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Director’s Cut
Bonds the canary in the coal mine
Since early October there has been a “risk on” move with a rise in equities and
commodities, plus a fall in the US dollar. For these trends to be sustained, we
believe there needs to be an ongoing sell-off in bonds.
The day after the Fed announced “operation twist” the yield on US 10 year
Treasury bonds posted a closing low of 1.72%. Given the Fed is likely to inflate
to avoid any chance of deflation, this looks too low meaning investors will
eventually shift into riskier assets in search of higher returns.
As previously highlighted there needs to be a bond sell-off of 50 to 100bps
before there is sustained upward momentum in global equities. Specifically, we
believe the environment for equities would be more positive if bond yields remain
above the forward dividend yield for the S&P 500. Given a current dividend yield
of 2.35%, this would amount to a rise in bond yields of about 63bps from the
recent low, and so far we are close to this mark, up almost 50bps.
With negative momentum in equity markets driving the S&P 500 equity risk
premium to its highest level since 1973, at just over 3 standard deviations above
the long term average. This means equities are cheap relative to bonds,
confirming a switch between the two will occur at some point. Given progress is
being made to contain and manage the sovereign and banking problems in
Europe, and with recent US economic data not as bad as it could have been, we
believe there is justification for an equities rally of 3 to 4 months.
While looking for a stronger sell-off in bonds, we therefore believe investors
should be looking to invest more in equities, and with a less defensive strategy,
especially given the seasonal tailwinds that typically boost equity returns
between November and April. While not suggesting a wholesale switch into high
beta names given long term headwinds are still present for equities, higher beta
can be obtained from cyclical, value or emerging market stocks.
Bond yields rising above S&P500 dividend yield would be a “risk on”
signal as it shows money is moving out of bonds and into equities
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Director’s Cut
Bonds the canary in the coal mine
Since early October there has been a “risk on” move with a rise in equities and
commodities, plus a fall in the US dollar. For these trends to be sustained, we
believe there needs to be an ongoing sell-off in bonds.
The day after the Fed announced “operation twist” the yield on US 10 year
Treasury bonds posted a closing low of 1.72%. Given the Fed is likely to inflate
to avoid any chance of deflation, this looks too low meaning investors will
eventually shift into riskier assets in search of higher returns.
As previously highlighted there needs to be a bond sell-off of 50 to 100bps
before there is sustained upward momentum in global equities. Specifically, we
believe the environment for equities would be more positive if bond yields remain
above the forward dividend yield for the S&P 500. Given a current dividend yield
of 2.35%, this would amount to a rise in bond yields of about 63bps from the
recent low, and so far we are close to this mark, up almost 50bps.
With negative momentum in equity markets driving the S&P 500 equity risk
premium to its highest level since 1973, at just over 3 standard deviations above
the long term average. This means equities are cheap relative to bonds,
confirming a switch between the two will occur at some point. Given progress is
being made to contain and manage the sovereign and banking problems in
Europe, and with recent US economic data not as bad as it could have been, we
believe there is justification for an equities rally of 3 to 4 months.
While looking for a stronger sell-off in bonds, we therefore believe investors
should be looking to invest more in equities, and with a less defensive strategy,
especially given the seasonal tailwinds that typically boost equity returns
between November and April. While not suggesting a wholesale switch into high
beta names given long term headwinds are still present for equities, higher beta
can be obtained from cyclical, value or emerging market stocks.
Bond yields rising above S&P500 dividend yield would be a “risk on”
signal as it shows money is moving out of bonds and into equities
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