Behind all the rhetoric in the financial media trying to explain the 8% rally in the markets there is one thing that stands out to us, falling yields in the EU. Rising yields in countries like Italy, Belgium, and Spain were consistent with the downside pressure we saw in the markets from early to mid November. And now, falling yields have been consistent with this tremendous rally we have seen. In our opinion, the major volatility we’ve seen in stocks is due to the extreme volatility we have seen in these yields.
From 11/1 – 11/24 Italy’s 10 year yield rose 17%. Over that same time Spain and Belgium’s rose 23% and 33%, respectively. What did the S&P500 do while those yields were rising? Sank nearly 8% from 1,250 to 1,158. Coincidence? We think not. Now for the real tale of the tape… Since 11/24, Italy’s 10 year yield has declined 19%, Spain 22%, and Belgium 26%. Meanwhile SPX has risen almost 9% from 1,158 back up to the current price of 1,258. Coincidence? Again, we think not.
The take away here is that our equity markets are following the European bond markets. The last few weeks has shown that so long as bond rates remain stable in Europe our market is going to push higher. The other take away is that overall volatility like this does not just go away. We saw similar spikes in aforementioned bonds in July bring on tremendous volatility in August, before their declines led to lesser volatility off the October 1,074 bottom. However, those spikes occurred once more and again brought on this tremendous volatility that we saw throughout much of November.
Therefore, we are not foolish enough to think that because things are stabilizing now we won’t have more volatility in the European bond markets in the future. To assume such volatility is an anomaly would be naive. When will this volatility return? That’s the trillion dollar question, and the answer is that it will return when the people with enough money to bring on such volatility grow dissatisfied with the steps being taken in the EU to relieve the crisis. For now the actions taken by the central banks last week seems to be enough to keep bids underneath key EU countries bonds. However, should those steps come into question, or should further developments (like an EU summit this Friday) bring on skepticism, rest assured the volatility will return.
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Related posts:
- SH @ the bell 12/8/2011: Watch yields closely in relation to the markets
- SH @ the bell 9/19/2011: 6 day rally would be first since 2010
- SH @ the bell 9/6/2011: So long relief rally, we hardly knew ya’
- Stockhaven @ the bell 8/10/2011: Relief rally or start of a new uptrend?
- Stockhaven @ the bell 8/24/2011: Will yesterday’s rally continue?
