Treasuries rebounded nominally yesterday after a brutal selloff that sent yields to their highest level since November. Equities however struggled amid a slide in tech megacaps.
Bloomberg reports the equity risk premium—a measure of the differential between stocks and bonds expected returns-is now deep in negative territory, something that has not happened since the early 2000s.
While this may not necessarily be a negative indicator, it depends upon the economic cycle. The lower equity risk premium can be seen as a promise of a future boost in corporate profits, but also it can be seen as a possible bubble in the making.
It entirely depends upon interest rates and earnings. If earnings growth outpaces the pace of inflation and interest rates, it is not an issue. On the other hand, if growth does not materialize and interest rates/inflation remains the same or moves higher, perceived risk and valuations increase significantly.
A major issue at hand is a majority of market participants and professionals have never operated in a rising rate environment, believing the rates that existed from 2009-2022 was the norm.
In reality, inflation is only reverting to the norm. Inflation has averaged 3.3% since WWII. The last 80 years includes extended decades of inflation above the mean (the 1970s) and includes the post GFC era where inflation ran well below the mean.
The 2% target level is just that…a target that was instituted about 10-years ago to try to increase inflationary expectations for inflation was considerably below the 2% targeted level.
Late in the day, the Beige Book or the statistical compilation utilized at the upcoming FOMC meeting, indicated the economy has “expanded slightly” since late February and firms are having greater difficulties passing on higher costs resulting in smaller profit margins.
Will these lower profit margins be reflected in the current earnings season?
There was little market reaction to its release.
What will happen today?
Last night the foreign markets were up. London was up 0.16%, Paris up 0.42% and Frankfurt up 0.06%. China was up 0.09%, Japan up 0.31% and Hang Seng up 0.82%.
Futures are up 0.25% as rate jitters are subsiding and earnings optimism is increasing. The 10-year is up 2/32 to yield 4.58%.
