Clear And Present DangerSeptember 25, 2014
There are four developments in the fixed income markets that represent a clear and present danger for stocks. First, high yield spreads continue to widen, diverging from the upward movement in stocks prices. In the chart below we plot high yield spreads against the S&P 500 over the last ten years. Until today the equity market seemed unfazed by the widening in spreads.
Second, inflation expectations derived by comparing 10-tear nominal US Treasuries against the 10-year TIPS show a recent big drop. This is likely due to the recent strength in the USD, but regardless of the reason, the drop in inflation expectations is undoing much of the reflationary work the Fed has tried to achieve. Should inflation expectations fall below 2%, the danger signal would intensify.
Third, 10-year bonds around the global are taking another leg down.
Fourth, the spread between 30-year and 10-year US Treausry bonds is narrowing to new five year lows. The last time the long end of the yield curve was this flat was in the first few months of 2009.