Nervous Market Pauses at Notable Juncture

The rebound following the worst day for U.S. equity markets this year left scant clues about which sectors of the U.S. markets might provide a safer haven in volatile times. Utilities, as tracked by the Utilities Select Sector SPDR Fund (XLU), rebounded at +0.75%, while the the Technology Select Sector SPDR Fund (XLK) and Consumer Discretionary Select Sector SPDR Fund (XLY) sector rebounded more strongly at +1.25% and +1.75%, respectively.

Investors looking to see in this data any sign that the markets will simply rebound from the most recent drop may want to dig into The Walt Disney Company’s (DIS) earnings, which were reported after the bell. Though investors had anticipated good news leading up to the announcement, the company reported mixed news, with revenues up and profits down, leaving investors, in a word, uncertain.

The sharp plummet in the stock market yesterday and subsequent lackluster response today left the markets practically unchanged from one year ago, putting investors in a frustrating position. Should they begin to diversify and protect against further market drops, or should they weather the storm? To answer that question, it will be important for investors to look at a larger picture to determine how various asset markets are performing. 

While the U.S.-China trade war topic has dominated headlines, and the recent moves by Chinese currency officials spoke loudly in the price action over the past 48 hours, two other asset classes have been making quiet but clear trends higher throughout 2019 so far: gold and U.S. Treasury Bonds.

Until today, one could make the argument that, despite volatility, U.S. stocks were outperforming all other asset classes. But as of today, evidence exists that this claim may not remain true through the end of the year. Investors would be wise to review their portfolios to determine if their mix is sufficient to protect them from further downward moves in stocks.

While the Chinese yuan and U.S. dollar trade have made records, the action in free-market currency pairs would naturally be expected to show significant moves as well. The so-called carry trades, made to collect a difference in interest between two currencies, are usually a good indication of the global risk appetite shown by institutional investors – most notably banks. The two most prominently used currency pairs in carry trades are the U.S. dollar-Japanese yen (USD/JPY) and the Australian dollar-Japanese yen (AUD/JPY) pairs.

These two pairs broke through year-long support over the past two days and look poised to continue an already pessimistic-looking trend since late 2018. This may be an indication that global bankers and institutional investors are looking to move assets to higher ground.

When bond yields make new lows, bond prices make new highs. This shows up beneficially in the indexes that track bond prices, and more importantly, in the ETFs that track those indexes. In the chart below, the 30-year Treasury bond is tracked by iShares 20+ Year Treasury Bond ETF (TLT). This ETF makes a good proxy for stock investors to use when trying to capture an upward trend in bond prices.

The interesting thing to note on the TLT chart is today’s action. If bond prices were merely an inverse mirror reflection of stock prices, then we would have expected to see today’s bond market moves close slightly lower than the day before with the range inside yesterday’s big jump. However that is not what happened. Instead, the bond market pushed prices to fresh new highs with very little indecision in the price action. This may be a signal that bond investors are bracing for more bad news in the stock market. 

Fears of Chinese trade retaliation continue despite the apparent pullback in price drops across U.S. stock market indexes. Global investors are showing a significant drop in appetite for risk, and bond buyers seem to be bracing for bad news ahead. Stock investors need to look closely at their portfolios and formulate a prudent game plan for the remainder of the summer.

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