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The 'Carrie' Trade: From Bond Vigilantes To Bond Zombies

By Ed YardeniMarket OverviewDec 06, 2020 01:08AM ET
The 'Carrie' Trade: From Bond Vigilantes To Bond Zombies
By Ed Yardeni   |  Dec 06, 2020 01:08AM ET
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Carrie is a horror novel by Stephen King. It was his first published novel, released on April 5, 1974. It was turned into a movie in 1976 starring Sissy Spacek and John Travolta. Carrie is a misfit bullied in her high school and dealing with an abusive, religious fanatic mother at home. She finds that she can channel her angst into telekinetic powers, which she uses to exact revenge on her tormenters. Much blood is spilt along the way, including Carrie’s. In the final scene, she seems to rise from the dead but that’s just a bad dream.

The Bond Vigilantes have been buried by the Fed. However, in our nightmare scenario, they could rise from the dead like Carrie. It isn’t likely to happen if inflation also remains buried, as I expect.

Meanwhile, there are other vigilantes in the financial markets. The Dow Vigilantes sent out a blood-curdling scream when the S&P 500 plunged 33.9% in 33 days earlier this year (Fig. 1). The Fed responded with QE4ever on March 23. The Dollar Vigilantes are threatening a crash in the currency if US fiscal and monetary policies continue to placate the Dow Vigilantes by swelling the federal budget deficit and the money supply (Fig. 2, Fig. 3, and Fig. 4). A plunge in the dollar could revive inflation and unleash a plague of Bond Zombies.

It’s hard to get a clear signal from the financial markets since their price mechanisms have been so distorted by the Fed and the other major central banks. The one clear signal may be coming from the commodity markets. Consider the following:

(1) CRB raw industrials. The CRB raw industrials spot price index continues to signal rebounding global economic activity (Fig. 5). It is highly inversely correlated with the trade-weighted dollar. The rising CRB index is bullish for the Emerging Markets MSCI stock price index, the Australian and Canadian dollars, and the S&P 500 Materials sector. (See our Market Correlations: CRB Raw Industrials Spot Price Index.)

The CRB index is also highly correlated with expected inflation as measured by the yield spread between the 10-year nominal Treasury bond and the comparable TIPS (Fig. 6). This spread has rebounded from this year’s low of 0.50% on March 19 to a range of 1.6%-1.8% in recent weeks.

(2) Copper. The price of copper is one of the 13 components of the CRB raw industrials spot price index (Fig. 7). (Petroleum and lumber products are not included in the index.) The copper price has been leading the overall CRB index higher since this year’s bottom. On Monday, copper closed at the highest price since January 2, 2014. Driving the price of the red metal higher has been China’s M-PMI, which has recovered solidly over the past six months through November (Fig. 8).

(3) Copper/gold ratio. When I multiply the ratio of the nearby futures prices of copper to gold by 10, the resulting series has shown a remarkably close fit with the 10-year Treasury bond yield since 2004 (Fig. 9). The ratio currently suggests that the bond yield should be closer to 2.00% than to 1.00%. As I discussed on Monday in my Morning Briefing, the yield has remained under 1.00% since March 20, as the Fed has been buying Treasury notes and bonds faster than the Treasury has been issuing them:

“From the last week of February through the last week of October, the Fed’s holdings of Treasury securities increased $2.1 trillion as follows by maturities: One year or less ($421 billion), 1-10 years ($1,281 billion), and over 10 years ($351 billion) (Fig. 9). From the end of February to the end of October, the Treasury increased its outstanding marketable debt by $3.4 trillion as follows: bills ($2,420 billion), notes ($735 billion), and bonds ($284 billion) (Fig. 10). In other words, the Fed financed 62% of the Treasuries financing needs across all maturities, and purchased $613 billion more notes and bonds than were issued over that period!”

That’s the “Carrie trade.” As long as it continues, the Bond Vigilantes will remain buried.

(1) The July 27, 1983 issue of my weekly commentary was titled “Bond Investors Are the Economy’s Vigilantes.” I concluded:

“So if the fiscal and monetary authorities won’t regulate the economy, the bond investors will. The economy will be run by vigilantes in the credit markets. During the 1980s and 1990s, there were a few episodes when rising bond yields slowed the economy and put a lid on inflation.”

The 'Carrie' Trade: From Bond Vigilantes To Bond Zombies

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The 'Carrie' Trade: From Bond Vigilantes To Bond Zombies

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Comments (2)
Barani Krishnan
Barani Krishnan Dec 06, 2020 11:22AM ET
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Excellent thoughts, spun into a lovely yarn enough to scare the beejezus out of anyone. Thanks and a blessed week ahead, Ed.
Franc Fil
Franc Fil Dec 06, 2020 1:50AM ET
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Good analysis and thank you. Carrie was a very scary movie but not as scary as these wildly over valued bond and stock markets.
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