Much to the dismay of my enemies, Fintwit Furus, and Market Makers everywhere, I survived my surgery and am alive and well. Though I cannot spend as much time at my screen as I'd like until I'm fully recovered, I can write from my various devices and share what I think can be helpful to us all. I have seen a chart making the rounds comparing volatility in stocks with volatility in Treasuries, so I want to spend a few minutes on it because the conclusion people are drawing from it is more dramatic than what the chart actually says.
Think about the stock market and the bond market like two different playgrounds. The VIX gives us an idea of how much movement the options market is pricing into the S&P 500 over the next month. The MOVE Index does something similar for Treasuries. At first glance, the current setup looks ridiculous. The VIX is hanging around the mid-teens while MOVE has pushed back toward levels we saw during the March oil shock. If you simply place those two numbers next to each other, it looks like the bond market is in complete chaos while equities are barely paying attention.
The problem is that MOVE and VIX are not calculated the same way, so the actual numbers are not directly comparable. They measure different underlying markets, use different methodologies, and express volatility differently. Saying MOVE is dramatically higher than VIX and therefore bonds are dramatically more volatile than stocks is a little like comparing the score of a basketball game with the score of a soccer game. Both numbers tell you something useful about the game they belong to, but the fact that one number is larger does not tell you which game is more intense.
There is a better comparison. VXTLT applies a VIX-style methodology to options on TLT, which gives us something much closer to an apples-to-apples comparison between equity volatility and long-duration Treasury volatility. When you do that, the difference is nowhere near as dramatic. VXTLT and VIX have recently been trading in roughly the same neighborhood, around the mid-teens. In fact, VXTLT moved above VIX this week, which is unusual, but we are not looking at some secret bond-market version of the apocalypse that equities have somehow failed to notice.
That does not mean the elevated MOVE reading is useless. Quite the opposite. It tells us that the Treasury market is pricing considerably larger swings in rates than it was a few months ago. That distinction matters. Higher bond volatility does not mean yields have to go higher. It means the path for yields is becoming less predictable. The 10-year can rip higher, reverse hard, and then move again without violating anything the options market has priced in.
That is much closer to the market we have been preparing for.
We have spent the last several weeks talking about yields as a headwind for equities. The 10-year moved back toward 5.35% this morning, which keeps financial conditions tight and continues giving equities competition for capital. At the same time, the VIX is still relatively subdued. In other words, the stock market has not priced the same degree of uncertainty that we are seeing in rates.
This is where traders can get themselves into trouble if they interpret a low VIX as “nothing is happening.” Plenty is happening. It is just happening somewhere else first.
The bond market sits underneath an enormous amount of what we trade. If yields become more volatile, the discount rate becomes more volatile. Mortgage rates become more sensitive. Corporate borrowing costs move around more aggressively. Growth stocks have to constantly adjust to a changing hurdle rate. Eventually, some of that pressure can make its way into equities even if the VIX did not warn you ahead of time.
This also explains some of the price action we have been seeing in $SPY ( ▼ 0.23% ). Yields have repeatedly given equities a reason to break down, yet price has continued recovering from weakness. I do not look at that and conclude that rates no longer matter. I look at it and recognize that the market has been absorbing the headwind better than many expected. If yields continue moving higher and $SPY ( ▼ 0.23% ) still refuses to break, I will keep paying attention to what tailwinds can set price in motion to the upside. If yields finally come down and buyers still cannot make progress through the upper part of the range, then I will start looking for concurrent headwinds that can set price in motion lower.
The increased volatility in Treasuries simply means those conditions can change faster.
That is important as we move deeper into the midterm cycle. We have already discussed how I expect the range and volatility environment to expand as the election gets closer. Historically, volatility has tended to increase ahead of midterm elections as markets deal with uncertainty around control of Congress, fiscal policy, regulation, taxes and spending, before some of that uncertainty fades after the election. The election itself does not tell me which direction $SPY ( ▼ 0.23% ) has to go. It provides the market with another set of reasons to reassess risk. Can you tell my meds have kicked in?
If investors become more concerned about fiscal policy, deficits, inflation, future Treasury issuance or the Fed, they can demand a higher yield to hold government debt. If political uncertainty begins clearing and economic data gives the Fed more room to relax, that pressure can move the other way. Either scenario can produce larger moves in Treasuries without giving us a clean directional forecast beforehand.
This is why the bond-volatility discussion fits so well with everything we have been preparing for. We are not predicting a bond crash. We are preparing for a less orderly rates market.
There is a big difference.
A less orderly rates market means yields can move faster than traders have gotten used to. Faster moves in yields can create faster changes in the headwinds and tailwinds surrounding equities. That can create wider intraday ranges, sharper reversals, and more opportunities for traders who are patient enough to let the first move happen before committing to an idea.
It also reinforces why I have been so cautious about forcing trades from the middle of our current $SPY ( ▼ 0.23% ) range. If rates can move several basis points on a headline and reverse shortly afterward, I have very little interest in becoming the smartest person in the room and predicting the first reaction. I would rather see whether price clears the areas we have already identified, whether buyers or sellers remain aggressive afterward, and whether the bond market supports the move.
The same rules apply to the “new hole” underneath the Anchor Rail and 765 Mental Pivot. Ironically, yes, I did trade short underneath there this morning, but very briefly. If yields spike and $SPY ( ▼ 0.23% ) continues to trade underneath 765, I am still not interested in automatically shorting simply because the macro headwind looks ugly. I want to see actual volume underneath the area, sellers remain aggressive, and price fail to reclaim the breakdown. If yields spike and equities refuse to break despite that pressure, that failure becomes even more interesting.
The opposite applies near the top of the range. If yields relax and buyers finally clear the Pressure Rail and the 775 area, I can start looking at whether the tailwind helps price continue higher. If yields relax and buyers still whiff those highs, I am going to become much more interested in the headwinds that are keeping price contained.
As boring as it may seem, that is the value of watching bonds.
The takeaway from the MOVE chart is not that the bond market knows about an imminent disaster that the stock market has completely missed. The better takeaway is that the Treasury market expects more movement, and more movement in Treasuries means the headwinds and tailwinds surrounding equities can change more quickly than they have over the last few months.
That fits perfectly with the environment we have been preparing for into the midterms. I am expecting the path to get less smooth. I am expecting headlines to matter more. I am expecting rates to remain part of the conversation, and I am expecting some movements to reverse faster than people are comfortable with.
As always, none of that requires me to predict which direction comes first. It simply requires me to be prepared when it does. - SP