30 Year Yield Falls Below S&P 500 Dividend Yield
The stock market had a modest decline and treasury yields fell sharply on Tuesday. Even though August has been a volatile month, the total decline in stocks is nothing compared to the decline in yields. The best evidence of this is that the recent low of 1.91% on the 30 year yield is the lowest yield in history. That’s all of American history; it’s quite a huge deal. The 30 year yield fell 9 basis points on Tuesday. It’s now lower than the dividend yield of the S&P 500 for the first time in a decade as you can see from the chart below. Even when the S&P 500’s dividend was below the 30 year yield, it was for a short time.
As you can see, that was the only time since 1977. This situation is different than 2008 because stocks aren’t crashing. As I mentioned, there is a divergence between stocks and bonds even though stocks haven’t had a great month. This chart explains why utilities have done so well. Regardless of your opinion on the fundamentals of the sector, utilities provide better yields than treasuries, so they must be considered. Now that the S&P 500 has a higher yield than the 30 year yield, non-traditional sectors have higher yields than the long bond. Apple’s seemingly low yield of 1.51% is almost as high as the 30 year yield. JP Morgan’s yield of 3.03% is much higher than the entire treasury curve.
Slight Decline In Stocks In What Has Been A Volatile Month
As you can see from the chart below, August has had 3 declines of 2.5% or more. That matches the highest total in the 2015-2016 weak period. It even matches the total in late last year’s mini bear market. While stocks fell on Tuesday, they didn’t decline that much. The S&P 500 was down 0.32%, the Nasdaq fell 0.34%, and the Russell 2000 fell 1.35%. The financials didn’t like the rally in treasuries as the KBW regional bank ETF fell 1.75%.
The VIX was up 0.99 to 20.31 which signals the market is still in a correction. The CNN fear and greed index fell 3 points to 16 which is extreme fear. Since the S&P 500 is only down 5.2% from its record high, this begs the question of how much stocks would rally if there was greed. It’s clear that the market would hit a new record high if there’s a trade deal.
The S&P 500 is down 3.73% in August which means, barring an amazing rally, it will be down this month. Since 1981 the S&P 500 has increased in the final 4 months of the year every time when it declines in August. That’s 15 out of 15 years. In that same period, the S&P 500 has an average annual gain of 12.6% when it’s down in August. Gains are also 15 out of 15 instances. Oddly, it seems like the bulls should root for a bad August.
Trading Details Of Tuesday’s Session
Right on queue, the utilities sector was the biggest winner on Tuesday as it was up 14 basis points. The XLU ETF is at a record high. It’s up 19.8% year to date which is much better than the S&P 500’s gain of 14.45%. The worst sector was the financials which fell 0.7%. Obviously, they don’t like the decline in yields and the yield curve inversion.
Tuesday was the first time the 10 year yield and the 2 year yield inverted at the close. The 10 year yield is at 1.48% and the 2 year yield is at 1.52%. The Fed would need to cut rates 3 times to normalize the curve. However, the Fed must question if the long bond market is overreacting. It also must wonder if a few rate cuts will help the economy since it is being hurt by the tariffs. The most likely scenario remains 2 more cuts as there is a 48.5% chance that occurs. That would be 3 total rate cuts in 2019. There aren’t any indicators that suggest the economy is in a recession. Should the Fed preempt the economy by cutting rates since the planned tariffs in the next few months could cause a recession? The obvious best action is to simply get rid of the tariffs, but the Fed doesn’t control trade policy.
Big Burst In Spending In Late August
The consumer has driven the economy in the past few months. Consumption growth was very strong in Q2. The Q2 GDP report will be revised on Thursday. The consensus is that consumption growth will stay at 4.3%. The Redbook same store sales growth reading showed growth spiked from 4.9% to 5.7% in the week of August 24th as the back to school shopping season ended strong.
If this reading is accurate, consumers aren’t shying away from purchases because of the coming tariffs. I would say the 2019 holiday shopping is set up to be strong, but the situation is clouded by the trade war. As I mentioned in the previous article, the University of Michigan survey and the Conference Board consumer confidence index’s diverged, making it tough to figure out the truth. Usually confidence falls when stocks fall, so August’s volatility could have been a negative. On Friday, the final August University of Michigan reading comes out along with the July Personal Consumption report. The estimate is for 0.5% monthly consumption growth and 1.7% core PCE inflation (up from 1.6%).
Conclusion
The yield curve is inverted, but it won’t predict a recession if there is a trade deal by the end of the year. The economy might not be in dire straits in Q3 if the consumer stays as strong as it was in July and if the Redbook same store sales growth reading is accurate. The consensus for Q3 GDP growth is still 2% which clearly isn’t recessionary. I wouldn’t buy stocks just because they usually do well after they fall in August, but it’s food for thought.
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