"In skating over thin ice our safety is in our speed." - Ralph Waldo Emerson
The S&P 500 (NYSEARCA:SPY) fell in the final week of the month with some sizable swings as concern started to build over the behavior of bonds and the speed with which longer duration Treasuries (NYSEARCA:TLT) have fallen. On Bloomberg Wednesday, I co-hosted for the hour touching on many subjects, specifically as it relates to the role of speed and how the dollar's strength and bond weakness could cause trouble for stocks. In one of my most read writings so far in 2013, I explicitly said that the biggest risk to stocks is now bonds. With the 10 year Treasury having a very bad month and a sharp increase in yields as a result, there are some who argue that this is positive for stocks. After all, rising yields means there is demand for money, which is precisely what a growing economy is characterized by. The problem, however, is that if the way yields rise results in jumps in rates, it can cause stocks to falter.
The collapse in the Nikkei as JGBs fell is a reminder of how asset classes are interconnected. What occurs in one area of the investable landscape impacts others. And so we have an interesting situation now. Many are calling for a "June Swoon" in equities, given uncertainty over what the Fed will do with Quantitative Easing, and the string of gains so far this year. I do not disagree that this can happen, particularly should bond yields continue to push higher in the very near-term. However, I suspect the Fed will cool it on tapering talk over QE. Economic data still does not suggest any kind of acceleration is underway domestically. Any kind of stabilization and bid back into bonds could calm near-term fears. In addition, recent data coming out of China on the manufacturing front might still spur interest in equities on the idea that potentially global growth is improving.
Our ATAC models used for managing our mutual fund and separate accounts continue to favor stocks over bonds in the very short-term, but if things did take a turn for the worse could get quite defensive with enough confirmation. There are still several bullish factors which may not be fully discounted, such as the possibility for more stimulus in Europe and a less restrictive take on austerity given growing concern and rhetoric over youth unemployment. China (NYSEARCA:FXI) may finally begin to show signs of an improving rate of growth due to coming structural reform from the government. There is also the possibility that money at the margin buys more stock on the realization by investors that we may be entering a rising rate environment, causing re-allocation and some form of "great rotation" into equities.
Our strategies are run weekly, and when conditions change, so too will we. The emerging markets trade remains one we are watching for very closely. The breakdown in performance occurred as a result of Dollar strength on Fed QE tapering talk, which with hindsight may end up proving to be misguided fear. Cyclicals continue to have potential to lead, and staying nimble will be important in the months ahead given various cross currents and the Fed's "confuse and conquer" strategy to temper the pace of equity gains. On that end, we fully trust ATAC and tactical asset allocation through inflation rotation.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: This writing is for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction, or as an offer to provide advisory or other services by Pension Partners, LLC in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Pension Partners, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.