October 18, 2022 | Record Tightening Priced into Treasuries, Equities Not Yet

As shown below, since 1999, courtesy of The Daily Shot, the US 10-year minus 2-year Treasury bond yield spread at -.52 last week was the most negative since the onset of the 2001-02  and 2007-09 US recessions.

An imminent recession is also predicted by Bloomberg probability models that now forecast a 100% likelihood of a US recession hitting by October 2023, up from 65% for the comparable period in the previous update.

Record rate hikes in 2022 have rendered the most negative 10-year Treasury total return (-18% year to date) since at least 1928 (as shown below courtesy of Charlie Bilello). Over the same time, S&P 500 share prices fell nearly 24%, making the first time that 10-year Treasury bonds and stocks have both lost over 10% in one calendar year. In the process, 2022 is second only to 1931 for the most negative return year on record for a conventional 60/40 balanced portfolio (-21.6%).

As we look closely at the return numbers for the two asset classes above, it is clear that this year’s losses for the highest quality bonds are unprecedented in 94 years and that positive returns followed loss years in every instance except 1956 and 1959 (which were mildly negative years of just over 2%).

For stocks, however, the 23.9% loss for the S&P 500 year to date is only the sixth worst annual return since 1928 and still mild compared with total losses experienced over other recessionary periods like 2007-09, 2000-2003, 1973-74, 1937-41 and 1929-32.

Unless this time is different, it’s probable that stocks (and corporate credit) have further to fall along with corporate profits and economic activity, while government bonds are due to rally as the recession unfolds and central banks move to the end of their tightening efforts this cycle.

Danielle Park October 18th, 2022

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