The world's teddy bear sitting in the cupboard

There are forecasts for a few clouds to interrupt the sunny skies over England, however, the sun continues to shine on equity indexes as the S&P 500 closes back in on the highs from earlier in the year. Company earnings and a recovery in macro data from the first quarter continuing to win out over trade war concerns. That is not to say there are not pitfalls as companies continue to report earnings, those that fail to meet expectations face swift retribution from investors.

The yield on three-month US bills is now above that of the S&P 500, further demonstration of how yields have risen in US treasuries. What may be worth noting, except for China, all the major developed government 10-year bond yields currently are below that of US ten-year treasuries. Buying one countries debt and hedging against another has been a graveyard for traders in the past, however one would suggest that risk-adjusted owning two-year US Treasuries yielding 2.5% continues to look attractive relative to what else is on offer out there if one is inclined to buy bonds.

We did write a few weeks ago that we felt equities may drift higher as there is little resistance upwards, this so far is proving to be the case. August can often be a good month for equity markets, September often less so. Some analysis has put this down to no more than post-holiday blues.

One trade that would not have worked well this year, sell oil buy gold. There is some evidence that the two prices correlate historically. Both priced in dollars, oil price rises create inflationary pressures, gold is considered a hedge on inflation. Rising oil prices can dampen growth which again can make gold attractive as a hedge. That correlation has not worked in the past 12 months as the oil price has risen by almost fifty per cent, the price of gold largely unchanged.

There can also be a correlation between gold and US Treasuries, one has a yield the other does not. In fact, gold could be considered a negative yielding asset due to storage costs. As bond yields rise this should make gold less attractive to own. US treasury returns, and the price of gold have correlated reasonably closely over the past year. You would have lost money, if only marginally, in both.

As with the skies above us, clouds will return to equity prices, probably from a direction yet not considered by most investors. For today the sky appears to remain clear.

Posted on August 7, 2018 .