Why Rising Rates May Not Have Caused The Stock Markets Decline
The stock market snapped back in a big way this past week. I think for the most part it seems to put to rest the narrative that higher interest rates and inflation worries were driving stock prices lower. The week saw two inflation readings in CPI and PPI, which were modestly “hot,” but yet rates on the 10-year hardly moved higher, and the S&P 500 is now nearly 200 points off its low’s from the week of February 2.
The price action over the past two-weeks again proves that when things start going haywire, you can’t always believe what you are reading. The herd-like mentality is dangerous, but being the lone wolf can at times be better than a sheep caught in the stampede. In some cases, what causes markets to rise and fall can just really because of more buyer or sellers, or merely just because it went up too fast in too short of a period.
In this case, I think investors that were short volatility were caught off guard, and when the VIX began climbing, it caused panic covering in the VIX, resulting in funds having to sell S&P 500 future, to stay properly hedged.
That being said the VIX started to climbing on January 29, rising from roughly 11 all the way a high of approximately 50 on the morning of February 6. The chart below puts into perspective how high the VIX got.
There were only two times when the reading got higher, August of 2015, when we saw the ETF collapse at the start of trading on August 24, 2015, and during the financial crisis. The US debt downgrade and European sovereign debt crisis, Greek Crisis 1.0, the collapse of Bear Stearns, September 11th, and the currency crisis of 1998 didn’t even cause the same level of panic.
Having lived through all of those events, and working in the business even as far back as interning in 1998, I can say most of those events were far scarier than the present. Which likely tells us fears were exaggerated or where a rush to buy or cover Volality.
From July 25, 2011, through September 23, 2011, the S&P 500 fell by 15.5 percent, while the 10-year treasury yield from fell from roughly 3.03 percent to 1.69 percent. A massive flight to stay, despite the US debt being downgraded, and the Europen sovereign crisis.
While the dollar index soared, from roughly 75 to 80.
The question that is obvious is why did the Yield drop so sharply and the dollar rise after the US debt was downgraded? Because it was the most beautiful house in a bad neighbor, and when fear is rampant investors run to safe havens, and are looking for a return of their capital, not a return on capital. Investors are willing to take a small loss because they are trying to avoid the big loss.
How much did yields move during the recent panic of 2018, they rose from roughly 2.62 percent on January 25 to a high of 2.88 percent on February 8. Not a big move right? Surely not given the amount of fear in the marketplace as noted by the VIX, not to mention they rose, One would have expected to see 10-years yield decline sharply, given the extremely high VIX reading.
When there is real panic, markets move extremely fast. The decline in yields in summer of 2011 is an example of that.
In the sell-off of 2015, when the market started to decline because of worries over China and the Fed raising rates, We again saw yields plunge. Rates on the 10-year on August 19 stood at 2.2 percent and plunged to an intraday low of 1.91 percent on August 24, 2015, as the S&P 500 fell by nearly 9 percent during that short time.
Don’t Be A Sheep
Where was the massive flight to safety in the recent sell-off? Again it points to a broken narrative, that just seems completely off, and utterly false.
The market was not fearful of rising interest rates or rampant inflation. There was not even a hint of real fear in the marketplace. It was the unwinding of a trade. I’m not going to get into the cause because there is speculation it was manipulated.
Why focus on this topic? Because again we need to think outside of the box and use our historical guidebook, to say “hey, this doesn’t make sense?” Don’t be afraid to question the main stream, and be the lone wolf. Being a sheep and following the herd will only lead to getting slaughtered.
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