- Since the stock market's recent peak on Sept. 2, traditional safe havens including Treasurys and gold have not sufficiently helped investors hedge their losses.
- Peter Tchir, the head of macro strategy at Academy Securities, says this development is a clear-cut sign that traders should be wary of buying dips for now.
- "… there are lots of little reasons to be cautious and when they are added together, it signals more downside risk to markets," he added.
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Even the most ardent stock-market bulls cannot deny that even if their views play out, the path ahead will be a challenging one.
In recent weeks, the market has demonstrated just how vulnerable it is to being swayed in either direction depending on the news of the moment.
The S&P 500 logged its fourth weekly decline last week amid an impasse in Congress on further stimulus and signs that the economy's recovery was stalling. Selling also persisted due to distressing data on the pandemic, like the US recording its first weekly rise in COVID-19 cases in two months and crossing 200,000 deaths. Investors could not ignore these headlines and only focus on the positive news of vaccines progressing into more advance phases.
In light of these crosscurrents — and more almost certainly on the way as the November elections near — Peter Tchir has a simple message to traders in a recent client note: "Don't be a hero."
Tchir, who is the head of macro strategy at Academy Securities, does not have a big, bearish trigger in mind that he's trying to draw attention to. Rather, he is advising bullish investors to exercise caution before they eagerly buy into the market's weakness. At the core of his concerns is that several of investors' favorite hedges in times of turmoil are showing signs of inertia.
There's no safer haven among them than Treasuries, which are normally relied upon to provide steady income and move in the opposite direction of stocks.
These days, investors are not guaranteed either of these outcomes. To be sure, the paltry yield of 0.7% on the 10-year is supported by its total return (including the bond's price change) and fixed-income ETFs that yield more in the short term.
However, Treasuries have barely gained or subsequently push yields higher during the stock market's latest descent into correction territory. The 10-year was at 0.65% on Sept. 2 when stocks recently peaked, and at 0.66% on Friday.
Its inactivity is precisely why other experts including Ben Inker, the head of asset allocation at GMO, have said that government bonds can no longer be relied upon to provide income or protection.
In terms of what this means for equities investors, Tchir quips: "If hedges don't work, it is difficult not to reduce position size."
Even gold, another safe haven that investors normally count on to cushion the impact of equity sell-offs, has weakened in recent weeks due to a stronger dollar. The precious metal has fallen 6% since the Sept. 2 closing high for the S&P 500.
Traditional hedges in the options market have also not been performing as expected, Tchir points out.
He notes that many investors were buying S&P 500 puts to hedge the possibility of lower stock prices in November and December, which coincides with the time when a contested election could cause volatile trading.
However, November and December VIX futures have barely risen compared to a few weeks ago. To Tchir, the muted futures action indicates that options values are not being supported by rising implied volatility.
Put together, Tchir sees these weakening hedges as a sign of caution for equity traders who are eager to increase their positions. There is no shortage of risks that can shove new positions under water — and several other assets that normally help limit losses are not working as expected.
"Expect more stock market weakness and credit spread widening," Tchir said.
"It is still too early to commit to buying this dip in stocks and corporate bonds. There is no single big reason to be bearish, but there are lots of little reasons to be cautious and when they are added together, it signals more downside risk to markets," he added.
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