The level was 96% back then. That’s a hell of a number. More or less it means that things were lining up nearly perfectly. As of late the correlation has fallen to 3%. Some random thoughts:
-My conclusion is there is a lot of risk involved with correlation trading. What is here today is gone tomorrow. Reliable predictors do not have much shelf life any longer.
-What is the source of the disconnect? Strong stocks and strong bonds in this time period coincide with the emergence of QE-2 talk from Ben Bernanke. Back in May the thinking was that the next move by the Fed would be a gradual withdrawal of monetary stimulus. Today the betting is that Ben is going to throw another $2 trillion on the fire. This turn around in thinking by the Fed and the market disconnect is not a coincidence. It is cause and effect.
-Is there an inverse relationship between the movement in the stock market and the probability of QE-2? I am willing to bet big that IF stocks were to fall by 10% between now and the next Fed meeting QE-2 would be a done deal. But what if stocks rise by another 10%? Can Bernanke throw gas on the fire if that were to be the case? I have to think not. So the question is, “Is Ben wishing for higher stocks today or not?’ I think he wants a downdraft so he can justify another QE early in November.
-Clearly the 96% was not sustainable. The inverse (3%) is probably not either. Should the old relationship start to re-appear it would imply that rates have to go much higher or stocks much lower. Place your bets.
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But what if stocks rise by another 10%?
ReplyDeleteWhere else do you think all of that money will go? Isn't that part of the plan?
Although some people think Bernanke et al would like the market to tank so that Treasury can sell all the debt it can and needs to. But right now it looks like they can have their cake and eat it too: the market will rise, but enough people are nervous about it to keep demand for US government debt high/yields low.
Bruce,
ReplyDeleteWhy do you keep saying that Bernanke wants QE 2? What does he get for it?
I analysed the correlation between closing prices of the S&P and 10 year bonds from 1996-2009, to settle (win!)a bet, and found r=-0.110 - interpretation "no or negligible correlation."
ReplyDeleteIn the short term correlations come and go, but in the longer term, at least per my study, there is no correlation.
Ben's team is focused on keeping inflation alive. Once a disinflation cycle starts, it is extremely difficult to break.
ReplyDeleteBen seems to be selling the idea that "asset values" are a generalized proxy for disinflation and overall economic health.
It's as if his organization uses the value of financial instruments like stocks and makes them synonymous with what's going on in other asset classes like real estate, and even economic activity on main street.
I think fighting disinflation tendencies is a good battle. However, focusing on the price levels of stuff that make up 401k's as a barometer for general economic conditions is wrong.