MARKET IMPLICATIONS

The EU yield curve is stabilizing right now, pricing-in higher long-term yields and positive growth improvements in the future. Bond yields are stable, paying progressively higher income in later maturities. Stocks would do well with sustained growth and earnings.

The US yield curve is bear steepening: investors predict long-term yields to rise faster than short-term yields, pricing-in faster growth and inflation in the future. The negative label "bear" applies to long-duration bonds that suffer in such environment. Stocks would do well if growth will accelerate, with rising inflation tolerated within limits.

Given such context, the current 10-week correlation between US bond yields and equity prices is clearly positive, showing that bonds have been hedging stock movements recently. Portfolios have recently behaved considering future growth the key driver of performance.

Please notice that we measure the 10-week rolling correlation between stocks PRICES and bond YIELDS - which is uncommon but technically valid - to evaluate true portfolio diversification (instead of comparing the two prices).

In general terms, a positive correlation between bond yields and stock prices means that investors see growth as the main driver of stocks and bonds, pushing both assets in the same direction (yields and stock prices up, or yields and stock prices down) and thus offering safe-haven diversification inside an investment portfolio.

A negative correlation shows that investors see inflation as the main driver of asset performance, pushing yields and stock prices in opposite directions and subsequently performing in the same way.

While a scenario of yields down and stocks up would lack diversification but would remain benign for portfolio performance, the issue here would be a scenario of rising yields and falling prices - the most painful for investors. That is common in periods of higher inflation.