It has been about 7 months exactly since I wrote Expect the Unexpected. The last six trading days have been a glorious example of unpredictable trading in the equity markets. During those six days, the S&P 500 has fallen 6% and then regained nearly all of its ground.
Now at the same time that equities seem to be turning the corner, 10 year treasury yields are at 14 month lows:
Looking specifically at the level of interest rates, I might become quite bearish, but looking at the steepness of the curve gives me a little more hope.
Let us take a further step back and just look around at the news. When every one is looking for the exit doors or calling for a great depression repeat, then it is probably time to be a contrarian. Barry Ritholtz questioned the wisdom of crowds by looking at the google search interest in “double dip recessions”:
No, I do not think the economy is great or that our recovery is “V-Shaped”, but I am also not socking away gold bars and guns in my basement. A few facts that I think warrant consideration:
- The S&P 500 has a dividend yield of 2.07%, which is 29bps greater than a 5 year treasury and 91 bps less than a 10 year treasury
- 7-10 year investment grade corporate bonds have a yield to worst of 4.66%
- Most compelling of all – the top 250 dividend paying stocks of the S&P 500 (forward) yield the same as a 10 year treasury
Now, unless sales drop off a cliff, I do not understand how cash heavy corporations will dramatically cut dividends. In order for sales to really plummet, unemployment would have to go much higher. The unemployment situation is ugly, but it does not seem to be getting worse. On top of that, refinancing is spiking which should put more dollars into consumer pockets.
I also saw an amusing post that said to get ready for Armageddon because the consensus estimate for earnings is $89 and they expect $69. Hold on a second, at a level of 1060, do we not still get an earnings yield of 6.5% versus a 10 year corporate bond yield of 4.66%?
Lastly, let me jump back to my original article of “Expect the Unexpected”. It turns out that I called an upward breakout of the dollar back in December 2009. Now I am almost ready to call the dollar downside breakout as the Euro has stabilized and the carry trades are back on – borrow in the cheap currencies and plow the money back into risky assets.
At the very least, it seems like a prudent time to revisit your asset allocation.
Disclosure: Short SPY Puts