Bottom line, the stock market is being driven by the bond market this week and if we see bonds…said Tom Essaye, founder and president of Sevens Report Research. Click here to read the full article.
“We look at it not just from an absolute level of yields, but also the pace of increase,” Tom Essaye, founder of Sevens Report, wrote in a Feb. 17 note, according to S&P Global Market Intelligence, adding that, “if yields rise too quickly (and the 10 bps/day rallies continue)…” Click here to read the full article.
“The number of potential catalysts for a sudden, disorderly rise in yields that hits stocks has risen…” wrote Tom Essaye, founder of Sevens Report Research in a note. Click here to read the full article.
What’s in Today’s Report:
Futures are moderately lower following hawkish commentary by Fed Chair Powell and ahead of a critical speech on China by VP Pence.
Fed Chair Powell said in a Q&A after the bell that the Fed is a “long way” from neutral rates and may have to go “past” neutral. The comments further pressured bonds overnight and extended the rise in global bond yields.
Politically, VP Pence will deliver a very critical policy speech on China that goes beyond economic criticism, and the concern is the speech will make a trade deal even more difficult to achieve.
Today focus will be on bond yields (does the surge in yields/dollar continue?) as well as the Pence speech on China (just how critical will it be?). Economically, there are two reports, Jobless Claims (E: 213K) and Factory Orders (E: 2.1%) and one Fed speaker, Quarles (8:15 a.m. ET), but none of that should move markets.
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If A Yield Curve Inverts In China, Does It Signal A Looming Recession?
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Last week, in our post, “Will Chinese Credit Impulse Impact Global Markets?“, I explained how China remains the largest macro threat to the rally as it begins to deflate its massive credit bubble, a credit bubble that has funded asset bubbles across geographies (Australian property, California property, Treasuries, stocks, etc.).
At this point, it’s just a risk, as there are no concrete signs that the Chinese economy is in trouble, although the Chinese bond market is signaling some caution.
First, it’s well known that inverted yield curves predict recessions. Here in the US, the inverted yield curve predicted the ’81, ’91, and ’00 recession, and the ’08 financial crisis (remember the yield curve inverted in ’05, and stayed that way until the Fed started cutting rates in late ’07).
So, it is noteworthy that the Chinese government bond yield curve is essentially flat, and in some cases has inverted. For instance, as of yesterday the three-year government bond was yielding 3.558%, higher than the 5 year at 3.524%. And, the 7 year was yielding 3.626%, higher than the 10 year, which yielded 3.56%. So, while not a total inversion, it is safe to say it’s flat.
Now, before we go running for the hills and sell stocks, we have to realize this is China, not US Treasuries. As such, liquidity distorts this picture somewhat. For instance, 10-year Chinese bonds are by far the most liquid, so they will move more than other issues. Still, this is not the type of yield curve that implies an economy that is healthy. Again, this matters because the last time we got a Chinese economic scare, it caused the S&P 500 to collapse 10% in a few days… not once, but twice in a six-month period.
Bottom line, I’m not saying get defensive, but I am saying that from a macro standpoint 2H ’17 is shaping up to be more bumpy than 1H ’17, and I want everyone to be prepared. We will be watching China closely for you.
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