Bonds are Saving the Stock Market

With all the negative news flow and deteriorating fundamentals, the main reason stocks didn't selloff more in May was because of risk parity.  Bonds acted as a super hedge for stocks, earning yield and rallying huge, providing a downside buffer for stocks.  Most investors own both fixed income and equities, so their whole portfolio determines their wealth, so their wealth didn't take much of a hit even with equities going down in May, because of the strong bond rally.  And that means less nervousness, less forced selling, and a support for the stock market. 

When you see bonds barely moving while stocks are getting hammered like October 2018, that sets up a carnage like you saw in December 2018.  It is also why the stock market rally in the first 4 months of the year was so strong.  Usually when stocks go up 20%, bonds are getting crushed, dampening some of the wealth effect.  But not this year.  Bonds have been strong, regardless of equity strength, providing a double boost for investors' portfolios. 

The market is now pricing in 100 bps in rate cuts for the next 18 months.  That seems priced about right, given the current economic situation and the Fed's historical tendency to panic when there is even a hint of a slowdown. 

Unfortunately for the stock market, a lot of bond market rally fuel has been used up to helps stocks in the past month.  Which means that even if the Fed cuts a few times in the next year, its not going to have much of a stimulative effect. 

That makes it all the more attractive to put on a SPX short position on any kind of positive trade news.  Because that would probably delay the Fed rate cuts, which are much more important for the market.  So in an odd way, that would be more bearish for stocks.  It could just be delays in China tariffs and the market will absolutely love it, giving it hope of a future trade deal. 

At this point, the bar for China tariff delay is very low, the bar for a trade deal is very high, and would require the SPX to get to at least 2650 before it catches the attention of Trump and his administration, where they start lowering demands from China to get a deal. 

China tariff delays are going to be the new China trade deal. 

It is short squeeze mode, and it has been a face ripper.  With the weak nonfarm payrolls report, that is a positive for stocks.  It just means bond yields will stay low even if stocks go up.  Great short term news for stocks.