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Major Bond-Equity Divergence Implies Stocks Are Mispriced By 60 Points; Goldman Warns Not To "Chase Equity Bounce"
Just like the daily occurrences of dislocations in the carry trade and risk assets, another major divergence has developed in the market, this time between bonds and stocks. As the following chart from Goldman points out, over the past month, stocks and 10 year yields have diverged quite notably, with a convergence of the two series implying an up to 60 S&P point disconnect. As these types of convergences are by far the least risky trades available (or most risky, depending on the amount of leverage), a recoupling bias would suggest shorting the broader market and selling the 10 Year (betting on a yield increase). Either way, it is obvious that the credit market, which is inevitably always right compared to the computerized pandemonium of stocks, suggests a substantial overpricing in equities.
Here are Goldman's associated points:
- While as discussed on the prior slides there is scope for Wednesday’s bounce in equity markets to extend a bit further, the correlation chart shown opposite makes us feel uncomfortable chasing it, as with the bounce in early-June
- This chart shows U.S. 10-year yields in green overlaid with the S&P in blue.
- It highlights that the rolling correlation between U.S. 10-year yields and the S&P has picked up since late- April.
- Importantly from a trading perspective yields have tended to be the lead indicator for the broader trend over recent weeks.
- A divergence is currently developing between the two with equities rising further than yields would imply “they should”. The last something similar developed, in early-/mid-June, it was equities which turned out to be “wrong”, eventually again moving lower to recouple with the level implied by yields.
- In conclusion while it’s quite possible the current bounce can run further, we would be uncomfortable actively chasing it as in June.
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why is EVERYONE on this "short the long bond" train...forget the convergence trade, go balls to the wall and buy the 10yr UST and short the SPX!
Thanks Zero Hedge....
Great avatar BTW.
Simple; attractive entry points; everyone thinks the upside in the SPX and the downside in the 10Y are bigger than if you go long 10Y and short SPX. Everyone and their mothers are expecting QEII; and if your long-term trading strategy is based on that; short 10Y and long SPX is the way to trade that. Of course IF there is a QEII considered it will not be activated until the mid-terms pass; that means October/November. Till then 10Y is a safe heaven and equities will behave as they are behaving now; no sense of direction.
"In conclusion while it’s quite possible the current bounce can run further, we would be uncomfortable actively chasing it as in June."
SquidFish translation: "Please stay out of stocks until Benny runs them up for us. We would prefer to sell our shares to you at higher prices."
If the Fed suddenly announced QEII (as Liesman is hinting on CNBC this am) wouldn't this be perceived as inflationary? And couldn't this cause int rates to rise?
I agree the SPX is overpriced, but I don't trust Goldman given that they are in bed with the Fed.
The best thing that has happened to me is the sound on 4 channels went out -- CNBS is one of them. Great picture but no noise, wow what a difference!
I also wouldn't trust Goldman...if this is anything like their recent FX calls we ought to be over 1250 by noon.
I remember everyone trying to short the long bond in 2008-2009 also. Most who did are nutless wonders now.
Ugh. When you find yourself thinking Goldman is being honest, it's a sign you might be on the wrong side of the trade.
Could this mean QE2 is pending announcement?
I would never accuse Goldman of being honest, but one question. How do they announce QE2 now when they've spent so much time and capital telling us how great things are?
i am really getting worried over my shorts......whatever happened to that H&S pattern.....
may be because of the amount of computerised trading used nowadays....crowd behaviour doesnt really count
a few up days don't make a trend
once broken, the chart cannot be put back together... this rally is whistling in the dark, a ramp up to this weekend, where there will be a total solar eclipse and hung-over europe returns to find their safety net transformed into banker bonuses... be strong.
fyi, ticker symbol BGZ is an etf that trades 300% the inverse of the russell 1000. last time this put/call action happened was right before the flash crash:
http://www.marketintellisearch.com/articles/1027945.html
Conference call three nights ago
BB: Lloyd, thanks for the Head and Shoulders....I have been feeling a little itchy and flaky....probably nerves from not having the white noise of the presses running 24/7
TG: Yeah I am heading to the barber for a "fade" if you catch my drift.....
LB: Ben, are we still booked on that cruise for early September?
BB: Yeah, we have chartered the "Queen Elizabeth 2" for the next year or two.
TG: Can we have roast bear instead of pig at the luau?
BB,LB, TG: Hysterical laughter
EUR/USD is dropping today (AUD/JPY lower too) on realization that the stress tests will underestimate probable losses (fantasyland 17% for Greece and ridiculously unrealistic 3% for Spain), yet they continue supporting and manipulating S&P futures at relatively high levels.
Patiently: Ya pays yer money, and ya gets in line.
When Goldman makes these calls its usually time to take the opposite side of the trade or watch from the(trenches) sidelines as they detonate the Hedgefunds.
http://chamorrobible.org/images/photos/gpw-20050304-UnitedStates-Defense...
But what if rates rise instead?
Nice trading idea. Thanks ! :=)
Who cares about divergences when the Skynet is in charge of the market. GS should have known this.
Translation: we are short 10,30 year and long SPs (which we hope to sell to you at 1120s) when it would be "alright" to go long.
I am also reticent to believe anything that Goldman says, but I was looking at something similar myself yesterday before their piece was released. It makes sense, but this market is a pitbull right now. It can turn on you in an instant. If you are considering getting short I would suggest utilizing the options market to synthetically replicate. Vols have trickled in enough to make premium levels tolerable, despite the pending earnings cycle.
"I am also reticent to believe anything that Goldman says"
What an inane statement. Goldman is showing you some data, making an insight, and proposing a way to play the divergence. Look at the data, do your own work and either agree with them or disagree with them.
Grow up
Yeah because it would be so out of character for Goldman to try and mislead investors. There's enough data in the market to justify virtually any view point. You must have been a hand over fist buyer when Abbey Cohen was hollering for the Dow to hit 36,000 or Anthony Noto was championing every crap tech company and secretly bashing them in company e-mails. You must also think that they don't front run customer orders.
And in case you haven't noticed I am not the only person on this sight who has an objection against Goldman and their business practices. You might do better listening to Cramer buddy.
Historical correlations and fundies mean jack squat. This market is full of skimmers, scalpers, front runners. They have infinite financing and can push things around at will. If Goldman says do something prepared to get raped if you do. My guess is that the market will melt up on low volume and bonds will forge higher on high volume leaving anyone who tries this play doubly effed.
I agree which is why I wouldn't short anything outright... At least not yet anyway.
I would love to see the same chart for last summer.
Lessee, 10 yrs at 3% and earnings yields at 9%.
Not a hard choice, GS notwithstanding...
Buddy you keep talking up the equity market. And I'll be the first to admit that if you are willing to take current estimates at face value then on a fundamental basis it looks somewhat cheap relative to other investments. But it seems like you aren't discounting headline risk at all. It will only take one major headline to send this market into a tailspin. And there's plenty of overhang right now to assume that the probability of that is pretty high. Or at least high enough to make the risk/ reward profile not as attractive as you think. If the flash crash should have taught you anything it's that this market has no conviction, and rightfully so.
SOLD!
to you
The financials have necer performed when spreads have peaked even if the credit suisse upgrade piece yestd says that this time is different
"Either way, it is obvious that the credit market, which is inevitably always right compared to the computerized pandemonium of stocks, suggests a substantial overpricing in equities"
I believe TD makes an extremely important insight in that statement. The credit markets always get it first, and when in conflict with equity markets are more often correct.
Here we are 30 minutes into the session and the Dow and S&P are FLAT. But it looks like grubby and desperate action to me, on very low volume; someone must be pumping like hell just to keep the floor from falling out...
Couple of thoughts.
1 - I'd be surprised if there isn't some (HFT/Algo?) profit taking today, prior to going in to the weekend.
2 - Rumours of QE2? Great. 'we don't actually need to do anything at the moment as long as the market THINKS we're going to do it, stocks will go up.
DavidC
QE2 is going to cause a headache for TPB since QE1 has already been viewed by even the sheeple as a waste. Things are getting interesting that is a given.
Speaking of stimulus packages, I would love to stimulate Margaret Brennen.
Goldman wants to buy more on churn/slight pullback before unloading way higher.
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