In the post-crash environment, US equities have shown a remarkable 70% correlation with TIPS breakeven spreads. This compares with a 0% correlation in the four years preceding March 2009.
The popular narrative explaining this phenomenon views the market economy in delicate balance between inflation and deflation. When deflationary forces take hold, the Fed applies fresh stimulus, which gooses the market more than the economy.
The relationship between US equities and expected CPI seems to have decoupled over the past two months. So, what’s wrong with the narrative? Is the equity market ignoring a deflationary slowdown? Are TIPS not fathoming an overheating economy? Or is the narrative simply changing?
A changing narrative seems most probable. The recent breakout in bank stocks (above a three-year range) and breakdown in gold bullion (below a two-year range) is suggesting that the credit cycle is turning… an environment in which old memes may lose explanatory power.
© Charter Trust Company
