Old And No News Is Good News Apparently?

While S&P futures managed to make higher highs in the last hour, the EUR did not as only TSYs managed to follow stocks to those extreme levels. It was an odd day, as we have noted many times today, as the total lack of news combined with rallies on the back of old news seemed enough to juice stocks higher. It does make one think a little and we suspect that ES was dragged there thanks to correlation-dependencies with TSYs being sold and EUR being repatriated back home. Oil certainly never participated in the excitement (following its higher than expected inventory build) - which ironically was what spurred buying in ES early on (and inventory build in durable goods) as metals trod water relative to USD/FX's volatile moves today. Very high average trade size in ES, the fact that IG credit notably outperformed HY and equities, and no primary issuance suggests risk appetite is really not there - despite equity exuberance. Clinging to earnings hopes when firms are beating lower guidance and cutting outlooks seems like more of the same hope that caused pain for many before.

The tight correlation between various risk factors and the S&P futures market are well-known and often discussed here. These factors include FX carry, commodities, Treasuries (absolute and curve/butterfly), and swap/credit markets. The reason we reiterate this is that today was one of those mildly odd days when ES was playing catch up to a risk-basket that was driven significantly by three main factors, EURJPY, TSY, and 2s10s30s butterfly.

It seemed that right as the European Summit started (around 11ET) that we started to see TSY selling off and EUR strength out of nowhere - while ES kept leaking lower as a lack of news was implicitly bearish (or at best was less than markets had anticipated). Of course, it is nigh on impossible to prove whether equity buying was initiative dreamers or just algos following correlations but volumes did dry up as we accelerated off those initial lows (even though volume came back in as we ripped up to VWAP, only to lag again as we took out the day's highs. The main point we wanted to make here is to try to explain the buying pressure in stocks with no news and how it is potentially being driven by something far more worrisome - European bank asset repatriation.


A look at the chart above should not be too surprising but it is very notable just how high the correlation was today (higher than normal). The post 1100ET sell-off in TSYs and commensurate selling of the USD into EUR was initially stalled as dealers prepped for the auction at 1300ET. EUR sold back as TSY went sideways (no repat flows?), only to accelerate notably post the TSY auction with TSYs stalling at that stable pre-auction level only to sell-off even more into a late day for European banks. The news was already out by then and we trod water in both EUR and TSYs - even as ES kept gliding higher - in its attempt to reach that correlation-dependent level that we pointed to above. The bottom-line from this little forensics effort is we suspect the equity market strength is far less about buying some recovery or earnings-driven expectation and far more about flows and asset sales and their impact, via crazy correlations, on stock index futures.

TSYs in general closed near their high yields of the day with 2s10s30s jumping very significantly from 83 to 91bps but TSYs were still well off yesterday's highest yields (as stocks obviously didn't make it back above those 1250 levels either). Given where 2s through 7s are trading (relative to yesterday) we would expect 30s to be higher in yield and 10s to be lower in yield - suggesting 10Y was most relatively sold from early yesterday (which fits with the spike in 2s10s30s also and we suspiciously reflect the use of 10Y as a hedging tool for mortgages and our repatriation thesis). IG and HY credit saw net buying once again but we note that IG significantly outperformed HY and stocks - certainly not the usual behavior we expect in a bullish market - and given how cheap HY remains to IG and stocks, it should have been the major winner. IG was pretty much back to it tights of the week at the close - well ahead of HY and equities.

Scratching below the surface of the credit markets, we see that IG rallied around 4bps today to 126bps while intrinsics (the fair-value of the index based on its individual components) limped around 0.5bps tighter at 126.5bps. In other words, we saw skew compression as the index pulled back from being cheap (this looks like more of the same we saw in HY and HYG on Monday as hedgers capitulated). Both IG and HY saw the front-end under-perform (3Y index and intrinsics notably underperforming 5Y) with HY 3Y actually 8bps wider on the day as 5Y compressed 18bps or so. This kind of bear-flattening is hardly positive and agrees with the evidence that there remains very little issuance (especially without high concessions) in HY markets reflective of any real risk appetite. Back of the envelope, IG outperformed equities by the equivalent of around 2bps and HY underperformed modestly - not what a well-thought-out risk-reward allocation would be doing if they were bullish here given extremes of relative pricing.

ES also saw a very big jump in average trade size at the end of the day - well above recent averages - and we note in the chart below, on a daily basis we have seen a swing high in the average trade size. These big shifts tend to occur at trend changes (and even more so at the end of bull runs) and we wonder if the notably higher level from Monday is a signal that professionals were indeed selling the news (whatever news there was) and we are running on the fumes of retail late chasers and correlation machines. Just one more piece in the puzzle.

On the week, Gold is now outperforming Oil (following today's disappointing build) and while copper came well off its spike highs this morning, it remains the best performer from Friday's close. Even as the USD is a fraction weaker (-0.13%) on the week, it seems commodities have a mind of their own and it is clear as movements in the chart show how they reconnect and disconnect on various drivers. The lack of USD movement should also be noted given Gold's 5% jump this week as between the various major fiat currencies we circle the drain of mutual devaluation.

All-in-all, its been another odd week with market movements a little tough to discern as correlations seem much more critical than actual fundamentals. Risk appetite is simply not there but risk assets keep bubbling up held in sync by their mutual empirical relationships. The clear reduction in HY and now IG hedges can certainly be seen as a positive but given the lack of follow-through in single-names (even financials) and primary issuance, we think this is more exposure reduction than lifting hedges to leave unhedged longs. Did professionals sell into this strength up here? Well short-interest has certainly dropped so that driver has reduced and so we are left with momentum chasers and just ask NFLX traders how that works out at the first sign of trouble.

Charts: Bloomberg and Capital Context


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