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COVID19: The Bear Market (So Far)

by Matt Schreiber

Over the past two weeks, U.S. treasuries have experienced volatility like what was seen during several months of the Financial Crisis. U.S. Treasuries of long duration (20+ years) have had a correlation to the S&P 500 Index over the last nine trading days similar to that experienced from January to March of 2009 (see Chart 1).


Source: Bloomberg, 2020. Past performance is not indicative of future results. Indices are unmanaged and may not be invested in directly. This chart shows the correlation of US Treasuries shown using TLT US Equity versus the S&P 500 Index from 3/9/2020-3/19/2020.

We do not expect this to continue as the U.S. Federal Reserve has stepped in to provide substantial liquidity to money markets, treasuries of all durations, and mortgage-backed securities.

Since August of 2018, WBI models have signaled a high-risk environment due to high equity valuations and weakening economic data. On Monday, March 9, 2020, the models signaled even more risk as a result of a deterioration in credit momentum in the underlying model among other factors. At the time, high yield bonds of long duration (ticker: HYG) were down 3.7% from February 19 (the all-time high) to March 6. In addition, the S&P 500 Index declined 12.1% over the 13-day period. The fastest fall from an all-time high to a -10% correction in history.

As the market sell-off gained momentum during the week of March 9, even long-dated U.S. treasuries underperformed. This phenomenon is very similar to the decline last seen during the liquidity crunch in January and February of 2009. Unlike 2008/2009, the move from correction territory to a bear market occurred within a week causing a rush to seek liquidity. The selling came from countries selling bonds to raise cash in an effort to deploy resources to respond to COVID-19. Additionally, as the stock market sell-off accelerated institutional investors also sold to meet redemptions and reduce risk.       

Usually, when markets drop long-term treasuries go up. For example, on Monday, March 9, the iShares 20+ Year Treasury Bond ETF (TLT) had the best one-day return in history (since inception in 2002) when the S&P 500 Index was down 7.6% (see Chart 2). However, that was followed by the worst one-day return ever. In this environment, safe-haven assets traditionally perform well. Unfortunately, this has not been the case so far due to the unique and fast-moving search for liquidity all at the same time.


Source: Bloomberg, 2020. Past performance is not indicative of future results. Indices are unmanaged and may not be invested in directly. This chart shows the correlation of US Treasuries shown using TLT US Equity versus the S&P 500 Index from 1/2/2020-3/9/2020.

The U.S. Federal Reserve has expressed that they will do anything to stabilize the treasury market, and have already stepped in to provide liquidity. In the last week, the Fed has deployed $300 billion to do so. That is nearly twice the amount the Fed committed during any given week during the Financial Crisis. While this should stabilize treasury prices on the long-end, volatility could continue for some time to meet the quick search for liquidity by institutions and countries to respond to COVID-19.

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