For harried traders, the problem is that as one threat recedes, another takes its place. The economy is too hot — or at risk of being gutted by financial stress. One day bond yields surge as inflation anxiety spirals, the next they plummet as the travails of lenders convince everyone the Fed will step back.
The result has been increasingly wild moves across the spectrum of asset classes, swings that may persist over another news-packed stretch.
“Next week is impossible to position for,” said Jim Bianco of Bianco Research. “What stocks want is no contagion and the Fed to back off the hiking. They will get one or the other, not both.”
In a week featuring the biggest US bank failure in more than a decade and a stock drop eclipsing any in five months, the most jarring event may have been in Treasuries, where yields saw their biggest two-day plunge since the financial crisis. Rate traumas like that have a habit of forcing speculative money into evasive action, particularly in an economy where Fed angst made short-bonds a popular trade.
Beyond the impact on speculators, past swings in Treasuries on the scale of Thursday and Friday’s hold worrying signals for the cross-asset landscape and the US economy. Data crunched by Bespoke Investment Group show that in nearly 50 years of history, two-year Treasury yields have posted a two-day decline of 45 basis points 79 times. With two exceptions, in 1987 and 1989, all of those episodes were either during or within six months of a US recession.
While only time will tell if the failure of SVB Financial Group foretells pervasive risk to the financial system, investors didn’t wait around for clarity. the S&P 500 slid 4.6% over five sessions, the most since September. Financial firms in the gauge plummeted 8.5%.
The tumult in equities may have been greater than surface numbers indicate. A note from a Goldman Sachs trading desk said that on a scale of 1 to 10, Thursday and Friday were an “8” in terms of customer franticness. Client positioning skewed bearishly, particularly in banks, with hedge funds and traditional fund managers trimming the group amid SVB’s travails. The former have been net sellers of financial stocks for nine straight weeks.
At Morgan Stanley, “the recession trade was fairly widespread” among clients reacting to Fed Chair Jerome Powell’s hawkish pronouncements Tuesday and Wednesday, according to a trading-desk report. Long-short hedge funds on the whole stepped back from the market while retail investors sold about $1.6 billion of stock.
While all that points to higher volatility, underestimating the stock market’s ability to spontaneously right itself has been a mistake over the last few years. Bloomberg columnist Aaron Brown noted last week that investment environments such as today’s — when bond yields and stock valuations are high and equities have already fallen 10% — have virtually always resolved in favor of stock bulls in data going back more than a century. It’s testament to the market’s propensity to go up.
Still, with a key reading on US consumer inflation due Tuesday and the Fed meeting March 21-22, making big bets on stocks or any other risky asset takes considerable fortitude. Risks away from stocks were flaring anew Saturday with one of the biggest stablecoins in the crypto world trading well below its one-dollar peg.
“If you have bets with expiration dates on them get prepared to get crushed even further,” said Peter Mallouk, president of Creative Planning. “This is the price you pay for speculation and that’s what we’ve seen here. We’re going to continue to see the speculators continue to be swiftly punished.”
