U.S. and Canadian car factories next week.
Chart of seated diners.
  • The U.S. economic recovery is picking up steam as Americans increase their spending, particularly for restaurants. (WSJ)
  • Williams-Sonoma beat Q4 sales and earnings expectations. They also hiked their quarterly dividend by 11.3% and announced a new $1 billion stock repurchase plan. The home retailer is confident of mid-to-high single digit revenue growth and operating margin expansion in 2021. (Investopedia)
  • Last month’s Texas freeze has triggered a plastics shortage. Mass blackouts shut down chemical plants, cutting off raw materials needed for products from medical face shields to smartphones. (WSJ)

That is all for now and thank you for being a subscriber!

Paul J. McCarthy III


Paul J. McCarthy, III

President – Kisco Capital

Paul McCarthy

Mr. McCarthy is the President and founder of Kisco Capital.