February 22, 2023
Near-term Outlook: Ten-year Treasury yields are approaching resistance near 3.90% where we expect mean reversion to kick in and pull yields back. Until late last week, equity markets had been notably resilient amid rising yields and a stronger dollar. Two-year Treasury yields increased more than 40bp in the two weeks that followed the stronger January Jobs Report, while the NASDAQ 100 (NDX) saw a pullback of less than 2%. Under normal circumstances, a backup of that magnitude would generate ~10% downside in the NDX.
Medium-term Outlook: The bond yield reprieve we’re expecting should provide some near-term support to equity markets, but we maintain our tactically bearish outlook as the Fed continues to raise rates into a deteriorating macro backdrop.
Longer-term Outlook: Further upside in equity markets either requires confirmation of a cyclical recovery or signaling of an imminent Fed pivot. The recent resiliency of equity markets seemed based on both occurring simultaneously. While anything is possible, the idea of a cyclical recovery without monetary accommodation seems wildly optimistic. And the idea of monetary accommodation without a period of economic pain seems equally misplaced. Money supply in the US and Europe has been moving lower for several months with US measures now contracting. In other words, the US currently has too few dollars chasing too many assets. A cyclical recovery requires reacceleration in money supply and steepening of the yield curve. As an early indicator, we focus on the 5/10-year segment of the yield curve. The 5/10 yield spread is currently negative, but a positive slope will be our indicator of an imminent Fed pivot and green light for adding broad equity exposure.