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I'd like to begin this thread as a place to discuss the relationship between treasuries and equities, on any time frame. I will kick it off with some action from earlier today.
One of the challenges I have always had in interpreting intermarket relationships is that they often change drastically, even throughout the day. First they move together, then apart, and back and forth. I'm not looking for a "one size fits all" approach and fully receive the notion that things are not simple in markets. However, I'd like to hear some specific examples of how some of you use the notes-equities relationship in your everyday trading, if you would like to share. Hopefully we can have some good discussions here!
Thanks for this topic. I have little idea myself about the interrelationships. And the "experts" seem to be wrong footed all over the place. Examples are Peter Schiff of SchiffReport /EuroPacific Capital and Bill Gross of PIMCO who were bullish on gold and losing out recently. And TastyTrade's Tom Snosoff and his cohorts were off shorting bonds. Maybe there's a point when a market should be considered in a "bubble"(which maybe acts a nullification factor to traditional inter-relationships among markets) like perhaps gold , where the best entry would have been in the 90's when gold was at $300.
Treasuries and equities have an inverse and lagging relationship. The equities reverse with a period of lag after reversal of treasuries. However, with the artificial manipulation like QE, the relationship has been bizzare.
Here is a chart of ES and ZN with correlation indicator showing changing relationship.
I watched a webinar on traderkingdom on intermarket relationship where the presenting trader showed that the currencies are the first o reverse after a major economic shift followed by commodities, bonds and equities in that order.
With QE, the inverse relationship between bonds & equities is dead in the water. Nothing lasts forever.
The Fed buying program has pushed bonds up (obviously). The extra money the fed thus pumped into the economy had 2 effects (IMO):
1. Pushing yields down, meaning everyone buys stocks as there is no longer satisfactory return from holding bonds.
2. Push down rates, making money cheaper to borrow, creating expansion, so again the stock market rises as it's usually a good leading indicator of the economy.
Recent remarks by the Fed have given mxed signals, as the market is expecting QE to ease off some time soon - so bonds are in flux, but the impact of QE is still driving the market up. 30 day correlation is currently -14%, 180 day -49%. i.e. no correlation to speak of - inverse or otherwise.
The traditional 60-40 portfolio theory (used by most asset managers in pension funds etc) has suffered as a result. The bonds used to be held as a hedge against equities - due to the old inverse relationship. Now they are looking at a 50-50 model, or, risk parity as it's known. This massive readjustment of global portfolios of course is having it's own impact in the markets - and I dont think its over yet.
If you want a better grasp of fixed income and equity relationships, you're better off looking at the shape of the yield curve over correlations between asset classes. The YC shape almost must impact the equity markets due to what it is saying about the economy, the impacts of the demand/supply of money and where (on the curve) it is finding a home. Maybe better looking at the SHAPE of the curve, rather than the actual yields/levels.
However, always remember what a wise man once said:
“In theory, theory and practice are the same. In practice, they are not.”
Thanks @TheDude. Since paying more attention intraday to notes over the last month or so, I have reached the conclusion that sometimes a meaningful correlation to equities is observable and actionable, but it is of course pointless to try to have a "bonds are up, so be short equities" (and vice versa) mentality. Some light bulbs came on in my head regarding this as I observed the logical move of bonds and equities during the QE saga--often in lock step, though to different degrees (as bonds have pared losses only slightly since the late June lows whereas stocks are back to and above all time highs).
You talk about the yield curve, which I assume you apply to the same class of debt--yields on only government bonds, for example, of different maturities. But do you use ratios of different classes of bonds, i.e., high yield vs government bonds, or high yield vs investment grade?
I have been watching yield spreads and am using the JNK etf over the IEI etf to get an idea of high yield / gov't spreads. I am not yet sold on its usefulness intraday but it is a metric I am observing more closely and find it to be very interesting to look at on larger time frames.
Generally, the yield of govt debt is the best curve to watch. The govt of any country will generally have a higher credit rating than anything else. Which country is 'investment grade' is debatable!! It's also the embryo of all things economic.
Macro players will often trade one curve against similar durations of another economy - eg US - Euro, Cad-Ozzy etc.
As for day trading, and this is just my opinion, I'd say this: Day trading is just a game. I dont mean that in a derogatory way at all: I day trade as much as position trade - if not more. When it comes to 'real-money' however, they dont tend to day trade. Day trading for them is getting the best price for their position trades. VWAP, spoofing, etc. It's just a game. The day traders job of course is to catch the coat tails of that flow. Therefore, I wouldnt put too much emphasis on what one is doing compared to the other intraday. The exceptions to this are perhaps the open and closing periods where positions are recalibrated/rehedged - but given they open and close at different times, that creates issues. Typically, the Bund for example starts to wake up when Xetra/DB opens. Economic numbers are another time when the market movers will be in force of course. The rest of the time it's just about being an opportunist - just like us!
In short, I'd say this kind of analysis and trading is best suited to position trading - but again, just my opinion.
FWIW, this blog sometimes has some interesting articles related to rates and indices: Financial Iceberg
Perhaps it would be worthwhile to plot the spread between treasuries and TIPS of corresponding maturities, and then check how that trends and correlates to general market movement over some period. The benefit of this method, IMO, is that it highlights the bond market's inflation expectations, which affects equities relative valuations.
