The Mythical Flow From Bonds to Stocks

05/03/2013 6:00 am EST


Studying the movements and influences in various markets can help you better understand and prepare for what might happen in the market you are trading, and Greg Harmon of Dragonfly Capital raises disquieting questions about three major asset classes.

Macro analysts like to talk about the flows of money from one asset class to another. A favorite for the past year has been discussing the flow of money from bonds into stocks. This chatter has been enhanced by record low yields on Treasuries, the presumption that the Fed will stop buying bonds at some point, and a call to a move to riskier assets. But the performance chart below suggest that the flow into equities since the bottom in November has not been from bonds (TLT) but rather from commodities.

Notice that since November the S&P 500 (SPX) is up over 12% , while US Treasuries are up nearly 2%. There is no 'flow' there. But the performance of corn, coffee, wheat, soybeans, gold, copper, just to name six, is down 10-16%.

Click to Enlarge

This raises a few questions. First, aren't Treasuries and the S&P 500 supposed to be negatively correlated? Apparently not. Read more about that here. They have both been moving higher for four years.

Second, I though QE Infinity would create inflation? That is clearly also not the case with falling commodity prices.

But the last one is the most interesting. If commodities turn back higher, does that mean that equities will fall? So many things to think of here.

Consider the Fed fighting deflation of commodities leading to falling stock prices. Or will rising commodities prices be the catalyst for a flow out of bonds. The next few months should be very interesting for the relationship between commodities, bonds, and equities. How do you see this playing out?

By Greg Harmon of Dragonfly Capital

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