Following the Trend of Inflation and Risk of Bonds

In How We’ll Know if a Recession is Imminent I said if the 10-2 Year Treasury Yield Spread crosses below zero, and the yield curve becomes inverted, that’s what will signal a recession is probably imminent, but a recession may not be identified until 6 – 24 months later.

We can’t wait until a recession is called to manage our investment risks; the stock market has historically been the leading indicator, declining well in advance.

After U. S. inflation was reported today that inflation accelerated last month to a 7.5% annual rate to a 40-year high, U.S. Treasury Yields trended up to 2%.

Since the 10-2 Year Treasury Yield Spread is the difference between the 2 year U. S. Treasury and the 10 year U. S. Treasury, the spread will tighten as the shorter-term interest rate converges with the longer-term rate.

Recently both yields have been increasing, but the 10-2 Year Treasury Yield Spread is still falling.

The U.S. inflation momentum is driven by rising price trends for autos, household furniture, appliances, as well as for other long-lasting goods we buy.

For example, here is the U. S. Consumer Price Index for used cars and trucks.

It is well known certain consumer prices have been trending up since the pandemic, so the question for the second-level thinker is whether or not these rising inflation trends are already reflected in the prices of stocks and bonds.

So far this year, 2022 has started off with stock markets trending down.

For example, the S&P 500 declined nearly -10% in the few weeks before retracing about half the loss over the past two weeks.

Longer downtrends often retrace about half of their decline before turning down again, so we’ll soon see if this is the early stage of a deeper decline for stocks or a continuation of the primary uptrend.

The Nasdaq 100, which is weighted heavier in large-cap growth stocks and the technology sector, has reacted to more selling pressure down -14% before retracing some of the decline.

Emerging country stocks as measured by the MSCI Emerging Markets Index have finally shown some relative strength against U. S. stocks.

The MSCI Emerging Markets Index trended up at first, then only declined about -3%, and is now positive YTD.

Rising interest rates have a direct negative impact on bond prices, and that is especially true for longer-term bonds.

For example, the ICE U.S. Treasury 20+ Year Bond Index shows the bond price is down over -6% already in 2022.

If you buy and hold bonds, you’re going to learn the risks of bonds and bond funds in a rising rate regime.

Many investors today haven’t invested long enough to have experienced the possible losses that can be driven by this kind of rising inflation, rising interest rates, regime.

Investing involves risks you must be willing to bear, and if you aren’t willing and able to take the risk, you may consider reducing or hedging your risks.

For information about our proactive investment management, active risk management, hedging your risks, and ASYMMETRY® Managed Portfolios, contact us.

Mike Shell is the Founder and Chief Investment Officer of Shell Capital Management, LLC, and the portfolio manager of ASYMMETRY® Managed PortfoliosMike Shell and Shell Capital Management, LLC is a registered investment advisor focused on asymmetric risk-reward and absolute return strategies and provides investment advice and portfolio management only to clients with a signed and executed investment management agreement. The observations shared on this website are for general information only and should not be construed as advice to buy or sell any security. Securities reflected are not intended to represent any client holdings or any recommendations made by the firm. Any opinions expressed may change as subsequent conditions change. Please do not make any investment decisions based on such information, as it is subject to change. Investing involves risk, including the potential loss of principal an investor must be willing to bear. Past performance is no guarantee of future results. All information and data are deemed reliable but are not guaranteed and should be independently verified. The presence of this website on the Internet shall in no direct or indirect way raise an implication that Shell Capital Management, LLC is offering to sell or soliciting to sell advisory services to residents of any state in which the firm is not registered as an investment advisor. The views and opinions expressed in ASYMMETRY® Observations are those of the authors and do not necessarily reflect a position of Shell Capital Management, LLC. The use of this website is subject to its terms and conditions.