Chart of the Month
While US stocks have lost ground since the Q1 recovery, Treasury bond yields have continued to fall across the yield curve, with the 10Y down 50bps to 2.1% since the beginning of January. As a consequence, real yields have also dropped below 40bps, their lowest level since September 2017. While the fit is far from perfect, the chart shows that the annual change real yields tend to lead real GDP growth by around 1 year and currently price in a sharp deceleration in activity towards the end of 2019.
Over the last thirty years a significant drop in the correlation between sectoral value-weighted equity returns has been a reliable precursor to a fall in the total return of the S&P500. Last year saw the second-lowest correlation in 60 years, next to the dot-com bubble. While the correlation coefficient has since rebounded, it remains historically low. A decline in the correlation of this magnitude is unlikely to be spurious.
The slope of the Treasury curve between 5 years and 30 years, chosen to abstract from short-term interest rate changes, has correctly anticipated a majority of turns in US manufacturing activity. However, it called the end of the 2000s expansion 2 years early and has had a patchy record in the post-QE period. While activity is running well above the levels projected by the yield curve slope in 2019-20, this follows the under-achievement in 2011-15.
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