Treasury Yields Drop Catalyzes Rare Scenario

2019: The Year Of Higher Stocks & Lower Yields

Treasury bonds are in an extremely strong rally as inflation and growth expectations come down. I like to compare this situation to 2016 which is the last slowdown. In the summer of 2016, the 10-year yield hit its lowest level in history. It’s interesting that yields bottomed in the summer because the economy troughed a few months earlier. In the reverse situation, yields topped in November 2018 even though the economy had been slowing for a few months. I’m not saying to expect Treasury yields to keep falling after growth bottoms, but with the decline in nominal GDP growth still going, it’s possible yields fall further.

One of the most curious aspects of markets in 2019 is how stocks have rallied and bond yields have fallen. You can say bonds have recently taken charge because stocks have followed yields lower during this August correction. Because the treasury curve is flatter now than in 2016, the 30-year yield is the closest to hitting a new record low. Its record low was 2.0882% in July 2016. Even though the treasury market has seen growth slowing this year, investors may have flocked to American stocks because it has been one of the top-performing economies. The analogy most often used is the American economy is the cleanest shirt in the dirty laundry pile that is the weak global economy.

Lower Yields Good For Stocks?

Those who believe lower yields encourage investors to take more risk look correct this year because stocks have risen during a slowdown while yields have fallen. Personally, I think stocks rose in 2019 because they got too cheap late last year. There was sharp multiple compression in 2018.

It’s notable how stocks fell in late 2018 as yields rose. The big change from late 2018 to early 2019 is the Fed got much more dovish. The Fed doesn’t want to admit it, but it’s probably in a cutting cycle. Going from the end of a tightening cycle to the start of a cutting cycle is a huge change. I have previously discussed how it’s not set in stone how many rate cuts count as the start of a cut cycle. With rates being so close to zero, many are saying just 2 cuts count as the start of a cut cycle. If that’s the case, then we are in one because the Fed will cut for the 2nd time in September.

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